Lithuania risk: Alert – Natural gas cut-off from Russia could halt industrial production

NEW SCENARIO

Risk Briefing's risk scenarios are potential developments that might substantially change the business operating environment over the coming two years. We analyse the drivers, provide the context and conclude with recommended action. The following scenario has been added to the latest country update

FOREIGN TRADE & PAYMENTS RISK

Russia withholds supplies of natural gas

Low probability; V High impact; Risk intensity=10

Russia's invasion of Ukraine has amplified concerns about the stability of gas supply to Europe. In late 2021 there were claims that Russia's largest producer and dominant gas exporter, Gazprom, was deliberately cutting back supplies for political reasons and raising international gas prices, although Gazprom stated that it was complying with all of its contractual obligations. However, in January 2022 as tensions over Ukraine increased steadily, Russian pipeline flows to Europe were up to 50% below the average in the previous three years. With Western countries imposing more sanctions in response to Russia's invasion, there is a possibility that Russia will retaliate by withholding gas exports from the European market. Europe imports 40% of its gas from Russia, but dependence on Russian gas varies across the region (Germany sources 55% of its gas from Russia), and it would be difficult (and costly) to source gas imports from an alternative market. A cut-off of supplies would, therefore, seriously negatively affect the European energy supply, even with further increases in LNG imports. However, gas exports represent a major source of foreign exchange for Russia. Although the regime has amassed significant foreign reserves, it could not easily absorb a prolonged and large-scale supply cut to Europe (making this a low-risk scenario). However, short-lived reductions in supply by Gazprom are much more likely, which will keep international gas prices at high levels. This will feed through to higher utility prices for businesses and consumers. Eastern Europe, including Lithuania, is highly dependent on external demand from Germany. In the case of a natural gas cut-off, industrial production would likely contract significantly, sending ripple effects throughout Europe. Businesses should factor in high energy prices throughout the rest of 2022 and 2023.