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Decoupling from Russian Oil: Ending the Derogation from the EU Sanctions

A sweet deal: The Bulgarian government should lift the derogation in the EU Regulation (EU) No 833/2014, which allows Bulgaria to continue importing Russian crude oil until the end of 2024.  The Neftokhim refinery, owned by Lukoil, can operate normally without processing any Russian oil. The country can get supplies of crude oil and other feedstock from non-Russian sources. It can also get refined products if those are needed. The derogation has not significantly lowered prices, as its backers had claimed, or brought higher corporate tax revenues. Instead, Lukoil generated at least $2.4 billion in surplus profits in 2022 on the back of the steep discount it gets on buying Russian crude (between $20 per barrel in 2022 to around $15 per barrel in 2023). Supplies of fuel for the Ukrainian army have dwindled compared to the start of the war, and profits have been shifted to continue supporting Kremlin’s war chest. 

Trojan horse: Successive Bulgarian governments have been falsely claiming that without the derogation the refinery would not be able to operate and the country would not have adequate supplies of refined products. (The same mantra was deployed by Kremlin’s propagandists and local enablers during the privatization of the refinery more than 20 years ago to ensure its ends in Russian hands and lower cost). The financial and political interests served by this derogation are not those of Bulgarian consumers, but rather those of Lukoil and the Kremlin. For each barrel processed at Neftochim, Lukoil doubles its wellhead netback margin compared to the simple export of Urals, which translates into substantial direct financial assistance to the Russian government and to Lukoil.

Bulgaria’s oil and refined products and services markets are monopolistic, ensuring decades of ample rents and increasing corruption and state capture. These malign practices will never be addressed without diversification of crude oil supplies and strict implementation of open infrastructure access rules, especially access to refined products storage and port services, for all parties engaged in refined products trade.

There is political momentum: The first step has been to end the concession agreement with Lukoil for the operation of the Rosenets oil import terminal. This would help Bulgaria ensure that the terminal is not used for sanctions evasion via oil smuggling and would guarantee the correct accounting of VAT and excise tax revenues vital for fiscal security.

The ending of the derogation from the oil embargo will be the second step in stripping Lukoil, and by extension, the Kremlin from the additional profits to finance its war effort in Ukraine. Supporting an external audit and requesting a specific timeline and investment commitments from Lukoil for addressing the supposed technical obstacles for using non-Russian crude would be a powerful leverage to force an early end to the derogations.

If the Russian company does not abide by the condition to fully diversify the crude oil supply, the GOB should put the refinery and all the other assets owned by Lukoil under state control via the “golden” share the country has in the company allowing it to influence strategic decisions such as the structure of the oil supply. Both Germany and Italy have shown that they can force the Russian owners of their major refineries within less than 6 months to abide by the EU sanctions by placing them under special control.

And finally, without the incentive to import discounted Russian oil and use this to reap monopoly profits, Lukoil, like it was the case with its refinery in Sicily, would likely seek to dispose of its assets. Lukoil has been considering a sale of its companies in Romania, Moldova and Bulgaria for years but its lucrative market share in the region has justified its continued business operation.

Why it matters: Bulgaria has long been one of the most vulnerable countries in Europe to Russian economic and political influence. Lukoil has helped entrench powerful state capture networks influencing strategic decisions such as the ban on shale gas exploration, the acceleration of the Belene nuclear power plant project, and the financing of pro-Russian political parties and media outlets. With this political background, there are no economic or even technical reasons for Bulgaria to maintain the derogation on the EU oil embargo that has prevented the process of strategic decoupling from Russia in the energy sector.

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