In terms of liquefied petroleum gas consumption in the transport sector, Ukraine is the undisputed leader in the world. At the end of 2019, the share of gas in the total basket of motor fuels (diesel, gasoline and autogas) consumed in our country was near 25%, which is twice and more than the level of Turkey (12%) and South Korea (slightly less than 10%) following us in terms of this figure. In addition, in the context of Ukraine’s movement towards energy independence and security (read – less dependence on imports and greater self-sufficiency), issues about the origin of these two competing fuels are also vividly voiced.
Liquefied petroleum gas (LPG) has several advantages and disadvantages compared to its "older" evolutionary "brother" and its predecessor, gasoline. In total, from all points of view (consumer, environmental, and from the point of view of state energy security), the advantages of autogas can be reduced to two: firstly, it is undeniably much more environmental friendly than gasoline; and secondly, and mainly, in the Ukrainian realities over the past almost six years in retail, it is usually more than two times cheaper than gasoline. This is its main advantage, which determines the popularity of gas and is a powerful financial impetus for owners of gasoline cars to transfer their “iron horses” to autogas “baiter”.
How does the international wholesale trade of fuel in Ukraine work?
The Ukrainian market of oil, oil products and liquefied petroleum gas is deeply integrated into the international (both European and CIS countries) according to the principles of operation and pricing, and every year it is increasingly approaching European standards.
Wholesale prices for LPG, as well as gasoline, consist of dollar-denominated quotations of the international market, determined by the London or Moscow offices of the independent global price agency Argus. In prices for gasoline sold in Ukraine, quotations of the American agency Platt’s are also partially used. Both of these agencies are owned by American and British shareholders and are truly independent and objective, which has been confirmed by annual international audits for decades.
A differential (premium or discount), also denominated in dollars, is added to the international quotation. Its size depends on the level of import dependence of each country – the lower the percentage needs coverage with a domestic product and the greater the market demand for external deliveries of a particular energy carrier or product, the higher the wholesale price as a result. In Ukraine and most European countries, the level of such markups is determined in absolute terms in dollars or euros per ton and generally does not depend on the size of international quotations.
Generally, Ukrainian companies seek to conclude long-term (annual) contracts with suppliers of oil products and liquefied petroleum gas with pricing according to the formula. The price for each batch of the product is based on monthly average quotations of the product on the international market (determined by the same Argus and Platt’s).
Both a foreign seller and a Ukrainian importer or buyer of a resource produced domestically benefit long-term stable business relations. This gives the buyer the opportunity to plan supplies and get a guaranteed amount of fuel needed on time at a lower price than on the spot (short-term) market. For the seller, long-term contracts are beneficial by guaranteeing the sale of fuel throughout the entire period of the contract and the absence of the need to search a buyer, and also allow planning financial receipts, as the premium on fuel is fixed for the entire term.
In the case of diesel fuel and gasoline, the share of long-term contracts of different validity periods among wholesale buyers is approximately 80–90% of the total volume of supplies to the market (foreign and domestic). On the liquefied petroleum gas market, which has developed rapidly over the past 6 years, the share of term contracts is noticeably lower, but every year it is increasing. Due to the tense international situation and the hybrid war of a large supplier of liquefied petroleum gas, Russia with Ukraine, this wholesale market is not so stable and still largely buys the product at fixed prices on the Ukrainian border.
As a result, the wholesale prices of Lithuanian and Belarusian gasoline A-95 at the land borders of Ukraine over the past few years have been at a premium level of about $24−32/t (dap Belarusian-Ukrainian border) added to European gasoline quotations. This price also includes the cost of railway delivery from a Lithuanian oil refinery in Mazeikiai to the border of Belarus and Ukraine or from the Belarusian Mozyr refinery to the same point on the border, respectively.
After that, imported fuel goes through customs posts located, usually, at railway junction stations in Ukraine (Korosten, Sarny, Snovsk and others). Customs and tax payments consist mainly of excise tax in the amount of €213.5/1 thousand liters for gasoline and €52/1 thousand liters for LPG. The amount received (price at the border in dollars + excise tax) is taxable by VAT at a rate of 20%.
And already to this amount, importers add their trade margin, which at the usual time is about $10−25/t, if there is no stockout in the market. If the country's wholesale market has a large surplus, the margin may narrow to zero or even be negative, but if suddenly there is a shortage in the wholesale market segment caused by, for example, unfriendly actions or Russian sanctions/bans, then trade margins of wholesale suppliers can increase significantly.
A long walk of gas to a mind-blowing success
The autogas market founding companies in independent Ukraine began promoting LPG as a motor fuel and as an alternative to gas gradually back in the 90s of the last century, and in 2007 the market leaders at that time: Poltava company Nadezhda of Stanislav and Viktor Batrachenko, Avtotrans of Poltava businessman Serhiy Mykhaylik and Propan Trade (LPG Moravia group of companies of Serhiy Zabolotny), created the Ukrainian LPG Association, which began to actively promote the use of propane-butane fuel instead of very expensive gasoline.
The main impetus for switching to gas fuel then, as well as now, was the difference in the price of gasoline, which was very expensive due to periodic crises in the work of Ukrainian oil refineries in the 2000s and due to the strong increase in oil prices in 2005-2008. However, gas traders then had one undeniable argument, which became completely opposite in the last few years.
The thing is, Ukraine almost did not import LPG until 2009: all domestic demand was covered by its own production and, moreover, our country actively exported propane-butane to neighboring and distant countries, but as consumption grows and production of gas for export decreases, its volumes became smaller and in the early 2010s, exports completely stopped, but imports began to grow sharply.
Initially, imports occupied a small share in the overall balance of the LPG market, but it grew rapidly and steadily. The market and the whole country passed a critical point of irreversible dependence on imported gas supplies in 2014, when the share of foreign products in total consumption exceeded 54%. Since then, it has only grown: up to 63% in 2015; up to 73% in 2016; and up to 75−76% in 2017 and 2018. According to experts, in 2019, the share of imported LPG in the overall market supply structure will reach 77–78%.
In the super-stressful times for all Ukrainians of 2014-2015, when the very existence of an independent Ukrainian state within its former borders was threatened, during active hostilities in Donbas with Russian troops; when hryvnia exchange rate against the dollar weakened almost three times over a year, to UAH22-24/$, LPG really became that lifeline that helped millions of Ukrainian car owners save billions of hryvnias on fuel costs. This fact was often used by gas lobbyists, arguing to the government about the delay in raising the excise tax on this energy source.
But concurrently with the economy cut and the massive transition to LPG from gasoline, Ukraine became increasingly dependent on LPG supplies from Russia. Thus, if the share of the Russian resource occupied only 9% in the balance of product consumption in the Ukrainian market in 2012 (including the market share of domestic producers), then in 2014 it was almost 28%, and in 2016 –53.3%. However, the circumstances in the domestic and international LPG markets were such that in 2018 the share of Russian gas on the Ukrainian market decreased significantly and amounted to much less, only 40.6%.
How were gasoline rivers drying up
Simultaneously, the Ukrainian market for gasoline was reducing its need for purchases of relatively expensive Lithuanian A-95 and Belarusian gasoline of both brands. Basically, we have exchanged most of the imported Lithuanian and Belarusian gasoline for Russian LPG for the past seven years. And it is in the context of a hybrid war with Russia, which has been going on for almost six years.
Over 7 years, gasoline consumption in Ukraine is expected to drop to 1.85 million tons in 2019 from 4.2 million tons in 2012, or 56%, more than double. Over 11 years, a decrease in gasoline consumption amounted to 61.3%, or 2.6 times. Despite the facts of LPG supporters that gasoline consumption is declining everywhere in the world, such a sharp drop in market volumes in relative terms has not been observed over the past seven years in any country, not only Europe, but also the world, as far as we know.
More specifically, gasoline consumption in one of the richest countries in Europe, Norway, which is the continent's leader in the distribution of electric vehicles, decreased by about 31.5% over seven years, to 76 million liters in October 2019 compared to 111 million liters in October 2012. At the same time, the share of electric vehicles in Norway is 31% of all new cars sold in 2018, while it is only 1% in Germany and about 1.9% of the total number of cars sold in 2018 (the total market for new and used cars) in Ukraine.
Thus, the Ukrainian gasoline market in liters over seven years fell to 2,470 million liters from 5,600 million liters in 2012, while the LPG market grew to about 3,270 million liters in 2019 from 1,550 million liters in 2011- 2012. In total, more than 1,720 million liters of gasoline went directly to autogas over these seven years (without adjusting for the difference in the consumption of both types of fuel by cars with gasoline-powered engine). In 2014-2015, the gasoline market lost another part of its volumes due to the occupation of Crimea and parts of Donbas by Russian troops.
It got to the point that the only working Ukrainian oil refinery, Kremenchuk refinery, can not increase oil refining volumes, as it produces relatively much gasoline (which some experts have hastened to call "surplus", although Ukraine still imports 53% of gasoline) with much lower output of more popular diesel fuel and liquefied petroleum gas.
Already now, in 2019, owners of Kremenchuk refinery have political opportunities to significantly increase refining and increase the share of production of their own oil products. And the market is gradually moving in this direction. So, for the entire current year, the volumes of processing at Kremenchuk refinery will grow by only 10% compared to 2018, to 2.5 million tons. Of this volume, LPG will make up about 5-6% and gasoline – about 31.5%.
The retail and wholesale cheapness of LPG in the Ukrainian market is based on the disproportionate gas and gasoline taxation. Thus, the excise tax on LPG over the past three years or more is €52/1 thousand liters, which is 4.1 times lower than the excise tax rate on gasoline.
Representatives of LPG associations and companies, as well as some experts, appeal to the proportions between the excise tax rates for both types of fuel in European countries. But this is the wrong track, as the Ukrainian market has surpassed not only any of the European countries in LPG usage, but is also the absolute world leader in the use of the product in transport in terms of the share of used fuels in the basket with a double margin from the second country in this figure. The share of autogas in overall LPG consumption in Ukraine in recent years is more than 95%, according to Ukrainian energy experts.
It is all about the population and the number of vehicles in each country using oil products and LPG. In Ukraine, the number of vehicles per 1,000 people is about half that of neighboring Poland, while the number of people is comparable. At the end of 2018, in absolute terms, Ukraine ranked fifth in terms of LPG consumption in transport in the world. Turkey takes first place, followed by South Korea, Russia and Poland. The first three countries are significantly superior to Ukraine in terms of population, and Poland is significantly ahead of the number of cars.
For many years, the excise tax rates on gas have not been raised, which has been actively discussed in the industry circles for at least three years, and have led to a further imbalance in gas and gas consumption. Today, Ukrainian drivers consume approximately 52−53% of gas and 47−48% of gasoline in liters, the Rubicon was crossed about three years ago. In other words, most of the fuel consumed by cars with gasoline engines in this basket has long belonged to a gas product.
In addition, the excise tax collected by the tax authorities on all types of fuel over the past three years was almost completely transferred to the Road Fund and the funds were used for the construction and repair of roads, and the volume of these works increased significantly. The mechanics of the process are simple: when a car owner puts gas cylinder equipment on his car and starts saving on fuel (read – on paying excise taxes on fuel), he reduces his payments for road repairs by 4.1 times. And he uses the roads in the same way as he used to before and as owners of cars refueling gasoline do.
Now is the time to smooth out these imbalances on the market and in the country as a whole. Ukrtatnafta, owner of Kremenchuk Refinery, proposed last fall to increase excise taxes on autogas to €136/1 thousand liters, and on gasoline to reduce to €170/1 thousand liters. This would lead to an increase in the cost of gas by UAH 2.7/liter and to a decrease in the cost of gasoline by UAH 1.4/liter.
Later, one of the deputies of the ruling party came up with an initiative to equalize excise tax rates for gasoline and autogas at the level of the diesel fuel rate – €139.5/1 thousand liters. The revision of excise tax rates in such way, according to our calculations, will lead to an increase in the retail price of autogas by UAH 2.8/liter and a decrease in gas prices by UAH 2.3/liter.
As a result, motorists using LPG are unlikely to switch to gasoline, it will simply reduce the huge economic attractiveness of the autogas system, establish a higher level of social justice, increase deductions to the budget and reduce the growth rate of Ukraine’s dependence on LPG imports.
According to our forecasts, in this case, in 2020, the proportions between the volumes of consumption of autogas and gasoline will remain approximately at the level of 2019, with very small deviations. An increase in the tax burden on autogas will help stop the reduction in gasoline consumption due to its reduction in price and will become a reliable safeguard against increasing dependence on Russia for automobile fuel.
Market participants do not exclude that one of these options for breaking the excise deadlock will ultimately be voted the third time by the Ukrainian Parliament and signed by the President at the beginning of 2020. But it is also possible that the government will not dare to raise prices for motor fuel, which was chosen by not-so-wealthy citizens for their cars.