Could the West do a deal with Putin to keep the lights on this winter?

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Power in his hands: Vladimir Putin denies Russia is using its gas supplies as a ‘weapon’ over the West - AFP
Power in his hands: Vladimir Putin denies Russia is using its gas supplies as a ‘weapon’ over the West - AFP

The message was delivered with the kind of knowing shrug that only a long and successful career in the KGB can really train you for. Speaking at an energy conference in Moscow on Wednesday, alongside the chief executives of Exxon Mobil, BP, and Total, the Russian President Vladimir Putin was quick to deny that his country was using its control of Europe’s gas supplies to advance his nation’s own interests. “We’re not using any weapons,” he said, a trademark steely glint in his eye, dismissing talk of geo-strategic blackmail as “politically motivated blather”. On the contrary, he was, the President insisted, making sure gas supplies were stepped up. If there were any problems, they were all the fault of someone else. Russia was here to help its neighbours.

Well, up to a point. There is no question that Europe is gripped by an energy crisis as severe as any it has faced since the 1970s, and that the UK is right in the thick of it. Prices are soaring. Energy firms are going bust. There is talk of factory closures, three day weeks, and rolling blackouts.

In the background, and whatever his denials, Putin, a political leader well versed in the dark arts of manipulation and great power politics, has levers at his disposal and won’t hesitate to pull them. When he denies using gas supplies as a weapon, one thing is for certain. That is precisely what he is doing. They are as much of an instrument of war as his country’s tanks, mortars and missiles ever were. And they are pointed at precisely the same place – the heart of the West.

In truth, we are in the middle of a ‘gas shock’ that is likely to be as profound as the ‘oil shock’ that reshaped the world in the 1970s. For the Government, as for governments across the continent, the questions are about to come thick and fast. How did we get into this mess? How can we get out of it? And perhaps most of all, what price are we willing to pay to keep our lights turned on, our homes and public buildings warm and factories open?

The UK and Europe’s energy crisis has been years in the making. Over the course of the past year, wholesale gas prices have risen more than fivefold. On some days of frantic trading, prices have been soaring by 20 or 30 per cent in a single session, a sign of a market under severe stress. The reason? The switch to cleaner, renewable energy, while welcome in itself, has meant that demand for gas, viewed by policy-makers as a reliable, not-too-dirty transitional fuel, has been steadily increasing.

The massive size of stimulus programmes around the world as we recover from the Covid pandemic has translated into vast and unexpected increases in demand. A lack of wind has meant that renewable energy has not been as plentiful as expected, and gas is being used as a back-up. Meanwhile, China, along with much of the developing world, has been absorbing huge quantities of gas to fuel its constantly expanding industrial machine.

The development of liquified natural gas (LNG) transported around the world on huge container ships has created a global market very similar to oil. Most of the demand comes from Asia, with Europe largely an afterthought, but the trouble with being an afterthought is you don’t have much security of supply. And in the background, Russia, the only country with sufficient reserves to make a real difference to the market, is widely believed to have been holding back supplies, both to maximise its leverage with the West, and to remind everyone just how much the continent still relies on plentiful supplies of its energy. The result? A supply crunch, with soaring prices and bottlenecks throughout the system.

Britain has been hit especially hard. We have run down our reserves of gas to a mere four-five days of supply, far less than most of our continental rivals. “Pathetic really for a nation as important as the UK,” said Sir Jim Ratcliffe, the billionaire industrialist, tersely in a television interview this week. When we closed down storage facilities we still had back-up supplies from the North Sea; we could buy extra gas relatively easily on the world market whenever we needed it; and we had rising alternative energy sources that could be ramped up if necessary. At the same time, we ran down nuclear capacity, while France was still ramping it up, and our commitment to combating climate change made it virtually impossible to reopen coal mines. The British state has been caught out as hopelessly unprepared as this crisis deepens.

Granted, there is some bad luck in the process. No one could have predicted so many factors all coming together to put pressure on supplies at the same time, but a crisis is always at least in part bad luck. The point is to be prepared for the worst, not simply to hope for the best. The UK failed to do that. “Everything will depend on the weather,” says Laurent Ruseckas, executive director of analyst firm IHS Markit. “When it is really cold Russia needs a lot more gas, and that impacts on its ability to supply Europe.”

Putin has levers at his disposal in the form of gas supplies and won’t hesitate to pull them - AFP
Putin has levers at his disposal in the form of gas supplies and won’t hesitate to pull them - AFP

There are plenty of big producers of gas. The US, Norway, and Qatar are all major exporters. But it is Russia that holds a quarter of the world’s entire proven supply and a network of pipelines that makes it the crucial player. In private, ministers and officials concede that since Russia is the world’s largest exporter, the amount it puts onto the market affects the global wholesale price, and some already believe that that is being turned into political leverage. Defence Secretary Ben Wallace told The Telegraph last week that energy was being used as a “weapon” by foreign states, although he was careful not to point the finger directly at the Kremlin, while the Tory frontbencher Lord Agnew of Oulton this week went further, arguing outright that soaring energy costs were the result of a “geopolitical move” by Russia to put pressure on Europe.

We are less vulnerable to that than some of our neighbours. Unlike mainland Europe, Britain does not rely on Russia for physical supplies of gas. The vast majority in the UK comes from British territorial waters, with the rest from reliable import partners such as Norway, Qatar and other nations in the Middle East, while less than 3 per cent comes from Russia. “Very little physical Russian gas comes to the UK because it makes no sense to transport these molecules all the way from Russia to the UK in the absence of certainty provided by medium or long-term contracts,” Katja Yafimava, senior research fellow at the Oxford Institute for Energy Studies, told The Telegraph.

Officials agree. “We are not dependent on Russian oil or gas whatsoever. There is no concern about security of supply. This is a question of high global gas prices,” a senior government source told The Telegraph. “Europe gets about 41 per cent of its gas from Russia. They are massively exposed to the threat of leverage from Moscow. The UK is fortunate enough to have sovereign access to gas reserves in the North Sea in the way that many European countries don’t, so we are far more insulated than our European partners.”

Officials may be breezily optimistic, but that is not the whole story. While the UK imports relatively little gas from Russia right now, the latter’s decisions to a large extent determine the global price, and that in turn determines whether Britain can buy the supplies it needs from anywhere. Even worse, right now, there is very little that anyone can do to get out of the situation. “On the supply side, there is not much Europe can do,” argues Simone Tagliapietra, a senior fellow at the Brussels-based Bruegel Institute.

How bad will it get? “We expect the price to rise as a consequence of tight supply,’’ says Tom Marzec-Manser of the energy consultancy ICIS. “And that will be the main way that the market copes with the issue. We have already seen some industrial shutdowns in Europe as prices rise and we could see more of that. Once that happens, demand will start to fall.” And yet if that doesn’t work, then no one really knows for sure right now what will happen.

It is easy to start sketching out doomsday scenarios. We could see shutdowns, with heating and gas stoves turned off; pensioners could die of the cold, while the rest of us put on extra coats, and heat up our dinner in the microwave, assuming the electricity network is still running. In reality, it probably won’t get to that point. As a first option, the Government could start restricting supply to industrial users, which accounts for up to 20 per cent of overall demand. Industries such as chemicals, paper, packaging and building materials, all big energy users, could see factories put on three-day weeks. After that, schools and offices could also be put on a three-day week to save energy, and so could retailers (a shopping mall takes a lot of heating in winter), and then possibly closed completely. That would take a huge amount of pressure off the system. After that, there could be the kind of staggered blackouts we saw in the 1970s, designed to eke out meagre supplies through the winter. It wouldn’t be great. But it would mean the heating would keep running for most families.

But this would still be a catastrophe for the government. The last Prime Minister to put the country on a three-day week amid an energy crisis was the man who took us into the European Union, Sir Edward Heath. Historians might see a certain irony in the symmetry of the one who took us out of the EU, Boris Johnson, repeating that humiliation. But few people would find it funny and it would destroy any reputation of basic competence. In these circumstances, could Johnson be tempted to ever strike a deal with Putin to keep the lights on?

It is already not hard to detect a certain thawing in Britain’s relations with Russia. Roman Abramovich, the billionaire owner of Chelsea Football Club, has been seen at the team’s games again, after an 18-month gap amid visa issues. We have heard less and less about the outrageous poisonings on British soil. Is the ground being softened up for an ‘arrangement’, to put it politely, that sees Russia ship extra gas to the UK?

“Everyone talks about the potential political lever,” says Ruseckas. “But the idea is preposterous. Who do you sit down and talk to, and what do you demand? It is just not how things work.” Well, perhaps. But if it came to not having a choice, having exhausted our supplies and not being in a fit state of preparedness what would a deal look like?

As it happens, the UK might have a few cards up its sleeve. We could quietly back off condemnation for Russia’s military and strategic adventures in the Crimea and Ukraine. Regulators have been trying to wash suspicious Russian money out of the City for years, with ‘unexplained wealth orders’, with Russian companies quietly blocked from listing their shares on the London market, and with the banks forced to be a lot more circumspect about accepting even the largest deposits. A Russian economy that is booming on the back of soaring energy prices – the Moscow stock market, not very surprisingly, hit all-time highs this week – will need a major financial centre to process all the money it is raking in. London would be the obvious candidate, if regulators could be persuaded to back off a little. That would be worth something to the enormously wealthy Putin and even more to his cronies.

Even leaving aside the concessions that sound like a sub-plot from a John Le Carré novel, there is still plenty Britain could do to persuade the Russians to sell us more gas. Russia has very few trade deals around the world, and Britain has backed off from negotiating one, in part because of Russia’s poor reputation, but mainly because we have been too busy working on post-Brexit deals with Australia, Japan and the US. But Russia would desperately like one, if only to help integrate its economy into the Western world; it could set a precedent for other deals.

What would really convince Russia would be long-term gas supply contracts, with the fossil fuel guaranteed a place among the mix of energy resources for years to come. Some of Gazprom’s gas arrives in the UK as LNG, and there are capacities at British gas terminals for additional supply, while some of it comes as piped gas, which travels in pipelines from the continent. Gazprom, the largest Russian energy supplier, typically signs take-or-pay long-term contracts with its customers in Europe, meaning that the buyer commits to purchase a certain amount of gas every year even if it realises later that it doesn’t need that much, while Russia offers a stable price less dependent on market fluctuations.

Putin has said that Gazprom could boost supplies to help ease shortages, but at what price? - Bloomberg
Putin has said that Gazprom could boost supplies to help ease shortages, but at what price? - Bloomberg

“If the UK buyers were to sign medium to long-term contracts with Russia, that would provide them with some insulation against extreme price volatility,” says Yafimava. It would be a risky gambit. “No one is going to want to sign one of those deals right at the top of the market,” cautions one energy market insider. “But if you were willing to commit to four or five years, the Russian suppliers would probably find you some gas even though it would be expensive.”

Put it all together, and Britain might be able to put together a package that is attractive enough to persuade Russia to sell us just enough gas to keep the country running. Of course, we are still a long way from that point. Ministers are not even considering it right now. It would leave us dangerously exposed and the UK is determined to make a success of the Cop26 climate summit later this month.

“Russia’s main priority will be Russian consumers,” says Marzec-Manser. “As they meet that, and as they refill their own storage, will they increase supply onto the global spot market? We may start to see that as we head into November and that will help the market calm down.”

That will certainly be a relief to everyone. The weather may well be mild throughout the winter, which, as Kwasi Kwarteng told business leaders this week, would ease demand. Extra supply may turn up if factories in Europe close simply because energy prices are ridiculously high. A recession in China, by no means impossible with its property market wobbling, would reduce demand even further.

Something may turn up at the last minute, as it often does. If it doesn’t, however, the British economy will be in real trouble, and the Government with it.

Additional reporting by Lucy Fisher and Nataliya Vasilyeva

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