On 29April the US administration announced an initiation of the third round of economic sanctions against Russia. It’s anticipated they hit the major sectors of Russian economy after the most influential Russian top-managers and business owners have been banned from doing business in the U.S. It is also expected that the EU will join its Western ally in punishing Russia for building up a fire of the civil confrontation in Ukraine. But the EU is still hanged up for the final decision making endless rounds of internal negotiations. It seems that the driving force of such sluggishness is too close economic ties of Europe with Russia and especially with the largest European economy – Germany.
Really, in terms of mutual trade flows the U.S. feels itself much more comfortable in sanctions mode as its share in Russian external trade turnover was only 3 per cent in 2013 while the EU accounted for significant 49.4 per cent. The EU is also the dominating investor in Russian economy with massive 82 per cent share in total direct foreign investments to Russia for three quarters of 2013 comparing with tiny U.S. 1 per cent. Germany itself interlinked with Russians even more closely with the total trade turnover of $74.4 bn in 2013 and being the second largest investor in Russian economy with about $20 bn of direct investments made. Remarkably that Russia exports to Germany mainly hydrocarbons (oil, oil products, natural gas and coal) and secured about 36 per cent of total German oil supplies and 35 per cent of total gas supplies in 2013. Germany exports to Russia mostly high value added machinery products and equipment being the importer number one for Russia by its share in total imports.
If the third package of the sanctions will be enforced it is obviously that Europe and especially Germany would be hit much harder than the U.S. But the question is about the relative magnitude of this impact both on German and Russian economies. The general conclusion is that it will be painful for Germany but not so critical as it is depicted in some mass media that operate the absolute numbers. Let’s make some rough comparative analysis based on the numbers from trade statistics.
In terms of total exports and imports the share of Russian imports in Germany accounted for only 3.3 per cent from total imports in 2013while Russian share in total German exports was only 2.6 per cent. Russia was more dependent on Germany as its share in total Russian imports was 12 percents and 7.0 percents in total exports.
In terms of the largest goods traded Germany could easily switch supplies of machinery and equipment to Russia to other markets as they accounted for only 4 per cent in total exports of this group. For Russia it would be more difficult to find another markets for oil and gas as Germany took about 7 per cent from total Russian oil supplies to the world market and about 19% of gas supplies (in value terms).
Next, there would be some losses for German enterprises that supply goods to Russia or invested in setting up the Greenfield projects in the country. According to the Committee on Eastern European Economic Relations more than 300 thousand jobs in Germany are dependent on Russia that at the first glance looks as a big number. But keeping in mind that total number of jobs in Germany was 42.3 m in 2013 even complete disruption of business ties (which is not likely) would add only 0.7% to German unemployment that is definitely manageable by policy makers.
In terms of foreign direct investments (FDI), German investments in Russian economy in 2013 accounted for 1.6 percent only as a share of total FDI in Russia. Of course, loosing of the very prospective Russian market may be harmful from the point of view of an individual company like Volkswagen, Siemens or BASF that have been investing much in Russia over the recent years but it still can be compensated at the expense of another export markets (e.g. China). Even the sales of German cars to Russia which is the cornerstone of German exports to Russia are not so significant today as their share in total car sales worldwide was 3.2 per cent only in 2013. To the contrary, the loose of German investments would be essential for Russia that relies on German equipment and technologies in many sectors of economy.
Therefore, politics is driven by pragmatic economical thinking today in Germany and in the EU in general. In crisis times even few digits after dot in GDP growth could be a problem for European politicians hitting wide social expenditures in the EU. Germany plays a key role in the EU decision making and its ultimate vote will decide whether the EU will join the U.S. efforts to put Russia on its knees by means of economic sanctions or not. In any case Germany and Europe as well has all the possibilities to impose full-scale sectoral economic sanctions against Russia and how it is seen today from recent developments in Ukraine the possible losses of Europe would be easily overweighed by the ones from growing instability in the whole region.
Gazprom and 3rd Energy package: is any justification for exemptions?
During recent decade European gas market underwent drastic changes that influenced both consumers and suppliers. Appearance of new sources of supply in form of U.S. shale gas and increased LNG flows to Europe led to significant pressure on traditional oil-indexed gas pricing system that prevailed European market since the 1960s. Such a system was initially designed with the purpose to stimulate high investments in gas production and supply infrastructure but simultaneously led to monopolies on national gas markets. New EU legislation cracked these monopolies through separation of production and sale from transit, opened the market to newcomers through third-party access to pipelines, and enforced these provisions through antitrust probes.
Gazprom, the largest Russian gas producer, is the subject of special interest of the European Commission. During recent years the company’s strategy was to build-up its market power by securing gas production fields in Russia and gas transit and supply infrastructure in CIS countries and Europe. Usually, Gazprom performed acquisitions (full or partial) of national gas companies according to different types of agreements in separate countries. Since 2012 such strategy has been opposed by the European Commission which opened an antitrust investigation against Gazprom focusing on whether the company was thwarting competition and pushing up prices in Central and Eastern Europe that lacks access for alternative supplies. Such situation allows Gazprom to gain from price arbitrage and increase its dominance at European gas market. According to the EU DG Competition, the problem is not that Gazprom prices are set according to oil-indexed formula but the problem is in setting abusive prices without connection to economic fundamentals. As a result, Western countries that favor from access to alternative supplies often pay less much less prices than some countries in Eastern Europe. Therefore, the European Commission is eager to set the general rules of competition that will not allow to use Gazprom its carefully built value chains in European gas market. This also raises an important question if new huge Gazprom pipeline projects like South Stream will be viable under 3rd Energy Package provisions. Gazprom asks for exemptions from new EU energy legislation but the European Commission is truly doubtful about the need in increasing of monopolistic power of Russia and dependence of the EU from Russian gas supplies.
The conflict between the EU and Russia on gas matters even more deepened this year after Kremlin proactively used the matter of gas prices for expanding its economic and political presence in Europe. Despite the position of the European Commission on common rules for ownership and operation for gas supplying infrastructure Gazprom tend to negotiate individual agreements with separate EU member states offering gas price discounts or other preferences thus violating competition at European gas market. This is the policy of Gazprom not only for getting access for existing infrastructure but also for new pipelines projects settlement (like South Stream) that were designed for preserving Russian monopolistic dominance in Europe. But it’s obvious from EU prospective that such a situation contradicts to EU energy policy goals which inter alia targeted on diversification of gas supplies and switching from non-transparent oil-indexed contracts to spot gas market that will run onto common rules and is expected to ensure transparent gas trade and prices.
Moreover, recent political conflict in Ukraine demonstrated that Russia could sacrifice of stability in the region and break the sustainability of Ukrainian gas market that is vital for transiting of bulk of Russian gas to Europe in favor of own political interests. Despite the fact that Russia is likely to remain one of the core suppliers for EU gas market, the EU has to remember that reliance on Russia as a gas supplier and increasing its role at European gas market would bring a number of risks for gas supply security which are to be minimized by application to Gazprom the provisions of 3rd Energy Package without any exemption