TOUGH RUSSIAN NEGOTIATOR Russian Prime Minister Vladimir Putin with President Dmitri Medvedev – the Russian leadership is making Croatia's hook-up to their Southern Stream natural gas pipeline conditional on abandoning the idea of an LNG terminal, while Croatia needs both sources of supply If Croatia wants to secure its connection to the major Russian Southern Stream natural gas pipeline and sign a new long-term contract on the procurement of natural gas from Russia, Croatian Government has to prevent the construction of a terminal for liquefied natural gas (LNG) at the Omisalj location on the island of Krk. Nacional has received confirmation from three different sources close to the Croatian national leadership that it is precisely this demand, although informal, that Russian negotiators have made a key condition of the talks, and which Russian Prime Minister Vladimir Putin will put to Croatian Prime Minister Jadranka Kosor, who is to travel officially to Moscow within the month to negotiate cooperation related to natural gas.

This then has confirmed premonitions of unfavourable demands that Russia was making towards Croatian negotiators, of which Nacional reported back in October of 2009 after a meeting between the Croatian Prime Minister and a Russian delegation led by Georgiy Poltavchenko, one of the Russian Prime Minister's closest aides and his personal envoy to the Central Federal District of the Russian Federation. In its negotiations with Croatia, Russia will have a whole spate of conditions, from the implementation of the Druzba Adria project to the resolution of various problems faced by Russian business people in Croatia. But the most significant demand is by far the one concerning the LNG terminal. This billion-euro facility in Omisalj is to be built by a consortium of Croatian and foreign companies, including Germany's E.ON, Austria's OMV and France's Total, and with it Croatia and the other countries of Central and Eastern Europe would get yet another opportunity to purchase natural gas in distant Arab and Africa countries, ship it in liquid form to the island of Krk, and then to distribute it by way of natural gas pipelines to their consumers.

That would partially reduce the demand for Russian natural gas, i.e. alleviate the dominant position Russia holds as the chief supplier of natural gas for European countries. As a result there is little doubt that it does not at all suit Russian interests to see these types of terminals built, and that Russia is thwarting these plans wherever it can. On the other hand, the countries of the European Union are encouraging the construction of these facilities as a means of diversifying procurement, making it very evident that Croatia is in fact, as a result of the project in Omisalj, the arena in which conflict between two opposed energy strategies is being played out. The collateral victim of this conflict could in fact be Croatia. Nacional's source close to top Government officials claims that the negotiations with Russia are currently the chief Croatian foreign policy problem. "Croatia has no alternative on cooperating with Russia on energy, because that is the only place we can secure enough natural gas over the long haul to meet our long-term needs. On the other hand, an LNG terminal on Krk is the only way to gain a supply source for natural gas that does not depend on Russia and thereby avoid the crises that happen in Europe when for some reason or other there is a halt on the delivery of Russian natural gas, as it was last winter.
Both can be considered national interests of the greatest significance, and Croatia has now been brought to a position in which it has to choose between them, i.e. between Russia and a whole spate of major Western European companies that are behind the LNG terminal project.

The problem, then, is a political one, and a solution acceptable to Croatia will have to be arrived at through negotiation that could last for years. The Prime Minister will have to resist strong pressure, and it is very easily possible that in the coming years Croatia may as a result of it all be faced with intermittent shortages of natural gas." The concern expressed by Nacional's source is very understandable if one takes into consideration the situation in which Croatia finds itself. About 40 percent of domestic needs for natural gas are met through imports from Russia. With the growth of domestic consumption and the reduction of domestic production, Croatia's demand for imported natural gas will grow in the future, and given that the current contract expires this year, Government would like to increase the annual quota of natural gas imported from Russia from the current 1.4 billion cubic metres to about 2.4 billion.

This increase is based on projections of the growth of industrial production in Croatia, and on a significant expected growth of household natural gas consumption. A few years ago Government launched a 500 million euro project to bring a natural gas distribution network to the Lika and Dalmatia regions. The project should be completed this year, but without a new deal with Russia it is an open question as to whether Croatia will have enough natural gas to supply the consumers connected to the newly installed piping. The situation is similar with the industrial sector, where natural gas is considered the chief source of energy and which is threatened by long-term stagnation without a secure supply of natural gas. Negotiations on a new contract were launched last year by former Deputy Prime Minister Damir Polancec, and it was at one of the first meetings that Russian Minister for Emergency Situations Sergey Shoygu informed the Croatian delegation that Russian was willing to continue delivering the current quantities of natural gas even after the existing contract expires, but that any increase in the quantity would have to be negotiated. In short, that means that the Russians are willing to deliver Croatia 1.4 billion cubic metres of natural gas for an undefined period of time, which will be enough to meet the most basic needs, but nothing more.

This arrangement could last for years, until Croatia agrees to the Russian demands. And while some Government officials are already openly calling this Russian negotiating position blackmail, the fact is that Croatia's current predicament is the direct result of the catastrophic energy and foreign policy led during the past six years of the rule of former Prime Minister Ivo Sanader. In the period from 2003 to 2006 Sanader, in spite of numerous warnings from experts, rejected several direct Russian offers for collaboration on energy projects, and in general neglected relations with Russia. First in 2003, immediately after coming to power he cut short negotiations on the construction of the Druzba Adria oil pipeline, and over the coming years he on several occasions declined to answer official queries from the Russian leadership on the Croatian position concerning the project.

Four years later, Sanader completely ignored a direct offer from Russian Prime Minister Putin made at an energy summit in Zagreb that Croatia join the Southern Stream natural gas pipeline project. On the other hand, during Sanader's term in office as Prime Minister, and especially after it became a member of the UN Security Council, Croatia on several occasions very directly supported the positions of the USA, which Russia opposed.

This kind of behaviour was interpreted by the Russian leadership as being in bad form, as it is felt there that it is inappropriate that a small country like Croatia take an active role in disputes between major powers that do not concern them directly. Furthermore, Croatia was for years very closed to Russian investors, and Government did not meet even the most basic Russian diplomatic requests, such as that an adequate plot of land be secured in Zagreb to relocate their embassy from its current inadequate downtown location. But, besides a catastrophic policy towards Russia, Sanader's administration also led an exceedingly shoddy energy policy. An example of this is the LNG terminal in Omisalj project, launched over five years ago, but still not in the implementation phase in spite of the fact that it is a project that would secure Croatia long-term security in the supply of natural gas and indirectly reduce the dependence on Russia. Croatian Government, namely, first wasted over a year on negotiations with foreign partners in which it sought that the share of participation of Croatian companies be increased from 12.5 to 25 percent. However, when this request was met, Government did not manage in the coming two years to decide among which Croatian firms and in what ratios this share would be distributed.

CROATIAN CONCESSIONS Putin with Minister Sergey Shoygu who is making an increase in the natural gas quota for Croatia conditional on concessions to Russia If Croatia's slow diplomacy is added to the mix, it is clear why the project is not even close to the implementation phase. The local press has on several occasions speculated that the Croatian companies predetermined for participation in the project - INA, HEP and Plinacro - are at this moment in time simply unable to collect the 250 million euro for their share of the costs of building the terminal. In that context, 2010 has been judged the key year for the future of the project, especially given that the German company RWE has already left the consortium. Those who understand the situation in European energy circles claim that other companies too might consider that move if there is no progress. This is a fact the Russians have evidently recognised, and they have decided to use their dominant position in the negotiations with Croatia to prevent the realisation of a competing project. This outcome would be catastrophic for Croatia, as the failure of the LNG terminal project would mean that she has for the second time in ten years missed an opportunity to create an alternative supply route for natural gas.

The first opportunity was missed about ten years ago when, under never clarified circumstances, the then coalition government reduced the planned capacity of the natural gas pipeline that connected Croatia to the natural gas fields in northern Adriatic and Italy. Had that not been done, Croatia would now have the possibility of importing natural gas from African countries such as Algeria and Libya. Insofar, it is clear that Jadranka Kosor absolutely must not agree to the demands of the Russian side, and Government's chief mission at this point in time is to try and secure additional quantities of natural gas until 2014 or 2015 when the LNG terminal is expected to become operational. There are several possibilities for this. The first is to strike a deal with Italy's ENI to buy up additional quantities of natural gas from the northern Adriatic. According to Nacional's information, Economy Minister Duro Popijac has already discussed the possibility with the leadership of the company during his visit to Italy, and it is presumed that ENI could pass on a further billion or so cubic metres of natural gas to Croatia. The other possibility is that a further 400 million cubic metres a year be purchased in Western European countries, the amount that can be transported to Croatia through still available capacities in the natural gas pipeline from Slovenia's Gorice.

It should be noted that this natural gas would be somewhat more expensive than natural gas imported from Russia, and Government could somewhat mitigate this difference in price by seeking the aid of the European Union. That way Croatia could weather the period up to the completion of the LNG terminal, and after that, given its designed capacity of between 10 and 15 billion cubic metres of natural gas a year, Croatia's supply would be secure, and Croatia would have a much stronger position in its negotiations with Russia. Nevertheless, for that to happen, Government has to make several decisive moves in the coming months. First it has to resolve the issue of the Croatian companies in the consortium. If the speculation that HEP, INA and Plinacro are at this moment unable to pool the necessary 250 million euro for the construction of the terminal, Government has several ways to resolve the problem. The first is that the share held by Croatian firms in the consortium be reduced to a level of investment they can handle, and the second is that some other financially more potent firms join the project. One such company is JANAF, and according to the information Nacional has there has already been intensive consideration given to the idea in Government. There are several reasons for that. The first is that JANAF is, unlike INA, a company in majority Croatian state ownership and control.

The company is very financially potent, and allegedly Government is now considering in detail the possibility that the entire project be realised on JANAF 's land in Omisalj. From the start the LNG terminal project was planned to be on land belonging to petrochemical factory DINA, owned by Rijeka businessman Robert Jezic's DIOKI Group. DINA was to have sold the land to the consortium, but Government is allegedly now considering the possibility of using the nearby land owned by JANAF for the same purpose. Robert Jezic, a long-time member of the HDZ, financed opposition candidates Ivo Josipovic and Dragan Primorac in the presidential elections. As a result, some of the top people in the party are now of the opinion that it would not do at all to open Jezic a window to making millions off the sale of the land if the same facility can be built on state-owned land. What is more, the state would thereby cover part of the investment into the LNG project through the value of the land, which is an advantage considering the situation in the nation's finances. On the other hand, it is an open question just how much that kind of location change would at this point in time again drag out the entire formal procedure around the construction of the terminal. Nevertheless, regardless of which of these options Government goes for, it has to make concrete steps as soon as possible.

This kind of decisiveness would certainly strengthen Croatia's hand in its negotiations with Russia, just as further procrastination with the adoption of the necessary decision could result in the failure of the most important Croatian energy project in the past ten years. Regardless of which of these two scenarios pans out, it is likely that the measures made by Croatian Government over the following several months will define the energy situation in Croatia for the following several decades.