by Katinka Barysch

Will unconventional gas solve Europe’s energy security problem? Many EU member-states rely a lot on Russian gas; in the case of some Central and East European countries the dependence is total. What if these countries suddenly discovered that they themselves sit on huge gas reserves? They should not hold their breath. Unconventional gas will make a big difference to the EU’s energy security – but perhaps not in the way that shale gas enthusiasts expect.

Unconventional gas (UG) is gas trapped in rock formations. The technology now exists to get this gas out. It involves drilling into the rocks and then blasting in water mixed with chemicals to extract the gas. In the US, the new technology has been a ‘game changer’. US production of shale gas (one form of UG) tripled in 2004-08, allowing America to overtake Russia as the world’s biggest gas producer. The US is now self-sufficient – which has enabled it to mothball its terminals for importing liquefied natural gas (LNG, gas that is frozen to liquid form and transported by tankers).

Is something similar about to happen in Europe? Some energy experts estimate that Europe’s UG reserves could be several times bigger than its conventional gas reserves. The likes of Exxon, Chevron, Shell and ConocoPhilips have already snapped up land plots in places that look promising for UG exploration, most notably in Poland, Sweden and Germany.

Should the EU scrap expensive and complicated diversification plans, such as the proposed Nabucco pipeline to import Caspian gas, and simply wait for the UG boom to happen in Europe? At a recent energy security conference in Vienna, gas experts, geologists and industry representatives urged caution.

* Estimates of European UG reserves are based on geological surveys that were not carried out with UG in mind. Only drilling holes in the ground will show whether the geology is indeed suitable for producing and commercially exploiting UG. So far, there has been very little drilling in Europe. A couple of wells in Hungary have been abandoned as unpromising. In southern Sweden, environmental concerns may make gas extraction impossible irrespective of whether the geology proves suitable. In Poland, the country considered most promising, not a single well has been drilled so far.

* In the US, it was small, technology-savvy energy companies that made the shale gas boom possible. The giant international oil companies have only recently joined the fray by buying up smaller companies with the right technology and know-how. Europe’s energy markets are still dominated by national champions. There are few nimble, innovative players. Expertise and infrastructure for UG development is scarce. Engineers are being flown in from Texas or Pennsylvania. In the whole of Europe, there are only 67 land rigs (the structures used in drilling for UG), compared with thousands in the US.

* US legislation tends to be rather kind to oil and gas companies. For example, the law that regulates the safety of drinking water has an intentional loophole that excludes ‘fracking’, the technology used to blast water and chemicals into rocks. Only now, with the shale gas boom in full swing, are environmental concerns mounting in the US. In Europe, by contrast, exploration starts with these concerns already being widely discussed. UG production needs huge amounts of water and, more importantly, uses chemicals that seep into the ground (usually at a depth of several thousand metres but that could store up problems in later years). Some UG drillings have made the earth shake near-by.

* Big UG sites require lots of space (they consist of scores of rigs close together), as well as new roads, reservoirs and pipelines. Planning restrictions in Europe are often tight, partly because the continent is more densely populated: typically 250-400 people live on each square kilometre in EU countries compared with 80 in the US.

* In the US, whoever owns a plot of land owns the resources beneath it. In EU countries, the resources below surface usually belong to the state. There will be no ‘poor farmers to shale gas millionaires’ stories in Europe. If only big energy companies gain, UG production could be less socially acceptable. Moreover, those companies looking for UG in Europe complain that local regulators and environment ministries have no experience with awarding the necessary licenses. Progress can be frustratingly slow.

* The US shale gas boom happened at a time when gas prices were rising and most analysts predicted steadily growing gas demand for years ahead. The situation is very different now. The European market is over-supplied at the moment, prices on the 'spot' market for short-term gas contracts have fallen significantly, and the medium-term outlook is highly uncertain. “High prices allowed us to make lots of mistakes when building up the US shale gas industry,” says one gas expert. “With depressed prices and demand in Europe, we have to be profitable straight away.” Because of the smaller scale of production and the dearth of infrastructure and expertise, it will probably cost two to three times as much to produce UG in Europe than in the US. So it is not clear whether European UG will be able to compete with LNG and pipeline gas.

Whether and when Europe’s first UG projects will become profitable is still anyone’s guess. One manager who runs a UG project in Poland says that in a best case scenario his company would need around three years to drill exploratory wells, another three to determine whether resources are commercially viable and yet more time to figure out how to get supplies to customers. One person involved in the Swedish exploration says he would expect commercialisation in around ten years.

“In Europe, unconventional gas is not a game changer,” concludes one executive of a big EU gas company. UG will most likely develop in Europe, but a repeat of the US shale gas boom is doubtful. The good news is that regardless of UG developments in Europe, the shale gas boom in the US is changing the global, and European, gas market.

Scores of new LNG terminals are being constructed in the Gulf, Africa and elsewhere. But the US LNG market has disappeared almost overnight. Other than Asia, that only leaves Europe as a destination for rapidly growing amounts of LNG. Already, market prices for LNG have collapsed in Europe, which, in turn, has forced pipeline gas suppliers such as Norway’s Statoil and Russia’s Gazprom to re-negotiate contracts with their biggest European customers. LNG imports mean more competition in a market hitherto dominated by 30-year contracts with fixed volumes and prices linked to the international oil price. That system is crumbling. Gazprom and other suppliers will have to make a bigger effort to be cheap and reliable – and that before even a single molecule of unconventional gas has been produced on the European continent.

Katinka Barysch is deputy director of the Centre for European Reform

by Stephen Tindale

The most pain-free way for European governments to fight climate change is to use energy more efficiently. At a recent energy conference hosted by the European Commission, it struck me that the EU still has a poverty of ambition when it comes to energy efficiency. This is hard to fathom at a time when it could alleviate several of the ills currently troubling European governments: unemployment, energy security and climate change.

EU policy and performance in this area has been disappointing to date. In a speech to a conference on EU energy policy on September 30th 2010, energy commissioner Gṻnther Oettinger identified energy efficiency as his “first priority”. However, he then talked mainly about how energy is used by consumers and the importance of improving the insulation of buildings. This is a significant part of the energy equation, but not the only important part of it. The EU must also focus on how energy is produced.

Too much of the debate on climates focuses on targets. The EU has legally binding targets to reduce greenhouse gas emissions by at least 20 per cent (from 1990 levels) by 2020, and to get 20 per cent of energy from renewables by the same date. A third target, energy savings of 20 per cent by 2020, is so far only for for guidance. Oettinger has said that he will decide whether to make this target binding after evaluating progress made towards the voluntary target in 2012. Targets have some value; they lead to greater political and business attention and help secure agreement on specific policies. However, it would be a waste of political and negotiating capital to spend too much time or effort making the target binding. It would be more sensible for governments, businesses and non-governmental organisations to focus instead on specific regulations and on funding.

The Commission is due to publish a new Energy Efficiency Action Plan before the end of 2010. This should identify regulations and funds to deliver improved efficiency, both in energy use and in energy production. The Energy Performance of Buildings Directive, Energy Services Directive and Cogeneration Directive should be strengthened. The Energy Performance of Buildings Directive mandates that all buildings undergoing major renovation will have to meet minimum energy performance requirements, but these are to be set by member-states. Germany already requires that any building undergoing substantial renovation should meet high energy efficiency standards. Sweden has gone further: every time a building is sold or rented out it must meet high efficiency standards. All member-states should follow the Swedish example, and the new Action Plan should require that strong building regulations be met whenever a building is renovated, sold or rented.

The Energy Services Directive is an attempt to get energy companies to act as energy services companies, delivering not just power and heat but also advice to help their consumers use energy more efficiently and so reduce costs. The directive requires energy suppliers to promote energy efficiency to their customers and to expand energy metering. But it is vaguely worded and has no significant regulatory teeth. It should in future require energy companies to give money to organisations which carry out energy efficiency work at no up-front cost to customers.

The third directive to strengthen is the Congeneration Directive. When a fuel is burnt to generate electricity, heat is also produced. Most of the heat from most power stations is simply wasted up chimneys. Additional fuel is then burnt to provide heat for homes and industry. It is quite possible to use the heat from electricity generation for industrial or domestic heating. Cogeneration is a well-established technology which makes obvious economic, energy security and climate sense. Yet in 2007 only 11 per cent of EU electricity and 13 per cent of heat used came from cogeneration plants.

The Cogeneration Directive requires member-states to remove barriers to cogeneration. It allows, but does not require, them to support cogeneration. Some governments have done so, but the leading countries were doing this well before the directive was adopted in 2004, and the directive has not delivered a significant increase in cogeneration Europe-wide. Cogeneration should therefore be made mandatory. Whenever anything is burnt to generate electricity, the heat must be captured and used.
As well as regulation, the EU must focus on funding. Grants will be necessary to expand cogeneration and district heating networks. In 2008 the Commission allocated €4.8 billion of cohesion policy funds to renewables, decentralised energy production (which makes cogeneration much easier) and district heating. It has recently proposed that €115 million of unspent money from the European Economic Recovery Fund to be allocated to energy efficiency. The Commission should go much further. It should propose a substantial increase in energy efficiency funding, using some of the estimated €112 billion that will be raised by auctioning Emissions Trading Scheme permits.

Whatever the Commission does, most of the finance will have to be mobilised nationally. Much of the funding should come via low-interest loans, as has been done successfully in Germany through the publicly-owned KfW bank, resulting in the improvement of more than 1.5 million homes. The Energy Services Directive allows member-states to establish energy efficiency funds, but does not require them to do so, while the Energy Performance of Buildings Directive merely requires them to list existing and proposed financing schemes. These provisions are too weak. Member-states must be required to set up energy efficiency financing schemes.

The EU likes to claim to be a world leader on tackling climate change. It cannot claim any sort of leadership in energy efficiency, but there are some reasons for optimism that 2011 will at last see significant progress. President Herman Van Rompuy has called a summit on energy in February 2011. This will be a good opportunity to make progress on implementing the Energy Efficiency Action Plan. Hungary, which holds the EU presidency for the first half of 2011, has particularly strong reasons to focus on improving existing buildings. Doing so could reduce its annual gas imports by 40 per cent, and prevent up to 2,500 people dying from hypothermia every winter. Poland, which has the presidency in the second half of 2011, has improved residential energy consumption by almost 20 per cent over the last five years by retro-fitting existing buildings.

Progress is no guaranteed, of course. Raising the price of energy through taxation is one way to encourage less consumption, and would also help reduce fiscal deficits, but energy taxation proposals provoke extensive and often effective lobbying by industry and consumer organisations. Public grants don't face opposition, but will be limited by the economic situation. Nevertheless, the Commission does now appear to be serious about energy efficiency. It has estimated that reducing EU energy consumption by 20 per cent by 2020 would reduce the cost of energy imports by €100-150 billion annually, and could create a million new jobs. The means to achieve this 20 per cent reduction are already known, and the technologies are available. Yet under current policies the EU will only reduce consumption by 10 per cent, so the EU will miss out on at least €50 billion a year in cost savings and half a million new jobs. Stronger policies to save more energy must be the top priority for Oettinger and Jose Manuel Barroso for the rest of 2010 and the whole of 2011.

Stephen Tindale is an associate fellow at the Centre for European Reform.

The arguments outlined above will be expanded in a CER policy brief, 'Delivering EU Energy Efficiency', in November 2010.