A report on Japan Gas deregulation
Japan, a country known for its technology and hard-working citizens, is in actual a resourceless country. It is an irony that it provides a plethora of services to the world although being a resource-deficient country.
It is dependent on imports for 94% of its primary energy supply. According to EIA, Japan is the world’s largest LNG importer, second-largest coal importer and third largest net importer of crude oil and oil products. This fact automatically indicates that it is trying to incline towards more of natural gas based energy in comparison to others. Fukushima disaster proved to be a stimulus in shifting the concern from nuclear to LNG.
Although this country is relying on LNG to a great extent but its gas market is in a nascent stage. Instead of having a well-built trading scenario as found in US and Europe, it is totally opposite in this aspect. Some of the characteristics are as follows:-
(i) Reliance on neighbors-
It imports around 85% of total imports from Middle East countries. Malaysia & Myanmar are also the key players. There is a future plan of having an international pipeline with Russia.
(ii) Poor pipeline infrastructure-
Natural gas is transported in a liquid state at international level whereas it is mobilised in gaseous form within the country which needs a robust pipeline structure. Japan is having less than 20 LNG terminals. There is no provision of interconnection which prompt players to supply within its service area only. So, there is a lack of nationwide long gas supply connections.
(iii) Absence of integrated market-
There is no wholesale market and industry. Every independent gas utility is working in its specific area. They all have long-term contracts purchasing with the main supplier.
(iv) High price range-
According to OECD report, gas rates in Japan for the household purpose are thrice the rate in a general OECD country. Even industrial customers are paying twice the charges.
(v) No structural division-
A company solely handles production, transport and distribution. Few hurdles against the good infrastructure arise because of natural reasons of highly mountainous terrains and lack of natural resources.
Similar to other energy markets, the gas market in Japan also involves the process of purchasing, storing, transporting and distributing. It follows the principle of vertical integration as gas suppliers bear the onus of entire process from production, procurement, transportation, distribution and retailing of gas.
The full market is governed by the Ministry of Economy, Trade and Industry (METI). It was created by the merger of Ministry of International Trade and Industry (MITI) with other economic related agencies in 2001.
Gas utilities are the agents who interact with final customers. They perform few of the following activities:-
(a) Import actions
(b) Regasification of liquid state LNG
(c) Manufacturing(in case of domestic)
(f) Efficiency improvement
(g) Spreading awareness
4. Towards deregulation
In simple terms, deregulation means the reduced control of government so that competition can be fostered in the industry. There is a big difference between the Japan and Western nations market.
5. Deregulation- a helping hand
Deregulation serves the following objectives with the ultimate goal of 360-degree development.
5.2 Regulatory framework
The law which governs the Gas Utility is Gas Utility Industry Law, 1923. It is the original law. It provides METI with the responsibility to supervise and regulate the gas industry. It can include tariff setting, smooth operations, closures, etc. It sets the standard for pricing which includes return on investment and operating cost. Deregulation came into the picture by amendments in Gas Utility Industry Law in March 1995. Its main provision was to allow natural gas distribution companies to supply large industrial customers outside of their service areas. Deregulation was a giant step towards full liberalization of the retail market. Deregulation was not a one step process but a series of events in multiple years i.e. a timeline process.
5.3 Deregulation- a progressive timeline process
Though deregulation is a positive process, but few issues associated are acting as a hurdle which needs to take care of.
6. Scope for market
6.1 In parallel with market
The real fruit of deregulation is impossible without implementing a robust but flexible market. The market platform will better facilitate the trading process. The trading process requires
pricing standards. Currently, the world is having 3 gateways for that which are as follows-
Currently, Asian countries are at a little disadvantage because of a price gap in LNG between Asia and Atlantic market. Asian price range is comparatively higher. This phenomenon is also termed as ‘Asian Premium’. So, relaxation due to collapse in oil prices and easing in supply-demand balance is of little relief to the Asian players. This differential pricing dilemma must be properly dealt with. It is an obstruction against a suitable market structure. Few challenges are as follow-
(a) Urgency of flexibility-
Elements like large volume long-term rigid contract, take or pay contracts and destination clauses are a tool of inflexibility. ‘Take or pay’ means buyer has to pay whether it takes the cargo or not. Cargo represents the gas supplied to the buyer. It can be tackled by increasing the margin between Downward Quality Tolerance (DQT) and Upward Quality Tolerance (UQT). Destination clauses restrict the buyers to resell to another buyer without the seller’s consent.
Flexibility will prepare the industry for the unpredictable future demand because of further liberalisation.
(b) Appropriate pricing-
So far, Japan Crude Cocktail (JCC) pattern was followed. It must be modified now as oil referencing is of no use because natural gas is in way ahead in competition with oil now. It will be better to adopt hybrid pricing and bringing diversification by merging selective characteristics of Henry Hub, NBP, Spot LNG prices and Oil indexation.
(c) Ensuring gas supply-
It can be achieved by source heterogeneity on the global basis. Japan is already striking deals with Russia in this regard.
(d) Secured investments-
Long term contracts which feature gas on gas competition (market) pricing will help.
So, it all must lead to a liquid market which possesses stabilising mechanism through arbitrage.
6.2 Delving into market–
A market is like a sports field constituted by a game strategy and the players. All players are always in thirst of maximizing their payoff. The emergence of the gas market created 3 entities- incumbent wholesalers, second-tier players and gas producers. Incumbent wholesalers are those who still follow oil-indexing for pricing reference. They are an ultimate looser although their situation is unclear. They won’t be able to fight the competition against new market-based players as their cost is low because of trading platform and gas supply glut. Though incumbents try to achieve the status-quo of oil-indexing taking help from their reserved facilities including contractual flexibility, long-established intelligence & network, reliable margin, preferential infrastructure access and price discovery through access to multiple contracts. Incumbents are facing a defeat situation considering a holistic approach. Market liberalization, commissioning & spread of market-based pricing, new import (piped & LNG) and transportation infrastructure along with reduced expected demand is reducing the market price. It is creating a win-win situation for the new second tier players. Gas producers are usually at a benefit in most of the situations. Market price depends on scarcity and oversupply of gas. Scarcity will lead to higher spot price and vice versa.
6.3 Market enriching competition-
The competition will be in level only when price convergence will take place.
It will force the suppliers to enhance their quality and security. The differential pricing can be solved by arbitrage which is absent in the gas market currently.