Gas ball LNG storage
New dawn: the EU is seeking different suppliers to meet its demand for gas

Lithuanians are relying on South Korean shipbuilders to live up to their reputation for beating deadlines. To the Baltic country of 3m people, the $330m vessel launched from the port of Ulsan last week represents a far more effective weapon against its former overlord Russia than any frigate. The vessel’s strategic importance is even obvious from her name: Independence.

If all goes to plan, she will be operational by December and will act as a floating terminal for Lithuania to take delivery of cargoes of liquefied natural gas at the port of Klaipeda. The timing is vital because Independence is intended as the trump card in negotiations to secure cheaper pipeline gas from Russia’s Gazprom from 2015.

The ship is Vilnius’s signal to Moscow that it has other sources for its energy. The Lithuanians insist that they will no longer tolerate paying some of Europe’s highest gas prices or live with the perpetual sense of vulnerability that comes from knowing that Russia could shut off pipelines at any moment in a political dispute.

One Lithuanian official describes it as a “matter of life and death” that the vessel should be ready at Klaipeda in time to be used as leverage in price talks with Gazprom.

While Lithuania’s case is extreme, it is a microcosm of eastern Europe’s growing enthusiasm for LNG as a way to reduce dependence on Russia. The protracted crisis in Kiev has revived memories of how Moscow cut gas exports through Ukraine as a political weapon in 2009, hitting supplies to 18 countries over an icy January. In total, Russia supplies 30 per cent of Europe’s gas.

Poland, eastern Europe’s leading economy, is also due to complete a large LNG terminal on the Baltic this year, building a €1bn facility near the beach resort of Swinoujscie. While Russia supplies about 9bn cubic metres a year of the country’s gas, the new terminal will have a capacity of 5bcm, which can be increased to 7.5bcm. Also on the Baltic, Finland and Estonia are squabbling over which of them should host a terminal.

To many governments across the eastern EU, LNG is now mentioned in the same breath as shale gas as a way to diversify supply and haggle costs down. The strategic merits of LNG terminals will become even more evident, they argue, when the US reaps the full benefits of its shale boom and exports its cheap gas (loaded on to tankers as LNG) to its Nato allies on Russia’s borders.

Vaclav Bartuska, the Czech Republic’s national energy ambassador, says that any new gas entering the market is important because the Russians tailor their negotiating position to each country’s weaknesses. “They talk about a formula [for gas prices] but there is no single formula. They always know how independent you are and factor that in,” he says.

Gazprom has always denied playing politics with its pricing. But it is coming under pressure from regulators in Europe. The European Commission launched an antitrust probe in 2012 to examine whether the company is impeding the free flow of gas, blocking rival suppliers and imposing unfair prices by indexing its gas to the price of crude oil. Gazprom rejects the accusations.

More broadly, not everyone believes that LNG will help Europe diversify. Many analysts contend that there could hardly be a worse time to diversify into LNG. Prices in Asia can be up to 50 per cent higher than those in Europe, undercutting shipments to the EU, where LNG plants are in danger of lying idle. Andrzej Szczesniak, a Polish energy analyst, dismissed Swinoujscie as a “political project”.

“It makes no economic sense,” says Mr Szczesniak. “It violates the laws of economics because gas delivered by tanker will never be able to compete with gas delivered by pipeline.”

At least initially, greater energy security carries a high cost. The 1.5bcm of gas that Poland is set to receive annually from Qatar under a 20-year contract comes at a heavy premium. Tomasz Kasowicz, an analyst with Bank Zachodni WBK, estimates Poland will pay about $600 per thousand cubic metres, 50 per cent more than the Gazprom pipeline price.

“When this project was launched, the main priority was security and diversification. It was very difficult to predict at the time but gas from Gazprom is thought to cost about $400 per thousand cubic metres,” he says.

PGNiG, Poland’s former gas monopoly, is still negotiating with Qatar. But if the current conditions remain, Mr Kasowicz estimates the company will face an annual loss of about 500m zlotys ($164m) on the LNG purchases.

The commission is not so downhearted about LNG imports. Officials in Brussels accept that Russia will never be dethroned as the energy kingpin for central Europe but reckon that the gas terminals will eventually prove to be a crucial “disruptive” force in pricing. That optimism is based partly on hopes that within the next two to four years the EU will benefit from a bonanza of new exports from Africa, Australia and, most critically, the US.

In a display of longer-term faith in this year’s LNG projects, the commission has supported both Klaipeda and Swinoujscie. In Lithuania’s case, it gave the green light to €448m of state aid. In Poland, it is contributing €80m directly to Swinoujscie and has also approved €465m of state aid to nationwide gas infrastructure that will link into the new terminal.

Anita Orban, Hungary’s energy ambassador, also dismisses the idea that LNG terminals are an act of political folly, saying that they have already contributed to Russia’s price cuts in the region. “It is a signal that we have a credible option. Having LNG terminals is already having an effect [on price],” she says.

She adds that the terminals help create a north-south gas supply corridor through central Europe, while the Russians exercise influence through Soviet-era infrastructure laid out east to west. Ultimately, the Swinoujscie terminal is intended to sit at the north of a pipeline network running down to another LNG terminal in Croatia. But since the Croatian terminal planned on the island of Krk has been long plagued by delays, central Europeans are now looking more to Italy and Greece as southern terminals on the north-south corridor.

Ms Orban stresses that the terminals are only one component of profound infrastructure changes intended to cut the dominance of east-west supply routes. Eastern EU countries have greatly improved their storage facilities and their cross-border interconnectors so they can trade more with each other. Additionally, the southern EU’s access to alternative gas supplies should be boosted by exports from Azerbaijan, which are due to be piped across into the heel of Italy via the Trans Adriatic Pipeline from 2019.

While Azeri exports will probably not have a huge impact on volumes, many Europeans are hoping that the US shale boom will live up to expectations and fundamentally lower global prices. Even if it does, the EU’s access to America’s LNG exports is one of the most critical questions in determining Europe’s energy security and industrial competitiveness. It is also far from clear that the US gas will come at better prices than Gazprom’s.

Mr Bartuska and Ms Orban are spearheading their countries’ campaigns in Washington, seeking to overturn US restrictions on gas exports. (The US cannot currently export to any country without a trade agreement). Both the Czechs and the Hungarians are arguing that US exports should be seen as strategic, supporting Nato allies that sent troops to Afghanistan and Iraq.

But they face opponents. In part, they must counter US politicians who are prioritising President Barack Obama’s strategic and commercial pivot to Asia. They are also pitted against influential US companies such as Dow Chemical and Alcoa, the aluminium group, which are campaigning against gas exports, arguing that America should not be exporting its competitive windfall from shale. America’s current advantage is stark: benchmark gas prices in the US are about $5 per million British thermal units, while LNG cargoes in Asia can fetch as much as $20 per mBTU.

Ms Orban counters that the volumes involved would not dull America’s competitive edge. “It is a sign of the transatlantic alliance,” she says. “It raises the issue of US leadership and the extent to which it wishes to help its allies.”

America does have political concerns, though. Hungary, for example, will have to address consternation in Washington over a lurch towards Moscow following the award of a multibillion-dollar nuclear reactor deal to the Russians. This was a volte-face by Viktor Orban, the prime minister, who once said Hungary should not become “the happiest barrack of Gazprom”.

Still, most analysts expect that the US will ultimately export LNG to Europe. To overcome the legal hurdles, Michael Turner, a Republican congressman, has even proposed the Expedited LNG for American Allies bill.

Europe is unlikely to be the biggest beneficiary, however. Wood Mackenzie, a consultancy, predicts that the US will export 10bcm to 15bcm of gas by 2020 with the lion’s share flowing to Asia. Analysts also argue the cost of cooling America’s gas to below -160C and then shipping it to the EU will add about $6 per mBTU, lifting the final US price.

With those added costs, Gazprom is expected to remain highly competitive. Indeed, its market share in Europe is growing, rising to 30 per cent last year from 26 per cent in 2012. Alexander Medvedev, deputy chief executive of Gazprom, argued late last year that the market would only improve. “By 2025, Europe will need 140bcm of additional imports a year,” he said. “That’s in just 10 years’ time and there’s not enough infrastructure to deliver this gas.”

Thierry Bros, senior LNG analyst at Société Générale, agrees that the terminals will not bring down prices. In the near term, he says, Qatar will not engage Russia in a price war. In the longer term, he argues that new projects, some of them highly expensive, will only slowly chip away at the current prices. “If Poland is really willing to go for cheaper gas, the only option is to go for shale,” he says.

The argument over the economic merits of importing LNG will rage for years. But for many in the eastern EU, the issue of energy dependence runs deeper than costs. Mr Bartuska says negotiations with the Russians sometimes carried echoes of his confrontations with his jailers as a student leader in the late 1980s. “You do not want to go into a room with those guys and not have other options.”

Additional reporting by Guy Chazan

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European shale: Difficult terrain deters development

Central European nations last month reacted with relief to the European Commission’s recommendations on the exploitation of shale gas, writes Christian Oliver.

Britain and eastern EU nations had lobbied hard to ensure that Brussels would not issue environmental legislation on developing unconventional reserves, arguing that binding rules on shale could hobble Europe’s industrial competitiveness.

Ultimately, on January 22 the commission issued non-binding guidelines, effectively giving free rein for the development of shale in the EU. The oil industry did not receive absolute carte blanche. The commission will keep a scorecard of how well countries adhere to the guidelines as a basis for possible future legislation. But environmental groups were still outraged by the soft line from Brussels.

Still, despite their robust defence of shale in Brussels, central European nations are having more problems developing it.

Several of the world’s biggest oil companies are quitting the region, deterred by the difficult terrain, both geological and regulatory.

Last month Italy’s Eni quit Poland, following ExxonMobil, Marathon Oil and Talisman Energy out of the country and leaving Chevron as one of the last big players remaining.

The Poles can, however, take some heart from Dublin-based San Leon Energy, which said in January that it had carried out “the most encouraging vertical shale well test in Poland to date”.

ExxonMobil also quit Hungary’s deep Mako Trough shale deposit in 2010. Toronto-listed Falcon Oil and Gas is now exploring there.

In Romania, Chevron’s work around the village of Pungesti has faced persistent protests. In Bulgaria, fracking is banned.

By contrast, the French energy giant Total last month announced that it would become the first leading oil company to invest in the UK’s nascent shale industry, spending $50m on exploration in the east Midlands.

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