Ana Stanič

A worst-case scenario of the implications of the proposed legislation could be tensions that test the bloc’s very unity

One of the more frustrating aspects of the current EU plan to put a cap on the continent’s gas price is that, while working to accelerated timescales, its politicians and policy wonks have had months to come up with a workable solution. That they have come up with such a flawed scheme cannot be blamed solely on lack of time.

Capping the price of gas was first discussed at European Council level as long ago as May this year. Then, in early September, Ursula von der Leyen, president of the European Commission, floated the idea of capping the price of Russian gas.

Key reasons

Her proposal was quickly abandoned for two key reasons: firstly, amounting to a sanction, its adoption required unanimity that was not achievable given the objection of Hungary; secondly, because it was clear Russia’s Gazprom would refuse to sell gas at capped prices. Since EU gas buyers have take-or-pay contracts with Gazprom, their refusal to pay for gas at prices above the cap would expose them to damages claims for undelivered contracted volumes. And, left without gas to sell on to their customers, they would in turn be exposed to further damages claims.

It would deter LNG coming to the EU and consequently further exacerbate supply shortages

Then a joint letter was sent by 15 EU states at the end of September calling for a cap on the wholesale price of gas to be adopted as soon as possible. This letter was accompanied a few days later by a non-­paper from Italy that called for a price cap on the Dutch TTF, Europe’s most liquid traded gas market.

It proposed for a TTF cap to be set by reference to US Henry Hub and oil-indexed prices, with a premium to be added to cover the cost of liquefaction and transportation of LNG. Acknowledging that European prices are much higher than either of these prices, it suggested that a cap be set at between €130/MWh ($136.8/MWh) and €200/MWh on a one-month forward basis. Importantly, the non-paper acknowledged the price cap would be successful only if suppliers continued to send gas to the EU and major consumers of gas agreed to avoid a bidding war pushing prices higher.

Since then, other price cap proposals have been put forward. One proposal is for interval price limits on the Ice trading exchange or similar devices to be given a more continuous role as temporary circuit-breakers in order to diminish the likelihood and extent of short-term price spikes or aberrant market moves.

Under another proposal, transmission system operators (TSOs) would be mandated to provide balancing gas services at a predefined price or price ranges, guaranteeing market participants the ability to purchase and sell gas through the balancing mechanism. However, this proposal fails to answer some key questions: what volumes of gas could TSOs secure on the world market and at what prices? And who would pay the difference between the capped price and the price the TSO would pay for the gas on the market?

A third proposal put forward is to use tradeable gas usage certificates to bring down prices. Under this plan, tradeable gas certificates would be freely allocated to European industrial users based on their last year’s consumption. The total number of certificates would be set at below the sum of current storage plus gas import capacity, thus replacing the physical constraint with a regulatory constraint. Gas would continue to be traded separately and industrial buyers would not be able to use a unit of gas without a usage certificate.

It is suggested that it would then be the market that would allocate the certificates (and thus gas consumption) to the firms with the highest total willingness to pay for the gas. The flaw in the proposal is that it ignores the fact that most energy-intensive industries are heavily subsidised (including, most recently, the energy prices they pay), which means the proposal would benefit industries in countries with deeper pockets.

A ‘bad joke’

The latest proposal of the Commission is to cap the TTF front-month price on the Ice exchange at €275/MWh so long as there is a differential between the TTF spot price and European LNG import prices of at least €58/MWh, and the TTF price is above this level for ten consecutive days. The cap is not intended to apply to over-the-counter (OTC) trades or derivatives contracts. Since the proposed cap would not have been triggered even in August when gas prices reached record highs, it was rejected at an EU energy ministers’ meeting at the end of November as a “bad joke”.

A majority of EU states are calling for the cap to be set at €150–200/MWh. This is despite the fact that key European pipeline gas supplier Norway made clear it had no mandate to agree to cap prices since gas contracts are between private companies, while suppliers of US LNG to Europe also avowed they would not agree to any price cap.

The Netherlands and Germany have been the most vocal against a price cap on the TTF—not least because imposing such a cap would not affect OTC agreements pursuant to which at least 50pc of gas is purchased in the EU, thus limiting its efficacy. They are also against a price cap being set more generally, since it would deter LNG coming to the EU and consequently further exacerbate supply shortages.

Concerns have also been expressed by lobby group the Association of European Energy Exchanges, which has described the cap as a major risk to financial stability and supply in EU’s energy markets.

However, the key concern about the price cap is that it simply cannot fix the problem the EU is facing: a supply gap of at least 30bn m³/yr for the coming five years. And the gap could be even bigger if Russian gas stops flowing via Ukraine and Turkey. In a situation of permanent scarcity, it is difficult to see how a price cap is a solution.

The most likely scenario facing the EU, with or without a price cap, and perhaps as early as February 2023, is the rationing of gas. In its latest proposal, the Commission implicitly acknowledges this scenario and accords itself power to administratively allocate scarce gas resources across the EU.

Allocating gas resources in this way is completely without precedent and likely to be impossible to implement both politically and administratively. Seeking quick fixes, politicians across the EU have paid little attention to this reality—a reality that, in a worst-case scenario, could bring down governments and hail the end of the EU.

Since poorer EU countries simply cannot afford to subsidise their industry with €200bn subsidy packages as promised by Germany, a package similar to the EU Green Deal must be discussed as a matter of urgency. And helping to find a peaceful resolution to the conflict in Ukraine, which might let more Russian gas back into Europe, must be the EU’s paramount priority.

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Ana Stanic is the founder of E&A Law, which specialises in providing tailored advice and legal representation to states, international institutions and energy companies in the fields of energy and dispute resolution

* Izvorno objavljeno v Petroleum Economist