Winds of Change: Long-Term Gas Contracts and Changing Energy Paradigms in the European Union

Abstract

European gas markets have traditionally been based on long-term contractual relations between the EU importers, typically a national monopoly company or a company with special or exclusive rights, and the external producers. In the EU, the background to this contractual model was the development of the Groningen field in the Netherlands, and it is based on the concept of replacement value and long-term minimum-pay export contracts. These are designed to attract the highest possible rent from the gas field before depletion (ECT 2007: 146). However, due to the special characteristics of natural gas, particularly in comparison to oil, this need for long-term contracts has been accepted as a general principle of energy governance in various markets around the world (Smith et al. 2010: 1047). Out of the three main natural gas markets in the world, only the United States has in large part moved away from long-term contracts towards short-term trading (Petrash 2006: 545). Europe and the Asia-Pacific still rely on traditional long-term contracts. Similarly, while the Asia-Pacific relies on oil price indexation, the US has moved to hub-based pricing of natural gas. In Europe, an energy governance paradigm shift has started to occur in this respect. The traditional structure of long-term natural gas contracting with take-or-pay clauses, oil price linkages and netback pricing appears to have reached a crossroads (Talus 2010a: 8–12). The context in which these contracts operate has significantly changed, and this has not come without consequences to the contracts themselves. There is increasing pressure to review some of the key elements of the traditional long-term natural gas contracts, including the pricing mechanism.