Gas 'at a Crossroads' in Europe

The European market for natural gas is at a crossroads, according to Klaus Schäfer, CEO, E.ON Global Commodities. While gas-fired generation may be taking a beating in Europe, and any solution to that elusive for the moment, Mr. Schäfer sees bright spots for gas in the transport sector, among others. Following his appearance and presence at Gas Week 2013 in Brussels, Belgium, he offered his insights to Natural Gas Europe.

Mr. Schäfer, what's your overall view of the European natural gas sector at present?

We've seen great development over the last decades: gas has shown its qualities as a competitive, available and environmentally compatible energy source.

If you look at the residential market in terms of the market share on the heating side, the massive penetration we've seen in power generation with the advent of combined cycle gas turbines (CCGT) as well as the first steps on the transport market in terms of gas-powered vehicles, today we're at a crossroads.

The verdict is still out as to what the energy mix of Europe will be going forward. Is it being driven by the goals of a broader policy, which is going towards a commodity like gas with its much better environmental characteristics, or is it driven by short-term market signals?

In the residential market, gas is well positioned, especially with the current pricing against oil. On the transport side, we see the benefits of gas versus diesel or fuel in terms of pricing and environmental advantages.

The power generation sector is the crucial element—there the challenge right now is gas versus coal, and we need to see how that turns out. If we get it wrong right now, then we have to live with the consequences for a while, and there needs to be a clear view in Europe as to what the priorities are. Is it low pricing alone, or is it a competitive, environmentally acceptable and available energy like gas that should be in favor?

You sound resolute in your support of natural gas, but how much coal does E.ON burn for power generation and do you understand why others might choose coal over gas at present?

We have a fairly balanced portfolio which includes nuclear, lots of gas, but also coal-fired generation, hydropower, and renewables.

As for why coal is still being burned, I think it is obvious—the market will dispatch the plant with the lowest variable cost.

Right now, it's actually an interesting development if you think that an element of low coal prices is the shale gas revolution in the US that has reduced significantly the coal being burned there, and has led to coal at low prices being exported from the US into Europe, for example.

The development of new gas resources has thus contributed quite a lot to Europe moving towards a generation mix of renewables combined with coal—certainly something that a couple of years ago would have been seen as a politically/socially unacceptable thing, and not as a target. So rather than decarbonization of the sector we're now splitting the sector into a zero carbon world and a high carbon world, combining both of them to produce a medium carbon world, which is not what was intended.

With EU climate targets in mind and their present lack of efficacy, what are your impressions of how the use of more natural gas in the US is playing out?

I must say I am impressed at how the US is managing to renew itself, taking advantage of technology, of innovation, of real game changers, in industries.

The shale gas revolution will mean re-industrialization of the country. It will bring back, to some extent, some of the industry to the US; it will mean lower natural gas prices, lower power prices, lower fertilizer costs to farmers and lower costs to industry. All of that will have a very positive effect on the future development of the US, and it is giving that boost to the economy while reducing CO2 emissions—that's the amazing combination. So we're seeing a reduction in CO2 emissions despite that significant push on the industrial side.

At the same time, the US is seen to be going independent on the energy side, in 2015 surpassing Russia as the largest gas producer; in 2017 it will surpass Saudi Arabia in oil production, and in 2030 or beyond it will be independent in terms of its energy imports, which is a direction Europe is striving for, but will clearly not achieve.

We hear a lot about Germany's push towards powering itself with renewables, the so-called 'Energiewende'. What has that meant for natural gas there?

It's a positive, nice sounding name and has resulted in a pretty radical shift of the energy market, strongly favoring renewables. There's nothing wrong with renewables; the problem is, if you need to subsidize them and spend billions of euros early on to have a very quick market penetration that ultimately will have to be paid for by the general public for decades to come.

At the same time, Germany is probably the showcase of combining renewables with cheap lignite power production and I'm not entirely sure that was the original goal of the Energiewende. On the other hand, it has been decided by the politicians and this should also be accepted.

The industry will have to see where it can find its way in to that.

How are E.ON's gas-fired assets faring?

Running hours for some of these plants are way too low—they certainly make the continued running of the plants uneconomic.

We have wonderful talk about capacity markets being needed for future investment, but before we start thinking about what's needed for additional investments, we should work towards making sure that existing capacity stays online and doesn't get retired because obviously making new investments means you have to recoup the full capital costs, whereas making sure that existing capacity remains in the market and is economical to be run, obviously, avoids a lot of possible costs that will have to be covered.

In general, what are your thoughts on natural gas demand in Europe in the context of the crisis?

Gas demand has gone down in recent years and therefore we are in terms of demand now back to the early years of the last decade—the recession has taken its toll, but the changes in power generation have also.

I would make no predictions as there are so many variables in a scenario with different uses and new uses replacing old ones. The generation sector will have less of that, the transport sector more, the residential sector will go down because of efficiency, while at the same time we will see forms of micro-generation.

Taking all of these variables into account, we see a rather balanced development, but that also means more imports are needed, because indigenous supply is declining—shale gas is not being developed—therefore we'll be seeing more imports and infrastructure will need to grow: pipelines are being built and gas sources are being developed, and access to LNG is vital to that market.

You mentioned that natural gas has good prospects in transport. Could you kindly elaborate and talk about some other bright spots for gas?

In Europe there are very positive developments on the gas transport side, which already holds true for compressed natural gas (CNG), but I would look much more at larger ones, trucks, to a larger extent fueled by LNG.

We see that across Europe our markets are getting closer together. Five years ago I would've said the single market was much more likely for the power sector than for gas, but I think that trend has reversed completely. In the gas sector we will likely see this not later than 2014.

Once we integrate the European gas market we also take part in the global gas market, because LNG will play a much larger role going forward with exports from the US and Canada, new projects in the Australasian market, and those markets becoming much more linked as a result. And through the linkage of the European market, obviously they all will have access to existing infrastructure—Spain's and France's numerous terminals; Italy's developing them; and the UK has some—and using these as a way of accessing the global market for the whole of Europe and much less for individual countries. I think this is a very positive development and one I'm looking forward to.

Could you speak about E.ON's involvement in pipeline projects like the Trans Adriatic Pipeline (TAP)?

If you look at diversifying the European gas supply, you look first at diversification of routes—new pipeline connections. That's important because more import infrastructure always has a beneficial impact on security of supply. It's also important to create new sources close to Europe, where a pipeline can transport the gas to the European market and, frankly, the only sizable development will be in the 4th Corridor; therefore developing that now and pushing the projects is crucial. We'll see decisions being taken in the coming weeks and months.

We are a shareholder in TAP, which we believe is the most compelling project out there in terms of delivering this product into a big market, i.e. Italy, which is connected to the rest of Europe and with possibly even stronger connections with north-south flows via the Swiss pipeline at some point in the future. This will also create something which will provide 4th Corridor access to all of Europe, not only to single countries.

You were the CEO of both E.ON Ruhrgas and E.ON Energy Trading, which have recently merged into E.ON Global Commodities. Could you describe what this means for E.ON?

It will be a single entity dealing with the total commodity exposure of the E.ON Group, managing the risk exposure position and obviously realizing the total opportunities from that.

Given the changes in the gas sector, which has really developed into a traded market, where the gas hubs in Europe have developed tremendously, where they now provide the pricing signals both for the purchasing as well as the selling side, there was clearly no reason to keep the traded short-term gas business separate from the longer term.

So there was a clear rationale to combine them, which also taps some synergies in managing a joint portfolio, taking better commercial decisions, having a better flow of information, from the short to the long term, but also allowing, for example, for the cross-commodity exposure of the long-term gas business simply to be run in a better way, because in one company being also exposed to the development of commercial coal, the power markets and so on—that helps a lot for taking decisions on the longer term gas side.

We are not merging the full companies, but the commercial part of the organization. For example, the pipelines were sold last year, at least the national transport pipelines; the E&P business has been shifted within the Group into a separate entity. So what's being integrated now is the commercial part of E.ON Ruhrgas with the total of the trading business. The commercial part includes the long-term supply business, the total portfolio and its optimization, the storage business and the pipelines to the extent that they're enablers to the business, ie. the main import pipelines and interconnectors.