Home > China oil price regulation, Geopolitics in energy prices, LNG, Oil price regulation > A recent game of chess in the world natural gas market

A recent game of chess in the world natural gas market

A spate of events in the past month has shaped the natural gas markets for years to come. These are the announcements of the supply of Russian gas via the South Stream to Europe and China domestic price initiatives.

A major energy security issue pertaining to the EU has been the supply of gas from Russia. This gas transported via pipelines transit through Ukraine and Belarus. Disputes between Russia and these countries over gas pricing and siphoning have led to temporary shut-downs/ reduction in the gas flow in 2006 & 2007 directly threatening the flow of natural gas to the west European countries.

Figure 1: Nord Stream pipeline

Since then, a new pipeline the North Stream with 20 bcm/ year capacity was laid on the Baltic Sea bypassing Belarus with a first delivery in Nov 2011. Agreement for a second pipeline between Russia and Turkey, the South Stream has also been reached this week. This is expected to bypass Ukraine in transit and underlie the Black Sea transporting 63 bcm/year from 2015. For a long while, this was an impasse with Turkey with the EU-backed Nabucco pipeline in the sidelines. The Nabucco pipeline was meant to transport natural gas from the Caspian region to Europe and reduce its energy dependence on Russia.

Figure 2: South and Nabucco pipeline

However, Azerbaijan and Turkey have signed a gas supply and pipeline contract this week. This is to supply 16 bcm/ year of gas via the Shah Deniz fields via the Trans-Anatolia pipeline, of which 6 bcm/ year is meant for Turkey own domestic consumption. This pipeline is expected to defer the costlier Nabucco project. Further, China and Turkmenistan have signed gas supply and pipeline contracts last month to supply 65 bcm/ year through its remote Northwest. This effectively curtailed the potential supply of gas from the central Asia region to Europe.

This sequence of events has actually lifted Russia’s hand in its gas supply to Europe and shifted its dependence away from the transit countries Ukraine and Belarus. What will be the impact of these moves? Firstly, the monopoly held by Gazprom (Russian main state owned gas company) is expected to strengthen its hands in ongoing negotiations to move away from oil-indexed pricing for gas. Secondly, it will actually hasten the growth of alternative energies in western Europe and may even prompt an unthinkable re-think of the nuclear policy. A third unintended result is the reliance on Iran as the only feasible supplier on the Nabucco pipeline with the ripple effects of potential UN sanctions hanging over.

Another event is China liberalising its well head costs at gas fields and piloting a scheme to liberalise its city-gate gas prices this week. Whilst China has just recently secured a gas supply agreement with Turkmenistan, its phenomenal rate of growth in natural gas use is expected to outpace supply. By liberalising the well head costs at natural gas fields, it is encouraging domestic investment into shale gas and other unconventional gas sources. An EIA survey in 2011 has indicated that China holds probably the largest unconventional gas reserves in the world.

Its pilot scheme in Guangzhou and Guangxi pegs city gate prices to a combination of fuel oil and LPG prices (both liberalised markets in China). Presently, city gate prices are fixed atop a margin on production costs. These city gate prices apply to both domestic and imported gas. These recent measures by China are expected to increase its domestic production much as what USA did over the past 3 years. This can shift its dependence away from imports from Russia and other countries and significantly impact world gas markets. Price reforms are also expected to reduce potential future gas shortages seen in its oil markets.

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