Pipeline gas has been sold at oil-linked prices under long-term (20-25 years). Take or pay contracts, meaning thereby that even if the buyer does not lift the gas, he pays for the gas; not only the capacity charge, but also the commodity (gas) charge. Germany initiated this kind of contracts with Gazprom of Russia (Soviet Union) since the 1960s.
The gas-to-oil price ratio in Europe has tended to vary between 50% and 75%; 50% at high oil prices and 75% at low oil prices. For example, border gas prices in Germany are at 70% of the oil price. A gas glut appears to be emerging in the world as a whole. Shale gas supplies have come on line in the US, depressing the gas prices to under 4 USD per MMBtu, being the lowest in the world. Shale gas costs more than the normal gas due to more complicated field conditions and the intricate new technology involved. It is the supply and demand imbalance that has caused such low prices and not any lower Shale gas cost of production. Shale gas will also emerge in a few years in other parts of the world. At the moment, most LNG facilities installed in the US for the prospective imports remain grossly under-utilised, as earlier forecasts of import demand have not materialised. The contracted LNG capacity should be available for diversion to other regional markets, offering arbitrage opportunities to players in other regional markets including Pakistan, a subject that we have discussed elsewhere. These actual and potential diversions have put downward pressure on the gas price in Europe.
In Europe, gas hub markets have emerged as a counter to long-term contracts. Significant trading has started to occur in these markets. There are by now 6-7 major gas hubs operating in Europe; at some physical trade and supply has occurred, while at the others it is limited to virtual trade for spot price determination. Gas prices at these hubs have been 25% lower than the long term contracts prices. Consequently, Gazprom was recently pressurised by the European buyers to reduce its prices by 10%. Gazprom had to oblige despite its near monopoly behaviour.
High oil prices have made the gas-to-oil price linkage to be even more untenable, as the gas-to-gas competition occurs in the wake of supply diversity and glut. It would therefore be a wrong moment to enter into long term commitments on Pipeline or LNG gas prices. It is in this context that the insistence of Qatar in having a long-term contract of 20 years, while our commercially sharp Minister of Petroleum has offered a 10 years contract. And rightly so, the MPNR has gone slow on committing to price terms. As the regional gas market is underdeveloped, it may not be an appropriate reference to arrive at a long-term formula. European gas hub prices appear to be a more appropriate benchmark for Pakistan. In June 2011, LNG spot prices in Europe were 9.60 USD, as opposed to the HSFO prices of 16.68 USD per MMBtu and crude oil prices of 22.58 USD per MMBtu (USD per bbl). The corresponding marker prices in Japan in the same time period were 13.9 USD and DES India were at 13.17 USD.
A price of 9 USD for LNG appears to be very reasonable in Europe, where Gazprom prices were at 11.0 USD per MMBtu. Subtracting the margins of liquefaction and transportation of 3-4 USD, a netback value of 5-6 USD FOB for normal pipe gas is arrived at. This compares with 4.00 USD prices at Henry Hub in the US. These are the kind of prices at which IP and TAPI contracts should be made. Reportedly, Turkmenistan has offered a price for TAPI at 65% of the oil price, which appears to be reasonable. It is this price that Iran has to be persuaded to settle at. At this price, India may also rejoin.
There is a strong case for developing at least two gas hubs in South Asia; one in India and the other in Pakistan, in order to benefit from competitive gas prices as has occurred in Europe. Gwadar in Pakistan and Dahej in India are two such locations. It was a folly on the part of India to have withdrawn from the IPI gas pipeline under pressure and also due to quite genuine reservations on extractive prices demanded by Iran. As and when the political conditions permit, India would be well advised to join the project and even expand its scope. Similarly TAPI should also be encouraged, not as an alternative, but as an additional source. Eventually, local production of gas in the area may also pick up. There are already reports of LNG imports or arbitrage from India. Iran and Qatar together have one of the largest gas resources in the world. South Asia is a natural market for these resources. If this region puts its act together and cooperates for mutual benefit, energy shortages can practically be eliminated.
(To be continued)