How Russia-Austria pipeline deal buffers Moscow against sanctions

Amid the ongoing tug of war over Ukraine between Moscow and the West, one of the biggest sticks Western leaders have had is the threat of punitive sanctions on Russia's vital energy sector.

But now that Vladimir Putin appears to have convinced several key European countries to sign on to the ambitious South Stream pipeline, which will carry Russian gas under the Black Sea to southern Europe, that threat may no longer be in the West's arsenal.

Barely a month ago, Mr. Putin nailed down a 30 year, $400 billion contract to supply natural gas to China, signaling that Russia has lucrative alternatives in Asia if sanctions should shut Russia out of Western markets.

On Tuesday, in the heart of Europe, a smiling Putin presided over the Vienna signing of a much bigger deal between Russia's state gas monopoly Gazprom and Austria's OMV to complete of the Austrian section of of South Stream. When it comes on line in three years, the pipeline will carry some 63 billion cubic meters of Russian gas annually to customers in central and southern Europe. It could lock in Europe's dependence on Gazprom for decades to come.

It was probably no coincidence that Putin's visit to Austria coincided with his request that the Russian parliament rescind his special powers to use military force in Ukraine, which threw his pro-sanction critics off guard.

"Putin is certainly playing it well," says Fyodor Lukyanov, editor of Russia in Global Affairs, a leading Moscow foreign policy journal. "At least he's skilfully avoiding providing the US with strong pretexts to impose tougher sanctions."

Experts say the deal is purely political, and it showcases Putin's deft ability to exploit differences among European countries over how to react to Russia's actions in Ukraine. Standing next to Putin on Tuesday, Austrian President Heinz Fischer made clear that his country – which stands to become a major hub for distributing Russian gas – puts business before political concerns. "Nobody benefits from sanctions. They aren’t helping to produce any profit for anybody," he said.

The US, Ukraine, Britain, and several eastern European states have been strongly advocating for South Stream to be blocked, if only because the project appears to violate European Union rules against the same company owning both the pipeline and the gas.

But Bulgaria, which was persuaded by the European Commission last month to suspend work on South Stream, now argues that its participation in the project is entirely legal. Serbia, another key leg in the pipeline, insists that it "sees no reason" to halt construction.

"I think South Stream will almost certainly be built," says Mikhail Krutikhin, a partner in RusEnergy, a Moscow-based energy consultancy.

"Each country that will play host to South Stream must be very happy about it. They will be getting an infrastructure which, according to European Union rules, has to be available for use by any energy supplier. And while the European Commission is putting up some obstacles, they're not actually preventing it," he adds. "It's clear to everyone that Europe can't do without Russian gas for many years to come."

The advent of South Stream will also realize the Kremlin's plan, advanced in the wake of Ukraine's 2004 "Orange Revolution," to cut Ukraine completely out of Russia's network for transiting gas to Europe. Since Soviet times most Russian gas to Europe has been delivered through the now ironically named "Friendship" pipeline, which passes through Ukraine. That amount was cut to less than half with the opening of NordStream three years ago, which carries gas under the Baltic Sea directly to Russia's most important European customer, Germany.

That is almost certainly why Ukraine's interim government has been working hard to rally its Western supporters in opposition to South Stream. Ukrainian energy officials insist that Moscow has been artificially dragging out the current Russo-Ukrainian "gas war" in order to portray Ukraine as an unreliable transit country and boost European support for South Stream.

But dealing Ukraine out of Gazprom's gas delivery network, and the lucrative transit fees that go with it, is the central purpose of South Stream, says Mr. Krutikhin.

"In fact, South Stream isn't likely to add to the volume of gas that Russia sells to Europe, only redirect it around Ukraine through an expensive new infrastructure," he says. "It's not profitable for Russia at all. It's about politics and nothing else."

A few Kremlin-connected tycoons rumored to be close to Putin do stand to gain hugely from the building of South Stream, including the Russian leader's former judo coach, Arkady Rotenberg, whose Stroygazmontazh construction firm has been handed  some of the juiciest contracts connected with the project.

Another aspect of South Stream that could prove galling to Kiev and the West is Gazprom's plan to install a branch line to supply recently-annexed Crimea, which is still completely dependent on Ukraine for its energy supplies.

Even Putin's reputed agility at dividing Europeans against each other might be a bit overrated, says Mr. Lukyanov.

"It's actually not a problem to divide Europe, the divisions are already there," he adds. "Putin went to Austria because he already knew they were more interested in making money than playing politics."