Opal Revisiting A Questionnable Decision.

In the Spring of 2017 I published a paper on the OPAL exemption decision on the Institute for Statecraft website, The Opal Pipeline Exemption: The Implications of a Questionable Decision, in which I make the case for the fundamental illegality of the decision as a matter of Union law.  I am glad to say that on September 10th, the EU General Court, in Case-T-883/16 Poland v. Commission agreed with my substantive analysis. The fact that the case reached the EU General Court is due to the grit and determination of the Polish government and their excellent team of lawyers, who were determined that this case would be heard in Luxembourg, and that Union law would be applied equally and uniformly across the territory of the Union.

The full article (save footnotes and some slight typo and citation amendments is below)29583

The OPAL Pipeline Exemption: The Implications of a Questionable Decision

Dr. Alan Riley, Institute for Statecraft, Temple Place, London*.

On 28 October 2016, the European Commission approved the decision of the Bundesnetzagentur, the German energy regulator, to revise the terms of its 2009 OPAL decision. That decision exempted the OPAL pipeline from EU rules on third party access and tariff regulation. The effect of the revision is to substantially increase Gazprom’s access to the capacity of the OPAL pipeline and thereby to extend Gazprom’s dominance in Central and Eastern Europe. Following a challenge by a subsidiary of the Polish state energy company, Polskie Górnictwo Naftowe i Gazownictwo, the EU General Court suspended the Commission’s decision. The final ruling of the General Court will cast a long shadow over the commitment of the Commission to the Energy Union and in particular the security of EU gas supplies. The judgment will also impact the ability of Gazprom and its partners to build the proposed Nord Stream 2 pipeline.

1.0. Brussels Under Pressure and a Polish Challenge

On 28 October 2016, the European Commission’s (“Commission”) approved the decision of the German energy regulator, the Bundesnetzagentur (“BNetzA”), to revise the terms of its 2009 decision to exempt the Ostseepipeline-Anbindungsleitung (“OPAL”) from EU rules on third party access and tariff regulation.The effect of the OPAL Decision is to substantially increase the amount of pipeline capacity that may be booked by Gazprom. The consequences of the decision are far-reaching and jeopardise the EU’s plans to pursue a resilient Energy Union. In addition to strengthening Gazprom’s dominant position in the Czech market, the OPAL Decision could increase Central and Eastern Europe (“CEE”) and Germany’s dependence on Russian gas since it materially reduces incentives to build alternative gas transit routes.

Remarkably, the OPAL Decision proceeds entirely by reference to conditions of supply in the German/Czech border area, neglecting the broader policy and security implications. The decision pays little heed to one of the touchstones of EU energy policy, namely reducing dependence on Russian gas through a diversification of supply and routes.

Given these concerns it is not surprising that PGNiG Supply & Trading GmbH (“PST”), the German subsidiary of the Polish state-controlled energy company Polskie Górnictwo Naftowe i Gazownictwo (“PGNiG”), challenged the OPAL Decision.On 4 December 2016, it lodged an appeal with the EU General Court (“General Court”) for the annulment of the OPAL Decision together with a separate application for its suspension (so called ‘interim measures’).This was followed by the Polish Government launching its own action on 16 December with an application for the annulment of the OPAL Decision and a separate request for interim measures.On 23 December, the General Court temporarily suspended the OPAL Decision. At the time of the publication of this paper, that suspension remains in force. The General Court is currently awaiting responses to a series of additional requests for information from the Commission and PGNiG. It also needs to rule on applications to intervene in support of the Commission from Germany, OPAL and Gazprom Export.

The threshold for granting interim measures is high and applications are rarely successful. This is because an applicant has to demonstrate that (i) it has a prima facie case, and (ii) it will suffer serious and irreparable harm if the suspension is not granted. It follows that PST’s successful application is indicative of the strength of its case. For the reasons outlined below, there is a high likelihood that the General Court will strike down the OPAL Decision. The judgment will not only impact the operation of the OPAL pipeline, but also raises questions as to the viability of the proposed configuration of the Nord Stream 2 pipeline. In particular, it may jeopardise plans to build the Europäische Gas-Anbindungsleitung (“EUGAL”) pipeline. This pipeline will connect Nord Stream 2 with the German mainland, and is intended to carry approximately 50bcm of natural gas annually into the heart of Central Europe.

2.0. The OPAL Pipeline

The OPAL pipeline runs 470km from Greifswald on the German coast (Nord Stream’s landing point) to the Czech border. The pipeline was built to feed natural gas from Nord Stream 1 and deliver it into Germany and Central Europe. It has a total annual pipeline capacity of 36.5bcm. WIGA Transport Beteiligungs-GmbH & Co. KG (“WIGA”), a joint venture between BASF’s subsidiary Wintershall and PAO Gazprom, currently holds an 80% co-ownership share in the OPAL pipeline. Uniper, an E.ON affiliate, owns the remaining 20%.

In 2009, the Commission approved the BNetzA’s 2009 decisions to exempt the OPAL pipeline from third party access and tariff regulation in accordance with the 2003 Gas Directive(the “OPAL 2009 Decision”).As a condition of approval, the BNetzA was required to impose a 50% cap on the capacity that could be booked by dominant players in the upstream and downstream Czech gas markets (i.e., Gazprom and RWE).This cap could only be lifted if an optional annual gas release programme of 3bcm was implemented. The main principles of a gas release programme were agreed between the BNetzA and Gazprom in 2011.However, in 2013, Gazprom indicated that it did not intend to implement the programme.

The OPAL Decision significantly expands Gazprom ability to book capacity on the pipeline. 50% of OPAL’s capacity will be exempt from rules on third party access and tariff regulation. 40% will be subject to tariff regulation, but it will be sold at auction. The final 10% (expandable to 20%) will be made available from the Gaspool trading hub in Germany with Gazprom being able to bid for the capacity at base price.

The Commission has underlined the importance of auctions as a means of opening up the market.However, this entirely overlooks market reality. OPAL was built for one reason: to act as the connection pipeline for the delivery of Russian gas from Nord Stream 1 into Eastern Germany and Central Europe. In practice, Gazprom’s export monopoly means that Nord Stream 1’s principal gas entry point (i.e., Griefswald) only carries Gazprom-sourced gas. Although there are other entry points along the pipeline, the economic reality is that only Gazprom’s partners are likely to make use of those entry points. These partners are highly dependent on Gazprom for gas as a result of their upstream asset relationships.

It follows from the above that however formally open the auction process may seem on paper, most of the capacity will in fact end up in Gazprom’s hands. This is evidenced by the events that followed the OPAL Decision until its suspension on 23 December, 2016. During that period, a number of day-ahead capacity auctions were held and on monthly auction on 19 December 2016. It is understood that all of the available capacity was booked by Gazprom. This led to an increase in the capacity utilisation of the OPAL pipeline. According to OPAL Gastransport GmbH & Co. KG, the operator of the OPAL pipeline, on 27 December, “OPAL was loaded 81% in

Greifswald and 91% in Brandov”.This reflects the significant increase in gas transit through the OPAL pipeline between 22 December 2016 and 16 January 2017. At the Greifswald entry point, gas transit volumes went up from an estimated daily average of 59.4 mcm between 1-22 December to levels sometimes in excess of 100 mcm per day; and at the Brandov exit point, gas transit volumes went up from an estimated daily average of 64.5 mcm between 1-22 December to levels sometimes in excess of 90 mcm per day.Moreover, the corresponding reduction of gas flows via the Urengoy– Pomary–Uzhgorod (“Brotherhood”) pipeline, the Ukrainian transit route, is the clearest indication yet that increased access to the OPAL pipeline is a critical part of Gazprom’s plans to divert gas flows from Ukraine.

3.0. An examination of the OPAL Decision

Following a delay of over two months, the OPAL Decision was published on 3 January, 2017. A close examination of the decision reveals fundamental gaps in the analysis, and the key arguments used to justify changes to the terms of the OPAL 2009 Decision are singularly unconvincing.

3.1. The Basis for the Review of the 2009 OPAL Decision

The 2009 Gas Directive contains no review mechanism for exemption decisions.Similarly, the OPAL 2009 Decision contains no specific review clauses. It follows that there is no clear legal basis for the variation of the OPAL Decision. Consequently, the Commission relied in part on its decisional practice in connection with the Nabucco pipeline (“Nabucco Decisions”)to justify its decision to review and revise the OPAL 2009 Decision.

However, the Nabucco Decisions are not as helpful a precedent as they first appear. This is because the circumstances that led to the Commission’s decision to review (and vary) the Nabucco Decisions were fundamentally different. In particular, the plans to build the pipeline were not advanced and the final decision approving the investment had not yet been taken. Moreover, there were a series of developments that necessitated an extension of the exemption including delays to the start of the exploitation of the Shah Deniz II gas field in Azerbaijan, the main source of supply for the Nabucco pipeline; the delayed conclusion of the Intergovernmental Agreement between the countries along the pipeline route; and difficulties obtaining long-term financing as a result of the 2007-2008 financial crisis.By contrast, the OPAL pipeline has already been constructed: there is no clear basis to draw a parallel with the factors that led to a review of the Nabucco Decisions. These differences of fact call into question the Commission’s decision to attach precedential value to the Nabucco Decisions.

Moreover, a key requirement for an exemption to be granted is that but for the grant of an exemption, the infrastructure would not be build. This is reflected in the wording of Article 36 (1)(b) of the 2009 Gas Directive which provides that:

“the level of risk attached to the investment must be such that the investment would not take place unless an exemption was granted”

It follows from the above that even if it is possible as a matter of procedure to conduct a review of an exemption, the wording of the 2009 Gas Directive does not appear to permit a review of exemption decisions where the investment has already been made and the infrastructure is operational. Even more so where the effect of the review is to give a greater benefit to the owner of the pipeline than that was identified as a dominant gas supplier (see below). There may be grounds to justify a review of an exemption where market conditions have changed radically or the continued operation of the OPAL pipeline is at risk as a result of financial difficulties. However, Gazprom remains dominant in the Czech Republic and there was no suggestion in the OPAL Decision that the financial viability of the pipeline was at stake. If the conditions that were imposed in the OPAL 2009 Decision were sufficient to ensure the construction, operation and solvency of the pipeline, it is difficult to justify granting a dominant Gazprom increased access to capacity.

3.2. Key Competition, Security of Supply and Internal Market Conditions.

Article 36 provides that in order for an exemption to be granted, a series of cumulative conditions must be satisfied. The Commission’s assessment of two key conditions is fundamentally flawed in the OPAL Decision, namely:‘

“the investment must enhance competition in gas supply and enhance security of supply; and the exemption must not be detrimental to competition or the effective functioning of the internal market in natural gas…”

The scope of the Commission’s analysis is narrow and entirely focused on the Czech market.Given that gas can flow onward from the OPAL pipeline and into other parts of the EU, an assessment of whether the above conditions have been satisfied would necessarily entail consideration of the impact of the decision on competition in the wider EU market, not least neighbouring territories in CEE. This point is reinforced when one takes into account the potential adverse impact on Poland. The fact that Gazprom is able to deliver natural gas into Poland via OPAL (i.e., from West to East), leaves PGNiG vulnerable to predatory pricing. Indeed, Gazprom is aware of the terms of its long term supply contract with PGNiG, which would enable it to target a lower price than what PGNiG is able to offer its customers. The effects of Gazprom employing such a strategy would be two-fold. In addition to increasing Gazprom’s share of Polish gas supplies, PGNIG would be forced to pay for the gas it has not been able to sell under the ‘take or pay’ clause of its long term supply contract.

The possibility that Gazprom would be able to engage in such a strategy was put beyond all doubt in the period that followed the adoption of the OPAL decision until the suspension of the General Court began to bite: increased flows through the OPAL pipeline were inversely reflected by a sharp decrease in flows through the Brotherhood pipeline, which carries gas through Ukraine and Slovakia (see above).

The increased utilisation of OPAL is also likely to negatively impact the delivery of more competition in the marketplace both in terms of new routes and modes of supply. We already have real world evidence of the negative competitive impact of the OPAL pipeline. Following the OPAL 2009 Decision, investors exited the competing Nordal pipeline project which would have run partly in parallel with the OPAL.Equally, the impact of increased utilisation of OPAL is likely to undermine incentives to deliver interconnectors in Poland, the Czech Republic and Slovakia which would make it possible to obtain greater access to the Świnoujście LNG terminal in Poland. These interconnectors are in fact one of the four gas corridor priorities set out in Commission Delegated Regulation 2016/89/EU.

A further consequence of the narrow frame of reference in the OPAL decision is that the Commission has overlooked the potential impact of the increased utilisation of the OPAL pipeline on the security of gas supplies in CEE. The existence of the Yamal- Europe (“Yamal”) and the Brotherhood pipelines provides CEE EU Member States with a degree of ‘throughput security’. A reduction in the flow of gas that is destined for Western Europe will lead to a corresponding reduction in throughput security. Given Gazprom’s history of politically-motivated gas supply interruptions, this danger cannot be dismissed as merely hypothetical. According to Robert Larsson, in his seminal work on the subject Russia’s Energy Policy: Security Dimensions and and Russia’s Reliability as an Energy Supplierthat between 1991 and 2004 there were over 40 politically motivated interruptions of Russian gas and oil supplies in CEE and Baltic States.More recently, Gazprom cut off gas supplies to CEE states in an attempt to stop gas from being dispatched via reverse flow to Ukraine in 2014 and 2015.

The security of Ukraine’s gas supplies is also a relevant consideration to the Commission’s assessment since both the EU and Ukraine are members of the Energy Community. In particular, the loyalty clause contained in Article 6 of the Energy Community Treaty provides that the Commission should at least take into account the open market and security of supply concerns of Ukraine.

However, increased gas flows through the Gazprom-controlled Nord Stream 1 and OPAL pipelines are likely to make it more difficult for Ukraine to obtain reverse gas flows from EU Member States. A reduction of reverse flows limits the ability of Ukraine to benefit from competitive North West European hub pricing. Naftogaz, the Ukrainian state energy company, has been able to successfully obtain reverse flows of gas from CEE EU Member States and Germany to replace most of its Russian gas imports, and pay significantly less for imported gas. These reverse flows have been critical to the improvement of Ukraine’s security of supply. Crucially, Naftogaz is able to rely on its wholly-owned domestic transit system, the Brotherhood pipeline and the pipeline networks of CEE states, where Gazprom influence and ownership is limited. Gazprom’s interests in the Nord Stream 1 and the OPAL pipeline, and potentially Nord Stream 2 and its connection pipeline EUGAL, increase its control over gas flows through CE Europe.This will threaten future reverse gas flows. Moreover, the additional transit costs associated with gas that is delivered via Nord Stream I, OPAL and the CEE pipeline network will render the delivery of gas through the Brotherhood pipeline less financially attractive.

Astonishingly, none of these matters are acknowledged – still less discussed – in the OPAL Decision. Instead, the Commission undertakes a myopic examination of the Czech and German markets. However, even within that limited frame of reference, it is difficult to see how permitting Gazprom to make greater use of the OPAL pipeline will enhance competition in accordance with Article 36 of the 2009 Gas Directive. The decision to allow Gazprom increased access to OPAL capacity will strengthen its dominant position in the Czech Republic and increase Russian gas flows to Germany. It also undermines rather than enhances local security of supply as it makes both the German and Czech markets more dependent on Russian gas.

4.0. A Misleading Commission Press Release

A further disturbing feature of this case was the opacity and lack of transparency surrounding the OPAL Decision as well as the fact that the little information that was provided by the Commission was highly misleading. For over two months, the only information the public had concerning the OPAL Decision was limited to the press release of 28 October, 2016.

Given the discussion above of the actual effect of the OPAL Decision, it was staggering that Commission chose the following headline: “Gas Markets: Commission Reinforces Market Conditions in Revised Exemption Decision on OPAL Pipeline.” In what is perhaps the most misleading paragraph, the press release makes the following claim:

“The Commission has today adopted stricter exemption conditions for the operation of the OPAL gas pipeline. The Commission wants to ensure properly functioning liquid and competitive gas markets in Europe, and today’s decision follows these guidelines.”

For the reasons outlined above, this is clearly not the case. The effect of the OPAL Decision is to permit Gazprom to potentially access the entire capacity of the OPAL pipeline, whereas its access was previously restricted to 50% of capacity. Furthermore, the statement ignores the adverse impact of the OPAL decision on security of supply and competition. Indeed, the Commission’s actions are entirely inconsistent with ensuring ‘liquid and competitive gas markets’ in Europe.

5.0. Conclusion: OPAL, the Rule of Law and EU Energy Security

The OPAL Decision raises significant concerns about respect for the rule of law and diminishes the credibility of the EU’s energy security policy.

The Commission is supposed to be the ‘Guardian of the Treaties’, and has a responsibility to consistently apply the ‘acquis communautaire’. The OPAL Decision represents a clear failure by the Commission to correctly apply the terms of Article 36 of the 2009 Gas Directive. This is compounded by the willingness of the Commission to mislead the public and the European Parliament over the true consequences of its decision. Equally concerning, is the fact that the delayed publication meant that Gazprom could access the additional capacity before interested third parties could read the decision. The OPAL Decision appears to be another example of the Juncker Commission positioning itself as a ‘Political Commission’.It demonstrates a failure to recognise that its overriding duty is to apply, support and enforce EU law, and not gloss over those rules in order to accommodate a political fix.

In addition, the OPAL Decision undermines the credibility of the EU’s Energy Union.This is one of the policy priorities of the Juncker Commission. At its heart is a commitment to diversify supply sources and routes in order to increase the EU’s resilience to supply gas interruptions recognising that “energy policy is often used as a foreign policy tool”.The OPAL Decision undermines that commitment. As outlined above, it threatens alternative supply routes and strengthens Gazprom’s dominant position since it lowers the likelihood of market entry by alternative suppliers, and threatens future reverse flows. If the Commission cannot be relied upon to support the implementation of the Energy Union, there is a considerable credibility and legitimacy gap.

The OPAL Decision is also important as a precedent for EUGAL, the connection pipeline for Nord Stream 2. If Nord Stream 2 is built, as outlined above, EUGAL will follow the same route as the OPAL pipeline. This would bring an enormous supply of gas amounting to 50bcm into the heart of CEE (see above). The problems attached to the OPAL pipeline would be exacerbated considerably by EUGAL. Nord Stream 2 represents strategic over-investment on a massive scale, designed to stifle alternative infrastructure initiatives and reinforce Gazprom dominance in CEE.

However, the problem for the Commission, Gazprom and its partners is that the OPAL Decision is now subject to the scrutiny of the EU General Court. The Commission’s failure to take into account prevailing market conditions in CEE and wider geo-political considerations in its assessment of competition and security of supply makes it likely that the General Court will strike down the OPAL Decision. Furthermore, any judgment by the General Court could impact the prospect of the Commission issuing an exemption decision for the construction of the EUGAL pipeline.

  • In the interests of full disclosure Dr Riley has previously acted as an adviser to PGNIG and Naftogaz.