UK faces high gas price as North Sea ages

Mar 16, 2004 01:00 AM

The UK could face an unprecedented rise in the price of natural gas, its biggest energy source, by 2005, due to declining North Sea oil and gas production, analysts say. An overlap in oil and gas usage and production means that the depletion of relatively cheap oil reserves in most western nations will also put upward pressure on gas prices.
UK North Sea oil production, which peaked in 1999, is set to fall by more than 50 % between now and 2010 and will be virtually exhausted by 2025 at current depletion rates.

UK gas production is forecast to drop by 40 % between now and 2010 will render the UK a net importer of gas by 2005. Crucially, this will occur just as oil and gas production falls in other countries, flinging the UK into stiff competition with the rest of Europe and the US for supplies. This could leave Europe facing a similar price hike to the US where prices have doubled since 2000.
"I think the natural gas market in Europe is going the same way as the US and that a supply crisis is developing," said Leigh Goehring, Vice President of Jennison Associates, an investment advisory firm and subsidiary of US Prudential Insurance. "The declines in onshore gas production in continental Europe have always been replaced by growing North Sea and Russia production but I can't see that continuing," Goehring added.

Natural gas supply in continental Europe has been falling by around 2 % a year in the last decade but that's been more than offset by North Sea production which grew at 6 % a year in the 1990s and now supplies 50 % of Europe's gas needs, according to analysts. However, gas production in the UK North Sea is set to decline 45 % between now and 2010, dropping to 5.7 bn cfpd from 10.5 bn cfpd in 2003, according to the latest data from energy consultancy Wood MacKenzie.
Although production in Norway will continue to grow and is outpacing UK declines currently, between now and 2010 overall North Sea gas production will be flat, Goehring estimates. Demand from Europe, including the UK, is set to continue growing although perhaps not at the strong annual 3 % rate of the last decade. Meanwhile, supplies from Russia, which have been steadily rising to now account for 25 % of Europe's gas needs, look set to plateau in the near term, Goehring said.

These trends will hit the UK particularly hard. The country became used to relatively low gas prices over the last decade due to its surplus supply.
The building of the interconnector pipeline to Belgium in 1998 linking the UK to European markets lifted domestic prices as companies sought to offload the surplus to higher-priced markets on the continent. Now, with the UK having to start regularly importing large volumes of gas, prices could surge further, analysts say. UK gas prices have already risen 65 % since 1998 to average $ 3.30 per mm cf in 2003.
"When the UK has to import, prices will rise even more as the country will be in competition with the rest of Europe for gas," says Ruairidh Stewart, an analyst at investment bank Simmons and Co. International. His bank forecasts the UK will be importing 50 % of its gas requirements by 2010.

High gas prices will hit the UK economy harder than most, some analysts say, as it has less energy diversity. Before North Sea oil and gas production began in the early 1970s, natural gas accounted for just 3 % of the UK's total final energy consumption. By 2001, 40 % of the UK's energy came from natural gas, compared with an average OECD-country figure of around 21 %.
Much of the increase in UK gas usage came from electricity generators switching from coal to gas in the 1980s and 1990s and more may be forced to do so in coming years to meet environmental regulations. The closure of all nuclear plants billed for 2023 further reduces energy diversity.

Although industrial energy consumption has fallen, domestic and transport consumption have risen in recent years in the UK, according to the Department of Trade and Industry. With 80 % of houses fuelled by gas central heating, rising gas prices will result in higher heating bills, analysts say.
Demand for gas will force Europe to increase imports of LNG from more distant regions. However, as LNG can be shipped anywhere around the world, Europe will be in competition with the US for such imports.
"Once LNG is on the sea, it'll go to the highest bidder," said John Busby, an independent consultant who's made an extensive study of the UK's future energy challenges.
Jennison's Goehring agrees. "The US and Europe will have to aggressively bid against each other for available LNG," he says. All this makes the next few years crucial for planning.

Robert Skinner, director of the Oxford Institute for Energy Studies argues that Europe's proximity to natural gas supplies from places like Russia makes it different from the US where there is an actual current resource constraint.
"The US truly does have a natural gas crisis but in Europe we're surrounded by gas," he said. "What will be critical is the investment in infrastructure."
To that end, the UK is initiating some ambitious plans. Earlier, the government unveiled a £ 150 mm plan to triple the import capacity of the pipeline connecting the UK to Belgium and plans are already underway for a £ 1.1 bn pipeline linking the UK to Norway's second largest North Sea gas field, Ormen Lange.

Two LNG import terminals are also planned, one in Wales and the other in Kent. However, these are unlikely to bring meaningful volumes to the UK before 2006-2007, leaving it vulnerable to price spikes on cold weather or technical problems in the near term, Simmons and Co.'s Stewart said.
Skinner notes that the loss of the UK's North Sea oil and gas won't happen overnight but, because of the lead time and expense involved in gas import projects, it will be critical to extend the remaining life of the North Sea for as long as possible.

Source: Dow Jones
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