Shifting Strategic Focus of European Natural Gas Supply – From Russia to LNG? Anne Neumann Based on joint research with Christian von Hirschhausen in the Program “Globalization of Natural Gas Markets”

International Symposium on Natural Gas and Sustainable Development Doha, Qatar 06-08 February 2006

Dresden University of Technology Chair of Energy Economics and Public Sector Management -1-

Agenda

1. The Issue: Shifting Strategic Supply of Europe 2. Changing Supply Portfolio 3. Changing Contract Portfolio 4. Changing Pricing Conditions 5. Conclusions

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The Issue: Shifting Strategic Supply of Europe - Liberalization of European gas markets combined with the growing importance of LNG are likely to modify the structure of European natural gas trade: - Intensification of competition within Europe - Diversification of suppliers

Concrete repercussions with competition policy and regulation, Acceleration Directive (2003/55/EC), and further European Commission action (3rd Gas Directive?), in particular ownership unbundling Î Hypothesis: As global natural gas markets emerge, LNG is becoming a crucial source of supply (security), at the expense of Russia, the former dominant supplier to Europe. Î But also: Change of contract portfolio, inhibiting more flexibilitiy, spot price indexation and shortening duration; increasing liquidity of spot markets

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Europe Needs More Gas - Increasing demand-supply gap - Change of institutional framework, market environment, and growing importance of natural gas in the fuel mix ÆTraditional European importing contracts undergoing significant changes

400 Other UK Netherlands Algeria LNG

European gas imports contracted volume (in bcm)

Russia Norway

2030

2025

2020

2015

2010

2005

2000

1995

1990

1985

1980

1975

1970

1965

0

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Agenda

1. The Issue: Shifting Strategic Supply of Europe 2. Changing Supply Portfolio 3. Changing Contract Portfolio 4. Changing Pricing Conditions 5. Conclusions

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Russia: Only one Supplier in a Diversified Import Portfolio Russia is an important supplier to Europe but its share in European imports is not expected to exceed 20% the next decades 600

Venezuela

Russian share in European imports (in %) Exports to Europe in bcm per year

19%

15%

16%

18%

20%

500

Trinidad Nigeria UK

400

Netherlands Norw ay

300

Russia Middle East Iran

200

Iraq Egypt

100

Lybia Algeria

0 2003

2010

2015

Source: Results from the GASMOD model (Holz, Kemfert and Hirschhausen, 2005)

2020

2025

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EU-15 Natural Gas Supply Costs (2010-2020) $/MBTU (Source: OME, 2001)

$ 2,2

$ 3,1

$ 2,4 3,0

Source: OME, 2001

*Long-run marginal production and transport costs, excluding producer country´s royalty

Gulf LNG

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LNG and Pipeline Exports to Europe in the Next Decades … the share of LNG is increasing over time, especially in the next decade.

T o tal exp o rts to Eu ro p e in b cm p er year

LNG imports could be limited by the import (regasification) capacity in Europe (conservative modeling assumptions)

600

26%

500 400

24% 12% LNG

300

Pipeline 200 100 0 2003

2010

2025

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European LNG Regasification Capacities (2005 vs. 2010)

Wilhelmshaven Rotterdam Isle of Grain Zeebrugge

Miford Haven Montoir

El Ferrol

Panigaglia Rovigo

Bilbao

Fos Cavaou Fos sur Mer Barcelona Sagunto

Sines Huelva

Marmara Brindisi

Cartagena Revithoussa

bcm/a in 2005 bcm/a in 2010 -9-

Agenda

1. The Issue: Shifting Strategic Supply of Europe 2. Changing Supply Portfolio 3. Changing Contract Portfolio 4. Changing Pricing Conditions 5. Conclusions

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Contract Duration (in years)

Changing Nature of Long-Term Contracts

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Factors Influencing Contractual Structures - Development of spot markets for natural gas - Increasing share of (LNG) spot trade - Moving away from oil price indexation towards natural gas spot price indexation - Internationalization of trade - Decreasing capital intensity in particular in the LNG industry - Increasing number of market participants Æ Inverse relation between gas sector liberalization and contract length

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Agenda

1. The Issue: Shifting Strategic Supply of Europe 2. Changing Supply Portfolio 3. Changing Contract Portfolio 4. Changing Pricing Conditions: From Oil-Price Indexation Towards Henry Hub? 5. Conclusions

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Inter-Regional Natural Gas Trade Flows are Growing Exponentially (2002 and 2030, in bcm)

1 66 6

13

63 184 1 52

Source: IEA, 2004

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Pricing at Spot Markets: Henry Hub and NBP (weekly data based on daily quotes, USD/MBTU)

20 HB

NB P

16

12

8

4

0 2000

2001

2 00 2

2003

2004

2 00 5 - 15 -

Price Convergence in the Atlantic Basin - Price differences in funtioning spot markets should only represent a difference stemming from transportation costs and/or quality - Active arbitraging in the Atlantic Basin - Swap Arrangements including Nigeria, Russia, and Trinidad & Tobago - Mature spot market for natural gas in North America (Herny Hub) and Europe (NBP) - What will be the international price for natural gas?

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Estimated β-coefficent for the Atlantic Basin

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Agenda

1. The Issue: Shifting Strategic Supply of Europe 2. Changing Supply Portfolio 3. Changing Contract Portfolio 4. Changing Pricing Conditions 5. Conclusions

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Conclusion - Shifting strategic supply of Europe - LNG is becoming much more important but will not entirely replace Russian pipeline gas

- Changing nature of contracting - Structural changes long-term contracts towards more spot trade as a natural response to sector liberalization

- Arbitraging in international markets - Globalization of natural gas trade

Æ European gas markets are increasingly LNG-oriented, market-oriented and short-term-oriented, and looking towards global price and other developments.

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Research Program “Globalization of Natural Gas Markets” WP-GG-14 Christian von Hirschhausen: Strategies for Energy Security – A Transatlantic Comparison. WP-GG-13 Anne Neumann and Christian von Hirschhausen: Long-Term Contracts for Natural Gas - An Empirical Analysis. WP-GG-12 Karsten Neuhoff and Christian von Hirschhausen: Long-Term vs. Short-Term Contracts: A European Perspective on Natural Gas. WP-GG-11 Anne Neumann and Boriss Siliverstovs: Convergence of European Spot Market Prices for Natural Gas? A Real-Time Analysis of Market Integration using the Kalman Filter. WP-GG-10 Georg Meran and Christian von Hirschhausen: Corporate Self-Regulation vs. Ex-Ante Regulation of Network Access – A Model of the German Gas Sector. WP-GG-09 Franziska Holz, Christian von Hirschhausen and Claudia Kemfert: A Strategic Model of European Gas Supply (GASMOD). WP-GG-08 Christian von Hirschhausen, Berit Meinhart, and Ferdinand Pavel: Transporting Russian Gas to Western Europe - A Simulation Analysis. WP-GG-07 Anne Neumann and Christian von Hirschhausen: Less Long-Term Gas to Europe? A Quantitative Analysis of European Long-Term Gas Supply Contracts. WP-GG-06 Boriss Siliverstovs, Anne Neumann, Guillaume L'Hégaret, and Christian von Hirschhausen: International Market Integration for Natural Gas? A Cointegration Analysis of Prices in Europe, North America and Japan. WP-GG-05 Christian von Hirschhausen and Thorsten Beckers: Reform der Erdgaswirtschaft in der EU: Durch Regulierung zum Wettbewerb? WP-GG-04 Ferdinand Pavel, Boris Dodonov and Igor Poltavets: Is the Ukrainian-Russian Gas Consortium in the Economic Interest of Ukraine? Lessons from a European Gas Model. WP-GG-03 Christian von Hirschhausen and Anne Neumann: Liberalisierung der europäischen Gaswirtschaft - Neue Regulierungsbehörde soll mehr Wettbewerb schaffen. WP-GG-02 Anne Neumann: Security of (Gas) Supply: Conceptual Issues, Contractual Arrangements, and the Current EU Situation WP-GG-01 The Globalization of Natural Gas Markets - A Research Agenda.

Contact: [email protected] and [email protected] http://www.tu-dresden.de/wwbwleeg/projekte/gg/gg.html - 20 -