ELS #Energy - Winter is coming and gas will be tight – allowing hydrogen some time to shine

European natural gas prices are up over 20% this week, as traded on the Dutch TTF market, on renewed tight supply fears for the nearing winter season. While the gas price crisis, lifting also European power prices, will eventually fade, prices at this level are benefitting future alternative energy carriers in Europe, like hydrogen. In the current price context hydrogen production costs in some parts of northern and southwestern Europe no longer look expensive and governments start to realise that well-designed support schemes actually need neither break the bank, nor remain in place for decades

While hydrogen still remains a costly alternative to fossil gas or coal, or indeed fossil fuels in heavy transport, it is now clearer it might bring other benefits too, apart from the obvious climate-related ones, which will help square the ultimate societal calculation. Some of these benefits are relatable to security of supply and hydrogen’s offer of continued electrification, but without complete reliance on the power transmission network. Other benefits come from building a more diversified supply and less dependence on imports from sellers with dominating market positions – however the latter is an opportunity which will have to be actively seized, since a future market left to its own devices might not develop like that.

The fears on the gas market were sparked at the start of the week, as the last hope of the Nord Stream II pipeline being certified and starting deliveries in early 2022 seemed to fade. With that, the hope of less constrained flows from Russia to Europe fizzled too. The news were, furthermore, received by the market amid a deepened EU-Belarus geopolitical and humanitarian spat, as well as renewed tension on the Ukraine border. Both conflicts which directly, or by extension, involve Russia. From a European supply security point-of-view many welcomed the decision, seeing the pipeline as a further cementing of European energy dependence on Russia. In the short run, however, it also means that winter supply will be tight throughout the continent.

Storage levels remain below the 5-year average and Gazprom’s own European storage is, as we have previously written, far below where it should be. The availability of LNG import capacity in Europe is very high, but that market is at least as tight, with Chinese LNG demand spiking amid supply constraints in the coal part of the energy spectrum. Hence, European gas prices will have to move to levels where LNG is attracted from traditionally well-paying Asian clients in order to fill the European demand for the last marginal supply. As part of that equation, some further demand destruction is likely over the coming months, including more industrial plant closures.

In the immediate run, this should prod gas market actors to try to use the last weeks before winter cold sets in to boost storage as well as they can, as the risk of gas prices falling sharply before spring are quickly fading. Moreover, gas inventories will by spring likely be so low, that summer prices will remain elevated too, compared to previous years.

Longer term, this should act as an impetus for energy companies, particularly in the gas and electricity sphere, as well as regulators, to speed up investments into the hydrogen economy. Not least given recent signs, like those modelled by ELS Analysis, that Nordic and Iberian hydrogen production could be competitive with blue hydrogen (natural gas-based H2 with CCS) in Northwestern Europe already late this decade or in the early 2030s – even in more “normal” gas price scenarios. As the graph below shows, there is good reason to think a large-scale electrolyser in the Nordics fuelled by fossil-free electricity, or even renewable wind power despite its markedly lower capacity factor, currently is viable compared to grey (natgas-derived) H2.

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