The TTF trap that Europe must avoid.
Column of Francesco Grillo for the italian newspaper Il Messaggero.
“If I had believed in the theory of the efficiency of the financial markets I would still be in the business of delivering newspapers right now”
It was Warren Buffet who made fun of the theory according to which stock exchange markets would be able to capture the value of the stocks traded. Actually, Buffet himself managed to earn a great deal of money going from delivering newspapers to trading stocks, bonds and commodities.
And yet it is true that stock exchanges are typically useful to allocate scarce resources to their most efficient uses...Sometimes, however, they become money machines with zero risks for some, leading to the financial ruin of many others.
This seems to be the case of the virtual Dutch market (TTF, Title Transfer Facility), which became increasingly important during the pandemic and where trading rights for natural gas are exchanged: more specifically, it was a mistake to link the price of gas bills to the TTF.
The paradox of gas bills is captured by the graph above.
The past 18 months were marked by three curves with very different trends:
- the price of gas on natural gas markets was below 20 euros until May 2021, became 15 times higher on March 2022 and was 140 euros last week; the price paid by consumers is more stable and, yet, follows a gradual trend such that in a country like Italy, doubled its value compared to last year (according to ARERA, Italy’s regulating agency);
- in the meantime, the amount of product offered to again Italy, for instance, stays absolutely the same: the gas we buy from Russia, covering 30% of our gas demand, has almost halved (according to data provided by SNAM, an Italian utility). However, the missing supplies are being completely replaced by larger imports from Northern Europe.
This situation might get worse when winter comes and yet there are three elements which don’t add up: the first is that the cut of Russian supplies (-15% of the total) is not enough to explain such a dramatic increase in gas prices neither in the TTF (+1500%) nor in the bills paid by consumers (100%); the second is that the energy crisis actually started way before the War as gas prices started climbing right after the COVID-19 lockdowns; the third is that Russia is earning more money even though it cut its export to Europe, selling less but at a higher price. The benefit of higher prices is outweighing the cost of less exports. The result is a paradoxical transfer of resources from European families to Russia – even though the intention was to penalize the latter – and to other speculators buying gas at regulated prices and then re-selling it on the Dutch market.
To understand what is wrong in the TTF, we must remember that two are the conditions of a financial market to be efficient: the first one is the existence of an high enough number of buyers and sellers, where no participant has significantly more information than others; the second condition is that any investor can exchange different stocks with low transaction costs. In the TTF, both conditions do not exist: among this market players there are few companies that supply gas (there are few Russian and Western companies, while those of the Middle East and North Africa are almost absent); secondly a gas buyer cannot change supplier because its choices are conditioned by the existence of gas pipelines whose construction takes years and billions of EURO.
Under these conditions, linking the price of gas paid by an European family to the Dutch market is like taking out a mortgage at a rate which is not only variable, but whose rate is also determined by the banker.
Russia can, theoretically, reduce supplies to the EU to increase the gas price, to a level where its final revenues are the same; and to increase them with the gas saved that would be sold back to the Dutch market.
Among the minimum moves necessary to respond to a crisis, there is the need to replace the volatility of a very imperfect market, returning to long-term contracts and stable prices. But there is a difference compared to the past: these agreements would be closed with each supplier country from the EU on behalf of Member States that finally decide to share a common energy policy.
This would make buyers stronger and the European market more integrated and less vulnerable.
Financial markets have, in theory, the great advantage of building prices that better reflect the value of a company or an asset and that better allocate scarce resources to those who use them more productively. In cases like the TTF, they risk becoming a trap, just because there is a seller who, without not even having the intuition of Warren Buffet, finds himself to be able to establish the price of the goods he proposes and of which buyers cannot do without. It is good for the markets themselves if governments rely on them with the prudence and intelligence of those responsible for the fate of families and businesses that will never know of the existence of such virtual mechanisms.
