(MENAFN- ING) Eight insights for corporate decision-makers
Despite all the buzz around synthetic fuels and government
support for it (for example in the us and the netherlands )
economics are far from easy. High gas and power prices have worsened the business case lately, especially in continental Europe. At the same time, synthetic fuels are positioned as a way to replace Europe's gas and oil dependency in the future and as a means to radically reduce emissions.
In this article,
we analyse the role of synthetic fuels in a net zero economy and unravel the economic value drivers of the hydrogen business case, which is the most promising and best-known fuel. We take a European perspective. In doing so, we present eight key insights for corporate decision-makers in energy-intensive companies that can help them build the case for synthetic fuels. But first things first; what are synthetic fuels?
What are synthetic fuels?
Synthetic fuels are liquid fuels that have the same properties as fossil fuels but are produced artificially in a non-fossil way. Synthetic fuels are entirely produced in a factory or chemical plant environment, rather than extracted
from the earth and therefore, ideally, do not involve oil, coal or gas mining.
So while hydrogen can be produced from natural gas (which is extracted), it can also be produced by splitting water with an electrical current (which is a chemical process called electrolysis). Both types of hydrogen share the same features and applications, but the one that splits water into hydrogen and oxygen
is entirely free of fossil fuels if it is produced fully with renewable power. If so, its use does not create carbon emissions.
Synthetic fuels can also be made from
syngas, which is a combination of carbon oxide (CO)
and hydrogen (H₂).
Reacting these two substances under specific conditions (temperature, pressure and catalyst) results
in synthetic fuels
gasoline, diesel, gas, or even kerosene.
Electrolysis and syngas reactions are both chemical processes that yield 1 Synthetic fuels offer a key pathway to a net zero economy
synthetically produced fuels instead of fossil fuels that are extracted from the earth.
Corporate decision-makers around the world have been Synthetic fuels are likely to grow towards 2050, particularly in transportation
encouraged by government
pledges to reduce greenhouse gas emissions to net zero by mid-century and the financial incentives that come with it (think of hydrogen subsidies and infrastructure). According to the International Energy Agency (IEA) around 70% of global carbon emissions are now covered by net zero pledges. As a consequence, the use of synthetic fuel
needs to increase in energy-intensive sectors towards 2050, particularly in transportation.
Share of synthetic fuels in the global sector energy mix in the IEA Net Zero Scenario
ING Research based on International Energy Agency
According to the IEA, synthetic fuels are not the holy grail to decarbonising 2 Synthetic fuels provide corporate decision-makers with a tool to go beyond carbon offsetting
energy-intensive sectors in the sense that they alone will fully substitute fossil fuels and reduce emissions. Other technologies such as electrification, bioenergy and carbon capture and storage also play an important role. But, synthetic fuels certainly add to the solution, especially in transportation sectors like aviation and shipping. They can become one of the many building blocks of a net zero economy, provided that corporate leaders, politicians and scientists get the business case and technologies right. That's why this article unravels the economic drivers of the business case.
The climate strategies of carbon-intensive companies often rely heavily on carbon offsetting strategies . But these come with many drawbacks and enable companies
to continue to emit vast amounts of emissions as long as they pay someone else around the globe to make up for it, for example, by planting trees or preserving existing forests.
A growing number of corporate leaders are now fundamentally rethinking their climate strategies and aiming to become net zero emitters by 2050, according to the science based target initiative . The key is to radically reduce the company's carbon emissions, even if this
requires a fundamental change to
the way they do business.
Synthetic fuels are an example of fundamental change, as these
can be used in many sectors without creating local emissions. For example, only water vapour is emitted by burning hydrogen in ships, aeroplanes, trucks or cars. The same applies to burning hydrogen in factories and houses to generate heat. So as long as the production of hydrogen is low in
emissions (think of green hydrogen production with electricity from wind, solar, hydro or nuclear plants), the lifecycle emissions of hydrogen are much lower than fossil fuels. Synthetic fuels, like hydrogen, have gained a cult status among many industry leaders and politicians as a result.
In the remainder of this article, we focus on hydrogen as it is the best-known synthetic fuel and can be applied in many sectors. Hydrogen is the best known synthetic fuel and can be used in many sectors
Potential use of different synthetic fuels in sectors
3 Hydrogen production has not been immune to the energy crisis
Hydrogen production comes in three forms with a colour attached to each of one. Grey hydrogen is produced from natural gas and the emissions are not captured and stored. Hence the gas and carbon price are the main value drivers of the business case. That is also the case for blue hydrogen where most emissions are captured and stored. As a result, the business case of blue hydrogen is less impacted by the carbon price. Finally, green hydrogen is made with electrolysers that run on electricity. Therefore, the power price is the major value driver of the business case for green hydrogen.
To sum up, hydrogen is made with natural gas or electricity where Cost of hydrogen production depends on gas and power prices
over time, particularly during
an energy crisis
such as the one seen in Europe this year.
Indicative unsubsidised cost of hydrogen in Europe per kilogram at a carbon price of 75
The energy crisis has had a severe impact on hydrogen production costs through higher natural gas and power prices, particularly in Europe. In the Netherlands and Germany for example, the cost of hydrogen production has skyrocketed as gas prices went from an average 20 €/MWh in the years before the crisis to a peak of 350 €/MWh this summer. Power prices increased from 40 €/MWh to a peak of 700 €/MWh in the Netherlands and even 1,000 €/MWh in France. The cost to produce hydrogen Energy crisis pushes hydrogen production costs higher
reached record levels on the back of skyrocketing energy prices and hydrogen production was scaled down as a result. For example, yara produces hydrogen out of natural gas for its ammonia and fertiliser production and curtailed production at its Ferrara (Italy) and Le Havre (France) plants.
Indicative cost of hydrogen production in Europe
in €/kg at realised TTF-gas and APX-power prices
ING Research based on energy prices from Refinitiv
Both gas and power prices have fallen rapidly recently. Ample LNG supply could not be stored as gas storage facilities in Europe are almost completely filled. On the demand side, the heating season has not kicked in as weather temperatures have been unusually high for this
the season. This combination of lower-than-expected demand and ample supply caused gas process to fall below 50 €/MWh and power prices below 100 €/MWh. Still, the market expects this to be short-lived. The futures markets indicate gas prices of around 125 €/MWh throughout the winter and power prices of over 300 €/MWh depending on the month of delivery. Hydrogen production costs will move again towards 5-6 €/kg for grey and blue hydrogen and around 15 €/kg for green hydrogen if these expectations materialise.
Although hydrogen is often touted as a solution to becoming 4 At current carbon prices green hydrogen is not cost competitive with grey and blue hydrogen
less dependent on fossil fuels, the
economics are still driven by the gas market. This
also holds for green hydrogen as gas is likely to remain the price-setting technology in many power markets in the coming years.
In Europe, carbon prices are
the main mechanism that drives
the environmental competitiveness of the three types of hydrogen. Before the energy crisis, blue hydrogen in general was cost competitive with grey hydrogen at a carbon price above 60 euro per ton CO2. That provided hydrogen producers with an incentive to apply carbon capture and storage (CCS) to hydrogen production and it was expected that they would switch from grey to blue hydrogen production once CCS infrastructure was
in place. That no longer holds for current gas and power prices. In fact, grey hydrogen is currently the cheapest form of hydrogen at any carbon price below 150 euro per ton CO2. And green hydrogen is almost three times as expensive as grey and blue hydrogen at the current carbon price and state of technology.
Despite initiatives to strengthen the European carbon market, fears of a recession are likely to continue to weigh on carbon prices. With high energy prices, the carbon market won't offer Grey hydrogen is the cheapest form of hydrogen production at current carbon prices
a decisive push towards less polluting blue and green
Indicative unsubsidised production costs* of hydrogen in Europe in €/kg for different carbon prices
The public debate for a net zero economy often assumes that hydrogen production will be green, both explicitly and 5 Green hydrogen is currently also more expensive than fossil fuels
implicitly. Governments also tend to focus on green hydrogen in their vision
for a hydrogen economy or net zero pathway. But production of green hydrogen in Europe cannot compete with blue and grey hydrogen at current energy and carbon prices.
At current market prices, green hydrogen is also not cost competitive with fossil fuels. Based on the energy content of fuels, green hydrogen is more than twice as expensive as coal and gas and almost seven
times as expensive as oil.
Fossil fuels are not only cheaper, they are also performing better on important chemical characteristics, such as voluminous energy density . Many synthetic fuels, like hydrogen, are very light and voluminous substances, so they require a lot more space to store and use. That puts Fossil fuels are still cheaper, particularly compared to green hydrogen
them at a disadvantage over fossil fuels when used in aviation, shipping, trucking and cars when it comes to the adjustments of the vehicles (large storage tanks) and the infrastructure required to run on these alternative fuels.
Indicative unsubsidised production cost* of energy carrier in Europe
in euro per GigaJoule
ING Research based on energy prices from Refinitiv
Corporate decision-makers in energy-intensive companies are exploring the option 6 It is not economical to produce green hydrogen only at times when solar and wind power are in abundance
of synthetic fuel
to reduce emissions and get to net zero. This does not mean
green hydrogen will win out, however, as companies
have to manage costs, too. In
practice, green hydrogen will be in
competition with other fuels. Fossil fuels are considerably cheaper and even within the hydrogen space, grey and blue hydrogen are cheaper. The adaptation of green hydrogen in the coming years will largely depend on the extent that governments are inclined to subsidise the price gap to help the industry scale.
Solar panels and wind turbines are perceived as the pillars of the electricity mix in a net zero economy. Green hydrogen production is often presented as a solution to absorb an oversupply of solar and wind power on windy and sunny days when power prices are low. That could well be the case from a technical point of view. However, from an economic perspective
electrolysers need to run all year round, 24/7, in order to reduce
Moments of surplus wind and solar power are still
quite rare, even in power systems dominated by solar panels and wind power. Experts indicate that it is limited to 5% in 2030 and 20% of the time in 2050. If one runs electrolysers only in times of surplus solar and wind power, hydrogen production costs would increase by 2 €/kg (+17%) in the current market environment with high power prices.
The economics and runtime of electrolysers are even more important in normal market conditions. At historic power prices of 40 €/MWh, an electrolyser that operates Higher electrolyser load factors lower hydrogen costs
on low runtimes (around 20%) produces hydrogen that is twice the cost (+100%) when the electrolyser runs all year round (95% runtime).
Indicative unsubsidised production cost* of green hydrogen production in Europe
for different runtimes of an electrolyser (load factor) in €/kg/H2
There is another reason why solar panels and wind turbines are mentioned a lot with respect to green hydrogen. Why would one pay high market power prices of 300 €/MWh or more, when the life cycle cost of electricity from renewable assets is often well below 100 €/MWh? The power costs are much lower if an owner of an electrolyser invests in solar panels or wind turbines to directly power the electrolyser. And this is a valid question too if one buys electricity from the power markets, now that the European Commission has capped the power price from renewables at 180 euro/MWh in the day ahead market. Renewables offer a way
of becoming less dependent on high market power prices.
But, capitalising on lower power prices from renewables is difficult for three reasons; Increasing the runtime of electrolysers often also requires the use of grey power from the grid (see above). The proposed price cap only applies to the day-ahead market on which approximately 20-30% of the power is traded. So, most of the power is not subject to the price cap. European power generators, also the ones with solar and wind assets, tend to pre-sell about 80% of their future power production in one-year ahead futures contracts or through
power purchase agreements (PPAs). PPAs are designed to buy green power at fixed prices for longer periods, so hydrogen producers can use PPAs to lower power costs. That works in theory. In practice, PPAs are often linked to a power price index, so power prices from renewables still go up in times of crisis. And the length of PPAs is typically only a couple of years, so it is hard to fix the power price at the levelised cost over the entire lifecycle of the electrolyser, which lasts about 20 years. Clean power is much cheaper compared to current market prices, also because some of it is capped by the EU
Indicative unsubsidised cost* of low carbon power sources in Europe in €/MWh
ING Research based on Bloomberg New Energy Finance (BNEF)
Corporate decision-makers face a trade-off in the economics of electrolysers between high fixed costs at low load factors and higher electricity costs at high run times. Ideally, one would like to run electrolysers on clean power from solar panels and wind turbines at all times. But an electrolyser that only runs on cheap power from renewables
is simply not economical as it cannot recoup the high capital costs.
The economics of an electrolyser incentivise corporate decision-makers to maximise the run time of an electrolyser to lower the cost of green hydrogen. This often requires that electrolysers are also run by power from the grid, that at times may not be so green and powered by gas or coal-fired power plants. Sourcing renewable power through Purchasing Power Agreements in practice is only a partial solution. 7 Green hydrogen produced with electrolysers is not necessarily green(er)
Powering electrolysers to produce hydrogen requires a great amount
of electricity. As aforementioned, electrolysers must run constantly in order to lower production hydrogen costs. In practice, this means that electrolysers run on power from the grid too, especially at times when the sun is not shining and the wind is not blowing. This could come
downside of higher emissions, as power from the grid can be generated from coal or gas-fired power plants.
Grey hydrogen emits approximately 8.1 kilograms of CO2 per kilogram of hydrogen. When corporate decision-makers decide to use green hydrogen instead, they
whether this will lead to a decrease in the company's emissions. This is not an issue if one uses nuclear or hydropower (think of connecting an electrolyser to the grid in France or Norway). Green hydrogen will have lower emissions compared to grey hydrogen, even if the electrolyser is fully powered by the grid.
However, in countries with a lot of coal-fired power plants (like Poland), green hydrogen A countries' power mix determines whether green hydrogen comes with lower emissions than grey hydrogen
only comes with lower emissions if more than 85% of the power comes from renewables, which is unrealistically high. In countries with a lot of gas-fired power plants (like the Netherlands) hydrogen produced with electrolysers only comes with lower
emissions compared to grey hydrogen if approximately 50% or more power comes from renewables.
Indicative emission intensity in kgCO2/kgH2 for hydrogen produced with electrolysers in Europe
for different amounts of power they take from the grid
So in order for green hydrogen to be truly green, a
of renewable power is
needed. It is estimated that global hydrogen production by 2050 would require 18 times the amount of current solar power and eight
times the amount of current global wind power.
Corporate decision-makers face an incentive to run electrolysers 24/7 year-round to minimise the cost of hydrogen. That requires the use of grid power which could make green
hydrogen more polluting than grey hydrogen. Sourcing green power from an energy company looks good on paper, but still requires the electrolyser to run on 'dirty' grid power at times when
the sun is not shining and the wind is not blowing.
In practice, the emissions level of green hydrogen changes continuously based on the type of electricity that is used. A company's decision to use green hydrogen should always be accompanied by 8 A future for hydrogen: technological progress helps, but gas and power prices need to come down first
decisions about a company's power mix in order to guarantee a positive climate impact. In other words: company leaders have to tackle hydrogen emissions before they can position hydrogen as a viable net zero solution. This is
the reason why the European Commission is setting standards and labels for green hydrogen.