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THE CAUCASUS & GLOBALIZATION
Alexander KRYLOV
D.Sc. (Hist.), President of the Scientific Society for the Study of the Caucasus, Chief Researcher at the Center for Development and
Modernization Studies, The Institute of World Economy and International Relations,
Russian Academy of Sciences (Moscow, the Russian Federation).
SOUTH
CAUCASIAN ENERGY TRANSIT: PROBLEMS AND PROSPECTS
Abstract
This article examines the special features of forming South Caucasian energy transit as a potentially important component of the world market and the European Union's energy security. It shows the specifics of the role of the energy resource export countries and transit states, the special features of Russia's position as both the largest energy resource supplier and a transit country, and the complicated nature of the latter's energy partnership with the EU. It analyzes the situation in the world energy market and the contradictory nature of en-
ergy cooperation between Russia and the European Union, which is increasing the EU's interest in creating a South Caucasian energy corridor. It also analyzes Azerbaijan's key importance from the viewpoint of South Caucasian energy transit and the special features of the country's energy cooperation with Turkey, Russia, and Iran. It examines several alternatives for transporting gas from Azerbaijan and Turkmenistan to the European markets and justifies the expediency of choosing implementable and economically lucrative projects.
Introduction
A separate region called the Southern Caucasus (SC) emerged on the world political map after the collapse of the Soviet Union when Azerbaijan, Armenia, and Georgia became independent states and full-fledged members of the international community. The important geopolitical position of this small region has made it a target of the leading world and regional players' attention for more than 20 years now.
The emergence of the Southern Caucasus provided the U.S. and EU with a convenient springboard on the borders of Russia and Iran to replace the former Russian-Soviet Transcaucasus, as well as with access to the rich energy resources of Central Asia, which account for one tenth of the world oil and gas reserves. There are different assessments of the Southern Caucasus' oil and gas reserves.
82 HHSHAfflCABffiS&HLOBALnHAHI^RI Volume 6 Issue 1 2012
Azerbaijan's Role
According to Western experts' most optimistic assessments, Azerbaijan (the only country in the Southern Caucasus that possesses oil and gas reserves) accounts for only 0.6% of the proven world oil reserves (1 billion tonnes or 7 billion barrels) and 0.8% of the proven world gas reserves (1.37 trillion cubic meters).1
However, Azerbaijan contends that its reserves are at least twice as high. Head of the State Oil Company of the Azerbaijan Republic (SOCAR) Rovnag Abdullaev claims that Azerbaijan's oil reserves amount to 2 billion tonnes, while extractable gas reserves are evaluated at 2.2 trillion cubic meters.2 According to his data, in 2010, Azerbaijan achieved the highest indices in oil and gas production—51 million tonnes and 27 billion cubic meters of gas, respectively. Mr. Abdullaev emphasizes that in recent years, Azerbaijan has been ensuring its energy security and has turned from a gas importer into its exporter.3
Azerbaijani experts give even more optimistic assessments. According to them, Azerbaijan's proven oil reserves amount to 7-13 billion barrels and proven gas reserves to 2.6 trillion cubic meters. According to these assessments, by 2015, oil production in Azerbaijan will increase to 60 million tonnes and gas production to 30 billion cubic meters, while by 2025, the latter will increase to 50 billion cubic meters a year.4 If these assessments do not prove to be short-term and unjustifiably high, Azerbaijan could become an important player in the world energy market. However, the U.S. and EU continue to regard the Southern Caucasus primarily as a transit region through which energy resources from Central Asia reach the world markets bypassing Russia and Iran.
The U.S. and EU have also been supporting and financing the Baku-Tbilisi-Ceyhan oil pipeline and Baku-Tbilisi-Erzurum gas pipeline, rendering Azerbaijan large amounts of assistance in military-and navy-building, and actively helping to intensify Azerbaijan-NATO relations. The Azerbaijani leadership is fond of repeating that Azerbaijan's cooperation with NATO is strategic in nature.
Azerbaijan's transformation into a transit country for exporting Central Asian energy resources to the world markets could undermine Russia's position in the Caspian region. At first, the Russian leadership successfully neutralized this threat by developing energy cooperation with the Central Asian countries (providing transit to foreign markets via the existing pipelines, making its own oil and gas purchases, etc.). In 2009, Russia also began buying gas in Azerbaijan. Prior to this, Turkey was the main importer of Azerbaijani gas (the first gas was sent along the Baku-Tbilisi-Erzurum pipeline at the end of 2006).
It proved extremely difficult to establish energy partnership between Azerbaijan and Turkey. According to the terms of the contract signed in 2001, the price of Azerbaijani gas was set at $120 per thousand cubic meters. However, the contract stipulated that the prices could be readjusted every year with mutual consent. In April 2008, Azerbaijan declared its intention to raise the price since it proved to be almost three-fold lower than in Europe. But Botaj, Turkey's Petroleum Pipeline Corporation, was against this hike, although it was buying fuel from Gazprom at a much higher price than from Azerbaijan.
The Turkish side suggested setting the transit fee for Azerbaijani gas to Europe at 70% of the "generally accepted world standard." Furthermore, Ankara was clearly trying to correlate pumping gas to Europe with ensuring that Turkey paid privileged prices for Azerbaijani gas. According to the Azerbaijani side, the rates for pumping gas offered by Turkey were totally unacceptable, since they were 70% higher than similar rates for the region.5
1 [http://www.regnum.ru/news/474627.html].
2 [http://www.trend.az/capital/energy/1838856.html].
3 [http://www.trend.az/capital/energy/1838856.html].
4 [http://www.mioge.ru/RU/world/caspian/].
5 [http://www.caucasusinstitute.org/wp-content/uploads/2011/03/yearbook_final-2009.pdf].
THE CAUCASUS & GLOBALIZATION
Signing of the Protocol on the Establishment of Diplomatic Relations between Turkey and Armenia in Zurich aggravated the contradictions between Azerbaijan and Turkey in the energy sphere, leading to an unprecedented cooling in their bilateral relations. In October 2009, President Ilham Aliev announced that Azerbaijan would consider gas export alternatives since the Turkish-Azerbaijani talks on the transit of blue fuel had reached an impasse. Moreover, he accused Turkey of hampering the agreements by offering unacceptably low prices for Azerbaijani gas and emphasized that until recently Azerbaijan had been selling natural gas to Turkey at a price 30% lower than the price in the world market.6
The energy crisis in relations between Azerbaijan and Turkey, as well as the indefinite prospects for exporting Azerbaijani gas to Europe, compelled Baku to search urgently for alternative sales markets. On 14 October, 2009, Gazprom and SOCAR signed a contract on the export of 500 million cubic meters of Azerbaijani gas to Russia at a price the Azerbaijani leadership considered to be "mutually advantageous."
The delivery volumes of Azerbaijani gas to Russia have been constantly growing: according to the contracts entered in 2011, Gazprom was supposed to receive two billion and in 2012 more than 2 billion cubic meters of gas. An additional agreement on increasing the volumes of Azerbaijani gas purchased by Russia to three billion cubic meters a year was signed in Sochi on 24 January, 2012.7 Along with increasing the delivery volumes of Azerbaijani gas to Russia, SOCAR announced the possibility of building enterprises for liquefying Azerbaijani gas in Georgia with its further transportation by liquefied gas carriers via the Black Sea to Rumania and Bulgaria.
Iran could become another important consumer of Azerbaijani gas. After the collapse of the Soviet Union, Azerbaijan and Iran agreed on gas delivery swaps. Gas from Azerbaijan goes to the Iranian border provinces, while Iran delivers the same amount of gas to autonomous Nakhchivan, which is isolated from the rest of Azerbaijani territory. According to the available data, the daily gas exchange amounts to as much as 1.5 million cubic meters. In January 2010, SOCAR and the Iranian National Gas Company signed an agreement on gas deliveries to Iran, which at the initial stage will amount to 1.2 million cubic meters a day.8 The Iranian side expressed its willingness to buy any amount of gas from Azerbaijan in the future.
The development of energy cooperation between Azerbaijan and neighboring Russia and Iran is promoted by the gas pipelines remaining from Soviet times that link up these countries. Azerbaijan and Iran are connected by the Gazi-Magomed-Astara-Bind-Biand gas pipeline, the throughput capacity of which amounts to 10 billion cubic meters a year. However, the tense situation around Iran is hampering further development of Azerbaijani-Iranian energy cooperation. Despite this, the diversification of gas deliveries carried out in a short time strengthened Baku's position at the talks with transit states and potential buyers of Azerbaijani energy resources.
After the contract on the delivery of Azerbaijani gas to Russia was signed, President Ilham Al-iev said that the gas price and transit rates offered by Turkey did not suit Azerbaijan in the least. He directly accused Ankara of obstructing the export of Azerbaijani fuel to Europe. It was obvious that if Turkey continued stalling and failed to offer gas prices and transit fees that suited Azerbaijan, the scope of energy cooperation between the two countries would be reduced to a minimum. This would ultimately bury all the projects for building a southern energy corridor bypassing Russia. However, it would be too disadvantageous for Baku to become overly dependent on one of its customers or transit countries, be it Turkey, Iran, or Russia. It goes without saying that Azerbaijan and Turkey ultimately managed to overcome their differences and begin implementing joint large-scale projects in the energy sphere.
6
7 [http://www.kavkazoved.info/news/2012/03/21/azerbajdzhan-kak-eksporter-gaza-ambicii-i-realnost.html].
[http://www.good-article.ru/articles/1005519.html]. [http ://www.kavkazoved. info/ne ws/2012/ [http://journal-neo.com/?q=ru/node/259].
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The Southern Caucasus and Europe's Energy Security
Successful functioning of South Caucasian energy transit requires resolving many difficult and interrelated problems. Along with the still unresolved problem of establishing stable and large oil and gas deliveries from Central Asia through the Southern Caucasus to Europe, stability must be maintained in the region and renewal of the currently frozen hostilities in the conflict zones prevented.
Nor can aggravation of the domestic political situation and possible destabilization of the transit countries—Azerbaijan, Georgia, and Turkey—be allowed, which is particularly urgent in the context of the current Arab Spring. And, finally, reliable functioning of South Caucasian energy transit is possible only if relations between Azerbaijan and Georgia are stable. None of this is easy to ensure since the newly independent states in the Southern Caucasus were established in extremely volatile circumstances and the region still has a high conflict potential.
It goes without saying that the establishment and successful functioning of South Caucasian energy transit will help to turn the region into an important component of Europe's energy security and promote an increase in its role in the world economy and politics. This is of the greatest relevance for Azerbaijan and Georgia, while the U.S., European Union, Turkey, and Israel are also showing a high level of interest.
On 7 September, 2011, the European Commission published a policy document called The EU Energy Policy: Engaging with Partners beyond Our Borders. It mentions the Trans-Caspian Gas Pipeline (TCG), which is considered to be part of the Nabucco gas pipeline, as one of the main projects needed to ensure the EU's energy security. The document notes that the agreement among the EU, Azerbaijan, and Turkmenistan regarding the TCG forms the foundation for building infrastructure that will ensure deliveries of Turkmen gas to the European market through the Caspian Sea.
The need for the EU to step up its activity in the Caspian vector was dictated by several factors that changed the situation in the European and world energy markets. In the context of the growing shortage of energy resources in the world market, the accelerated economic development of such large states as China and India is becoming a negative factor for the EU. According to the International Energy Agency's forecast, by 2030, the economy of China and India will consume around half of the world energy resources. The increase in consumption in these countries, in combination with the overall increase in energy resource consumption on a global scale (including in the least developed countries), is intensifying competition in the world market and creating new challenges for the EU's energy security.
The aggravated struggle over energy resources is turning the developed and developing countries into potential antagonists. This is raising the importance of the energy factor in world politics, since any disruption of oil and gas deliveries threatens to upset socioeconomic and political life in those states that consume these resources in the largest amounts. These are the most developed and prosperous countries of the modern world—the U.S. and the European Union states.
In recent years, the lingering instability in the Middle East has been having a negative impact on energy security in the EU, and the situation in North Africa is developing in the same way. The occupation of Iraq led to a significant decrease in oil production; at present, less than half of the previous volumes are produced there. Furthermore, even if the occupation troops are withdrawn from Iraq, the situation is unlikely to improve: the probability of domestic political conflicts due to the acute contradictions among the Kurds, Sunnis, and Shi'ites, including regarding control over oil fields, is too high.
The situation in North Africa is developing along similar lines: the halting of gas deliveries and cutback in oil deliveries from 1.6 million barrels a day to a symbolic 100,000 barrels is the price that
THE CAUCASUS & GLOBALIZATION
has been paid for Colonel Qaddafi's removal from power. Furthermore, as in Iraq, restoring production to the previous level can only be counted on in the very distant future.
Another negative factor for European energy security was the accident at Japan's Fukushima-1 Nuclear Power Plant in the spring of 2011. Japan was forced to augment its consumption of liquefied gas under emergency conditions, which led to a significant rise in the price of LNG in the world market. However, the accident had consequences that were much more far-reaching for Europe's nuclear power industry, which in recent years had been considered the most important component of the EU's energy security. However, after the accident at Fukushima-1, the EU states declared their intention to put a complete halt to the production of nuclear energy, which is automatically leading to an increase in demand for oil and gas.
Russia's Role
The new challenges to the European Union's energy security could have a significant influence on the nature of and prospects for its relations with the South Caucasian states and the Russian Federation. The future prospects for South Caucasian energy transit largely depend on the direction in which relations between the European Union and Russian Federation develop. The EU is Russia's largest partner, the current share of which accounts for around half of its foreign trade turnover. Energy resources and their primary processing products still constitute Russia's main export items to Europe.
After the collapse of the Soviet Union, energy cooperation between Russia and the EU was greatly complicated by dependence on transit states. Due to the aggravated problems of energy transit, the Russian government made a decision to diversify the transportation routes of Russian energy resources to the world markets as quickly as possible by building new pipelines along the bottom of the Baltic and Black seas that bypassed the transit states. The total capacity of the North and South Streams and Blue Stream 29 will make it possible to deliver more than 100 billion cubic meters of gas a year to the European markets. This redistribution of export energy flows will help to resolve the problem of gas transit and ensure the reliability of Russian deliveries to Europe.
Cooperation among Russia, Germany, Holland, and France made it possible to implement the North Stream project, which links up the Russian and European gas transportation systems, in a short time. On 8 November, 2011, Russia began delivering gas to Europe via this pipeline, which has the capacity to pump 55 billion cubic meters a year. There are plans to launch the Russian-Italian-French-German South Stream project with a capacity of 63 billion cubic meters a year in 2015.10
Russia's energy policy is based on the conviction that the demand for gas and other energy resources in Europe (and in the world as a whole) will keep on rising, which meets the interests of the exporter countries. This is particularly advantageous for Russia, which is one of the main world exporters of oil and has the largest proven gas reserves in the world (more than 50 trillion cubic meters).11 Active geological exploration and the development of hydrocarbon production on the Arctic shelf, as well as at the Yamal and Shtokman fields, will make it possible for Russia to expand its raw material base even more in the near future. Furthermore this expansion is to be implemented along with the introduction of contemporary environmentally friendly and resource-saving technology, including developing the production of liquefied gas.
9 Blue Stream 2 envisages building a new branch of the gas pipeline parallel to Blue Stream, gas transportation infrastructure in Turkey and then an offshore gas pipeline in the direction of Israel. Implementation of the project will make it possible to increase the capacity of the gas pipeline to 16 billion cubic meters of gas a year, available at [http://ria.ru/ economy/20090326/166112177.html].
10 [http://www.rosbalt.ru/business/2012/02/29/951650.html].
11 [http://www.ria.ru/economy/20120323/604114251.html].
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Russia is too keen on exporting its own energy resources to the world markets to show an interest in obtaining income by using its gas pipelines to transit raw material from other states. According to the statements of official Gazprom representatives, the company is planning to deliver only its own gas via the South Stream gas pipeline: "The route is being planned based on our own capabilities, so only Gazprom gas will be pumped via the pipeline."12
The European Union countries regard Russia as their main energy supplier. But many of them are in favor of diversifying deliveries as much as possible, transferring to shale gas and alternative energy sources, and so on, in order to avoid excessive dependence on one or several suppliers. So they are not always receptive to Russia's striving to increase its deliveries of energy resources to Europe.
Energy cooperation with Russia is being vehemently discussed in the European Union by those who are for and against it. Its supporters point to the economic advantages to be gained from cooperation with Russia, while its opponents are concerned about the possible negative consequences of Europe's excessive dependence on the "authoritarian Kremlin that suffers from imperial ambitions."
Those opposed to cooperation with Russia suggest placing the main emphasis on substituting deliveries from other countries for Russian oil and gas, as well as on replacing hydrocarbons with other energy resources. Several years ago, great hopes were placed on lunar helium-3, a substance with unique properties. Then shale gas, which could radically change the situation in the world energy resource markets and ensure the European Union energy independence, became the target of euphoria.
As with helium-3, there are many reasons for casting aspersions on this kind of euphoria. However, regardless of how justified the hopes of shale gas enthusiasts are, Moscow can no longer ignore the possibility that its energy deliveries to the European Union countries will decrease. The Russian authorities must take into account the possible negative consequences of their excessive dependence on the main consumer of Russian energy resources. In recent years, they have repeatedly stated the need to diversify Russia's energy deliveries by increasing the volume sent in the southerly and easterly directions.
Increasing the production of liquefied gas (greater attention will be given to this as the Russian leadership rids itself of its narrow pipeline thinking) will also help to overcome Russia's excessive dependence on the European market. Europe is not entirely happy about the growing diversification of Russia's energy deliveries, although technically speaking Russia is satisfying the Europeans' longtime desire to lower their consumption of Russian oil and gas.
Prospects for South Caucasian Energy Transit
The tense situation in the world energy market and complicated nature of energy cooperation between Russia and the European Union are raising the EU's interest in increasing energy deliveries via the South Caucasian energy corridor. At present, several alternatives for transporting Caspian gas to the European markets are being discussed. The future prospects for the Southern Caucasus are largely related to which of these alternatives will be put into practice.
The most ambitious is the Nabucco project for delivering Azerbaijani and Turkmen gas. It presupposes building a Trans-Caspian gas pipeline with a capacity of up to 50 billion cubic meters a year (the annual pumping volume was earlier planned at a level of 16 or 32 billion cubic meters). Turkmenistan has already expressed its willingness to pump up to 40 billion cubic meters of gas annually via
Nabucco.13
[http://www.oilru.com/news/272923/].
12
13 [http://www.nabucco.ge/cgi-bin/news/news.cgi?id=EkApEAZyZpaieGdSLG].
THE CAUCASUS & GLOBALIZATION
If this amount is added to the volumes of Azerbaijan's deliveries announced for the future, the share of Caspian gas in the European energy market might constitute more than 10% of the EU's predicted needs (610-640 billion cubic meters). If all of this gas is used to replace Russian gas, the share of the latter in the European market will significantly drop (from the current more than 40% to less than one third of the total volume).
However, this is unlikely to happen: Nabucco's objective is to diversify deliveries and not to squeeze Russian gas out of the European market (which is unrealistic anyway). And the EU's excessive dependence on new supplier and transit countries of Caspian gas might not meet Europe's energy security interests. Turkey and Azerbaijan may try to use their new gas trump cards in a dialog with the European Union on such problems as Turkey's accession to the EU and on the Palestinian, Karabakh, Cyprian, and other problems.
If Europe recovers from the economic crisis, it is more likely that deliveries of Caspian gas will be used to meet the growing demand and compensate for dwindling deliveries as the fields in Algeria and the North Sea become depleted. In this event, even if the share of Russian gas in the European market decreases, this decrease will be extremely small. If the economic crisis continues, however, and the demand for energy resources in Europe drops, this could lead to an extremely significant decrease in energy deliveries to Europe, which will also hinder the possibility of funding new expensive energy projects.
The initial projected cost of the Nabucco gas pipeline has risen from €7.9 billion to €12-15 billion. Recently, a sum of €24-26 billion was quoted, which is 4 times higher than the initial estimates, whereby the matter concerns a pipeline of 28-32 billion cubic meters in capacity.14 This capacity will not be enough for even pumping the volumes of Azerbaijani gas declared for export to Europe in the future.
If we add the 40 billion cubic meters of Turkmen gas declared for Nabucco, it becomes obvious that the pipeline's capacity should be doubled, at least. At the same time, the capacity of the Nabucco section along the Baku-Tbilisi-Erzurum route will also have to be increased 2-3-fold. But even in this case, Nabucco will not be able to pump the entire volume of declared deliveries from the Caspian region to Europe.
So it stands to reason that at present, in addition to Nabucco, other projects for delivering Caspian gas to Europe are being developed. They include the Southeast Europe gas pipeline from Turkey to Bulgaria, Rumania, and Hungary and the AGRI project, which presupposes transporting Azerbaijani gas by pipeline to the Georgian ports on the Black Sea, where it will be liquefied and delivered by liquefied gas carriers to Rumania.
Delayed implementation of the Nabucco project, as well as its nebulous prospects have led to Azerbaijan and Turkey proposing their own less ambitious, but easier to implement Trans-Anatolia pipeline project (TANAP). In October 2011, the SOCAR and Turkey's state energy company Botaj came to terms on building a new gas pipeline from the east to the western border of Turkey. It is to transport Azerbaijani gas to Rumania, Croatia, Hungary, and Bulgaria.
The Trans-Anatolia gas pipeline, which will have a capacity of 35 billion cubic meters a year, will cost approximately $5 billion to build. There are plans to pump 16-24 billion cubic meters of gas at the initial stage and later bring the volume up to 35 billion cubic meters with a potential increase to 60 billion.15 The gas pipeline should go into operation in 2017.
Despite the growing competition from liquefied and shale gas, pipeline gas is retaining its vital role in ensuring Europe's energy security. Pipeline gas continues to be competitive for environmental reasons and owing to the long-term guarantee of delivery volumes under contracts. It is obvious that without these deliveries it will be impossible to ensure Europe's energy security in the foreseeable future.
[http://top.rbc.ru/economics/24/10/2011/621790.shtml].
14
15 [http://ru.reuters.com/article/businessNews/idRURXE7BP0DR20111226].
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The interest of energy consumer countries in diversifying deliveries and the interest of exporter countries in increasing the number of countries consuming their energy resources are dictated by the desire to avoid excessive dependence on one or several suppliers or consumers. At the same time, supplier states and consumer countries are interested in overcoming excessive dependence on transit countries.
Energy exporter countries and transit countries have different interests, so conflicts between them are inevitable. The conflicts can become acute, but a compromise can be reached if the sides so desire. If, however, the exporter country (the RF, Azerbaijan, Turkmenistan) and transit country (Ukraine, Poland, the Baltic states, Turkey, the RF) are unable to find a mutually acceptable solution, the energy suppliers are forced to look for and establish new delivery routes that bypass the problematic states. This leads to rising diversification of energy corridors.
Compared with Turkey, Ukraine, Georgia, and other energy transit countries, Russia is the most problematic and specific partner, since it is both the largest energy supplier and a transit country at once. So the Russian Federation is interested not so much in obtaining revenue from transiting as much energy as possible through its territory (it is too insignificant compared with the revenue from energy export) as in reducing competition from other producers in the European market, which is the main one for Russian resources. This will be conducive to turning the Southern Caucasus into a transit region for delivering the Caspian's energy resources to Europe.
However, if the most optimistic forecasts about the future increase in oil and gas production in Azerbaijan are justified, its interest in energy transit to Europe through its territory from Central Asia could significantly decrease or disappear altogether. Azeri experts are already pointing this out, as well as indicating the potential problems associated with the TCG: "Transit payments are not so important for us. We also realize that Turkmen gas in the Turkish market will only raise competition over Azerbaijani gas. We have absolutely no need for the additional headache aggravated relations with Moscow and Tehran over the Trans-Caspian pipeline will create."16
It is neither possible, nor expedient to implement all the projects proposed for delivering energy resources from Azerbaijan and Central Asia to Europe through the Southern Caucasus. The most realizable, least expensive, and most economically lucrative of them must be determined.
There is no point in counting on a change in Russia's and Iran's negative attitude toward building the Trans-Caspian gas pipeline, which, moreover, is extremely expensive, in the near (or the distant) future. Russia's and Iran's active opposition, if it does not thwart this project entirely, will at least delay the construction time and increase the expenses even more. An acute conflict with Russia over the TCG will aggravate the contradictions within the European Union, which could have a negative effect on Europe's energy security and complicate drawing up a coordinated energy policy and further EU integration.
Sending liquefied natural gas from Turkmenistan to Europe through the Southern Caucasus and Black Sea appears to be the most advantageous and realizable solution. Arranging deliveries of liquefied gas to Europe from Turkmenistan will not arouse such active protest from Russia and Iran as the TCG project, since in that case the unsettled status of the Caspian will not hamper implementation of the project.
[http://www.fergananews.com/article.php?id=7100].
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