Russia Cuts Gas to Turkey: Why now?

In a recent statement to the press, a Turkish gas importer confirmed that Russia’s Gazprom had requested a price increase for this year’s exports and decided to reduce flows to Turkey when the private companies refused to pay a higher bill.

There were also reports that Gazprom sent a letter requesting the price review two weeks after Turkey shot down a Russian fighter jet, which had allegedly breached the Turkish airspace at the end of November.

On closer reading there is an overriding question.

If Russia reduced gas flows to Turkey following the price dispute with private importers and ultimately in retaliation for Turkey’s action, why did it do so at the end of winter when the market was already oversupplied and consumption had plummeted because of above-average temperatures?

Figures tell a different story

Observers and analysts reacted with alarm when Turkey downed the Russian Sukhoi SU-24 jet. They expected Gazprom to curtail gas flows to Turkey just as winter was setting in and gas demand was likely to soar.

Although demand did see a 1.66% year-on-year increase in December, Russian flows through the TransBalkan route were not just stable, but also on average 2mn m³/d above the contract quantities at the border 

Russian flows at the western Malkoclar entry point hovered around 44mn m³/d both in December and January and even reached an unusual high of 47mn m³/d in January.

In February flows dropped to 32.2mn m³/d and the reduction became obvious after February 11.

Turkish sources, including a government official quoted by Russia’s news agency Interfax, maintained that Gazprom started reducing the gas after February 24 following the refusal of private importers to pay a higher bill.

Turkish shippers say Gazprom and private importers had agreed on a discount to their oil-indexed prices in April 2015. The discount was expected to remain valid in 2016. 

Although Gazprom sent the price review request in December, the price invoiced in the January bill was in line with importers’ expectations.

However, a few days after sending the first January invoice, importers received a second bill requesting an additional sum, which they refused to pay.

If one were to follow a logical line of argument, one would have expected Russia to demand the price increase immediately after the downing of the plane and reduce, or cut the gas if importers refused to pay.

Instead, Russia increased its gas exports to Turkey and sent a first invoice for a price that was expected by the market.  It then changed its mind and reportedly reduced the gas because private importers refused to pay.

It is not known whether Russia had indeed reduced gas flows to Turkey because of the importers’ unwillingness to pay a higher bill.

Gas flows had been reduced at least ten days before 24 February, the date quoted by private importers and the Turkish government official.

Gazprom simply stated it was interested in having ‘stable contractual relations’ with Turkish importers, declining to comment on the causes of the export reduction or the ongoing price dispute.

The Turkish side

In hindsight, the situation needs to be analysed both from the point of view of Turkish stakeholders as well as that of Gazprom. Let us consider the Turkish side first.

By the time Russia reduced its gas flows, Turkey was already oversupplied with natural gas.

It had received an estimated 1.9bn m³ in the form of LNG in January, up from 1.5bn m³ in January 2015 and 1.4bn m³ in February, up from 1.2bn m³ over the same period last year. 

Furthermore, there were also unconfirmed reports that the Turkish state dominant importer Botas had stopped off-taking volumes from the TransBalkan, or western, route in February, leaving just private importers to nominate volumes at the border.

Temperatures were also well above the seasonal average which meant that both electricity and gas demand had plummeted.

This was best reflected in the February day-ahead baseload price of electricity, which out-turned 30% below the market expectation for the month.

On February 21 the spot price crashed to an all-time low of lire 22.93/MWh (€7.16/MWh), prompting fears that the electricity price would have to be propped up after it had been pressured by an oversupply of renewable generation and falling demand.

Four days later an unnamed Turkish government official told Interfax that Russia had reduced the gas to Turkey.

The news exacerbated panic in the Turkish electricity market, which was already on tenterhooks about possible changes to the electricity day-ahead price. 

Since February 25, day-ahead power has traded at or around lire 117.00/MWh.

There is no evidence to suggest any links between the statements about the Russian gas reduction that were made in the press, the rumours about a possible price intervention that had circulated in the market, and the subsequent increase in electricity spot values.

Nevertheless, it is legitimate to ask why a Turkish government official thought fit to comment on matters that regarded purely the private sector and at a time when the market was already on alert about crashing prices.

Falling electricity prices are not an isolated Turkish phenomenon.

All European countries have been facing falling and even negative prices on similar accounts: higher renewable production and falling demand linked to slowing economies.

However, Turkey faces the challenge of requiring investments in its energy sector which according to the new energy minister Berat Albayrak would amount to $100bn in the medium term.

Although falling electricity prices are a natural consequence of underlying fundamentals, they are bound to send negative signals to potential investors.

It is not surprising that under latest arrangements, Turkey is likely to put up for privatisation hydro rather than thermal plants that require spot electricity prices of at least lire 160/MWh to break even.

The privatisation of two state-owned gas-fired plants with a total capacity of 1.6 GW which was supposed to happen last year was postponed to February and, more recently, to March.

Despite the fact that thermal production is facing serious headwinds, Turkey will face a supply gap in the next two years when long-term agreements for generation operating under public-private partnership will expire.

Some 5-6 GW of gas-fired capacity will be affected, which means that Turkey will still require thermal output.

Given that Turkey currently pays on average €10.00/MWh more for its wholesale natural gas than the European hub equivalents while its electricity prices are now some of the cheapest in Europe, there is a pressing need for Turkey to push up electricity prices and cut gas prices.

But Turkey’s interests do not (necessarily) dovetail with Russia’s, its largest supplier of gas.

Russia’s interests

To start with, Gazprom needs higher export prices. Its oil-indexed gas prices have seen a sharp drop in line with steep falls in the value of crude while the Russian economy has been battered by the global slump as well sanctions imposed in the aftermath of Russia’s annexation of Crimea.

Although Ankara and Moscow have been at loggerheads over Syria, Turkey has never joined western countries in imposing sanctions against Russia nor taken any concrete steps to break its reliance on Gazprom.

As a result, Russia has enough leeway to impose its will on Turkey, even at a time when its actions are significantly constrained in Europe.

Russia fully understands the value of Turkey and knows that any gas curtailments that would have triggered a supply crisis during the winter period would have prompted Turkey to act speedily to reduce its dependence on Gazprom.

Even if Russia has now reduced gas flows to Turkey in retaliation for the importers’ unwillingness to pay, the reduction is unlikely to egg Turkey into action. If anything, it has, ironically, helped Turkey to boost electricity prices.

Russia also knows that by putting pressure on the private sector to pay higher prices, it would ultimately draw the Turkish government back to the negotiation table.

If private importers fail to negotiate a cheaper import price, Botas would  undercut them. This would put paid to Turkey’s private gas sector experiment.

To survive, private importers would have to lobby the government to grant Russia the concessions it desires.

At this moment it is unclear what Russia’s requests are. Moscow may try to force Turkey into renewing its support for the construction of Turk Stream, a pipeline that was proposed in 2014 and was expected to carry Russian gas to Turkey and European markets.

It was mothballed at the end of last year amid heavy opposition from the Turkish government.

It may also try to stop Turkey from antagonising it over Syria, or Gazprom may simply wish to increase its presence in the Turkish private gas sector where it already owns a significant share.

More recently, the Turkish press reported that some private importers may go to arbitration over the latest price dispute.

This would be an interesting twist in a long-running saga not least because it would give us a good indication of how much willingness and freedom of action Turkish private importers actually have in standing up to Russia.

Aura Sabadus is a journalist specialising in Turkey’s energy markets