Japan’s LNG policy and potential issues on LNG

1. Japan’s LNG policyand potential issues on LNG Conference on APEC Regional LNG Trade Facilitation JULY 15th, 2015 Ministry of Economy, Trade and Industry, Japan

2. LNG is the King – Change in Power Formation • The nuclear power ratio in domestic power generation has decreased after the Great East Japan Earthquake due to the long-term shutdown of nuclear power plants. • Electricity generation accounts for two-thirds of the LNG demand in Japan. • Currently, LNG thermal power alone accounts for nearly 50% of domestic power generation. Trend in Domestic Power Generation Ratio Source: Compiled by METI through power company hearing etc

3. Increase in LNG Demand and LNG prices • After the Great East Japan Earthquake (2011), Japan’s LNG demand has increased by 24% due to the shutdown of nuclear power plants. • （2010FY 71 MTA → 2013FY 88 MTA） • In addition, Japan’s LNG import price, linked to the crude oil import price, has soared. • As a result, Japan recorded a trade deficit for the first time in 31 years. Japan’s Energy Demand Natural Gas price trend（US$ / MMBTU） 2010FY to 2013FY Increase by 20 M tons （1015 kcal） 88 MTA 87 MTA 83 MTA 71 MTA Source: The Institute of Energy Economics, Japan

4. Peak Out of Japan’s LNG Demand • Though Japan’s LNG demand has increased drastically, it is unlikely that Japan’s LNG demand will continue to increase. In fact, demand has flattened out and there are many forces that will drive down demand. Japan’s LNG Imports （MTA） Forces that will drive down demand • (Short term) • Restart of nuclear power plants • Switch to coal power generation • Progress in energy-efficient technology • (Mid-term) • Domestic resource development • (e.g. Methane Hydrate) • (Long-term) • Population decrease

5. Paradigm Shift: Impact of the Shale Gas Revolution • The development of fracking technology and the rapid increase in shale gas production in the US has brought drastic changes to the supply-demand structure and the pricing mechanism in the global LNG market. • Three Key Impacts of the Shale Gas Revolutionare: • Quantity: Abundant supply from North America • Price: Competitively priced LNG/Introduction of gas-link pricing • Flexibility: Destination free

6. Abundant LNG supply from the US to Asia Quantity • Currently approved projects amount to 80 MTA • Scheduled to be exported to Japan and other Asian markets as early as 2016 • Equivalent to half of Asia’s current LNG demand (160 MTA) • Japan’s LNG claims from US projects totals 17 MTA • (Equivalent to 20% of Japan’s annual LNG imports). Approved Projects

7. Competitively Priced LNG and Gas-Link Pricing Price • US projects are mainly brown field projects which make them price competitive. • Gas-linked pricing formulas (Henry-Hub link) will be introduced. • Emergence of non-US LNG contracts to Asia signed using HH link pricing formulas • US LNG to Asia are expected to be 20-30% lower than current LNG prices. • Based on recent Henry Hub prices, US LNG could be priced around $11-13/MMBTU US LNG Price Formula (Sabin Pass Project example; $/ MMBTU) Gas Price Liquefaction Cost Freight/Shipping Cost Other Cost Henry Hub Price x 115% $3.00 Approx. $3.00 ”Natural gas price changes attributable to LNG exports remain in a relatively narrow range across the entire range of scenarios.” (Reference) NERA’s Report for DOE (Dec 2012) Change in Natural Gas Price Relative to Zero LNG Exports (Source : Macroeconomic Impacts of LNG Exports from the United States, NERA report ‘12)

8. “Destination Free” LNG Flexibility • Existence of destination clauses, lead to inefficiency and inflexibility of the gas market, which is a potential risk to the global gas security. • As the world’s largest LNG importer, Japan intends to abolish such clauses for FOB contracts and relax them for DES contracts. • US LNG is the key to realizing such goals as they do not have destination restriction. In order words, abundant supply of destination free LNG from the US will help accelerate the global movement to relax destination clauses. Global Trend to Relax/Abolish Destination Clauses (G7 Summit and G7 Energy Ministerial) In the Rome G7 Energy Initiative (May 5-6) and the Brussels G7 Summit Declaration (June 4-5), the G7 countries agreed on the “Promotion of flexible gas markets, including relaxation of destination clauses and producer-consumer dialogue”. (APEC Energy Ministerial) In the Beijing Declaration (Sep. 2), the APEC countries “encouraged to create favorable conditions for trade and investment to support the LNG market in the APEC region, including by relaxing destination clauses”. (Japan-India Summit Meeting) In the Tokyo Declaration (Sep. 1), Prime Minister Abe and Prime Minister Modi of India shared the intention to enhance “joint efforts to promote flexible LNG markets, including through relaxation of destination clauses.”

9. New trend in LNG contracts Destination Free HH linked pricing LNG from US • May 2014, Chubu Electric and Shell • Relaxed Destination Clauses • Nov 2012, Kansai Electric and BP • Henry-Hub linked pricing of non-US LNG(Trinidad and Tobago, Egypt) • Sep 2014, Tokyo Electric and BP • Henry Hub linked pricing • May 2014, Kansai Electric and Cheniere • June 2014, Chubu Electric and Cheniere • Start of US LNG exports to Japan to be moved up from 2017 to 2016

10. International Gas Security • To strengthen the gas security, we need to take a comprehensive, panoramic view of the whole LNG supply chain from upstream to downstream. • It would be encouraged that comprehensive efforts to pursue the procurement of stable and competitive LNG such as diversifying supply sources, promoting flexible gas market.

11. Diversifying Supply Sources Normal • Japan has tried to mitigate supply disruption and secure stable supply by diversifying supply sources. In June2014, Papua New Guinea became a new supplier. • Japan has a diversified portfolio with the largest supplier only accounting for 20% of total supply and the Middle East dependency at 30%. (Canada) LNG Canada Project Pacific Northwest LNG Project Kitimat LNG Project (U.S.A) Sabin Pass Project Freeport Project Cove Point Project Cameron Project (Southeast Asia) PNG LNG Project DonggiSenoro Project (Mozambique, Tanzania, Nigeria) Rovuma Area 1, Area 4 Project Brass LNG Project (Australia) Ichthys LNG Project Wheatstone LNG Project

12. Diversifying Supply Sources (cont’d) Normal • Taking advantage of the global “Paradigm Shift”, Japan will work to further enhance the security and stability of its supply sources. • One way is to increase the ratio of OECD countries within our supply sources. • Step 1: US Gulf LNG • Step 2: Canada, Australia • Step 3: Alaska, Mexico, US West Coast LNG Current Status of Japan Middle East Dependency：30% OECDDependency：21% Alaska Western Canada US West Coast US Gulf • By 2020 (based on agreed contracts) • Additional supply from OECD countries • US • Australia • Canada Mexico Mexico July 2014: Summit Meeting between Prime Minister Abe and President Nieto. Alaska Sep. 2014: METI and State of Alaska signed Memorandum for Mutual cooperation in Alaska LNG Project Australia • Beyond 2020 • US: West Coast, Alaska • Mexico

13. “Destination Free” LNG(Previously Shown) Normal • Existence of destination clauses, lead to inefficiency and inflexibility of the gas market, which is a potential risk to the global gas security. • As the world’s largest LNG importer, Japan intends to abolish such clauses for FOB contracts and relax them for DES contracts. • US LNG is the key to realizing such goals as they do not have destination restriction. In order words, abundant supply of destination free LNG from the US will help accelerate the global movement to relax destination clauses. Global Trend to Relax/Abolish Destination Clauses (G7 Summit and G7 Energy Ministerial) In the Rome G7 Energy Initiative (May 5-6) and the Brussels G7 Summit Declaration (June 4-5), the G7 countries agreed on the “Promotion of flexible gas markets, including relaxation of destination clauses and producer-consumer dialogue”. (APEC Energy Ministerial) In the Beijing Declaration (Sep. 2), the APEC countries “encouraged to create favorable conditions for trade and investment to support the LNG market in the APEC region, including by relaxing destination clauses”. (Japan-India Summit Meeting) In the Tokyo Declaration (Sep. 1), Prime Minister Abe and Prime Minister Modi of India shared the intention to enhance “joint efforts to promote flexible LNG markets, including through relaxation of destination clauses.”

14. LNG Producer-Consumer Conference Normal • The LNG Producer-Consumer Conference has been held every year since 2012 to promote active discussions on securing a stable, competitive and flexible global LNG market. • In 2014 conference, participants from both LNG producers and consumers shared the latest trends in the global LNG market and discussed various issues and challenges of global LNG market. • The conference will be held on September 16 at Tokyo this year. LNG Producer-Consumer Conference 2014 ・Date：November 6, 2014. ・The number of attendants：Over 1,000 participants from 50 countries and economies ・Participants：Representatives from corporate producers and consumers of LNG, financial institutions and relevant corporations, governments, and international agencies. ・Hosted by：Ministry of Economy, Trade and Industry (METI), and Asia Pacific Energy Research Centre (APERC) ・Discussions：Result of the conference, producer and consumer shared a perspective which LNG projects will stand up one after another. Many lecturers pointed out that a LNG market becomes more flexible gradually(e.g. destination free LNG). 14

15. Domestic Resource Development Normal Deep Methane Hydrate Shallow Methane Hydrate • Offshore Production Test • From March 12-18, 2013 • World’s first experiment of methane hydrate gas production in a sea area using the depressurization method • Total output: 120,000 cubic meters Ave. daily output: 20,000 cubic meters • Future plans • Improve technologies for commercialization by 2018 • Cooperation with USA • JOGMEC of Japan and NETL of the USA singed MOU about cooperation on Methane Hydrate research activity in Alaska (2014). • Actions to understand resource reserves • Shallow methane hydrates mainly exists in the Sea of Japan side • Will conduct research starting in 2013 to 2016 in order to understand the resource reserve • Conducted geological research in 2013 and discovered 225 areas where gas chimneys may exist. Currently, analyzing data • Current Situations • Conducted detailed and wide-area geological research and also gathered shallow methane hydrate samples in 2014 Example of cross-section diagram of the sea bed Core sampling conducted by Research vessel “Hakurei” Gas Chimney Offshore production test MOU signing ceremony 15

16. Next Steps • Many countries try to secure gas supply by diversification, energy savings, and operational improvements, etc. However, Emergency Response especially for LNG might be a “blue ocean” for policy makers due to some technical aspects of LNG. • It would be mutually beneficial for LNG consumers to cooperate to prepare for potential LNG supply disruption or other emergency situation. 16

17. Thank you very much! Yu Teraoka teraoka-yu@meti.go.jp