Two weeks ago my blog ‘Energising the Debate’ mentioned a memorandum of cooperation that had been created between Gazprom and Algerian state gas monopoly Sonatrach. This had coincided (by sheer happenstance, surely!) with Russia writing off $4.74bn of Algerian debt and Algeria inking an arms deal worth $7.5bn with Russian state arms exporter Rosoboronexport. The response of several industry insiders and press outlets, including the Times, was that these developments presaged the beginning of an OPEC-esque cartel of natural gas producing countries. This month, Hadi Hallouche of the Oxford Institute for Energy Studies has released a report tackling this issue of a future gas cartel and focusing on the potential of the already-existing Gas Exporting Countries Forum (GECF) to develop along those lines. Its conclusion was that whilst it was not impossible, it was currently not likely to occur because of several factors: Instabilities within the priorities of its members, the fact that gas operates in a sellers market at present, the fact that GECFs structure is not designed to operate as a cartel, and the lack of a coherent global gas market of the nature of the oil market. However, in terms of the European market, the evidence could in fact be taken to suggest a compelling case for a cooperative cartel, not built out of the existing GECF structure, but around the locomotive forces of Russo-Algerian cooperation.
EU efforts to liberalise the internal energy market through two gas directives and competition rules, provide the adversity that may stimulate the formation of a suppliers conglomerate. Gas directive 2003/55/EC includes a ‘destination clause’ that makes illegal any territorial restrictions in gas contracts. Previously suppliers could retain a tighter control of prices by demanding that purchasing states did not resell their gas onto third party consumers. The newly liberalised market doesn’t have room for such provisos and has retroactively applied the new legislation to existing contracts. This retroactive application has been seen as damaging the principle of mutual trust within the gas trade and threatening the legitimacy of long-term contracts. The EU has followed up on the removal of territorial restrictions by taking action against profit sharing mechanisms (PSMs), which would have the similar affect of limiting downstream cross-border trading. PSMs essentially are contributions of profit from resale made from the wholesaler to the supplier and are – in many cases – seen as having a detrimental affect on competition by making secondary trading economically unattractive. Whilst these and other liberalising measures are positive steps in ensuring an open energy market, they have met with a negative reception from gas suppliers both for the reasons discussed above and also the failure of the liberalisation to achieve what it sets out to do at the downstream end. The Algerian Oil Minister, Chakib Khelil, has commented:
“a series of gas directives have instated an open energy market in Europe. But they have fallen short of allowing energy to flow unrestricted…There are glass walls hindering attempts by producing countries to market directly to consumers.”
In this way, energy market liberalisation has not been fully achieved in Europe at the moment, with many governments still protecting national champions against foreign intervention. Conversely, the Commission has been comparatively thorough at implementing the upstream restrictions on supply nations, leaving them with what the Qatari minister for Energy refers to as a ‘regulatory maze’. Robbi Luxbacher, Europe director for Exxon Mobil, warned of the consequences of over-regulation at a speech in Amsterdam in March 2004:
“over-regulation to control the liberalised market can undermine market development. Laws and regulations that block the operation of free and competitive markets will inevitably have unintended consequences and will compromise our ability to attract imports.”
In light of the competitive measures taken by the EU, which benefit the consumer but have caused some problems for producers, it is expected that gas prices will become even more critically important during the re-negotiation of those long-term gas contracts that are due to expire over the next ten years. Faced with an increasingly regulated and homogenised internal market, it is in fact a logical step to assume that suppliers could begin to cooperate more closely to ensure that prices do not deflate. LNG remains a buyers market by virtue of the comparatively small volumes in which it is used in global consumption. However is has the virtue that planned national import capacities will outstrip production by a ration of 800:300 bcm (billion cubic metres) in 2010 according to National Grid Transco. This deficit will increase its importance to national markets, particularly if it is controlled by companies that can regulate the supply of pipeline gas alongside it to ensure that LNG imports remain important. As far and away Europe’s biggest supplier, Gazprom is best poised to manipulate prices to their benefit in this manner. As Europe’s third largest gas importer, and the only country in the world with a diversified LNG/pipeline export capacity, Algeria is best poised to assist and to benefit. Another potential partner in a cartel would be Qatar, which has enormous investments in LNG and GTL infrastructure. As Russia is poised to announce their partners to develop the enormous Shtokman Field in the Barent’s Sea, they will soon be entering the LNG market with a bang. When they do, it will be in their interests to do so in conjunction with Algeria, Qatar and other European suppliers so as to best obviate the supply-side cost of liberalised markets. As unintended consequences go - that would be a doozy!
This isn’t to say that Russia will hold the EU to ransom over natural gas but in business there are two sides to every coin. Europe’s attempts to liberalise the energy market could well give rise to cartel-style cooperation between Russia, Algeria and other major gas suppliers to the EU in order to ensure that costs are kept stable and that infrastructure investment is possible for foreign sources. The sheer size of the EU market ensures that it is too important for Russia to take risks with our consumption, but equally the sheer size of the EU’s import demand ensures that supplier needs must be considered and market liberalisation must be completed for their benefit as much as the consumers. Until that occurs, do not rule out the possibility of a gas equivalent to OPEC forming, not from the GECF, but from the Russo-Algerian locomotive and focussed specifically on the European market.