Gulf gas sector must see the light to exit dark age

Problems call into question the model the Middle East is using for gas use.

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When even the ministry of electricity and water suffers a blackout, you know there is a problem. As Kuwait's grid reached 99 per cent of capacity recently, fires broke out in transformers and working hours were cut. It is not only Kuwait that is suffering. Recent weeks have brought nothing but bad news for the Gulf's gas and power sector: not just isolated incidents but a sign something is badly wrong.

In May and June, Sharjah was plagued by power cuts, even after the emirate had sharply raised electricity prices. A 90-minute outage in Jeddah grounded planes at King Abdul Aziz International Airport. Most dramatically, with power available for only a few hours a day in temperatures soaring to 50°C, Iraqi protesters took to the streets in Basra. Two people were killed by police and the electricity minister Karim Waheed offered his resignation.

Iran faces the opposite problem: if a cold winter strikes, as last year, it may encounter gas shortages again. There was bad news on the supply side, too. ConocoPhillips decided in April to walk away from its joint venture to develop "sour" gas reserves at Shah in Abu Dhabi, laden with toxic hydrogen sulphide. Shell, an original contender, is now playing hard to get, potentially leaving the Abu Dhabi National Oil Company to tackle the project alone.

On June 10, the UK-based gas company BG Group cancelled plans to develop difficult "tight" gas reservoirs at Oman's Abu Butabul block. And five days later Russia's Lukoil gave up 90 per cent of its exploration area in Saudi Arabia to concentrate on two challenging gas finds it had made there. These problems call into serious question the Middle East's gas and power model, originally founded on the region's large, low-cost hydrocarbon reserves and relatively small populations.

It features cheap, subsidised gas, water and electricity prices, little attention to energy efficiency and a rapid build-up of gas-based industries. Gas and electricity production and distribution are mostly or entirely handled by the state. And countries aim to be self-sufficient, with little dependence on their neighbours. It is now time to accept that all the components of this model are failing.

Fast-growing populations and booming economies have dramatically increased demand, causing UAE electricity consumption to rise almost 10 per cent annually in the decade to 2008. The Gulf still has vast gas reserves but these are not as cheap as they once were. Regional gas prices are set far below the cost of new supplies. With this pricing regime, new gas developments are uneconomic and every attempt to invite foreign expertise and investment ends in protracted wrangling.

At the same time, these low prices contribute to explosive growth in demand. Successful new petrochemical initiatives cease to be about world-class operations or seizing market opportunities and degenerate into clever lobbying to secure limited rations of new gas. Wasteful energy use contributes to the world's highest carbon footprints and leaves Saudi Arabia in particular in the diplomatically uncomfortable spot of defending the indefensible at UN climate negotiations.

The Gulf is still not making the most of the international gas industry's expertise. Qatar has led the way in forging wide-ranging and durable partnerships with the supermajors to create its world-leading liquefied natural gas (LNG) business. Oman and Bahrain have brought in companies such as BP, Occidental and Abu Dhabi's Mubadala Development, while Shell is in the early stages of work in Kuwait and Iraq.

Although Saudi Aramco has upped its gas game in the past decade, limited exploration in the Rub' al Khali has been disappointing and in Iran, sanctions and domestic politics combine to hobble gas exports. The surge in North American "unconventional" gas output, now spreading to Europe, Australia and China, has not yet been repeated in the Gulf. Regional gas trade remains in its infancy with the Dolphin pipeline from Qatar to the UAE and Oman the only operating project. Saudi policy avoids the import or export of gas, importing states such as Bahrain, Oman and the UAE remain unwilling to pay competitive prices, Iraqi politics are deadlocked and Iran is unable to come to a decision on exports.

Yet Kuwait and Dubai are ready to import more expensive LNG. The ridiculous result, a modern version of bringing coals to Newcastle, is that LNG tankers leaving Abu Dhabi en route to Japan pass within hailing distance of similar vessels bringing the gas from eastern Russia to Kuwait. As for electricity generation, several countries have made progress towards independent power and water producers. But overall control remains in the hands of state-owned, integrated utility companies. In some cases these are struggling to keep up and, embarrassingly, Kuwait finds itself in last place, behind Nigeria, in the Power Business Environment rating. It is issued by Business Monitor International and is intended to measure the attractiveness of investing in a country's power sector.

A massive injection of resources and huge, state-backed spending to build a new generation of oil-fired power plants might solve the immediate problem. But the issue will return again in a few years. The region must not allow itself to become trapped in a Soviet-style spiral of ever-growing investments to postpone a crisis inherent in the system itself. The alternative is market liberalisation and a progressive end to energy subsidies, providing incentives to both state-owned and international companies to discover and develop new gas sources, introducing alternative energy such as nuclear and solar power and taking decisive action to transform the region's calamitous energy inefficiency.

Robin M Mills is an energy economist based in Dubai and author of The Myth of the Oil Crisis