Stakeholders in the gas industry have lamented the increased burden caused by the actions of the PPPRA. The PPPRA is charged with the responsibility of monitoring, and regulating the supply and distribution, and determining prices. The major problem that these stakeholders have with the PPPRA is that the administration cost which it charges distorts operational efficiency and pricing. They argue that since the government had embarked on the full deregulation of the gas sector there is no moral justification for the administration cost charged by PPRA. Furthermore, it is argued that the PPPRA is fully funded by the Federal government and does not provide any service that warrants the administrative cost imposed by the PPPRA.
The allegedly unwarranted charges by the PPPRA make it expedient to understand the regulatory and pricing mechanism in other global jurisdictions. Countries that are interested in deepening the gas industry, for example, Australia ensure that the regulatory framework is transparent and attractive to investors, hence the fast-paced growth of the industry in that country.
Understanding Best Practices and Pricing
Understanding the best practices and prices of gas is vital to the growth of the sector. The impact of government regulations has had a major impact on the gas sector in Nigeria. Making the gas sector attractive and competitive would encourage the flow of foreign investment to the industry. The pro-market regulation of the gas industry would facilitate the optimization of the industry's value chains. On the other hand, the implementation of non-market-friendly regulatory order would discourage the inflow of foreign investment into the gas industry, disrupting the full utilization of the gas value chain. There are many byproducts of gas not fully tapped, hence, the need for government-friendly regulations. Natural gas can be used as fuel in transportation, industries, commercial buildings, or residences. Natural gas can serve as a substitute for PMS which is more costly e.g., the Federal government proposed its plan to convert PMS cars to gas cars. Furthermore, natural gas can be used as a feedstock for various other industrial plants, such as fertilizer plants, methanol plants, petrochemical plants, and gas-to-liquids plants (see Illustration 8).
Illustration 8: Natural Gas: Living in a World of Changes
Poor gas pricing will affect the gas ecosystem which consists of producers, local distribution companies, marketers, on-system, and off-system users. Investors in the gas sector understandably worry about making profits and expanding their reach. Therefore, experts believe that it is important that policies should be enacted that would encourage a flow of fresh investors into the local market (see Illustration 9).
Illustration 9: Gas and its Business Family
Along each value chain of the gas industry, there are benefits and potentials to the Nigerian economies. Deepening the gas value chain would attract more investment into the country. Countries such as Australia, China, France, and Russia have been able to deepen their value chains and attract a growing number of investments to their economies (see Illustration 10).
Illustration 10: LNG; Along a Chain of Values
The Case for Appropriate Pricing
In determining the appropriate price of gas, it is pertinent to factor-in the demand and supply for gas and the other drivers of price in the gas market. Key drivers of natural gas supply include unconventional development, new pipelines, floating technologies, new LNG capacity, and national-level policies that affect supply. Key drivers of current global demand are Asian economic growth and national-level policies that affect demand. Policies that affect natural and liquified petroleum gas supply and demand generally have roots in environmental, safety, and energy security objectives (see Illustration 11).
Illustration 11: LPG; The Value Pipeline in Transition
Two major gas pricing mechanisms are very common. They include the netback pricing and market price. In the case of the netback pricing mechanism, the gas price is defined by other prices, mainly those from substitutes like fuel oil. The netback pricing principle is also known as the top-down approach, where the gas price is derived from other energy sources. The price reflects substitution relationships between gas and comparable fuels like gas oil, fuel oil, or, less commonly, coal and electricity. If fixed cost components like taxes or regulated tariffs along the value chain are subtracted, a margin for the producer remains. Based on the substitute price, this margin could be higher or lower and, in some situations, also negative. The price is set by a formula that is fixed in a very complex long-term contract. The formula is subject to regular renegotiations to guarantee that the formula still reflects the actual market development allows a margin sharing of the two contract parties along the value chain.
On the other hand, the market price which is the second pricing mechanism is determined by the free market forces of demand and supply. This pricing mechanism is also known as the bottom-up approach as the cost components of the gas itself are the drivers of the gas price and not the prices of its substitutes. Asides from fixed and regulated components, this approach also takes into consideration production costs which have a significant impact on the prices (see Illustration 12).
Illustration 12: The Gas Price; Making Market Mechanism Count
Gas Pricing in Selected Countries
Different economies adopt varying pricing mechanisms depending on which suites the market best. This section will examine the pricing mechanism adopted in various economies.
Gas pricing mechanism development in the US could be traced to the liquids wholesale market, with exchange-traded futures contracts to support pricing mechanism not vulnerable to any form of influences and was more reflective of a market mechanism.
Historically, natural gas prices were fixed by the government, but in 1992, the Federal Energy Regulatory Commission (FERC) issued its Order 636. Prices were deregulated and interstate natural gas pipeline companies were required to split-off any nonregulated merchant (sales) functions from their regulated transportation functions. The separation of gas contract pricing and transportation contract pricing meant that exchange-traded gas contracts, based on Henry Hub and other secondary hubs, were established, and the industry moved to market-based indices for pricing purposes.
The European Market
In Europe, a similar trend was first established in the UK, following gas market deregulation in the mid-1990s, and the emergence of National Balancing Point (NBP) pricing, which, though like Henry Hub, is not a physical place. In Continental Europe, the so-called Title Transfer Facility (TTF) has now become an equally dependable mechanism for long-term pricing, though Southern Europe is still transitioning to a mechanism of gas-on-gas pricing, as new hubs start to emerge.
The Asia-Pacific Market
The first signs that a new pricing basis was emerging for the Asia-Pacific region occurred in the early 2010s with the signing of Henry Hub-based LNG tolling contracts. At the time, buying gas in the U.S. and paying a tolling fee to put it through one of the emerging LNG liquefaction facilities, represented a lower landed price in Japan and other SE Asian countries, compared to traditionally oil-priced gas. Several attempts are being made to establish a pricing index for the Asia-Pacific market, including the so-called JKM index (Japan-Korea-Marker) and the Singapore Gas Exchange (SGX) spot price index known as SLiNG, which is intended to represent an exchange-traded futures market for LNG based on gas being traded at or around the Singapore LNG facilities.
The LNG sector has been relatively slow to move away from oil-based pricing. There are many reasons for this, but the main brake on pricing change for LNG has been the lack of availability of a reliable, transparent pricing reference for gas, like Henry Hub or NBP, in the Asia-Pacific region, which accounts for about two-thirds of LNG consumption. The other feature of LNG, compared to pipeline gas, is that it is bought and sold in single ship-borne cargoes, instead of being commingled within a pipeline system, and this too has tended to slow down the development of gas-on-gas mechanisms.
In Europe, over the last decade, most of the traded gas has now migrated from oil-based to gas on gas-based pricing, and some commentators believe that gas-on-gas-based pricing will gradually replace oil-based index pricing, particularly as new LNG projects bring additional LNG into the global markets.
An increasing number of African countries are considering moving to LNG imports or establishing relatively smaller-scale projects. Because these are under development and/or negotiations, no pricing has been established yet.
Downloadable Version of Memo to the Market: PPPRA and the Nigerian Gas Market, Avoiding a Robinhood
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