Japan looks to diversify its LNG supplies as new Australian net-zero rules kick in

Australia’s Minister for Climate Change & Energy, Chris Bowen, will head to Japan in the coming weeks in an attempt to repair bilateral relations after officials in Tokyo voiced concerns about Australia’s future as a reliable liquefied natural gas exporter.

Japanese government officials accused Australia of “betrayal” over recently implemented carbon emissions legislation that it claims could threaten Japan’s energy security — the East Asian nation buys the lion’s share of LNG produced Down Under.

The regulations that took effect on 1 July call for all new LNG projects, including those that have already taken final investment decisions, to be carbon-neutral from the first day of operation, with all carbon dioxide emissions to be offset within Australia.

Japan, which relies on Australia to meet more than 40% of its gas demand, fears this could derail construction of new export liquefaction facilities in Australia, or at least make produced volumes much more expensive.

“If this issue cannot be resolved, this might undermine long-trusted relations,” Yuki Sadamitsu, director general of natural resources and fuel at Japan’s Ministry of Economy, Trade & Industry, was quoted as saying by the Wall Street Journal.

The Tokyo administration has been lobbying hard — albeit unsuccessfully — for Santos’ under-construction Barossa LNG project, in which Japan’s Jera has a 12.5% ​​stake, to be given special treatment under the newly revamped emissions-reduction policy, which requires major industrial polluters to reduce CO₂ emissions or pay for carbon offsets.

Australia’s legislative changes also mandate that existing liquefaction projects reduce their emissions intensity, on average, by 4.9% a year from 2023-2024 to 2029-2030, which will impact projects already up and running, including Japanese operator Inpex’s Ichthys LNG.

Facilities will be required to meet this baseline by reducing their emissions, purchasing safeguard mechanism credits from companies or facilities that have reduced emissions below their baselines, or by purchasing offsets in the form of Australian carbon credit units.

“It’s like changing the rules of the game after the game has started,” Tatsuya Terazawa, head of the Institute of Energy Economics Japan, told the WSJ.

Japan’s Minister of Economy, Trade & Industry, Yasutoshi Nishimura, said last month that he had requested “flexible measures” under the safety mechanism for Australian LNG projects supplying Japan. Nishimura noted that Prime Minister Fumio Kishida had made a similar approach to his Australian counterpart Anthony Albanese.

Bilateral talks are ongoing “regarding measures for protecting Japanese investors and ensuring a stable supply of LNG, in order to find a mutually acceptable solution”, Nishimura was quoted as saying by The Guardian.

Unlike the US, which provides subsidies through the Inflation Reduction Act, Australia does not give significant financial support for carbon capture projects.

The US approach is through big carrots. The Australian approach is by sticks only,” Terazawa added.

Australian liquefaction projects last year accounted for 42.7% of Japan’s LNG imports, up from 35.8% in 2021.

Japan has more than 24 million tonnes per annum of long-term Australian LNG supply contracts due to expire by 2039, with more than 8 million tpa of these set to expire by 2029 unless they are extended, according to S&P Global’s LNG database.

“The Australian government’s sudden change in its policy affecting existing projects to be applied retroactively will not only increase its country risk but also undermine its credibility for stability in its policy,” cautioned Takayuki Nogami, chief economist at the Japan Organization for Metals & Energy Security (Jogmec).

“The move could also deteriorate the country’s environment for natural gas investments, which could deter companies from making investments in Australian LNG supply projects,” Nogami said, adding that increased environmental costs would likely lead to higher mid-to-long-term Australian LNG prices.

Looking to the Middle East

Against this backdrop, Japanese utilities are looking to diversify their LNG import sources, with some companies in talks regarding long-term deals with Qatar, while volumes from the United Arab Emirates are reportedly at some Japanese importers’ sights.

Kishida this week embarked on a whirlwind tour of the Middle East, culminating in a visit to major-league LNG exporter Qatar. After meeting with the Emir of Qatar, Sheikh Tamim bin Hamad al-Thani, the two leaders agreed to upgrade their countries’ relationship to strategic, “especially in energy, economy, defense, security and academic exchange”, Reuters reported the Emir’s office as saying.

While no new LNG contracts were announced during Kishida’s visit, he told Sheikh Tamim that “LNG serves a crucial role in Asia for a realistic energy transition”, according to a Japanese Foreign Ministry statement.

Interestingly, Japanese customers in 2021 and 2022 had elected not to renew several long-term LNG contracts with Qatar — including from the Qatargas 1 project — in which the Middle East nation’s share of Japan’s LNG imports decreased to 4% last year, compared to 12.1% in 2021.

Qatar is probably one of the [more] promising [future] supplier candidates… but it is up to each company to decide the procurement policy by looking into conditions such as time frame and prices,” Japan Gas Association chairman Takahiro Honjo said ahead of Kishida’s visit to Saudi Arabia, the UAE and Qatar.

Carbon-offset LNG

Where Australia might retain a competitive edge in supplying future volumes to Japan is in its ability to deliver carbon-offset LNG.

More than 40 downstream customers in Japan have already signed carbon-offset agreements with seven importers, and Australian LNG has advantages to support this nascent market, according to Rystad Energy.

Proximity lowers emissions from transportation, while the upcoming large-scale implementation of carbon capture, utilization [CCUS] will lower well-to-ship emissions,” Rystad analysts Kaushal Ramesh and Sally Bogle said in a research article published in APPEA Journal.

“For instance, CCUS at Moomba can remove more than 35% of the well-to-ship emissions from Darwin LNG, while the Ichthys CCUS hub will remove more than 22% of that from Ichthys LNG,” the Rystad colleagues wrote.

More than 2 million tonnes of carbon-offset LNG were traded in 2021, and Rystad expects this market to exceed 25 million tpa by 2030.