18.10.23 Review

The Gas Gap: The threat of a difficult winter is looming over Europe while Russia’s share of the global gas market is shrinking fast


The significant surge in gas prices, sparked by the turmoil in the Middle East, demonstrates the fragility of the new global market configuration that emerged following Europe's near-total abandonment of Russian pipeline gas supplies. Despite the record high levels of gas in European storage facilities, there remains a looming risk of price escalation and a limited energy crisis this winter. Experts from the International Energy Agency predict that the market will become less volatile over the next few years. The rapid growth in global gas consumption will sharply decline in the coming years, with over half of the demand being met by liquefied natural gas (LNG) shipments. Russia, constrained by limited access to investments and technology, will be unable to expand its gas production. As a result, Russia's share of the world's gas exports, with 23% of global gas reserves, will be nearly halved from its pre-war level of 17%. Following in the footsteps of Iran, which possesses 16% of the world's gas reserves but holds just 1% of the global gas trade, Russian reserves will largely be excluded from the global gas trade balance.

Gas prices in Europe have reacted rapidly to the outbreak of war in the Middle East, far more aggressively than oil prices, which, while rising, have yet to reach the levels of the second half of September. The price of November gas futures at the TTF hub in the Netherlands surged by more than 10%. Israel, a major producer of liquefied natural gas (LNG), has temporarily halted production at the Tamara field. Moreover, the experts at the Breugel think tank note that there is a threat to the uninterrupted passage of tankers through the Strait of Hormuz, through which 25% of global LNG shipments and 20% of global oil supplies pass. Notably, a viral video on social media featured the Emir of Qatar threatening to halt LNG supplies to Europe unless Israel ceased bombing Gaza. However, it was later revealed by the Associated Press that this was a hoax. At the same time, the market was rocked by the news that Finland's Balticconnector pipeline had been damaged.

Such volatility in a situation where European gas storage facilities have been at an exceptionally high level of capacity (at 90% since August) is indicative of the tension in the gas market and the vulnerability of the supply system that has developed as a result of Europe's near-complete rejection of Russian pipeline gas. The risk of rising prices this winter persists, the experts at the International Energy Agency warn in a report on medium-term trends in the global gas market. A combination of three factors will be enough to cause a crisis: low temperatures, restrictions on LNG deliveries for various reasons, and the complete cessation of pipeline gas supplies from Russia. The latter is not out of the realm of possibility – pipeline gas exports accounted for just over 20% of Russia's total oil and gas export revenues prior to the war. While this has now dwindled significantly, rising oil prices more than compensate the Russian economy and budget for such losses.

The market will only become less volatile in the next few years. The period from 2011 to 2021 was deemed the 'golden age' of gas by the International Energy Agency experts, with global gas consumption increasing by nearly 25% during that decade, and accounting for 40% of the growth in primary energy production. From 2022 to 2026, global consumption is projected to increase on average by 1.6% per year, down from the 2.5% growth seen during 2017-2021. In the longer term, the main contributors to global consumption will be Southeast Asia and gas-rich countries in Africa and the Middle East, such as Iran, Israel, and Saudi Arabia. Europe, the United States, and the most developed countries in Southeast Asia (Australia, New Zealand, Japan, Korea, and Singapore) passed their peak demand in 2021. In the medium term, they will reduce their consumption by an average of 1% per year through the use of renewable energy sources and increased energy efficiency.

The modest increase in global consumption will be more than half met by LNG. Its supply will grow by 25 per cent between 2022 and 2026. Half of this growth will come from the United States, which will strengthen its position as the largest exporter, increasing its share of the global market from 20% to 25% during this period. As a consequence, the market's development is taking a trajectory opposite to what the Russian leadership had envisioned when they relied on pipeline gas. As the supply of LNG expands, the gas market will become increasingly liquid, enabling it to more effectively weather short-term crises. Simultaneously, regional markets will become more interdependent, with volatility originating in one part of the world affecting prices globally. Moreover, as Re:Russia recently noted, restrictions on gas and other commodity deliveries are increasingly being employed as a geopolitical tool. These challenges call for increased dialogue on the security of supply between producers and consumers, the report warns.

In their forecast, the IEA experts assume that Russian pipeline gas to Europe, which was its main market before the war, will be supplied only via Turkish Stream from 2025, as Ukraine has no plans to offer Gazprom an extension of its transit contract. If this scenario comes to pass, the volume of deliveries will dwindle to less than 16 billion cubic meters, nearly ten times less than pre-war levels. In 2023, pipeline gas deliveries to Europe are not expected to exceed 25 billion cubic meters. China, which is projected to account for nearly half of the increase in global gas consumption from 2022 to 2026, will not offset Russia's loss of the European market. The contract for the construction of the 'Power of Siberia 2' gas pipeline, which would have allowed gas deliveries to China to reach 100 billion cubic meters per year, is yet to be signed, despite Vladimir Putin's statements that 'everyone agrees with this project' and Gazprom's CEO, Alexei Miller, promising that 'deliveries can soon reach the levels we had for exports to Western Europe.' However, China has learned from Europe's unfortunate experience and is building a diversified supply system, according to experts interviewed by Bloomberg. Moreover, it pays significantly less for current deliveries than European countries. While the current price for Europe stands at $502 per 1,000 cubic meters, China pays just $297.

At the same time, the expansion of Russian LNG exports is limited by the lack of necessary infrastructure, the expansion of which necessitates substantial investments and access to technology. Prior to the war, LNG exports accounted for just over 10% of Russia's gas trade income and approximately 3% of its oil and gas export revenues. The paradox lies in the fact that Russia possesses the world's largest gas reserves, with 23% of all global gas reserves according to OPEC+, yet its share in global exports, which was around 17% prior to the war, is expected to be halved in the near future. Iran, which is also under sanctions, is ranked second in terms of global gas reserves with 16%, but it has a meager 1% share in global gas exports according to OPEC+. Thus, two countries combined hold 40% of the world's natural gas reserves but will have only about 10% of the gas export market between them. Unlike the oil market, where rising prices more than compensate for reduced supply volumes, the gas market holds the potential not only for direct losses but also for exclusion from the global gas trade balance for many years, as has been seen with the case of Iran.