EU traders have pumped 600mn cubic metres of gas into Ukraine's underground storage bringing it up to 28.25% full as of August 17, slightly ahead of the same date a year earlier when they were 25.73% full. (chart)

With winter looming the race is on to fill gas storage as full as possible before the heating season starts to avoid a repeat of last year’s energy crisis. Ukraine has the largest gas tanks system in Europe, but since Russian gas supplies transiting have been reduced its tank system is largely underutilised.

But now Ukraine is starting to take the overspill after Europe’s tanks hit the 90% full mark two months early in August, and as the EU runs out of room to store more gas.

Energy Minister Herman Galushchenko noted that Ukraine's storage facilities are the largest in Europe, with a total volume of more than 30bn cubic metres and with 15 bcm still available for European partners.

By the start of the heating season the ministry estimates there will be roughly 3.5 bcm of foreign traders' gas in its underground storage facilities, the Wall Street Journal reported, as cited by UBN.

Since storage facilities in the EU are already 89.75% full against a target of 90% on November 1, prices may skyrocket, as the stored gas is insufficient to meet all of the winter’s excess demand for gas and there is simply nowhere in the EU to store the newly purchased gas. Traders are already speculatively pumping cheap gas into Ukrainian tanks now in preparation to selling it later in the winter when prices rise as demand returns and supplies fall. Just how high the prices will climb depends heavily on the weather this winter. While prices have already reduced from their 10-times normal levels last year, they remain approximately three-times higher than the long-term pre-war levels. The potential profit from selling 3.5bcm of gas during peak demand could amount to $370mn, according to the WSJ. Bruegel put the potential profits for traders much higher at €2bn if they make a lot of use of Ukraine’s storage facilities.

And Ukraine’s tanks can hold a lot more gas. Think-tank Bruegel estimates that Ukraine could add 10% to Europe’s storage capacity. Europe is currently on course to hit 100% full tanks in September, with another month to go before the net flows of gas turn from positive to negative after it gets cold and countries start withdrawing more flows into the system.

The highest storage rate Ukraine’s gas tanks reached was 32.58% full on November 2 last year, according to Gas Infrastructure Europe (GIE), which only started recording Ukraine’s tank storage in early 2022. This is way down from the pre-conflict days when Ukraine used to store much more to meet Europe’s excess gas demand during the winter months.

“It is possible, however, that during September and October there may be an oversupply of gas in the EU. Storage facilities will be full and winter demand will not yet have picked up. This capacity limit could undermine the EU’s ability to carry gas over from gas-abundant summer months to potentially gas-scarce winter months,” Bruegel said in a recent report.

August and September 2023 futures at time of writing are trading at €26 per megawatt hour, while futures for the first quarter of 2024 are trading at €49/MWh. This spread of €23/MWh – greater than the absolute pre-crisis price – reflects the significant premium associated with providing gas to the European continent in the winter compared to the summer, especially if the winter is particularly cold.

Ukraine has the largest storage tanks in Europe, but they have been underutilised in recent years, even before the war started. Ukraine’s storage tanks have a total storage capacity of 31bcm, with the biggest tank with a capacity of 17bcm sitting on the Ukraine-EU border far from the fighting.

Inside the EU, Germany has the biggest storage tanks, making it a distribution hub during the winter, and its 23 bcm of storage accounts for 22% to the EU’s total gas storage capacity. That’s enough to meet the winter’s excess demand in normal years, but the tanks were only designed to meet the swing demand in the winter, not supply Europe completely with gas during the coldest months; the whole system was set up to meet this excess demand, but assumed that Russia would continue a steady supply of gas as normal throughout the winter.

Now that Russia’s exports of gas to Europe have fallen from the pre-war circa 150 bcm per year to an estimated 25 bcm that is expected to arrive this year, there is a huge 70 bcm hole in the supply, according to bne IntelliNews calculations, that the EU’s tanks can’t cope with, even if Ukraine’s tanks are filled to capacity: together the EU tanks (which are now 90% full) and Ukraine’s tanks (28%) can hold a total of 54 bcm, but currently only contain 20.7 bcm and 9.2 bcm of gas respectively.

Ukraine needs an estimated 14 bcm for its own use in normal years, and pre-war produced 20 bcm from its own gas fields in the west and east of the country. Although supplies have been reduced, the destruction from the war has massively reduced its domestic demand and it was able to muddle through last year.

A lot of Europe’s missing supply will come from LNG imports. The EU imported 130 bcm of gas in 2022, a 60% increase from the 80 bcm it imported in 2021 that completely covered the missing Russian gas – but at enormous cost.

If the same excess 50 bcm of LNG can be imported again that will go a long way to plugging the 70 bcm hole in Europe’s needs compared to “normal” times. Last year, Europe was able to import so much excess LNG thanks to a nasty economic slowdown in China which found itself with spare LNG on its hands and sold it to Europe. This year demand in China was expected to rise after strict COVID-19 restrictions were lifted, but according to the latest reports, China’s economy has failed to recover as fast as expected, suggesting there will be excess LNG available on the market again this year.

Bruegel says there is probably another 9 bcm of capacity available to European traders in Ukraine’s tanks that will help a lot, but with the heating season due to start in November there is probably not enough time to achieve that and most of Western gas being stored at the moment is being driven by speculative traders, not thanks to any strategic decision in Brussels to insure Europe’s demand in the winter.

“So far in 2023 European traders have not made significant use of Ukrainian storage, for three main reasons: the first is war risk and the potential for damage to gas infrastructure. Given that gas storage facilities themselves are located well below ground, pipeline infrastructure might be more vulnerable. There are calls for the European Union to offer insurance to cover the associated risk borne by traders,” says Bruegel.

“Second: timing. The EU’s gas-storage filling targets focus on filling to 90% storage facilities within each EU country, and as a result incentivise the first volumes of gas flowing there. It is possible therefore that Ukrainian storage will be utilised more once European countries hit their targets. However, an issue with this approach is the capacity limit of getting gas into Ukraine. For the pipeline routes from Slovakia, Poland, Hungary and Romania, we estimate that technically no more than 17-20 TWh [1.61-1.89 bcm] per month can travel from the EU into Ukraine. This volume may be topped up by ‘virtual reverse flow’, which involves EU countries virtually sending gas back to Ukraine that was intended to transit into their systems – this will all be Russian gas, as that is the only gas which currently transits Ukraine into the EU (Pirani and Sharples, 2020). In any case, waiting until October 2023 to start sending gas to Ukraine would limit the amount of capacity that can be used,” Bruegel says.

“Finally, European traders might worry that Ukraine will not send the gas back to the EU in a very cold winter. As European support and the EU accession process involve a strong commitment from Ukraine to meet its obligations, member states or the EU can confidently provide explicit insurance for traders,” Bruegel concludes.

The alternative solutions are for demand reduction, make more use of renewables and reverting to other fuels like increasing the use of coal powered stations. Last year Europe managed to reduce demand by 15% on pre-war use of gas, but part of that was unintentional as power and gas-hungry industries closed down due to the high costs as part of Europe’s ongoing de-industrialisation. That process continues and is contributing to a general economic slowdown in Europe that will also reduce demand.