COLUMN-Russian gas market power is eroding: Gerard Wynn

Tue Sep 18, 2012 8:48am EDT

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(The author is a Reuters market analyst. The views expressed are his own.)

By Gerard Wynn

LONDON, Sept 18 (Reuters) - The European Commission's antitrust case against Gazprom will force the Russian company to divest shares in gas infrastructure and shift towards shorter term supply contracts, precedent from European energy companies suggests.

The case adds to structural shifts in the European gas market to erode the pricing power of Gazprom, which is more than 50 percent owned by the Russian state.

That pressure can only strengthen the hand of China, as Russia tries to diversify its markets away from Europe and ship gas to the world's fastest growing energy consumer, in negotiations that have stalled on price.

The EU investigation centres on excessive market power including long-term contracts that have locked gas customers for up to 30 years into more expensive oil-indexed prices in Poland, the Czech Republic, Slovakia, Hungary, Bulgaria, Estonia, Latvia and Lithuania.

East European countries have benefited least from imports of liquefied natural gas (LNG) into west European ports and the associated rise in cheaper spot pricing in north and west European market hubs.

UK hub prices were 68 percent of a theoretical price calculated using a traditional oil-indexed formula, the EU's quarterly gas market review reported earlier this year.

Rising energy dependence is driving the EU's efforts to diversify supplies and liberalise prices, through its competitive markets drive and the shift towards renewable energy.

The EU imported 62.4 percent of its natural gas consumption in 2011, up from 60.3 percent in 2007, according to the EU's "Statistical Pocketbook 2012".

EU domestic production of natural gas continued its long term decline in 2011, at below 1,788 terrawatt hours (TWh), about 30 percent below production levels in 2003, the quarterly review reported.

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Chart 1: link.reuters.com/puf72t

Chart 2: link.reuters.com/duf72t

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TRENDS

The EU's push for a competitive energy market has helped drive alternative supplies, by boosting cross-border interconnector pipelines, LNG port facilities and gas storage.

Chart 1 shows Russia's declining share of EU gas imports, down to 34.2 percent as of 2009, the latest year Eurostat data are available, from 47.7 percent in 2001.

More diversified supplies and interconnections have also pressured prices by boosting spot exchange hubs in north-western Europe, offering an alternative to more expensive, oil-indexed contracts where rapid growth of the Netherlands' TTF (Title Transfer Facility) exchange alongside Britain's more established NBP (National Balancing Point) is illustrative.

To widen those benefits to eastern Europe, the European Commission has prioritised a north-south gas pipeline to link the Baltic and Black Sea, and stronger interconnections between Finland, Sweden and Poland, as related last year in a discussion paper, "The internal energy market - time to switch into higher gear".

Compounding Gazprom's problems, EU gas consumption has fallen in two of the past three years on the back of the financial crisis and rising prices. In the meantime, coal consumption is rising faster than at any time since 1985, alongside renewable energy.

Chart 2 shows that EU gas consumption in 2011 was at its lowest level in 11 years.

Meanwhile, Australia and East Africa are emerging as new suppliers of LNG, and potentially in the future so will the United States.

That is a dangerous mix for Gazprom, Russia's biggest company, given the EU accounts for most of its gas exports.

PRECEDENT

The Commission's antitrust steps will provide an extra push to erode Gazprom's power in eastern Europe, given its successes against Europe's biggest energy companies in similar probes.

Regarding supply dominance, in 2007 the Commission forced Belgian wholesale gas supplier Distrigas to reduce the volumes it tied up in long-term contracts, after concerns that the company could set prices, with the threat of a fine equivalent to up to 10 percent of annual sales.

That is relevant to Poland's complaints about Gazprom's excessively expensive, long-term contracts.

The Commission says it is presently investigating whether "Gazprom may have imposed unfair prices on its customers by linking the price of gas to oil prices", in long-term contracts.

In a distribution case, the Commission in 2009 forced RWE to divest its entire western German high-pressure gas transmission network after concerns the German utility was restricting competitive access.

That could equally apply to Gazprom's dual ownership of distribution and supply businesses in Lithuania.

And regarding cross-border capacity, in 2009 and 2010 the Commission forced GDF Suez to scale back its long-term reservation of French gas import capacity, Germany's E.ON to stop hoarding import capacity into the German gas grid, and ENI to divest shares in international transport pipelines to Italy.

In its Gazprom probe, the Commission is investigating whether the company "may have divided gas markets by hindering the free flow of gas across Member States".

While the notion of energy security normally attaches to customers, Gazprom will have to find alternative markets to preserve its own security in the face of EU pricing pressure while its efforts to contract gas sales to China have so far failed. (Reporting by Gerard Wynn; Editing by Anthony Barker)

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