1. The Impact of Securing Alternative Energy Sources on Russian-European Natural Gas Pricing
Nathalie Hinchey
Department of Economics and James A. Baker III Institute for Public Policy
Rice University
The 40th Annual IAEE International Conference, 2017

2. Motivation
Research Questions
What economic forces explain Russian gas pricing in Europe?
Does diversifying supply sources reduce price?
Do the profits of securing capital to diversify supply sources outweigh the costs?

3. Gas Price Discrepancies in Europe
Motivation
Gas Price Discrepancies in Europe

4. Lower Pricing in Western Europe
Motivation
Lower Pricing in Western Europe
WESTERN EUROPE
CENTRAL EUROPE
SOUTH/EAST EUROPE
LNG IMPORT TERMINALS 19 2 1
HUB PRICING
88%
53% 4%
DIVERSIFIED SUPPLIERS  

5. Floating Storage Regasification Units
Motivation
Floating Storage Regasification Units
In 2014, Lithuania negotiated a 23% price decrease with Gazprom
Cost 96 million Euros + 66 million Euros/year
Can this price decrease be explained by diversification? Or oil price collapse?

6. Presentation Outline Theoretical Model Empirical Model and Data
Examine the Baltic Region
Conclusions and Policy Implications

7. Asymmetric Nash Bargaining
Theoretical Model
Asymmetric Nash Bargaining
European country forecasts demand
𝑄 𝑖 = 𝑄 𝑖 𝑅 + 𝑄 𝑖 𝐿 + 𝑄 𝑖 𝐼
Russia observes
Asymmetric Nash Bargaining Solution =
Price
𝑃 𝑖 𝑅∗ =𝑓 𝑄 𝑖 𝑅 , 𝑄 𝑖 𝐿 , 𝑄 𝑖 𝐼

8. Asymmetric Nash Bargaining
Theoretical Model
Asymmetric Nash Bargaining
𝐶=𝐶𝑜𝑛𝑠𝑡𝑎𝑛𝑡 𝑐𝑜𝑠𝑡 𝑜𝑓 𝑒𝑥𝑡𝑟𝑎𝑐𝑡𝑖𝑜𝑛
𝜏 𝑈𝑆𝑆𝑅 𝑖 =𝐵𝑎𝑟𝑔𝑎𝑖𝑛𝑖𝑛𝑔 𝑃𝑜𝑤𝑒𝑟
𝑃 𝑖 𝐷 =𝐷𝑜𝑚𝑒𝑠𝑡𝑖𝑐 𝑝𝑟𝑖𝑐𝑒 𝑜𝑓 𝑔𝑎𝑠
𝑃 𝑖 𝐷𝑜 =𝐷𝑜𝑚𝑒𝑠𝑡𝑖𝑐 𝑝𝑟𝑖𝑐𝑒 𝑎𝑏𝑠𝑒𝑛𝑡 𝑅𝑢𝑠𝑠𝑖𝑎𝑛 𝑖𝑚𝑝𝑜𝑟𝑡𝑠
𝑇 𝑖 𝑄 𝑖 , 𝐷 𝑖 =𝑇𝑟𝑎𝑛𝑠𝑝𝑜𝑟𝑡𝑎𝑡𝑖𝑜𝑛 𝑐𝑜𝑠𝑡𝑠
𝑃 𝑖 𝑅 =𝑃𝑟𝑖𝑐𝑒 𝑜𝑓 𝑅𝑢𝑠𝑠𝑖𝑎𝑛 𝑔𝑎𝑠

9. Profit Functions Russia’s payoff function:
Theoretical Model
Profit Functions
Russia’s payoff function:
𝜋 𝑖 𝑅 = 𝑃 𝑖 𝑅 𝑄 𝑖 𝑅 −𝐶 𝑄 𝑖 𝑅
Russia’s payoff if negotiations breakdown:
𝜋 i 𝑅𝑜 =0

10. Theoretical Model
Profit Functions
European Country’s payoff function: 𝜋 𝑖 𝐷 = 𝑃 𝑖 𝐷 𝑄 𝑖 − 𝑃 𝑖 𝐼 𝑄 𝑖 𝐼 − 𝑃 𝑖 𝑅 𝑄 𝑖 𝑅 − 𝑃 𝑖 𝐿 𝑄 𝑖 𝐿 − 𝑇 𝑖 𝐼 𝐷 𝐼 𝑖 , 𝑄 𝑖 𝐼 − 𝑇 𝑖 𝑅 𝐷 𝑅 𝑖 , 𝑄 𝑖 𝑅 − 𝑇 𝑖 𝐿 𝐷 𝐿 𝑖 , 𝑄 𝑖 𝐿 If negotiations breakdown: 𝜋 𝑖 𝐷𝑜 = 𝑃 𝑖 𝐷0 𝑄 𝑖 𝐼 + 𝑄 𝑖 𝐿 − 𝑃 𝑖 𝐼 𝑄 𝑖 𝐼 − 𝑃 𝑖 𝐿 𝑄 𝑖 𝐿 − 𝑇 𝑖 𝐼 𝐷 𝐼 𝑖 , 𝑄 𝑖 𝐼 − 𝑇 𝑖 𝐿 𝐷 𝐿 𝑖 , 𝑄 𝑖 𝐿

11. Asymmetric Nash Bargaining Price
Theoretical Model
Asymmetric Nash Bargaining Price
𝑃 𝑖 𝑅∗ = 𝜏 𝑈𝑆𝑆 𝑅 𝑖 𝐶+ 1−𝜏 𝑈𝑆𝑆 𝑅 𝑖 [ 𝑃 𝑖 𝐷 − 𝑃 𝑖 𝐷𝑜 𝑄 𝑖 𝐿 + 𝑄 𝑖 𝐼 𝑄 𝑖 𝑅 + 𝑃 𝑖 𝐷 − 𝑇 𝑖 𝑅 (𝐷 𝑅 𝑖 , 𝑄 𝑖 𝑅 ) 𝑄 𝑖 𝑅 ]
𝜕 𝑃 𝑖 𝑅∗ 𝜕( 𝑄 𝑖 𝐿 + 𝑄 𝑖 𝐼 ) = 1−τ 𝑈𝑆𝑆 𝑅 𝑖 𝑃 𝑖 𝐷 − 𝑃 𝑖 𝐷𝑜 1 𝑄 𝑖 𝑅 <0
𝑃 𝑖 𝑅∗ = max 𝑃 𝑖 𝑅 ∈𝑅 𝜋 𝑖 𝐷 − 𝜋 𝑖 𝐷𝑜 𝜏 𝑈𝑆𝑆 𝑅 𝑖 𝜋 𝑖 𝑅 1−𝜏(𝑈𝑆𝑆 𝑅 𝑖 )

12. Data Eurostat Trade Database from 2009-2015 12 EU members
Empirical Model and Data
Data
Eurostat Trade Database from EU members
Quantity in TJ/ Prices USD
USSR includes Satellite countries
Heating Degree Days (18 Degrees Celsius)
Distance in 1000 KM between capitals
Trade partners: Russia, Norway, Qatar, Algeria

13. Empirical Model and Data
Estimated Model
𝑃 𝑖,𝑡 𝑅 = 𝛽 0 + 𝛽 1 𝑞 𝑖,𝑡 𝑜 𝑞 𝑖,𝑡 𝑅 + 𝛽 2 𝐵𝑟𝑒𝑛 𝑡 𝑡 + 𝛽 3 1 𝑈𝑆𝑆𝑅 𝑖 + 𝛽 4 𝐷 𝑅 𝑖 + 𝛽 5 𝐷 𝑅 𝑖 𝑄 𝑖,𝑡 𝑅 + 𝜖 𝑖,𝑡
Expect 𝛽 1 <0
Instruments: HDD and Distance from Oslo

14. Correlated Random Effects
Empirical Model and Data
Correlated Random Effects
Used Panel Data in Estimation
𝜖 𝑖,𝑡 = 𝑐 𝑖 + 𝑣 𝑖,𝑡
Fixed Effects not appropriate due to importance of time invariant parameters
Use Correlated Random Effects
𝑐 𝑖 = 𝛾+𝜑 − 𝑞 𝑖 𝑜 𝑞 𝑖 𝑅 + 𝑎 𝑖

15. Empirical Model and Data
Results

16. Lithuanian FSRU Independence
Examination of the Baltic Region
Lithuanian FSRU Independence
Lithuania saved 130,000, Euros in from diversification
More than offset the annual cost of 75,600,000 Euros in 2016
FSRU can supply 90% of the Baltic’s gas demand
Possibilities to supply Estonia and Latvia

17. Conclusion and Policy Implications
Empirically shown that diversification secures lower prices from Gazprom
European policy is supportive of those who seek to diversify
Floating LNG terminals are making diversification more feasible
This research provides support for EU diversification initiatives