Overcoming Monopoly Power with Buyer Alliances for Natural Gas

With a few exceptions, Central and Eastern European states are highly dependent on imports of natural gas from Gazprom, the Russian state monopolist. The gas markets in the region are essentially fragmented along national lines, both commercially and physically, thus making them vulnerable to monopoly power. As a result, import prices for Russian gas have been found to be higher in the Baltic States than for example in Germany which benefits from supply source diversification while the Baltic States do not. As is well known, supply source diversification is a crucial mechanism for security of supply – enabling both price competition and lower vulnerability to supply disruptions. However the high fixed costs of the necessary infrastructure and the small size of many Central and Eastern European gas markets makes it uneconomical to organise diversification for each of them separately. The most commonly discussed solution to this problem is to invest in interconnector pipelines so as to transform a set of separate national gas transmission systems into a larger regional system. Arbitrage could then occur throughout this interconnected system, thus helping to overcome price discrimination on the part of a monopoly supplier. If, in addition, one of the countries in such a network were to acquire a new source of supplies – for instance an LNG terminal – then the benefits of diversification could be transmitted throughout the entire group of countries thanks to the possibility of physical arbitrage.