Europe faces a massive challenge as it seeks to manage the transition to non-carbon based energy, but it must not forget the need for oil and gas. Statoil’s Chief Economist Mr Wærness recently argued that even getting enough oil and gas to satisfy demand in a below 2 degrees Celsius world would be a “huge challenge”. Although coal demand is expected to fall, demand for oil and gas is likely to continue to be substantial, and the industry will be expected to ensure security of supply.

According to a European Commission spokesperson, the EU currently imports 53% of its energy at a cost of around EUR 400 billion per year, which makes it the largest energy importer in the world. 94% percent of transport relies on oil products, of which 90% is imported. That dependency is only expected to get bigger as upstream investment plunges in the North Sea, the EU’s only major oil and gas producing region, where costs are amongst the highest in the world.

In its September report, the International Energy Agency (IEA) said cheap oil ushered in by Saudi Arabia’s policy of protecting its market share, now looks likely to succeed in squeezing out high-cost producers such as those in Europe. As a result the IEA predicts 2016 will see the biggest drop in non-OPEC output since the late 1980s. “On the face of it, the Saudi-led OPEC strategy to defend market share regardless of price appears to be having the intended effect of driving out costly, ‘inefficient’ production,” said the IEA.

Analysts, Wood Mackenzie, said at the SPE Offshore conference in Aberdeen earlier this month that 140 North Sea fields could be closed over the next five years, representing 44% of the 320 fields currently operating in the UK North Sea. But Wood Mackenzie’s prediction assumes an oil price of $85/bl. If prices settle at $70/bl, it said another 50 fields could cease production even earlier than expected. Recently price forecasts have dropped even lower, with Goldman Sachs suggesting they could go as low as $20/bl before any rebound, leaving even a $70/bl average some way off.

Only 38 new North Sea fields had been scheduled to come on-stream over the next five years, and with most still at the planning stage, the deferral of spending in 2015 may turn to project cancellations if the current price environment persists. Trade body, Oil & Gas UK, warned that money spent on developing new fields is expected to fall to as little as £3bn in each of the next two years, compared with nearly £10bn a year from 2011 to 2013, while it said spending on fixed assets could fall to almost nothing by the end of 2017.

Domino effect

According to Andy Samuel, the head of the UK’s new Oil and Gas Authority, there is a “serious and urgent risk” that parts of the North Sea oil industry will be abandoned unless energy companies join forces to become more efficient. Mr Samuel warned that “whole areas of the continental shelf” could be shut down if critical infrastructure is decommissioned too soon. He said there could be a “domino effect”, where one company quits an area, leaving others to share more of the cost of maintaining infrastructure.

Speaking at the SPE conference, Amjad Bseisu, chief executive of independent operator, EnQuest, underlined Samuel’s comments: “It is important that government and regulators understand that if you lose one company, there will be an impact on others because of infrastructure costs.” EnQuest is working on only two of the 12 discovered but undeveloped fields it owns. Many of the big oil companies operating in the region have already decided to sell off sizeable parts of their portfolios. Shell said in July it would shrink its portfolio in the region, while BP, ExxonMobil and Total have been selling upstream and midstream assets.

There is little more the UK government can do. It has already provided substantial tax cuts and is attempting to adapt regulation to encourage extraction of maximum value, as recommended in 2014’s Wood Report. There is one glimmer of hope, in that the lower prices are focusing minds on reversing the recent rise in North Sea costs. According to Oil & Gas UK, the industry will have cut 22% from operating costs to $15/bl by the end of 2016, a saving of £2.1bn, although this is still high compared with other regions.

Demand edging up While European production is falling, cheap fuel is boosting demand, with global growth set to hit a five-year high this year, according to the IEA’s September report. European oil demand had been steadily falling, but this year demand has edged higher in parts of the continent, with rises of about 3% in gasoline demand in countries like France and Italy, according to European Commission figures.

Without continued falls in oil demand, Europe is in danger of replacing domestic output with ever greater import dependency – and dependency on countries with far less rigorous environmental, social and safety standards. “Given the EU's import dependence and global climate change challenges, we need to take additional measures to reduce its oil consumption,” said the EC spokesperson. The same is true for gas, where lower domestic production (from the North Sea and Groningen) will mean higher imports and higher prices – in the longer term at least - making gas expensive compared to more highly polluting coal, which should be of further concern to environmentalists and policy makers. Some of the sharpest falls in CO2 emissions have come as a result of cheap gas replacing coal – in the UK during the 90s and US since 2008.

Without domestic European production the environmental and social burden of the oil and gas we consume is that much greater, both in lower standards of social and environmental practice in the countries of origin, and additional use in transportation. Political, sectarian and racial strife and oppression, and specific issues such as leaky Russian gas pipelines and Qatari labour standards, all need to be included in the debate over European shale gas or Statoil’s Artic drilling.

Conventional energy companies also have an important role to play in mitigating climate change as part of the transition to a lower carbon economy, while also ensuring high standards of environmental and social responsibility. These challenges require supportive regulation and high levels of investment.

The market will provide

The EC spokesperson said the answer to increased import dependence was already being addressed through the EU's key strategic energy objectives “such as the diversification of supply (energy sources, suppliers and routes) as laid down in the Energy Union Strategy”. And she said the issue of increased coal use or shale gas extraction was for national governments to decide: “As laid down in the EU Treaties, the decision on the energy mix in the Member States is an exclusive national decision. The Commission respects this but as guardian of the treaties will make sure that the EU's 2020 and 2030 energy and climate targets (CO2 reduction, boost renewable, increase of energy efficiency) are met…. Producing oil and gas from unconventional sources in Europe such as shale gas is an option, provided that issues of public acceptance and environmental impact are adequately addressed.”

But without access to its own oil and gas supplies, Europe is leaving itself increasingly exposed to potential external shocks, so needs to accelerate efforts towards renewables, as well as improving the environment for domestic oil and gas production. Earlier in the year, Eni’s CEO, Claudio Descalzi, warned that oil prices could rise up to $200/bl in the longer term if OPEC failed to cut supplies. "A lot of our projects are long term to have production in five or six years. And that is a problem. If you are cutting capex drastically now - we can have a lack of production in four or five years creating a new increased oil price at $200 maybe." At this point his predictions look right on course, and Europe should be prepared.

Image: Offshore oil drilling platform. By: TheConduqtor, CC BY-SA license.