Competition, Energy, Gas, Gas Market

First an update on what has been happening to LNG imports to the EU. These have increased significantly in the last few months. In Q4 2018 LNG imports were up 59% compared to a year earlier to about 18 bcm, out of total EU imports in Q4 of 100 bcm.^[1] The high level of LNG imports has continued into the first quarter of this year, with LNG becoming the EU’s third largest supplier in March 2019 after Russia and Norway but ahead of Algeria according to ICIS Gas in Focus, a trade report.^[2] US LNG imports increased in particular, surging by 272% in total since a meeting between Presidents Juncker and Trump in July last year, according to an EU fact sheet.^[3] The reasons for this are straightforward. Price differentials between the European market and the Asian markets for the delivery of LNG have shrunk dramatically. This makes it more profitable for LNG produced in the Atlantic Basin to be sold in Europe rather than Asia which is further away and therefore more expensive. This impact has been amplified by an increase in shipping costs. As I described in my previous article “as a large single market Europe is an attractive destination for LNG suppliers, if the price is right”^[4] and events have shown this to be true in practice as well as in theory.

So if LNG imports have increased, what has this meant for imports from other sources and gas prices in Europe? As one would expect in a competitive market, as the market share of one supplier has increased, that of other suppliers has decreased. As expected EU indigenous production has continued to decline by 8% (3.5 bcm) in Q4 2018 compared to a year earlier. But imports of both Russian gas and Norwegian gas, the EU’s biggest suppliers, also declined by 6% and 7% respectively. Their market share of imports fell by 2% each. In fact Russia’s share of imports was its lowest since the first quarter of 2016.^[5] At the same time “wholesale gas prices in Europe decreased measurably in the fourth quarter of 2018” falling from 27.8 €/MWh in September to 23.8 €/MWh in December.^[6] Normally one would expect prices to be higher in the winter months as demand increases.

What these figures show is that the EU internal gas market is working. A large single liquid market attracts suppliers who compete with each other. Additional supply helps push down prices as existing suppliers have to choose between losing market share and competing on price. It also shows the nonsense of the argument that import infrastructure creates dependence. Plentiful spare capacity in EU LNG import terminals did not lead to EU companies buying more LNG until the price was right. Similarly the existence of large pipelines did not protect Russian, Norwegian and Algerian suppliers from losing market share to LNG. Import infrastructure simply enables producers to get their gas to the EU market. Once there, EU market rules ensure that buyers across Europe have the ability to buy gas from whom they wish. As the EU Commission itself notes “recent developments give a perfect example on the role of LNG in supply diversification, if the price is competitive enough to bring a new alternative to current market conditions.”^[7]

So are there any clouds on this otherwise sunny horizon? There are two potential issues, one of which the EU cannot influence, and the other which is within the control of an EU member state. The first relates to the state of the global LNG market. At the moment conditions are benign because a surge in supply, including from the US, has loosened the supply demand balance and led to lower prices. As noted above Europe has benefitted from this. However the supply demand balance is expected to tighten in the next few years as demand catches up. Secondly there is the risk of external shocks driving up LNG prices. In 2011 demand for LNG surged as Japan closed all its nuclear power stations following the Fukushima disaster, and generated electricity with gas instead. In 2017 LNG which was expected to come to Europe went to China instead as it replaced polluting coal boilers with gas ones. More recently the Financial Times reported that Japan may again face a shut-down of its nuclear reactors.^[8] Europe will be able to attract LNG so long as it is prepared to pay the price. But if it isn’t, then the alternative of pipeline supplies is a good one to have. Thus, far from creating dependence, import infrastructure creates options which are an essential part of a secure and competitive energy supply.

The second issue relates to Nord Stream 2. The project is well underway with more than half the pipeline laid in Russian, Finnish, Swedish and German waters. However the project is still awaiting a permit to lay pipe in Denmark. Nord Stream 2 has applied twice already for permits, and met all the technical and environmental criteria necessary for approval. In 2017 the first application followed a route recommended by the Danish authorities. However, because this route goes through Danish territorial waters, it is subject to approval by the Danish Foreign Minister. The permit has been sat on his desk since January 2018 with no hint of either approval or rejection. As a precautionary measure in 2018 Nord Stream 2 applied for a second route that did not go through territorial waters. Again this met the relevant technical and environmental criteria but rather than approve the permit, in 2019 the Danish Energy Agency (DEA) has asked Nord Stream 2 to apply for a third route. This Nord Stream 2 is doing but under protest. Nord Stream 2 has appealed against the DEA decision to request a third route application.

Nord Stream 2 is necessary to meet the EU’s growing demand for gas imports as EU own production continues to decline and other import sources such as Norway and Algeria cannot increase enough to meet this demand. Existing pipelines from Russia including transit via Ukraine are already full according to the Oxford Institute of Energy Studies: “The average annual utilisation of Russia’s export capacity has risen from 63% in 2014 to 87% in 2017, although in key peak demand winter months this means that the system is practically full.”^[9] Lack of sufficient infrastructure could lead to prices rises. “If the rise in European import demand is substantial enough, this bottleneck could be sufficient to cause a ‘shortage’ of Russian gas relative to demand, and price surges on the European spot gas market.”^[10] As we have seen gas via Nord Stream 2 will compete with LNG for market share, to the benefit of all European gas and power consumers. As additional import infrastructure it gives Europe more options as to how and from whom to import its gas. It is ironic that a country, whose own gas consumption is less than 1% of  EU demand, may end up costing European consumers billions of Euros by delaying the project unjustifiably.