Recently in the USA, gas prices at the country’s main gas trading hub went below two US dollars per Million British Thermal Unit (BTU). At the same time spot liquefied natural gas cargoes were being purchased by Japan at around $20 per million BTU, a factor of 10 times more price for the same product in different parts of the world.
“Extreme price signals are now needed to push markets back into equilibrium. Market dysfunction followed policy dysfunction and this holds lessons for energy policy in the Gulf region,” Badr Jafar, President of Crescent Petroleum, said.
While prices are moving in opposite directions, the underlying cause for this extreme price divergence is the same in both the USA and Japan: a misalignment of supply and demand. In the US, revolutionary changes in supply driven by innovations in unconventional production occurred at a time when little effort was made to encourage new gas demand, with large utilities and industrial player reluctant to invest in using gas as a feedstock following price spikes as recently as 2008 to $13 per million BTU. In Japan the abrupt closure of the country’s entire nuclear fleet, which previously accounted for 30% of the country’s power supplies, following the Fukushima disaster has meant the country’s gas demand has skyrocketed. Because Japan did not signal that it might need more flexible gas supplies before it is now paying record high prices and lacks sufficient infrastructure to import all of the gas it wants.
Of course, domestic gas prices in the Gulf region are not subject to US, Japanese or European pricing, they are typically regulated and fixed by the government at low levels irrespective of supply or demand fundamentals. However, regulating the price of gas does not mean global gas price variations have no impact on the region. Kuwait, Oman and Dubai are net gas importers, Saudi Arabia has less gas production than it might ideally like, while Qatar, Oman and Abu Dhabi export LNG. Thus, for gas exporters, prices in global gas markets are an opportunity cost to be weighed against supplying domestic markets at discounted prices. For gas importers, they are rivals for supplies.
Setting domestic prices in the Gulf region below the domestic cost of gas production, as in Saudi Arabia for example, creates the wrong market signals leading to underinvestment in production and excess demand making the economy more, not less, vulnerable to global gas market dynamics because when local gas supplies fail to meet demand policy, makers must quickly choose between shortages or imports to fill the gap. The expense of competing with Asian buyers at current record prices will be far greater than accepting higher domestic gas prices, while tying domestic markets to the volatility of global gas markets will impede domestic industrial planning and development.
“I believe that the best way to ensure that the Gulf region develops its gas and industrial economies efficiently is for gas prices to reflect true market costs of supply,” Badr Jafar, said.
“Simultaneously the region needs to avoid the pitfalls that have befallen gas markets in the USA and Japan where gas demand and supply became severely mismatched. Both demand creation and supply to match it need to be incentivised in tandem to ensure responsible, stable, development. Crescent’s integrated strategy, with both development of gas production and demand creation through power generation and the Gas Cities concept, embodies how this approach can work in practise.”