GAS STORM

Europe has hardly recovered from the economic crisis caused by the pandemic, but faces new challenges again. The EU countries are challenged by the real energy collapse, which can result in food shortage.

High gas prices are pushing up electricity prices as well, which is why many analysts warn that the regional countries could face power outages during the winter peak of consumption.

Experts forecasts are also rather pessimistic, as no one can offer a quick solution to get out of the current situation. If earlier such price rallies could be stopped by switching to a different type of fuel like coal, then, as analysts note, there is too little coal generation facilities left in the Western Europe to ensure a significant effect.

Cause and effects

Gas prices in Europe more than tripled this year, while the electricity prices nearly doubled as the region faces supply shortages. Analysts say the main reason for the gas crisis is the low level of reserves in the EU gas storage facilities and Gazprom's reluctance to increase gas injection into storage facilities and sales ahead of the launch of Nord Stream 2. Also, the drop in the supply of American liquefied natural gas (LNG) and the recent accident at the Gazprom plant in Novy Urengoy have contributed to record growth in gas prices. Sharp rise in prices began in mid-August, after Gazprom cut supplies to the EU via the Yamal-Europe pipeline.

In mid-September, spot gas prices in Europe already reached the historic high of €76 per megawatt per hour (MWh), or $969 per thousand cubic meters.

Increase in the supply of liquefied gas could reduce gas prices in Europe, but Europe cannot yet confidently win competition with Asia, where there is an increased demand for fuel, which keeps prices high.

In 1Q2021, there were severe colds in East Asia and North America, followed by heatwaves in Asia and droughts in various regions, including Brazil. “All these events have pushed the demand for gas high. In Asia, gas demand remained strong throughout the year, primarily driven by China, Japan, and Korea. On the supply side, global LNG production was lower than expected due to a series of unplanned outages and delays around the world, as well as delays in maintenance from 2020,” International Energy Agency (IEA) noted.

Discussion of the gas crisis at the unofficial meeting of the EU energy ministers in Slovenia on September 22 also did not bring any results. However, European Commissioner Kadri Simson promised that in the coming weeks EC would develop general recommendations on easing the crisis for 450 million people in 27 countries of the largest political union on the planet.

According to the Slovenian Minister of Infrastructure, Jernej Vrtovec, since electricity and natural gas are market goods, the EU member states do not and cannot have specific levers to regulate the market component of the price. However, countries are taking different approaches to mitigate the impact of price increases on the regulated price component.

According to Vrtovec, these impacts will be mitigated in the future, in particular by reducing dependence on imports of fossil fuels and focusing on domestic sources with low carbon content.

“We will also need to reduce the total amount of energy consumed by increasing energy efficiency, which will help to reduce costs for end users and maintain the sustainability and full integration of the internal energy market both for gas and electricity,” explained Vrtovets.

The energy crisis is likely to be discussed at the EU summit slated for October 21-22, 2021.

Cautious steps

Meanwhile, many experts and gas market participants are inclined to think that the rise in gas prices was provoked by hasty actions of European countries trying to shift energy supply from traditional energy sources in favour of renewable energy sources (RES).

“Rise in gas prices in Europe is caused by the accelerated abandonment of coal generation. Therefore, it is important to calculate the economic consequences of certain steps of energy transition in advance,” said the head of the Russian Ministry of Economic Development Maxim Reshetnikov.

According to the Russian minister, many countries in the world declare the goal of achieving carbon neutrality by a certain date but do not have a clear idea of the cost of this action.

“For us, it is important to know how much the implementation of the low-carbon development agenda will cost. In other words, who, in what volume, and when will pay for the implementation of these measures... We do not get clear answers. We yet to also know who is going to pay for the refusal of coal fuel, etc. ,” Mr. Reshetnikov said.

Azerbaijani Energy Minister Parviz Shahbazov is agree with his counterpart.

“Gas prices are high due to lack of investments, as well as due to the misinterpretation of realities when we claim that we are going to ensure the world's energy security through renewable energy sources,” Mr. Shahbazov said at the Gastech Energy Conference in Dubai.

Qatari Minister of Energy, Saad Al-Qaabi, did not hide his concerns about the current situation: “We do not want such high prices. We do not believe that this is good for consumers,” Al-Qaabi said, underlining, however, that the demand for LNG is huge.

Prices rises but profitability falls

The record rise in gas prices hit hard the activities of industrial enterprises in Europe. For example, it led to the closure of fertiliser plants, the UK's main source of CO₂, which is used in carbonated beverages, stunning animals before slaughter, and cooling nuclear power plants.

Norwegian fertiliser producer Yara International said it would cut ammonia production at European plants by about 40% due to record high gas prices.

Another industry representative, the American CF Industries Holdings, suspended operations at two UK plants due to the surge in gas prices, and the British authorities were forced to provide financial assistance to the company so that it could resume operations.

In addition to fertiliser producers, electricity suppliers are also suffering from the jump in gas prices, a number of which are already on the verge of bankruptcy.

Record high rise of electricity prices in Europe caused by insufficient natural gas supplies leads to a decrease in the profitability of many large industrial enterprises, which could undermine the economic recovery of the entire region.

For example, the leading European chemical company BASF SE stated that it could not completely neutralise the impact of record electricity prices, although 80% of the consumed energy is produced by the company.

The largest copper producer in Europe, Aurubis AG, said electricity costs have already driven down profits and will continue to weigh on margins for the rest of the year.

According to Russell Hardy, CEO of Vitol, the world's largest independent oil trader, the jump in gas prices will force industrial companies, as well as chemical and fertiliser producers, to seek alternatives to gas. At the same time, the expert sees a way out of the situation in good weather (!).

Hardy believes that traders will closely monitor the weather conditions in Europe, since a mild winter in the Northern Hemisphere could somewhat calm the energy market. According to the expert, Europe will enter the cold season, which begins in October or November, with 78% full of gas storage facilities, which makes the situation quite difficult.

The IEA, as a measure that can improve the situation with gas shortages in Europe, proposes to Russia to increase gas supplies to the region to replenish underground gas storage facilities to the required level in preparation for the upcoming winter season. The agency believes that this is also another opportunity for Russia to highlight its reputation as a reliable supplier to the European market.

Azerbaijan is lucky

It is clear that the gas shortage is pushing European consumers to look for options to reduce it. In a situation, when the Russian Gazprom does not plan to supply more than the contracted volumes, other suppliers like Azerbaijan come into play. Thus, in accordance with long-term agreements on the supply of Azerbaijani gas, Italy will purchase 8bcm of gas annually, and the remaining 2bcm will be equally divided between Greece and Bulgaria.

Data supplied by the TAP operator - Trans Adriatic Pipeline AG (TAP AG) – shows that daily supplies of Azerbaijani gas to Italy range at 24mcm and in the third quarter even increased to 27mcm daily. If this trend continues during peak winter demand, Azerbaijan may sell to Italy much more gas than previously agreed.

According to the Ministry of Energy, the expected level of Azerbaijani gas export to Europe this year was 5bcm, with the IEA forecast being 5-5.5bcm. Meanwhile, in mid-September, TAP AG solemnly announced that the volume of Azerbaijani gas exports to Europe via TAP from December 31, 2020 till today has already reached 5bcm. In other words, the annual forecast has already been fulfilled, but there are still three months left until the new year.

For Azerbaijan, high gas prices, taking into account excess supplies, are undoubtedly beneficial, since this increases revenues from the gas sales. In addition, this makes it easy to resolve the issue of exporting gas volumes from Shah Deniz Stage-1, which was suspended due to the expiration of the twenty-year contract for gas supplies to Turkey on April 16, 2021.

By the way, there is progress regarding the resumption of export supplies. According to Turkish Deputy Energy Minister Alparslan Bayraktar, power consumption has increased over the past few years. At the same time, renewable energy sources began to play a noticeable role, and gas consumption from the electric power industry decreased slightly. “This year we see the growth of gas consumption. High gas prices affect energy supplies. Last year we were able to get more LNG (15bcm - R+), because there were competitive prices. This year will be really difficult, but we are negotiating with our current suppliers like Azerbaijan and Russia about new contracts and volumes,” Mr. Bayraktar said.

In addition, the Turkish media reports that Azerbaijan and Turkey after lengthy negotiations extended the agreement on the supply of Azerbaijani gas to the Turkish market. Although none of the parties made a public statement with some insights of the issue, according to media reports, the new agreement will be valid until the end of 2024 and assumes that Azerbaijan will sell gas to Turkey on a spot basis. For Azerbaijan, this will be a new form of gas trade with Turkey in addition to the existing long-term contract for Shah Deniz Stage-2. Perhaps, spot trading may be more profitable for Baku. In any case, this agreement will give the parties time to assess the situation on the gas market and, if necessary, change the agreements to long-term ones.