Russian market power on the EU gas market: can Gazprom do the same as in Urkaine?

Abstract

In the course of 2006, Gazprom sharply increased gas prices for Ukraine, Belarus, Georgia and Moldova. This paper assesses (i) to what extent Europe is vulnerable to similar use of market power by Russia, and (ii) to what extent the construction of strategic gas storage could help Europe to reduce its vulnerability. The European market for imported gas is described by differentiated Cournot competition between Russia and other – potentially more reliable – suppliers, in particular LNG imports. The results show that Russian market power is limited, because demand is not completely inelastic even in the short run. Moreover, if Russia’s unreliability increases (or if European short-run demand elasticity decreases) Russia gives away more and more of its expected profits to the other suppliers. For Europe, buying gas from more reliable suppliers at a price premium turns out to be more attractive than building storage capacity.