As developments in the European gas market dramatically effect Gazprom’s market position, the research team of Energy Institute of the Higher School of Economics and Energy Research Institute, Russian Academy of Sciences, try to find the reasons and consequences of these developments. The title “European Gas Market: Lost Illusions and Humble Hopes” is a precise reflection of Gazprom sentiment these days.
The authors, including Nikolay Arkhipov, Yuri Galkin, Elena Kozina and others, with the help of Tatiana Mitrova (Head of Oil and Gas Department, Energy Research Institute, Russian Academy of Sciences) as an editor, come to the following conclusions:
1) Falling European demand does not match Russia’s expectations –the results of 2014 are bringing down gas demand in the EU to 1995 levels. The main push factors for falling demand are interfuel competition and economical instability. The decrease resulted in oversupply of gas and rising competition among suppliers.
2) Inhouse European gas production has also plummeted. However, a drop similar to the one in 2005-2015 will hardly occur again any time soon. The researchers believe that by the end of the next decade falling production will be one third of the level of today.
3) The spot market becomes the primary way gas is traded in Europe, but the long-term contracts will still matter. Continental gas hub TTF will displace the British NBP and become the largest in Europe “zero point” of pricing.
4) The EU is creating a new architecture of a single and open gas market by erasing national borders, empowering supernational regulators and making additional infrastructure capacity.
5) In this new European energy regime a Russian strategy of vertical integration makes little sense. At the same time the current changes make a supplier’s life easier: instead of investing huge amounts into transport projects, a company can let the EU provide the necessary infrastructure under the new legislation.
6) The EU and Russia have shifted on gas matters from a strategic-political relationship to a simplified commercial relationship, with the EU dragging the not entirely happy Russians into such a simplified commercial relationship.
7) The options for diversification and reduction the dependence on Russian gas are expanding, but not as much as Europe would prefer. The authors believe that even with the worst scenario the level of supply of Russian gas would not fall more than 25 bcm in comparison with 2014. At the same time Russia’s export opportunities are also restricted – country’s export volumes would hardly increase for more than 30 bcm in comparison with the results of 2014.
8) Russia’s sensitive issue – Ukrainian transit remains essential for the Kremlin. The only way to exclude the route can be possible in a situation of low demand and export volumes.
9) In its turn, the low demand can lead to price wars. The analysis shows that Russian gas is competitive with America. Nevertheless, American gas might be able to position itself in the market with lower prices. This might make a price war within the range of $230-300 tcm. In the case of low Asian demand, Middle Eastern gas will flow to the EU and the price competition for Russia would be rather tough. According to the research team, price dumping would not help to win the competition against Middle Eastern gas suppliers as it would cause Gazprom a substantial loss of revenue.
10) To keep the export volumes, Russia should become more flexible. That does not mean giving up the long-term contracts that provide guaranteed volumes of supply. The best option for Russia would be the gradual increase of spot pricing percentage in the contracts.
The authors conclude: European market is not as it used to be: it is not rapid-growing and willing to develop strategic relations with Russia. The new European market is a competitive marketplace with increasing supply and interfuel competition. To succeed there, a supplier must adapt to the new reality.
Marina Zvonareva is a Natural Gas Europe journalist focused on Russia’s international energy relations.
