Russia-Baltics: Full of sound and fury, signifying nothing?

  • 2006-06-07
  • By Ben Nimmo

DOMINANT: When it comes to economic power, Russia's dominating position may not be all it appears.

RIGA - The "gas war" between Russia and Ukraine in January 2006 has focused European attention on Russia's growing economic power. At the same time, Moscow's desire to use economics for political purposes is impacting areas such as Ukraine, Moldova and Georgia. Should the Baltics be worried?

Not just hot air
Russia's economic influence on the Baltic states should not be underestimated. It is the region's only significant supplier of oil and gas, and Gazprom, its state-owned gas giant, owns stakes in all three countries' gas monopolies. The situation is already ringing alarm bells in the Baltics.
"Dependency on a single energy supplier may result in a threat to the national security of the country. This feeling has even increased after the Russia-Ukraine gas dispute," said a statement from the Lithuanian foreign ministry.
The agreement between Gazprom and German gas provider E.ON Ruhrgas 's a fellow stakeholder in the Baltic gas monopolies 's to build a new pipeline under the Baltic Sea has added to those fears. Latvia has hitherto pinned its national gas safety on the fact that its Incukalns gas-storage facility is vital to St Peterburg's supplies, but the pipeline may put that in doubt.
"Russia's ambassador to Latvia recently said that, with the development of the North European Pipeline, Incukalns would no longer be necessary," said Atis Lejins, director of the Latvian Foreign Policy Institute. "The question is whether this is the beginning of an attempt to influence us."

Big Brother is watching you
Russia is also important to the Baltics' development goals. It is their main source of transit cargoes, their ports' primary client, and one of their best hopes for the future: all three countries cite their geographical and cultural proximity to Russia as a key reason for attracting foreign investment.

Reliance on the Russian economy is no guarantee of political independence. In recent months Georgia has seen an embargo slapped on its wine and mineral water, two of its main exports to Russia, while Moldova is under a wine ban. Ukraine's gas woes seem unlikely to have been solved long-term. In all three countries, there is the suspicion that these economic events are politically motivated.
"Lithuania believes that the sharp increase of price demanded by Russia is political in nature and it is not based on the conditions of a market economy," the Lithuanian foreign ministry maintains.

All gas and gaiters
The dangers should not be overstated, however. While Russia's dominance of the Baltic gas markets gives it huge potential influence, in other ways its economic position is, if anything, under-developed. The combination of post-Soviet policies and the Russian financial crash mean that its total trade with the Baltics is barely 11 percent of the Baltics' trade with the EU.
"Russia was most helpful in cutting all trading ties with Estonia after the restoration of independence," said Simmu Tiik, director of the third political department at the Estonian foreign ministry. "In this situation, we chose the path of radical economic reforms."

Moreover, relatively little of the Baltics' current foreign-investment boom can be attributed to their position as the "springboard to Russia." The largest investment in recent times 's the purchase of Lithuania's Mazeikiu Nafta by Poland's PKN Orlen 's is aimed at strengthening Orlen's position within the EU. Major recent investors in Latvia include U.K. greetings-card manufacturer International Greetings and U.S. manufacturer Jeld-Wen, both of whom have chosen Latvia as a profitable location for EU-oriented production.

"The Baltics' strong historical, cultural and linguistic links with Russia are an advantage for investment, but their business cultures are so different from Russia's that it is not as straightforward to use them as a springboard as it might seem," said Jekaterina Kolosova, senior analyst at investment company Bridge Capital.

Sic transit gloria mundi
The Baltics' status as transit countries may appear a vulnerable point. All three rely on Russian products for their transit economies, and the signs are not good. According to the leading Latvian business daily Dienas Bizness, a spokesman for Russia's railways recently warned that transit volumes through the Baltics could fall sharply over the next ten years.
Moscow is already pushing the development of its own Baltic ports, and has established a discriminatory system of rail tariffs to boost domestic growth. Under the circumstances, the Baltics might do well not to rely on their future as transit countries.
"If you look at the speed and resolution with which port facilities have been improved in St. Petersburg, the threat would seem credible," said Markus Rava, head of the external economic policy department at the Estonian foreign ministry.

However, observers doubt the long-term credibility of such threats. As Rava says, "Even in the transit trade, the whole question of routing is not entirely free of commercial logic." The ports of the Baltic states offer the shortest ice-free route from Russia to the west: all other things being equal, they should be more than able to hold their own.
Equality may not be too far away. Russia wants to join the WTO, and its preferential tariffs will undoubtedly be one section where reform is needed. According to Austris Caunitis, head of the foreign relations department at the Latvian Transport Ministry, Russia has already undertaken to even out its transit fees. If this is done, free-market rules should dictate that the Baltics' ports will be the winners.

Even if political logic outweighs economic, and Russia decides on measures to restrict the Baltics' shares of its exports, the economic impact is unlikely to be catastrophic.
"Transit is a significant part of GDP. There's no economic reason to block it, but if a political decision were taken to do so, the likely long-term result would be for the Baltics to insulate themselves even more from Russia's trade," said Morten Hansen, head of economics at the Stockholm School of Economics in Riga.

One-hit wonder
In fact, it is not just the Russian economy which relies on oil and gas. In the Baltics, its economic influence does too. Even if Russia were to declare a complete trade embargo on the Baltics for political reasons 's and the option currently seems far-fetched 's their economies would probably suffer less than during the banking crisis of the 1990s. Gas power is, effectively, the only trump Russia has.

That trump may well have been over-played. The Baltics reacted with understandable alarm to the double whammy of the Ukrainain gas crisis and the Russo-German pipeline. Attention is now fixed on diversified sources of energy, with even the European Union pledging to reduce its reliance on Russian supplies. All three Baltic states are investigating the possibility of funding a new nuclear power station in Ignalina, work is about to begin on a subsea electric cable linking Estonia to Finland, and Lithuania's Mazeikiu Nafta looks set to go to fellow-NATO member Poland.

Energy security is still a long way away. An increased use of renewable fuels has not yet moved away from the discussion stage, and changes to the gas supply system are only likely to come slowly. But awareness is, at least, focusing on the problem. With the Baltics looking towards energy security, Russia's potential to influence them seems likely to diminish still further.

Russia and the Baltics: facts and figures

Trade with: Russia EU
Estonia 1,156 11,013
Latvia 912 8,274
Lithuania 4,456 13,573

Figures from national statistics
services, 2005
Values in MEUR

Ownership of gas suppliers
Share (percent)
Eesti Gaas
Gazprom 37.02
E.ON Ruhrgas 33.66
Fortum Oil & Gas OY 17.72
SIA Itera-Latvija 9.85
Other 1.75

Latvijas Gaze
Gazprom 25.0
E.ON Ruhrgas 47.15
SIA Itera-Latvija 25.0
Other 2.85

Lietuvos Dujos
Gazprom 37.1
E.ON Ruhrgas 38.9
State property fund 17.7
Other 6.3

North European Gas Pipeline
Gazprom 51.0
E.ON Ruhrgas 24.5
BASF 24.5

Figures from company Web sites.