The Updated Challenges to Azerbaijan’s Long Term Natural Gas Exports
Despite championing renewables and its 'war' against climate change, Europe is now more purposeful in its quest for non-Russian gas supplies. It is known that Azerbaijan plans to export 16 bcm of natural gas to Europe as of 2019-20 from its Shah Deniz II field via the TANAP and TAP projects. Other large fields under discovery include Absheron (by Total/SOCAR PSA) and Shafag-Asiman (by BP/SOCAR PSA), which have not been marketed yet. For this to happen, a number of factors from both the supply and demand side must be met.
Considering current market realities, local production and field developments along with technological opportunities that will allow Azerbaijan to export its gas only to Europe (excluding minor exports to Russia), the status quo and trends within European energy markets directly relate to the energy plans of the country. Happenings in the global natural gas market present more challenges than advantages for Azerbaijan. The content of the challenges have now partly shifted from being demand oriented to supply oriented.
According to present market trends, it could be forecasted that European natural gas demand will not drop, if it does not substantially grow within the next five years. Additionally, rapidly diminishing production by major local suppliers such as the Netherlands and the UK; an absence of shale gas developments; falling gas prices due to plummeting oil prices as well as global LNG oversupply, are the major factors that will increase Europe’s natural gas imports. The IEA has set a potential rise of 30% over the next five years. This may actually be favourable for Azerbaijan’s exports. However, whether it is indeed advantageous for the country (or not) is still in question.
The most profound and somewhat unexpected alteration is certainly the plummeting of oil prices explicitly affecting, albeit not with the same magnitude, Europe’s still dominant oil-indexed natural gas prices for long-term contracts. The price decline in contractual gas in Europe is estimated to be 20-30% for the last 1.5 years. Moreover, OECD Asia’s LNG spot prices that are driven by oil prices and market maturity have been halved within one year which has significantly diminished the price differential between Europe and Asia that has been shaping arbitrage opportunities. This in turn has made the European market more attractive for LNG suppliers relative to past years. Adding the increased LNG oversupply in the Asian market that will occur as of 2017, particularly due to Australian mega projects, it can be presumed that current effects on European trade will likely be doubled within the next 2-3 years. Furthermore, European countries are one of the main targets for US LNG exports from the Sabine Pass, projected to start in 2017. Last but not the least, given the escalating tensions in the Middle East, new policies from the EU Energy Union prioritise LNG imports not only due to regasification overcapacity and recent price stimulations, but also for political security reasons. Hence, the above-mentioned factors suggest that Europe is willing to fill the incremental gas demand and imports primarily with LNG purchases leaving relatively lower, albeit not very little, interest in Caspian gas that can almost only be transported via pipelines.
Aside from this, Iran seems keen to export its gas despite technological, financial and political barriers. Iran, even with rising domestic demand and delaying developments, looks more promising in terms of contributing to or filling the remaining 15-20 bcm capacity of TAP, or via a completely new line (e.g. Nabucco).
Iraq’s Kurdistan region that already exports some 4 bcm to Turkey can also be added to the list of the places challenging Caspian gas in terms of having new contracts. That said, Iraq has now become less attractive to Europe due to geopolitical tensions in the region.
Lower demand for Russian gas and the “Big Bear’s” gradual orientation on the Asian markets should not be treated as significant opportunities for Caspian gas because Russia’s gas production capacity exceeds its outputs by more than 100 bcm, which means they can immediately meet any European need once it occurs.
Another disadvantage is growing production costs in Azerbaijan particularly due to inflation and devaluation of the local currency that, when combined with undesirable oil prices, suggests a less promising outlook for further developments.
What is the good news, then? Prospects apparently seem more positive than negative. Most obvious is the general backdrop of European energy policy that aims to reduce Russian dependence and is in favour, but not the guarantor, of Azeri Caspian gas. The postponed Turk Stream deal as a result of deteriorated political relations between Turkey and Russia is also a positive sign for Azerbaijan. Regarding the Middle East and Eastern Mediterranean, up until last year, some countries such as Cyprus, Israel, Iraq, Qatar and even Egypt, were in some ways treated as competitors for Caspian gas. However, a stall in offshore Mediterranean developments; problems with Iraq's Basra field; Qatar’s LNG export maturity and its suspended plans for a proposed pipeline and the region’s accelerating domestic demand; and Egypt becoming a gas importer favours some potential space for Azerbaijan to market its gas mainly from Absheron and Shafag-Asiman fields once drilling commenced.
A pros-and-cons analyses clearly suggests that because reducing Russian dependence is still at the core of Europe’s energy strategy and overshadows other factors constraining further Caspian developments, there is a point to develop major offshore gas fields of Azerbaijan.
Elchin Hasan is an independent researcher of gas markets. He graduated from The University of Liverpool in International Oil & Gas Management. Email: elcinhasan@gmail.com