Nabucco – The Invisible Pipeline

The Nabucco consortium may be falling apart after MOL Group, one of its key members, fell out of love with the pipeline project. But the current discussion about Nabucco’s future masks a more important reality: the supply and demand landscape changed so much during the past 10 years that megaprojects like Nabucco may have become obsolete altogether.

The emperor had long been parading around naked. It was high time somebody finally dared to say so. Nabucco has long been suffering from mounting difficulties and a truly disheartening news flow. But last week’s decision by MOL Group to reject the 2012 budget for the Nabucco consortium and possibly pull out from Nabucco altogether was declared by some as the ‘terminal blow’ to the 3,900 km (2,400-mile) pipeline project.

The Nabucco project, which was discussed at length in hundreds of newspaper articles, white papers and conference presentations, has not yet produced any visible sign of progress since its 2002 inception, except for the Nabucco consortium’s admittedly progressive offices located in a shiny new tower in Vienna. MOL’s move to reject the 2012 budget for Nabucco and call into question the project’s viability is not driven by a rebellious defiance, rather by sheer pragmatism. In the present European economic climate and depressed refining environment, even the few million euros that MOL should have contributed this year to the consortium’s budget was too much to be wasted, and the company could not stomach throwing down the tube more than the €20mn ($26mn) it already had in the face of looming spending cuts and lost production revenues from Syria.

But MOL’s move is not a stab in the back, only the last in the line of recent unfavorable developments around the pipeline. In fact, RWE was the first consortium member to openly question the viability of Nabucco earlier in January. Meanwhile SOCAR and BP, two key players in the Shah Deniz 2 gas field development in Azerbaijan, the main intended gas source for Nabucco, announced their own more realistic versions for the Southern gas corridor called Trans-Anatolia Gas Pipeline (TANAP) and South East Europe Pipeline (SEEP), respectively. But anyone who still had full confidence in Nabucco after the EU Commission nearly doubled its cost estimate to €14bn ($19bn) from the previous €7.9bn ($10.9bn) last October must have been an irrepressible optimist. Just to put it in context, €14bn is more than 12-times the annual capital expenditure of MOL Group as a whole (based on the last five years’ average CAPEX spending) and 60-times as much as the company spent yearly on gas infrastructure during the past five years.

 But the main problem with Nabucco is not skyrocketing costs, uncertain supply, unresolved financing difficulties or poor project management. Rather the fact that both the supply and the demand landscape changed so much in the last 10 years that Nabucco simply became obsolete. 

Nabucco’s original business case was in a large part built around the assumptions of ever growing European gas demand and imminent supply shortfalls in the face of Russian underinvestment in its own gas sector. Yet, the EU is currently heading into a lost decade of economic stagnation and gas demand, which indeed grew rapidly before the financial crisis, will only reach its 2008 level around 2015 again. Gas demand growth has not only disappeared temporarily, but its future trajectory has also become highly uncertain, which makes the economics for Nabucco-type megaprojects inherently unpredictable. Gas demand growth in Europe has long been driven entirely by the power sector, while residential and industrial demand is stagnating at best. In such a market environment, only a handful of government or EU-level decisions can create huge changes in gas demand dynamics (see Germany’s recent nuclear policy reversals as the case in point). The current combination of depressed carbon prices and very high oil-indexed natural gas prices does not encourage much growth in gas-fired power generation in Europe these days, but both factors can change over time. So can large individual member states’ nuclear and renewable support policies and the EU Commission’s drive for energy efficiency. Each of these decisions can make or break the fate of pipeline megaprojects, and the uncertainty of demand will remain at least as important a hurdle for Nabucco as the uncertainty around its supply sources.

Meanwhile, it is a little known fact that gas supply security, another justification for Nabucco, has markedly improved since the 2009 gas crisis in much of Central and Eastern Europe, thanks mainly to the construction of interconnector pipelines, added reverse flow capabilities and Hungary’s strategic storage capacity. Surely, Gazprom will retain its dominant pricing power in the CEE region as long as these countries have no access to alternate sources of supply. But the Caspian region may not be the most obvious such source anymore, and a trans-continental pipeline is certainly not the cheapest way to achieve this goal. Major offshore gas discoveries have recently been made in the Eastern Mediterranean basin, in offshore East Africa and even in the otherwise declining North Sea, and some of these supplies may reach Europe even before Nabucco latest completion target date. It is also very hard to foresee a scenario in which the US does not become an emerging LNG exporter over the course of this decade. True, Asia is currently a more attractive market for LNG exporters than Europe, but if and when European gas demand growth returns in full force, then markets will take care about the rest.

Meanwhile, if Central and Eastern European countries want access to alternate gas sources, they would be better off with a small floating LNG receiving terminal of the cheapest kind somewhere along the Adriatic coast. Lithuania is on its way to build such a no frills floating facility in just about 3 years with a 2-3 Bcm annual (0.2-0.3 Bcf per day) capacity and a €500mn ($690mn) price tag. Such diversification projects would certainly be more manageable than Nabucco and they could provide more flexibility in terms of supply sources as well. LNG offers access to an entire (more or less) global natural gas market, while Nabucco could only hook up the Russia-dependent part of Europe with a single Caspian producer, Azerbaijan some 4,000 km and a few geopolitical hotspots away.

The main lesson from Nabucco’s possible demise (or significant downsizing into a less compelling Nabucco West) is the oft-repeated iron law of economics: that which is unsustainable, will not be sustained. The emperor cannot walk around naked forever. MOL in this case played the role of the small child revealing the bare truth, but it is hardly the one to be blamed for spoiling the show. The tale certainly does not end here (killing Nabucco explicitly would be a PR disaster for everyone involved), but Nabucco has surely been found unfit for its purpose.

This article deliberately aviods dealing with the political considerations behind MOL Group’s potential exit from Nabucco, as the author believes that the role of politics in this case is highly overdone and the reasons for Nabucco’s diminishing viability are predominantly commercial instead. 

Akos Losz is an independent energy market analyst based in NewYork. He formerly worked as a Strategy Development Expert at MOL Group, but currently has no affiliation with any of the companies mentioned in the article. The opinions expressed are his own.

Related Reading:  Hungarian Politics Torpedoes Nabucco Participation  and  Hungarian Surprise Exposes Crisis of Confidence in Nabucco