Ukraine ready to fully integrate with EU gas markets, Energy Community

Author: Aura Sabadus

2020/09/14

BUCHAREST (ICIS)--The Ukrainian gas sector is ready to move to the highest form of development, having switched from being perceived as the main threat to Europe’s security of supply to becoming an integral part of its market, the Energy Community said in an interview with ICIS.

Assessing the performance of the gas sector over the last five years, including latest steps to further deregulate the market introduced last month, Gregor Weinzettel, gas expert at the Energy Community said the Ukrainian market was now ready to lay the foundations of an exchange trading mechanism.

“There are not many regions in Europe that passed the reform process at the speed [that] Ukraine did,” he said.

Ukraine’s vast transmission system and storages coupled with a solid legislative framework and market tools introduced in recent years will help Ukraine to become a fully-fledged gas hub for central and south-east Europe, he added.

From the point of view of the Energy Community, a key EU institution which has guided Ukraine’s energy market reform over the last five years, the country has a strong potential to further trigger the development of liquid hubs and markets outside its borders.

“Cross-border trading and pan-European projects with neighbouring countries could diversify gas supplies in the region. These opportunities are realistic even in the sustainability agenda, namely if natural gas will be replaced with hydrogen and biogases at higher share,” Weinzettel added.

MONOPOLIES

Even so, Ukraine still had a number of issues to address to guarantee the establishment of a liquid, competitive gas market, he said.

Firstly, the government and regulator, NERC, had to ensure there were no monopolies at upstream and downstream level.

Since the reform process was triggered some five years ago, the Ukrainian gas sector has been gradually deregulated, allowing some 700 private producers, importers and wholesalers to become active alongside the incumbent Naftogaz.

The retail sector has also been liberalised and distribution activities have been formally unbundled from retail. However, this segment of the market is dominated by the privately-owned RGC group.

Last month, the government partially lifted a public service obligation (PSO) whereby the incumbent Naftogaz was expected to buy natural gas from its production arm for onward sales to households.

Under latest changes, some 8 billion cubic metres of natural gas were freed up for the market and new companies could enter the retail sector, including Naftogaz.

However, Naftogaz has a large upstream presence through Ukrgasvydobuvannya, a producer which it controls, and Ukrnafta, which it partially owns. As a result, the incumbent could hold a monopoly over the upstream sector, while RGC would dominate retail, Weinzettel said.

Customers have already switched suppliers since the latest market changes introduced last month but much more time would have to pass in order to create competition in the downstream segment, according to Weinzettel.

“The competitive battle, which we see at the moment is between two major players in the market – the regional gas organisation, RGC group and Naftogaz,” Weinzettel said.

“RGC has a client base, which it has been building up for years and Naftogaz has the resources of Ukrgasvydobuvannya, which allows it to offer consumers more favourable prices.”

The gas expert said Naftogaz had doubled its gas sales month on month in August on the energy exchange UEEX, but when compared to August 2019, the increase amounted to 27%. The state company would have to sell more volumes on the bourse to whip up competition.

HEATING SECTOR

Weinzettel said the next important step for the market was the full removal of the PSO which currently extends to the heat sector. Under this arrangement another 8bcm of natural gas has been sold at subsidised tariffs.

He said that under Ukraine’s commitments to the International Monetary Fund (IMF), the PSO for this consumer segment could no longer be extended beyond 1 May 2021 but admitted that scrapping it was a complex task.

Several steps are being considered including clearing up debt which has accumulated to Ukraine hryvnia 43.8bn (€1.32bn), improved payment discipline and reforming heat tariffs.

The complete removal of the PSO would help Ukraine to establish a fully liberalised gas market and introduce trading mechanisms similar to those seen in western European hubs.

The Energy Community is also involved in helping to establish a trading platform, signing a memorandum of understanding with the ministry of energy, the European Bank for Reconstruction and Development (EBRD) and the local bourse UEEX to establish a local exchange with market-based pricing mechanisms.

Weinzettel said UEEX has already been offering a platform for over-the-counter (OTC) trading, pooling initial liquidity.

Nevertheless, he said that a new short-term market was due to go live, offering within-day and day-ahead products in a first phase.

“A clearing solution in a light version will be provided by the exchange with an underlying escrow account system and a cooperation with Oschadbank [the state savings bank of Ukraine].

“At the next stage a fully-fledged central counter party and clearing infrastructure will be developed. Once a liquid gas spot market is established, other standardised products will be developed, focusing on the derivatives market with gas futures. This will give market participants the possibility to hedge their positions with different products such as month-ahead, quarters, years,” he added.