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DE RUEHBW #2062/01 3561120
ZNR UUUUU ZZH
R 221120Z DEC 06 //ZDS//
FM AMEMBASSY BELGRADE
TO RUEHC/SECSTATE WASHDC 9959
RUEHMO/AMEMBASSY MOSCOW
INFO RUCPDOC/USDOC WASHDC
RHEBAAA/DEPT OF ENERGY WASHDC
RUEHSF/AMEMBASSY SOFIA 0820
RUEHAK/AMEMBASSY ANKARA 0044
RUEHVB/AMEMBASSY ZAGREB 1386
RUEHVI/AMEMBASSY VIENNA 0640

UNCLAS BELGRADE 002062 
 
SIPDIS 
 
C O R R E C T E D COPY-ADDRESSEE ADDED 
 
SENSITIVE 
SIPDIS 
 
E.O. 12958: N/A 
TAGS: ENRG ECON EFIN PGOV EIND SR
SUBJECT: RUSSIA, SERBIA SIGN MOU ON PIPELINE 
 
REF: A) Belgrade 404; B) Belgrade 1285 
 
SUMMARY 
------- 
¶1. (SBU) The Serbian Government (GOS), state-owned gas company 
Srbijagas and Russian Gazprom-Gazexport signed a Memorandum of 
Understanding (MOU) in Moscow on December 20 that establishes a 
framework for future cooperation and a possible agreement with 
Gazprom on extension of the Blue Stream gas pipeline from Turkey 
towards northern Italy.  Just days before, Srbijagas had signed a 
new gas supply agreement for 2007 with Yugorosgaz, a shady 
Gazprom-linked company with its origin in the Milosevic era, instead 
of with Gazprom.  The apparent link between the gas supply and the 
pipeline project demonstrates not only Gazprom's penchant for 
playing games, but also the readiness of the Kostunica government to 
play along with Russia.  END SUMMARY. 
 
MOU FINALLY SIGNED 
-------------------- 
¶2. (U) At a press conference on December 20, Prime Minister Vojislav 
Kostunica, Economy Minister Predrag Bubalo and Russian Ambassador 
Aleksandar Aleksejev announced that a Memorandum of Understanding 
(MOU) between the GOS, state-owned gas company Srbijagas and Russian 
Gazprom-Gazexport had just been signed in Moscow.  This MOU, 
approved by the GOS on November 16, is a non-binding document that 
establishes a framework for future cooperation and a possible 
agreement with Gazprom on construction of a 400 km gas transit 
pipeline through Serbia worth approximately USD 1.3 billion (reftel 
B).  However, Minister Bubalo said at the press conference that both 
sides are committed to implementing this important project. 
 
¶3. (U) The gas transit pipeline through Serbia would extend the 
"Blue Stream" pipeline that feeds gas under the Black Sea to Turkey, 
through Bulgaria, Serbia, Croatia and onward to northern Italy.  The 
construction cost in Serbia is estimated at USD 1.3 billion, and the 
total project, at some USD 15 billion.  The total capacity of the 
pipeline would be some 20-25 billion cubic meters of gas annually, 
compared to Serbia's annual consumption of close to 3 billion cubic 
meters.  Aside from Serbia, only Italy had signed an MOU with 
Gazprom.  Press reports indicate that Bulgarian gas company 
Bulgargaz will soon sign a new agreement with Gazprom on increasing 
gas supplies from Russia and on usage of Bulgarian gas pipelines for 
transporting gas to the Western Balkan countries. 
 
BENEFITS FOR SERBIA 
------------------- 
¶4. (U) Bubalo said that the next step is to appoint experts from 
both sides to work out technical issues necessary for 
implementation; he predicted completion of the deal within six 
months.  He explained that the pipeline will follow the defined line 
of the future highway from Serbia to Bulgaria where the land has 
already been expropriated by the state. Construction should begin in 
autumn 2007 and be completed by 2010. 
 
¶5. (U) Milutin Prodanovic, Assistant Minister for State-Owned 
Enterprises at the Ministry of Energy, explained that Serbia would 
receive significant benefits from Blue Stream.  Serbia could receive 
EUR 200 million per year from transit revenues, depending on the 
specifics of the future agreement (reftel B).  In addition, Serbia 
would have an alternative route for gas supply; now there is only 
one source, the pipeline carrying Russian gas through Ukraine and 
Hungary (reftel A).  An alternative route, from Bulgaria (entering 
Serbia from Dimitrovgrad and heading to Nis) would provide Serbia 
with greater supply security.  Prodanovic also explained that the 
167-kilometer Nis-Dimitrovgrad gas pipeline, worth around USD 65 
million, would become a starting point of the extended Blue Stream 
in Serbia (reftel A).  Construction of Nis-Dimitrovgrad gas pipeline 
would enable further internal gasification of 400,000 households in 
Central and Southern Serbia. 
 
CONDITIONALITY FROM GAZPROM SIDE 
-------------------------------- 
¶6. (U) When it comes to construction, Gazprom will manage its 
operations in Serbia through Yugorosgaz, says Milos Saramandic, 
former investment director at Srbijagas and now working in its 
financial department.  Yugorosgaz was established as a joint venture 
between Gazprom and various Serbian companies back in 1996 to manage 
the distribution of Russian gas and investment in gas infrastructure 
in Serbia based on two intergovernmental agreements between Russia 
and Serbia from the 1990's (reftel A).  Just days before the 
pipleline MOU was signed in Moscow, Srbijagas on December 18 signed 
a new annual agreement for 2007 gas deliveries with Yugorosgaz as a 
representative of Gazprom.  Srbijagas sources told us that Gazprom 
required that Srbijagas sign the 2007 gas supply agreement with 
Yugorosgaz, instead of Gazprom. 
¶7.  Laza Djurdjevic, Assistant to the Executive Director for 
Technical Operations said that the current price that Srbijagas is 
paying to Gazprom is USD 260 per 1,000 cubic meters of gas and it 
should stay the same since the price of gas is not defined by the 
new agreement but is counted according to the specific methodology. 
In addition, Srbijagas is paying USD 25 per 1,000 cubic meters to 
Hungarian gas company MOL as a transit tax.  The deal with 
Yugorosgaz as a mediator will increase the total cost to Srbijagas, 
said Saramandic.  Furthermore, Saramandic said that the stability of 
gas supply is at risk since Yugorosgaz has not provided any bank 
guarantees for this business worth millions of dollars. 
 
¶7. (SBU) These agreements from the Milosevic era have never been 
confirmed nor rejected by successive democratic governments since 
2000, and the status of Yugorosgaz is undefined.  Some claim that 
these contracts give the Russians exclusive rights to build gas 
pipelines in Serbia, although some GOS officials have told us that 
the old agreements only permit Yugorosgaz to bid equally with other 
bidders in public tenders for any potential projects (reftel A). 
Srbijagas deals gingerly with this issue because of its dependence 
on Russian gas and its huge debt of approximately USD 235 million to 
Gazprom.  However, due to the agreement that Serbian Minister of 
Economy Predrag Bubalo and Russian Minister of Emergency Situations 
Sergei Shoigu initialed on December 13 in Moscow, part of the 
Serbian gas debt in the value of USD 188 million will be settled 
through the clearing debt of the former USSR toward Serbia.  The 
total value of the clearing debt is USD 288 million.  The rest of 
USD 100 million will be used for the general overhaul of the Djerdap 
hydroelectric power plant. The amount Serbia is entitled to in the 
form of interest will be used for the construction of an accelerator 
at the Vinca Nuclear Institute. 
 
¶8. (SBU) Zorana Milanovic Mihajlovic, formerly energy adviser to 
ex-Deputy Prime Minister Labus, said that by signing this new 
agreement for gas deliveries with Yugorosgaz, the GOS indirectly 
accepted the Milosevic era agreements and the exclusive right of 
Yugorosgaz to build gas pipelines and supply Srbijagas with Russian 
gas without any public tenders or transparency.  Saramandic 
confirmed that Yugorosgaz has a license for building gas pipelines 
and just recently received a gas trading license like Srbijagas. 
 
YUGOROSGAZ: ANOTHER SHADOWY GAZPROM ASSOCIATE 
--------------------------------------------- 
¶9. (SBU) Yugorosgaz has a twisted history in Serbia.  Saramandic 
said that, when established, its ownership was split 50:50 between 
Gazprom and Serbian companies - state-owned oil company NIS, the 
Sartid steel mill, foreign trade company Progres-Beograd, Progres 
Gas Trading and Beobanka.  It was agreed that NIS would have 
priority purchasing rights and over time would become the majority 
owner of Yugorosgaz.  It is unclear why NIS did not use that option. 
 Another Gazprom associate, Austrian Centrex working through its 
subsidiary, Turkey-based Bosphorus Gaz, bought the shares of Progres 
Gas Trading and left Srbijagas with only 25 percent in Yugorosgaz, 
explained both Saramandic and Milanovic Mihajlovic. (The owner of 
Centrex is said to be Alexandar Medvedev, executive director of 
Gazprom-Gazexport.) 
 
 
¶10. (SBU) Saramandic explained that Progres Gas Trading was a joint 
venture company between Gazprom and Progres (linked to Milosevic 
cronies) to import gas from Russia during the period of sanctions, 
before Yugorosgaz was established.  He alleges that Progres Gas 
Trading was used as a conduit for money laundering.  The management 
of former Progres Gas Trading which is still active in Yugorosgaz 
today helped Gazprom to buy 25 percent of Progres Gas Trading in 
Yugorosgaz and become the majority owner in it. 
 
NEGOTIATION WITHOUT EXPERT OPINION 
---------------------------------- 
¶11. (SBU) Saramandic said that the idea for extension of the Blue 
Stream though Serbia originated with Srbijagas and was first 
proposed by Serbian President Boris Tadic to Russian President 
Putin.  Putin accepted the idea and Kostunica appointed Bubalo and 
Minister of Finance Mladjan Dinkic to negotiate with the Russians. 
However, Srbijagas then was sidelined in the discussions.  For 
instance, Saramandic confirmed that the new director of Srbijagas 
did not see the final version of the MOU before it was adopted. 
 
¶12.  Saramandic asserted that Bubalo and Dinkic did not get much 
from Gazprom in return for entering the Serbian market.  They 
managed to include the Serbian debt to Kuwait assumed by Gazprombank 
that would be settled through the Serbian allocated portion of the 
transit fee but they did not receive commitments to lower gas prices 
or percentages of Serbian company participation in gas pipeline 
construction.  These details were left for the working groups, which 
takes a longer period of time and further compromises.  Saramandic 
said the Serbian side was told implicitly that the signing of the 
2007 gas delivery agreement would be a condition for the signing of 
the MOU. 
 
POLT