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Recasting Europe's Energy Dependence On Russia

Politics / Energy Resources Mar 10, 2014 - 05:18 PM GMT

By: Andrew_McKillop


Recast As High Priced Energy
Speaking to the press, 9 March, the UK's Foreign minister William Hague said that "If no solution to this (energy dependence) can be found," European countries will "Recast their approach to energy and economic links with Russia over time". He was careful not to give any time lines, and certainly no investment cost estimates, more especially because plans so far mooted by officials in Europe's capitals, and from Brussels to Washington include larger imports of U.S. natural gas, reversing gas flows through pipelines from Western Europe back into Ukraine, and accelerated buying of more energy from countries other than Russia.

In all cases the investment costs are either high or very high, and the timelines are long.

While Foreign ministers like Hague, and his opposite numbers in other EU states and the US can splendidly ignore economic and energy-economic realities on the ground as they set out to “punish Putin”, Europe's energy policies cast high energy prices in stone. The Dec 2008 climate-energy policy vote by the European Parliament, transposed into member state regulations, laws and energy-economic policies from March 2009, has the never-stated assumption that European energy prices will stay high, or increase. One of the stated assumptions of the policy is that both gas and oil import dependence will be reduced – through raising energy prices to among the world's highest.

Put in more simple terms, if the energy price is high enough – and it certainly is in Europe – there will be supply, in fact as we find, too much of it.

The foreign policy mindset, conversely, is resolutely piecemeal and ad hoc, shown by Russian oil supplies to Europe being treated as unrelated and unaffected by any Washington-backed European de facto embargo on Russian natural gas exports to the continent. Russia would supposedly continue supplying oil to Europe in all tranquility, as the Europeans scramble to reduce Russian gas imports to nothing, in order to punish Putin! Making these ad hoc instant foreign policy initiatives all the more laughable, Europe's gas prices are high – which directly aids Russia, Norway and Algeria – because gas prices are indexed to the price of oil, making the oil-gas relationship fundamental.  Put another way, if oil prices are for any reason maintained at a high level, European gas prices will also remain high, despite the talk about “de-indexing” gas.

In brief and worldwide, Asian gas prices remain tightly linked to oil prices at about $100 per barrel equivalent (boe), European prices are close-linked at about $70 per boe, while only North American gas prices are fully-deindexed at less than $30 per boe.

Low Cost Gas and Gas Import Dependence
Ukraine, despite its own huge national gas reserves which have been ignored for decades, relies on Russia for 70% of its natural-gas supply. Six other European nations rely on Russia for 100% of their gas. Another seven obtain at least 50% of their gas from Russia, and several others depend on Russia for 25%-33% of their national gas consumption.
The “legacy reason” for this was low priced Russian gas supply, which slowly but steadily morphed into high priced Russian supply, as other suppliers – especially Norway and Algeria – increased their own exports to Europe in order to profit from high oil-indexed gas prices. LNG suppliers to Europe have followed suit for exactly the same reason. Europe, in overall gas supply and potential gas supply terms – which include European shale gas development -  faces the prospect of oversupply at some stage and point in time, brought forward by the continent's now four-year trend of significant falls in its yearly gas consumption, in part due to the high price of gas!

Europe's gas import dependence on Russia is very clear and certainly in the short-term can be called “structural”, due to the shorter-term impossibility of ramping up either pipeline supplies, mainly from Norway and Algeria, or imported LNG from world suppliers to cover any theoretical short term cut-off of Russia supplies.

Highly significant for understanding the gulf between mindsets in Moscow and in Brussels (and Washington), officials in Moscow cited by US media including 'Wall Street Journal' say they are convinced that the biggest immediate threat is of Western responses which will undercut the price Russia gets for its gas exports. They and Gazprom officials go on to repeat their base-case analysis of rising European demand for Russia gas, as pipeline supply from Norway, Algeria, the U.K., Holland and elsewhere slows, and LNG import capacities in European countries fail to ramp up, in part due to high construction costs and low-growing EU gas consumption, and world LNG supplies moving towards the even higher-priced, gas-hungry markets of Asia. Threatened gas sanctions, in particular, are seen by some key Russian officials as a disguised commercial policy seeking lower prices for Russian gas!

Gas Infrastructures Depend on Gas Prices, not Politics

Rightly called a permanent circus act, potential new gas pipeline and LNG supply infrastructures in Europe are an overlay to a continent that is criss-crossed with both “legacy” and “project” gas pipelines and gas reservoirs. It is also criss-crossed, but mostly at the “project” stage with LNG import terminals, and their actual or planned national or regional pipeline delivery infrastructures. In overall and total terms, continental Europe has close to, or more than the total approximate 240 000 kilometres of gas pipeline and delivery infrastructures that exist in the much larger area of the continental US.

 Spectacular and very high-cost projects such as the Nord Stream and South Stream gaslines serving Germany alone (Nord Stream) and several western EU states, by South Stream when it is completed and operational, are also accompanied or rivaled by mostly-projected new gaslines oriented to the southern EU states.

Russia's massive gas infrastructures for supplying all of Europe are the largest of the “legacy” infrastructures, with Ukraine being the key legacy pipeline route and hub.

Brave words from the European Commission, 6 March, are that it would help expand the Ukraine's natural-gas pipeline system as part of an aid package. This expansion's completion date, nor its funding were described, but the EC's aim is enabling Ukraine to import gas from certain other neighboring countries – although the gas will be of Russian origin or mostly Russian origin.  European officials call this the “reverse flow strategy”, that is to pump mostly Russian-origin gas back into the Ukraine – to reduce the country's dependence on Russian gas!

Ukraine's heavily oversized gas infrastructures are able to transport and store more than 4 times the country's annual demand for domestic consumption of about 80 billion cubic metres, and are used not only to transport gas at different daily flow rates depending on compressor power utilised, but also to store gas in situ (very slow moving pipeline gas). The gas can also be offloaded to underground storage reservoirs, which in Ukraine's case are massive but in degraded or badly-maintained condition.

As at present, according to specialist publications such as Platts Gas News and Market Data, Ukraine's reservoirs are at extreme high levels, for reasons including mild winter weather and economic recession in Europe damping demand. The present European Commission “outline proposal” to reverse-flow gas to Ukraine would, if it was ever funded and built, certainly face serious infrastructure problems, possibly including the need for repairing existing, or building more storage infrastructures – while the alternate and rational strategy of rapidly developing the country's own massive gas reserves is at present ignored!

Apart from real world gas reserve development and pipeline export projects targeting Europe, notably Azerbaijan's Shah Deniz project, multiple other “outline proposals” are regularly mooted including gas reserve development export to Europe from Turkmenistan, Israel, Iran or elsewhere. The list of actual and potential LNG exporters to Europe is already long, and growing.

Underlining the always-significant role of expected gas prices in Europe for deciding project development, the first U.S. LNG export terminal out of the six approved by regulators so far is expected to start production in late 2015. Its total output is however already under contract to customers in Asia, due to Asian gas prices being even higher than European, signaling the commercial limits on the brave talk coming out of Washington, Brussels, London and elsewhere on “cutting Europe's gas dependence on Russia to nothing”.

By Andrew McKillop


Former chief policy analyst, Division A Policy, DG XVII Energy, European Commission. Andrew McKillop Biographic Highlights

Co-author 'The Doomsday Machine', Palgrave Macmillan USA, 2012

Andrew McKillop has more than 30 years experience in the energy, economic and finance domains. Trained at London UK’s University College, he has had specially long experience of energy policy, project administration and the development and financing of alternate energy. This included his role of in-house Expert on Policy and Programming at the DG XVII-Energy of the European Commission, Director of Information of the OAPEC technology transfer subsidiary, AREC and researcher for UN agencies including the ILO.

© 2014 Copyright Andrew McKillop - All Rights Reserved Disclaimer: The above is a matter of opinion provided for general information purposes only and is not intended as investment advice. Information and analysis above are derived from sources and utilising methods believed to be reliable, but we cannot accept responsibility for any losses you may incur as a result of this analysis. Individuals should consult with their personal financial advisor.

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