By Ani Avetisyan
As Russia’s ongoing war in Ukraine continues to affect all parties involved, Azerbaijan attempts to position itself as a key player – maintaining good relations with both Russia and Ukraine and positioning itself as an energy and economic ally for the West. As the European Union seeks alternatives to Russian gas since the start of the war, Azerbaijan and its rich resources come into focus. Although Azerbaijan cannot fully replace Russian energy supplies in the foreseeable future as now its share in the EU’s total gas exports is less than three percent, it has already significantly increased gas exports to the EU and promised more in the future. Baku says it could replace Russian gas transiting through Ukraine by the end of 2024.
But Azerbaijan is already producing at near capacity. To increase its output to meet the EU’s rising demands would require significant investment and time. An easier option is cooperation with Russia and the use of Russian oil and gas. The increased gas trade between Russia and Azerbaijan took place with several geopolitical shifts that brought the governments in Baku and Moscow even closer.
The partnership evolved after the EU adopted several packages of sanctions against Russia, meanwhile signing a Memorandum of Understanding with Azerbaijan to replace Russian energy with supplies from different countries, including Azerbaijan. In July 2022, Azerbaijan promised to increase the supplies through the Southern Gas Corridor to 20 billion cubic meters by 2027 – the maximum capacity of the pipeline. Even back then, it was clear for Azerbaijan and the outside world that Baku’s existing capabilities would not be enough to supply the promised amount of gas. Azerbaijan produced 48.4 bcm gas annually, with President Ilham Aliyev promising that the country would produce 50 bcm in 2024, with over half of it expected to be exported.
A growing [Inter]dependence
The first major deal between Russia and Azerbaijan was announced in November 2022, reportedly for Azerbaijan to meet the domestic demands ahead of the planned increase of gas supplies to the European Union. Since then, relations between Baku and Moscow have reached a new high, with the countries’ gas deals placing the two authoritarian regimes in a complex interdependence, where Russia needs Azerbaijan to exploit its rich natural resources and compensate for financial losses, while Baku needs Russian gas to save face in the EU and maintain the image of a crucial ally. The Azeri gas supply-demand was so tight since the beginning of the new deals, that along with Russian gas, Azerbaijan signed another swap agreement with Turkmenistan.
According to Global Witness, over 90% of the crude oil processed at the STAR refinery in early 2024 was sourced from Russia, with most of the resulting products sold to European markets. This refinery, jointly owned by Azerbaijan’s state oil company SOCAR, has become a critical hub for processing Russian crude at a time when many other nations are shunning direct imports of Russian oil due to sanctions.
Before the invasion of Ukraine, the refinery was not a major destination for Russian oil, ranking 18th among global refineries receiving Russian crude. However, by the first quarter of 2024, the STAR refinery had climbed to fourth place globally, trailing only two Indian and two Chinese refineries in its intake of Russian crude. During this period, STAR imported an estimated $1.2 billion worth of Russian oil, compared with $500 million during the first quarter of 2022.
More significant than the oil trade is the intricate gas swap arrangements between Russia and Azerbaijan. This diplomatic dance allows Russian gas to flow to Europe under an Azerbaijani label, effectively circumventing the Western sanctions and reaching geographies otherwise restricted. For Azerbaijan, the arrangement offers significant economic benefits, as SOCAR profits from refining and selling the Russian crude products. In diplomatic terms, the Azerbaijan-Russia deals, on the one hand, strengthen the strategic partnership between Moscow and Baku, while the Baku-EU partnership remains fragile.
Along with the issues of gas laundering, Russian companies’ involvement in the Azerbaijani oil and gas businesses and in the energy infrastructure also stands in the way of the EU’s desired Russia-free gas supplies. A significant portion of the infrastructure needed to extract and transport gas from the Caspian Sea to Europe is partially owned by Lukoil, a major Russian oil and gas company with close ties to the Putin regime. Lukoil controls the second-largest stake in Azerbaijan’s Shah Deniz gas field, with a 20% share in the project set to be a key gas supplier to Europe for the foreseeable future. Interestingly, Lukoil is not sanctioned by the EU, despite almost all major Russian companies being subjected to a number of Western sanctions. Additionally, Ukraine’s sanction on Lukoil and its ban on the transit of the company’s controlled gas through its territories have caused a backlash from EU members Slovakia and Hungary, both still largely dependent on Russian supplies.
In addition, Lukoil is a shareholder in the South Caucasus Pipeline, which forms the eastern segment of the Southern Gas Corridor (SGC). It also holds a nearly 16% share in the Azerbaijan Gas Supply Company, which manages the delivery of Azerbaijani gas to Europe through the SGC. According to calculations, in the coming decade, Lukoil will make a profit of over $7 billion in the next decade in its deal with Azerbaijan. The EU, in general, has been reluctant in sanctioning the Russian gas exports. The first sanctions on Russian liquid gas re-exports were adopted this June, targeting the European ports that resell the Russian LNG. The measure still allows the member states to make their own decisions when opting for continuing Russian gas supplies. One of the reasons is that a number of EU member states are still relying on Russian gas for their domestic consumption. This, in turn, allows Azerbaijan to sell Russian gas to the EU without risking sanctions.
While Azerbaijan has several promising gas fields, including the Shah Deniz, Absheron, and ACG Deep fields, developing these resources will take time. For example, the Absheron field’s second phase is expected to add 4 bcm capacity, but this has not yet reached the final investment decision stage. Any significant increases in Azerbaijani gas production are therefore unlikely before the late 2020s, making it impossible for Baku to immediately fill the gap left by Russian supplies.
Thus, in the current reality, the most plausible solution for the EU to formally replace Russian gas would involve the swap arrangements where Russian gas continues to flow to the EU under the guise of Azeri gas. However, in fact, this reality does not offer much for actual energy diversification and would not significantly reduce Europe’s dependence on Russian gas.
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