An Integrated Asian Natural Gas Market: Potentials and Welfare Implications

1. An Integrated Asian Natural Gas Market: Potentials and Welfare Implications Youngho Chang and Yanfei Li Nanyang Technological University, Singapore 34th IAEE International Conference 19-23 June, 2011 Stockholm School of Economics Stockholm, Sweden

2. The Questions • What would be the trade pattern of natural gas in the region when we have an integrated and competitive market of natural gas? • What would be the impacts of additional infrastructure including pipelines and LNG terminals in the region?

3. The Current Trade Pattern

4. Method of Optimization

5. Purpose of the Model • To what extent are we better off by adopting a competitive market of natural gas trade? • To what extent are we better off by adding new infrastructure into the region? And which new trade routes supported by a new infrastructure investment is desirable?

6. Theoretical Model

7. A Parametric Static Equilibrium Model • Objective function of the buyers: • W is the lower bound on natural gas consumption in country j • zj is the amount of natural gas consumed in country j • yiis the amount of natural gas supplied by country i • pij is the cost of pipeline transport; lij is the cost of LNG transport • xpij is the quantity of pipeline transport; xlijis the quantity of LNG transport

8. Willingness to Pay & Price Elasticity • Demand function: (α and β are parameters) • is the amount of demand of natural gas; is the price of natural gas • Invert demand function: • Price elasticity of demand: ( )

9. f(yi) Cost of Production yi • Supply function which describes marginal cost of production f(yi) • Price elasticity of supply is high at low production levels but approaches zero by moving close to the production limit ci.

10. Technical and Policy Constraints • xij represents amount of transportation • Pipeline capacity limits and the lack of LNG terminals impose an upper limit on the value of xij • In addition, for the market to clear • : delivery no more than production • : reception no less than consumption

11. Computational Model

12. Computing Coefficients: Demand Function • Using historical price and quantity data of the demand of countries in the region, and taking price elasticity of demand βj as given: Since Rearrange the equation we have

13. Computing Coefficients: Cost Function • Assume that we have two historical data points for each supplier i . • A high historical price , with a corresponding historical supply level ; a low historical price , with a corresponding historical supply level . is a constant, representing the capacity of production of the country • We therefore have two equations to solve for and i.e. and

14. Computing Coefficients: Cost Function • Solutions for the two coefficients are

15. Computational Objective Function

16. Other constraints for computation • pipeline capacity or LNG capacity • lower bound of demand • capacity limit of natural gas production

17. Estimation

18. Data Inputs Required • Demand side • Reference market price and the corresponding quantities of demand • Natural gas price elasticity (proxy: electricity price elasticity) • Supply side • Reference wellhead prices (high and low) and the corresponding quantities of supply • Capacity limit • Transport • Unit cost of the transport means • Capacity of the transport means

19. Scenarios • Current trade pattern (trade links, prices, and quantities) => competitive equilibrium in an integrated market • Projected trade pattern (new infrastructure to be added by 2020) => extended competitive equilibrium in an integrated market

20. Results • Primal solutions • The trade pattern: • Quantity of demand: • Quantity of supply: • Dual solutions • The shadow supply price • The shadow demand price *Shadow price: the benefit to the objective function by releasing the constraint condition by one unit

21. Sample Data: Supply of Natural Gas ……

22. Sample Data: Demand of Natural Gas ……

23. Capacity of Transportation Means Ω: Pipeline transportation; Ф: LNG transportation.

24. Costs of Transportation Means Ω: Pipeline transportation; Ф: LNG transportation.

25. Results and Analysis

26. The Current Trade Flows Ω: Pipeline transportation; Ф: LNG transportation.

27. Trade Flows in An Integrated and Competitive Natural Gas Market Ω: Pipeline transportation; Ф: LNG transportation.

28. Trade Flows in An Integrated and Competitive Natural Gas Market

29. Comparing with the Current Trade Pattern: The Inefficient Trade Routes

30. Observations The following are the impacts of the introduction of an integrated and competitive market of natural gas in the region • Objective value improves by 5.5%. • China and India, considering both their willingness to pay for natural gas and their transportation costs of natural gas importation, will need to reduce their total consumption, and meanwhile cut off most of their LNG imports. • Japan and Korea are to concentrate their imports from a smaller number of sources. They will cut off imports from Egypt, Qatar, and Tobago, decrease import from Oman, and increase imports from the rest of their original sources of imports.

31. Observations Continued • Optimally Singapore should import natural gas all from Indonesia via pipeline. • Taiwan will rely on Guinea, Indonesia, Malaysia, and Russia to satisfy its demand, and cease importing from other sources. • Philippines and Vietnam, which are self-sufficient in natural gas, should slightly increase their production and consumption. • The demand prices that the importing participants are paying will generally increase significantly. • The supply of natural gas from the region, which has cheaper transportation costs, increases its portion in the total supply of natural gas.

32. Trade Flows with New Infrastructure for Natural Gas in the Region Ω: Pipeline transportation; Ф: LNG transportation.

33. Trade Flows with New Infrastructure for Natural Gas in the Region

34. Comparing Integrated Markets with and without New Infrastructure: Changes of Trade Routes

35. Observations The following are the impacts of adding new infrastructure into the region • With the new pipeline and LNG terminals in place, Brunei and Indonesia will be able to import from cheaper sources, while increasing its exports at higher prices to other importers in the region. • Singapore and Thailand starts importing LNG from various external exporters. • Thailand will use the supply from Malaysia to substitute a significant part of its domestic supply.

36. Observations Continued • Production and exportation of Indonesia and Malaysia will be promoted by the new infrastructures, so will the supply prices of the two. • Japan and Brunei will see a significant drop in the prices of natural gas that they receive. • The objective value, which is the value of the benefit function, will increase by 0.3%.

37. Comparison: Quantity and Welfare

38. Conclusions • An integrated and competitive market of natural gas is efficient and naturally brings the security of supply. Our results show conceptually what such a market looks like in the region, with each participant acting on pure economic rationale. • In this market, supply should come more from within the region which has cheaper costs of transportation, and then from external suppliers with relatively cheap costs of production and transportation. • General welfare of the region would be promoted first by integrating the market in the region, and then by adding new infrastructure. For individual participants, some of them would benefit either as an importer or as an exporter.

39. Thank you for your attention! If you have any comments or suggestions, please contact me at isyhchang@ntu.edu.sg