On the 11th March 2011 a massive sub-marine earth quake off the east coast of Japan sent a tsunami towards the Fukishima Daiichi reactor complex. The tsunami defences were breached and the pumps that provided cooling water circulation to the reactors and spent fuel ponds were swamped. By the 12th March the reactor cores and spent fuel began to melt releasing hydrogen gas that would eventually explode destroying 3 of 6 reactor buildings. The government went on to close down all of Japan’s 52 nuclear reactors that provided 18% of its electricity supply. The consequence of this decision was for Japan to increase its reliance on imported liquefied natural gas (LNG) and oil placing upwards pressure on the price of both. LNG cargoes that were once destined for Europe went chasing sky high prices in the Far East.
This at least is part of the story but it does not explain all of the extraordinary evolution in global gas prices shown in Figure 1, which is the main focus of this post. Just at the time when the world needed more gas to plug the gap left by Japan’s crippled nuclear industry, LNG supply declined for the first time ever in 2012 sending already high LNG prices in Japan even higher (Figure 1) whilst at the same time US gas prices hit decade lows. What on Earth is going on in the global gas market?
Figure 1 In 2012, the average price of imported LNG to Japan was 6 times greater than the cost of natural gas in the USA! Prices in Europe are mid way between the dirt cheap US and ultra expensive Japanese extremes. Following closure of large coal fired power stations, Europe may find itself in a bidding war with the Far East for scarce LNG cargoes this winter. Data from the 2013 BP statistical review of world energy.
Figure 2 shows quite clearly the impact of closing Japan’s fleet of nuclear reactors. The overall picture is compounded by the fact that Japan’s primary energy consumption had already been on the way down since 2005 and took a major hit during the financial crisis of 2008. The closure of nuclear has been met by expanding LNG, oil and to a lesser extent coal consumption (Figure 3). And part of the shortfall has been met by further decline in energy consumption.
Figure 2 Whilst Japan was a relatively advanced industrialised nation before WWII, it was not nearly as advanced then as European peers. Hence, primary energy consumption continued to rise in the period since WWII through 1974 to 2000 when energy consumption in European peers was already in decline. Japan lacks any significant fossil fuel resources and has learned to live with importing most of its primary energy needs. Historically, these have been paid for by exporting manufactured goods. Hydro and nuclear represent Japan’s indigenous supply. The impact of the 2008 financial crisis is more visible on the top line than is the impact of the 2011 earthquake, tsunami and Fukushima disaster. The closure of Japan’s nuclear power is clearly visible, met mainly by expanding gas and oil consumption. Data from the 2013 BP statistical review of world energy.
Figure 3 The same data as plotted in Figure 2 more clearly illustrating the change in individual fuel type consumption.
Figure 4 Japan’s balance of trade from tradingeconomics.
Japan has traditionally been one of the world’s major manufacturing and exporting nations like Germany and S Korea. Since the early 1990s Japan has been in a deflationary, recessionary downwards spiral. Japan has been kept going by the government borrowing and spending ever larger amounts made possible by Japan consistently running a balance of trade surplus throughout this troubled period. This is why Figure 4 above is a cause for concern. Starting with the 2008 financial crisis Japan’s trade balance spun into the red. Following a weak recovery it was hit by the earthquake. The events following March 2011 led to lost exports and the sucking in of large amounts of expensive LNG and oil. The result is Japan’s trade deficit falling into the red.
There are three key observations to be made from the chart of global LNG consumption (Figure 5).
- LNG consumption fell for the first time ever in 2012
- Asian consumption (shades of pink) expanded
- European consumption of LNG (shades of blue & white) contracted
Figure 5 Global LNG consumption. Expansion of supply came to an abrupt halt in 2012 compounded by supply and operational problems in existing LNG trains (liquefaction plant). Data from BP statistical reviews of world energy 2006 to 2013.
This raises the obvious question, why has consumption contracted? Is it because demand has fallen? No, that would be inconsistent with high LNG prices in the Far East. Or are there supply problems? A report by BG Group has this to say:
The global LNG trade in 2012 was consistent with our thesis that the market would tighten and we predict it will continue to do so over the next few years as supply growth slows and Asian demand increases. This is expected to result in Asia remaining the premium destination for spot cargoes as demand in the region pulls on volumes from Europe.
In contrast to the robust growth in demand in 2012, the supply side was restricted by a combination of delays and lower than expected production. Angola LNG (5.2 mtpa) was expecting to start-up in February 2012, but was delayed and is now expected to commence production in Q2 2013. In addition we saw continued decline in production from Algeria, Indonesia and Egypt. Unplanned outages impacted supplies in Nigeria (FM due to flooding), Tangguh LNG (a fire at train 2) and Yemen (numerous occurrences of sabotage of the gas pipeline) among others. In addition planned maintenance occurred in Trinidad, Australia and Qatar.
The excellent map (Figure 6) taken from gas LNG Europe shows LNG exporting and importing nations together with flows. What has been happening recently is that tankers exiting the Arabian Gulf from Qatar that once turned right to enter the Red Sea are now turning left and heading east, chasing premium prices, as shown in Figure 7.
Figure 6 Global LNG trade 2011. Map courtesy of gas LNG Europe.
Figure 7 The changing face of UK LNG tanker traffic. Graphic courtesy of National Grid, 2013 winter outlook and Lloyd’s list.
Gas LNG Europe reports European LNG import capacity to be 205 BCM / annum in 2012 compared with only 65 BCM actual imports (BP; Figure 5) indicating only 32% utilisation. There seems to be little prospect of respite in the competition for scarce LNG cargoes in the years ahead. European energy strategists need to learn that it is export capacity and not import capacity that counts when it comes to security of LNG supplies.
Finally, to complete this examination of diverging prices in the global gas market it is essential to take a look at what is going on in the USA (Figure 8).
Figure 8 US natural gas production, consumption and average annual price from Henry Hub.
For the last 42 years the US gas production and consumption story breaks down into three stages. From 1970 to 1986 the US followed the path of self sufficiency with consumption following production in a downward trend. 1987 to 2005 saw US production rising once again but consumption rising faster and imports from Canada became a permanent feature. Towards the end of this period, demand growth outstripping supply growth saw prices increase more than 4 fold. And then in 2006 the shale gas miracle happened. Indigenous US supply took off, imports fell and price collapsed. The low price is great for US industry and domestic consumers but a challenge for producers, most of whom are likely making a loss on their shale gas production.
- The Fukushima disaster has contributed to sky high LNG prices in the Far East, but it is not the sole cause.
- Closure of all 52 nuclear reactors in Japan has resulted in increased imports of LNG and oil at premium prices. This has contributed to Japan’s balance of trade falling into the red with adverse consequences for the debt laden country’s economic security. Japan does plan to re-open some of its reactor fleet.
- Continued economic and population growth in East Asia (S Korea, China, Taiwan, India) and resultant growth in energy demand is a major contributing factor to high LNG prices.
- For the first time ever, 2012 witnessed a drop in LNG supply caused by gas production constraints in certain countries and operational factors. This too has contributed to upwards pressure on price.
- Europe does not seem to have a plan to deal with a mounting gas security issue. It has built 205 BCM LNG import capacity without having a clear idea about where these import volumes may come from. In 2012 it imported just 65 BCM facing fierce competition from Asia. At the same time, the EU Large Combustion Plant Directive means coal fired power generation is being decommissioned, 11.6 GW in the UK alone. Meanwhile, traditional suppliers along Europe’s borders, like Libya, seem to be descending into chaos.
- The USA under the presidency of George Bush understood the prime importance of energy and security of supply to national economic well being. The USA did not sign the Kyoto Protocol and deployed the ‘drill baby drill’ mentality to exploit shale gas and oil. North America is currently sitting on an abundance of secure energy supply. Lower energy prices offer this continent a significant economic advantage to everyone else.
Thanks to Rune, Hugh and Mike for sending me useful background information on global LNG.