The following piece was written by EERA's President Nils Røkke, an internationally-recognised expert in energy.
As we move towards winter in Europe with war still raging, households and businesses all over the continent are going to suffer from ongoing sky-high energy prices.
While many people look to the likes of Norway for a solution, it’s actually Liquified Natural Gas (LNG) production in the U.S. that is most likely to dictate future energy prices in Europe.
The ongoing war in Ukraine has unleashed the weaponization of energy, something that has never been experienced before in Europe. Much of Europe’s energy supply that underpins its stability has been founded on affordable, secure supplies from Russia, among other factors.
But the current political situation shows how relying on a globalized market model to supply the ‘European factory’ has sacrificed security of supply. The same applies to raw materials, food and other commodities, and security in general.
Drivers for record gas prices in Europe
Europe’s gas prices have surged over the past year, reaching never-before-seen or even never-before-expected levels.
Gas prices in Europe are primarily set by the Dutch Title Transfer Facility (TTF), a virtual market price facility for gas trade futures, physical and exchange trades that’s broadly equivalent to the North American Henry Hub.
TTF prices have typically been in the range of €10-30/MWh over the years. There have been occasional price spikes, usually when there were gas flow disturbances from Russia.
Last year, prices increased as the volume of gas flowing through the Nord Stream I pipeline from Russia to Europe were moderated. Due to open last year, Nord Stream II remained closed for export to Europe through Germany due to approval delays, politics and legal constraints.
As Russia prepared an invasion of Ukraine, gas flows to Europe were reduced. This caused price spikes at the TTF but also an increase in average prices by up to four times.
Europe’s electricity market design is set by the merit order, meaning that at any set demand, the price will be set by the marginal cost of the most expensive production method of electricity. In practice, this usually means combined cycle power plants fueled by natural gas.
As the price of electricity generated by gas power plants is heavily dependent on the price of the gas price itself, we have the driver between the TTF price and electricity price in Europe. The electricity price is primarily set by the gas price as the demand is usually above what can be provided by cheaper electricity generation methods like wind, solar and hydropower.
Nord Stream becomes irrelevant
Europe had already seen lower flow rates in Nord Stream I during 2021, which normally supplied about 35% of the gas import from Russia to Europe. The parties blamed each other for disruptions and technical issues. Since Russia’s invasion of Ukraine began, gas prices have increased to as much as €350/MWh with a semi-stable level of €100-150/MWh now considered the ‘new normal.’ The 350 price tag equates to electricity prices to the consumer at an unsustainable €650/MWh.
The problem was compounded by droughts in Europe during the summer of 2022, which restricted the available water used for hydropower production and for cooling at nuclear and coal-fired plants in the likes of Germany and France.
But perhaps most relevant of all, the explosions in the Baltic Sea rendering North Stream I useless and 50% of Norths Stream II pipelines useless make it even more pressing for Europe to find a permanent solution.
The North Stream II pipeline was never put into operation anyway due to techno-political disputes. The Russian offer to open the remaining pipeline in North Stream II for supplies was not well received in Berlin and Brussels. Europe did not take the bait and the policy to be independent of Russian gas forever was cemented.
Addressing Europe's energy import dependency
Following the U.S. move to increase production of gas from shale around 2005, the EU has become the biggest energy importer in the world.
The European Commission has taken steps to address this problem. The REPowerEU plan targets a diversification to other suppliers of energy and a change of energy carriers to help the EU become more self-sustainable.
Norway has increased its production of natural gas by up to 8% and is now the major exporter of piped gas to the EU, but it’s not enough.
Of course, natural gas is not a sustainable solution. Hydrogen is the bridge from fossil fuels to a future renewable-based energy system. Natural gas is more a patch on the bridge, but right now it’s a patch that is desperately needed.
Can U.S. gas ease the European energy crisis?
The EU is searching for greater diversification and there have been high-level talks with the U.S. about delivering even more LNG to the EU.
LNG can be bought on the global market, but it is more expensive than piped gas and has a limited supply. That being said, the capacity is set to increase from about 400 billion cubic meters (bcm) per year to 500 bcm/year by 2023. Prior to the Ukraine invasion, Russia provided almost half of the EU’s 350 bcm/year imports.
LNG plants are complex and cannot be erected overnight. Typically, it takes up to 10 years to build one. Once liquified, LNG can be transported by ship and transformed into gas at a regasification plant.
These are much simpler to build. Germany has been building such plants to cater for increased LNG imports at a record pace. It’s been reported that one greenfield plant took just eight months to build. Integrated Power Barges can also be installed, and there have been such barges brought to Europe.
As the world’s third largest exporter of LNG after Australia and Qatar, the U.S. is well positioned to become a long-term supplier to Europe. The U.S. has huge reserves of shale gas and there has long been a good margin between the production cost and market price in Europe, a gap that is now substantially bigger.
With a U.S. market price of €17/MWh that would secure the momentum to develop more shale gas production and adding cooling, transportation and regasification cost, deliveries to Europe could be around €30/MWh in a ‘normal’ situation.
A higher price, but a more stable one
Depending on the carbon price, this would result in an electricity price of €100-150/MWh, higher than the ‘old days’ but substantially lower than the current unsustainable prices.
At this level, electricity prices will be easier for consumers and businesses to deal with while Europe continues to develop a renewable-based energy production system, which would substantially reduce the dependency on natural gas for good.
European gas prices have come down lately because of stores being filled and member states taking action to reduce electricity use during peak hours. There have been talks about setting a max price for gas of up to €180/MWh but this has not been agreed. Gas prices are very volatile so putting a cap on price could have unintended effects, both positive and negative.
Given that importing LNG from the U.S. would result in an electricity price under that level, it does seem like a feasible interim solution for Europe. Of course, this also relies on the continual acceptance of shale gas and fracking in the United States. This is by no means assured, as increasing shale gas production is not a sustainable practice despite the security of supply situation.
The success of such a strategy for Europe depends on how fast renewables can be geared up to lessen the dependency on gas and the associated emissions from that practice. The momentum behind the Green Deal is gathering pace.