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Article Excerpt
1. INTRODUCTION
Markets for natural gas have witnessed profound changes in the past decade. Liberalization in most parts of the world, restructuring of former vertically integrated supply chains, and falling transportation costs especially for liquefied natural gas (LNG) have pushed the emergence of a new "international natural gas market", replacing the former regionally segmented markets in North America, Europe, and Asia. In addition, traditional pricing schemes are being reviewed moving from long-term, often oil-price indexed natural gas prices towards prices based on market mechanisms.
The literature on market integration in commodity and natural gas market has studied a variety of regional integration processes, but global natural gas markets per se have not yet been analyzed. The integration of the North American market following FERC Order 436 (1985) has been studied extensively, e.g. by Serletis (1997), Walls (1994), and De Vany and Walls (1995), who use correlation and cointegration analysis. Results of an integrated market were confirmed by studies using other econometric tools such as time-varying coefficients, Johansen test procedure, and impulse response functions, e.g. King and Cuc (1996), Cuddington and Wang (2006), and Serletis and Rangle-Ruiz (2004). Work on the cointegration of European natural gas import prices was first carried out by Asche, Osmundsen and Tveteras (2001, 2002). For the UK market, that has been liberalized 15 years earlier than Continental Europe, Panagiotidis and Rutledge (2007) show that the linkage between the natural gas price and the price of oil has become more volatile over time which can be interpreted as a sign of decoupling of the natural gas price from the oil price. Neumann et al. (2006) have shown that integration between the UK market and the largest Continental European wholesale market (Zeebrugge) works well, but that price convergence between different Continental European markets is still to come about. Last but not least, Siliverstovs et al. (2005) were the first to address the issue of international market integration for natural gas; they concluded that for the period preceding liberalization of natural gas markets in Europe, i.e. the 1990s, the hypothesis of integrated transatlantic natural gas prices should be rejected.
The EMF 23 study has a focus on prices and trade patterns in international natural gas markets presenting regional prices for natural gas. These are mainly calibrated by linking natural gas to petroleum prices (EMF, 2007, p. 18). However, price dynamics in natural gas markets may differ from those of crude oil, e.g. due to a different industrial organization of the sector. Existing literature analyzes the relation of different commodities (Hartley et al., 2008, Brown and Yucel, 2008, Villar and Joutz, 2006) and argues in favor of a long-run stable relationship of crude oil and natural gas prices. This paper provides evidence on the integration of international natural gas markets, hence spot prices for a single commodity. We test the theoretical proposition that in integrating markets of homogenous products, prices should move in the same direction; when achieving full integration, price differentials should only represent differences in transportation costs and/or quality. Construction of LNG import and export facilities worldwide facilitates flexibility in global trade of natural gas. Our hypothesis, spurred by evidence and market participants, is that as markets, in particular transatlantic natural gas markets, are getting closer intertwined, price integration is the natural consequence.
The remainder of the paper is structured in the following way: the next section describes the recent developments on the international natural gas markets upon which our hypothesis of increasing integration is based. Section 3 provides the model specification and explains the data on natural gas and oil prices. Section 4 presents the estimation results: we find a trend towards a higher level of integration between North American and European natural gas prices. Section 5 concludes.
2. RECENT TRENDS IN INTERNATIONAL NATURAL GAS MARKETS
International natural gas markets have gone through substantial institutional and economic changes during the past decade. This section describes the major changes on the North American and the European wholesale markets, and points out the critical role of liquefied natural gas (LNG) for the process of integration.
2.1 Development of Trading Hubs in North America and in Europe
North America pioneered the restructuring of natural gas markets as early as the 1970s, with deregulation of wellhead prices (Natural Gas Policy Act,...
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