Russia’s Natural Gas Strategy: “All of the Above”
It’s not just LNG, or new conventional natural gas resources, or even the prospect of shale gas in Europe that has Gazprom strategists wondering how they will maintain export volumes to their biggest customer, Europe.
It’s all of them, according to Tatiana Mitrova, Head of Oil and Gas Development Department at SKOLKOVO business school Energy Centre, who spoke at the 2012 Unconventional Gas & Oil Summit in Warsaw, Poland.
In her speech, she addressed the potential of shale gas production in Europe, and the lack of precise figures regarding it: “We are all selling the bear’s skin before it has been caught – we don’t know the reserve size, production costs, production volumes, and we don’t have any time schedule.”
She said the shale gas phenomenon in Europe was an extremely speculative thing so far. “I don’t want to say there will be no shale production in Europe – probably there will be. But today it’s impossible to speak about future Polish shale gas exports, or about it squeezing Russian pipeline gas supplies, simply because there’s no practical ground for such solutions and decisions. We don’t know what will happen with European shale gas.”
Based on preliminary assumptions, she mentioned the range of production costs, considering that European shales tended to be more complicated, and that there would likely be additional processing and transport costs.
“These costs are either higher than Gazprom contract prices in the current high oil price environment, and they are definitely higher than average spot prices, which is more important, because these are going to be new supplies and producers will have to make new contracts and I doubt they will be ready in Europe to make new oil-linked contracts in the current environment; buyers will insist on having spot-indexed prices. Then, all this production doesn’t seem to be very competitive,” Mitrova said of European shale gas.
But how competitive, how economically efficient would that gas be? was a question that remained.
“Russia has quite a big buffer to play with,” she explained of potential competition for European-produced shale gas. “If there were real competition with huge volumes of Polish shale gas on the market, Russia has these capacities to enter into the competition.”
Regarding Europe as a customer, she posed the question: “What is the Russian choice? To focus on volumes and market share, or on prices? The current answer is absolutely clear. It’s from an interview with Gazprom’s Alexander Medvediev whose message is protecting prices. How long and how sustainable this answer is, we’ll see.”
Ms. Mitrova showed that despite a significant reduction in gas exports from Russia, revenues had remained quite high, justifying this strategy.
“For several years at least Gazprom will follow this path of development,” she said.
She promised to address how strong the impact of North America’s shale gas revolution had been on Russian gas exports and strategy.
“Yes, definitely it was strong at the end of the day,” she admitted. “It led to a strong decline in US import needs, and therefore Russian arctic LNG projects which were initially targeted at the US market - Yamal LNG and Shtokman LNG – they were strongly affected and had to review their export markets.”
Now, she said, Yamal LNG was targeting Europe and Asia - an absolutely new direction for supplies and for markets.
“With Shtokman, you know the story,” she said. “The final investment decision was again postponed until the end of this quarter, and frankly speaking I have a very strong feeling that this will be postponed again, because the project hasn’t succeeded in securing the same tax breaks that Yamal LNG did. Without these, its development in the current market is quite questionable,” she explained.
So what happened to all the LNG that was supposed to go to the US from estimations in 2002-04, when America was facing a gas deficit and prices Henry Hub were running at $8-10 MmBtu?
Because of the huge, additional LNG supplies from Qatar accompanied by weak demand, she said that in absolute terms, Russian exports to Europe had been affected and had not yet returned to the pre-crisis levels.
“So the impact of the US shale revolution was clear, but it was indirect, through global LNG balance – this will be the main mechanism actually affecting Russian strategy, not competing directly.”
Noting over optimistic demand forecasts for Europe before the crises, she said that all contracted volumes had faced demand decline in 2009 and 2010.
“If you add spot LNG supplies, you understand how it happened that the prices were decoupled and that part of Russian gas had to go away from this market.”
Ms. Mitrova showed a graph of how LNG supply would grow substantially after 2014, when the next wave of LNG came on the market, mostly coming from Australia.
“Now we are facing this absolute game changer, US LNG, and no one can state what volumes we will see,” she commented. “Will it be like 20 bcm/year or 100 bcm/year? Frankly speaking, I’m more in favor of the first option.”
According to her, this could have a very strong influence on the Russian strategy in Europe, again indirectly.
“Europe,” she said, “is becoming a mature market with stagnating demand.”
Like one forecast from the EIA, she said the latest showed a demand for OECD Europe below 600 bcm.
“From 2011 on,” she explained, “we are seeing more increasing competition in Europe; Russia faces price competition with many other gas suppliers.”
“Three market players with unconventional gas production are more or less guaranteed: the US will remain a gas island – there will be no need to export LNG to America; Australia is going to be a huge new player on the LNG market, with which Russia will have to compete in Pacific; and China, which is showing the highest demand growth – the results of drilling exploration of shale gas there will show if this source will be competitive with Russian gas from Eastern Siberia on this market, though preliminary data indicates that shale gas reserves here are less attractive than in the US.”
She said these were the three producers of unconventional gas that could affect the Russian strategy and considered what Europe’s strategy should be going forward.
While she said Russia’s targets were increasing exports to both Europe and to Asia in the long term, currently, she showed, average demand growth in Europe had been minus 1.8% from 2005-11.
Ms. Mitrova explained: “It’s not just because of the crisis, but because of EU policy, the ageing population, increasing energy efficiency and many other things. The demand will recover of course, but it can be said that it won’t grow as fast as it did in past decades.”
There was a wide range of European gas demand forecasts, which created a huge uncertainty for decision making. She said a “plan B” was definitely in order, when one considered happenings like Fukushima, or the Arab Spring, which necessitated replacing Libyan gas supplies on the European market.
“What if economic recovery will be faster than expected, energy efficiency targets are not achieved, or under investment in gas production during the crisis increases?
“Russian long-term contracts are sort of insurance if all other options fail. Sometimes it’s better to have this insurance. Yes, it’s more costly, but it is guaranteed.”
Russia’s share of the gas market, she showed, was declining with increasing competition, meaning that the image of the big, ferocious Russian bear holding on to Europe with it’s bloody paws was not realistic.
At the end of the day Gazprom could be forced into spot market pricing and short term contracts, but she said it might not be favorable for the European gas market and its customers.
Ms. Mitrova also asked what Russia’s role would be on the European market, perhaps remaining the pillar of long term contracts paradigm; or would it be a swing producer/supplier of last resort; maybe even be a dominant player on the spot market setting the price by manipulating market volumes: “That’s actually what Europe is forcing Russia to do with the Gas Market Target Model and virtual hubs concept, all the movements of liberalization and pressure on oil indexation.
“It’s an absolutely different environment, different paradigm of behavior,” she explained. “Not very convenient or traditional for Russia. But will Europe be happy with cartel-like behavior on its own spot market?”