Can Iran really enter the European energy market and challenge Russia?

Jun 17, 2015 12:00 AM

By Alexey Khlebnikov

Energy security has always been among the top priorities on the political agenda of any country. The European Union (EU) is not alone in its desire to enhance its energy security, especially since Russia started to recover from the volatile 1990s to mid-2000s period. The issue of dependency on energy supplies from a state which can no longer be reasoned effectively as being in the EU's own interest has become a top priority. In order to diversify its supply sources and reduce reliance on Russia the EU worked out the Southern Gas Corridor concept as a strategy to facilitate the flow of Caspian and Middle Eastern gas to European markets.

In the light of recent developments, such as the conflict in Ukraine and worsening relations between Russia and the West, the shutdown of the South Stream project and the promising results of the recent round of Iranian nuclear talks, speculation about the prospect of Iranian energy supplies getting to Europe has been revived. There is a feeling, though, that many in the West have started to cook a hare before catching him. Nevertheless, can Iran really enter the European energy market and challenge Russian energy dominance?

Iranian oil

Iranian Oil Production

It is important to remember that the Iranian oil industry has been hit badly by international and individual state sanctions. This is why it is very unlikely that Iran will be able to restart substantial oil supplies to Europe, even in the long-term. The industry's output dropped by 15 per cent from 2004 to 2013 (from 4.2 million barrels per day to 3.5). The major drop happened in 2011/2012 when the most severe sanctions - financial sanctions and the oil embargo - were imposed on Iran. This indicates that oil was hit hard by sanctions. Iran's oil exports to Europe in 2012 thus dropped by 78 per cent on the previous year's figure. Its share of the oil market which was taken up quickly by Libya and Nigeria.

According to the latest data, Iran consumes about 57 per cent of its oil production; 31 per cent of its oil output is exported to Asia and the Pacific region, leaving only 12 per cent, or about 0.4 million barrels per day available for further exports.

In the current state of the oil market and prices it will be extremely hard for Iran to regain its share of the European market. Nobody in OPEC wants to lose their market share. Iran's aging infrastructure and lack of capital investments cannot be ignored. This is why Iranian oil cannot pose a real threat to Russian oil in Europe in the mid- to long-term.

Iranian gas

The situation with Iran's gas is different, although it will not be a serious threat to Russia's supplies for at least eight to ten years; here's why.

In the past decade, Iran's gas production was quite impressive considering the sanctions under which it was operating under. Iranian gas output increased slowly but consistently and in 2013 the growth was 72 per cent of the 2004 output, estimated at 166.6 billion cubic metres. After the most severe sanctions were imposed on Iran in 2011/2012 this increase did not stop. Even being under sanctions Iran was steadily, albeit slowly, increasing its gas production.

This makes it highly unlikely that after the sanctions are lifted Iranian gas output will be boosted immediately. The country lacks modern equipment, facilities and investments; it will take time to get back to full flow even with inward investment from overseas. The Iranian government's own estimate of energy sector needs is about $300 billion over eight years.

According to the BP statistical review of 2014, in 2013 Iran exported gas almost solely to Turkey, with 8.7 billion cubic metres (about 17 per cent of Turkish gas imports), with 0.7 billion cu m going to former Soviet republics; Russia supplied 26.2 billion cu m to Turkey (52 per cent of total gas imports) and about 136.2 billion cu m to Europe (25-30 per cent of total gas imports). Iran has even been importing gas from Turkmenistan for more than a decade (4.7 billion cu m in 2013), which actually makes it possible for Tehran to export gas to Turkey because Iran consumes about 97 per cent of its own gas.

Although Iran's gas exports were slowly growing throughout the 2000s, Iranian gas never flowed to Europe and Iranian total gas exports are still small; just 9.4 billion cubic metres in 2013, most of which went to a single consumer, Turkey. This is not enough to become an overnight game-changer even with the help of Europe.

Moreover there are other obstacles for Iran to enter the European market and challenge Russia, not least of which is that Iran has a limited choice of physical supply routes. Iran's pipelines only have access to Europe through Russia, Turkey and Azerbaijan-Georgia. The Caspian petro-states are unlikely to let Iran grab their share of gas supplies to Europe, although with generous investments into their economies and oil and gas sectors there is a chance that Iranian gas can get European access through the existing South Caucasus Pipeline (SCP) and proposed Trans-Anatolian Pipeline (TANAP) which is planned to be finished in 2018 and carry some 16 bcm per annum.

Iran's pipe infrastructure is limited; there is just one pipeline, Tabriz-Ankara, which delivers its gas to Turkey and can possibly connect Iran to the European market. Tehran needs to construct another pipeline to Turkey to increase its gas supplies; this will require huge investments.

Russia has already sealed a deal with Ankara to construct the Turkish Stream pipeline which is planned to carry output of 63 billion cubic metres per annum with its first delivery in December 2016. This will make Turkey the major regional energy hub, so Tehran will have to deal with both Ankara and Moscow to get its gas into the European market.

Another issue is that Iran has neither an operational Liquefied Natural Gas (LNG) plant nor a substantial fleet of LNG tankers for its transportation. The current construction by the Iran LNG Company on the west coast of Iran at Tombak is going to take a few more years to complete because the project is very expensive.

The 5,000 km Iran-Iraq-Syria pipeline (also called the Friendship Pipeline) which would connect the biggest gas field in the world (South Pars) to the Syrian Mediterranean coast has been postponed for obvious reasons and is unlikely to be implemented anytime soon.

Thus Iran faces major obstacles to it becoming a large gas exporter, including the need to increase gas production and build new transportation infrastructure. Even if there is a successful conclusion to the nuclear negotiations later this month and sanctions are lifted, the government in Tehran will need a lot of time to renovate its production capacities and construct supply pipelines. This makes it unrealistic for Iran to become a substantial energy supplier to the European market in the foreseeable future. Russia's market share is safe, for the moment.

The author is a strategic risk analyst with the focus on the Middle East and major powers foreign policies in the region. You can follow him at @AleksKhlebnikov

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