Bank of Israel Governor Dr. Karnit Flug spoke to the Knesset Economics Committee today as part of the discussion on the natural gas outline plan. She began her remarks by discussing the importance of natural gas in general and to the Israeli economy in particular, and then discussed the current state of the natural gas economy and the measures taken thus far by the government. The Governor also discussed the advantages and weaknesses and riskss of the natural gas outline plan that has been formulated. The following are the main points of her remarks.
The natural gas outline plan being discussed here today requires us to first of all understand the importance of natural gas to today’s global energy economy, and to Israel, where significant gas deposits have been discovered. First, natural gas is an inexpensive and clean source of energy relative to other fuels currently in use; this is especially true for electricity production. There are many advantages to the use of natural gas, and expanding the domestic delivery infrastructure will make it possible to lower energy costs for other industries and will support economic activity and a lower cost of living. At the same time, a thoughfull use of the natural gas located within Israel’s economic waters will increase state revenue and will save costs to the public over many years.
Following the discovery of the natural gas reservoirs, the government took a number of steps when it adopted legislation based on the Sheshinski Committee recommendations to regulate the distribution of profits between the producing companies and the state, and increased the state’s portion by a significant amount compared with the previous law. In addition, based on the Tzemach Committee’s recommendations, the government set out the quantity of natural gas that would remain for domestic consumption in order to achieve energy security over time. The Bank of Israel was involved in both committees, and publicly supported the decisions that were made.
I would like to expand a little on the current state of the natural gas supply infrastructure to the economy. As of today, about one-half of electricity production in Israel is based on natural gas supplied almost exclusively from one reservoir—Tamar. The natural gas from this deposit is fed to a treatment rig. From there, the processed natural gas is fed through a single pipeline to the delivery system in Israel. As a result of the current state, a prolonged breakdown in one of the systems responsible for the flow of natural gas from the Tamar site to the delivery system in Israel would present the economy with a serious problem. In addition, the system delivering the natural gas from Tamar is already unable to supply the full demand for natural gas during peak hours. At those times, pontoons are used to enable the entry of imported natural gas, which is much more expensive, to the system. It is therefore clear that without further investment in infrastructure, demand for natural gas will, in a few years, exceed the supply ability of the Tamar site, and the economy will be required to make on-going purchases of fuels that are more expensive and/or polluting. From the standpoint of the market structure, the situation is that consumers face a single supplier, the limited infrastructure creates a situation where new consumers are already finding it difficult to obtain contracts with guaranteed supply, and it is clear that without expanding the supply capabilities by adding wells, natural gas consumers will be forced in a few years to make do with only a portion of the required quantities, build more expensive infrastructure to enable dual fuel use, or do without the use of natural gas.
The conditions described above mean that it is important to ensure a sufficient supply of natural gas to the economy, and to develop an alternative entry of natural gas to the delivery system in Israel as quickly as possible, as well as an additional source of natural gas that will create redundancy in the supply of natural gas to the economy. The rapid development of the Leviathan reservoir will provide an alternative system to the Tamar site in case of a breakdown, and will make it possible to increase the supply of natural gas as domestic demand increases. In the current situation, without the natural gas outline plan and agreement with the current developers, it will not be possible to make the required investments in development of the reservoirs and the delivery pipelines to the Israeli coast within a reasonable amount of time, particularly when past experience shows that it is not simple to bring energy companies with proven experience and ability to Israel.
As we have expressed in the past, the current outline plan has advantages as well as weak points and risks. The advantages include:
1. Accelerating the development of the Leviathan reservoir compared to the alternatives, and bringing forward the creation of redundancy in the supply of natural gas to the economy.
· The outline plan removes the dispute regarding the entry of the companies into a restrictive arrangement.
· The outline plan regulates export taxation. Exports will significantly help the developers to finance development.
· Exports that will enable the development of Leviathan will improve the conditions for competition over the price of natural gas to domestic consumers, derived from the marked increase in supply.
· The possibility of signing export contracts before connection to the coast.
· The milestones that have been set encourage the acceleration of development.
2. Regulating a number of options for setting natural gas prices, while giving domestic consumers a choice.
· The outline plan removes the uncertainty regarding prices during the transition period.
· The companies are limited in their ability to create price discrimination against specific consumers.
· The companies must offer the export price in the domestic market as well.
3. Realizing export contracts with Egypt and Jordan for economic and diplomatic considerations.
4. Opening the path to export as a channel for the realization of some of the economic potential of the natural gas fields, while maintaining energy security.
Among the weak points and risks, we can see that:
1. The outline plan creates redundancy in supply only in 2020, when the Leviathan reservoir will be developed, but does not solve the problem of a lack of redundancy and its attendant risks in the 4 years until then. It is therefore important that the government act to reduce the supply risks by more rapidly building an additional entry pipeline to the natural gas system.
2. The state’s declaration of its intention to construct a stable regulatory environment in the next 10 years may make it difficult for the government to manage the natural gas economy under varying conditions. Under the circumstances, it was not possible to reach an agreed-upon outline plan without such a declaration. In the future, the government should conduct itself in coordination among the various regulators and their positions. This will prevent the need for similar declarations that may become a precedent in the government’s relations with other entities.
The natural gas outline plan has another significant and important aspect, which is the management of its risks. There is a concern that the size of the domestic market and potential export contracts will not be sufficient to achieve financing for the development of the Leviathan and Karish-Tanin reservoirs. In such a case, redundancy in the domestic market will not be achieved, and the Tamar reservoir will keep its monopolistic status. In this context, I would note that the milestones set out for development of Leviathan reduce this risk. However, it is important to formulate an alternate plan of action already now in case there is no progress, including examining government investment in the required infrastructure. It is important to understand that in the absence of redundancy, there is a concern that the price-setting mechanism will not operate in the optimal way, since some of the options that it provides are conditioned on the availability of supply capability. An alternative price mechanism should therefore be developed, that will operate in a situation where supply capability does not increase.
In summation, under the existing circumstances, and in view of the need to move forward in developing the natural gas reservoirs, the Bank of Israel supports the adoption of the outline plan approved by the government. It is important to recognize the fact that, as with arrangements achieved through negotiation, the final outline plan is a result of compromise, and therefore does not bring the utmost achievement to both sides, but from the standpoint of the government and the public, it leads to a better result than the existing alternatives in terms of exploitation of the reservoirs, advancing redundancy of supply, and prices.