The South Stream pipeline will connect Russia's Black Sea coast with the Balkans, Austria and Italy, carrying up to 63 billion cubic meters of gas annually. Europe currently gets about two-fifths of its gas from Russia and the pipeline's route bypasses transit nation Ukraine to ensure safe shipping of its gas. Pricing and payment disputes between Russia and Ukraine have caused major disruptions in the past, cutting off gas for millions of customers in Europe.
The project, funded by Gazprom, Italy's Eni, France's EdF and Germany's Wintershall, is due to start operating in 2015. Gazprom holds 50 percent in the joint company and is the main investor in the project. However, investors and industry experts have criticized the €16 billion project as too costly.
Russian President Vladimir Putin, the pipeline's most powerful promoter, took part in Friday's ceremony in which two 6-meter steel pipes were welded together to mark the start of the construction.
"South Stream will create the conditions for a reliable gas supply for the main consumers in southern Europe," Putin said.
By beginning construction, state-controlled Gazprom steals a march on of its European Union-backed rival, the Nabucco pipeline, which has been plagued by a lack of funds and a reliable supply of natural gas.
Gazprom in October also opened Nord Stream, a pipeline under the Baltic Sea directly linking Germany with Siberia's vast natural gas reserves with a capacity of 55 billion cubic meters. The construction of South Stream and expansion of Nord Stream will leave Gazprom with a surplus capacity of 50 to 100 billion cubic meters, according to analyst estimates.
With so much free capacity and a largely unchanged client base, South Stream seems to be interested in locking in existing customers rather than seeking new markets. "Gas will simply change its direction and flow to the same destinations," said Alexei Kokin of the UralSib investment bank.
The pipeline will go under the Black Sea to reach Bulgaria, Serbia, Hungary, Slovenia, Austria and Italy in one leg, and Croatia and Greece in a second.
South Stream was conceived in 2007 after a pricing dispute with Ukraine. The need for the project increased in 2009 after an even fiercer dispute with Ukraine left tens of millions across Europe without gas for three weeks.
Ukrainian leaders are concerned by the project, fearful that it will push the country out of the European energy market and mean the end to the vital proceeds it gets from allowing natural gas to be transported from Russia to European consumers.
Associated Press writer Maria Danilova contributed to this report from Kiev, Ukraine.