Putin's Gas Deal With Turkey Is a Defeat

Vladimir Putin's decision to divert the South Stream gas pipeline to Turkey is a second-best business decision made for the sake of geopolitical optics.

This gas spigot turns both ways.

Martin Divisek/Bloomberg

President Vladimir Putin is trying to turn defeat into victory, after Bulgaria's intransigence forced him to abandon the planned South Stream natural gas pipeline. Yesterday, Putin said he was scrapping the project in favor of an alternative route to Turkey. That should show those pesky Europeans he doesn't need their custom: Russia can still do business with other authoritarian regimes.

South Stream's purpose was to ship gas to Europe, bypassing Ukraine. This would have allowed Russia to wring political concessions from its rebellious southwestern neighbor by choking off its energy supply, without endangering lucrative contracts with European customers. Russia's state-controlled gas giant Gazprom currently has to pump gas across Ukrainian territory to meet those obligations, making it possible for Ukraine to siphon off Europe's gas whenever its own supplies are shut off.

Pipeline Politics

The European Union has never liked the South Stream idea, not just because letting the Kremlin strangle Ukraine seemed unsavory but because strategically, Brussels wants less, not more dependence on Russian gas. It also doesn't want gas sellers to own pipeline infrastructure. Gazprom, however, is unwilling to operate in any other way.

The EU has warned countries that signed bilateral deals with Russia to build the pipeline -- Austria, Bulgaria, Croatia, Greece, Hungary and Slovenia -- that they would face fines if they went ahead with the project. It also told Serbia that letting South Stream cross its territory when it didn't comply with EU rules would hurt the country's efforts to join the bloc.

Hungary, under Putin ally Viktor Orban, loudly announced its defiance of the EU's directives. Still, even if Austria, Croatia, Greece, Serbia and Slovenia followed suit, the project could not go ahead without Bulgaria's consent: the EU's poorest member was to provide the pipeline, laid across the bottom of the Black Sea, with an entry point to Europe (see the red line on the map).


In October, the center-right party GERB, led by Boiko Borisov, won Bulgaria's parliamentary election. Borisov enjoyed the support of Brussels because he said the pipeline would only be built with EU approval and no amount of cajoling by Moscow could swing him. Besides, Gazprom's partner in the project, Italy's oil and gas conglomerate ENI, was making dismayed noises about the pipeline's mounting costs. Although Gazprom has already spent $5 billion on South Stream, the project was beginning to look unfeasible, and Putin had to admit it. 

"Bearing in mind the fact that we have not yet received Bulgaria's permission, we think Russia in such conditions cannot continue this project," he told a press conference in Ankara. He then added sulkily: "If Europe doesn't want to realize this, then it means it won't be realized. We will redirect the flow of our energy resources to other regions of the world."

That, however, isn't what will happen. The pipeline to Turkey will use the infrastructure already built for South Stream and still deliver gas to Europe, only by a more circuitous route. According to Gazprom chief executive Alexei Miller, the pipeline's capacity will be 63 billion cubic meters of gas per year, the same as South Stream's target capacity. Turkey will buy 14 billion cubic meters of that, and send the rest to the Balkans. 

On the face of it, Putin is demonstrating Russia's resilience in the face of a stinging diplomatic defeat at the hands of Brussels. Announcing a deal with Turkish Prime Minister Recep Tayyip Erdogan, whose methods of governing and deeply conservative views are similar to Putin's, is a way of telling Europe and the U.S. that their attempts to isolate Russia are futile. In terms of geopolitical optics, strengthening that relationship is similar to sidling closer to China, with which Russia also signed a major gas deal this year. 

Turkey, however, doesn't have any freebies for Putin. Russia agreed to give the country a 6 percent discount on current natural gas supplies, which will cost Gazprom $700 million a year. Vladimir Milov, once a Russian deputy energy minister and now a Putin opponent, is apprehensive about the pipeline deal:

Turkey has long dreamed to concentrate all of Russia's transit streams, and now it has that opportunity. Turkey is a much tougher partner than Ukraine with its low transit tariffs. In fact, Turkey has always insisted on the role of a gas re-seller: 'We buy the Russian gas that goes across our land and we sell it on to Europe.'

Since the exact terms of the Turkish deal (or the Chinese one) have not been made public, Milov suspects Turkey will get its way. As Russian gas analyst Mikhail Korchemkin put it in a LiveJournal post: "The South Stream pipeline was meant to get rid of a transit country seen as a parasite in relation to the Russian economy. The new gas pipeline to Turkey will create a new parasite."

China is paying a relatively low price for Russian gas, and to make the pipeline project viable for Gazprom, Putin has exempted it from extraction and property taxes. The Turkish project is only likely to be borderline profitable, too. Using energy resources as a geopolitical tool severely limits Putin's business options. He is having to pay to show his teeth to Western adversaries, a risky strategy given Russia's shrinking financial opportunities. The only alternative, however, would be to back down in Ukraine, something Putin is loath to do.

This column does not necessarily reflect the opinion of Bloomberg View's editorial board or Bloomberg LP, its owners and investors.