To keep its office and apartment blocks lit and cooled as cities expand further into the desert, the GCC will require almost 60,000MW of new power capacity by 2015, according to MEED estimates.

The GCC’s growing population will also need to be watered. MEED forecasts that GCC countries will need to almost double the installed desalination capacity to an estimated 5,000 million gallons a day up to 2015, to meet average demand growth of 8 per cent a year.

These power and water requirements are a huge driver of regional growth in demand for natural gas, which is set to increase by 6.6 per cent a year over the five years from 2007 to 2012.

This is more than twice the forecast increase in demand for oil over the same period, according to research by Dubai-based investment bank Al-Mal Capital.

However, gas production will grow only marginally faster than demand, at 7.6 per cent a year.

Any unexpected surge in demand could leave the region struggling for supplies. Gas is favoured as a feedstock for turbines because it is cheap compared with oil.

But the growing need for power is not the only reason for the increased demand. Government industrialisation programmes designed to diversify the GCC oil economies are also increasing the demand for gas to be used as feedstock for petrochemicals plants.

Gas injections into oil fields to maintain reservoir pressure are another significant source of GCC demand.

Ample reserves

It is fortunate, then, that the Gulf is home to four of the five largest gas reserves in the world. Only Russia produces more. Qatar is the second-largest producer with 907.3 trillion cubic feet in its North field, the largest standing gas field in the world, accounting for 14.2 per cent of global reserves.

According to research by Kuwait-based investment company Global Investment House and UK energy giant BP’s Statistical Review of World Energy 2008 report, Saudi Arabia follows at 4 per cent with 253 trillion cubic feet, and the UAE is fifth with 216.8 trillion cubic feet, or 3.4 per cent of the global market.

However, concerned about the depletion of its North field reserves, Qatar issued a moratorium on further projects at the field in 2005.

The possibility of a supply crunch has become a reality that governments and private investors have had to consider when assessing the feasibility of building, for example, gas-dependent manufacturing plants.

But while governments and investors may be facing up to the reality of a supply crunch, GCC citizens have not yet had to come to terms with the possibility of acute power shortages that could come as a result.

They have had little reason to worry so far, with power cuts still relatively rare and tariffs low.

“They have just been getting by,” says Bobby Sarkar, energy analyst at Al-Mal Capital.

Without much-needed investment, however, power cuts are exactly the kind of scenario being discussed as governments around the globe assess the impact of fluctuating oil prices.

But this investment is unlikely to materialise without an overhaul of the GCC pricing system for gas, says Justin Dargin, research fellow at the Belfer Center for Science & International Affairs at Harvard University.

The GCC governments currently underwrite their gas production, selling to domestic users such as power stations and desalination plants at close to well-head prices. At such low prices, investment to increase domestic production is unattractive for state energy firms.

In 2007, the domestic price in Qatar was $0.87 a million BTUs, and $0.75 a million BTUs in Saudi Arabia and the UAE.

This compares to globally traded ‘Henry Hub’ gas prices – the pricing point for natural gas futures contracts traded on the New York Mercantile Exchange – averaging about $7 a million BTUs.

Chronic shortage

According to Jonathan Stern, professor at the Oxford Institute for Energy Studies in the UK, unless domestic gas prices rise to at least $5 a million BTUs, GCC countries will remain chronically short of gas.

“Below these levels, nobody will invest in exploration and production as national oil companies find it unfeasible to produce and supply the domestic market without government subsidisation guarantees,” he says.

Considering the volume of gas reserves in the Middle East, it could be argued that the energy crises in the region are almost entirely self-induced.

The UAE is one example of what Stern calls “perverse incentives”. Despite having the fifth-largest gas reserves in the world, it is predicted to face a deficit of 1.5 billion cubic feet a day by 2017.

The artificially low price set for domestic gas, at $0.75 a million BTUs, means it is more attractive to import gas from Qatar via the Dolphin pipeline than to develop more of its own gas.

At the same time, Abu Dhabi is positioning itself to become a major regional and international supplier of liquefied natural gas (LNG), shipping about 260 billion cubic feet a year to Japan, and 11 billion cubic feet to Spain.

These are markets where much higher prices can be commanded compared with at home, making the investment needed to deliver the gas worth it.

Oman faces a similar situation, using its own reserves of natural gas for LNG exports, while importing gas from Qatar via the Dolphin pipeline to feed its domestic market.

These are the clearest examples of the inefficiencies that arise from prices that are kept artificially below international market rates.

Such low prices have therefore introduced a contradiction in the energy system that will eventually force a price change, says Dargin.

Both the UAE and Oman are net natural gas exporters, but their future gas development is dependent on production from ‘tight’ gas reservoirs – geologically complex structures that are harder to access than conventional reserves.

Price pressure

The UAE needs more gas to cater for growing demand, but the two main players in the region – Qatar and Iran – are refusing to sell. Qatar has imposed a moratorium on further projects, but Iran is playing an altogether harder game, refusing to sell until an agreement is reached for a higher price.

Because of its pricing policy, the GCC has no incentive to invest in new gas production for domestic markets.

But this has only become apparent with the rapid economic and industrial growth in the region, and the increase in crude oil prices, which has led to the maximisation of oil exports and a pressure to substitute gas for oil in the domestic economy.

The region is moving, if gradually and haphazardly, towards addressing the issue, forced by necessity to deal with the problem rather than pronounce a root-and-branch reform on the gas-pricing system.

When Dubai needed to secure additional short-term supplies of gas because of delays in the construction of the Dolphin pipeline, Qatar Petroleum redirected 400 million cubic feet a day of its surplus gas to Dubai.

The short-term delivered price agreed by Qatar and Dubai for the gas was $4 a million BTUs, more than twice the price set under the Dolphin agreement, which demonstrates the potential market price for domestic gas in the region.

That some countries are seriously looking at alternative energy sources such as coal-fired power stations could be seen as evidence of how big the current pricing obstacles are.

To match demand and power-generation capacity, the two largest emirates, Abu Dhabi and Dubai, are considering alternative feedstocks for some of their power plants.

Abu Dhabi has indicated that it will develop nuclear power plants in a bid to save its dwindling supplies of natural gas for the export market.

Dubai, ahead of the others, has launched feasibility studies for coal-fired power plants.

Perhaps the strongest signal over the gas feedstock issue came from Riyadh in 2006, when the Saudi government decreed that all future coastal power and desalination capacity would be oil, rather than gas, fired, as originally planned.

The decision seems to be vindicated, as crude oil prices have fallen from their highs of almost $150 a barrel in July 2008 to less than $65 a barrel by late-October.

Gas prices are a politically charged subject in the region. With inflation currently in double digits across much of the GCC, most governments would be loath to add to the consumer price index rises with higher gas tariffs.

There is also a psychological barrier to raising gas tariffs for consumers. Many GCC citizens view low prices as a birth right.

But some analysts are optimistic that, through sheer necessity, a solution will be found. “It won’t be a lights-out situation” says Sarkar.

“But in the long term, new projects need to come on line before we can see the industrialisation plans pushing forward”.

As the Gulf countries find it difficult to produce their domestic gas, importing from outside the GCC at a much higher price, they will quickly find that the difference between their domestic tariffs and the cost of importing gas will become unsustainable.

“They will be forced to introduce a type of liberalisation to encourage domestic gas production and come closer to what the ‘real’ demand is,” says Dargin.

“At current prices, demand is artificially high. If they undertake these actions, then the blackouts that many GCC countries have been experiencing will be mitigated.”