Worldwide: Ukraine Crisis Changes Equation In Global LNG Market As Nations Look To Reduce Dependence On Russian Gas

News of Russia's invasion of neighboring Ukraine has dominated US and global headlines since late February. While much of the news understandably has centered on the military, humanitarian and geopolitical ramifications of Europe's biggest conflict since World War II, the war's significant and long term impact on energy supply as a function of this geopolitical destabilization should not be underestimated.

A few related statistics: in 2021, Russia produced 14% of the world's oil supply and 8% of the world's LNG supply. Until recently, Russian natural gas satisfied 40% of EU gas demand. Before it was cancelled, the Nord Stream 2 Baltic Sea pipeline was meant to double Russian gas supply to Germany, lowering prices considerably. Germany's move to cancel certification of the pipeline was indeed economically brave, but it will leave the country and the EU in general scrambling to find alternative supply sources for years to come. The situation is dire. German household gas prices have risen by 62% from December 2021 levels.

The focus on Germany here merely reflects the fact that its recent decisions and outsized dependency will affect them first and most acutely. However, Russia exports more than 2 million metric tons of LNG globally every month. Japan, France, China, India, Belgium and the Netherlands are the top importers of Russian LNG—and demand for Russia's supply remains relatively high at the moment, though down from pre-war numbers. Around one-third of Russia's March 2022 shipment is still in transit, and those spot deliveries are expected to mainly go to India and China. Also, last year, Latin America experienced one of the strongest LNG surges in history following the snap back in demand that occurred as the pandemic subsided. This increasing supply shortfall will only be exacerbated by a fast-approaching winter in the Southern Hemisphere.

As the war in the Ukraine seems to worsen and drag on, Japan and the Western European nations are under increasing pressure to follow Germany's lead and halt shipments of LNG from Russia. Although these nations have levied extensive sanctions, these countries still face calls to punish Russia further by shutting off the flow of LNG due to the increasing civilian casualties and public evidence of Russian war crimes in Ukraine. Energy, after all, makes up 45% of Russia's national budget.

Qatar Looks to Fill Russian LNG Void

Beneficially, LNG is used for heating, cooking fuel and electrical generation. A steady supply of the product is essential to maintaining the economy and normal life in the aforementioned countries. Natural gas is relatively inexpensive for the combustion efficiencies it offers and provides a lower carbon emissions footprint than oil and coal. Perhaps more importantly, it provides a pathway for wider utilization of hydrogen technologically and through similar types of logistics and distribution channels. 

Nations that once relied on Russian LNG now are looking for other sources to meet their demand—and Qatar has stepped to the front of the line. Qatar is one of the world's top three producers of LNG and has been at the top of the list for countries looking for alternative sources of LNG due to the recent sanctions on Russia.

"The renewed interest in diversifying European gas supplies presents an enormous opportunity for Qatar to sell the vast new supplies coming on stream," said Khalij Economics Director Justin Alexander. Those new customers most definitely will include Germany and other EU nations. In late March, Germany and Qatar announced a major new long-term energy partnership that will reduce Germany's dependence on Russian LNG.

German Economic Minister Robert Habeck said, "Although we might still need Russian gas this year, in the future it won't be so anymore. And this is only the start."

However, tapping into Qatari LNG is easier said than done. Because Germany has relied on pipeline supplies from Russia, it does not have the existing terminal capacity necessary to import LNG via ships. Across northern Europe, including within Belgium, France and the Netherlands, there is little capacity available to support increased imports of LNG, in part because more than half of February's US LNG exports have gone to Europe. Spain's LNG utilization was at only 45% in January, but its export capacity to the rest of Europe is constrained by the limited pipeline connections between that country and the rest of Europe. Germany has announced plans to build additional terminals, but they are not expected to come online until 2026. In the interim, increased production and exports from Qatar, Spain or elsewhere can provide limited relief, at least until the processing and distribution infrastructure catches up to the demand.

The Role of the US in Meeting LNG Demand

US energy companies and multinational entities with US LNG operations can compete effectively with global suppliers, including Qatar Energy, because (1) these companies can reduce shipment time to Europe if they do not require Panama Canal or Suez Canal passage; and (2) the Permian Basin and other US gas basins have large natural gas capacities that can be extracted and, in turn, exported at competitive costs.

Earlier this year, and before the advent of the Ukraine crisis, the US became the world's largest LNG exporter. As a result of the geopolitical implications of the ongoing conflict, in mid-March, the US Department of Energy signed two long-term orders allowing Cheniere Energy Inc.'s Sabine Pass facility in Louisiana as well as its Corpus Christi terminal in South Texas to further increase LNG exports. The orders allow "export [of] the equivalent of 0.72 billion cubic feet per day of natural gas as LNG to any country with which the U.S. does not have a free trade agreement, including all of Europe." The DOE also reiterated that these orders are necessary because most LNG export facilities have been operating near their maximum capacities to meet both contractual obligations and spot demand markets. 

Peak US export capacity may be reached when Golden Pass LNG, of which Qatar Energy is a 70% owner (with Exxon holding the remaining 30%), comes online in 2024. The facility on the Texas Gulf Coast is getting a $10 billion renovation transforming it from an LNG import terminal to a gas liquefaction train that will allow the facility to ship liquefied natural gas to locations all around the world.

Until then, there is only so much more the US can do within the limits of current export capacity. Natural gas and LNG prices are likely to increase in the short-term, even as US companies work to employ more rigs to boost output.

To alleviate the pricing pressure likely to be felt until the Golden Pass project comes online, energy companies are pushing for increased federal support in the forms of relaxed regulation, faster and expanded regulatory approvals, and more funding for terminal infrastructure. Before the war in the Ukraine, such overtures were likely to have been met with skepticism from the Biden Administration given its stated focus on the reduction of fossil fuel consumption and support for the development and use of green energy resources. It still is a bit unclear whether the Biden Administration has altered its position in light of the increased energy security concerns being expressed due to the Russian and Ukraine war and other geopolitical situations.

FERC policies over the last few years have effectively doubled the time it takes to permit new pipelines and facility projects. In February, FERC issued two policy statements that involve taking greenhouse gas emissions and "environmental justice" impacts into consideration in determining whether the infrastructure projects are in the public interest. A month later, those same policies were revised to "draft" statements that will be open to public comment until the end of this April 2022. Should the public commentary be positive, implementation of these policies may result in more complications for pipeline and terminal facility operators due to the lack of clarity with regard to the scope of emissions to be considered and mitigation methods for reducing them. Under the current regulatory guidelines, it is estimated that permits may take as long as five years to obtain, if granted. This timeline may well be extended should the draft statements be finalized.

The ongoing war, however, appears to be changing the calculus in Washington. Now, economic sanctions against Russia are the Administration's top priority, and if US companies need federal help in order to reduce Europe's reliance on Russian LNG, it would follow that these companies are more likely to get it. It remains to be seen whether FERC will course-correct given the urgent need for additional supply created, in part, by Biden's March commitment to supply the EU with an additional 15Bn cubic tons of gas through the end of 2022. 

At some level, the Biden Administration does appear to recognize the key role LNG plays in energy security through its recently proposed approach to enhance the US manufacturing sector, notably including the LNG industry, through its proposed strong financing support of manufacturing exports¹. The US Export-Import Bank unanimously approved this on April 13^th. This not only encourages more financing to build out support of LNG terminals to take advantage of the opportunity to support Europe in its LNG needs, thereby displacing Russia, but it also more broadly helps the US strategically build more manufacturing base to counterbalance China's lack of all-out condemnation of Russia's invasion of Ukraine. 

Asia too has needs, and this seems to tip the US' hand to see its intent to provide additional LNG supply to Asia and other global markets besides Europe.

Energy Transition V. Demand Pressures: A Balancing Act

Although companies and nations have set ambitious goals for reduced greenhouse gas emissions over the next 10-30 years, LNG, as an existing and hence cost-competitive fuel source (albeit carbon-based) is likely to remain very relevant through the transition process. Germany's - indeed the entire EU's - need for Russian oil, significantly exacerbated by the Ukrainian crisis, has exposed an existential risk to energy security and the sudden lack of it has underscored just how much further those countries need to go before they can rely on renewable resources to fuel their economies. 

The recent increased emphasis on LNG is reflective of the conflict created by this near term supply shock juxtaposed with the renewable energy imperative. Geopolitics have thrown the seeming mutual exclusivity of carbon-based fuels and green energy into sharp relief. But the rapid spike in already rising LNG demand is proof-positive that the energy transition is just that - a transition.

Countries will need to bridge that transition with fossil fuels of some type. LNG burns cleaner and more efficiently and has fewer carbon emissions than other carbon-based alternatives. The world has plenty of it, and it will be imperative for top LNG producing countries like Qatar and the US, as well as Australia and Canada, to continue to ramp up and meet these needs. For now, the prevailing issue remains getting it where it needs to go in a timely manner. The timing should be good for the US energy industry and for those multinational energy companies that have significant US investment. Increased demand in Europe should mean more shipments from the US over time. It also shows how US investment in LNG facilities over the past few years and its future investment in these facilities helps meet these needs and plays significant geopolitical security role nationally and globally.

Footnote

1. LNG Exports Seen Benefitting from U.S. Credit Bank Financing | Bloomberg Law, April 14, 2022

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