Should Natural Gas Prices in Europe and Asia Be De-Linked From Oil?

The concept of linking natural gas prices to crude oil is considered to be a historical accident. Earlier in the 1960s, the natural gas market did not exist, so it had been decided by European importers to link the price of natural gas to the value of crude oil, but since both gas and oil were primarily used for industrial applications, power generation, and home heating, it was seen to be a natural competition.  Oil and Gas

 

Natural gas prices in the international market have been continuously rising relative to the prices in the U.S. because these prices are indexed to crude oil prices, which have wavered around the USD 100 mark for more than two years. The prices of natural gas in the U.S. are different compared to the rest of the world.

 

It is because of a rise in hydraulic fracturing that the cost required to extract shale gas has been reduced. Natural gas prices in the U.S. have fallen by some margin compared to those in the U.K, Asia, and Europe.

 

Oil prices are being used as the main index in many natural gas contracts to make gas prices more attractive. Natural gas prices vary according to oil prices, the price of gas rises when oil becomes expensive and vice versa.

 

For gas producing countries and companies, gas is the byproduct of oil, so the indexation of crude oil prices to natural gas prices has made sense to these companies as they could sell natural gas at a price affiliated to the oil market.

 

In Europe, there has been a sharp decline in the demand for natural gas because of various reasons like cheaper prices of coal suppliers, economic recession, focus on renewable sources for power generation, and political support for the use of coal. As crude oil prices continue to soar high, and the European natural gas market is continuously contracting major importers from Germany such as E.On & RWE and in Italy such as Eni S.P.A. are stressing on de-linking of gas prices from oil indexed supply contracts. Thus high prices of natural gas based on the oil index can destroy the gas supplying companies of Europe. Instead of this, these companies demand market price indexed natural gas prices like those in Europe’s natural Gas Hubs, Netherland’s TTF, Zeebrugge Hub of Belgium, and UK’s NBP.

 

It has been found that most of the European natural gas suppliers are adjusting their contracts with the help of hub pricing and not on the basis of oil-indexed pricing, and this has helped them to gain more market share.

 

Some of the big companies like Russia’s ‘Gazprom’ are staying with oil-index prices of natural gas as they believe that oil-indexed natural gas prices are a pre-requisite to production projects and intensive exploration. In Asia, a majority of liquefied natural gas has been sold with a price which is based on the oil-index. This causes gas buyers to pay around a 15% premium.

 

In case of oil-indexed prices of natural gas, Chevron in its project in Western Australia is in support, while BP, which has signed fifteen year deal of supplying natural gas to Japan, is not in support of it as the prices of natural gas are based on Hub prices.

 

The current two-tier approach is leading to distortions in the market and it is not fully allowing the markets to set price signals that boost the investment.

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Sharmishtha
I am Sharmishtha. I have completed my graduation in Physics and Photography from Fergusson College, Pune. I am currently working as a research associate in Europlat.Org.

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