Russian move raises supply crunch fears

Wednesday, June 17, 2009

Alexei Miller, Gazprom's chief executive, warned in a speech in Italy last week of a looming "supply crunch" in the oil market after 2012, caused by under-investment today, which could send oil and gas prices soaring.

A few days later, he drove that warning home in the most vivid way possible, with Gazprom's investment cuts and production delays raising the spectre of a gas supply crunch in Europe.

The decision to defer the flow of gas from Gazprom's first development of the huge reserves in the Yamal peninsula, in northern Russia, makes perfect sense in the short term.

All the talk in the industry is of a global "gas glut", fostered by a surge in supplies of liquefied natural gas, particularly from the mega-projects in Qatar now coming on stream.

"Barely a year ago everyone was saying Gazprom would not be able to keep up with demand," says Jonathan Stern of the Oxford Institute for Energy Studies. "The speed of the turnround has been extraordinary."

The global recession has hammered Europe's gas consumption, particularly for industrial users. The car industry, for example, uses gas-fired heaters to dry paint, and many assembly lines have fallen silent.

Cedigaz, the gas industry association, has estimated that industrial demand in developed economies, including the European Union, the US and Japan, will be 17 per cent lower this year than last year.

Residential consumption is more stable, but the EU's overall demand could fall 5 per cent this year, even after an unusually cold January.

Gazprom, which is the biggest gas importer into the EU, has been forced to cope with that downturn at the same time as Russian demand has been plunging.

Prof Stern estimates that EU demand will be 20bn cubic metres lower than last year, Russian demand 40bn cu m lower and demand from Ukraine and other former Soviet states also 20bn cu m lower.

Gazprom has responded by cutting its own production and forcing independent Russian gas producers to cut theirs. It has also told Turkmenistan, one of its main central Asian suppliers, to cut its export price. An explosion in April cut the gas pipeline from Turkmenistan to Russia, and it has not yet reopened. The causes are disputed.

The rate at which gas demand picks up will depend on the pace of economic recovery.

Tony Hayward, chief executive of BP, said last week that although demand had steadied after dramatic falls earlier in the year, there were as yet no signs that it was rising again.

So Gazprom's forecast that even in 2012 its production is likely to remain lower than last year is a plausible assumption.

The alarming prospect for Russia is that western European demand will never recover. If the EU could meet its objective of raising energy efficiency by 20 per cent by 2020, then its gas consumption could fall through the decade. Cambridge Energy Research Associates, a consultancy, argued recently that even going halfway to the EU target could cut gas demand back to early 1990s levels by 2030.

However, other experts are sceptical those savings can be achieved, or that other fuels can substitute for gas in the next decade.

Colette Lewiner of Capgemini, the consultancy, argues that European gas demand is set to rise until at least 2020.

"I don't think renewables will be able to do enough," she says. "If you take all the other energy sources, you are still left with a rising need for gas."

European production, meanwhile, is in decline. The International Energy Agency estimates western Europe's gas production will fall by 30 per cent over the next two decades.

The search is on for new sources of gas to bring to Europe. The EU has high hopes for Azerbaijan and Turkmenistan, and recently there has been growing optimism about gas from northern Iraq. But the reality is that the EU cannot do without Russia, and sooner or later that gas from Yamal will be needed.

This story was featured on The Financial Times Website.

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