Hydrocarbons falling prices: A danger for European energy security?

The European Union counted in 2014 for 12.7% of the worldwide energy consumption keeping for fossil energies (coal, oil and natural gas) a 73% part.

The last coordination strategy of European economic policies for the next 10 years, “Europe 2020”, proposed in 2010 a target of increasing renewable energies up to 20% of the energy mix (12% in 2013), and an increasing of 20% of pre-existing and coming infrastructures energy efficiency.

It is clear that for today and tomorrow, even if ambitious environmental aims planned by Brussels will be achieve in 2020, fossil energies will continue to play a leading role in the European economy (forecasts of the International Energy Agency for 2050 give a gap between 50% and 35% of fossil energies in the OECD depending of the scenarios).

A sustainable and secured supplying in hydrocarbons will so stay a strategic matter of fact for the European Union in a deeply changing economic environment (hydrocarbon falling prices from 100$/barrel in June 2014 to 30$/barrel today).

A balance of power in disequilibrium

The collapse of oil prices linked to a slowing demand, a worldwide growth less and less carried by China, an aggressive Saudi policy in order to keep its market shares and the emergence of new affordable supplying sources such as Iran redefined the balance between consumers wanting to reduce their energy bills to benefit of their domestic growth and producers wanting to preserve their economies eroded by Dutch Disease effects.

In this situation, the European Union as a big hydrocarbon importer, due to an aging production reduced to the North Sea and to the gas field of Groeningen (Netherlands), position itself as the great winner of oil falling prices.

Inertia on contract price variations (most of time renegotiated in the year) whether netback contracts or futures contracts stresses domestic economy of producer countries strongly since the autumn 2015 (futures contracts usually benefit most of the time of equity or « force majeure » clauses allowing to interrupt and renegotiate the contract each quarter). The GDP of producers was impacted (e.g. Russia: +0.6% in 2014, -3.6% in 2015) leading to drastic austerity measures: Abu Dhabi announced last February to use the kingdom’s sovereign fund, Adia (Abu Dhabi Investment Authority) in order to palliate the loss of incomes from oil falling prices. The Saudi Monarchy expressed its desire of a reduction of water, electricity and fuel subsides for citizens for the same purpose (the decision of the 28 of December 2015 minister council lead by King Salmane plans the increase of fuel prices up to 50% from 0.6 riyals/liter to 0.9 riyals/liter).

European consumers expect a growth rebound carried by an affordable energy, greeting themselves of what could be one of the most serious threat weighing on the energy security of the European Union.

The mirage of low prices

In the continuity of economic impacts linked to the fall of oil prices on producers, private actors from hydrocarbon industries suffer from it as well. This led to savings plan with layoffs (14 000 job cuts in Weatherford + 6000 planned, 20 000 job cuts in Schlumberger), restructuring, mergers and acquisitions (Shell – British Gas announced in 2015), sale of assets, and a decrease of investments especially in exploration and production.

Such conditions have very bad effects especially on non-OPEC producers (Russia, Norway…) which see their private and public investments collapsing. The main risk for them is to not be able to renew their production capabilities for the future. The two biggest Russian oil companies Gazprom and Rosneft saw their profits fell by 37 and 36% between 2014 and 2015 (for a net loss of 54 and 51 million euros) whereas the Norwegian Statoil lost at the same time 20% of its profit (-121 million euros) (based on 2014 results and 2015 forecast results [1]). The time between an oil or gas field discovery and its exploitation can reach 20 years for the most complex of them (e.g. Kachagan field in Kazakhstan). Year after year, they are more complex (simplest are already in production) letting the risk to see the production of some countries to decline dues to a lack of investments.

However, the European Union imported respectively from Russia and Norway 39% and 29.5% of its natural gas and 33.5% and 11.7% of its crude oil in 2013 (last data available from the 2015 European commission report). Remains the question to know if current low hydrocarbon prices are not an economic illusion which hide the threat of future tensions on European energy supply.

This reflexion must be integrated in a wider geopolitical scheme pointing out more and more persistent threats on brittle routes of energy toward Europe.

New areas of danger

Notwithstanding the fact that the threat of a fall of investments in Russia doubles with political tensions linked to the Ukrainian crisis, other friction points are threating the hydrocarbon route from third countries. Thus, supplies coming from the Caspian basin (especially Azerbaijan: 4.8% of crude oil importations in 2013) passing through the BTC pipeline (Baku-Tbilisi-Ceyhan) are threaten at the same time by Georgian political conflicts with Russia but also the renewed tensions in southern Turkey between the regular army and Kurdish fighters. Both of these threats already generated the closing of the BTC in the past. Likewise, the implantation in Libya (5.6% and 1.8% of crude oil and natural gas importations in 2013) of ISIS could eventually to represent a threat for the oil and gas European supply.

Without extrapolate on current tensions between Iran and Saudi Arabia, it is clear that a diversification strategy of energy sources oriented toward renewable energies according to the “Europe 2020” strategy must be coupled to a common European vision related to hydrocarbon importations. It has to take in account long term impacts of hydrocarbon falling prices as a potential threat on its energy security.

Alternatives?

The oil falling price not allows new potential producers to emerge competitively in the market (e.g. Brazil, Eastern African countries). In consequence, the list of new possible partnerships remains low: Iran and United-States. The first one put out of the international community by the United-States and Europe because of its nuclear policy and its authoritarian regime. The second one first hydrocarbon producer in 2015, is just allowing exportations of unconventional gas still forbidden to produce with hydraulic fracking in a majority of European countries.

Socio-economic challenges linked to a growth recovery in Europe being a very political question, the problem of the European Union resilience toward its energy security must be a priority in view of a constant oil falling price. The Word Bank has decreased again its forecasts for 2016 from 31$/barrel against 51$/barrel in October. The need for Europe to propose a long term plan for a sustainable energy supply must not be think out of a diversification of its energy and supplying sources in a deeply changing market.

[1] http://www.zonebourse.com/GAZPROM-PAO-6491735/
http://www.zonebourse.com/ROSNEFT-NK-OAO-4006200/
http://www.zonebourse.com/STATOIL-ASA-1413290/