Chapter 2. City Gas Consumption in Energy-Intensive Industries
4. Major Issues of City Gas Consumption in Energy-Intensive Industries
4.1. Changes in Relative Energy Prices
The price of city gas in Korea is linked to the price of crude oil through the material cost linkage
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system,24 and therefore does not change significantly compared to petroleum products such as Bunker C or LPG. However, when the international oil price rose to USD 100, the Korean government suspended the material cost linkage system for city gas rates from March 2008 to stabilize prices and ease the burden on the people. The system remained suspended until February 2013, during which time the international oil price skyrocketed. City gas, on the other hand, became relatively inexpensive and its price competitiveness was strengthened.
However, KOGAS, which imports liquified natural gas (LNG)25 and supplies it to city gas companies in the country, had to purchase LNG at a high price that was linked to the international oil price and supply it to domestic companies at a low price. As a result, the corporation incurred an outstanding balance equal to the difference between the total price of the LNG it purchased and the total price of the LNG it sold. According to Byunguk Kang (2017), the cumulative amount outstanding incurred by KOGAS by February 2013 is estimated to have been KRW 5.4 trillion.
The outstanding amount began to be collected in September 2010 through the “unit price of settlement” charge that was included on the city gas bill. From September 2010 to February 2013, the material cost linkage system was suspended and the receivables were being collected. At the time, the material cost linkage system was a factor that reduced city gas rates, while the collection of the outstanding amount was a factor that increased the rates. Yet the factor decreasing the rates had such a large impact on the city gas rates that the price competitiveness of city gas was superior to that of petroleum during this time. However, since March 2013, when the material cost linkage system came back into play, the collection of the outstanding amount contributed to the increase in the city gas rates, which hurt the price competitiveness of city gas. As seen in the table below, the increase in the city gas rates caused by the collection of the amount outstanding was particularly pronounced in the industrial city gas rate, which skyrocketed from 6.1 percent in 2010 to 21.1 percent in 2016.
Table 2-3. Increase in the Wholesale Rate of City Gas Due to KOGAS’ Collection of the Amount Outstanding
Year Household Industrial
2010 2.5% 6.1%
2011 3.0% 6.3%
2012 5.0% 8.2%
2013 4.7% 7.6%
2014 4.6% 7.5%
2015 11.6% 13.8%
24 According to the Korea Gas Corporation (2015) and Byunguk Kang (2017), as of September 2015, the materials cost (sum of the LNG import charge, incidental import charge, safety management charge, unit cost of settlement, and unadjusted amount) accounts for 83.9 percent of the city gas rate in Seoul, and the wholesale supply cost and retail supply cost account for 9 percent and 7.1 percent, respectively. The materials cost, which accounts for the largest portion of city gas rates, varies depending on the fluctuations in the international oil price and exchange rate due to the material cost linkage system introduced in August 1998. City gas rates are adjusted every two months, in odd months, by reflecting any fluctuations exceeding ±3 percent in the price of raw materials.
25 Korea imports natural gas from the Middle East and the United States by sea in liquefied form. Liquefied natural gas (LNG), which arrives in Korea via LNG carriers, is vaporized at the receiving terminal and transported to each city gas company via the city gas pipeline network. The city gas companies in each region then supply the received gas to their household, commercial, and industrial consumers.
2016 17.1% 21.1%
2017 10.6% 12.5%
Source: Table 2 from Byunguk Kang (2017), using KOGAS data
Another important event that reduced the price competitiveness of city gas during this period was the drop in oil prices in the second half of 2014. At the time, the material cost linkage system had resumed operation, and thus the city gas rates were linked to the international oil price. The link between the city gas rates and the oil price features a time lag of about four months. When the price of oil changes gradually, this time lag does not have a significant impact on the relative energy prices, but when the price of oil increases or decreases rapidly, the time lag results in significant changes in the relative prices. As seen in the figure below, from the second half of 2014 to early 2016, the international oil price fell rapidly. Although city gas prices were linked to this, the difference between the international oil price and city gas rates in Korea increased due to the four-month time lag.
Figure 2-19. Trend of International Oil Price (Dubai Crude) and Industrial City Gas Rate in Korea
Source: World Bank website (https://www.worldbank.org/en/research/commodity-markets, last accessed on December 5, 2019), Korea City Gas Association (http://www.citygas.or.kr/info/ charge.jsp, last accessed on December 5, 2019).
국제유가(Dubai) International oil price (Dubai) 도시가스요금 City gas rate
The amount outstanding incurred by KOGAS due to the suspension of the material cost linkage system was fully collected by 2017, and the collected outstanding amount was removed from the unit cost of settlement included in the city gas rates. This led the city gas rates to decrease by an average of 9.3 percent (in Seoul)26 in November 2017. As mentioned previously, general fluctuations in city gas rates have no effect on the relative price of city gas compared to oil, because it is linked to the oil price.
However, the price drop of nearly 10 percent after KOGAS’ complete retrieval of its receivables was a
26 In Korea, city gas companies supply city gas to end-consumers in each region, and therefore city gas rates vary slightly by region.
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change that was unrelated to the oil price at the end of 2017, and it greatly improved the competitiveness of city gas.
The rapid changes in the relative prices of city gas and petroleum products in recent years have led businesses to change their energy consumption structure to reduce production costs and strengthen their competitiveness. Typical examples include the expanded use of dual fuel boilers and the consumption of city gas as a feedstock in the petrochemical industry. The following two sections will examine these two trends in detail.
4.2. Expanded Use of Dual Fuel Boilers
With the increase in the range of fluctuations in relative energy prices, businesses came to face greater price uncertainty than in the past. As part of their efforts to manage risks and reduce costs, companies began to use dual fuel boilers (also referred to as dual boilers), which is capable of using different fuels selectively.
The supply of dual fuel boilers is as follows. First, Table 2-4 (below) shows the supply of dual fuel boilers by industry in July 2019. As for the proportion of dual fuel boilers supplied to each industry, petroleum refining accounted for about half (47.1 percent) of the total supply in terms of capacity, while industrial gas production accounted for about 21 percent. Meanwhile, the petrochemical industry accounted for 14 percent.
If the industries in Table 2-4 are grouped into the petrochemical, steel, and fabricated metal industries in the energy balance, which are subjects of the analysis of this report, the petroleum refining, petrochemical, industrial gas production, synthetic fiber, and rubber and plastic industries are classified as part of the petrochemical industry. The dual fuel boilers for these industries account for a total of 90.5 percent of the supply. Meanwhile, 0.5 percent is used by the steel industry, while the boilers are not used by the fabricated metal industry.
Table 2-4. Supply of Dual Fuel Boilers Used by Industry Industry Annual maximum use of city gas
(1 million m3) Percentage (%)
Agriculture, forestry, and
fisheries 12.0 2.4
Food and tobacco 4.4 0.9
Paper pulp and printing 6.7 1.4
Petroleum refining 232.2 47.1
Petrochemistry 70.0 14.2
Industrial gas production 101.7 20.6
Synthetic fiber 26.7 5.4
Rubber and plastic 16.0 3.2
Nonmetals 6.8 1.4
Steel 2.5 0.5
Nonferrous metals 14.0 2.9
Total 493.1 100
Source: internal data of the Korea Energy Economics Institute Note: The data is from July 2019.
Next, the supply of dual fuel boilers by type of alternative fuel to replace city gas is as shown in Table 2-5. Both Tables 2-4 and 2-5 use the same statistical data. Therefore, the total capacities of the two tables are directly comparable. Of the annual maximum volume of city gas used by dual fuel boilers, which is 490 million cubic meters, 95 percent, or 460 million cubic meters, can be replaced by other fuels, such as LPG or Bunker C, through the use of dual fuel boilers.27
By type of alternative fuel used, most dual fuel boilers use city gas and LPG (81.2 percent). Dual fuel boilers using Bunker C and the remaining refined oil account for nine percent, and those using by- product gas and by-product oil account for 9.5 percent.
Table 2-5. Supply of Dual Fuel Boilers by Alternative Fuel
Alternative Fuel
Volume Converted to an Equivalent Volume of City Gas
(1 million m3)
Percentage (%)
LPG 378.7 81.2
Bunker C (including refined oil) 41.8 9.0
By-product gas and by-product oil 44.2 9.5
Others 1.6 0.3
Total 466.3 100
Source: internal data of the Korea Energy Economics Institute Note: The data is from July 2019. “Others” includes petcoke, etc.
The supply of dual fuel boilers as noted in the two tables above can be summarized as follows. First, the supply of dual fuel boilers has been concentrated in industries such as the petroleum refining, petrochemical, industrial gas production, synthetic fiber, and rubber and plastic industries, which are grouped under the petrochemical industry in the energy balance. Companies with dual fuel boilers can easily make use of two different types of fuel compared to those without such boilers. Therefore, in this study’s analysis of the petrochemical, steel, and fabricated metal industries, the supply of dual fuel boilers can act as a factor that increases the price elasticity of city gas consumption. This will be verified in Chapter 4 through an econometric analysis.
Second, there are various fuels that can replace city gas through the use of dual fuel boilers, but LPG accounts for more than 80 percent of the total alternative fuels consumed. Therefore, considering the relative prices of city gas and competing fuels, it is expected that the relative price of city gas compared to that of LPG will play a more important role than the relative price compared to those of other fuels.
27 Most dual fuel boilers can completely replace city gas with other fuels such as LPG or Bunker C. However, some dual fuel boilers are able to replace only a portion of city gas consumption with other fuels. For this reason, the total amounts in Tables 2-4 and 2-5 do not match exactly.
4.3. Consumption of City Gas as a Feedstock in the Petrochemical Industry
According to Myeongdeok Park and Sangyeol Lee (2015), city gas began to be supplied as a feedstock to SK Energy by KyungDong City Gas in Ulsan in 2009. This supply is reformed and used for the production of hydrogen.28 Among the industries grouped under the petrochemical industry, the petroleum refining and industrial gas production industries use city gas as a feedstock.
Originally, the petrochemical industry produced hydrogen using naphtha from the petroleum refining processes. However, since hydrogen is produced by generating a reaction between hydrocarbons and water at high temperature and pressure and separating the product into hydrogen and carbon dioxide,29 there is no reason to use only naphtha. Recently, with the increase in naphtha prices, city gas and LPG have become the main feedstocks for hydrogen production.
Figure 2-20. Trend of City Gas Consumption as a Raw Material by Five Petrochemical Firms
Source: internal data of the Kore Energy Economics Institute
Since the raw materials for the hydrogen production process can be easily replaced, the input ratio of petroleum products, such as city gas and LPG, can be flexibly adjusted according to the fluctuations in relative energy prices. The figure above shows a graph of the monthly consumption of city gas as a feedstock from 2011 to 2018 by five companies in the petroleum refining and industrial gas production industries. As the graph shows, the consumption of city gas as a feedstock is highly volatile. The peak was in January 2014, when city gas consumption reached 89.73 million cubic meters, and the lowest point was in February 2016, when city gas consumption fell sharply to 1.8 million cubic meters, representing a 98.0-percent decrease from the peak in just two years.
Therefore, due to the consumption of city gas as a feedstock, which is sensitive to price changes, the price elasticity of city gas consumption in the petrochemical industry seems to have increased gradually since 2009, when city gas began to be consumed as a feedstock. This will also be verified through an
28 As explained in Section 1 of Chapter 2, “City Gas Consumption in the Petroleum Refining Process,” hydrogen is used to remove impurities in petrochemical products separated in the atmospheric distillation unit in the petroleum refining processes.
29 The chemical reaction involved in producing hydrogen by reacting hydrocarbons with water has been described in detail in Section 1 of Chapter 2, “City Gas Consumption in Petrochemical Processes.”
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econometric analysis in Chapter 4.
5. Chapter Conclusion
In this chapter, I reviewed the production processes of the petrochemical, steel, and fabricated metal industries as well as the usage of city gas, current state of city gas consumption, and structural changes.
The petrochemical industry was subdivided into petroleum refining and basic chemistry. In the petroleum refining industry, city gas used as fuel is consumed by heaters in atmospheric distillation units. The burner used in the heater is designed so that different types of fuels can easily replace other fuels, and therefore its fuel demand is sensitive to changes in relative energy prices. The supply of these dual fuel boilers has increased recently, causing the price sensitivity of city gas demand in the petroleum refining industry to increase. In petroleum refining, city gas is used as a feedstock for hydrogen production. Hydrogen is used to remove impurities in petroleum products separated in an atmospheric distillation unit in the petroleum refining process. In the past, refineries produced hydrogen using naphtha and LPG; recently, however, the price of city gas has become more competitive, causing refineries to now choose between petroleum products and city gas, depending on which has the better price. This is also expected to play a role in increasing the price elasticity of city gas for petroleum refining.
In the basic chemistry industry, city gas is partly used as a feedstock in pyrolysis plants during the naphtha cracking process. City gas is also consumed as a feedstock by industrial gas producers for hydrogen production. Industrial gas producers also selectively use city gas and LPG, whichever has a lower unit cost, for hydrogen production. Therefore, the price sensitivity of raw materials is quite high.
In the steel industry, city gas is mainly consumed in rolling processes. In the hot rolling process, the temperature is raised in a heater to increase the processability of steel before forming it into billets, blooms, slabs, and other products. At this point in the process, by-product gas is used first, and city gas is used to cover the shortfall. In the cold rolling process, city gas is used in an annealing furnace for the heat treatment of cold rolled products made of high-grade steel. Since by-product gas contains a large amount of impurities, it is not used to fuel the annealing furnace, as it reduces the quality of cold rolled products.
In the steelmaking process, Bunker C and city gas have been used as fuel in the past. However, due to environmental and facility management problems, the use of Bunker C has steadily declined, and it is now rarely used. With Bunker C, which had been in competition with city gas in the past now nearly out of use, the price sensitivity of city gas consumption is expected to have decreased in the steel industry as opposed to the petrochemical industry.
In the fabricated metal industry, city gas is mainly used for heating factories as well as for a variety of other purposes, such as manufacturing various parts, drying paint, and incinerating harmful gases.
However, since its main use is for heating, the most important characteristic of city gas consumption in the fabricated metal industry is its distinct seasonality. In addition, the fabricated metal industry includes a number of sub-industries. Therefore, depending on the changes in the share of city gas consumption among the sub-industries within the fabricated metal industry, the structure of city gas consumption may change for the entire fabricated metal industry. This will be discussed in more detail in Chapter 4.
Chapter 3. Previous Literature and Analytical Methodology
In Chapter 3, I examine previous literature on city gas consumption in Korea and describe the econometric methodology used in this study.
1. Previous Literature on the Analysis of City Gas Consumption in Korea
This section examines previous literature on the analysis of city gas consumption in Korea, and discusses the problems with the previous studies. In addition, it describes the differences between the purpose and the methodology of this study and those of previously conducted research.
1.1. Previous Research
Previous studies on the analysis of city gas consumption in Korea are listed in Table 3-1 (below). In terms of analytical target, these studies can be divided into those that analyzed the total demand for city gas and those that analyzed demand by usage type. Research conducted by Inmoo Kim et al. (2011), Jumsu Kim et al. (2011), Jinsoo Park et al. (2013), Seungjae Lee et al. (2013), and Sungro Lee (2017) fall into the former category, in which the total demand for city gas was analyzed by establishing a demand function and estimating the demand using an econometric analysis methodology.
Table 3-1. Summary of Previous Studies on the Analysis of City Gas Consumption in Korea Researchers Analytical Target Analytical Method Independent Variables Youngduk Kim
(1998)
City gas for household,
general, and industrial use
Multiple regression model Industrial production index, real city gas prices, and -ariables
Inmoo Kim, Changsik Kim, and Seonggeun Park (2011)
Total demand for city gas
Cointegrating regression model
Real GDP, relative price of city gas compared to electricity, and temperature variables
Jumsu Kim, Chunseung Yang, and
Junggu Park (2011)
Total demand for city gas
Cointegrating regression
model Real GDP and temperature variables
Gwangsu Park (2012)
City gas for household and general use
Multiple regression model
Real GDP, relative price of city gas compared to electricity, quarter dummy variables, and temperature variables Jinsoo Park, Yunbae
Kim, and Cheolwoo Jeong (2013)
Total demand for city gas
Autoregressive model, multiple regression model, and
weighted average model
Time difference variables of the dependent variable, holiday variables, and temperature variables
Seungjae Lee, Seungseob Eu, and Seunghoon Yoo (2013)
Total demand for
city gas Multiple regression model
Real GDP, real city gas prices, and time difference variables of the dependent variable
Myeongdeok Park and Sangyeol Lee (2015)
City gas for
industrial use Multiple regression model
Industrial production index, relative price of city gas compared to Bunker C, and temperature variables
Yujin Bae and Jaewoo Jeong (2017)
City gas for household use
Cointegrating regression
model Real GDP and temperature variables