On 27 July 2022, the Council of the European Union issued regulations concerning the coordinated reduction of natural gas consumption (the "Regulations.") The Regulations represent the next step in the EU's response to Russia's use of natural gas as a political weapon. After weeks of haggling between Member States, the Regulations represent the "best" compromise the EU could construct to prepare for the looming threat of natural gas supply disruptions. The further goal is to promote solidary amongst Member States to confront any potential future crisis.
Set forth below our NUS Consulting Group's observations after reviewing the Regulations.
First, the Regulations clearly indicate that the EU is preparing for the worst-case scenario – i.e., a complete stoppage of gas supplies from Russia. The Regulations are an attempt to prepare for this worst-case situation. With the flow of gas through Nord Stream 1 down to 20 percent of capacity, Belarus stopped, and Ukraine decreasing – we are getting dangerously close to this situation.
Second, Member States have agreed to use "best efforts" to voluntarily reduce national gas demand between 1 August 2022 and 31 March 2023 by 15 percent, compared to their average gas consumption for the same period during the five preceding years ("Voluntary Demand Reduction").
Third, the Regulations introduce a new concept of a "Union alert," which may be declared when there is a substantial risk of severe gas shortage (or exceptionally high demand), for which the Voluntary Demand Reduction measure will not be sufficient. The issuance of a Union alert triggers "mandatory demand reduction" measures" on all Member States of 15 percent compared against the reference gas consumption period - generally, the average gas consumption for the period between August 1 to March 31 for the five prior years, unless the Member States gas consumption increased by 8 percent or more between August 1, 2022, and March 31, 2022 ("Mandatory Demand Reduction").
It is important to note that the EU is attempting to apply a single rule or framework to all Member States via the Union alert mechanism.
Fourth, due to a failure to find consensus, the Mandatory Demand Reduction requirements triggered by a Union alert are riddled with exemptions. These include reductions and exemptions for a Member State (a) whose electricity system is synchronized only with the system of a third party, (b) is not directly interconnected to the gas system of another Member State, (c) who has exceeded its storage August 1 storage targets, (d) may reduce reduction requirements by feedstock requirements, (e) flow gas through its system to other Member States; and (f) facing an electricity crisis due to no other economic alternatives to replace the gas necessary for producing electricity without endangering the security of supply.
In short, the new Regulations are riddled with holes, which means the uniform application will be near impossible.
Fifth, it is clear from the preamble of the Regulations that the EU Council is concerned about fragmentation and continuously highlights how solidarity is required to manage any crisis. The stark truth is each country in the EU is positioned differently with regard to Russian gas dependence. Some have been forward-thinking and invested in infrastructure, limiting their reliance on Russian gas. Others have taken little to no action and are now paying the price. Treating all Member States similarly will be difficult, particularly when, during the great financial crisis (GFC), countries in the EU with strong fiscal resources imposed austerity on others (for not adequately planning for the future).
The important point here is that the Regulations have no actual enforcement mechanism. If a Member State does not comply with the Mandatory Demand Reduction requirements – the Regulations state that "the Commission shall request the Member State to submit a plan setting out a strategy to effectively reach the demand reduction obligation." We have seen how well this works concerning the EU annual budget deficit requirements. Our guess is this mechanism will be just as effective in the event of a severe gas disruption.
More: Energy Market Commentary, Energy Regulation, Natural Gas, Nord Stream 1