Gas markets Europe 2010 – 2011

The past month has been a bit low in blogging activity, due to my being busy creating a report on the European gas market. Research of supply and demand figures brought me some surprising insights. You can read an extract of the report by clicking on the link below. Please read the executive summary of the report below. Contact me at benedict@eecc.eu if you want to receive a full copy of the report.

Executive summary

• ‘Energy can only get more expensive’, is a common belief among energy buyers. However, we have recently seen that natural gas prices remained relatively low, even when the economic activity picked up. Oil prices rose, so the gas prices on the Hubs became structurally lower than oil-indexed gas prices.

 

• The biggest natural gas reserves in the world are to be found in the Middle-East and not in Russia. However, the Middle-East are currently only the world’s fourth largest producer of natural gas, meaning that huge reserves are untapped. Gas production in gas reserves giants Qatar and Iran has started to rise exponentially in recent years. This explains the presence of excess gas volumes in the world markets.

 

• The US has increased its production of natural gas by 16% due to the development of shale gas. In 2009 they were the world’s biggest producer of natural gas, bigger than Russia. We have always known that beyond conventional gas reserves, a lot of gas was trapped in this shale layer. Only, it was always thought that it was impossible to produce gas from these layers without excessive costs. Recently production techniques have been improved, and the energy companies claim that it is now possible to produce shale gas at a cost that is lower than the production of conventional gas. The possibility to economically produce shale gas boosts the gas reserves of the world.

 

• Shale gas production has already had an impact on gas prices, as it made more LNG available to the European market as less was needed in the US. If the US continues to expand its gas production, it might even start exporting LNG. There is also potential for shale gas production in Europe and in China. If all this shale gas production is developed, the world’s gas supply situation will look completely different. However, this whole shale gas development could be turned back due to environmental impact of the shale gas production. It is too early to decide what the further development will be.

 

• As of 2011, the Nord Stream gas pipeline will bring additional gas from Russia to Germany, 22,5 billion m³ of capacity in 2011 and 45 billion m³ in 2012.

 

• Natural gas demand in Western-Europe peaked in 2004 and then started to fall. This is contrary to popular belief that energy consumption is continuously growing.

 

• Although the growth rate of power consumption is slowing down, it is still growing. Deployment of electric cars would speed up this growth of electricity demand. Most of these extra MWh’s of electricity are now produced from renewable energy sources. But the growth of demand is faster than the growth of renewable. This means that extra power plants will need to be built. Plans to shut down nuclear power plants in countries like Germany, Belgium, the Netherlands and UK have been turned back, meaning that fewer power plants will need to be built. How much of the new power plants will be gas-fired will depend on whether new nuclear and (clean) coal-fired power plants can be developed. Which plants will be built is subject to political decisions. It is therefore madness to try to predict how much extra gas will be needed for new gas-fired power plants.

 

• A multitude of factors will determine whether gas supply will continue to grow and/or gas demand will continue to fall. Therefore, it is impossible to predict whether the current situation of over-supply will continue or not. The important news is that it is not unthinkable that we might see some decades ahead with abundant natural gas available to our markets, resulting in lower gas and electricity prices. Therefore, corporate energy strategies based on the adagio that energy can only become more expensive, should be adapted. Guidance on how to do this can be found in the conclusion of this report.

Filed under: Belgium, Energy demand, France, Germany, Market analysis, Natural gas, UK

Transparency & the European gas market

Europe’s continental gas markets are slowly making the transition to a different market model. The Hub market model, known in the UK and the US for decades, is to replace the system of oil-indexed gas deals. Historically, gas in Europe has been sold in long term deals. These deals were between on the one side companies in producing countries, companies that we now know under the names of Statoil from Norway, Gazprom from Russia, Gasterra from the Netherlands or Sonatrach from Algeria. In the consuming countries, (predecessors of) companies such as RWE, E-ON Ruhrgas, Wingas, Gaz de France, Distrigas, Eni, Gas Natural or others were the receivers of these deals. This deal-making implied heavy political interference, as ministers were often directly involved in the negotiations. A famous example is the Belgian minister Willy Claes negotiating the contract that brought Algerian gas to Distrigas in Zeebrugge. The traditional companies in the consuming countries built the network infrastructure necessary to receive, store and distribute the natural gas. When the continental European markets were liberalized, they were forced to create separate grid companies to run this infrastructure. This ‘unbundling’ is supposed to create the necessary independence of interests to allow third parties an open and unbiased access to the grid infrastructure. Such third party access is a necessary condition for gas market liberalization to be a success.

Last week, traders in the continental European markets had complaints regarding that third party access. They specifically blamed lack of transparency regarding available storage and transit capacities for the slow development of continental European Hubs such as Zeebrugge in Belgium, TTF in the Netherlands or NCG in Germany. And indeed there are some solid reasons why transparency regarding storage and transit in these markets is low. The first reason is that some of the infrastructure is still in the hands of certain market participants. The big German gas suppliers are also the owners of the large storage capacities in Germany. The second reason is the fact that many capacities have been blocked by historical rights of certain suppliers. Unlocking these capacities is a difficult exercise. Many years ago, the governments supported companies making long term contracts for the supply of gas. Can those same governments make those contracts obsolete by taking away the capacities that those companies need to honor these contracts?

The underlying difficulty is that it proves extremely hard to transpose the English gas market model – without or with limited long term contracts – to the continent. An important reason for this is the difference in pricing models. The long term contracts have pricing based on oil prices. The Hub markets function with gas-to-gas pricing. It is supply and demand of natural gas that sets the gas price (which is much more logic). Since the summer of 2009, the Hub prices have dropped far below the oil indexed prices. If this trend continues, the holders of historic supply contracts face a huge problem. They will have the obligation to take gas from the producers at higher oil-indexed prices than the Hub prices at which they can sell in their home market. It is therefore understandable that they are not very enthusiastic in developing the Hub markets. Therefore, developing liquid and transparent continental Hub markets is the main challenge for European natural gas market policymakers.

Filed under: Belgium, Energy policy, France, Germany, Natural gas, the Netherlands, UK

No nuclear phase-out for Belgium

Belgium produces approximately 60% of its electricity in the nuclear power plants situated in Doel and Tihange. A decade ago it was decided that these would be phased out. That decision has now been reversed. The oldest plants will keep on running beyond 2015, the date put forward for their shutdown.

In 1999, Belgium lived through a political earthquake. Right before the elections, a food scandal broke out, with chickens polluted with dioxin coming from industrial oil that got mixed up in chicken food. The result was a landslide electoral victory for the Green parties in both Flanders and the Walloon Region. The Greens made a government together with liberals and socialists.

The green parties in Belgium, like in most European countries, have their roots in the anti-nuclear movement, the mass protests against nuclear arms of the late seventies and eighties. To them, the triple danger of nuclear accidents, storage of nuclear waste and proliferation of nuclear technology, makes nuclear the worst possible technology for producing electricity. It was therefore not surprising that the green parties enforced legislation for a nuclear phase-out. As of 2015, when the oldest nuclear power plants reach the end of their lifetime, the law asked for them to be shut down. As such, the share of electricity produced by nuclear power, currently approximately 60%, would start to fall.

One would suspect that politicians that have just voted to close nuclear power plants would draw up a plan for investing in the transition towards a new power production. Not so in Belgium. Since 1999, no new large scale power plants have opened. Admitted, renewable energy is developing remarkably swift, thanks to strong incentives. But the small scale of renewable energy plants make it an unlikely replacement for the massive amounts of energy currently produced by nuclear power plants. The result is undeniable. In the past decade, Belgium has switched from being an exporter into becoming an importer of electricity.

Most of that electricity is coming from France, where it is produced in … nuclear power plants. Proponents of keeping Belgian nuclear power plants therefore have a valid argument when they point out that shutting them down is hypocrisy. The Belgians won’t stop consuming nuclear energy, they will just bring it in from abroad instead of producing it inside their own borders. Therefore, the decision to keep the Belgian nuclear plants open for longer than 2015 looks like sound policy. Moreover, it was probably inevitable. The initial phase-out law included a passage that said that the phase-out would be turned back if it could be proven that it would cause problems for the power supply of the country. As such, the current decision was already embedded in the initial decision to shut down.

Still, I am disappointed by the way our politicians treat this important issue regarding the energy supply of our country for several reasons:

1. Nobody ever seriously studied how a non-nuclear power supply for Belgium could have looked like. Greens naively held on to the doctrine that the combination of more renewable production and reducing consumption would be able to replace 60% of current power production. Socialists did the same, although they admitted that it would also mean extra import of French electricity. Other parties simply waited for the moment to reverse the phase-out decision.
2. That moment is now, because of budgetary concerns. It is unacceptable that important long term decisions regarding our energy supply are taken to ease short term concerns such as the current budgetary situation only. The cabinet seems to be mostly concerned about how much money they can get from Electrabel in exchange for the phase-out reversal, much more than with the safety questions or what this decision means for the Belgian energy market. Some politicians openly plead to pocket a lot of Electrabel money in a short time, saving the budget during their constituencies, rather than getting the compensation money over a longer period and investing it in the long term energy future of the country.
3. Some politicians show a clear lack of understanding of how electricity markets work. They proclaim that keeping open the nuclear power plants will lower the cost of electricity in Belgium. That is not true. The price of electricity in Belgium is set by fossil fuel fired power plants. It is therefore determined by the cost of gas and coal, and nuclear power plants do nothing to lower it. Open power markets work with a mechanism called ‘marginal cost pricing’, but in the past days I have heard only one politician, Bruno Tobback, that seems to understand how that works.

The political bickering of the past days makes me pessimistic. I fear that Electrabel compensation will take the shape of a tax that will be passed through to the consumers of power. And I also fear that another good opportunity of negotiating measures to improve the situation of the Belgian power market will get lost.

Filed under: Belgium, Energy history, Energy policy, Energy technology, France

EPEX launched

‘Towards the pan-European power market’ says the website of the European power exchange that was launched today (www.epexspot.com). It is the result of the merger of the spot market activities of the German EEX power exchange and France’s Powernext. To the policymakers that originally worked on EU energy market liberalization this slogan must sound like music. For one of the original aims was indeed to create the ‘single copper plate’, an EU-wide electricity market. With the creation of Epex, this comes closer. The EU has adapted its policy by aiming for regional markets first and then for a pan-European power market. With Epex, a key regional market is taking shape.

It is not surprising that German and France merge their spot markets. With the improvement of cross-border connections and the allocation of cross-border capacities, we notice since a few years the emergence of a German – French – Belgian – Dutch – Luxemburg market. Prices in these markets have come very close to one another, not just in spot but in forward markets also. And the allocation of short term power plant capacities that is settled in spot power markets, has also become a cross-border affair. Dutch gas-fired plants heat up as unfavorable conditions in Germany cause a drop of wind power output or as French nuclear plants shut down for maintenance.

How important is this development for the end consumer? First of all, we have to understand that these are developments that only affect the wholesale market, not the retail market. The big power suppliers in the region such as EdF, E.On, RWE, Vattenfall, Electrabel, etc. currently have a retail market approach aimed at the separate countries, not at the whole regional market. If they do anything on a regional basis, it is buying companies in one of the other countries to establish a stronger national presence. Think about EdF buying EnBW, RWE buying Essent or Vattenfall buying Nuon. But if you talk to the sales organizations of any of these companies, it is clear that they are organized on a national and not a regional level.

But of course, the wholesale market developments are important, as they determine the price that the industrial consumer will ultimately pay. Creating wholesale markets for larger geographical areas is an important development. It adds liquidity to these markets. Especially in markets with liquidity issues such as Belgium or the Netherlands, such a development is positive.

We should also remark that Epex (for now?) is a spot exchange. Most end consumers buy prices based on forward prices. Both French and German power futures are now traded on the EEX. But it remains two separate prices and markets up until now. We hope that this will change soon.

Filed under: Belgium, France, Germany, the Netherlands

EC fines E-On and GdF-Suez: the end of long-term gas contracts?

The European Commission has fined German utility E-On and French recently merged GdF-Suez 553 million euro to sanction uncompetitive behavior. Both gas market giants are surprised by this, which is logic. When the companies had co-invested in the Megal pipeline which brings (Russian) gas from the Czech border to Germany and France, they agreed to share the capacity. Moreover, they agreed not to use it for selling gas in each other’s markets. In today’s liberalized market, it is obvious that such behavior is sanctioned as uncompetitive. But we have to realize that this happened in the old monopoly market. Back then, long term capacity entitlements and national monopolies were a logic element of the long term supply contracts (30, even 40 years) that national champions such as GdF – Suez (then GdF) and E-On (then Ruhrgas) signed with the producers of gas.

The trouble with such contracts is that they have continued to exist when the markets were liberalized. And when competitors have difficulties to obtain import capacity, it becomes difficult for them to find access to markets. Therefore, if you are a supporter of competitive gas markets, you can only cheer the decision by the European Commission to battle the import capacity blockades of incumbent suppliers. Moreover, it seems to work. Although GdF – Suez denies that it is an acknowledgement of its wrongdoing, it has taken a significant measure in response to the condemnation. It has offered to cut its share of import capacity to 50%, down from two thirds. This will surely create some new possibilities for competition in the French natural gas market in the next years.

I have long believed that it is difficult to develop competitive natural gas markets when long term gas contracts prevail. Many will respond that such contracts are necessary to guarantee security of supply. This opens a very interesting discussion. What is the best guarantee for security of supply? Long term, politically brokered, supply contract or easy accessible, open markets? That long term contracts cannot always guarantee that the gas is in the pipe has recently been proved by Russian supply disruptions.

In the next years, we will have to see whether the European Commission continues to attack the long term contracts. And if they do, if they can push energy companies into adopting a different behavior.

Filed under: Energy policy, France, Germany

Should France open up its electricity market?

In France, discussion on the report of the Commission Champsaur continues. In this report, French policymakers try to find some way of abandoning the regulated tariff systems that they continued to apply in the past years. This continuation of a regulated market obviously isn’t what the EU has in mind. On the other hand, it has effectively shielded French consumers from the higher power prices that consumers in other countries suffered. To appease the European Commission, France is now looking at a policy that would open up retail markets but regulate the wholesale power market. By obliging EdF to sell its nuclear power at some sort of regulated wholesale tariff to other suppliers, competition in the retail market would become possible without the sort of shocks to prices that could be expected in case of full-scale deregulation.

Open market enthusiasts are not happy with keeping wholesale markets regulated. Read François Lévêque’s post in the EU Energy policy blog http://www.energypolicyblog.com/?p=677. On the other hand, I can understand that French policymakers are hesitant about opening up the market completely. In an open market, average total cost pricing is replaced by marginal cost pricing. France is well connected with the surrounding markets and we can see that prices are set for a common French – German – Benelux market. This means that the nuclear power plants (in France) will always run. The marginal MWh’s will be made by either German coal-fired power plants (in off-peak hours) or Dutch gas-fired power plants (in peak hours). This has two important consequences:

1. Without the stability of the fixed part of total cost pricing, the prices become much more volatile. Businesses and consumers see their power budgets swing up and down much more heavily.
2. In times of high coal and/or gas prices, the power price can be pushed much higher than average total cost pricing with nuclear power plants would have allowed.

We can see today in the Spanish market that it is starting to move towards higher and more volatile prices. Read my post of 26/6/2009 on that.

Liberalized energy markets have once been presented to the EU’s citizens as a means of achieving lower power prices. So far, the open EU power markets have not really delivered on that promise. The fact that still-regulated France has lower prices is clear proof of that. Hence, I understand the reluctance on behalf of French policymakers. Moreover, as regulated tariffs are much more stable than marginal prices, they are an incentive to long term investments (such as investment in nuclear facilities).

That said, I do observe that the cheap power could cause France to fall behind when it comes to power efficiency. I recently saw one client shut down its French operation because it wasn’t energy efficient enough. As EdF is stateheld, France might make a more daring policy. If it opened up its markets, profitability of nuclear facilities would certainly rise high when coal and natural gas prices rise. It could use the extra profits of EdF to stimulate energy efficiency improvements with consumers.

Filed under: Energy policy, France

EU elections

I have just returned from the poll station where I participated in electing members of the European parliament. This is the largest election of the Western world. Still, it stirs a lot less enthusiasm than what we can see in the United States. In Belgium we are obliged to go and vote, but in countries where a voting right exists instead of our voting duty, turnout tends to be low. Since EU elections started, turnout continuously fell lower and lower. Many Europeans don’t seem to understand that many aspects of our daily life are now regulated at the European level. They think that Europe is an abstract political entity where ageing politicians can earn a lot of money for not doing much. They are mistaken. Europe is dealing with some very concrete matters that have a huge influence on our daily life. This is certainly the case for whatever concerns our energy supply. Without Europe there would be no open market. There would be no pan-European emission trading. Countries would not be pushed to switch towards renewable energy production. Such things would have been regulated separately in every European country. This would have complicated doing business immensely.

The people that get elected to the Brussels – Strasbourg parliament today will probably continue to have multiple discussions on energy policy during their term. Some very important issues need to be addressed:

• A post-2012 carbon dioxide emissions policy is to be negotiated with the rest of the world.
• The European emission trading scheme is to be continued into its third phase. We must hope that some of its flaws will be addressed.
• In the wake of the credit crisis, the call for more regulation of the world’s markets sounds louder than ever. French-style economics (le dirigisme) seems to grow in popularity. President Sarkozy even called for the world’s oil markets to be regulated this week. He wants the oil price to be set by a committee of producing and consuming countries. In how far will this influence the policy on the internal natural gas and electricity markets?
• With a new Russian – Ukranian gas conflict ahead http://www.atimes.com/atimes/Central_Asia/KF03Ag01.html, some important questions regarding diversification of gas supply are to be adressed. How will Europe support the Nabucco pipeline project? In January, we’ve heard some MEP’s utter the idea of subsidizing the construction of LNG gas import facilities. Will this become a reality in this next term?

I don’t believe in ‘le dirigisme’. Despite all the economic turmoil that we have suffered in the past year, I still believe that re-regulating markets would cause more harm than good. I agree that electricity consumers would have been better shielded form energy price inflation if the power markets hadn’t been deregulated. That is, in most countries, in the Netherlands and the UK this would not have been the case. But I am also convinced that the huge rise of oil prices in the past five years would have been a disaster without an open natural gas market. Industrials could now find suppliers willing to offer them hedging services that helped them to protect themselves against the rise of their gas price formula, pegged to the oil price. Many didn’t do it, because they lacked the experience and knowledge. But at E&C we are ready to help everyone doing it in a next bull phase. I continue to believe that an open economy is the best way of maximizing profits on investments and as such it is the most efficient way of allocating money. Just consider what is currently going on in the automobile industry. I’ve read this morning that even when car sales peaked, the car industry had 30% excess capacity. And now, with car sales down by 40%, local governments are pouring huge amounts of public money into their local car factories in the hope of keeping them open. This is the kind of economics that we will get with le dirigisme. Our tax money will get wasted in economically unviable projects because of electoral concerns.

To deal with the world’s huge energy supply issue, we definitely need more Europe. France, Germany or even the UK would be so much stronger if they would consistently talk to the world with one European voice. The politicians of these big (and even some smaller) countries ignore this. Together, we are the world’s biggest market for oil, natural gas and electricity. Isn’t that a good position to go and talk about security of supply with Russia or Opec?

We already know the results of the Dutch elections, and they don’t inspire much hope. The Dutch have elected several MEP’s with a clear anti-European position (most famously the PVV of Geert Wilders). This means that EU policymaking will be hindered by a faction that wants a minimal Europe. I was in the Netherlands last week, and I was surprised about the anti-European tone of the political debate over there, even among big parties. It is true that the Netherlands have a large financial contribution to Europe and doesn’t get much back in terms of EU subsidies compared to poorer countries. But from an energy market perspective, the Netherlands got a lot back from Europe. EU energy policy makes it easier for them to sell their natural gas to other countries and hence acquire wealth that will pay them their pensions. And look at the power market. In the past, when natural gas prices rose high due to rising oil prices, the Dutch power consumers paid up to 30% more than power consumers in surrounding countries. With more than 80% of all the electricity produced from natural gas, they were more than others vulnerable to rises in oil (and hence natural gas) prices. In last year’s gas price peak, the Dutch power price was not much higher than the Belgian, French or German. This was because cheaper French, Belgian or German power was flowing into the Netherlands, hence tempering prices there – or making it rise in the other countries. Whatever it was, arbitrage with surrounding countries protects the competitiveness of Dutch power-consuming industry. It is EU energy market policy that makes such cross-border arbitrage possible.

Call me naive, but I am still convinced that our best hopes for solving today’s energy market issues lie in Europe. I believe that pan-European natural gas and power markets where large companies such as EdF, E-On, RWE, etc. compete with one another and with smaller niche-market suppliers would be a good place to buy energy. And I hope that the people that we have elected today will make that happen.

Filed under: Energy policy, France, the Netherlands

The man who sold the world

Do you know the David Bowie song later covered by Nirvana? The chorus goes “oh no, not me, I’ve never lost control, you’re face to face with the man who sold the world”. That phrase seems to apply more and more to the politicians that currently try to run Belgium. Selling off economic infrastructure to France seems to have become a natural reflex to them. We Belgians are still trying to figure out why our largest bank Fortis had to be sold to BNP Paribas, a French bank of course. This week we come to the even more surprising conclusion that not only a huge majority of our electricity production is in French hands, now almost all of it is. EdF is buying a majority stake in Belgium’s second largest power supplier, SPE/Luminus. Earlier, GdF merged with Suez, acquiring the majority stake in Electrabel, the biggest power producer. Both EdF and GdF have the French state as their largest shareholder. This brings us to the stupefying conclusion: 99% of the Belgian electricity production is now in the hands of the government of our Southern neighbors!

Do not understand me wrong: I have nothing against France, on the contrary. Recent economic developments have shown that the much vilified French economic model of ‘dirigisme’ has its merits. But having almost all your power production controlled by a foreign government, what should that do to our peace of mind? Especially since representatives of that government (including the president) have repeatedly made clear that for them energy supply is of big political-strategic importance. One French foreign minister said last year that according to him the next world war would be over energy supply. I can’t help but thinking that acquiring a majority stake in the power supply of a neighboring country must look like winning the first battle to him.

Visiting the Elysée presidential Palace in Paris as an official visitor must be an extraordinary experience. There is of course the grandeur of the City of Lights. The Palace is immense. A row of guards with helmets with feathers is awaiting you. And out of the door comes the vibrant Nicolas Sarkozy, hop/hop off the stairs and crushing your hands with his powerful grip. If you are lucky, you might even catch a glimpse of the President’s lovely wife Carla Bruni. The current prime minister Herman Van Rompuy and his predecessor Yves Leterme seem to enjoy it immensely, if measured by the number of visits that they have paid. I suppose that during these many talks they have uttered the word ‘energy’ at least as many times as ‘banks’. At some point, they have to start wondering whether they are still the prime minister of a sovereign country or whether they are the viceroys of a recently acquired French colony.

I know that our government will respond that they were not involved in the sale of SPE/Luminus to EdF. That’s true, but they were involved in the negotiations on the Suez – GdF merger. The government of Guy Verhofstadt obtained the option to get a ‘golden share’ in the new merged company. This would give the Belgian government the possibility of blocking strategic decisions by GdF – Suez that harm Belgian interests. The following government, headed by Yves Leterme and embattled in discussion over Flemish – Walloon relationships and its bank rescue attempts, failed to enforce this golden share option. I am not in the forecasting business, but I think there is pretty good chance that in the future we will look back upon that as a crucial step in the loss of control of Belgium over its own power supply.

One professor was quick to point out that it might be a good thing that SPE/Luminus will become part of EdF. EdF is one of the largest energy groups in Europe and its presence in Belgium as the number two player should strengthen competition in the Belgian market. I sincerely hope that the man is right. But experience so far is not really promising. EdF hasn’t used the cheap production prices of its French electricity to overflow the surrounding countries with cheap power. On the contrary, it rather generated extra income on the higher wholesale market prices of countries abroad to make up for the loss of income that it suffers in its homeland France, where it is obliged to offer lower regulated prices to the customers. But OK, EdF is indeed a powerful company with great achievements and I have met with many competent people from EdF. Let us have the audacity of hope and call upon them to use the newly acquired position to make things move in the right direction in Belgium. The development of a more transparent and trustworthy wholesale power market is on top of our wishing list. Let us hope that international politics is less cynical than it appears to be. Let us hope that the bosses of EdF and GdF-Suez will not be called to the Elysée if their Belgian branches engage in the sort of all-out competitive battles that liberalization was supposed to bring to us.

Filed under: Belgium, Energy suppliers, France