“regulatory Frameworks For Gas Markets In Eu Member States” – Jean-Baptiste Dubreuil, former senior natural gas analyst Gergely Molnar, energy analyst – natural gas Songo John, former consultant Commentary – September 12, 2020

Before the Covid-19 pandemic caused a global health and economic crisis, governments in a number of emerging markets around the world announced significant new gas market reforms. These include Brazil’s Novo Mercado de Gás program, the creation of an independent pipeline company in China, and India’s recently launched Gas Exchange, which reinforces the government’s vision for a gas-based economy.

“regulatory Frameworks For Gas Markets In Eu Member States”

While many policymakers today are naturally focused on economic recovery and stimulus packages, the significant benefits that gas market reform will bring to the economy cannot be overlooked.

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For example, we estimate that EU gas import expenditures in 2019 would have been almost a third ($15 billion) higher than oil indexation under market conditions prior to the liberalization of European gas markets.

In principle, the creation of wholesale markets for liquefied natural gas will increase competition between suppliers, increase the efficiency of resource allocation and ensure transparent price disclosure. It is an alternative to other price mechanisms such as oil indexation and can serve as an anchor for both domestic and import prices.

The current crisis and the developing global gas market should be used as an opportunity to accelerate gas market reforms with contract-free supply of liquefied natural gas (LNG), as they can bring great benefits to consumers, reduce import bills and help economic recovery. .

The benefits of gas market reform cannot be overstated, especially when further economic stimulus is needed

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As highlighted in the recently released Gas 2020 market report, the current crisis could have a negative impact on the medium-term growth potential of natural gas, including demand for LNG. As a result, global liquefaction capacity growth is expected to outpace LNG demand, leading to overcapacity.

At the same time, contracts covering more than 200 billion cubic meters per year (bcm/y) of LNG are expiring, most of which are aimed at markets in the Asia-Pacific region.

Such a situation would expose some LNG producers and portfolio players to future uncontracted production growth and sunk costs. This, in turn, increases competition between suppliers – both in renewing expiring contracts and in developing new markets in developing regions.

Historical experience shows that free market conditions can serve as a catalyst for reforming the gas market, especially as an increasingly diverse and competitive source of supply. The benefits will be faster for both middlemen and governments.

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In the United States, the implementation of regulatory reforms liberalizing the gas market coincided with an oil and gas glut following the oil shock of 1979 and the recession of 1981-82. In fact, excess volumes have facilitated the development of interstate trade and led to greater price convergence.

Similarly, gas liberalization and trade development in the UK was facilitated by abundant supplies from the North Sea in the late 1980s and 1990s.

In continental Europe, free market conditions following the 2008-9 financial crisis, together with the political will to implement the Third Energy Package, led to the development of wholesale LNG markets and retail outlets, which enabled regional price determination.

This, in turn, allowed a gradual transition from oil indexation to hybrid and hub indexed formulas in import contracts. This is more reflective of the actual supply and demand fundamentals of the import market.

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The transition can be clearly observed in the evolution of European import prices, with the share of oil indexation falling from 90% in 2005 to 25% in 2019. In the European Union, the share of oil indexation of imports is now estimated to be below 20%.

The implications for the total import bill can be significant, particularly in the context of expiring long-term contracts. As mentioned above, we estimate that EU gas import costs would have been almost a third higher in 2019 under pre-liberal market conditions, where most import contracts were dominated by oil indexation. In addition, competitive gas pricing can bring significant environmental benefits by contributing to clean air policies and the cost-effective implementation of coal-to-gasification in the energy sector, thereby reducing the carbon footprint of economies.

The experience of both Europe and North America shows that it takes at least 10 years to establish well-functioning, competitive wholesale gas markets.

Given the diversity of each energy and gas system (in terms of resource provision, interconnection, security of supply and other aspects), there is no single way to create a competitive gas market. However, there are a number of factors that policy makers and other relevant stakeholders should consider during the market design phase and the implementation of regulatory measures.

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A gas supply system and infrastructure capable of meeting average, seasonal and peak consumer demand is an essential element in creating a wholesale liquid market.

The regulatory framework should allow market participants access to gas infrastructure and midstream flexibility products (eg input-output capacity in pipeline interconnections, storage, LNG regasification) on a non-discriminatory, objective and transparent basis. This requires the decoupling of the midstream infrastructure from the (typically) vertically integrated controller, as well as the non-discriminatory application of capacity allocation rules, congestion management and balancing procedures.

Network development plans and investment decisions should reflect the evolving supply and demand patterns of a particular gas market. In this regard, the correct structure of tariffs – providing appropriate incentives for investment and entry into the network – is of primary importance.

Operational transparency of the gas system is essential to reduce any information asymmetry that may exist between market participants.

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Market participants must embrace the challenges and opportunities offered by a liberalized gas market. In the traditional model of vertical integration, wholesale companies act as “middlemen” between manufacturers and end users. Because of their monopolistic or oligopolistic market position, wholesalers can supply gas to customers simply on a cost-plus basis. But in a liberalized gas market, utilities, midstream suppliers and trading companies must compete with each other for both customers and sources of supply. Eliminating all clauses in gas sales contracts that prevent resale of gas and/or prevent customers from switching suppliers is essential to further enhance competition.

The fundamental basis of competitive gas markets is the creation of a liquid center. This ensures timely and cost-effective exchange of gas between market participants and provides a price index that reflects market fundamentals.

The churn rate is usually considered the most important indicator of a hub’s liquidity. It represents the ratio between the total volume of trade and the physical volume of gas consumed in the area served by the hub. A failure rate above 10 indicates a fluid hub (both TTF and Henry Hub are currently hovering around 100). The design of the hub should facilitate the development of trade. Market participants’ access to the hub should be ensured on a non-discriminatory basis, the licensing procedure should be transparent and the fee for participation (if applicable) should not significantly increase entry barriers. The product range offered should be diversified not only by market participants, but also by time horizon (day-ahead spot trading – as well as forwards and futures) and trading instruments (including swaps and options). to balance their short-term positions in the physical market, as well as to manage price risk in different time horizons.

It is necessary to monitor the activity of the wholesale sale of energy products. This is particularly important in the early phases of hub development, when liquidity is still relatively low and the risk of market manipulation by a dominant player remains high. In addition, market surveillance and detection of anti-competitive behavior play an important role in building trust among participants.

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It has supported market reform programs for decades through the exchange of knowledge and the dissemination of international experience through white papers, conferences and special work programs with Member and Association countries.

Recent examples include the Gas Market Liberalization Reform Report, which provides key insights from international experience for China; the agency’s active support for Brazil’s Novo Mercado de Gás reforms that passed the lower house of Brazil’s parliament this month; and a recently launched cooperation program with India on gas markets.

It will continue to play a crucial role in building a dialogue between key stakeholders, facilitate the sharing of international experience and provide thorough and objective analysis to support gas market reform.

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The 30th meeting of the European Gas Regulation Forum (Madrid Forum) will be held on October 19-20. One of the main issues on the agenda are discussions on the functioning and future development of the EU’s internal wholesale gas market, which is important for Russia and its main gas exporter.

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