published on 15 September 2008 in energy

Natural gas

Natural gas
Natural gas has been the last fossil fuel to assert itself on a global scale. For over a century, when gas was found in areas far away from those where it was to be consumed, it was burnt at the wells or freed into the atmosphere because harnessing it in a gas pipeline and making it travel for kilometres and kilometres was too expensive. The only consolation for the oilmen who discovered it was that, together with the gas, even oil would be extracted from the well.
The situation has changed in the last forty years and today natural gas ranks third in world energy consumption and is the fossil fuel with the best growth prospects.
In the 70s, with the birth of transport infrastructures to import natural gas, producer and consumer countries defined contractual agreements which are still a reference model.
Initially a completely American tale
For the first seventy years after its discovery, both the natural gas market and its production were limited primarily to the United States. In 1883, Pittsburg is the first city in the world to receive methane through a gas pipeline while the first transport network begins to develop in Pennsylvania, Ohio and New York.
It is not until 1927 that the first long distance gas pipelines are built (the first 400 kilometres long and the second 560 kilometres long) and not until 1930 that the Natural Gas Pipeline Company of America builds a 1600-km long pipeline between Texas and Chicago that can transport 2 billion cubic metres of gas per year. Until then, costs and technological problems associated with transport had restricted the building of pipeline networks only to areas where the gas-fields were close to potential consumers.
During the Second World War, president F. D. Roosevelt promotes the use of the vast gas reserves in the country as a consequence of the fear of rapidly declining oil reserves in the U.S. and then, during the Cold War, of the dread of having to oppose the Soviet Union without being autonomous from an energetic point of view. In 1947 a new phase of methane development begins with the conversion of two oil pipelines into gas pipelines that extend from the Southwest to the Northeast of the country: the Little Big Inch and the Big Inch.
Development in the 60s
Shifting the focus to Europe, natural gas begins to catch on in the 60s following the finding of the Groningen gas field in Holland in 1959. Before this discovery, natural gas covered just about 1% of primary energy consumption in Europe. Among European countries, the only exception was Italy. Enrico Mattei, the chairman of Eni at the time, gave importance to the gas reserves of the Po valley developing an industry that made Italy, as far back as 1960, the first consumer in Europe and fifth in the world after the United States, the Soviet Union, Canada and Romania. The 70s and the oil crisis contributed to the growth in consumption, to the consolidation of the international market and to taking into serious consideration the use of natural gas worldwide.

Dependence on gas reserves
Only North America and the Soviet Union were self-sufficient. European countries had to import gas from Holland and the Soviet Union by building big pipelines which connected western Siberia to the main end-consumers. Exports began to grow in the early 70s and had already reached 55 billion cubic metres in 1980!
This entailed a large economic commitment and a challenge from an engineering point of view.
From the Seventies until today, the global consumption of natural gas has tripled, growing from 100 billion cubic metres to about 2, 900 billion cubic metres in 2006. Currently there are three big regional natural gas markets: Western Europe, North America and the industrialised areas of the Asia-Pacific region. These areas, however, own less than 10% of the global gas reserves, which corresponds to a residual life of about fifteen years. Consequently the dependence of industrialised areas on imports is bound to increase in the near future.

Contractual agreements
Producing and consuming countries drew up 20- or 30-year contracts.
An apparently anomalous characteristic, unique to these contracts, is the “take or pay” arrangement by which the acquirer is bound to pay a certain quantity of gas each year, even when less or none is actually taken. In this way, a profitable return on the investment is assured to the producer, who has had to bear the great cost of transport infrastructures. In fact, if we think about it, those who produce oil can transport it by ship and sell it to any country in the world without substantial differences in transport costs. Producers of natural gas that sell through a gas pipeline have a limited number of potential clients represented exclusively by the countries which the gas pipeline crosses!
Is the Take or Pay arrangement advantageous for the clients?
The clients accepted it willingly because, since the gas pipelines had been built on their territory, they could count on reliable gas supplies for many years.
In time, this contractual form proved to be an efficient instrument in guaranteeing unfailing and continuous supplies over the years, with rare exceptions like that of the winter of 2005-2006.

How the price is determined
Another contractual element, bound to last until the present time, is the one regarding the price of natural gas. Consumers and producers, in order to make the price of gas competitive, came up with a formula that tied it to the fluctuation of the price of the main competing fuels at that moment, such as fuel oil and gas oil, both produced from petroleum.
At the Gas Exporting Countries Forum in April 2007, participants expressed their will to collaborate and decided to form a work group to study the natural gas pricing mechanism. This situation might lead to the birth of a gas OPEC, in other words, a cartel among exporting countries on the model of the extant one for oil; though this project is being discussed since the Nineties it has not yet got off the ground. In fact, the effectiveness of an organisation of this kind would be limited by the mechanisms that regulate the gas market because, in the presence of long-term contracts, if the price of natural gas were tied to that of oil, the producers would not be able to alter the market value through a variation of the offer.
A gas cartel would also come up against the rigidity of the market the infrastructures required for transport. As a consequence, a producing country could stop supplying gas to a consumer just for a limited period of time without creating serious problems, but it could not do this over a long period because it would be difficult to sell that gas supply to another country.
Some figures on the future
As has already been mentioned, Europe depends on imports for about 60% of its natural gas, which comes from just a few suppliers: 39% from Russia, 21% from Norway and 18% from Algeria. Taking into consideration the fact that local European gas production will go on decreasing in the next few years while the demand has been increasing at rates over 3% for about 15 years, a plausible forecast is that in 2020, Europe could depend on imports for over 85% of its natural gas, most of the supplies coming from Russia.

Edited by Elisabetta Monistier

With the sponsorship of the Italian Ministry of Education, Universities and Research
Eni S.p.A. - P.IVA 00905811006