Written on 16 May 2020
2012 is a mixed story for the gas industry: boom in Asia, bust in Europe
Asian LNG demand will continue to pull LNG supply away from Europe in medium-term. Asia has the world’s fastest growing LNG consumption supported by record levels of LNG imports into Japan post-Fukushima, but which is also driven by the booming economies of China and India, along with the growing niche market of South East Asia. Japanese gas demand has never been higher for power generation. In a zero nuclear case this year, gas would account for 42.1% of the power generation mix. In the medium-term, gas-fired capacity will increase with about 20 GW planned by electric companies. There are also more than 15 LNG regasification terminals undergoing expansion or under construction. This means that Japan is increasingly vulnerable to any LNG supply disruptions—such as production interruptions or geopolitical shocks.
But the Japan post-Fukushima story has also highlighted disparities in regional gas pricing and has put pressure on the global LNG market. While the new outlook for Japan’s nuclear generation has facilitated development of new LNG export projects, the Japanese government is devising a new energy strategy to reduce the cost of importing expensive gas, which has contributed significantly to Japan’s 2011 trade deficit and weakened the country’s economic recovery. The government is focusing on two key elements: 1) Guaranteeing stable and diversified procurement of LNG; 2) Eliminating the Japanese gas pricing premium via measures such as joint procurement of LNG and self-developed LNG. While gas pricing in Asia remains indexed to oil for the time being, China could be the driver toward the adoption of a second price marker in Asia and accelerate the move toward a different Asian pricing structure.
By contrast, European gas demand is in the doldrums. Increased coal demand and a larger share for renewables is displacing natural gas. “Coal won the energy race of the 21st century,” summarized Fatih Birol on the first day of the Flame Conference. European gas demand fell by 11% in 2011. For gas to play a larger role in European energy mix, a few steps would need to be taken by policymakers and the natural gas industry, or maket changes would have to occur: 1) European governments should set at the European level (and ideally internationally) a relevant carbon price on fossil fuels, which would raise the price of coal and make its use an impossible environmental solution. 2) Lower the price of gas through modernization of long-term gas contracts to reduce the weighting of oil-indexation. Ongoing pricing renegotiations between principal European utilities and suppliers are leading to new pricing structures for gas with the notable exception of Russia’s Gazprom, which is still reluctant to compromise on pricing and prefers to sell less volume. But arbitration cases are likely to force the Russian giant to make further concessions. 3) Gas use could grow again because the growth of renewables decelerates given that governments put a drastic end on subsidies. But the amount of renewable capacities built will not go away. 4) Post 2020, success of European shale gas could potentially lower gas prices. Estimates of Polish shale gas are around $8-10/mmbtu compared to $16-17/mmbtu for Qatari LNG into Poland, but price of Russian gas into Poland might remain the lowest in the medium-term.
As a consequence of bleak European gas demand, there is little incentive to build new gas-fired power generation facilities even though construction permits have been granted. However, gas is needed as a back-up to renewables and for this purpose more gas infrastructure and investment are necessary. But financing will be hard to get amid the continuing eurozone crisis and the unattractive investment environment for gas infrastructure that will be used to mitigate intermittent renewables production. Also, European utilities have not signed any new long-term LNG supply contracts in recent years. European gas prices are not attractive enough to pull spot LNG away from Asian markets, which could undermine European energy security. As long as Asian gas prices remain indexed to oil, it will be hard for Europe to compete for cargoes. European regasification terminals will remain under-utilized, using roughly 30% of their capacity.
On the LNG supply side, starting next year, the market is going to get tighter and tighter given the slow-down of new LNG coming into the market. As a result, countries heavily reliant on LNG will get very nervous, and worried about security of supply. Gas is already a political issue, but four possible geopolitical shocks could further tighten the global LNG balance during the 2013–2015 period until new supplies come online: 1) Continuing nuclear crisis in Japan with lasting extra call on LNG; 2) Concerns of a reemerging Arab Spring threat that could potentially impact supply in Algeria and Egypt; 3) Iran’s threat to block the Strait of Hormuz that could affect about 30% of world’s LNG trade; 4) Increased attacks and sabotage on Yemen’s natural gas infrastructures suggest that the 6.7 million tons per year Balhaf liquefaction plant could gradually become unreliable.
Post-2020, it is unclear who will be able to supply Europe under long-term contracts. Europe will need new supply on top of Russian gas given the decline of its indigenous resources—even in a positive European shale gas scenario. Russia’s strategy to look for new markets to the east puts into question Gazprom’s willingness to provide more gas for Europe especially at a time when Europe is moving away from oil-indexation. Until now, Russia’s European strategy has favoured pricing over volumes. Even in the event that new pipeline routes bring increased volumes of Russian gas and new Caspian gas through the opening of the Southern Corridor, Europe will benefit from a well-supplied LNG market post 2015–2020—although the timing of LNG projects may slip.
Gas is abundant, with a minimum of 100 million tons of new LNG expected to reach the market between 2015 and 2020. Along with the established LNG exporters that will increase their capacity for the most part (with the notable exception of Qatar which is likely to expand its moratorium on new supply post-2014, only adding new volumes through clearing bottlenecks). Australian output is expected to reach 60 million tons by 2016–2017, and 80 million tons by 2020 with seven projects currently under construction, and one being commissioned. In addition, unexpected newcomers LNG suppliers such as from North America (US, Canada), East Africa (Mozambique, and possibly Tanzania), and the Mediterranean (Israel, Cyprus) will contribute to additional volumes and diversification. Some of these export projects are looking at the new technology of floating production LNG facilities, which has not been tested commercially but which will be crucial to monetize new gas fields. However, timing of these projects will be critical to determine when a buyer’s market will return after relative tightness anticipated for 2013–2015. These new volumes will also help increase the amount of liquidity for LNG trading and bring new volumes of “flexible-divertible” LNG supply into the market. The market has already become more trade-able and sophisticated, which is good news for both buyers and sellers. But shipping will be critical to allow this flexibility.
However, uncertainty regarding the main drivers that will impact the future of the LNG supply/demand balance post-2020 could alter all projections. Such drivers include the future of US unconventional production and North American LNG exports along with Asian natural gas production—notably Chinese unconventional—and Asian LNG consumption.
Leslie Palti-Guzman, Natural Gas Analyst at Eurasia Group, was speaking at Flame 2012 in the LNG Summit. You can find out more about the Flame Conference here.