The Future of Gas in Decarbonising European Energy Markets

1. Jonathan Stern Distinguished Research Fellow and Founder Natural Gas Research Programme OIES The Future of Gas in Decarbonising European Energy Markets OXFORD INSTITUTE FOR ENERGY STUDIES Natural Gas Research Programme CERRE Executive Seminar, March 7, 2017 Brussels

2. https://www.oxfordenergy.org/publications/future-gas-decarbonising-european-energy-markets-need-new-approach/https://www.oxfordenergy.org/publications/future-gas-decarbonising-european-energy-markets-need-new-approach/

3. The Failure of European `Gas Advocacy’: failure to convince policy makers (and public opinion) that gas should be considered a `transition’ or `destination’ fuel The industry was confident that gas was lower carbon than coal and cheaper than renewables, and therefore `the obvious low carbon solution’ BUT failed to recognise that: • Renewables were politically popular because of environmental benefits and meeting targets; subsidies not as important as fossil energy community believed • Coal was politically popular because of local employment • Gas was not popular because: • 2011-14 it was very expensive • the Putin factor and `security’ • lack of employment connection in most countries (and still) Not much time to reverse this before policy leads in different, non-gas directions

4. European* Gas Demand and Supply Sources:1970-2016 *Europe = 35 countries Increase in demand up to 2005, decline in the 2010s; ~3% increase in 2016 (preliminary data) Source: honoré/OIES from IEA, Natural gas information, various issues, Paris:OECD/IEA. Data not temperature corrected

5. European Gas: what went wrong in the 2010s FIVE DIFFERENT PROBLEM AREAS: • COMMERCIAL • SECURITY • BUSINESS MODEL • FRAGMENTATION • ENVIRONMENTAL

6. Commercial Problems for Utilities and Networks post-2008 UTILITIES (with long term supply contracts): • Lower (and declining) energy, power and gas demand • High gas prices during 2011-14, especially in relation to coal; low carbon prices • Gas in power generation: the coal and renewables paradigm • Residential, commercial and industrial demand declining due to efficiency measures • Long term contracts: stranded assets, out of the money, an endless cycle of renegotiation/arbitration? NETWORKS: • Declining demand means declining throughput • What happens to capacity bookings when ship or pay contracts expire?

7. Impact of the EU ETS (CO2 price) + national carbon price floor in the UK on the competitiveness of coal vs gas in power generation NB Assumes mid range HHV efficiencies of 55% for gas; 41% for coal Gas in Continental Europe advantaged relative to coal Gas in UK advantaged relative to coal Actual NBP Price Gas switching price with coal – EU ETS CO2 price and UK minimum Carbon price Gas switching price with coal – EU ETS CO2 price €/MWh Gas switching price with coal – no CO2 price UK CO2 Price £4.94 £18.08 £9.55 Coal Price (€/tonne) – right axis Sources: Rogers (OIES)

8. Commercial Problems for Upstream (Oil and) Gas Companies • The cost challenge: have new mega-projects become unaffordable/unfinanceable in a low price era? • Mid/downstream company unwilling/able to sign a traditional long term contract under competitive market conditions, except at hub-minus prices • What is the new IOC development model for greenfield projects? • Are high cost (eg Arctic) discoveries `challenging’ or just `stranded’ assets? The era of selling gas on long term contracts at $10/Mmbtu and above may be over, but can greenfield gas projects be developed at significantly lower cost?

9. Security Problems: reality versus perceptions REALITY: • Conventional gas production is declining – by 2030 European gas production will be ~100 Bcm (43%) less than in 2014; low gas prices may mean this happens faster than anticipated; new production likely to be uncompetitive at low gas prices • Diversification of pipeline gas has failed: • North Africa: export prospects are poor • Southern Corridor: 16 Bcm west of Turkey in the early 2020s is maximum (and could be less) • East Mediterranean: political/commercial gridlock • European shale gas: failed – politically toxic • LNG will be in surplus until the early 2020s but disappears when Asia needs it PERCEPTION: Russia is the major problem of European gas security: for many Europeans: Gas = Gazprom/Putin = Bad: this is generally presented as an `energy/gas security problem’ but it is a geopolitical metaphor for national/military security

10. The Search for a New Utility Business Model SEPARATION OF FOSSIL FROM LOW CARBON ASSETS -E.ON/Uniper and RWE as examples: • clarity for investor community especially if.. • renewables no longer need support and.. • low cost electricity storage becomes reality then… • fossil assets are `legacy’ ie managed decline, maximising remaining asset life backing up renewables REGULATORY CONTRACTS - forget about markets, go for regulated returns: • networks – low risk/low return • power generation = central planning and regulatory handouts (FiTs, capacity charges, strike prices) for all new capacity; no handout = no new build

11. Fragmentation Problems Up to 2000 (late 1980s in UK) – a cohesive industry: • IOCs/NOCs • Merchant Gas Transmission Companies (MGTCs • Local Distribution Companies (LDCs) By the 2010s post-liberalisation: • Fewer IOCs/same NOCs • Utility asset holders • Midstream energy traders: IOC/NOC, utility, independent • Network TSOs/DSOs • LDCs (with or without networks) • Storage owners and operators There is no longer a `European gas industry’ which can lobby (`speak with one voice’) and cooperate along the value chain

12. Environmental Problems • Gas (methane) is a `fossil fuel’ • Methane emissions from the gas chain are poorly (or un-) documented and challenged by very high figures from some (extreme?) environmentalist estimates; and in a political/media context this is intimately connected with… • the unconventional gas `fracking debate’ which is not a `debate’ but two sides talking about extremes • No sign of commercial carbon capture and storage (CCS) development

13. Carbon Capture and Storage (CCS): how and where? • requires unprecedented value chain cooperation - very difficult in a liberalised and fragmented gas market • which part of the value chain leads: upstream (because they have large quantities of methane), networks (but too small to lead?) • Very few countries have suitable, conveniently located, storage structures (which must be offshore) • Whether gas with CCS will be cost competitive with renewables/electricity storage post-2030 CCS financial risks look significant, corporate arrangements are complex, logistics look very difficult (especially for countries without storage structures), would advantage coal as well as gas, impact looks limited even with technology advances

14. Mismatches of Commercial Interests and Time Frames Along the Value Chain PRODUCERS AND EXPORTERS: • want to sell large quantities of methane over long time periods (if possible) underpinned by long term contracts NETWORK COMPANIES: • Want to prolong the life of their assets not necessarily transporting methane (also biogas, biomethane, hydrogen) SUPPLIERS AND TRADERS: • Supply power as well as gas and (unless they are producer affiliates) can switch from gas to power OWNERS OF POWER, REGAS AND STORAGE ASSETS: • Maximise life of assets: shorter for power than regas/ storage; may be stranded if others decarbonise

15. Mismatches Between Policy and Commercial Time Horizons POLICY-MAKERS: • Must respond to COP21 with concrete decarbonisation plans for power and heat • This means 2030-50 are the relevant time horizons BUT.. • lead times may mean policies will be introduced in the next 5-10 years COMPANIES: • Focussed on short term results/prices/contracts current perceptions of commercial viability • Find it difficult to plan for more than a few years ahead (2030 and especially 2050 are too long term) If policy-makers cannot see a decarbonised future for methane post 2030, they will favour non-gas options; the response is cynicism about COP21 commitments

16. Necessary short term gas industry actions • Develop credible methane emissions data • Recognise that shale/fracking developments in Europe are damaging the image of gas • Develop a credible security of supply message • Continue to campaign for higher carbon prices • Promote biogas and biomethane development (but both pose a risk to TSOs!) although they are likely to remain small scale Embrace or abandon CCS but recognise that without decarbonisation gas will inevitably decline in Europe unless carbon reduction targets are relaxed/discarded

17. IEA World Energy Outlook `New Policies Scenario’ for OECD Europe Gas Demand 2020-40 Source: Honoré/OIES using data from IEA, World Energy Outlook, 2010-16 Not all `gloom and doom’ for gas – demand stable to 2040

18. IEA `450 Scenario’: European Gas Demand 2020-40 Source: Honoré/OIES using data from IEA, World Energy Outlook, 2010-16 More aggressive decarbonisation means dramatic reduction post-2030 especially in the power sector; heat sector much more of a problem to decarbonise than power

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