Azerbaijan’s interest in the Eastern Mediterranean is rooted in its desire to export gas to this important market, following the full implementation of the EU-backed Southern Gas Corridor (SGC). The SGC is comprised of the Trans-Anatolian Natural Gas Pipeline (TANAP), its Eastern component, and the Trans- Adriatic Gas Pipeline (TAP), which follows to the West. At the same time recent Turkish-Russian tensions have prompted Ankara to accelerate work on both pipelines in order to diversify export routes away from Moscow, the European Commission’s approval of an agreement between the Greek government and TAP has brought forward the possibility of allowing a new gas pipeline to enter Europe. In spite of its initial modest capacity—10 billion cubic meters (bcm) annually by 2019 - the Azerbaijani government believes that the TAP pipeline can bring important benefits to the Eastern Mediterranean gas market. Azerbaijan’s gas exports to Italy via TAP will increase competition among existing gas supply sources for the country. This is likely to reduce prices, enabling consumers to earn the benefits of gas market liberalization. Furthermore, Azerbaijan will play a role in developing the Albanian and Greek gas markets. Based on a plan to gasify Albania, Azerbaijan will set up the national gas grid in Albania and further establish underground gas storage facilities. For Greece, by acquiring a share of national gas distribution network, Azerbaijan has taken on responsibility for building up gas network capabilities with the possibility of additional energy investments in the country.
Meanwhile, Azerbaijan sees increasing TAP’s functionality as a way of reaching small market shares based on available volumes of gas. This strategy is a kind of revival of the Nabucco West project; not in terms of volume of gas, but in terms of benefiting more countries in Europe, using existing interconnectors. In this regard, there are 2 interconnectors; one is the Azerbaijani gas supply to Bulgaria through the Greece-Bulgaria interconnector (IGB). Based on an agreement between Greece and Bulgaria, construction is expected to start in the latter half of 2016. In the other direction, the Ionian Adriatic Pipeline (IAP) will serve as a continuation of TAP export possibilities from Albania to Croatia, with the aim of establishing a new supply route to the Adriatic coast. The interconnector chain for TAP is not limited to the abovementioned. It could also reach other interconnectors based on the availability of gas; this strategy could mean not only exporting gas to small markets but also boosting integration and interconnectivity of regional gas infrastructure. This is in line with the EU’s larger supply diversification plan. The Eastern flank of the SGC’s development, i.e., TANAP, holds significant importance in that it has enabled Baku to move forward on the development of a gas pipeline from Turkish territory, which in its initial phase has been an Azerbaijani and Turkish project. While its functionality is not limited to exporting Azerbaijani gas to European markets, TANAP can also play a role in the diversification of Turkey’s gas market by securing additional gas. From the Azerbaijani perspective, the challenge for both the Western and Eastern flanks of the SGC development is that to varying degrees they suffer from their relative lack of political influence when it comes to keeping major Western energy companies involved. This is because of the financial investment required by both projects - the declining oil prices are causing energy companies to turn away from taking on any financial burden in such a high budget project. However, most of the TANAP funding has been secured, according to the Azerbaijani government, though bank loans with long-running credit lines are still needed for both projects. Beyond the financial burden of the project, another challenge is the Russian factor, which in recent years has threatened the SGC’s development. The other issue in this regard is the dilemma around securing additional gas sources to strengthen the importance of the Southern Gas Corridor for the European gas market.
Russia's growing capacity to halt the Southern Gas Corridor in its tracks
In selecting the Trans-Adriatic pipeline export route for Azerbaijani gas to Europe by the Shah Deniz consortium in 2013 over the Nabucco West gas pipeline, one of the determinants for official Baku was “bypassing Russia" - i.e., not being a market competitor in the same geographical area. Bypassing Russian territory has been part of Azerbaijan’s energy strategy since the 90’s, when it developed the Baku-Tbilisi-Ceyhan oil export route as a way to shore up its credentials as an independent player both politically and economically. In both cases, the Russian factor is part of the geopolitical reality. In the latter instance, Baku’s gas strategy evolved to avoid being a market competitor for Russia, aimed at reducing Moscow’s political anxiety about any possible alternative to Russia’s gas monopoly in the European gas market. While Azerbaijan’s gas strategy was designed to account for “the Russian factor," this did not prevent the emergence of the Turkish Stream project. This is a joint initiative between Moscow and Ankara, essentially a modified version of the abandoned South Stream. The development of this new idea has been damaging to the prospects of the Southern Gas Corridor for various reasons. First, the Turkish Stream is a mirror image of TAP pipeline; both pipelines are projected to start at the Greece-Turkish border, in order to serve European markets. However, because Russia developed an export route to Turkey without having access to pipeline infrastructure beyond Turkish territory, Russian authorities declared their intention to use the TAP pipeline to reach the European market. In this regard, it is worth remembering that the South Stream pipeline failed because the EU refused to grant exceptions to the rules of the EU’s Third Energy Package. Hence, it was no coincidence that following the announcement of the Turkish Stream, Russian officials declared their desire to use TAP to export Russian gas to European markets. This is hypothetically possible but highly complex given EU regulations. It also entails a risk factor given that Russia’s political clout in the region has been strengthened by its military invasion of Ukraine. Therefore, Azerbaijan is concerned about officially opposing Russia’s aim. The threat posed by the Russian factor to the whole Southern Gas Corridor project is not limited to market competition. The huge volumes of Russian gas also undermine the modest capacity of SGC, especially in light of Russia’s desire to use the SGC’s infrastructure to deliver Russian gas; Turkish Stream would be operational before Azerbaijani gas starts flowing from the Caspian. The key risk is also that this will put Gazprom in a position to block the entire SGC endeavor, which anticipates increasing its capacity based on gas from Turkmenistan, Iraq, and possibly Iran. In particular, Russia can block gas exports from Turkmenistan to Europe via Azerbaijani and Turkish export infrastructure on the basis of the unresolved legal status of the Caspian Sea. Meanwhile, the Russian factor plays a strategically damaging role to the whole EU’s diversification aim, offering huge volumes of Russian gas to a number of European countries, which reduces interest in the SGC.
Obviously, the SGC at its current modest capacity benefits few European countries in terms of supply diversification compared to the Russian offering, which benefits countries that do not benefit from the SGC at present. This allows Russia to create a kind of gas alliance by offering gas to countries disappointed by the selection of TAP over Nabucco West. These include Central European countries, and states belonging to the failed South Stream. Furthermore, the Russian offer extends to countries that are directly benefiting from the TAP pipeline. The primary example is Greece, which wishes to gain transit hub status through this development. Because of this, Russia’s offer to Greece was also a factor last year in the Azerbaijan State Oil Company’s acquisition of shares of DESFA - Greece’s gas grid operator. This affected Athens’ decision to renege on the initially agreed upon sale of 66% of DESFA’s shares to SOCAR, offering only 49% of shares. Moscow’s play caused the fragmentation between EU member states in the absence of an EU consensus on an energy security strategy for common EU interests. The political tensions between Turkey and Russia since November 2015 have already had a negative impact on bilateral energy cooperation, essentially killing off the Turkish Stream idea. But despite this positive development from the perspective of the SGC, i.e., that the “Turkish Stream‘ is off the table, the recent Memorandum of Understanding (MoU) between Russia and Italy’s Edison and Greece’s DEPA to supply natural gas from Russia under the Black Sea through third countries to Greece and from Greece to Italy, poses a new threat. The MoU revives the ITGI-Poseidon interconnector, which before the TAP pipeline was conceived as an alternative means to transport Azerbaijani gas to Europe. At this stage, it is a market competitor. Furthermore, Azerbaijan has hoped to expand the SGC by obtaining additional gas from multiple sources to increase its competitiveness vis-à-vis TAP.
Notably, Baku has considered reviewing interconnectors to Bulgaria and other Balkan countries, but Moscow is now well placed to prevent the enlargement of the SGC’s European market share via development of interconnectors.
An additional gas dilemma vis-à-vis development of SGC
In order to expand the SGC’s share in the southeastern Europe and East Mediterranean gas markets and minimize the Russian factor, there are ongoing talks on bringing additional sources of gas to enlarge the pipeline.
Increasing capacity depends on the availability of gas sources. The technical capacity of the pipes by mid-2020 should be from 16 bcm to 31 bcm/year for TANAP, and 10 to 20 bcm/year for TAP. Meanwhile, beyond the Shah Deniz field, Azerbaijan owns a number of medium-sized offshore gas and condensate fields, whose reserves could substantially boost the country’s export potential. But there are multiple challenges in this direction, including the rise in Azerbaijan’s domestic energy consumption coupled with Baku’s commitment to supplying neighboring Georgia additional gas in the coming years. Additionally, Baku’s offshore fields require long-term time and resources for investment. This makes finding additional gas sources a question of urgency. Realistically, there are 2 primary gas sources for the SGC’s development - Turkmen and Iranian, and each is problematic in some regard. The Iranian option only emerged after the final nuclear deal that ended international sanctions. The EU sees Turkmenistan as a boost to the realization of the Southern Corridor, and supports extending the Trans-Caspian Pipeline to link Baku and Ashgabat.
Since 2011, it has been committed to negotiating a legally binding treaty between the sides. However, Iranian and Russian opposition to an undersea pipeline and the need for financial investments in pipeline construction mean that this is not feasible in the foreseeable future. Nonetheless there are alternatives; namely the Kyapaz (Sardar) field, currently disputed by Baku and Ashgabat, which could be jointly developed. For this to work, an interconnector is needed to link this field to existing Azerbaijani infrastructure in the Caspian Sea. In Iran’s case, since the development of political and economic relations with Azerbaijan in the last 2 years, and a MoU on joint exploration oil and gas fields, there are 2 potential oil and gas fields that could stimulate Iran’s gas exports.
The first is the Sardar-e Jangal oil and gas field, which holds huge reserves. The second, over which Iran and Azerbaijan are in dispute over ownership, is the Araz-Alov-Sharg field, containing proven gas reserves of 400 bcm. Both fields offer opportunities for possible Azerbaijan-Iran joint exploration for the SGC, and would enable Iran to reach European markets.
What determines the implementation of TAP and TANAP
The Southern Gas Corridor will play a role in diversifying gas supplies and stimulating development and integration of regional gas grids in Southeastern and Central Europe. Undoubtedly, the investment needed for the project, political support in the West, and the minimizing of alternative gas projects, i.e., Russian ones, will determine the implementation of both TAP and TANAP from Azerbaijan’s perspective.