Energy Moves and Power Shifts: EU Foreign Policy and Global Energy Security

Executive summary

Energy security has climbed the list of EU energy and foreign policy priorities in the last decade. This process was accelerated by the shock of the 2006 and 2009 disruptions in Russian gas supply through Ukraine, and by the new possibilities offered by the Lisbon Treaty. Efforts have been directed at interconnecting national gas and electricity markets, diversifying energy suppliers and promoting rules-based energy trade in the wider European neighbourhood. The EU’s primary energy security goals are to reduce the strategic dependence of individual member states on single external suppliers and to ensure that energy markets are liquid, open and functioning according to stable market rules rather than power logics. Yet energy security also needs to be balanced against environmental and economic competitiveness concerns.

This report undertakes an appraisal of global energy trends and draws conclusions for the EU’s external energy security policy priorities, taking into account that energy mix choices, supply strategies and foreign policy remain national prerogatives. The centre of gravity for global energy markets is shifting to emerging markets, particularly in Asia. The EU is undergoing relative economic and demographic decline: retaining a major role in the global energy scene will be more and more challenging. Its ever-increasing reliance on oil and gas imports makes it more sensitive to political and commercial changes beyond its borders.

87% of the world’s primary energy supply comes from fossil fuels: coal, oil and natural gas. This state of affairs is likely to continue for decades as the development of climate-friendly energy sources remains limited. Nuclear power is stalled at just above 4% of the global primary energy supply, and expansion is only likely in large emerging markets. Hydroelectricity accounts for 6.7% of the world’s primary energy supply and, despite rapid growth, geothermal, solar, and wind power only 1.9%. On current trends, the world is likely to see a 3.6°C temperature rise by 2100, surpassing the 2°C target intended to avoid the worst effects of climate change.

The use of cheap, abundant and CO2-intensive coal has expanded quickly, particularly in emerging markets. EU coal consumption has remained stable in Central and Eastern Europe and in Germany, the bloc’s biggest economy, where it represents a quarter of the energy mix. Renewables, including hydro, have rapidly expanded and account for 10% of EU energy consumption. Gas accounts for 29%, nuclear 14% and petroleum 35%.

For decades, energy geopolitics have been shaped by the conflicting interests of leading oil importers, mostly developed democratic countries, and leading exporters, led by the Organisation of Petroleum Exporting Countries (OPEC). This dichotomy is changing: Asian states are becoming more import dependent, and the US more energy independent. This creates new challenges for global energy governance. The EU is beginning to share more dependency concerns with Japan, China and India than with the US. Many of these countries, particularly China, prefer to secure energy supplies via state-led mechanisms, relying less on markets than do Western importers. This makes their integration into current energy market governance regimes crucial to avoid zero-sum competition risks.

Oil and gas scarcity per se, however, will not be the major issue in the years ahead. In the last decade, scarcity fears have been stoked by rising demand in emerging markets, turmoil in the Middle East and the return of resource nationalism in energy exporters (e.g. Russia and Venezuela). Yet some fundamentals have shifted. New oil and gas finds around the world, including in the eastern Mediterranean, and the shale revolution in North America have led to a sense of relative abundance. Nonetheless, the oil price – hovering near US$100 – remains high and volatile, reflecting continued market tensions. Today, the biggest oil and gas reserves are controlled by state-owned companies whose capacities to develop new and technically challenging fields, or to ensure adequate investment in exploration and development, raise questions for future global energy security.

In addition to high and volatile fossil fuel prices, the EU faces the challenge of how to adapt electricity systems to the rapidly rising share of intermittent renewable energy sources in a cost-effective manner. In emerging markets, governments are struggling to expand power production and electrical grids to meet rising demand from growing middle classes.

The shale revolution in the US is reshaping the global energy landscape. In combination with the rise of liquefied natural gas (LNG), which allows transport of gas on ships, the shale revolution is ‘globalising’ hitherto regional gas markets. The US is likely to become a gas exporter, sending LNG to Asia. Over time, gas markets could resemble the more liquid, fungible, and price-volatile oil market. The abundant gas in the US is partly driving out coal, some of which is exported to the EU where low CO2 prices are easing the replacement of gas with coal to produce electricity. Increasing energy security is impacting on the strategic outlook of the US, although this does not necessarily make the US less concerned with high prices and price fluctuations in oil markets. The US may, however, have more flexibility in its political engagements with energy suppliers, not least in the Middle East. Technical, legal, commercial and public opinion issues are likely to delay large-scale shale oil and gas development outside the US.

Recent transformations in gas markets mean that, in the EU, some long-term supply contracts with the state-owned companies of the key gas suppliers – Russia, Norway and Algeria – have been renegotiated to bring down prices and partially replace oil price indexation, taking into account prices on spot markets. The rise of spot markets has been helped by the implementation of the EU’s liberal market reforms of the 2009 Third Energy Package. Thanks to progress on interconnections and markets within Europe, the strategic dependence of EU member states on individual gas suppliers is seen as less dramatic than it was just a few years ago. However, gas markets in the Baltics, Central and Eastern Europe and the Balkans – the most vulnerable areas – remain overly reliant on a single supplier and insufficiently reformed and interconnected.

Global energy governance mechanisms are ill-equipped to handle the energy world of the future. Existing organisations are limited in their scope, membership, and legal ‘bite’. Among these, the International Energy Agency (IEA) reflects the concerns of the major oil importers of the 1970s. It coordinates the use of strategic oil reserves, organises the sharing of energy data, produces market forecasts and serves as a forum to discuss energy and environmental policies (e.g. energy efficiency). New centres of energy consumption – China, India and other emerging markets – are excluded.

An almost unbridgeable gap between exporter and importer interests is reflected in the fate of the Energy Charter Treaty (ECT) – of which the EU is a member. The core aim of this 1994 treaty is to secure the production, trade and transit of energy through legally binding rules. Initially meant to be a global treaty, it has largely remained Europe-centred. The World Trade Organisation (WTO) is not well prepared to deal with energy-specific issues. As renewables policies are deployed across the world, trade frictions have arisen. The recent enthusiasm for renewables led to the creation of the International Renewable Energy Agency (IRENA), but this body has yet to make a mark and issues no rules.

The report identifies six priority areas for the EU’s international energy engagements:

- Improving multilateral approaches to energy security

The EU could strengthen its position in the shifting energy world through closer engagement with multilateral organisations that deal with energy. One avenue is through multilateral trade policy, strengthening trade rules and opening markets in all energy sectors via the WTO. The recent initiative to launch talks on liberalizing trade in green goods is one step in the right direction. Many of the world’s remaining non-WTO members are oil exporters; they should be encouraged to join (Algeria, Azerbaijan, Kazakhstan and Libya). Another avenue could be to promote membership in the IEA for emerging importers such as China and India, and for the EU itself. Although the EU Commission works closely with the IEA, the EU’s full legal membership would give better weight, credence and coherence to the EU’s voice in international discussions on energy security.

- Engaging deeply with Russia on binding rules for trade and investment

With less demand and more competition on EU gas markets, this is a good moment for the EU and Russia to pursue a deeper conversation regarding mutual investments in each other’s energy sectors – notably the protection of investment in exploration, infrastructure and distribution. This could include efforts to reach some form of agreement on much of the content of the ECT, long resisted by Russia. Russia could commit to some of the key goals of the treaty as part of newly launched discussions on a new partnership treaty. The EU will need to make compromises on issues where Russia has legitimate commercial concerns. One such step could be to clarify the licensing terms for foreign investors in transmission systems (the so-called ‘reciprocity clause’ in the 2009 Gas Directive) to avoid the risk of unjustified discrimination against a foreign investor in a gas transmission system. This presumes that the ongoing antitrust case against Gazprom – Russia’s primary gas exporter – will be properly terminated, that it acts on the case findings, and that progress on finalising the EU internal gas market continues.

- Cooperation with the US and Japan on market and investment issues

For the EU, the US remains a primary energy partner. Although US shale gas might not reach Europe in large amounts in the future, ongoing trade discussions may allow for a trade deal with a strong energy chapter that can then be used as a model for trade and energy relations with other partners and in the WTO. A similar approach could be taken with Japan in the context of ongoing bilateral trade negotiations. Trade talks could be leveraged to enable the energy sectors of both sides to become more competitive and innovative. This will mean tough choices in Japan, the US and Europe on mutually opening their energy markets.

- Dialogue and cooperation with China to set the tone for the developing world

China is a model that others in the developing world would like to emulate, making it an important leverage point for influencing global energy trends. China has come to value the smooth functioning of international markets and has announced a plan to give a ‘decisive’ role to markets in its economy by 2020. EU efforts to build open, liquid international energy markets, therefore, may increasingly be pursued with China. Guiding Beijing towards energy choices that protect the environment and reduce demand on international energy markets could be facilitated by helping China join the IEA, continuing bilateral work on urbanisation issues and helping the Chinese design policies on energy efficiency. A 2% improvement in Chinese vehicle efficiency may have a bigger impact on energy markets than the development of a major new oil field.

- Managing demand: climate policy is energy security policy

Reducing global demand for fossil fuels is an energy security goal and a competitiveness goal as much as an environmental goal. Developing new pipelines or better supplier relations can shift the global supply/demand balance in the right direction, but speeding up necessary changes in how the world uses energy may fundamentally alter that balance. Post-Kyoto agreements on emission reductions (which translate into reduced fossil fuel use) will be more likely if decarbonising can be accomplished in a cost-effective manner that does not harm economic development. EU efforts on international climate negotiations, therefore, should not be an environmental niche, but should have the full support of the energy, trade and industry sectors, working to find economic and technological pathways that can bring partner climate and energy positions closer to Europe’s own. Among other opportunities, the EU can expand cooperation on reducing energy consumption subsidies. Developing states often express interest in technological modernisation which the EU can support. Improved work on safety and environmental standards, plus transparency in costing, can help the development of nuclear energy as a non-fossil alternative, particularly in China and India, which have rising demand, political will and economies of scale for large programmes.

- Managing supply: focus on the neighbourhood

Energy partnerships with distant countries may have limited pay-off for the EU because of the internationalisation of energy markets. This increases the relative attractiveness to the EU of forging partnerships with pipeline-connected neighbours including Norway, Russia, Algeria, Libya, and, to a limited extent, Azerbaijan/Turkmenistan. While eastern Mediterranean gas volumes are not massive, the EU would benefit from having the gas exported via pipelines rather than by tankers subject to price pressures from Asia. Working with Turkey, already a key transit state, on the energy chapter of the acquis may be an important step in helping it become a possible partner for nascent exporters Cyprus and Israel. The EU-sponsored Energy Community of the eastern neighbourhood has become a moderate success. A similar arrangement for the non-exporters of the southern Mediterranean could be initiated, preceded by their joining the ECT. Libya and Algeria, both important energy suppliers for Europe, are less likely to respond to similar incentives. Given their likely roles as energy suppliers to the EU in the decades ahead, significantly increased EU bilateral engagement efforts, on energy and governance issues, could have important benefits for the Union. Both countries should be encouraged as a priority to join multilateral bodies such as the WTO and the ECT.

Introduction

The scenarios are many: oil and gas export embargoes used as political weapons, riots in the streets when energy bills rise, importing countries turning a blind eye to human rights violations by unaccountable political regimes living off oil rents, cashrich petro-states financing terrorist activities, pipeline projects done or undone in global races for power, money and access to vital resources. Clearly, energy plays a key role in global politics.

But the EU has until very recently not been a central actor in this game. Whether via special relationships with former colonies in oil-rich regions or through nationally determined political schemes (such as the pipeline projects of West Germany’s Ostpolitik of the 1970s), European energy politics has traditionally been controlled by the member states. National energy policies, and notably those related to ‘energy security’, have long escaped the decades-long process of expanding influence by Brussels. In a way, initially supranational powers were ‘repatriated’ – a quintessential case of ‘spill-back’ (rather than ‘spill-over’) effects. Yet times have changed.

Several factors coincide in making the EU an emerging actor in global energy politics. First, the EU’s shrinking share of the global population and world GDP, made more acute by the economic crisis, increasingly pushes its members to act jointly on international issues so as to be able to continue to shape the international order. This pressure is exacerbated by the EU’s ever-increasing reliance on energy imports, making it more vulnerable to sudden price or policy changes beyond its borders. Second, Russia’s assertive resurgence in the last decade, and events such as the gas crises of 2006 and 2009, perceived to be driven by political motivations, have raised awareness that energy policy in an enlarged EU needs a common approach. Third, the Lisbon Treaty, in force since 2009, delegates more tasks to the EU in the realm of foreign and energy policy, even if competencies in both fields are shared with member states.

In 2011, EU member states requested that the High Representative of the Union for Foreign Affairs and Security Policy take into account the ‘energy security dimension’ in her sphere of action. The European Commission has received mandates from member states to negotiate with third country governments on projects to improve the bloc’s energy security. Conversations on energy have started with a number of countries. Clearly, there is increasing support for the idea of tackling energy issues jointly at EU level.

The definition of energy security used in this report is the simple and relatively broad one used by the International Energy Agency (IEA): ‘the uninterrupted availability of energy sources at an affordable price’. Achieving energy security requires efforts to reduce risks to energy systems, both internal and external, and to build resilience for managing the risks that remain. Tools to achieve this include: ensuring markets function so that demand and supply meet optimally; providing adequate production and transport infrastructure; developing risk management systems (reserves, emergency planning and alternative supply routes); maintaining a diversified portfolio of energy suppliers; and keeping demand under control (energy efficiency).

Energy security considerations must also be weighed against economic competitiveness considerations and environmental concerns – notably those related to climate change. EU energy policy needs to strike a balance between these goals, and there are often tradeoffs involved. The difficulty in achieving this balance can be seen in the current debate in Europe on its renewable energy and climate policies.

There are limits to what the EU can do internationally on foreign policy and energy matters, but the EU can still deploy the instruments it has at its disposal to further its interests and continue developing a global order where rules and norms – even in the energy field – take precedence over crude power. Thus, it is important that EU institutions operate with a solid understanding of the geopolitical and economic realities ‘out there’, and that they do not attempt merely to export the EU’s domestic policies.

The key questions addressed in this report are: how can the EU tackle energy security as part of its international action, taking into account its unique institutional realities and constraints? How can action on this front fit best with other EU foreign policy goals as enshrined in its treaties, notably those promoting freedom, democracy, prosperity, and sustainable development? This report is a first appraisal of EU energy diplomacy as seen from a ‘foreign policy’ angle and thus only tangentially approaches the intra-EU aspects of this challenge. Its point of departure is that internal and external policies are strongly interlinked and need to be shaped in a consistent manner. In its policy proposals, it emphasises priority issues, priority regions and feasibility. The idea is to help the European foreign policy community understand the key trends that are shaping the energy world and work on key priorities in the years ahead.

The report is structured as follows. The first section summarises key developments in global energy markets and how they interact with global geopolitics. It also flags up emerging energy security issues in Europe and globally. The second section provides an overview of the energy and foreign policies of world powers and leading energy exporters. The third section reviews the EU’s energy policies, its current energy security situation, and its initiatives to increase its energy security. The final section concludes with a selection of ideas on how the EU could effectively approach energy security issues and match them with its foreign policy and climate priorities.

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