London (Platts)--22Jan2013/1204 pm EST/1704 GMT

The European Union could become the global dumping ground for cheap coal, as the changing economics of energy markets divert the carbon intensive fuel to the world's largest economy, an analyst warned Tuesday.

An ongoing US shale gas revolution is keeping US domestic natural gas prices low, undermining coal's competitiveness and causing US coal producers to ship the fuel to Europe, said Jefferies Bache commodities analyst Matthew Gray in a research note.

The changing global energy markets "will have considerable implications for the future of EU industry and the longevity of their climate policy," he said.

"The shale revolution is already distorting EU climate policy. The US, India, China and Latin America will all have access to shale gas. US gas prices are now so low that US coal producers are shipping their product to Europe," said Gray.

If that trend continues, it could undermine Europe's climate policy, which targets reductions in CO2 emissions and greater use of renewable energy and improved energy efficiency by 2020.

Coal is among the most emission-intensive fuels, and Europe's flagship climate policy, the EU Emissions Trading System, was intended to drive CO2 emissions down by spurring shifts in the merit order for fuels burned by power generators, among other measures.

Year-ahead coal futures for delivery into Northwest Europe were quoted at $98.75/mt on a CIF ARA basis Monday, down from $118/mt a year ago.

Meanwhile, carbon prices in the EU ETS have fallen so low -- Eur4.95/mt ($6.58/mt) at the close Monday -- relative to gas, that coal is still the preferred choice for many utilities, and greater supply from outside Europe will only add to that dynamic, said Gray.

Nevertheless, in the long term, high energy prices are a threat to Europe's economy, and policymakers should be targeting ways to find cheaper energy, he said.

"The surge in US coal exports is likely to be a foretaste of a bigger problem for Brussels," he said.

"The EU must begin to focus on the impact of high energy prices or face continued bleeding of energy-intensive manufacturing. This problem is double-edged in that, if the EU also maintains existing climate policies, it will become the global dumping ground for cheap coal."

"The EU is the biggest economy in the world and therefore can seek to ignore the dramatic changes in global energy markets. But unfortunately, the global energy markets will not ignore the EU," he said.

Under a scenario where carbon prices in Europe increase due to tighter emissions controls in future, this could leave Europe's industry exposed to higher energy costs, he said.

Therefore, Europe should consider the need for shale as a transitional cheap fuel source for the period 2020-30, he said.

"The threat at the moment is cheap coal over the short-term -- the ETS is a mess and is not incentivizing fuel switching -- and expensive energy costs over the long term when the EU ETS does what it's intended to do," said Gray in emailed comments to Platts.

"Ignoring Poland, this is the mainstay reason for the backlash against EU ETS reform [to drive carbon prices higher] -- it's arguably unaffordable, unless the EU wants to place a considerable burden on manufacturing," he said.

"In relative terms, EU gas prices are twice as high as the US. That will not change unless the EU pursues shale," said Gray.

--Frank Watson, frank_watson@platts.com

--Edited by Maurice Geller, maurice_geller@platts.com

Similar stories appear in International Coal Report. See more information at http://www.platts.com/Products/internationalcoalreport