Putin's Last Chance: Europe has minimised its dependency on Russian gas, but the Kremlin still has room for blackmail

Europe has achieved a significant milestone by reducing its reliance on Russian gas to below 15% of its consumption this year, including the use of liquefied natural gas (LNG). However, the International Energy Agency has warned that the Kremlin still possesses the ability to use its remaining gas exports as a means of blackmail. Even with LNG imports factored in, Europe's level of dependency on Russian gas continues to pose a threat to its energy security. If faced with a colder winter and disruptions in pipeline gas supply, coupled with reduced LNG deliveries, the region's storage levels could reach critically low levels by the end of the heating season. This could trigger a new price shock, as replacing the remaining Russian gas in the European market would prove exceedingly challenging, given that all available reserves have already been allocated. Surveys indicate that European consumers have, to some extent, adapted to the inconveniences and price fluctuations of last winter. This suggests that a potential new price shock may not have a severe impact on their sentiments. However, should Europe face a second harsh winter, weariness from the ongoing energy struggle could escalate rapidly, potentially bolstering far-right political factions. Therefore, Vladimir Putin still retains space for gas-related blackmail, particularly as the overall price surge in such a scenario could partially offset Russia's losses in the European market.

According to the latest gas market review by the International Energy Agency, OECD countries reduced their pipeline gas exports from Russia by a substantial 65% during the first half of the year, which is equivalent to 38 billion cubic metres. Europe's primary energy source has shifted from Russian pipeline gas to LNG. In the 2010s, the average share of LNG in European consumption was approximately 12%, but it has now surged to 35% (approximately the same level as pre-war Russian pipeline gas). However, Russia's growth in LNG exports to Europe has been modest, with the International Energy Agency estimating an increase of only 5%, or 500 million cubic metres, during the first half of the year. The United States is now the leading supplier of LNG to Europe. As a result of this shift, even with LNG factored in, the share of Russian gas in European consumption this year could be less than 15%. Nonetheless, experts warn that such a level of dependency on Russia could still create challenges for Europe, particularly if it experiences a colder winter than last year.

Experts from the International Energy Agency caution that the primary threat to European energy security is still the potential shutdown of Russian gas supplies through Ukraine and Turkey. At present, European storage facilities are filled to approximately 90% capacity, and according to the agency's forecast, they will reach nearly full capacity by mid-September. If the upcoming winter is mild and LNG deliveries to Europe remain at 2022 levels, the storage facilities would be at an acceptable 50% capacity by the end of the heating season, even if Russia stops pipeline gas supplies (creating a deficit of approximately 10 billion cubic metres). However, in the case of a colder winter, storage facilities would only be at 25% capacity. Moreover, when the storage levels dip below 30%, the ability to extract gas from them diminishes due to insufficient pressure.

Spot gas prices in Europe stabilised during the first half of the year, experiencing a 50% decrease compared to the previous year's corresponding period. However, the prospect of a cold winter and reduced supplies from Russia may trigger a new price shock. Other energy experts, surveyed by the Financial Times, have expressed concern that Russia will halt pipeline gas supplies and reduce LNG deliveries. The main challenge lies in finding suitable replacements for the remaining volume of Russian supplies. Their assessments suggest that achieving such replacements would be considerably more difficult than the initial replacements already accomplished.

According to experts from the Bank of Italy, the full effects of last year's sharp price increases are only now becoming evident in the European economy, as revealed in an article published on the CEPR website. Assessing the influence of these sudden gas price spikes on macroeconomic indicators has proven challenging due to significant time lags in statistical data updates, typically occurring monthly or quarterly. To understand the correlation, the authors employed a probabilistic statistical model that factored in supply shocks since the early 2010s along with macroeconomic data from the same period. The results of their analysis showed that in the month of a price shock, inflation does not promptly react with high probability. However, it steadily increases in response to the shock, reaching its peak roughly two years later. A similar pattern emerged with industrial production: the effect of a price shock is not immediate but rather takes about a year to materialise. According to the economists' model, a 5% increase in gas prices could lead to a 0.2% rise in consumer inflation and a 0.6% decline in industrial production.

Surveys indicate that, in general, European consumers have adapted to the inconveniences and costs of last winter. Economic sentiment in Europe has seen some improvement, suggesting that the new price shock might not significantly impact Europeans' attitudes or lead to a withdrawal of support for Ukraine. However, if Europe were to face a second harsh winter, weariness from the ongoing conflict could intensify, potentially strengthening far-right political parties and increasing their support base. Thus, Vladimir Putin still retains some room for gas-related blackmail, especially when considering that the overall price surge in such a scenario partially offsets Russia's losses in the European market.

According to data from Refinitiv Eikon, as reported by Reuters, Russia delivered 12 billion cubic metres of LNG to Europe and 7 billion cubic metres to Asia during the first half of the year. This represents a comparable volume to the previous year's European deliveries, with around 9.6 billion cubic metres sent to Asia.