Abstract
Recent natural gas price dynamics in Europe show convergence to the extent that locational price differentials approached transport tariffs, and hence, arbitrage was largely saturated: a sign of a well-functioning pan-European gas wholesale market. This contribution seeks to understand how we got to where we are in terms of the evolution of the gas industry structure in Europe and its institutional setup. It does so using a transaction-cost economics framework. The paper concludes that the move—which is still ongoing—towards a single market in gas has allowed European gas consumers to benefit from transparently set market-based wholesale prices and increased market competition among suppliers. However, as the gas market in Europe matures and with the increased penetration of renewable energy generation in the electricity sector as well as the overall decarbonisation of the energy sector in Europe, the gas market and its current regulatory regime face a number of challenges. Addressing these challenges may require an update of the current market design and possibly drastic reforms of tariff-setting for the gas transport market.
Highlights
European natural gas market liberalization and the process of creating a single market for natural gas started with the first reforms in England and Wales around 1990
Other empirical work analyses the impact of the changing structure and asset specificity of the European gas industry on long-term contracts (LTC) and on contract duration in particular: For example, von Hirschhausen and Neumann (2008) conducted an econometric analysis of over 300 LTCs and found an inverse relationship between contract duration and: (1) deliveries to the restructured markets of the US and UK and to the post-1998 markets of Continental Europe; (2) contracts not linked to substantial new investment; and (3) those signed by new market entrants
These findings suggest that as gas markets in Europe are liberalized and mature further—with no need for substantial investment in infrastructure—and market entry increases, the duration of LTCs will decrease
Summary
European natural gas market liberalization and the process of creating a single market for natural gas started with the first reforms in England and Wales around 1990. Consistent with the transaction-cost framework, the rationale for setting up LTCs is to protect buyers and sellers from ex post opportunism that arises from the highly asset-specific, durable, and capital-intense investments involved in: (1) the development of upstream production, gas treatment and LNG facilities; (2) long-distance international pipelines and LNG vessels; and (3) national transmission and distribution systems at the local level. A second structural shift was the introduction of third-party access to transport infrastructure in Europe: Should there be demand for access to transport capacity, the independent operator should grant such access subject to technical and other requirements that are transparent to all market participants Together, these two changes meant that gas transportation infrastructure in Europe no longer posed a high risk of opportunism because these regulations essentially reduced the degree of asset-specificity that was involved in gas transactions between buyers and sellers. I discuss some empirical and theoretical studies on the changing nature of the gas trade in Europe and the implications for LTCs
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