Why competition in gas market will lead to increase in tariffs?

Author : Olena Holubeva

Source :

The Energy Community Secretariat and the World Bank demanded from Ukrainian government to undertake a series of global changes on the natural gas market before September 1
21:49, 4 September 2017

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A letter from the director of the Secretariat Janez Kopač and the director of the World Bank Satu Kahkonen, as well as the draft changes developed last week were sent to the Cabinet (copies of documents are available to In particular, they contain a demand to cancel resolution No. 187, according to which Naftogaz of Ukraine is entrusted with special obligations to supply gas to the population at a price below the market level. The government is also recommended to deprive Naftohaz of benefits and create equal conditions for access to the gas market for all operators, including at the level of regional gas distribution networks. The government is again in a difficult situation: the implementation of the proposed norms at this stage may lead to higher gas prices for the population, experts say. has the full text of a letter from the Director of the Energy Community Secretariat, Janez Kopač, and the Director of the World Bank on Ukraine, Belarus and Moldova, Satu Kahkonen, which  last week was sent to Deputy Prime Minister Volodymyr Kistion and Minister of Energy and Coal Industry Igor Nasalyk . The letter, in particular, refers to the concerns of international and Ukrainian stakeholders regarding the situation in the natural gas market. The letter also includes a draft resolution on the approval of the Regulations on the assignment of special obligations to natural gas market entities designed to ensure public interest in the process of functioning of the natural gas market (in 2017-2019), approval of which the Secretariat and the Bank expect until 1 September 2017.

Give competitors to Naftogaz

The document provides for the cancellation of the current Resolution No. 187, which entrusted Naftogaz with special obligations for the supply of gas to the people, and also established a methodology for calculating the price at which gas is sold to the population - lower than for industry. For comparison, starting from September 1, for the industry, gas will be given at a price of UAH 8,749.20 with payment in the period of consumption or after it. While for the population, according to the Cabinet, price was calculated according to the formula in Resolution No. 187, the price will not change and will remain at the level of 6 879 thousand UAH per thousand cubic meters.

The text of the document also suggests that Naftogaz of Ukraine "will no longer have rights to any preferential regime for the purchase of natural gas from domestic producers that are directly or indirectly controlled by the state, namely, Ukrhazvydobuvannia, Ukrnafta and Chornomornaftegaz. "The current selection of natural gas, which is provided by Naftogaz of Ukraine, is proposed to be canceled as disproportionate, imposing restrictions and discriminatory," said in the text of the explanatory note to document.

This means that Naftogaz should be on an equal footing with all operators on the market (including with independent gas importers, in August there were 31 companies which imported gas) and should be deprived of all the advantages, explained the chairman of the Association of the gas market Olexander Ovdienko . "Among the advantages they have is the manual management of the gas transportation system (which directly contradicts the European energy legislation), the ability to attract loans under state guarantees, non-compliance with the rules for nominating volumes, and many others. To date, despite the fact that other companies are already operating in the gas market, Naftogaz's share is about 75%, "Ovdienko said.

Experts say that there are some companies on the market to compete with Naftogaz today. "Despite the competitive advantages of the company, many companies have already entered the gas market in Ukraine," Ovdienko said. But unlike the state gas giant, these companies do not have access to preferences.

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The Naftogaz has a different opinion. "Despite the fact that the operator of the Ukrtransgaz network is part of the Naftogaz group, we do not remember a single case when someone was not allowed to bring gas to Ukraine. Private importers, in no way connected with us, last year brought and sold in Ukraine as much gas Bulgaria uses for a year, for example. Our share in the commercial market was less than 10%,"the Naftogas said.

"In comparison with Resolution No. 187, the new rules do not provide for any preferential regime for Naftogaz of Ukraine and regional suppliers in the purchase of natural gas necessary to perform established wholesale operations when all market participants have equal rights to purchase natural gas from domestic producers, importers or wholesalers, " said in an explanatory note to the draft resolution, developed by the Energy Community Secretariat and the World Bank. It is also said that market purchases of natural gas should become mandatory from January 1, 2018.

How it should work

The draft resolution assumes serious changes at the stage of natural gas sales directly to thermal utility companies, which provide heat to the population. Now Naftogaz sells gas (for the needs of the population) to the 42 regional organizations, which in turn sell gas to thermal utility companies (which provide the population). Until 2015, this function was performed by the regional gas companies, up to 70% of which, according to the media, are controlled by entrepreneur Dmytro Firtash.

After the adoption of the law "On the natural gas market" in 2015, sales organizations became separate companies with individual accounting. The resolution of the Cabinet for them set the marginal profitability to within 2.5% (for all organizations it is different). "At the same time, the competitive market was not created, and there was no system for consumers to transfer from one supplier to another," Ovdienko explains.

Member of the Presidium of the Energy Association of Ukraine Viktor Merkushov notes that one of the reasons why there is no competition in this segment is the lack of a market price for gas, and that subsidies have not yet been monetized. At the same time, experts note that, in particular, from 2 to 4% of the EU population receive a subsidy, whereas in Ukraine now - more than 60%.

"Because of the clearing system of the accrual and use of subsidies established by the Cabinet of Ministers of Ukraine, there is no way for other gas sellers except Naftogaz to sell gas to the main gas consumer in Ukraine, namely the population. To transfer the population to a competitive market, it is necessary to monetize the subsidies, provide a normal software platform for the work of Ukrtransgaz and to ensure 100% of metering of gas consumption, "agrees Olexander Ovdienko.

In the developed by the Secretariat of the Energy Community and the World Bank draft resolution, it is assumed that the current Oblgases, Naftogaz of Ukraine, and other operators who want to work in this direction can have access to the gas sales market for population under competitive conditions.

"Customers have the right to guaranteed supplies of natural gas, but they should also be able to choose and switch to the best supplier without any restrictions, and any supplier should be free to offer their services to customers," the text of the explanatory note emphasizes. Heat producers are not obliged to purchase natural gas from Naftogaz Ukraine exclusively, and should be able to switch to another supplier available on the market, in accordance with the conditions stipulated by the Law of Ukraine "On the natural gas market," the explanatory note says.

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Experts note that in practice such a scheme could lead to the fact that Naftogaz will simply try to subordinate the sale of gas to its heat and power companies, pushing out individual sales companies. Naftogaz is now seeking to enter the secondary market, to submerge the thermal companies and sell gas to the population, "Ovdienko said.

It should be noted that Naftogaz has repeatedly attacked the individual companies with criticism. "The supply of gas to the public is a black box. Small companies do not provide accurate information on how much gas a specific consumer used, it is not known whether people who receive subsidies have chosen all the volumes of gas for which the companies are invoiced to the state. We don’t know who gets our gas at a preferential price and how much of it actually people receive, "one of the recent official statements by the press service of Naftogaz Ukraine said. The press service also stressed that the company supports the changes proposed by the Secretariat and the World Bank.

And what will happen to gas prices?

The document also contains a new formula for calculating gas prices. "The formula provides, in particular, the change in price premiums. Today, as determined, Naftogaz has 1.9% of the marginal premium. In the new formula, 1% is indicated, that is, it is proposed to reduce it. For regional suppliers in fact, nothing changed. Today, for them, profitability is limited to 2.5%, and the new formula specifies more than 1.5%, "Merkushov said.

Also, he said, it is stipulated that the prices for transportation services and gas distribution will be reunited (now they are divided). "As you know, Decree of the Cabinet of Ministers of March 22, 2017 No. 187 provides separate payments for gas and for transportation and distribution of gas, but we are offered to freeze the current situation when the price of gas for consumers includes the price of gas as a commodity, and the cost of transportation and distribution, while between enterprises of gas suppliers and enterprises transporting gas, the distribution of funds coming from consumers is carried out using "algorithms", provided by the current legislation, i.e. de jure non-existent. This means that we can stop the development of market relations. I think that Naftogaz Ukraine is primarily interested in this, "Merkushov explained.

The new formula, like the old one, involves calculating gas with reference to the price of the hub in Germany.

"In accordance with the government decree of March 22, 2017 No. 187 approved by the international donors of Ukraine, the price of gas in Ukraine is tied to European quotes on the German gas hub. On the one hand, it makes at least some certainty in pricing and reduces the likelihood of corruption because the price is the same for all, on the other hand, Ukraine has imported global inflation by linking to German quotations and projected the supply-demand ratio in Germany to its pricing. This does not correspond to the state of the domestic market and the purchasing power of the Ukrainian population, " Ovdienko says.

According to him, the formula provided by the document "involves one hub and one delivery route, which are by no means always the cheapest. The formula does not take into account the real structure of gas consumption by the population. If you do the binding to the hub, then the Ukrainian gas pricing formula (and this is more than 90%) should be formed on the basis of the price of the hub minus the cost of delivery to the hub," the expert notes.

Thus, even the creation of competition through the admission of other participants to the market will not prevent a possible rise in price, including gas for the population, the expert says: "The price of gas hubs is constantly fluctuating, and in the winter months it is much higher than summer ones."

At the same time, Naftogaz itself estimated that the price of gas for the population in this heating season should grow by 19%, and, for that, there are all grounds for this. However, the Cabinet considered these arguments of the gas industry as far-fetched and opposed the increase in tariffs. So far, this issue has not been resolved.

By the way, the issue of the draft resolution on the authorship of the Energy Community Secretariat and the World Bank has not been resolved. On August 30, the last meeting of the Cabinet took place this summer, and the government will not be able to adopt this document before September 1. It is not excluded that parties will return to it in the autumn, but this heating season will be held according to the old rules.­­­

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