GCC running out of cheap energy

Jul 14, 2010 02:00 AM

by Andrés Cala

Most GCC countries just about ran out of options to continue fuelling their surging economies with cheap gas.
The most obvious choices are Qatar and Iran, but price and politics have all but derailed any chance of negotiating any significant supplies in the short term. That inevitably points to higher energy costs and careful planning ahead.

It's all but official. Some of the world's biggest oil producers grouped in the Gulf Cooperation Council (GCC) face higher future energy costs now that cheap natural gas is getting scarce and more expensive alternatives will have to fuel the region's voracious economic growth.
It's not that gas is hard to come by. Indeed, the region accounts for a huge share of the world's production and reserves. A seven-fold regional production increase over 25 years though hasn't kept up with even higher growth in demand to meet long-term gas export contracts, to enhance oil recovery, to boost electricity generation, and to build huge petrochemical industrial capacity.

What is now almost certain is that a combination of economic and geopolitical decisions have stacked up to ultimately deny Saudi Arabia, Kuwait, Oman, Bahrain and the United Arab Emirates access to the huge neighbouring gas supplies of Iran and Qatar, the cheapest and most secure options.
This scenario has long been brewing. GCC countries have unsuccessfully tried to negotiate for almost two decades with Iran and Qatar, which together account for about 30 % of the world's reserves. But differences over price, as well as regional rivalries and border disputes, have so far derailed most efforts.

In the meantime, regional electricity demand is expected to continue to increase more than 6 % annually, and gas is not flowing fast enough to simultaneously feed the region's subsidized petrochemical, power and desalination plants, with countries like Kuwait forced to prioritize power over industrial output. The outcome is that GCC countries are hard pressed to find new energy supply quickly because Iran and Qatar will have no spare gas to export in the short term.
Qatar earlier this year allocated supplies from one of its last two uncommitted gas projects to local demand. It was equivalent to about 17 % of its annual production and more than Kuwait or Bahrain's gas production in 2009. The remaining project will not come online before 2015, while the moratorium on new exploration is expected to remain in place at least until then.

Qatar, which processes three quarters of its gas to export as liquefied natural gas under long-term contracts, is only connected via pipeline to the UAE and Oman via the Dolphin Project in a politically-forced deal. It was completed in 2007 and Qatar is in effect subsidizing the industrial growth of its neighbours by accepting about a quarter of the market value prices for the gas.
A similar venture that would have connected Qatar via pipeline to Bahrain and Kuwait was thwarted in 2006 when Saudi Arabia denied permission to use its territorial waters. Since then, Qatar has grown frustrated at its neighbours' unwillingness to pay for its gas.

As for Iran, in June it signed a huge, 25-year gas export contract with Pakistan to export the equivalent to about 60 % of Kuwait's or Bahrain's production, and its own local demand and sanctions make any significant additional export deal unlikely for years to come.
The Islamic Republic, which exports less gas to Turkey than it imports from Central Asian countries, has never really stopped negotiating with all GCC countries, expect for Saudi Arabia, but geopolitical and price differences once again have derailed all negotiations. Even now, the UAE and Kuwait are reportedly close to signing a deal with Tehran, but similar announcements have been made in the past.

Indeed, GCC have been drafting contingency plans to address future energy shortages. The UAE and Saudi Arabia want to build a nuclear fleet, Oman is turning to coal, Bahrain and Kuwait both want a share of nuclear power from its neighbours and will also resort to Liquid Natural Gas (LNG) imports, and all are investing in renewable energy to some extent.
Regardless, the alternatives to Qatari and Iranian gas are more expensive and will take much longer to develop. For at least a decade the region will have to plan for higher energy costs, whether it's because more petroleum is burnt instead of exported, because oil production falls as gas for Enhanced Oil Recovery (EOR) decreases, or because other energy supplies are significantly more expensive than indigenous gas.

The question is how governments will react. Further price subsidizing threatens to be an untenable drain on already overly generous public spending, while eliminating all incentives for more indigenous gas production. More importantly, it will also certainly increase gas demand, as it has until now, exacerbating the energy crisis further.
But the political risks of passing the costs down are huge and local industries would lose their main competitive advantage internationally. At the end though, it's a question of time before energy costs become a major political and economic issue that will require careful balancing.

What will GCC governments do about the growing deficit it will have to pay to maintain their cheap energy economic growth? Will it not be cheaper to import as much gas from Qatar and Iran, even at a higher price, than all other available options?
GCC gas-hungry countries still have to meet future energy demand and will have to resort to even more expensive alternatives, such as renewable energy or importing LNG at much higher prices than Iran and Qatar were willing to negotiate.

Even in the case of the UAE, which still has significant untapped sour gas reserves, the costs of developing new projects will likely be as expensive as importing it from its neighbours. In fact, earlier this year ConocoPhillips pulled out of a $ 12 bn sour gas contract over concern the UAE's subsidized consumer and industrial prices would undermine profitability.
That is, the additional costs are unavoidable, at least in the short term.

The least exposed country is Saudi Arabia, thanks to its huge spare oil production capacity that gives it some wiggle room.
But even Riyadh has to explain why it will resort to burning its lucrative oil production to generate subsidized energy at a huge loss.

Andrés Cala is a Madrid-based freelance journalist.

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