CNBC Business | the new  cold front

the new  cold front

The West is more shaken than stirred by Russia’s recent actions in the Caucasus, but what does it mean asks Pamela Ann Smith

Chilly along the Czech border? Blustery in Baku? Rigid in Riga? Russia’s recent conflict with Georgia has completely changed the temperature across its western and southern flanks, inviting more cooling metaphors than even the Cold War produced. But has anything really changed or is this just more of the same antics by the Putin-Medvedev tag team, determined to reassert Russian greatness in the wake of two decades of humiliation?

While Medvedev may have stopped short of a total occupation of the former Soviet republic, a move that would have revived the Cold War, he lost no time insisting that Moscow has “regions of privileged interest.” As a result, Russia is now seen by many to have declared a new sphere of influence on its western and southern borders reminiscent of its old imperial days under the Tsars.  

Countries such as Estonia, Latvia, Lithuania, Ukraine, Poland and the Czech Republic are now, their officials say, living in fear of the Russian bear once again. Nato’s failure to come to Georgia’s rescue and the weak response by the EU, which could not agree on imposing sanctions on Russia in the wake of its incursion, has added to that fear. 

Energy security is the other elephant in the room. The ruling regimes in Azerbaijan, Kazakhstan, Turkmenistan and Uzbekistan – all oil- and gas-rich former Soviet republics, along with countries such as Ukraine, which is a major transit route for Russian energy exports to Europe – are all nervous.  

Based on a fear of Russian state-controlled Gazprom’s intentions, the Bush Administration, Nato officials and the governments of several east and central European states, as well as the UK, are demanding that Brussels acts, and acts swiftly, to reign in Russia. At risk are several pipeline and tanker routes through the Caucasus, Black Sea, Mediterranean and Baltic regions. 

“What we have seen is a complete paradigm shift in the security architecture of Europe,” Estonia’s president, Toomas Hendrik Ilves, said after talking to George Bush in August. “Everything we have done has been based on the assumption that Russia won’t engage in aggression. That premise is no longer operable.” 

“What is happening in Georgia has direct consequences for Poland and its interests, for its energy diversification plans,” the president of Poland, Lech Kaczynski, told reporters in early September. His country is actively opposing the construction of the North Stream gas pipeline under the Baltic Sea, being built under a Russian partnership agreement with Germany, for fear that Russia could use its energy exports as a political tool. 

“When the former Soviet Union fell apart, the so-called ‘fourth corridor’ of energy exports [to Europe] opened up,” says Alex Forbes, a London-based independent energy analyst. Oil and gas can only travel to the west “via Azerbaijan, Georgia and Armenia to Turkey. South of that corridor lies Iran, and north of it Russia. That corridor is strategic, and for Europe, very strategic.” 

There is a theory, he observes, “that Russia had been waiting for an excuse to raise doubts about [the energy corridor’s] stability. It’s hard to say whether Russia intended [its invasion of Georgia] to become an energy war, but it has become an energy  war ipso facto.”  

The problem for Brussels is that some of the EU’s largest members, such as Germany, France and Italy, along with Austria, Slovakia, Hungary and Bulgaria – all countries heavily dependent on Russian energy supplies – have called for dialogue with Russia, rather than sanctions or a halt in proposed partnership talks between the EU and Moscow.  

“Either we want to relaunch the Cold War, point our finger at Russia, isolate it and stamp on it as was the case for a decade… or we choose the option of dialogue,” French Prime Minister François Fillon told French radio, according to Reuters, just before an emergency EU summit called to discuss the Russian invasion in early September. “Today the word ‘sanctions’ is not on the agenda. Today the word is ‘dialogue’.” 

Fillon’s stance is widely supported by banks, oil companies, utilities and other corporate interests in Europe. Medvedev and his predecessor, Vladimir Putin, have gained global economic power since Russia became the world’s number two producer of crude oil, second only to Saudi Arabia. Windfall revenues in the past few years have led to extensive European investment in the country and to a rapid expansion of Russian trade with the EU in products and services, as well as in energy. To these EU doves, talk of a Russian stranglehold on European energy supplies is counterproductive. 

Russia received a nasty financial shock in September when its benchmark RTS stock market index fell nearly 60% since its peak in May. As the British historian Niall Ferguson observed, at least “when Hitler invaded neighbouring countries, he had capital controls in place.” Compounded by the wider turmoil of the credit crunch, the fall also burnt some Western investors, a reminder that European financial interests in Russia are much more extensive than they were even a decade ago. 

Sweden’s foreign minister, Carl Bildt, tried to calm the situation, telling an international energy conference in Slovenia in early September that Russian influence should “not be overestimated.” He added “Don’t forget…the EU in terms of population is 3-1/2 times as big. Our economy is 15 times the Russian economy. Our defence spending is 10 times [higher]. We need to have a proper perspective on the relationship.” Because Sweden is due to take over the EU Presidency in January, Bildt’s comments are seen as reflecting future EU policies as well as its present concerns. 

“Yes, the EU is dependent on Russia for gas imports,” Robert Mabro, honorary president of the Oxford Institute for Energy Studies and Emeritus Fellow at Oxford University told CNBC European Business. “In the short run there is no alternative. All the talk by [Gordon] Brown and others that we have to reduce our dependence is wishful thinking.” But, Mabro notes: “Russia is equally dependent on the EU [for its energy markets].” The EU, he feels, “should engage in constructive diplomacy,” not confrontation. “They are mutually dependent.” 

Meanwhile, Mabro observes, there may  be a much simpler answer to the dilemma of diversifying Europe’s energy supplies. If Caspian oil and gas is desirable, he says, rather than going through Georgia, “build another pipeline, through Turkey. It’s not insuperable, just more expensive.” 

Paolo Scaroni, head of Italy’s giant oil company ENI, suggests another solution. He says the EU should increase its storage capacity for oil and gas while at the same time promoting energy conservation measures. “If you are worried about the security of supplies, have strategic storage,” Mabro insists. “The US and Japan have it.”  

Another solution is diversification of energy supply through shipments of liquefied natural gas (LNG). Cynthia Poynter, senior manager for midstream operations at the US consultancy, IHS, says of LNG shipments, “Europe would have to pay more, but this would be short-term, a matter of months or a year at most,” she maintains. “It’s virtual storage in a way.” 

LNG, which is gas that has been supercooled to liquid form so that it can be transported in tankers by sea, is a rapidly growing business for Algeria, Libya and Gulf States such as Qatar, all suppliers of Europe. Future suppliers may include Nigeria and Brazil according to Matthew Clements, Eurasia analyst at Jane’s Country Risk. 

None of this changes the seismic nature of what took place in August 2008. News pictures of Russian bombs dropping near the strategic TransCaucasian Baku-Tbilisi-Ceyhan (BTC) oil pipeline, plus oil tanker trains mysteriously on fire in central Georgia sent shudders through virtually every European capital.  

The BTC line carries up to one million barrels of crude a day from Azerbaijan to a Turkish terminal on the Mediterranean. Other links, for both oil and gas from the Caspian, pass through Georgia to the Black Sea from where they are transported to destinations in central Europe or to southern Europe via the Bosphorus and Mediterranean. 

The Russian invasion also threatens the EU’s pet diversification project, the 3,300-mile Nabucco pipeline from the Caspian, across the Caucasus, to central Europe and Italy via Turkey.  

Azerbaijan, a major Caspian producer, has already said it will now ship more oil to Europe via Russia and Iran, as well as via Georgia and the Black Sea. Kazakhstan is expected to follow suit, along with Turkmenistan. 

“The Nabucco line is still being discussed, but without firm gas supplies committed, it will not be financed,” says Julia Nanay, senior director at the US consultancy PFC Energy. “It is difficult to know how it could be built.” 

The EU is adamant that the line must go through, even though its proposed path crosses Georgia. Ironically, the ultimate viability of Nabucco may depend on the EU gaining access to exports from Iran, but this eventuality opens up a can of worms in international relations. 

“It may be that the Russian situation will galvanise this… Europe will have to look to all possible alternative gas sources, and Iran could come into the picture,” says Nanay. “The next US administration will have to focus on Iran and may look to establishing relations.” She is confident that “there is likely to be a change in US policy” on the issue, despite both US and European fears regarding Iran’s nuclear potential. 

While the stick against Iran appears to have been bolstered, so too has the carrot of talks with the US and, possibly, the EU as well. Well known as a policy of Democratic presidential candidate Barack Obama, the intention to extend a diplomatic line to Tehran was also embraced by Republican candidate John McCain in late September, a  dramatic reversal of his previous position.  

For the EU, US talks with Iran would help to unblock the Nabucco proposal. McCain’s change  of direction, some analysts suggest, demonstrates that while the Western world’s focus has been on a newly aggressive Russia, others are eyeing the US’s relative decline.  

Indeed, Medvedev and Putin are busily recruiting new allies both in Latin America and the Gulf. While the Caucasus incursion meant that Russia had to delay the Middle East Peace Conference it was planning for Moscow this summer, the parade of key figures from Syria’s president Bashar al-Assad to Palestine’s Mahmoud Abbas with Russian leaders, as well as Putin’s unprecedented visits to Saudi Arabia, Qatar and Jordan last year, has sent a signal that Russia now intends to take the lead in the Arab world. Israel, the US and Europe will not be happy.  

Moscow also signed  a wide ranging energy pact, including nuclear technology and know-how, with Venezuela’s maverick president, Hugo Chávez. He met with Medvedev in Moscow at the end of September, when Russia also announced that it will provide $1bn in military aid to the nation which is a key supplier of oil to its northern political foe, the US. A spokesman in Moscow said  at the time, “After such insolent and false positions of the US over South Ossetia, limits on cooperating with enemies of the US have ceased  to exist.”  

Reinforcing alliances such as these could easily be seen as turning an already toxic Caucasian cocktail into a Molotov version that could explode not only in European boardrooms, where costly long-term plans are being drafted to exploit Latin America’s huge hydrocarbon resources, but also scupper Brussels’ hopes to prevent further Russian influence on energy exporting nations. A resurgent Russia seeking to dominate its neighbours and all of Europe’s oil and gas supplies is one thing. A Russia bent on building up loyal nuclear, and military, allies in other continents is quite another.

NATO’s reaction

Nato has taken a strong stance against the Russian invasion of Georgia and its military occupation of the two separatist enclaves, Abkhazia and South Ossetia.  

In mid-September, Nato secretary-general Jaap de Hoop Scheffer strongly criticised the agreement reached with Russia by French president, and current president of the EU, Nicolas Sarkozy, regarding the withdrawal of troops from Georgia. The six-point pact calls for a withdrawal of Russian military forces to their positions prior to the conflict in return for a resumption of talks with Russia on a new partnership with the EU. A supplemental agreement also called for the withdrawal of troops from Georgian territory outside Abkhazia and South Ossetia within 10 days of the deployment of EU monitors in early October. 

De Hoop Scheffer said the deal was “difficult to swallow” and “not acceptable” because it ceded too much ground, according to media reports in London. Russia’s foreign minister, Sergei Lavrov, announced in September that Moscow intended to station 7,600 troops in the two enclaves, twice as many as before, a move seen as confirming Russia’s intention to create a military base on what was, before 8 August, Georgian territory. 

De Hoop Scheffer’s criticism put paid to hopes in some quarters, notably Germany, France and Italy, as well as congressional leadership in Washington, that Nato would resume its six-year programme of military cooperation with Moscow. 

In Brussels, the US Ambassador to Nato, Kurt Volker, confirmed in early September that, unlike with Georgia, or with Ukraine, another non-member that fears Russian military action against it, Nato would come to the military defence of Latvia, Lithuania and Estonia. The three Baltic states, he noted, are full members and signatories of Article 5, which guarantees the defence of any Nato ally threatened with aggression. 

De Hoop Scheffer has also promised that “the process of Nato enlargement will continue,” a move that will be welcomed by EU members such as the Czech Republic and Poland, which have been cooperating with the US and Nato on new weapons and missile deployments in their countries. De Hoop Scheffer said the process would be carried out “with due caution,” but with the “clear purpose” of helping to create a stable, undivided Europe. While Nato was not in the business of “punishing Russia,” it would not accept Russia’s implicit demand that Nato had to choose between an alliance with Moscow or one with Tbilisi.

us military spending vs the world 2008 

in billions of US dollars anD % of world total

Military Spending: Europe, NATO and Russia 

Europe’s military spending is nearly four times as high as Russia’s and represents about one-fifth of the $1.5 trillion that is expected to be spent in 2008 by countries around the world, according to the Washington-based non-profit Centre for  Arms Control and Non-Proliferation. Spending by the US was expected to reach  a staggering $711 billion this year, almost one-half the world total. This means  that the US and Europe, who together account for most of NATO’s 26 allies,  will have a combined military expenditure this year of $1 trillion, compared to  Russia’s $70 billion. 

Source: www.globalissues.org/article/75/world-military-spending

Share of Arms Sales for Top 100  Arms Producing Companies 2006 

 Country/Region No. of companies $bn 

US 41 200.2 

Western Europe 34 92.1 

Russia 8 6.1 

Other* 17 17 

Total 100 315.4 

Source: Stockholm International Peace Research Institute, SIPRI Yearbook 2008. 

* Canada, Japan, India, South Korea, Singapore, Israel and Australia 

Together, the US and Western Europe account for 92.7% of the arms sales by the world’s leading weapons manufacturers. Russia falls way behind, with just under 2% of the total. Defence analysts say arms sales by a country help it to support its own military industries, in addition to creating export earnings that boost its economy. 