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Energy & Economics
USA and China trade war concept. suitable also as South China Sea conflict

Are tariffs, of all things, the salvation of free trade?

by Dr. Jan Cernicky

We can talk about selective tariffs - but not about protective tariffs - Concerns about the effects of economic dependencies are increasingly overshadowing the benefits of open global trade. - In the current geopolitically charged situation, there may be situations in which trade policy dependencies - for example in the case of rare earths - can be mitigated by state intervention. - In such cases, selective tariffs are the best choice. Subsidies to build up own production capacities are significantly less efficient, more expensive and undermine the market principle. - Protective tariffs for industries whose products are sufficiently available on the global market, such as the automotive and steel industries, should be rejected. - The fundamental goal should be the preservation of rule-based world trade in accordance with WTO rules. Any kind of state intervention must be justified on the basis of solid data. Background During Chinese party leader Xi Jinping's visit to Europe in May, there was once again a lot of talk about economic dependencies. They are seen as a threat to the "economic security" of Germany and Europe. What often seems to fade into the background is that the arguments for a global division of labor remain valid: it enables general prosperity precisely because certain countries and regions concentrate on the production of individual goods and consequently do not produce others themselves. On the other hand, it is also true that the economic damage more than compensates for these advantages if a state such as China uses economic dependencies as political leverage and, in the worst case, stops supplying goods for which it has a monopoly. In principle, China has achieved such a monopoly for refined rare earths and some other smelted metals.1 However, this clearly does not apply to electric cars, steel or solar cells. The reason for such quasi-monopolies is simple: Chinese companies export the products in question so cheaply that production elsewhere in the world is not worthwhile. If this were solely due to the fact that Chinese companies produce better, the only correct response would be to roll up our sleeves and become better ourselves. In the case of rare earths from China, however, the advantage of Chinese manufacturers is largely due to direct and indirect subsidies. In such an environment, in which Chinese producers have massive cost advantages due to politically granted benefits, it is not worthwhile for private companies outside China to build up their own capacities for the production of rare earths, for example. Even if prices were to rise and economic production were possible, this would not be rational; state-supported Chinese companies can easily survive periods of low prices. The usual market mechanism, whereby companies with the most competitive solutions survive, does not apply here. Even technologically superior production methods do not prevail due to Chinese subsidies. Possible reactions The best economic solution is undoubtedly for the state not to react at all and to see the availability of very cheap products that are available for domestic consumption or for further processing as an advantage. The fact that the products in question have been made cheaper by Chinese taxpayers' money can be gratefully accepted. It would be a genuine and courageous system competition not to respond with the same instruments, but to maintain a market economy system and thus exploit the weaknesses of the counter-design. Shaping the economic framework conditions politically in such a way that innovations that provide alternatives to the use of the raw materials in question can be developed more easily would be a reaction that is still justifiable within the framework of the social market economy. This would be, for example, favorable recycling processes. In most cases, such innovations are possible. However, their introduction and application is significantly more expensive than importing standard products from China. If dependence on China is really not justifiable in individual cases,2 there are two possibilities for state intervention in the form of subsidies or tariffs, which may be justifiable in rare individual cases, but are not provided for within the framework of the World Trade Organization (WTO). Important indicators for the assessment of dependencies are, for example, the lack of substitutability of the imported good, the degree of concentration of supply in a country and the relevance of the good in question for the domestic economy. However, state intervention to protect domestic production sites, such as is being discussed for electric cars or steel, appears to be explicitly unjustifiable. There is a sufficiently diversified supply of such products on the global market and there is no dependency on just one country. Economic effects of tariffs and subsidies Tariffs and subsidies both aim to compensate for the price difference to cheaper foreign competitors. Tariffs make imports more expensive, while subsidies make domestic production cheaper through state subsidies. Both have a negative welfare effect, but the correlation is more harmful in the case of subsidies. Figure 1 uses a schematic example, which is not based on empirical data, to illustrate the effect if the costs of producing rare earths in Germany were reduced to the level of the import price from China (country 1) through subsidies.   With the subsidies, it is now economically viable for the subsidized companies to produce the rare earths from ore in Germany. The actually cheaper ways of importing rare earths from alternative countries or using other technical solutions remain more expensive and would hardly be used. The goal of reducing dependencies would therefore be achieved in a very expensive way. Large sums of taxpayers' money would be spent on this. In this example, the most expensive possible route is discussed in order to clearly demonstrate the negative consequences. In reality, however, it is very unlikely that the cheapest route in economic terms will be subsidized. This is because there are always many different providers and technical solutions, which means that all the options are often not even known or can only develop in the long term. It is therefore very unlikely that the optimal subsidy recipients will be selected. A benefit is created for a specific, relatively arbitrarily selected application, but not for others. The effectiveness of the market is thus distorted and the competitiveness of the location decreases as a result. As the subsidies compensate for a competitive disadvantage, it is unlikely that high additional tax revenues will be generated. The funds spent are no longer available for other state investments. The result is a loss of welfare on this scale. Only the subsidized companies benefit from this. The price at which rare earths can be purchased in Germany does not change. It is also possible to subsidize production abroad in order to reduce dependence on one country. Such models are being attempted via "raw material partnerships", for example. Such an approach can be significantly cheaper than subsidizing domestic production. In the example (Figure 1), only the significantly lower import price from country 2 would have to be subsidized. However, the other disadvantages of subsidies listed above also apply in this case. In particular, it is even more difficult to obtain all the necessary information for projects abroad and therefore even less likely to choose the most cost-effective option. The targeted tariffs discussed here are intended to respond to dependencies on supplies from a specific country. They are therefore only imposed on imports from this country. Other imports are not affected. To stay with the example, the importer pays a surcharge on the imported rare earths. This makes his product, for which he processes rare earths, more expensive domestically. Manufacturers abroad who are not affected by the duty become more competitive in comparison.    If the tariff rate were set in the same way as above so that the competitive disadvantage for the most expensive option - metal processing in Germany - is compensated for in terms of price, the tariff rate on imports from China would be very high. However, consumers of rare earths in Germany would still have access to the significantly cheaper other options. Metal processing in Germany would therefore remain unprofitable, while imports - now no longer from China, but from country 2 - would continue to be significantly cheaper. However, the price difference to the cheapest processing variant in Germany, in the example (Figure 2) recycling, would no longer be so great, so that this variant would be easier to make economically viable by scaling up or using innovative technical solutions. In reality, the introduction of customs duties would not divert all procurement to a single country; there is no capacity for this anywhere. The result would be a mix of different suppliers, which would make it more worthwhile to drive innovation in Germany. Changes in the price structure between the different providers and processes over time can be tracked by customers in this model - the best process (or the second best, if the best is used in China) then prevails on the market. The welfare loss here arises from the fact that consumption or further processing of the imported products becomes more expensive by at least the difference to the second cheapest source of supply. However, the volume of the welfare loss is significantly lower than in the case of subsidies. It can be argued that tariffs make the prices of downstream products in the supply chain more expensive, whereas subsidies do not. While this is true, it overlooks the fact that the much larger group of companies and consumers who are not directly affected do not suffer any direct additional costs in the case of tariffs, but bear the costs of subsidies through their taxes. Political effects of tariffs and subsidies In terms of their political and structural consequences, subsidies are more harmful than targeted tariffs. This is simply due to the procedure at the end of which individual companies receive a subsidy decision. An "objective" allocation is hardly possible here. On the contrary: the procedure is susceptible to personal relationships, political influence and direct corruption. Furthermore, subsidies that are only granted in one country of the European Union jeopardize the integrity of the European Single Market. Similar problems can arise with customs duties. This happens when they are used to protect certain domestic industries. In the case of targeted, selective tariffs, which are based on clearly defined, objective categories, such as the degree of dependence on a product from a country, there is little scope for political influence once the criteria have been established. Tariffs cannot harm the European single market either, as they can only be imposed at European level anyway. WTO conformity The reduction of tariffs and subsidies within the framework of the World Trade Organization (WTO) and the predecessor agreement GATT are a central reason for the reduction of global poverty in recent decades and one of the cornerstones of Germany's prosperity. It is therefore self-evident that tariffs and subsidies not only contradict the idea of the WTO. They also contradict its two basic principles: Subsidies for domestic production contradict the non-discrimination principle3, tariffs against individual countries violate the Most Favorite Nation Clause4. There are exceptions for both in the WTO rules. For example, WTO members must notify subsidies so that they can be examined and other countries can object to them if necessary. In principle, subsidies are only intended - and within a narrow framework - for developing countries, which still includes China. However, the notification of subsidies to the WTO hardly works any more. For example, 64 countries (around a third of members) have not even notified their subsidies for 20175. Nevertheless, some of China's subsidies may indeed be legal according to the letter of the WTO rules. But they are certainly not legitimate, as the aim of the WTO is to liberalize world trade and not to cement the opposite. And even if subsidies are known, the WTO cannot take legally binding action against them due to the dispute settlement mechanism blocked by the USA. Consequently, the USA has not reacted to the unresolved problem of China's subsidies within the WTO framework. Although tariffs have been imposed on some Chinese imports, the Inflation Reduction Act (IRA) is a huge subsidy program. If the dispute settlement mechanism were to work, the IRA would almost certainly have to be declared WTO-incompatible. However, as this path is blocked, many countries and regions of the world - including Germany and the EU at the forefront - are reacting with their own openly WTO-incompatible subsidy programs. The current subsidy race is constantly creating new reasons to impose subsidies in response to the subsidies of others. This will further damage the multilateral trading system, which has been very successful for Germany in particular. Targeted tariffs, on the other hand, which can be used to eliminate competitive disadvantages caused by subsidies and which are therefore only levied on goods from the subsidizing country, are in principle in line with the basic idea of the WTO. This is because it balances out a distortion of the world market created by subsidies. Therefore, tariffs are generally permitted as a reaction to dumping and subsidies6. A reaction to subsidies via tariffs within the strict WTO framework is currently hardly possible for the reasons mentioned above. In this situation, it should be actively communicated that in an unsatisfactory legal situation, the path of the least evil will be taken with tariffs. At the same time, serious efforts should be made to reform the WTO. Conclusion The argument: "We want to have the production of certain things in Germany because we believe that we would no longer be supplied with them in crisis situations" is not an economic argument. Production for strategic reasons is always a financially subsidized business. Because if there was money to be made, the private sector would do it. Politically, this line of argument is perfectly legitimate - as is the attempt to steer the economy directly in a politically acceptable direction through subsidies. However, this has nothing to do with a social market economy, but rather the opposite. However, if Germany and Europe are to remain committed to the social market economy and open multilateral trade, the only economically sensible response to problematic dependencies from abroad (if one has to respond at all) is to impose targeted, selective tariffs - but certainly not protective tariffs for domestic production sites. The German government should work within the EU to set a clear framework for this and at the same time work on a reform at WTO level to finally reduce the rampant subsidies. Because these - and not tariffs - are currently the biggest threat to the open global trading system that is so important to us. References 1 Vgl. etwa die Darstellung der Abhängigkeiten von für die Energiewende nötigen Metallen in Cernicky (2022):, genaue Zahlen vgl. etwa die Auflistung des BDI: 2 Zum Versuch einer entsprechenden Bewertung vgl. etwa die von der KAS und dem Ifo-Institut durchgeführte Studie zu Abhängigkeiten in Lieferketten, Flach et al (2021): 3 Art. III GATT 4 Art. I GATT/ WTO 5 WTO | 2023 News items - Members reiterate concerns on lack of transparency with subsidy notifications: 6 GATT Art VI, Dumping und Ausgleichzölle Publisher: Konrad-Adenauer-Stiftung e. V., 2024, Berlin Design: yellow too, Pasiek Horntrich GbR Produced with the financial support of the Federal Republic of Germany. This publication of the Konrad-Adenauer-Stiftung e. V. is for information purposes only. It may not be used by political parties or election campaigners or helpers for the purpose of election advertising. This applies to federal, state and local elections as well as elections to the European Parliament. The text of this work is licensed under the terms of "Creative Commons Attribution-ShareAlike 4.0 international", CC BY-SA 4.0 (available at:

Energy & Economics
Hydropower plant in Dubossary, Moldova

Energising eastern Europe: How the EU can enhance energy sovereignty through cooperation with Ukraine and Moldova

by Szymon Kardaś

한국어로 읽기Leer en españolIn Deutsch lesen Gap اقرأ بالعربيةLire en françaisЧитать на русском Summary • Since Russia’s full-scale invasion of Ukraine, the EU has made strengthening energy sovereignty – its own and that of its eastern neighbours – a strategic priority. • Along with Ukraine and Moldova, the EU has created an elaborate legal and institutional framework that provides a platform for energy cooperation. • Through this framework and other measures, the EU and member states have helped significantly strengthen the energy sovereignty of Moldova and Ukraine, in particular helping them to diversify away from Russian fossil fuels and synchronising their electricity grids with that of the EU. • But when it comes to the cleanness and efficiency of their energy, Moldova and Ukraine are still underperforming, despite their potential for green energy generation. Improving the cleanness of their energy would also help strengthen the EU’s energy sovereignty, increasing the mutual benefits of closer energy cooperation. • Ukraine’s vast gas reserves and extensive gas infrastructure, along with its potential for green hydrogen production and the significant development of renewable energy sources in both countries offer opportunities for cooperation with the EU, which could enhance both its energy security and decarbonisation efforts. Introduction Since the beginning of Russia’s war on Ukraine, strengthening energy sovereignty has become one of the most strategic foreign policy goals of the European Union, its member states, and many other countries. Before the war, Russia was the EU’s largest source of imports of crude oil and petroleum products and in 2021 the state-owned energy corporation Gazprom accounted for 41 per cent of the EU’s gas imports. In the aftermath of the invasion, the EU and member states scrambled to reduce their dependency on Moscow for energy supplies, diversifying their suppliers of oil and gas. In 2023, Gazprom’s share of the EU’s gas imports fell to just 8 per cent. But the EU also has a clear interest in strengthening the energy sovereignty of its neighbouring countries, especially of Ukraine and Moldova on its eastern border. The stable functioning of the energy systems of neighbouring countries is one of the cornerstones of their security, and therefore the stability and security of the EU’s immediate neighbourhood. The European Commission has thus identified supporting Ukraine and other countries that are directly or indirectly affected by Russian aggression through long-term international partnerships as among the most important objectives of the EU’s external energy policy. Energy cooperation is also a powerful tool for integration. Energy sovereignty should not be equated with state energy autonomy or autarky; international cooperation within alliances or integration relationships such as the EU is an important component. Political allies can be reliable and secure suppliers of energy resources to import-dependent countries – the United States and Norway, for example, play such a role for many EU countries. The development of energy infrastructure links for gas or electricity between partner states, such as the EU and its eastern neighbours, would enable them to provide mutual support in times of crisis. The EU’s desire to strengthen energy sovereignty throughout its neighbourhood is first and foremost related to the need to reduce dependency on Russia and aid the integration of its neighbours. But strengthening energy sovereignty will also require a reduction in fossil fuel consumption, and is therefore closely linked to achieving one of the EU’s other major strategic goals of climate neutrality by 2050. The diversification of fossil fuel supply sources, while important, is not a long-term solution to the problem of energy sovereignty. Amid the current geopolitical uncertainties and the growing threat of climate change, decision-makers in the EU and in neighbouring countries need to now consider green energy and efficient energy use for a comprehensive approach to energy sovereignty. By strengthening its and its eastern neighbours’ renewable energy potential and optimising energy consumption, the EU can reduce the overall dependence on external suppliers of fossil fuels. The commission’s external energy policy combines these two goals, stating that the EU’s actions should be oriented towards meeting both short-term needs and long-term goals regarding the implementation of the European Green Deal. For this reason, I propose a broader approach to assessing energy sovereignty, which goes beyond the typical prism of security of supply to encompass four elements: • The level of dependence on energy imports, both fossil fuels and electricity; • The cleanness of the energy sector, determined by the importance of renewable energy in a country’s energy mix and the level of decarbonisation of the energy sector; • The level of energy efficiency; • The energy sovereignty narrative used by the state authorities in policy documents, which reflects the strategic direction of the state’s energy sector. This policy brief uses these criteria to analyse the progress that the EU and its eastern neighbours have made towards strengthening each other’s energy sovereignty so far, and sets out the next steps that they should take. It finds that, to date, the EU and its member states have played an important role in strengthening the energy sovereignty of its eastern neighbours by increasing their energy independence, but that Ukraine and Moldova still underperform when it comes to cleanness and efficiency, despite the direction implied by the states’ energy narratives – in part due to setbacks related to the war. Strategic cooperation formats between the EU and its eastern neighbours Over the last decade, the EU has developed a legal framework for cooperation with Moldova and Ukraine, which enables closer cooperation in various spheres, including energy. This approach fits into the EU’s so-called Team Europe external action policy for the two countries, which means that both EU and member state structures and European financial institutions, including the European Investment Bank (EIB) and the European Bank for Reconstruction and Development (EBRD), are involved in the process. In total, the EBRD has committed to investing $3 billion in 2022 and 2023 to address the Ukrainian economy’s challenges following Russia’s invasion. Both countries are also associated states of the EU, and their bilateral relations with the bloc, including on energy, are governed by the association agreements, which came into force in July 2016 for Moldova and in September 2017 for Ukraine. The European Council’s decision in 2023 to grant both countries EU candidate status and start accession negotiations has further strengthened the relationship. The EU also invited Moldova and Ukraine to join the Energy Community in 2010 and 2011 respectively. The Energy Community’s main objective is to extend the principles and rules of the EU’s internal energy market to the countries of eastern Europe, the Black Sea region, and the Western Balkans, effectively integrating these countries into the EU’s energy market. Members of the Energy Community are obliged to implement EU energy regulations into their own national legal systems and to strengthen energy cooperation with EU countries. Both Moldova and Ukraine have already adopted several important pieces of legislation on the functioning of the gas and electricity markets. Ukraine has successfully implemented regulations liberalising its energy markets, including certifying independent system operators in the gas and electricity markets, and an independent gas storage operator. Furthermore, at the beginning of 2024, the country’s certified electricity operator Ukrenergo joined the European Network of Transmission System Operators for Electricity (ENTSO-E). Meanwhile Moldova completed the certification of its electricity transmission system operator Moldelectrica as an independent system operator in July 2023 and has taken steps to certify the independent system operator of its gas market. Both Ukraine and Moldova have also adopted the EU’s Regulation on Wholesale Energy Market Integrity and Transparency, which prohibits insider trading and the abuse of market power. In December 2023, Moldova also amended the Law on Natural Gas to help strengthen security of gas supply and storage, further aligning it with the EU’s energy acquis. Towards energy independence The deepening of Ukraine’s and Moldova’s integration with the EU has helped to strengthen their energy sovereignty, helping them in particular to reduce their dependency on Russia. Ukraine and, to an even greater extent, Moldova are dependent on energy imports. In April 2020, Ukraine was able to meet about 65 per cent of its energy needs on its own, while Moldova could only meet about 20 per cent. Although Moldova’s situation has not changed significantly in recent years, Ukraine’s dependence on energy imports fell to 23 per cent in 2022 as a consequence of the decline in the country’s energy consumption due to the war.  Gas Both Moldova and Ukraine have significantly strengthened their energy independence in the gas sector, including through cooperation with the EU and member states. This is particularly the case for Ukraine, whose own gas production now accounts for more than 90 per cent of domestic demand. (As recently as 2010, Kyiv’s dependence on gas imports was over 70 per cent, amounting to 34 billion cubic metres (bcm), which it imported almost entirely from Russia.) According to the 2023 annual data, Ukraine’s gas consumption has fallen by 30 per cent since the start of the war and it now imports gas mainly through Slovakia, but also Hungary, Poland, and Romania (transiting through Moldova). Ukraine’s journey towards independence from Russian gas supplies was, on the one hand, a consequence of political decisions taken by the new authorities in Kyiv, which came to power in 2014 after former president Viktor Yanukovych was overthrown and, in autumn 2015, stopped buying Russian gas. On the other hand, it was made possible by the support provided by EU member states and European financial institutions, which became particularly important following Russia’s full-scale invasion. In the summer of 2022, for example, the EBRD opened a $300m credit line to Ukraine’s national oil and gas company Naftogaz for emergency gas purchases. It also began to cooperate with the Energy Community to provide regular support to Ukraine, including an agreement in June 2023 to guarantee €600m in support for Ukrainian companies operating in the gas, electricity, and hydropower sectors. Unlike Ukraine, Moldova does not produce gas, has no gas storage facilities, and has only trace reserves of its own gas (about 1 bcm as of 31 December 2022), making it completely dependent on gas imports. Chisinau’s success in strengthening its energy sovereignty has nonetheless been impressive: it has significantly diversified its supply sources and achieved complete independence from gas purchases from Russia in December 2022. The EU, European financial institutions, and select member states have played an important role in this regard. The EIB has been financially supporting projects in Moldova since 2008, including those to strengthen energy sovereignty, such as the construction of the Ungheni-Chisinau gas interconnector. But in view of the energy crisis occurring in Europe from 2021 onwards, the EU initiated anti-crisis formats with Moldova as well. For example, the EU-Moldova High Level Energy Dialogue was set up to provide support to Moldova to guarantee the supply of energy resources (especially natural gas) and electricity during the energy crisis, but also to implement long-term energy projects. So far, five rounds of consultations have taken place between the EU and Moldova under this format, through which the partners have discussed crisis support, energy sector reforms, and long-term projects. In October 2021, Poland began supplying gas to Moldova, marking Moldova’s first imports of non-Russian gas in history. In addition to imports from Poland, Moldova managed to launch reverse gas supplies from Slovakia, as well as via the Trans-Balkan pipeline from Romania, and gained access to Ukrainian gas storage facilities, where it could store about 200m cubic metres (m3) of gas. Chisinau’s diversification efforts are continuing, as illustrated by its gas supply agreements with the Greek company DEPA in 2023. Financial support from European institutions, including the EBRD, and member states has also helped to facilitate these diversification efforts by enabling Moldova to finance purchases of gas or electricity from alternative suppliers. In 2022, the EBRD offered a loan of €300m to Moldova, and in October 2023 an agreement was reached for it to provide a further €165m in gas support to the country in the form of loans, with Norway promising an additional €34m gas grant. In addition, in November 2022, the Energy Community Secretariat launched the Energy Community Rescue Scheme initiative to ensure that donors’ financial assistance for Moldova was channelled towards helping the country face the harsh winter ahead. Meanwhile, the Energy Vulnerability Fund, which was established in 2022 by the Moldovan government with support from the EU, Slovakia, and the United Nations Development Programme, played an important role in neutralising the effects of rising gas, electricity, and heating bills in Moldova. Support for Moldova under this mechanism was provided by several European countries including the Czech Republic, Sweden, Italy, and Switzerland. Finally, in 2022 the EU created the energy platform for member states and countries such as Moldova and Ukraine, which is supposed to combine demand, coordinate the use of infrastructure, and facilitate negotiations with international partners for joint purchases of gas and hydrogen. Through this initiative, Ukraine and Moldova have taken part in tenders organised by the European Commission and received 100 per cent and 80 per cent respectively of the volumes requested after the first round of purchases. Oil When it comes to oil, both Moldova and Ukraine are highly dependent on imports, but EU countries have gradually replaced Belarus and Russia as their main suppliers since February 2022, thereby helping to strengthen their energy sovereignty. Moldova is 100 per cent dependent on imports of oil and petroleum products from third countries, with Romania now mainly supplying it with oil products. As a result of the war and Russia’s continued attacks on critical Ukrainian energy infrastructure, including storage facilities for petroleum products and oil, Ukraine has not been able to produce petroleum products on its own – its last operating refinery was closed in April 2022. These products are particularly sensitive for Ukraine, not just for civilian use, but for military needs. Despite its consumption of petrol, diesel, and liquefied petroleum gas falling by 25 per cent, 30 per cent, and 40 per cent respectively from 2021 to 2022, Ukraine has become more dependent on imports – 93 per cent dependent in 2022 compared with 77 per cent in 2021.[1] In 2021, Belarus accounted for about 43 per cent of Ukraine’s gasoline imports, and Belarus and Russia together accounted for about 62 per cent of its diesel imports.[2] In 2022, Ukraine significantly reduced imports from Belarus and Russia, and increased those from Poland, Romania, Bulgaria (these three countries covered 51 per cent of Ukraine’s diesel import needs in 2022), Turkey, Lithuania, Moldova, Greece, Hungary, and several other countries.[3] In 2023, Ukraine did not import petroleum products from either Belarus or Russia.[4]   Electricity Although Moldova and Ukraine are in completely different positions in their efforts to ensure a secure electricity supply, the synchronisation of the two countries’ power grids with the EU system in March 2022 significantly increased their energy sovereignty in this area. This was particularly important for Moldova, where 80 per cent of electricity needs are met by the Russian-owned Inter RAO gas-fired power plant located in the separatist region of Transnistria. In October 2022, following Russia’s attack on Ukraine’s energy infrastructure, Kyiv halted electricity exports to Moldova, leading to some blackouts. Electricity supplies from Transnistria were then completely terminated at the beginning of November. Moldova’s synchronisation with the EU grid allowed it to import electricity from Romania, which in November 2022, met 90 per cent of Moldova’s electricity demand. In June 2023, ENTSO-E increased the capacity of interconnectors connecting the EU with Moldova and Ukraine from 1050 to 1200 megawatts (MW). During the 2022-2023 heating season, around 900,000 households also received subsidies for their electricity bills through the Energy Vulnerability Fund. Although Moldova currently once more imports 70-80 per cent of its electricity from Transnistria, it does so mainly because it is cheaper than electricity from Romania or Ukraine. But the synchronisation of its grid ensures access to alternative sources of supply, minimising the risk of energy blackmail from Russia. In the long term, support from European financial institutions will be important in strengthening Moldova’s security of electricity supply. From 2023 to 2028, the priority of the EBRD’s financial support to Moldova will be fostering energy resilience, including funds for the modernisation of electricity grids. Although Ukraine is essentially self-sufficient in electricity supply, synchronisation with the EU grid has proven important for Kyiv too, enabling it to import electricity from EU countries in crisis situations related to Russian attacks. This has been especially helpful given that in March 2022 Russia captured the important Zaporizhia nuclear power plant, which was responsible for 44 per cent of Ukraine’s total generating capacity from nuclear power plants. In 2023, Ukraine also completed the modernisation of a power interconnector with Poland. The EU Civil Protection Mechanism, established back in 2001, proved to be an important crisis mechanism in the context of meeting Ukraine’s short-term energy needs, especially for electricity. As of 31 January 2024, more than 5,900 power generators have been sent to Ukraine via the mechanism, including 2,347 from the EU’s own rescEU reserve stockpiles. In addition to generators, the EU has been delivering other vital energy supplies to Ukraine including transformers, autotransformers, high-voltage equipment, and LED light bulbs. The EIB – which has supported various energy projects in Ukraine since 2007 – has played an important role since the outbreak of the war, funding energy grid projects and repairing the damage inflicted by Russia to energy infrastructure. In December 2023, for example, it provided €133m to enhance the reliability of hydroelectric power plants. Within the Energy Community, the Ukraine Energy Support Fund and the Ukraine Support Task Force have proven to be extremely important in ensuring Ukraine’s energy security during the war, with the Ukraine Energy Support Fund alone providing over €400m in support by December 2023. Under the Ukraine Support Task Force, as of October 2023, 22 EU countries had made nearly 100 deliveries to Ukraine, including power transformers, cables, generators, transportation vehicles, and other equipment crucial for supporting the electricity sector. The Energy Community has also launched the Ukraine Energy Market Observatory, which will closely follow and review all developments related to the broader energy market and corporate governance in Ukraine. Finally, in March 2023, the Energy Community Secretariat signed two memorandums of understanding with the Ukrainian authorities: one on increased cooperation in rebuilding Ukraine’s energy sector and another on the coordination of activities in the area of humanitarian aid for the district heating, water supply, and buildings sector of Ukraine. Green credentials With the help of the EU, member states, and financial institutions, Ukraine and Moldova have been able to dramatically strengthen their energy sovereignty in terms of energy independence. However, their progress towards energy cleanness and efficiency – two other important components of energy sovereignty – has been less impressive. Cleanness Both countries, but especially Moldova, perform poorly when it comes to the share of renewables in their electricity generation. In 2022, renewables accounted for only 15.8 per cent of Ukraine’s electricity generation and 7.1 per cent of Moldova’s electricity – far below the EU and world average of 38.4 per cent and around 30 per cent respectively in 2022. The share of renewables in Moldova and Ukraine also includes the production of electricity from large hydroelectric power plants, whose operation is not fully carbon neutral. However, the development of the renewable energy sources (RES) sector in Ukraine was beginning to gain momentum before the outbreak of the war. At the beginning of 2022, the total installed RES capacity (connected to the grid) reached 9.5 gigawatts (GW) – excluding 0.6GW of RES capacity located in the territories temporarily occupied by Russia before 24 February 2022. About $12 billion was invested in the Ukrainian RES sector between 2009 and 2021 from a variety of sources, including the EBRD, the Black Sea Bank for Trade and Development, and the American International Development Finance Corporation. But, during the first six months of the war, Russia destroyed between 80 and 90 per cent of the generating capacity of wind power plants and around 30 per cent of the capacity of solar power plants in the country, as well as around half of the transmission lines and facilities for the production of electricity in Ukraine. Ongoing military activities, including Russia’s continued attacks on energy infrastructure, are significantly hampering Ukraine’s ability to rebuild these capacities. In an attempt to address this, the G7+ Coordination Group – established in November 2022 and including the Energy Community as well as the EU and its member states – has established a Clean Energy Partnership with the Ukrainian government to support the sustainable recovery and reconstruction of Ukraine, which was officially inaugurated at COP28 in December 2023. Its aim is to support the creation of a modern, secure, decentralised, and cleaner energy system in line with Net Zero in Ukraine and to better integrate the country into the EU. The parties are to support Ukraine in attracting private investors to develop projects to reduce Ukraine’s dependence on fossil fuels, in line with the EU’s energy and climate policy goals. In Moldova, the low share of RES in the energy mix results from a historic lack of interest in projects in this sphere on the part of the authorities. Under the pro-European government led by the Party of Action and Solidarity, which came to power in 2021, this situation has begun to change. The government has expressed interest in accelerating Moldova’s energy transition through the development of renewable projects and is gearing up to initiate the inaugural renewables auctions in the country (between April and June 2024), through which it aims to acquire 105MW of wind power and 60MW of solar projects.  When it comes to the levels of carbon in its electricity, Ukraine boasts much better results. In 2022 the carbon intensity of electricity generated in Ukraine was 271.4 grams of carbon dioxide-equivalents per kilowatt-hour of electricity (gCO2e per kWh), below the EU and global averages of 291.9 gCO2e per kWh and 490.1 gCO2e per kWh respectively. After two years of war, the carbon intensity in Ukraine has dropped further to 194.4 gCO2e per kWh. The large share of nuclear energy in Ukraine’s energy mix (60.5 per cent in 2023) – one of the largest shares globally – primarily accounts for the low carbon footprint of its energy sector. Moldova’s electricity has a much higher carbon intensity, 871.7 gCO2e per kWh in 2022, well above the EU and global averages. Moreover, the energy intensity (the amount of energy required to produce one unit of GDP) in Moldova is 3.4 times higher than the average in EU countries. Buildings account for 58 per cent of the total final energy consumption in Moldova, of which non-residential buildings account for 17 per cent. This makes improving energy efficiency in this sector of crucial importance.  Energy efficiency Both countries also face challenges to improve their energy efficiency, although Ukraine is doing much better than Moldova in this field. According to Energy Community reports, Ukraine’s primary energy consumption and final energy consumption in 2020 were below the targets set for 2030. In the case of Moldova, on the other hand, the 2021 statistics show that both primary and final energy consumption were just over 10 per cent above the 2030 targets. Ukraine’s good performance is largely a consequence of the war and the subsequent drop in electricity consumption of around one-third. Nonetheless, Ukraine is still struggling with high energy intensity in some sectors, notably related to residential buildings, 85 per cent of which date from the Soviet era. Before the invasion, the average level of energy consumption in households was two to three times higher than that in the EU. On top of this, gas plays a significant role in the heating sector, with around 80 per cent of households in Ukraine relying on heat supplies from gas-fired power stations. While the war makes it difficult for Ukraine to implement systemic measures to improve energy efficiency, Ukrainian authorities had integrated this aim into their energy strategy even before Russia’s invasion. In 2018, they established the Energy Efficiency Fund, in close cooperation with the EU and Germany. Since 2014, the EU has also allocated grants under the European Neighbourhood Instrument to support reforms in Ukraine, including those aimed at improving energy efficiency. Ukraine has made significant progress in fulfilling its obligations under the association agreement with the EU regarding the adoption of European energy efficiency legislation. For example, it has developed and enacted a legislative framework to support energy efficiency, including to establish energy-efficient practices across various sectors and reduce energy consumption in buildings. Ukraine is also aligning with European standards by promoting “nearly zero-energy buildings” through the adoption of the Concept and National Plan, which outlines the gradual implementation of regulations over the next five years, followed by new construction requirements after 2025. Moldova adopted an amendment to the energy efficiency law in May 2023, establishing a legal framework for comprehensive planning via the National Energy and Climate Plan. However, it is yet to implement energy efficiency measures, especially according to standards prepared by international institutions. For example, the UN Economic Commission for Europe (UNECE) has prepared a special guide for the implementation of energy efficiency measures and the valorisation of renewable energy sources for public sector buildings. The Energy Community Secretariat has played an important role in the creation of further instruments for energy cooperation between EU member states and the EU’s neighbours which encompass energy efficiency. For instance, EU4Energy – an initiative created jointly with the Council of European Energy Regulators and the International Energy Agency and launched in 2016 – is focusing on Moldova and Ukraine, alongside Armenia, Azerbaijan, Belarus, and Georgia, in the current second phase of the programme (2021-2025). The initiative is designed to support the aspirations of focus countries to implement sustainable energy policies and foster cooperative regional development of the energy sector. The European Commission’s Covenant of Mayors for Climate and Energy, which aims to bring together European local and regional authorities to voluntarily contribute to increasing energy efficiency and the use of RES, includes many cities and municipalities from Ukraine and Moldova. The EU and member states have also provided support within the framework of the Eastern Europe Energy Efficiency and Environment Partnership fund, a programme set up on Sweden’s initiative in 2009. Of the total budget (€1,355m), €982m was allocated to 25 projects in Ukraine and €114m to seven projects in Moldova. Funds disbursed under the initiative are used, among other purposes, to improve the energy efficiency of healthcare buildings and other public facilities. Energy narratives The current authorities in both countries have shaped a dominant narrative around strengthening energy sovereignty. In March-April 2023, the European Council on Foreign Relations’ network of associate researchers conducted a survey in all EU member states and Ukraine and Moldova on decision-makers’ approach to energy sovereignty following the outbreak of Russia’s invasion of Ukraine. Questions included the conceptualisation of energy sovereignty, the main challenges and threats in this area, and the measures taken and planned to strengthen it. Our researchers found that the issue of energy sovereignty gained prominence in political circles and public discourse in both countries after the outbreak of the war. The authorities of both countries are taking a comprehensive and innovative approach to energy sovereignty, viewing it not only through the prism of security of supply of raw materials, but also energy efficiency and climate goals. According to statements made by the Ukrainian government, Ukraine plans to become a leading green energy hub in Europe, integrating energy production with green technology development. Ukraine’s minister of energy has underscored the role of renewable energy in enhancing energy security, citing Ukraine’s experience during the war and its contribution to European stability through the synchronisation of power systems. Although the Moldovan authorities have placed special emphasis on the need to find alternative sources of supply due to their longstanding heavy dependence on energy resources from Russia, in the long term they also see energy transition issues as an important component of strengthening energy sovereignty. The government plans to significantly increase the pace of RES projects, aiming to increase their share to 30 per cent of electricity consumption in Moldova by 2030. The elites of both countries also seem to see cooperation with third countries, including the EU and member states, as an important means of strengthening energy sovereignty, not just responding to crisis situations. This is evident in their long-term plans to cooperate with the EU and member states on further projects to strengthen their energy sovereignty. (This applies in particular to the expansion of infrastructure connections.) Moldova is currently focusing primarily on the construction of a high-voltage line from Vulcanesti to Chisinau. This connection is expected to allow the import of electricity from Romania to Moldova on the right bank of the river Dniester within the next few years. (The completion of the line is scheduled for 2025.) Moldova is also interested in the development of joint power generation projects with Romania and in increasing the capacity of the Ungheni-Chisinau gas interconnector. Ukraine is focused on establishing a hydrogen corridor connecting it with Slovakia, the Czech Republic, Austria, and Germany. The corridor would enhance Ukraine’s energy security and integrate it into the European energy network, as well as stimulate the growth of Ukraine’s hydrogen industry and enable Ukrainian-produced hydrogen to seamlessly enter the European energy market. Furthermore, in 2024 both countries (along with Slovakia) joined the Vertical Corridor European gas transportation scheme, which brings together the gas transmission system operators of Greece, Bulgaria, Hungary, and Romania, and aims to enhance energy security and diversification by upgrading their networks to facilitate gas transport from south to north and vice versa. The mutual benefits of cooperation So far, the eastern neighbourhood countries have mainly benefited from the EU’s and member states’ actions in the context of strengthening their own energy sovereignty. However, they both – and especially Ukraine – have the potential to help strengthen the energy sovereignty of the EU and its member states, thanks to their raw materials, RES development, and infrastructure. Ukraine has great potential in the gas sector. Firstly, Ukraine is home to some of the largest proven natural gas reserves in Europe (after Norway), estimated at up to 1.1 trillion m3 in December 2020 (within the internationally recognised borders of Ukraine, that is, including Crimea and other areas occupied by Russia). Ukraine’s gas production is also the second-largest in Europe after Norway and, despite the war, remains at a relatively high level (18.5 bcm in 2022 and 18.7 bcm in 2023). Secondly, Ukraine hosts gas infrastructure that could be useful for the EU as it diversifies its sources of supply. Ukraine’s extensive gas network, which has already enabled the transit of Russian gas for European consumers, could transport gas from the Black Sea or Caspian region via the Trans-Balkan pipeline. This would especially be the case after the construction of a liquefied natural gas (LNG) terminal on Ukraine’s Black Sea coast – which has been under consideration for over a decade. Ukraine could also help Europe to store gas – the country has the largest gas storage system (30 bcm) in Europe and the third-largest by capacity in the world – behind only the US and Russia. This capacity not only ensures Ukraine’s energy security but could also potentially be used by European customers. Some EU companies are already doing this – at the beginning of 2024, around 2 bcm of gas in Ukrainian storage belonged to EU companies, but the potential for exploitation is much greater. Cooperation with Ukraine on hydrogen could further strengthen the EU’s energy sovereignty. According to Ukrainian researchers, with the appropriate development of wind power, Ukraine could produce up to 19.5m tonnes of green hydrogen per year, which would be twice as much as the EU’s annual production plans by 2030. The EU already considers Ukraine one of the three main potential green hydrogen import corridors (along with the North Sea region and the Mediterranean Sea), and in February 2023 signed a memorandum of understanding with Ukraine on a strategic partnership on biomethane, hydrogen, and other synthetic gases. Hydrogen projects that meet the EU’s safety standards can obtain the status of projects of mutual interest under the EU’s Trans-European Networks for Energy Regulation framework. The European Commission’s first list of projects of mutual interest published in November 2023 includes a generic corridor project aiming to transmit hydrogen from Ukraine to Slovakia, the Czech Republic, Austria, and Germany. Both countries, and especially Ukraine, also have high potential for RES development, which could allow the production of clean energy not only for domestic consumption, but in the case of Ukraine also for export to the EU. Theoretically, Ukraine has the greatest RES potential among south-east European countries, although estimates vary. The Ukrainian government assesses the potential for wind energy development in Ukraine off the Black Sea and the Sea of Azov coasts to be 140GW. Ukrainian scholars, meanwhile, calculate that renewable energy sources in Ukraine could provide up to 874GW in total, including solar (83GW), onshore wind (438GW), and offshore wind (250GW). At a conference on the reconstruction of Ukraine organised in June 2023 in London, the Ukrainian ministry for energy presented plans for investments in the energy sector, showing that by 2050 Ukraine wants to have 230GW of solar and wind generation capacity, 38GW of energy storage capacity, and 69GW of electrolyser capacity to produce green hydrogen. Regardless of which of the above estimates is more realistic, it is clear that Ukraine has the ability to produce large amounts of clean energy. According to the UNECE, bioenergy, hydro, solar, and wind generation could account for almost 80 per cent of Ukraine’s total energy generation by 2050. Moldova also has some potential for the development of RES projects, although significantly less than Ukraine. According to a 2017 report from the International Renewable Energy Agency, Moldova could expand its wind power to 21GW and total RES generation capacity to 27GW. From the perspective of the EU, while Moldova will not become a source of clean energy imports like Ukraine, the development of RES projects in Moldova would nonetheless be beneficial, reducing Moldova’s consumption of fossil fuels and thus also relieving the burden on the EU and member states of providing support to maintain Moldova’s gas supply during crises. Ukraine could also develop biomethane projects. According to the Ukrainian National Committee for Energy Regulation, the country could produce 22 bcm of biomethane per year, some of which could be exported to the EU. Indeed, Ukraine already has the necessary resources and infrastructure, including adequate transmission networks that would not require additional upgrades to transmit biomethane. Ukraine also has large feedstock resources and large areas of arable land to develop the potential for agricultural biomethane production. The EU plans to produce 35 bcm of biomethane per year by 2030 and it is estimated that Ukraine could meet up to 20 per cent of this demand. The EU could also benefit from access to Ukraine’s critical raw materials (CRMs), which are important for the EU’s own energy transition. Ukraine holds resources of most of the raw materials on the EU’s latest list of CRMs, including some that the EU recognises as CRMs of strategic importance. For example, Ukraine has the largest reserves of lithium in Europe, used, amongst other things in the production of batteries for electric cars. In 2021, Ukraine also accounted for around 7 per cent of global titanium production and was the world’s seventh-largest exporter of titanium ore. Titanium dioxide is a valuable chemical that can help to improve the efficiency of batteries by extending both their energy-storing capacity and their lifetime, and – alongside lithium – is one of the CRMs that the EU considers to be strategic. Moreover, Ukraine has some of Europe’s largest reserves of graphite, which is used in energy storage technologies like lithium-ion batteries, as well as deposits of nickel and cobalt, which are important in battery production. Its significant potential for green energy production and its status as the country with the largest nuclear generating capacity in Europe mean that Ukraine could also be a source of low-carbon electricity imports for EU member states. Over the last three decades, Ukraine has exported electricity, and continued to export small amounts to Moldova, Poland, Slovakia, Romania, and Hungary even in the first year of the war. Due to Russian attacks on Ukraine’s energy infrastructure, Kyiv was forced to suspend electricity exports in October 2022, but resumed exports of small amounts of electricity to Moldova and EU countries in April 2023. In the long term, especially when the war ends, the EU expects to be able to import clean electricity from Ukraine as part of its REPowerEU initiative. Finally, Ukraine can provide important insights into protecting energy infrastructure across Europe based on its experiences of Russian attacks, which could further strengthen the EU’s energy sovereignty. The security of the EU’s energy infrastructure has become an area of concern, particularly after the damage to the Nord Stream 1 and 2 pipelines, the Baltic interconnector, and the cyber-attacks on Danish energy infrastructure. Hurdles ahead Several factors clearly favour closer energy cooperation between the EU and member states and their eastern neighbours, which would strengthen the energy sovereignty of all parties involved. Both the societies and the current authorities in Moldova and Ukraine are unequivocally in favour of the closest possible integration into Western structures, including the EU. In Ukraine, this has been the case since the victory of the “Revolution of Dignity” against the government’s growing ties to Russia and the ensuing fall of the Yanukovych administration in 2014, while Moldova began to take an unequivocally pro-European course in 2021. Russia’s ongoing war in Ukraine and aggressive policy towards Moldova have further embedded this trend and mean it will likely continue in the long term. The EU has also re-evaluated its strategic thinking, prompting a new focus on its own energy sovereignty and that of its eastern neighbourhood. After Russia’s invasion of Ukraine, the EU worked rapidly to reduce its dependency on Russian energy supplies and to help its eastern neighbours do the same. However, the ongoing war in Ukraine is hampering the intensification of long-term energy cooperation. In the case of Ukraine, the key issue is the scale of the war damage and the estimated amount of money needed to rebuild Ukraine. The World Bank estimates the total cost of reconstruction at almost $486 billion, which is more than two times the size of Ukraine’s pre-war economy. According to the UN, rebuilding Ukraine’s energy sector alone, which has been seriously damaged by constant shelling, will require an outlay of approximately $47 billion. The EU has announced an additional €50 billion in support between 2024 and 2027 through a new financing instrument, the Ukraine Facility. However, these funds relate to investments in all spheres of state functioning, and it is unclear how much, if any, of this sum will be allocated to energy. Considering Kyiv’s plans regarding investments in green energy (RES and hydrogen) and the development of other sectors, including nuclear and gas, the Ukrainian authorities estimate that the country’s investment needs will reach $400 billion by 2050. Yet Moldova and Ukraine have relatively weak investment climates. Before the war, regulatory instability in Ukraine, including changes in taxation rules for the gas extraction sector, among other factors, made it difficult to attract investors. Moldova also finds it difficult to attract investment, particularly from private actors. And, although positive developments are taking place in Ukraine even during the war (for example, a law adopted in Ukraine introducing favourable conditions for investment in the biogas and biomethane sector, including exemption from income tax for five years, land tax, and VAT and customs duties when importing new equipment and components), it remains unclear how easy it will be to introduce and apply legal regulations after the war. Progress in the implementation of energy and climate policy will also be one of the fundamental challenges in the context of Ukraine’s integration with the EU. In addition to this, specific sectors face further challenges. Despite having great potential for hydrogen production, for example, Ukraine so far has neither a hydrogen strategy, nor a legal framework for the development of hydrogen projects, nor adequate infrastructure. The next steps To achieve the greatest possible synergy in the efforts of the EU and its eastern neighbours to mutually reinforce energy sovereignty, both sides will need to continue taking strategic steps in the coming years. For eastern neighbours Adopt a progressive approach to energy sovereignty Ukraine and Moldova need to translate their narratives about energy sovereignty into a determination to implement them in reality. The eastern neighbourhood countries should permanently change their approach to energy sovereignty and think of it not only in terms of security of supply – energy independence from Russia and diversification of supply sources – but also in terms of clean energy and energy efficiency. This applies especially to Moldova, which should aim to finally and permanently sever its energy relations with Russia not only in the electricity sector, but also in the gas sector, in particular by removing Gazprom from the ownership structure of its largest gas company Moldovagaz (in which Gazprom still holds 51 per cent of the shares). The EU and its eastern neighbours should make the improvement of energy efficiency one of their common strategic goals. Moldova and Ukraine should use the funds made available through the EIB and EBRD to implement steps to improve energy efficiency. In particular, they should exploit and expand the opportunities for projects under the Eastern Europe Energy Efficiency and Environment Partnership. They should also strengthen bilateral cooperation with selected EU member states that have declared their willingness to share their experience in this field. On a bilateral level, France, Germany, Poland, and Sweden are implementing or planning cooperation with their eastern neighbours to improve energy efficiency. Meet Energy Community regulations Ukraine and Moldova should continue to implement reforms in the energy sector, including those stemming from their membership in the Energy Community or related to the process of deepening their integration with the EU. Following the end of the war in Ukraine, it will be important that the two countries take measures against the monopolisation of markets by fully liberalising the electricity and gas markets, ensuring OECD-appropriate governance standards for state-owned energy companies, and making further progress in tariff reforms and subsidy provision by phasing out public service obligations and replacing them with social support for vulnerable energy consumers. These measures will serve to deepen the integration of Moldova and Ukraine with the EU and, consequently, help to increase the resilience of their energy systems. Make infrastructure flexible Both Moldova and Ukraine should prepare for new uses of their transmission infrastructure under the new geopolitical conditions. This is particularly important for Ukraine, which for a decade has acted as a transit country for EU countries’ gas and oil imports from Russia. In December 2024, the transit agreements between Russia and Ukraine will expire, and Ukraine will need to find a new use for its significant gas pipeline network in order to maintain it. The Ukrainian gas pipeline network could be used to export Ukraine’s surplus gas production or to transit gas from other sources. For example, Azerbaijani gas exported via the Trans-Balkan pipeline could travel via Moldova and Ukraine to Slovakia or other EU countries. The Ukrainian government was already considering using it to transport imported gas via a potential LNG terminal on the Ukrainian Black Sea coast before the war. Ukraine and Moldova also need to modernise and expand their electricity grids. In the case of Ukraine, this is necessary due to the continuing destruction associated with Russia’s aggression. However, Moldova also needs grid investments, especially if it is to expand its RES potential in the future. Indeed, the expansion of RES potential requires a sufficiently developed grid capable of absorbing electricity produced by wind or photovoltaic installations into the system. Make use of international cooperation formats Given the multiplicity of cooperation formats in which the eastern neighbourhood countries are involved, it is important to build synergies between them. In addition to the formats already in use in relations with the EU, Kyiv and Chisinau should make use of other, supra-regional cooperation formats that have emerged in central and eastern Europe in the last decade, within which some countries have placed a very strong emphasis on strengthening sovereignty. An example of this is the Three Seas Initiative, a project initiated in 2015 by the presidents of Poland and Croatia that brings together 13 central European countries with the strategic aim of preserving and strengthening the unity of the EU and the Euro-Atlantic space through three pillars: transport, energy, and digital. Poland and Romania have already declared their interest and political will to cooperate with countries such as Moldova and Ukraine under the initiative. For this purpose, Ukraine and Moldova could also make use of the European Political Community, to which 47 European countries belong, including non-EU countries such as the United Kingdom and Turkey. For the EU Ensure comprehensive support to Moldova and Ukraine prior to accession In the dynamic geopolitical situation related to Russia’s aggression against Ukraine, the EU should be determined not only to pursue the EU integration process of Moldova and Ukraine consistently, but also to strengthen its own capacities to respond to Russia’s attempts to destabilise these eastern neighbours. Only the accession of Ukraine and Moldova to the EU can create a sustainable foundation for strengthening cooperation and using the full potential of all parties to strengthen energy sovereignty. The EU therefore needs to demonstrate its determination to meet this political commitment to Moldova and Ukraine. It should use all existing multilateral formats available to it to tighten political and economic (including energy) cooperation with its eastern neighbours. Individual member states should also look to strengthen their bilateral cooperation with their eastern neighbours. Poland can play a special role in this respect, above all because it is Ukraine’s largest neighbour and is interested in participating in the reconstruction of Ukraine and particularly committed to supporting Moldova’s reform. The new pro-European government formed in December 2023 could also build a coalition for energy cooperation with its eastern neighbours together with Germany or perhaps more broadly with Germany and France as part of the recently reactivated Weimer Triangle. Initiate joint energy projects The EU should plan further joint energy projects with its eastern neighbours. It is a major weakness that, apart from the hydrogen corridor with Ukraine, the list of projects of common and mutual interest published by the EU in November 2023 does not include others concerning the enhancement of infrastructure links between the EU and Ukraine and Moldova. These are notably lacking in the electricity sector. The implementation of these projects will be important for electricity trade between the EU and neighbouring countries, which could strengthen the energy sovereignty of both the EU and its eastern neighbours. At the same time, it is in the interest of the EU and member states that progressive integration, for example in the sphere of electricity markets, is carried out under fair competition conditions between EU players and companies from Ukraine and Moldova. Contribute to security of energy supply Although the EU’s own raw material potential is limited, some countries have resources that could be used to meet part of the needs of the eastern neighbourhood countries. Romania, which has among the most energy resources in Europe, could play a particularly important role in this context. Its gas resources on the Black Sea shelf are estimated at 80-200 billion m3, which would allow it to secure its own needs for about 20 years or, in the medium term, act as an alternative to Russian supplies to other countries in the region, such as Moldova. When it comes to electricity production, Romania boasts a diversified energy mix and a well-developed network of interconnections with neighbouring countries that can operate in two directions (for import and export purposes). Due to its location, Romania could also play the role of a transit country for the transmission of energy resources (for example, gas via the Trans-Balkan gas pipeline) or electricity from third countries. EU member states should support Ukraine in continuing to diversify its nuclear fuel supply sources. Those that have nuclear power in their own energy mixes, including Bulgaria, France, Romania, Slovakia, and Sweden, can provide logistical support for the transport of nuclear fuel from alternative sources, and be partners for enhancing cooperation in the nuclear sphere after the end of the war. The so-called nuclear alliance that has emerged in the EU under the informal leadership of France could be useful in this regard, supporting partnerships with Ukraine to implement joint nuclear projects. Improve eastern neighbours’ energy efficiency In its external energy policy strategy, the EU calls for energy saving and energy efficiency to become priorities on a global scale. It should therefore support neighbouring countries to improve energy efficiency. As postulated, among others, by participants in the Green Deal Ukraine project, the EU and its member states should help their eastern neighbours to develop robust standards for energy efficiency and building materials for both new and renovated buildings, spanning residential and non-residential sectors and the entire construction process. These standards should include monitoring energy efficiency for components and the building process to align with evolving EU efficiency regulations, promoting sustainable practices and long-term decarbonisation goals. Increase investments in the region Energy should become one of the key areas of cooperation to strengthen Moldova’s and Ukraine’s sovereignty and thus their resistance to aggressive, destabilising actions by Russia. Although the EU has so far provided significant financial assistance to Ukraine and Moldova, both directly and in cooperation with European financial institutions, the scale of the needs (especially in Ukraine) requires further efforts in this area. Investment either directly by the EU or by companies from EU countries in Ukraine’s RES sector, the hydrogen corridor, or Ukraine’s gas infrastructure could strengthen EU energy sovereignty by ensuring a secure supply of clean electricity or gas supplies, which will still be needed by EU countries over at least the next decade. To this end, the EU should make use of and provide organisational and expert support for recently created instruments such as AidEnergy – an electronic platform established in March 2023, whereby the EBRD in partnership with other donors and international financial institutions and the Ukrainian Ministry of Energy create a centralised list of energy sector needs. The platform is intended not only to identify the current needs of the Ukrainian energy sector, but also more long-term needs. Considering the long-term investment needs of Ukraine’s energy sector, the EU could also provide support through financial guarantees for the most strategic projects. EU member states and institutions should also continue efforts to confiscate frozen Russian assets, which could be used for the reconstruction of Ukraine, including investments in the energy sector. The law adopted by the EU in February 2024 to set aside windfall profits made on frozen Russian central bank assets is a move in a right direction in this regard. Acknowledgments The author would like to thank experts and people working in the energy sector in institutions and companies in Poland, but also in Ukraine, Slovakia, and Germany, for discussions on the topic covered in this policy brief. Special thanks are also due to those who provided comments on the first version of the text, in particular Susi Dennison. The author would particularly like to thank Flora Bell for her pleasant and fruitful collaboration in editing the final version of the text, especially for her very valuable suggestions, questions, and comments. Thanks are also due to Nastassia Zenovich for the beautiful graphics included in the text. References [1] Argus Eurasia Energy (, weekly report, by subscription, 23 February 2023. [2] Ibid. [3] Ibid. [4] Argus Eurasia Energy (, weekly report, by subscription, 22 January 2024. This policy brief was first published on 11 March by the European Council on Foreign Relations (ECFR)

Energy & Economics
Chinese Yuan on the map of South America. Trade between China and Latin American countries, economy and investment

Ahead of the curve: Why the EU and US risk falling behind China in Latin America

by Ángel Melguizo , Margaret Myers

한국어로 읽기 Leer en español In Deutsch lesen Gap اقرأ بالعربية Lire en français Читать на русском As Beijing’s investment approach to Latin America focuses on industries of strategic importance, the EU and US will need to contend with growing Chinese competition China is pouring less foreign direct investment (FDI) into Latin America. But while this may seem like a sign of Beijing’s disinterest in the region, data suggests that Chinese companies are simply recalibrating, not retreating. In doing so, they are becoming important players in sectors key to Western interests: critical minerals, fintech, electric vehicles, and green energy. While the European Union and the United States have long been top investors in Latin America, increased competition with Chinese investment now jeopardises their interests in the Latin American industries that will become most crucial to the digital and green transitions. The number of Chinese projects in Latin America grew by 33 per cent from 2018-2023, compared with the previous five-year period of 2013-2017, even as the total value declined. In other words, Chinese companies are making more investments in the region but are pursuing smaller-scale projects on average. These investments are also more focused on what China calls “new infrastructure“ (新基建), a term which encompasses telecommunications, fintech, renewable energy, and other innovation-related industries. In 2022, 60 per cent of China’s investments were in these frontier sectors, a key economic priority for the country. Beijing also views smaller projects in these industries as incurring less operational and reputational risk, especially compared to some of the large-scale infrastructure investment projects often associated with the Belt and Road initiative. Like China, the investment priorities of the G7 grouping – particularly the US and the EU – are centring on critical minerals, fintech, electric vehicles, and green energy as they aim to grow and reinforce existing economic and political partnerships in Latin America. However, both the US and the EU risk falling short of China’s investment strategy in the region. The US has signalled want for greater economic engagement with the region, especially in sectors of strategic interest. However, to date, US efforts to compete with China remain largely focused on building US domestic capacity in these strategic sectors, even as some US companies, such as Intel, are increasingly focused on including regional partners in their supply chains. Some see opportunity for Latin America in Joe Biden’s landmark legislation, the Inflation Reduction Act (IRA), which is aimed at incentivising the energy transition while also de-risking critical supply chains. For example, certain countries in the region may benefit from preferential market access for their lithium or other key inputs to new energy and technology supply chains. However, the reach of the IRA – which remains a largely domestic policy – does not stretch as far as China’s current investment reshuffle. The Americas Act, announced by members of Congress in March could generate promising new investment opportunities for the region, as it encourages US companies and others to move their operations out of China, to which Latin America stands as a promising replacement. But Americas Act reshoring would primarily incentivise textiles and potentially medical equipment manufacturing, with less overall focus on the range of “new infrastructure” industries that China is prioritising. Chinese interests in information and communication technologies reveal a similar story. While the US has focused its policy on 5G equipment sales, China is undertaking a process of vertical integration in Latin American tech sectors that will dramatically boost its competitiveness. For instance, Chinese company Huawei is rapidly expanding its focus to include data centres, cloud computing, cybersecurity, and other services, especially in Argentina, Brazil, Chile, Colombia, Mexico, and Peru. (Computing accounted for a sizable 41 per cent of total Chinese information technology investment in the region between 2018 and the first half of 2023.) At the same time, Global Gateway, the EU’s proposal for a global investment initiative is yet to reach its potential in the region. Brussels is looking to be Latin America’s partner of choice by building local capacity for making batteries and final products like electric vehicles, as European Commission president Ursula von der Leyen noted last year. Yet even as the EU signals renewed commitment, China is becoming increasingly dominant in the electric vehicle market in Latin America and other regions. China surpassed the US in electric vehicle sales in 2023, with Chinese companies accounting for 45 per cent of total global sales and three times that of Germany’s. What is more, China has invested $11 billion in lithium extraction in the region since 2018, as part of a bid to control a third of global lithium-mine production capacity. Meanwhile the EU has secured some access to lithium as part of trade deals with Chile, alongside other nations, but this pales in comparison to what will be required to fuel the future of EU battery production. Latin America as a whole accounts for an estimated 60 per cent of the world’s lithium reserves. Based on its current levels of engagement in the region, the EU risks falling short of lithium, stalling its battery production and subsequently, its electric vehicle sales, just as China advances in this field. The window is closing for the EU, the US, and other partners looking to both maintain market share and compete with China in these Latin American industries, despite still-high rates of US and EU investment in and trade with the region. Indeed, US automakers increasingly see Chinese competition across the globe as an “extinction-level event.” Ensuring competitiveness in “new infrastructure” and related sectors will require a continuous commitment by partners to building and supporting project pipelines, and to delivering products and services at price points that can compete with China’s subsidised offerings. Both the EU and the US remain critical economic partners for Latin America and are contributing in ways that China is not. Still, complacency risks allowing China to take the lead in emerging industries in the region, some of which weigh heavily in the EU’s green and digital transformation. To protect their own future industries, the EU and the US need to first take a longer look at Latin America’s – especially as China vies for a dominant position.

Energy & Economics
EURO vs. Yuan. European and Chinese flags

Overcoming an EU-China trade and trust deficit

by Shairee Malhotra

Beijing seeks normalisation of ties with Europe; however, for Brussels, reconciliation will be conditional on Beijing’s willingness to address fundamental divergences On 7-8 December, European Commission President von der Leyen and European Council President Charles Michel will be in Beijing for the 24th European Union (EU)-China summit, but the first in-person one in four years, taking place at a critical juncture in EU-China ties. At the previous EU-China virtual summit in April 2022, the Ukraine conflict was the primary talking point for the Europeans and other issues such as climate and economics were relegated to the back burner. This time, the focus is likely to be economics. A relatively constructive meeting between United States (US) President Joe Biden and Chinese President Xi Jinping on 15 November, which led to the resumption of US-China high-level military dialogue and Xi’s assurances on Taiwan, has contributed to paving the way for the EU to focus on ironing out economic irritants. Deficits, dependencies and de-risking With daily EU-China trade amounting to 2.2 billion euros, the EU is concerned about its widening goods trade deficit with China—400 billion euros in 2022—referred to by EU Ambassador to China, Jorge Toledo, as the “highest in the history of mankind”. In the context of China’s restrictive environment for foreign companies, the EU is keen for a level playing field and greater reciprocity in trade. Another major area of contention is Chinese overcapacity through subsidies in key industrial export sectors such as electric vehicles (EVs) that are undermining European automotive industries. The European Commission has already launched a probe for the EVs sector and is now considering other major sectors including wind energy and medical devices. In addition, Europe is heavily dependent on critical raw materials such as lithium and gallium from China, which are intrinsic to its green transition. While over 90 percent of the EU’s supply of raw materials comes from China, the EU aims to address this dependency through its Critical Raw Materials Act. Factors such as Chinese aggression in the South China Sea, human rights violations in Xinjiang, and pandemic-era supply chain disruptions have deteriorated European perceptions of China. The downswing in EU-China ties was further accentuated by Beijing’s posture in the Russia-Ukraine conflict and the failure of European leaders to coax China to positively use its influence with the EU’s most immediate security threat, Moscow. Thus, a major trust deficit has accompanied the trade deficit. On 6 November, only a month before the summit, von der Leyen in her speech warned against “China’s changing global posture” with its “strong push to make China less dependent on the world and the world more dependent on China”. While acknowledging China as Europe’s most important trading partner, she emphasised the “explicit element of rivalry” in the relationship. Another dialogue of the deaf? The EU and its member states are recalibrating their China policies, with countries such as Germany even releasing China-specific documents outlining their approach. The EU’s “de-risking” strategy aims to reduce dependencies in critical sectors, and through an expansion of its policy toolbox, the Union is implementing a range of measures including greater scrutiny of inbound-outbound foreign investments, anti-coercion instruments, and export controls for dual-purpose technologies. In this context of an evolving European approach, the upcoming summit is a much-anticipated one for EU-China watchers. Despite the strain in relations, high-level diplomatic exchanges have continued in full swing, many of which, such as von der Leyen’s visit to China in April, EU Trade Commissioner Valdis Dombrovskis’s visit in September, and EU Foreign Policy Chief Josep Borrell’s visit in October were conducted in preparation for this summit. A sluggish Chinese economy gives Europe room to wield its economic leverage. However, grey areas in Europe’s China policy remain, especially with regard to the implementation of measures and the need for more effective coordination, often compromised by a lack of unity amongst member states and tendencies of leaders such as French President Emmanuel Macron and German Chancellor Olaf Scholz to prioritise business interests over all else. Thus, straddling the fine balance between economic opportunities and security risks will continue to be a test for how Europe manages its interdependence with the lucrative Chinese market. Previous EU-China summits have not produced a joint statement, and according to sources, this summit is unlikely to produce one as well. Yet it is an opportunity for the EU to put forward unresolved concerns and forge some common ground. Without concrete deliverables, the upcoming summit risks being another “dialogue of the deaf” as Borrell famously described the previous one. Amidst renewed transatlantic solidarity, Beijing’s rhetoric indicates that it seeks normalisation of ties with Europe and a more independent European policy towards China away from Washington’s influence. Yet for Brussels, reconciliation will be conditional on Beijing’s willingness to address fundamental divergences.

Energy & Economics
The protesters back the EU's criticism of the Poland's government

Poland: hope for rule-of-law correction, but serious economic challenges ahead

by Marek Dabrowski

Obstacles created by Poland’s outgoing government and the deteriorating economic situation make the post-election outlook highly challenging. The victory of the opposition alliance in Poland’s 15 October elections showed that even an unfair and manipulated election can lead to a peaceful rejection of autocratic regime if society is mobilised sufficiently. However, tackling the populist legacy of the Law and Justice Party (Prawo i Sprawiedliwość, PiS) government will be neither easy nor fast, for several reasons. First, it remains unclear when a political transition can take place. President Andrzej Duda (closely associated with PiS) has sworn in a PiS minority government that is likely to be short-lived, and has made clear that he will defend PiS’s political and institutional legacy and use his veto power to stop legislation adopted by the new parliament. Overcoming a presidential veto requires a 60% majority in the Sejm (a lower house of the Polish parliament), which a democratic coalition is short of. This will make it challenging for a post-PiS government to restore constitutional principles of democracy, rule of law, the legal independence of many institutions (which have been packed with PiS loyalists, especially in the judiciary) and public media pluralism, at least until summer 2025, when President Duda’s term expires. Most of these changes will require new legislation. Rolling back unconstitutional PiS legislation in the Constitutional Court will be hard. The terms of PiS placemen and women in the court will expire between 2024 and 2031. The Constitutional Court can also block legislation passed by a new majority. This could mean difficulties with unfreezing money earmarked for Poland from the European Union’s Recovery and Resilience Facility. Access to the funds is conditional on meeting rule-of-law criteria that have been violated systematically by the PiS government. However, the most significant challenges wait for the new government in the economic sphere. Eight years of socioeconomic populism, with large-scale spending programmes (including generous family benefits, which will increase by 60% from January 2024), chaotic tax system changes and a freeze on energy tariffs, have led to an explosion of the general government deficit, set to reach 5.8% of GDP in 2023. The transparency of public finances deteriorated dramatically because of several off-budget funds and quasi-fiscal operations conducted by state-owned banks and energy companies. Therefore, the actual deficit may be higher than officially reported. Because of ultra-loose and politically motivated monetary policy since 2016, inflation has been above the National Bank of Poland target (2.5%) since December 2019. has been above the National Bank of Poland target (2.5%) since December 2019In March 2022, it jumped to a two-digit level, reaching 17.2% in March 2023. Since then, it has started decreasing, but its October 2023 level (6.3%) is still too high and may increase. Despite highly accommodating monetary and fiscal policies, the annual real GDP growth rate, once varying between 4% and 6%, is expected to decline to 0.4% in 2023. Thus, the Polish economy is experiencing stagflation. Meanwhile, a gradual increase in the retirement age to 67 for both men and women, introduced in 2013, was reversed by PiS in 2017, despite Poland’s shrinking working-age population – a consequence of population aging and large-scale emigration. The share of state ownership has been increased, especially in the banking and energy sectors. The latter became less competitive after several administrative mergers of state-controlled companies (for example, creating a super-conglomerate ORLEN). Investment in green energy has slowed in the face of various administrative and financial obstacles. To what extent a new government will be ready to tackle these problems remains unclear. During the election campaign, opposition parties sought to compete with PiS by offering more public spending programmes and lower taxes. They promised never to increase the retirement age. They were silent about privatisation, only pledging more professional and nepotism-free management of state-controlled companies. Since the election, several opposition promises detrimental to public finances have been repeated. The economic chapter in the coalition agreement between parties forming the future government is vague. The multi-party character of a future government (from the left to centre-right), and forthcoming local and European elections (both in spring 2024), may further discourage necessary economic reforms and fiscal adjustment. If such a political scenario prevails, the Polish economy risks slipping towards even deeper macroeconomic disequilibria and zero growth. This will not guarantee popularity and future election success for a coalition government. Therefore, despite all the political and legislative obstacles, the incoming government’s economic policy programme must address the root causes of the current troubles and respect fiscal constraints. Acknowledgements The author would like to thank Heather Grabbe, Ivo Maes, Lucio Pench, and Nicolas Veron for their comments and suggestions on a draft of this commentary.

Energy & Economics
Emblems of European Union and China

How might China hit back over the EU’s electric vehicle anti-subsidy investigation?

by Alicia García Herrero

China’s silence towards the European Union’s electric vehicle probe could mean that a more harmful retaliation is on its way During her State of the Union address on 13 September, European Commission President Ursula von der Leyen announced that the European Union would undertake an anti-subsidy probe against the Chinese electric vehicle (EV) sector. This signalled a major step in the EU’s shift to a more aggressive trade defence against China and raises the question of how China will react, given the importance of the Chinese market to key sectors of the European economy (including the auto and luxury sectors), and also given China’s crucial role in providing goods to the EU for the green transition? An EU-China High Economic and Trade dialogue on 25 September in Beijing, between EU Trade Commissioner Valdis Dombrovskis and his Chinese counterparts, may have given a glimpse into China’s mindset. There were fears Chinese officials would respond aggressively to von der Leyen’s announcement during Dombrovskis’s visit but this was not the case. Nevertheless, the silence may be deceptive. Three main factors should be taken into account when considering potential Chinese retaliation. Subtle but harmful retaliation First, China might file its own anti-subsidy investigation at the World Trade Organisation against key European sectors. This would not be difficult since Europe has ramped up its subsidies massively since the pandemic, and more recently has attempted to gain more ‘strategic autonomy’ in sectors including semiconductors. There is very little the EU can do about this potential retaliation, which would be costly for the sectors targeted and for the EU’s image as a free-trade and WTO champion. Second, China could try to persuade EU governments that the Commission-led investigation should be withdrawn. A similar probe happened in early 2014, when the EU launched an anti-subsidy investigation into solar panels produced in China. President Xi Jinping visited then Chancellor Angela Merkel right after the anti-subsidy investigation was announced. Subsequently, the issue was settled quickly, with the Commission withdrawing the case from the WTO. Based on this previous experience, China might prefer to take up the issue bilaterally, possibly with Germany again, rather than enter discussions with the Commission. But a major difference this time is the relative importance of the auto sector in the EU compared to solar power. The auto sector accounts for 14 million jobs in Europe and a good part of the EU’s exports. Exports of cars and components are heavily concentrated in a few EU countries, especially Germany. These exports to China have plummeted in 2023, with a close to 30% drop, and Chinese competition in third markets and even the EU market, has become much more intense. Third, also unlike the solar-panel probe, it is the Commission and not the sector being harmed that has filed the case. It will be harder for the Commission to withdraw the investigation because it would lose credibility. Merkel decided to accommodate Xi Jinping’s request in 2014 because she wanted to save the auto sector, even at the cost of hurting a smaller part of the German economy – the solar panel companies. The new investigation aims to protect the automotive sector. There could be consequences for major European auto companies producing electric vehicles in China, but jobs in Europe are now more important than the future of those companies in China. In any case, the future of European manufacturers is bleak; they seem to have already lost the EV race to their Chinese competitors. China will find it much harder to move the EU away from its decision to pursue an anti-subsidy investigation, differently to what happened in 2014. Lessons to learn There might be a lesson for Europe in what happened to Apple in China in September. Days before Apple’s launch of its new iPhone 15, Huawei launched its Mate 60 with upgraded functionalities which require high-end semiconductors. Beyond raising doubts about the effectiveness of US-led export controls on advanced semiconductors, this announcement constituted a direct challenge to Apple’s phone sales in China. Chinese officials were also prohibited from using iPhones and rumours spread in Chinese media in advance of the Apple launch about the underwhelming quality of the iPhone 15. Investors dumped Apple stock globally and the company lost about 6% of its value in a few days. China’s retaliation against the Commission’s anti-subsidy investigation might not be as direct and transparent, but it will still be harmful and might offer less room for the EU to respond. Europe’s strategic dependence on China is greater than in 2014 and this probe has the potential to cause a bigger fall-out for the EU. China has strengthened its position as a global power and uncompetitive behaviour could hit European core sectors harder because China has more power to retaliate. On the flip side, the stakes are higher for the EU given the importance of the auto sector in terms of jobs and exports. For that reason, China may not manage to deter the EU’s investigation as easily as it did in the past. But this may prompt China to threaten even larger retaliation.

Energy & Economics
500 Euro paper money getting on fire on gas

A winter energy crunch in Europe looks a distinct possibility

by Michael Bradshaw

Russia’s invasion of Ukraine imposed a sudden energy shock on Europe 18 months ago. Faced with the prospect of much less Russian gas, there were fears that Europe’s energy infrastructure would not cope with winter 2022-23, causing economies to crumble.  Yet a mild winter and the EU’s gradual rollout of a plan to reduce its energy consumption and buy more from alternative suppliers saw it emerge shaken but not beaten on the other side. Germany, Italy and other gas-reliant nations pivoted from Russian dependency without major electricity shortages. Since then, there has been more good news. Energy prices have fallen steadily in 2023, while Europe’s gas storage levels hit 90% capacity three months ahead of the November target and could even hit 100% in September.  According to politicians like the German energy minister, Robert Habeck, the worst of the energy crisis is over. Yet, as we shall see, it’s a little early to be so confident. New vulnerabilities The share of EU piped gas imports from Russia fell from 39% to just 17% between early 2022 and early 2023. To cope with this shift, the EU has become much more reliant on shipments of liquefied natural gas (LNG) than before. LNG’s total share of EU gas imports rose from 19% in 2021 to around 39% in 2022, amid a rapid upgrade to infrastructure that aims to have grown LNG capacity by one-third between 2021 and 2024. (Indeed, 13% of LNG imports into the EU actually still come from Russia, whose shipments have also significantly increased since the invasion). This LNG increase has made European countries vulnerable to volatility in that market – particularly as 70% of these imports are bought at short notice rather than using the long-term oil indexed contracts that prevail in Asia. For example, we’ve seen Europe’s benchmark gas price ticking upwards in recent weeks due to concerns over strikes at Australian LNG plants. This shows that supplies remain tight and that there are many potential disruptions in our highly interconnected world market. To synchronise demand for LNG, the European Commission has introduced initiatives like the EU Energy Platform, an IT platform that makes it easier for supplier companies in member states to jointly buy the fuel. However, it is uncertain what level of supplies can be channelled through this instrument as it remains untested. Additionally, the industry fears this kind of state intervention could backfire and undermine the functioning of the market. As for pipeline gas, Norway has overtaken Russia to become Europe’s leading supplier, providing 46% of the requirement in early 2023 (compared to 38% a year earlier). This extra load has strained Norway’s gas infrastructure. In May and June, delayed maintenance work caused sluggish flows that drove up prices, again showing how tight the European market is at present. Extended maintenance work in Norway leading to more obstructions in future looks distinctly possible. Meanwhile, the EU is still expected to have to buy around 22 bcm (billion cubic metres) from Russia this year. That’s the equivalent of around 11% of all the pipeline gas used by the bloc in 2022. A large proportion is coming through Ukraine, and with the current Russia-Ukraine transit agreement unlikely to be renewed after it expires in 2024, this supply route is in jeopardy. As part of the pivot away from Russia, the EU managed to reduce gas consumption by 13% in 2022, according to the International Energy Agency (against a target of 15%). In the months ahead, war-weary EU states may not do so well on this front. It will not help that prices have fallen, nor that some states didn’t pull their weight last winter. Only 14 out of 27 EU members introduced mandatory energy reduction policies, while eastern states like Poland, Romania and Bulgaria did little to reduce consumption. Should there be a physical shortage of gas in continental Europe this winter, this might undermine calls for solidarity. What comes next The harsh reality is that for at least another two or three winters, Europe will have to hope for mild weather across the northern hemisphere without major interruptions to global LNG supply if it is to avoid significant gas price spikes. Even as things stand, European gas prices remain around 50% above their pre-invasion long-run average, which is hurting both households and businesses. This is particularly important for Germany, the EU’s industrial powerhouse, with its energy-intensive automotive and chemical industries. There are growing concerns that continued high energy prices could promote de-industralisaton as energy-intensive industries move elsewhere. The good news is that pressure on gas should at least subside from the mid-2020s. Significant new supplies of LNG will come online in the US and Qatar and the market will re-balance. European gas demand should also get significantly lower – down 40% by 2030, according to the energy reduction plan. There is even talk of a supply glut by the end of the decade, depending on renewable energy deployment accelerating in Europe, and a new generation of nuclear power stations coming on stream. This would significantly reduce Europe’s need to import gas for good, but will only happen if the bloc coordinates effectively. We saw what can be achieved in the months after the invasion when France supplied gas to Germany to help reduce its dependence on Russia, then Germany later supplied more electricity to French cities to help with outages caused by nuclear reactor maintenance. The challenge is to take the same approach to decarbonisation. While France tries to gather support for nuclear modernisation both at home and elsewhere in Europe, it is facing opposition from the likes of the German-led “Friends of Renewals” group, which advocates building out only renewable energy. Divisions like these may prove a serious obstacle in achieving a more rapid energy transformation away from fossil fuels. So while Europe has managed to pivot away from Russia’s pipeline gas, it will remain exposed to the volatility of global gas markets unless it reduces its gas demand significantly in the coming years.

Energy & Economics
French finance minister Christine Lagarde

Strengthening resilience in a changing geopolitical landscape

by Christine Lagarde

Welcome address by Christine Lagarde, President of the ECB, at the 9th ECB conference on central, eastern and south-eastern European countriesFrankfurt am Main, 17 July 2023 It is a great pleasure to open the ninth ECB conference on central, eastern and south-eastern European countries. The CESEE region – which comprises 21 different economies – can overall be considered a European success story in recent decades, having enjoyed rapid convergence towards higher-income countries. Between 2000 and 2021, the economic size of the region almost doubled to 40% of the euro area aggregate. And this strong growth has led to rising living standards, with average GDP per capita jumping from 36% to 54% of the euro area aggregate in the same period. But the world has changed dramatically since we last held this conference in 2019. A series of shocks have upended our old reality and replaced it with new uncertainties. Devastatingly, one of those shocks has been the outbreak of war in Europe – an event that we once thought consigned to the history books. Russia’s unjustified war against Ukraine and its people is a human tragedy. And it has had deep economic consequences for the CESEE region in particular. In parallel, the world is changing in ways which make the growth models of many CESEE countries more vulnerable, as these models generally involve high levels of trade openness and integration into global value chains. But as Graham Greene once wrote, a “feat of daring can alter the whole conception of what is possible.” And the challenge now facing the CESEE region is how to continue its convergence story and ensure that growth remains resilient in this new landscape. Fortunately, CESEE economies can already look back on a strong history of resilience – be it mastering the transition from central planning to market economies in the 1990s or recovering from the global financial crisis with impressive speed. I therefore have every confidence that they will be able to adapt to these new uncertainties. A changing geopolitical landscape There are two broad shifts reshaping the global economy that may have profound implications for the CESEE region: rising geopolitical tensions and weakening global trade. After a long period in which the United States was the sole superpower, the world is becoming more multipolar, with greater competition between major powers, less respect for international rules and norms and a waning influence for multilateral institutions. In this environment, even deep commercial ties may be insufficient to prevent trading relationships from becoming adversarial. This makes the global environment increasingly prone to shocks and the task of macroeconomic stabilisation for all countries much harder. Unfortunately, the CESEE economies know this all too well. Russia’s war against Ukraine triggered a massive shock to the global economy – especially to energy and food markets – and CESEE economies have been particularly exposed, given their geographic proximity to the conflict. While inflation has now started to come down, over two-thirds of economies in the CESEE region saw annual inflation hit 13% or above last year, with several countries seeing markedly higher price increases. By comparison, annual inflation in the euro area was 8.4%. Geopolitical tensions risk accelerating the second shift in the global landscape: weakening global trade. Since the global financial crisis, trade growth as a share of world GDP has plateaued. And we are also seeing rising levels of protectionism as countries reconfigure their supply chains to align with new strategic goals. Over the last decade, the number of trade restrictions in place has increased tenfold. The CESEE region, and Europe more generally, may be vulnerable to such a shift. Last year, trade as a share of GDP was higher than the euro area average for two-thirds of CESEE economies. And while other major economies, such as the United States, have seen trade as a share of GDP fall since the pandemic, in the euro area it reached a record high in 2022. A new foundation for strengthening resilience A changing geopolitical landscape means that, in the euro area and the CESEE region, we need to build a new foundation for strengthening resilience. This foundation rests on further deepening the European Union and its ties to the surrounding region. I see three key elements. The first is reinforcing openness within our region. Trade fragmentation could see the flow of goods and services increasingly being pulled towards different trade blocs, at the expense of countries outside those blocs. By leveraging our regional strength, Europe and the CESEE region can recreate some of the benefits of globalisation on a smaller scale. The euro area is already the main trading partner for most CESEE economies. And we can capitalise on this existing momentum. Between the year 2000 and last year, the share of euro area imports from the CESEE region increased from 5% to 10%. And the share of euro area exports to CESEE economies reached 11% last year, almost double that at the start of the millennium. Moreover, CESEE economies in particular can benefit from changing global trade patterns as companies seek suppliers closer to home. Survey evidence shows that firms in the CESEE region, and especially those based in the EU, are seen as highly reliable trading partners. The ECB also has a key role to play here as the guardian of the euro. Our monetary policy plays an important anchoring role for the CESEE region, as the euro is widely used in trade invoicing and financing. Euro cash also serves as an important store of value – demand for it surged in CESEE economies following Russia’s invasion of Ukraine. The second key element is increasing our collective security. Europe and the CESEE economies have already taken substantial steps to increase their energy security, given the dangerous historical reliance on Russian fossil fuels in their energy mix. In February 2022, the EU was importing around 36% of its natural gas from Russia. Within the space of nine months, that fell sharply to 13% as the EU reduced its gas consumption and diversified towards imports of liquified natural gas. Most, though not all, CESEE economies have also made significant progress in substituting energy imports away from Russia and in building up gas storage levels. But we cannot stop there. We need to accelerate our efforts to decarbonise and increase our energy independence. That is why initiatives that help to build renewable energy sources are so important – such as Next Generation EU and the EU’s recent energy support package for countries in the Western Balkans. The third key element is defending and spreading our common values. The attack on Ukraine was also an assault on European values – such as the respect for international law and human rights. That is why Europe has imposed unprecedented sanctions on Russia and provided substantial support to Ukraine following the invasion. To date, the EU has made available €38.3 billion in economic assistance and over €21 billion in military support. The strength of the EU’s response demonstrates not only its capacity for action, but also its appeal as a political project that others see the benefit of joining – what the West German Chancellor Konrad Adenauer once described as the “Magnet Europa” effect. The push for EU enlargement has recently gathered momentum as a consequence of Russia’s war. Last year, the EU granted Ukraine, Moldova and Bosnia and Herzegovina candidate status. And it launched the process to open accession negotiations with Albania and North Macedonia, while also becoming open to granting Georgia the status of candidate country, conditional on reforms. Conclusion Let me conclude. A series of shocks have dramatically changed the global landscape in recent years. And today, rising geopolitical tensions and weakening global trade mean that economies in the CESEE region need to build a new foundation of resilience. But the record of past crises has already demonstrated just how resilient CESEE countries can be. Despite an exceptionally difficult 2022, the prospects for the CESEE region are encouraging. There are clear structural strengths that stand to benefit CESEE economies in the medium to long run, such as well-educated workforces and strong ties with Europe. So the task at hand is how to channel that spirit of resilience to counteract these new uncertainties. And by leveraging our regional strength and further deepening our economic and political ties, I have no doubt that Europe and the economies in the CESEE region can flourish together. Thank you – and I hope you enjoy today’s proceedings.

Energy & Economics
LNG gas pipelines

The EU can manage without Russian liquified natural gas

by Ben McWilliams , Giovanni Sgaravatti , Simone Tagliapietra , Georg Zachmann

How can the European Union achieve its target of eliminating all Russian fossil-fuel imports by 2027?Executive summary The European Union has committed to eliminate all Russian fossil-fuel imports by 2027. Progress has been made, with sanctions on oil and coal already introduced. The glaring exception is natural gas, on which the EU has so far refrained from imposing limitations, owing to greater dependence on Russia. Nevertheless, pipeline gas imports have fallen by four-fifths following Russia’s weaponisation of gas supplies. However, Russia’s exports of liquified natural gas (LNG) to the EU have increased since the invasion of Ukraine. The EU needs a coherent strategy for these LNG imports. Our analysis shows that the EU can manage without Russian LNG. Anticipated impacts are not comparable to those felt in 2022 as Russian pipeline gas dried up. The regional impact would be most significant for the Iberian Peninsula, which has the highest share of Russian LNG in total gas supply. Meanwhile, the global LNG market is tight, and we anticipate that Russia would find new buyers for cargos that no longer enter Europe. We discuss the options available to the EU. Wait-and-see implies delaying any action until 2027, while soft sanctions would discourage additional purchases but not break long-term contracts. We argue instead for an EU embargo on Russian LNG, to reduce exposure to an unreliable and adversarial entity, and to limit the extent to which EU consumers fund the Russian state. The embargo may be designed to allow purchases only if they are coordinated via the EU’s Energy Platform, with limited volumes and below market prices. This could be accompanied by the implementation of a price cap on Russian LNG cargos that use EU or G7 trans-shipment, insurance or shipping services.  1 Introduction The European Union has a target of eliminating all Russian fossil-fuel imports by 2027. Swift progress has been made, aided by Russia’s own decision to decrease natural gas pipeline exports to the EU. However, the EU’s liquefied natural gas imports from Russia have remained remarkably stable. Discussions are ongoing about adding Russian LNG to the list of products banned from import to the EU (Table 1).  Throughout 2022, Russia cut natural gas pipeline exports to the EU steadily, but did not reduce exports of LNG, which had been much smaller in volume. In the year after Russia’s invasion of Ukraine, LNG exports to the EU were valued at €12 billion. Unless there is decisive change from the current situation, the EU could pay up to another €9 billion to Russia in the second year of the war (Demertzis and McWilliams,2023).   Accordingly, in March 2023, the European Union said it had started to develop a mechanism to allow member states to block Russian LNG imports. This would be done by granting permission to EU countries to block Russian companies from booking LNG import infrastructure. This is a similar approach to when Russian companies were prevented from booking gas-storage capacity in the EU that they were then intentionally leaving empty. At time of writing, this proposal is not finalised, and it is unclear how it would affect non-Russian companies that wish to book import capacity for the purpose of importing Russian-origin LNG.  In this context, we outline four different options available to the EU. In the first, ‘wait-and-see’, the EU would continue to import Russian LNG and would wait to introduce sanctions until the second half of this decade, when LNG markets are less tight. The second approach, ‘soft sanctions’, would entail a partial effort to reduce imports of Russian LNG without dramatically impacting long-term contracts that form the basis of much EU-Russia LNG trade. Under a full ‘EU embargo’ scenario, sanctions on Russian LNG would force companies to declare force majeure on long-term contracts and no Russian LNG would enter the EU. A fourth approach, ‘EU embargo with EU Energy Platform offer’, would see the bloc tear up the existing trade structure and return to the table as one entity to negotiate. This could be done through the new EU Energy Platform for joint purchasing of gas, which might make offers to purchase limited volumes of Russian LNG, which would be phased out over time, depending on the situation in Ukraine. This approach could be complemented by the introduction of a price cap on Russian LNG imports that rely on EU or G7 services, including trans-shipments, vessels and shipping insurance. To assess the options, we begin by providing an overview of the growing role LNG (including from Russia) plays in Europe’s gas mix. We assess the impacts on the EU of an end to Russian LNG imports, by evaluating quantitatively the impact on gas balances and storage, to identify whether the EU would manage without Russian LNG. In investigating the impacts on Russia, we discuss the nature of LNG exports from Russia to the EU, which are characterised by long-term contracts and the multi-nationally owned Yamal liquefication plant. Finally, we discuss the impacts of the options available to the EU on global LNG markets and Russia.  2 The growing importance of LNG Increased LNG imports, alongside domestic demand reduction, prevented the European Union from running out of natural gas during the peak of the energy crisis in 2022. Together, these measures enabled a remarkably smooth transition away from the EU’s historically largest supplier – Russia. Russian pipeline exports made up about 40 percent of the EU’s total gas supply prior to the invasion of Ukraine, but today account for less than 10 percent. In the year from 1 April 2022 to 31 March 2023, the EU imported 950 terawatt hours (TWh) less of Russian pipeline gas than in the previous 12-month period. The EU made up for the shortfall by boosting imports from other sources and reducing demand (Figure 1).   In 2022, the EU’s imports of LNG increased 66 percent year-on-year. The largest proportion of this growth came from the United States, while Russia is currently the second largest provider of LNG to the EU, though far behind the US. In the first quarter of 2023, Russian LNG exports to the EU were 51 TWh, accounting for 16 percent of LNG supply and 7 percent of total natural gas imports. The largest share of Russian LNG is imported through Spanish ports, while Belgian, Dutch and French ports account for most of the remaining volumes. We consider the Iberian Peninsula separately from the rest of the EU for our subsequent analysis because of the region’s relatively high dependence on LNG and because of the limited connections between the Peninsula and the wider European gas market. In the first quarter of 2023, the Iberian Peninsula imported 17 TWh of Russian LNG, or one quarter of total LNG supply and 20 percent of total natural gas imports to Spain and Portugal. Figure 2 plots EU LNG imports by supplier. The left panel shows the EU without Spain and Portugal and the right panel shows the Iberian Peninsula separately.   The nature of LNG imports means they pass through ports before distribution throughout the wider European gas grid. A country’s LNG imports do not necessarily remain there but may transit on to neighbouring countries. Contractual information on these flows is not publicly available, but we have estimated the relative importance of Russian LNG by country. Figure 3 shows these results for winter 2022-2023. According to our accounting basis, Russian LNG made up 18 percent of Spanish gas supply, 15 percent of French supply and 10 percent of Belgian supply.  Figure 3: Estimated shares of total gas supply to Russian LNG, winter 2022-23    3 EU gas balances without Russian LNG In the EU embargo scenario, all Russian LNG would stop flowing to the EU. This might also be the case in the EU Energy Platform offer scenario, and might happen irrespective of EU decisions if Russia chooses to block exports. We therefore assess the impact of an immediate halt to Russian LNG supplies by modelling the evolution of EU gas balances and storage, performing a separate analysis for the Iberian Peninsula and the rest of the EU (EU25). Scenarios begin with actual gas storage of 746 TWh in the EU25 and 36 TWh on the Iberian Peninsula as of 1 June 2023. We make assumptions about natural gas imports, with and without Russian LNG, based on the most recent flows (see Annex 2). In our baseline scenario, demand reduction would continue to be 15 percent below the five-year average. This is in line with the March 2023 Council of the EU agreement to maintain a 15 percent demand reduction target until March 2024, and recent observations of actual demand reductions (McWilliams and Zachmann, 2023). Figures 4 and 5 show our results.   Figure 4 shows that the EU25 will be well able to fill storage facilities over the summer months without any Russian LNG, with the only consequence being a slight postponement of the moment when storage reaches full capacity. While stored volumes will deplete at a marginally faster rate, the EU25 will also not face a substantial additional challenge to manage the winter of 2023-24.  It is notable that under both scenarios, storage would reach maximum capacity before winter months start to see draws on storage. The EU would be able to prepare better for winter 2023-24 if it had greater storage capacity. One area for exploration in this respect is the extent to which gas storage sites in western Ukraine could be used for storing excess gas that would benefit both the EU (largely eastern regions) and Ukraine.   For the Iberian Peninsula we assess three scenarios. Again, all scenarios assume that the 15 percent demand reduction target is met. In scenario A, all imports remain the same as they have in the past months (including Russian LNG), and the draining of gas storage facilities over the winter would be at typical levels, with the Peninsula comfortably managing. In scenario B, all Russian LNG flows would be halted and not replaced at all. In this scenario, storage facilities would run out by January.  We do not think scenario B is a serious possibility but include it for illustrative purposes only. In reality, Spain would replace lost Russian LNG cargos by purchasing on the global market. In scenario C, we show that this replacement rate would need to be 50 percent for the Peninsula to maintain reserves above 20 percent throughout winter, Spain should find alternative supply for one out of every two lost Russian cargos. We note also the possibility of increased pipeline imports from Algeria, although we do not include this in our scenarios because of ongoing diplomatic tensions. Therefore, while the EU25 would manage comfortably without Russian LNG, the situation on the Iberian Peninsula would depend on the ability to find alternative LNG supplies. As they are traded by sea, LNG cargos are somewhat fungible. If Russian LNG stops flowing to the EU, Russia will look to sell this LNG elsewhere at the same time as EU buyers look for alternative supply. In theory, the global market should rebalance with an additional layer of friction caused by less efficient trade routes. This would be similar to the impact of the EU’s Russian crude oil embargo (McWilliams et al, 2022). One limitation less present in the oil market is the volume of LNG, which is contracted under long-term contracts with fixed destination clauses, limiting the ability of markets to rebalance. However, the EU’s experience over the winter of 2022-23 suggests there is substantial flexibility in the market. Higher prices in Europe were well able to bring in additional cargos. The return of the Freeport liquefication terminal in the US also provides a boost. A fire in June 2022 stopped operations at the terminal, which had accounted for 20 percent of the US LNG export capacity. The plant’s capacity of 200 TWh per year matches Russia’s total 2022 LNG to the EU. In May 2022, the last month before the fire, the plant shipped over half (10 TWh per month) of its cargo to the EU. We consider that the EU is likely to be able to find cargos to replace Russian ones.  4 Russian LNG exports without the EU In any scenario in which Russian LNG stops flowing to the EU, the impacts on global markets and Russian revenues will depend on Russia’s ability to redirect cargos. If Russia is not able to redirect cargos, the extra demand from the EU in the market will have the effect of pushing up global LNG prices in a competition for a temporarily tighter supplies of global LNG. In 2022, Russian LNG exports to the EU amounted to 197 TWh, or 44 percent of Russia’s total LNG exports. Exports to China accounted for a further 20 percent, and the rest of the world 36 percent. Figure 6 shows the evolution of these shares over the past three years.   Tight LNG markets mean that there is likely to be demand for Russian LNG, especially if it can be contracted at a discount to global prices. The experience of the EU’s crude oil embargo shows that Russia was able to find new buyers without difficulty as demand from the EU and G7 was withdrawn.  One peculiarity is the trade route a Russian LNG carrier must take. Much of the European LNG demand is served by LNG plants on the Yamal peninsula on the northwest Siberian coast. In summer months’ ships travel east to Asian markets where demand may be found for cargos no longer flowing to the EU. However, during the northern hemisphere winter – when LNG demand is typically higher – passing through the Arctic Circle is typically not possible. LNG carriers would have to embark on a substantially longer route via the Suez Canal, with higher costs. This route also involves trans-shipment via terminals in the EU, most notably Zeebrugge in Belgium (Figure 7) and the French terminal Montoir-de-Bretagne. Ships departing from Yamal unload LNG at Zeebrugge into storage or directly into different ships, in which it is then transported to Asian or other global markets. This trade is critical for smoothing year-round export from Yamal to Asian markets. Total volumes are significant, accounting for 12 percent of Yamal LNG exports in March 2022, and 38 percent of exports that were destined for Asian, Middle Eastern or South American markets. The trade is governed by a long-term contract that began in December 2019, allowing for up to 110 TWh per annum. The additional cost for Russia to re-direct cargos would depend on whether these services were still feasible in a scenario in which direct Russian LNG trade with the EU ends. Russia is also developing its own abilities for trans-shipment via domestic ports, including Murmansk.   BOX 1: Status of EU-Russian LNG trade  Exports to the EU from Russia mainly depart from the Yamal LNG terminal. The terminal has an export capacity of 16.5 million tonnes LNG per annum (235 TWh). The ownership of the terminal is a joint venture between Novatek (50.1 percent), Total Energies (20 percent), China National Petroleum Cooperation (20 percent) and the Silk Road Fund (9.9 percent). Over 90 percent of the exports from the Yamal terminal are covered by long-term contracts (Table 2). To attract this foreign investment into the Yamal LNG terminal, the Russian government provided a temporary exemption for exports from export duty and mineral extraction taxes. Firms that export from the terminal do pay a 34 percent tax on profits (Corbeau, 2023).)   The terms of these contracts are not publicly available, and therefore we do not have information on the prices paid for these LNG cargos. Typically, contracts will contain a weighted lag of regional or global natural gas pricing indicators. The exact terms of the contract are relevant for assessing the impact of sanctions, as they will determine the lost export revenues when compared to the ability of Russia or Novatek to resell unwanted cargos on the spot LNG market.   5 Options for the EU The EU’s target of phasing out Russian fossil-fuel imports by 2027 implies that long-term contracts will be interrupted before their end dates. Until they are interrupted, Russian LNG cargos cannot be considered a reliable component of the EU’s security of gas supply and the EU should work under the precautionary assumption that these flows might stop at any time. In the first scenario, wait-and-see, the EU would continue to turn a blind eye to Russian LNG imports. Global natural gas markets should be better balanced in the second half of the decade as a new wave of liquefication projects come online. As the EU approaches its 2027 deadline for ending Russian fossil-fuel imports, an embargo could be discussed. This option is a cautious one and refrains from testing tight global LNG markets. However, it implies that EU consumers continue to send billions of euros to Russia for LNG. A soft sanctions scenario, meanwhile, would discourage and ultimately prevent imports of spot LNG from Russia. It would also stop the renewal of expiring contracts and the signing of any new LNG contracts with Russia. At the same time, companies do have some flexibility over the volume of gas they import under long-term contracts, and could be encouraged to keep these volumes as low as possible. However, the scenario would not break the existing long-term contracts. Consequently, the EU would continue to import significant volumes of Russian LNG, while disruptions to the global market would be limited. This scenario is closest to our interpretation of the proposal that, at time of writing, has been put forward to the European Parliament, and which would prevent Russian companies from booking LNG-import capacities. A more significant move would be for the EU to explicitly sanction the import of Russian origin LNG (our EU embargo scenario). This would force importing companies to declare force majeure and exit existing long-term contracts. Consequently, the EU would cease to import Russian LNG and our analysis shows that the bloc would manage such a disruption. There would, however, be an impact on global LNG markets. The export of Russian LNG to the EU accounted in 2022 for a little over 3 percent of the total market, which would be the maximum supply shock. Any temporary increase in global prices would be determined largely by the ability of Russia to redirect cargos eastwards. An alternative approach, EU embargo with Energy Platform offer, might be facilitated by the EU’s new Energy Platform. The platform was initiated in April 2022 as a joint purchasing mechanism for the EU. In the first tender, 63 companies submitted requests for a total volume of 120 TWh of natural gas. The platform would be suitable as an EU vehicle to coordinate purchases of Russian LNG. After terminating existing long-term contracts with Yamal LNG, the EU as a bloc could then offer to purchase Russian LNG at a lower than market price, which may be revised, depending on the evolution of the situation in Ukraine.   This coordination mechanism would provide a pathway for the termination of long-term contracts that run post-2027, while smoothing any bumps to the gas market caused by the gradual phase-out of Russian LNG. It would also allow the platform mechanism to distribute volumes to areas of greatest need. There is no guarantee that Russia would wish to engage with such a strategy, and Russia might prefer to refuse any LNG exports to the EU. Russia’s compliance with the oil price cap, following an earlier declaration that it would be ignored, does however suggest cooperation may be forthcoming. Based on economic logic alone, geographical proximity implies that Russia should be willing to accept a discount on exports to the EU market. In any case, pursuing this fourth option must only be done on the basis that the EU is ready for a full termination. Beyond imports, the EU also faces a decision on the future of Russian LNG trans-shipment via EU ports. These trans-shipments are important for Yamal LNG to reach global markets, especially during winter months. Limiting these trans-shipments would be an even more aggressive step. It would increase the difficulty for Russia to re-route LNG cargos, but likely exacerbate global LNG tensions. The EU might consider a temporary tax or price limit on cargos using such trans-shipment facilities. In recent years, construction has been underway on two new terminals to facilitate trans-shipment in Russia. While trans-shipments are already taking place at the port of Murmansk in Russia, the exact capacity of the terminals and whether they are already able to replace all the volumes passing through Zeebrugge is not clear. It is possible that technology sanctions may have had an impact by delaying projects.  Such a strategy could be expanded into a full price cap on Russian LNG traded with third countries. In similar fashion to the trade in crude oil, EU and G7 members have significant control over the ownership and insurance of the ships used to transport Russian LNG. Between January and May 2023, all ships were insured by, and over 90 percent were owned by, companies resident in the EU or G7. One complication with imposing a price cap on LNG trade is that it is typically governed by long-term contracts with prices determined by a fixed formula. The price-cap mechanism therefore may not be appropriate for all Russian LNG exports but could be applied to exports from Yamal that may be sold on the spot market in a scenario in which an EU embargo puts an end to existing long-term contracts.  At the same time, the EU is yet to introduce sanctions on Russian pipeline gas imports and continues to import Russian gas by pipeline at roughly comparable volumes to LNG. These pipeline imports could be negotiated through the Energy Platform. Such a strategy would provide a European tool for exerting pressure on Russia, in the context of the EU’s ambition to develop strategic autonomy capabilities. The strategy has a clear aim of reducing dependency on an adversary and of phase this risk out gradually over time, while approaching the situation from a position of relative strength.  6 Conclusions LNG has become a crucial element of Europe’s security of energy supply. Flows from Russia have formed an important part of this for the past 18 months. However, the EU must now seriously assess whether this trade has a future. The possibility that Russia unilaterally blocks exports of LNG to the EU remains, and the EU must be prepared for such a risk. Moreover, the EU should consider sanctioning Russian LNG. Continuing the trade implies that European consumers will continue to send money directly to Russia and will remain dependent on an unreliable entity. Our analysis has shown that the EU would manage without Russian LNG. Impacts over the summer months should be very limited, while winter months may see marginal price increases. The extent of these price increases depends on the overall tightness of the global LNG market, which determines the premium EU markets must pay to attract flexible LNG cargos. The impact of an end to Russian LNG would not be comparable to the shocks caused by the drop in Russian pipeline gas flows in 2022. Meanwhile, Russia is likely to be able to re-route a large share of its LNG cargos. In the short run, there may be frictions in finding new buyers, especially during winter months, depending on the situation regarding trans-shipments in Europe. Ultimately, new buyers will step in for LNG cargos, as shown by the shift in Russia’s oil trade. The introduction of a price cap for access to EU or G7 controlled trans-shipment facilities, vessels and shipping insurance would increase the difficulties for Russia in re-routing. Nonetheless, the volume of the trade implies that sanctions will not have the same impact as the oil embargo and price cap in terms of reduced revenues for Russia. Given that the EU will be able to manage the shock, and that a scenario of inaction or limited sanctions implies that EU consumers will continue to fund the Russian state, and by extension the Russian war effort, we argue that the EU should bring forward a full embargo on Russian LNG. An embargo would also reduce exposure to an unreliable and adversarial entity. The embargo may be designed to allow purchases only if they are coordinated via the EU Energy Platform. Dealing as a bloc with Russian LNG would maintain the EU’s strategic position, allowing it to wind down imports in line with the 2027 target. Moreover, offers could be made to purchase Russian LNG at below market prices, with the accompanying threat or actual introduction of a price cap.

Energy & Economics
Natural gas tank in the Refinery industry


by Pavel Sergeev

Annotation        The systems of aggregation of demand for natural gas and its joint purchases in the EU are considered from the point of view of the impact on contractual relations in the international trade of natural gas, an assessment of their impact on regional and global energy supply is given KeywordsEuropean Union, AggregateEU, Russia, global climate change, anti-Russian sanctions, energy-intensive industries, international law, gas supply, LNG  In the modern world, various natural disasters occur almost weekly, primarily due to the consequences of global climate change. At the same time, their negative impact on the world economy will gradually increase in the future. This objectively worsens the economic and financial situation of the States directly affected to varying degrees, and in many cases the socio-economic situation there also deteriorates. Since the modern world economy predetermines the high interdependence of states, the constant accumulation of negative factors begins to have a negative impact on all participants in international economic relations.The deterioration of the economic and social situation also leads to political instability. At the same time, political events are increasingly taking place, the appearance of which previously seemed simply incredible - for example, the intention to reunite the Orkney Islands with Norway or the solution to the problem of hunger in Africa based on the intensification of abortion.The current stage of development of regional gas markets is characterized by certain features. The specificity of the situation in the gas supply of the European market is a significant fragmentation of parts of broken supply chains, the creation and improvement of which has been spent for more than 50 years.At the same time, political forces interfere in the most complex mechanisms for the formation and implementation of contractual relations between suppliers and consumers of gas, which do not sufficiently take into account the specifics of gas as an energy carrier and a commodity of international trade. If we add to this the numerous bureaucratic innovations of the European Commission, then the subjects of the EU gas market objectively cannot form guidelines for their long-term development, and this, in turn, negatively affects long-term investments.This is critically important, since gas trade is characterized by the need for huge and long-term capital investments, primarily for its transportation and storage. At the same time, hopes pinned on a regional energy transition with a corresponding reduction in hydrocarbon fuels are not justified even in the short term.Both the efficiency of the functioning of the national economy and the reliability of energy supply to consumers based on renewable energy sources are doubtful. All this is happening in the context of aggravating negative problems in the development of the world economy, a high probability of unexpected political events, and a deteriorating state of the environment.As for the expected decline in prices for energy products supplied from Russia under the influence of sanctions, it turned out that they, first of all, changed the structure of oil and gas imports to the European Union, as a result of which prices for them objectively began to rise.Economic practice has shown the futility of using anti-Russian sanctions for these purposes. In addition, anti-Russian sanctions in the context of the destruction of the system of international law objectively led to the destruction of the system of long-term contracts and, consequently, to an additional increase in prices.In April 2023, the EU bureaucracy finally began to gradually formalize the cartel principles of relations between regional buyers of natural gas and its sellers. It is obvious that the main goal of the proposed aggregate demand and joint purchases of natural gas is, first of all, the formation of a coordinated negotiating position to put pressure on gas suppliers in order to reduce prices.  In addition, the interest in expanding gas imports using the new principles implicitly confirms the recognition of the fact that the idea of focusing on the widespread use of green electricity is increasingly becoming questionable.By proposing a new form of preparation and conclusion of gas contracts (AggregateEU), the EU bureaucracy presents it as a means of increasing the transparency of transactions and forming new forms of cooperation (Regulation 2022/2576), as well as an important means of increasing the level of security of consumer security (Regulation 2022/1032). This highlights the particular benefits of aggregation for small companies or companies from landlocked countries (i.e., those with no potential access to LNG). However, in modern contracts for the purchase and sale of gas, everything is very obvious.  As for the development of new forms of cooperation, in gas supply, the aggregation of demand will further complicate the problem of contractual distribution of responsibilities of the parties.It should be noted that the mandatory aggregation of demand applies only to 15% of the volume of gas storage facilities of the EU member states, including those that do not have them on their territory. Surprisingly, gas storage facilities, the main purpose of which is to secure the gas pipeline network in conditions of peak levels of daily gas withdrawal (usually winter), are perceived by the European Commission as ordinary storage tanks (Regulation 2017/1938).Meanwhile, with regard to gas supply, now the second, summer peak of energy consumption has finally formed in the region. This means that with sharp fluctuations in weather conditions characteristic of modern climate change, their extremely negative consequences are possible both in winter and in summer. It will now be almost impossible to resist them, since for many consumer countries, a reliable and large-scale source of energy - pipeline gas from Russia - has been largely lost.It is important to note that a characteristic feature of the above-mentioned documents is the possibility of multivariate interpretation of their articles by buyers, which means in the future the uncertainty of their potential contractual obligations and, accordingly, the orientation of gas exporters mainly to spot supplies.That is why economic practice shows that the most far-sighted importers of natural gas in the EU countries are not going to lose a reliable and profitable source of gas supply, which based on the existing long-term trade and economic ties. Thus, in July 2023, the Austrian oil and gas company “OMV” confirmed its intention to continue purchasing natural gas from Russia on a long-term basis, and Spain became the European leader in the import of Russian LNG.Naturally, the energy-intensive industries of those EU countries that have lost access to reliable and cheap supplies of natural gas from Russia have finally lost their competitive advantages.Thus, the ideas of the European Commission on reforming the regional natural gas market on the basis of aggregate demand and joint purchases can be relatively successfully implemented only in terms of spot supplies. Moreover, LNG exporters, for whom the market of China and other rapidly developing Asian countries is more attractive in terms of volumes and prices, as well as in terms of stable long-term prospects for gas consumption growth, are likely to avoid direct contracts with buyers from Europe, preferring intermediaries. And this, naturally, will lead to an additional increase in regional prices.It is obvious that in order to really improve the situation with gas and energy supply to the EU countries, it is not bureaucratic exercises in the field of export-import operations that are required, but the integration of main gas pipelines with the subsequent creation of a unified gas supply system for the region.As for the global natural gas market, the impact of European "innovations" on it will be insignificant. It is obvious that the majority of modern politicians in the European Union are not sufficiently aware of the peculiarities and scale of changes in the global and regional economy. As before, external threats seem more dangerous to them in comparison with accumulating internal ones.However, it is the deterioration of the regional economic situation in the foreseeable future that will lead to the loss of effective access by the EU countries to global export flows of natural gas.