US LNG and Shale as Alternative to Gazprom in Europe?

At The Riga Conference 2014, the annual high-level meeting in its 9th year of local, EU and global security policy-makers and experts, energy security issues were featured prominently during debates.  

If Russia decides to play the Gazprom card in Europe, which seem to already be happening, how can the continent withstand Russia's waning gas supply? Can US LNG and shale gas come as alternative to the Russian gas monopoly in Europe? What are Gazprom's tactics?

These and other questions were discussed by panelists on a debate on shale gas development in Europe. Panel moderator was Dr. Alan Riley, professor of Law at City University London, United Kingdom alon with Mikhail Krutikhin, partner of RusEnergy, a Russian consulting company, specializing in monitoring and analysis of tendencies in oil and gas industry of Russia, Central Asia, Azerbaijan and Ukraine, and Peter A. Ragauss, senior vice president and chief financial officer of Baker Hughes Incorporated, which is one of the world’s largest oilfield services companies.

Alan Riley: Is Putin is on his way of becoming the dark father of the European shale gas?

Mikhail Krutikhin: Well, if you mean that the transatlantic relation of the shale revolution in the United States and its impact on the gas market in Europe, which is vitally important to Russia and Mr. Putin, who’s called the godfather of Gazprom, as well, there’re some issues that needs to be addressed.

A few days ago, one of the commissioners at the European Commission (EC) asked publicly the United States to supply shale gas to Europe in order to decrease the Europeans’ dependency on the Russian gas.

I doubt whether this is possible. I doubt whether the guy (the EC commissioner) understands the arithmetic of the business.

First, there’re no facilities capable of transporting the US-produced shale or liquefied natural gas anywhere. The first that kind of facility is just being built now, as a matter of fact, and some of the companies are expecting (receiving) permission to do that (export LNG).

Secondly, the price of gas in Europe is only around 50-60% of the LNG price in the Pacific region, where Japan and China are the main consumers.

Maybe the EC commissioner was under the impression that Mr. Barack Obama can invite all the CEOs of oil and gas companies into the White House and tell them to sell the gas, which doesn’t exist yet, to Europe instead of Asia, at a half of the price there. I don’t think that is possible.

It could be possible in a Communist country, like the Soviet Union, whether Government or the Communist Party issues instructions to gas and oil producer where to sell the gas, or how to supply it.

I think some of the guys in the European Commission just do not understand what is going on. And vice versa, in Russia, there’re some experts who believe that the main idea of the Ukrainian events was to undermine Russia’s positions on the European gas market as a guest supplier and replace it with shale gas from the United States. Another absolutely impossible think to imagine, but, well, experts are experts and propaganda is propaganda. So I don’t think this is a real perspective.

The shale gas revolution in the US is making impact on the market in Europe, but it is not a direct impact though. Because the prices are going down and the US is buying less gas because it is producing a lot of shale has on its own, and the producers are not switching the US market to other markets, like Japanese, European and so on.

To expect the US shale gas in Europe may take two years at least, according to my calculations. (Pointing to Peter. A. Ragauss) I see Peter disagrees with me (on that), but I see that namely in two years the US will be able to start exporting 18 million metric tons of LNG. But most of it will go to Asia, but not to Europe. So when you speak of energy security in Europe, don’t expect yet a significant amount of shale has from the Northern America yet.

Peter A. Ragauss: Let me just clarify on what we disagree. I think we don’t disagree on the ultimate outcome- we agree on the pace of export shipments- 18 million metric tons is probably close in two years’ time. But I think it’s better to ask how much we will be able to deliver by 2018, and I think there Mikhail (M. Krutikhin) is more optimistic than I am. I mean permitting and getting these projects under way, and getting constructed and getting the first flow of liquefied natural gas out of the country.

Alan Riley: One of the issues about LNG is the issue of the scale- how much of it would be available, giving into consideration licensing, permitting systems, etc. If we put capital, how we’re going to make return on this? Then it comes the issue of timing: how long it will take. And, I suppose, the third issue is where the gas will go? Obviously, President Obama cannot direct, but if you have a situation, where more liquidity is coming into Asian market, and we have the so far falling China growth. Does that have effect of reducing Asia’s prices sufficiently to make Europe more attractive?

Peter A. Ragauss: I don’t think you necessarily have to trade one against the other as long as the economics into Europe are sufficient to justify building the facilities in the US, or Canada for that matter…Sure, the margins for LNG producers are higher in Asia, because the prices are higher and delivery costs are a dollar or two more, with the prices seven dollars more. So Asia is always the first protocol for LNG and that is why most of the contracts are signed with Asian customers. But as long as you have a viable, long-term pricing in Europe that covers your costs to deliver, plus a return on the capital, well, you’ll find plenty of supply coming out of the US, because there’s plenty of the supply in the US that is looking for home and (if there’s) a decent return in Europe, we’ll do it.

In Japan, is just more attractive market, generally speaking, but Europe’s a fine destination.

Alan Riley: Is it also this about the share of resource pace in the United States? Every time the potential gas committee issues new figures they are always upward. And you have the expiration of the relatively new shale, the technology which is being developed, is moving at such a pace that feels pretty much marginally productive or profitable two or three years ago, and now is substantially more productive and profitable…So that’s so much more gas is available now, but it creates its own impetus to the export, I guess?

Peter A. Ragauss: Well, let me describe the landscape a little bit in more detail…The world is short LNG, generally speaking. You know, from time to time, we have a little bit excess- it depends on what is happening with weather and a few other things, and industrial production. But I think it will be short of LNG, let’s say, for the next four of five years, because the demand in Asia is growing, we think, about 6 percent, at least my study shows that. But what’s totally ironic, and what still bothers my mind, (is) when I joined Baker Hughes 9 years ago, we had 1600 rigs drilling for gas and 300 rigs drilling for oil. You know what we have today? 300 rigs drilling for gas and 1600 rigs drilling for oil. We’re basically not drilling gas today, because the prices are so low. So worldwide, the demand is going up- we’re not basically drilling for gas-so what’s in the way? Well, we need to get the contracts signed, we need the government involvement, we need to get permits out…But I think this is a fantastic, I think, market over the next ten years, because we have so much gas we don’t know what to do (with).. (As I said) We’re not even drilling it, because we lose money when we drill for gas. And we got the world market that needs gas.

I think it’s gonna be a tremendous development, (which is going to be) good for the Transpacific, Transatlantic development, and it’s a great business to be in. But we just need to get the roadblocks out of the way and get the permits through…It’s a great energy source and there’s plenty of it, not only in the US, by the way, but in various places in Europe, too.

Alan Riley: If the Europeans because of the political crisis decides to go for shale gas, for example- if so many member states decide to turn their shale places into energy security zones, and they create a much-more streamlined procedural systems which can get shale gas going-that sort of reaction- what you think the Kremlin and Gazprom reaction will be to that sort of development?

Mikhail Krutikhin: Let’s talk about the most ideal cause if you eliminate all the obstacles to shale gas production in Europe, which I don’t believe will happen any time soon, well, basically, yes, I think that kind of scenario would be like a present that Putin has described when meeting foreign investors in Russia in 2009. He said this: “If you don’t like our terms of gas sales in Europe, we are going to liquefy all our gas and sell it to Northern America. After that Northern America was moving into a wrong direction, and Russia was losing that market, as well as the ideas about the market. Instead, the Russian Government and Gazprom officials started saying that in a few years, Russia will start exporting as much gas to Asia as much we’re now exporting to Europe. But that’s just impossible. Maybe they had missed their arithmetic lessons back at school, because, basically, the largest amount of gas that they can sell in Asia- just as Putin used to say- is 68 billion cubic meters a year. They (Russia) were selling in Western Europe last year 138 billion cubic meters of gas.

If the officials believe in what they are saying themselves, it would mean they are going to cut in half the supply in Europe, punishing so the Europeans, and instead increasing the gas supply to China and other Asian nations. So, please, do not listen to what the officials say- just do the arithmetic: how much gas can they sell, how much the gas is going to cost and et cetera. Now in Russia the costs of gas production and gas transportation is soaring, and I’m afraid that some consignments of gas that Russia is now selling in Europe are sold below the production and transportation costs.

Alan Riley: That sounds quite amazing. That would actually suggest they have difficulty in reacting if the Europeans started producing substantial amount of shale gas…

Mikhail Krutikhin: Well, it’s not just shale gas. Take a look at the gas prices on the spot-market in Europe…You can see that in the past summer the average prices was 250-270 USD per 1000 cubic meters of gas. Right now it is 320 USD (per 1000 cubic meters), or something like that, no more than 340 USD. There it is already at the edge of commercial viability of the Russian gas supply, because the Russian gas has to travel 5000 kilometers from Yamburg, the main gas production point in Siberia- in fact, 5700 kilometers- to  Baumgarten, the gas distribution hub, in Austria. And consider that each kilometer takes also feed-gas for the compressors, some gas is lost and you have to maintain the route…It is really a costly business to transport that gas. And then you have to find new sources of gas in addition to all those oil fields of the Soviet era. Back then they were easy to have them developed, because it was pure methane, and there was no need to purify it-take out any component of that gas, and the pressure was good. Now you have to install additional compressors to increase the pressure of the gas, and the old reservoirs are all depleted, and they have to find gas some 500 miles from the oil field and build a new infrastructure to deliver it. It costs the business…And it is not because Gazprom is too greedy and wants a higher price, but the production and transportation costs are just growing…

Alan Riley: That suggests if they had a substantial amount of shale gas ready in Europe, that would create a significant problem for Russian gas…

Mikhail Krutikhin: It’s already a problem. When Russia is planning to switch (gas supply) all the flows to East- which right now is impossible-they are developing new fields in Yakutia or Eastern Siberia, they (the mining cites) are not connected with the network that delivers gas to Europe. But Mr. Putin announced on September 1 that they (Russia) are going to connect the non-existent yet Eastern grid of the pipelines with the Western grid. And then he (Putin) is very hopeful that Russia will be able to switch (the supply) to Asia and backwards if the market situation is suitable (for the plans) in some of the regions.

Well, this is a very simplified thinking, because the cost of Russian gas on Asia market is not commercially viable. If you have the Vladivostok LNG project on the Pacific coast, for example, the costs of gas (transported) from Sakhalin (the easternmost tip of Russia) in the Vladivostok  plant is going to be somewhere between 10 or 11 US dollars per one million British thermal units. And you have to add the other multiple costs, like storage, freight, insurance regasification in Japan, for example. And so the price is going not to be competitive even in comparison with the Australian gas.

Alan Riley: So now the question is if we establish certain energy security zones, and we create robust but swift procedures for implementation of shale gas…How fast we actually could go for it? How quickly could we get to the commercial production?

Peter A. Ragauss: Before I get to the speculation on how fast (we can go), let’s just say that energy security ought to start at home. Because if it’s at home, then you think you have the resource…(Then) you control the investment, you control the permitting, you put it a good environmental status, it’s good for your own country, you create jobs, and your gas is always going to be cheaper than importing it from somebody else who has to do all the same thing, plus market it and plus transport it. So that’s where it should start. It shouldn’t start…thinking of LNG exports as your energy policy, whether it’s imports from once continent or (whether) it’s imports from another continent. It needs to start right here (points down), at home.

But once you establish that and if you have good geology- and the geology is the question mark still in Europe-we don’t know exactly the productivity…We know we have a lot resource in place, both gas and oil across Europe. It’s the question whether you can produce it, or not, economically. We started doing that in places like Poland and Romania, in fact. If you look at the rig count, which was mentioned here earlier, in all over Europe-I’ve mentioned there’re 1900 rigs in the United States today and all over Europe 55 rigs today.

Mikhail Krutikhin: My figure is 72, but you’re more pessimistic (grins)…

Peter A. Ragauss: We have a specialized rig company, we can argue about that…And the largest number of rigs in Europe right now is 12 in Romania, the next in the count is 7 in Poland and the rest all are single digits. So the time it takes to ramp up…I’ll use an example…In the Bakken field, a big oil field in North Dakota, probably it took us five or six years to get us where we are today-  and we’re now producing one million barrels a day out of the Bakken field.. It was remote, but maybe that was an advantage.. We have an infrastructure in place, we have the tool, and we can build the rigs and build tools, everything that requires to develop the field. Five or six years and you’ve got a world –class oil field. Probably you’re going to be slower in Europe, because you don’t have the same infrastructure here; you have opposition from all sides. We don’t know much about the geology, but that’s what excites us.  And going back to the original question, regarding all the obstacles, well, we drill all over the world, we’re nomadic and we can put rigs wherever we need to, whether it is in the ocean or at land, and we can get them built. It’s just a matter of time, but if you can get the first production in a year or two, then you can wrap up it over the next five of six years.