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The Ukrainian Factor in Resolving the EU Energy Crisis, – Oleksiy Kushch

An interesting option for the EU is to create an Eastern European gas hub in Ukraine. Oleksiy Kushch, an expert at the United Ukraine Think Tank, wrote about this in an article for The Gaze. The text of the article can be found below.

The situation on the EU gas market again depends on the vagaries of the weather: if the winter is warm, the European energy system will get through the winter heating period, just like last year, without any problems. But if there are severe frosts, the available reserves may not be enough. An assessment of the global natural gas market is provided in the International Energy Agency's latest report on global gas market security.

Among the key topics of the report are the global energy crisis caused by Russia's war against Ukraine and the situation with natural gas in the EU.

The review provides the following introductory framework for its analysis:

«Russia’s invasion of Ukraine in 2022 triggered the first truly global gas crisis, with natural gas and LNG markets contending with supply disruptions and unprecedented price volatility. While the immediate effects of last year's supply shock have eased in recent months, the structural changes that emerged in 2022 will persist for years – and should be taken into account both by policy makers and market players. In this context, the architecture of global gas supply security and the underlying flexibility of the market need to be carefully reassessed through an ever-closer dialogue between responsible producers and consumers. Ensuring secure supplies of LNG, in particular, will require policy makers, in close coordination with private actors, to facilitate the development of innovative commercial offerings, novel procurement mechanisms and new co-operative frameworks».

The Battle for Gas Between the EU and Asia

The epicenter of the "battle" has shifted from contracts for so-called "pipeline gas" to the market for liquefied natural gas (LNG), which is delivered by sea and regasified in special gas terminals. The construction of which has reached an unprecedented scale in Europe in recent years. This is primarily LNG from Australia, Qatar, and Nigeria.

Today, the task of European traders is to fill gas storage facilities by 90%, and this goal has almost been achieved. In September, it is quite realistic to bring this figure to 100%.

In the past, when Europeans were actively buying "pipeline gas" from Russia, it was enough for them to build up reserves at 95% as of November, thanks to the projected pumping volumes. But now, the EU's imports of Russian pipeline gas have dropped by more than 60%.

While Russia used to supply its gas to Europe through a wide range of logistics and transportation systems, they are now being turned into scrap metal. The undermining of Nord Stream 2 and the stoppage of Nord Stream 1 means that the Russians have lost almost 110 billion cubic meters of natural gas supplies to the EU, primarily to Germany. Even earlier, the Yamal-Europe gas pipeline through Poland with a capacity of 40 billion cubic meters per year was shut down.

As of now, Russian gas is supplied to the EU mainly through the Ukrainian gas transportation system (up to 40 billion cubic meters this year) and through the newly created Turkish gas hub (Blue and Turkish streams). At the same time, Turkey is increasingly using cheap Russian gas for its own needs, transiting relatively expensive Azerbaijani natural gas to the EU via the southern branches of the Tanap pipeline. These supplies increased by 4%.

At the same time, Russia is rapidly losing its gas market in Europe, falling from almost 40% of the market to 9%. Currently, the share of LNG supplied to the European market by sea is approaching 50% in the overall market structure. This has led to a crisis in natural gas consumption in the EU, particularly in the industrial segment (energy, chemicals, etc.).

The global review indicates that:

«For 2023 as a whole, OECD Europe’s gas demand is forecast to decline by 7%. This is largely driven by lower gas burn in the power sector, down by 15% amid rapidly expanding renewables and lower electricity consumption. Gas use in industry is expected to stay close to last year’s levels, as lower gas prices enable demand recovery in the second half of the year, offsetting the losses in H1. Considering the declines in the year to date, demand in the residential and commercial sector is expected to fall by 4% in 2023. In 2024, OECD’s Europe gas demand is forecast to increase by a moderate 1.5%, as the expected decline in gas for power generation is not offset by higher gas use in other sectors. A return to average temperature conditions would increase residential and commercial demand, while gas use in industry is expected to continue its gradual recovery, albeit remaining well below its precrisis levels».

The Ukrainian Factor

There is, however, an interesting option for the EU - the creation of an Eastern European gas hub in Ukraine. Its functioning would be more economically feasible for the EU compared to existing transit routes.

This means transferring the entire Ukrainian gas transportation system to a long-term concession to a consortium of European countries (Germany, the Netherlands, France), which would independently resolve all issues related to the purchase of natural gas and its transit with Gazprom, at the eastern entry points and metering stations (on the border of Ukraine and Russia).

For this purpose, gas metering stations should be moved from the western border of Ukraine to the eastern border. A gas hub created in accordance with European standards could become a factor in the development of domestic gas production in Ukraine. To do so, it must have a number of competitive and market advantages: entry/exit prices, transit costs, availability of gas storage facilities, storage fees, and guarantees from key European countries and their gas market system operators.

At the first stage, it could be a purely geographical hub tied to Ukrainian underground gas storage facilities. At the second stage, it could be an intermediate hub used as a price benchmark to set domestic gas prices in the region. The third is a mature hub with diversified gas portfolios of shippers (participants) and a platform for trading derivatives (gas options and futures).

The hub is an investment magnet that will attract billions of dollars to Ukraine's domestic gas production system. In other words, in the next five years, Ukraine could reach a significant surplus in the country's gas balance and safely abandon the transit of Russian gas, exporting its surplus to the EU with the help of investments in the gas production sector.

In this context, the hub would become a unique market "shell" that provides investors with the opportunity to:

  • store the produced gas;

  • sell the produced gas at the hub, i.e. market price;

  • export part of the produced gas;

  • use the GTS system;

  • trade derivative financial instruments;

  • hedge gas portfolios;

  • capitalize their own business;

  • pay transparent taxes;

  • be in a familiar legal system.

For this purpose, a special international law and a special arbitration court should be introduced within the hub in Ukraine. In other words, the investor would receive the rules of the market game generally accepted in the West and protection of their rights, especially property titles. Thus, the Ukrainian GTS could significantly cushion the crisis in natural gas consumption for the European economy.

Source: "The Gaze"

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