Dutch Gas Special – Lower gas production means lower growth

by: Hans van Cleef

  • Dutch economic growth weighed down by reduction in Groningen gas production ceiling
  • Public finances acceptable for now, but for how long?
  • Twofold consequences for the consumer

 

 

The Netherlands: implications of lower natural gas revenues

Total Dutch gas production stood at nearly 75 billion m3 in 2014. To meet the entire Dutch demand for gas (about 45 million m3) plus export commitments (about 30 billion m3), new options such as the importation of gas will need to be explored now that gas production in the province of Groningen has been reduced.

In late June, Economics Minister Kamp decided to cut the gas production ceiling for the Groningen field to 30 billion m3 for 2015. This reduction was larger than expected and, as noted in our previous Energy Monitor, will have considerable consequences. The move was prompted by the need to enhance the safety of the region by reducing the frequency and force of future earthquakes. But the negative consequences in terms of lower economic growth, financial constraints on government and consumers, and greater dependence on gas imports cannot be overlooked. These disadvantages may be partly offset by the extension of the life of the gas fields in Groningen due to increased pressures resulting from the production cut. The implications of the reduction in gas production are analysed in greater detail below.

Lower production means lower economic growth

Earlier this year, the CPB Netherlands Bureau for Economic Policy Analysis warned that the decision to reduce gas production would dampen economic growth in the Netherlands. It estimated that the earlier cut in Groningen gas production to 39.4 billion m3 would slow growth by 0.2 percentage point and 0.1 percentage point for 2015 and 2016 respectively. Now that production has been slashed by significantly more than expected, the impact on Dutch economic growth will be even greater. The further reduction from 39.4 billion m3 to 30 billion m3 is expected to put an extra drag on growth in 2015 of about 0.3 percentage point. As a result, it could be argued that Dutch economic growth in 2015 could have been 2.75% instead of 2.25%, which is ABN AMRO expects at this time.

Public finances acceptable for now, but for how long?

The rule of thumb is that a 1 billion m3 cut in gas production leads to a loss of EUR 200-220 million in revenue. Gas production in Groningen is being reduced from 42.5 billion m3 in 2014 to 30 billion m3 in 2015 (about 23 billion m3 less than in 2013). As a result, the treasury will lose roughly EUR 2.5 billion, assuming that prices and production in the small fields and offshore will stay the same. The current budget deficit is smaller than permitted, which means that, for the time being, there is some room for lower natural gas revenues. However, an extended period of lower revenues may be a cause for concern. At a certain point, this would inevitably have a negative impact on public finances. Logically speaking, this loss would need to be absorbed either by lower public expenditures or higher revenues. It is hard to see where the government can find further spending cuts, as there is no direct correlation between current natural gas revenues and public expenditures.

Additional income to offset lower natural gas revenues could be generated by raising taxes. An energy tax on gas and electricity already exists, but this tax (notably on gas) is mainly paid by large (i.e. industrial) energy consumers. The renewable energy levy can also be regarded as a tax on energy. This levy was created to fund the Renewable Energy Production Incentive Scheme (SDE+).

Total income for the government in 2013 ran to EUR 290 billion (source: Statistics Netherlands). Of this amount, nearly half was tax and over a third comprised statutory social insurance contributions (Figure 4). Natural gas revenues amounted to just over 5% of the total (EUR 15 billion versus EUR 290 billion). In other words, the share of natural gas revenues is relatively modest compared to total public revenues. That is why the reduction in natural gas revenues will have an even smaller impact on the total budget.

Twofold consequences for the consumer

The ultimate consequences for the consumer are difficult to pin down. On the one hand, gas prices would appear set to rise. After all, any form of energy tax (to compensate for lower natural gas revenues and/or to promote the government’s renewable energy programme) would push prices higher. Even if gas needs to be imported, there is a risk of consumers being charged higher prices than for gas extracted in the Netherlands. However, the differences between Dutch gas prices and international prices for consumers are not as large as you might expect because Dutch consumers do not receive a discount on Dutch gas. A higher price for CO2 emission rights could also inflate the consumer’s gas bill. CO2 emission prices have recently already risen to EUR 8/tonne, compared to under EUR 2.50/tonne in 2013. Nevertheless, this price would have to climb considerably to have any real impact on fossil fuel consumption. The creation of a European Energy Union may lead to further regulations in this field, and the upcoming climate summit in Paris may also inspire the world leaders to commit to bold new measures. A final possible reason for an imminent increase in consumer prices is that energy companies are under great pressure. After having expended substantial capital on fossil fuel generation over the past years, they are now faced with further large investments in renewable energy sources. The resulting high write-downs cannot be fully passed on to consumers. Understandably, therefore, energy companies are hardly eager to recharge lower commodity prices to consumers; instead, they want to use these higher margins to limit their impairment losses.

That said, there are also reasons to assume that consumer gas prices could fall. After all, the price of gas is clearly on a downward trend due to the oversupply of gas on the one hand and the linkage with the oil price on the other. Oversupply has slashed oil prices, which feeds through to gas prices with a time lag. Now that international gas prices are under pressure, this is increasingly leading to a delinking from the oil price. Owing to the development of shale gas in the US, gas prices there are very low. The restarting of several nuclear reactors in Japan has curbed demand for liquefied natural gas (LNG) in that country, so that the price for LNG has also fallen significantly. This, combined with the growing supply of LNG, makes this fuel a good alternative for Dutch gas (Figure 5). A market-driven price would be favourable at present because the international, notably US, gas prices have fallen considerably. Ultimately, this could have a beneficial effect as soon as the Netherlands becomes more dependent on gas imports.

Another reason for a lower gas price is less demand. Although gas is seen as the cleanest alternative among fossil fuels, electricity companies currently prefer coal because it is cheaper. Renewable energy is also playing an increasingly important role in the energy mix, which is curbing the demand for gas. A final reason is the more efficient use of gas, which is putting demand under pressure.