Natural Gas: Energy of the XXI Century. Speech by Alexey Miller at the European Business Congress

Natural Gas: Energy of the XXI Century

Speech by OAO Gazprom Management Committee Chairman Alexey Miller at the conference within the framework of the 13th Annual General Assembly of the European Business Congress. Cannes, France, June 10–11 2010.

Ladies and gentlemen,

It is my great pleasure to address you today in this stunning location. I would like to thank the European Business Congress for the opportunity to speak before such a distinguished audience. The fact that those present in the room preferred discussion on the future of natural gas over the seductive mix of Croisette, croissants and champagne, once again proves the relevance of this topic.

Recently, there were many myths and theories about the gas market, which, as in the TV program “MythBusters”, we do need to examine.

Perhaps the most discussed topic both among the professionals and in the business-focused media has become the phenomenon of shale gas. Is it possible to talk about “shale revolution”, which will shake the foundations of the gas industry? Or is it a fashion trend, sort of a “shale fever” that one has to pull through?

First of all, it should be reminded that the production of shale gas and, in general, of the unconventional gas is no news for the gas industry. Production of gas from “tight reservoirs” has been going on for decades in large volumes, and it was only for the general public that this topic became lately an eye-opener.

In this case, the technological and economical specificity of projects on shale gas production predetermines the role of shale gas. I am referring to relatively low output at wellheads and their sharp depletion after the first years of production, large numbers of drilling operations, constant need to move to new areas of development, high investment requirements, etc. As a result, shale gas can serve as local source of energy, compensating reduction of production volumes (or its absence) of traditional gas in the regional markets.

In this regard, even the leader in shale gas extraction, the United States, due to this energy source can only compensate for the production decline at their traditional field deposits. It is obvious that in other markets shale gas will also play a role of a complementary source of gas resources within the regional gas balance. This is an important and a useful role for shale gas. Additional possibilities of balancing the gas markets have never been unwelcomed. But if you fell for foie gras, it does not mean that buttery soft tenderloin steaks grilled to your taste are made redundant.

The traditional natural gas has a very particular market niche. Time-tested production technologies, reliable methods for determining extractable reserves, operational management of fields while maintaining stable levels of production for decades – all these properties make traditional natural gas a unique energy source that can provide energy security on a global scale!

Increased attention to shale gas in recent years is due to the coincidence of three factors: first, growth of shale’s share in the gas balance of the United States (due to the effect of accumulated investments in the sector and decrease of “conventional” production); second, commissioning of high yield facilities for the extraction and liquefaction of gas in the world, in accordance to earlier adopted plans, and third, simultaneous decline of the overall demand for gas because of the global financial and economic crisis.

It is obvious that this combination of factors is temporary. In the first quarter of this year, gas production volumes in the U.S. have remained unchanged, but LNG imports were ramped up by 60%. Commissioning of facilities for gas liquefaction around the world in 2008 amounted to 11.4 million tons, in 2009 – 15.6 million tons, yet, in the current year, it is planned to put on stream no more than 1.4 million tons of LNG new production capacity. At the same time, demand for gas in the world is picking up. Therefore, the conditions under which shale gas by year-end could hit new record highs no longer exist.

Let me repeat that shale gas will play a very important and useful role of balancing gas markets at the regional level, but there are no reasons to crown it and elevate to the throne.

The next myth, which should be examined, is the assertion that competition from liquefied natural gas would force out pipeline gas from the European market.

First of all, the mode of LNG use in Europe is local; it is consumed predominantly in the coastal regions close to regasification terminals. Most of the supplies to the consumers come in the form of the traditional pipeline natural gas. The European transmission system has been purposefully designed to bring natural gas to the clients in the contracted volumes and in due time. In other words, quite often it is technically impossible to deliver regasified LNG from the terminal to consumers, let us say, in Central Europe. If some day the decision is taken to build a new gas transportation network especially for LNG to reach out to the remote corners of Europe, it would erase all the competitive advantages of this energy source. As a contrast, the pipeline gas has arrived to Europe many and many years ago, and is most likely to remain a devoted mainstay.

In recent years, there were a lot of publications and expert commentaries claiming that low prices of the spot market in Europe make Gazprom gas uncompetitive. And furthermore, that the system of long-term contracts with price formula linked to stock exchange quotations of oil products has become obsolete. Let us weigh this myth.

Gazprom is effectively present in the spot markets and we do understand why many consumers turn to it. The main secret is simple: low prices. However, in the long run, no one can guarantee lower prices. These prices simply fluctuate in a more dynamic fashion due to the limited liquidity and depth of the European spot markets. It is interesting to note that when a couple of years ago, spot prices were higher than prices for pipeline gas, I did not receive a single phone call from our customers with an offer to change upward the long-term pricing formula as being contrary to the market situation. Today, in several cases we have agreed to take into account the spot market component. But please note: when in a couple of years the market will bounce back, do not ask us to revert back to previous price practices.

Spot market serves as a compensating mechanism, opening opportunities for swift purchases of additional gas volumes or for gas surplus sales but it can hardly substitute long-term contracts. Pegging pipeline prices to spot market prices will lead to a situation when the tail will wag the dog. In the past, spot market prices often exceeded prices for pipeline gas, especially during winter peak demands. Fluctuations go both ways. We expect the gap between pipeline gas prices and spot prices to close not later than 2012.

The current situation in the market is not the reason to reject a reliable and efficient system that provides and will continue to provide guaranteed safety and reliability for suppliers and consumers alike.

The system of trading in natural gas in continental Europe was invented not by us but by European entrepreneurs several decades ago, and it is based on several basic principles. This is the system of long-term contracts, pegged to oil prices and the system of guarantees: ‘take-or-pay’ and its analogue ‘ship-or-pay’. These principles protect the interests of those who invested in expensive long-term projects in production, transportation and distribution of gas, but, let me emphasize, this arrangements equally protect gas consumers. The benefits of these principles are enjoyed also by European businesses – wholesalers, transit operators and European end-consumers. All of them need stability and reliability.

This is of paramount importance since Europe will have to ramp up gas imports in the future. At the moment, the financial and economic crunch negatively affects gas consumption. At the end of 2009 and in the first four months of 2010, a dynamic uplift in gas demand in the EU countries was registered, but the month of May will spoil the positive trend. As we see, financial turmoil in the euro zone started to affect the energy markets as well. Presently, we are summarizing data for May and are analyzing the first reports of early June which we plan to make public at the St. Petersburg Economic Forum. The preliminary assessments point to a market deterioration compared to the encouraging opening of this year, which is due to a turbulent state of affairs in some countries of the euro zone.

Nevertheless, we are confident that in the long-term perspective gas demand in Europe will be on the rise, while its domestic production will follow a rapid downturn tendency. Independent think-tanks’ forecasts show that Europe will be forced to import gas to the amount of up to 415 bcm per year by 2020, which will go further up to 500 bcm by 2030.

Now, here is another popular thesis: “The future is for renewable energy”. Could be! However, when will this future arrive? Back in the sixties, after the first flight into outer space, there was an expectation that literally tomorrow flying to the Moon will be as routine as a trip taken by tram. But 50 years have passed, and we continue to explore the space, and none of us has been frequenting the Moon, and probably will not, while the trams continue to run. Maybe it is not bad that European authorities are ready to invest huge sums of money, at the expense of taxpayers, in the widespread use of renewable energy. However, we must not forget that it is natural gas which has all the necessary qualities to play a pivotal role in the energy structure of the current century. Moreover, it is gas that will be at the forefront of the struggle to provide affordable, reliable and competitive energy for the world's growing population.

If the previous century was named the century of oil, this century will see it replaced by gas!

This energy source is the most environmentally friendly brand of fossil fuels, and the fuel itself and technology for its application are very accessible. Let me give two examples. As a result of increasing the share of natural gas by 1% in the energy mix of the European Union, CO2 emissions would be reduced by more than 3%. Moreover, replacing every second coal-fired power unit with gas turbine unit, Europe in the short term could reach almost half of its goals for 2020 in reducing carbon dioxide emissions.

At some point, renewable energy will become one of the crucial components in the overall energy structure. But in the foreseeable future, this element should be balanced with sufficient offer of traditional facilities and proven technologies. The universality of gas power plants makes natural gas the best choice.

Gazprom welcomes the development of new energy technologies. But calls for a sober approach so as not to be carried away by myths and misconceptions. I guess we have not forgotten how cold the last winter was. Did anyone attempt to figure out: how low the temperature in the homes of European citizens would have dropped if they relied only on wind and sun? You know how the British media adore our company, Gazprom. But during this winter, they were left with no choice but to admit that Russian-made gas saved England from freezing. During peak demands, when winter energy consumption hits record highs, there are no viable alternatives to natural gas.

We are aware that some European governments are considering the introduction of mandatory fixed quotas for renewable energy. Let me leave out the question of what is behind the idea of passing such a “gift” to consumers and note another aspect of this issue. We in Russia are well familiar with such a mindset: it is akin to the Soviet-style planned economy. And the result is also very well known: under mandatory distribution, natural incentives to improve competitiveness evaporate. This is a disservice not only to consumers but also to the new alternative energy.

We have already highlighted the use of natural gas in power industry to help Europe achieve the noble goal of reducing harmful emissions into the atmosphere. Another possibility is a more intensive use of gas in transportation. Europe has an extensive gas supply system and requires relatively little investment to build a wide network of filling stations for vehicles running on gas. This will significantly reduce harmful emissions from millions of exhaust pipes.

We in Gazprom believe that gas has excellent chances to compete with petroleum products in their main market – in the area of transportation.

The world turns to more efficient and environmentally friendly fuels, and these developments solidify our confidence that natural gas will play an increasingly important role, being a “greener” fuel compared to oil and coal.

Ladies and gentlemen,

I nurture a hope that our successors will meet again at the end of the century in this remarkable venue, and will note with great satisfaction that natural gas should be credited with making the Earth an ecologically safer place than it used to be.

Thank you for your attention. Merci!

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