Clean hydrogen: building a sustainable market in the Middle East

The MENA region has already been impacted by low oil prices which are likely to be exacerbated further by the declining demand for oil that is predicted to occur between now and 2040, as global governments implement ever stricter clean energy and climate change targets. For businesses in the region, the opportunity lies in repurposing the knowledge and skills of the energy sector to the emerging hydrogen industry.

In addition, given the quality of local solar and wind resources - as demonstrated by record low tariffs - and geographical location, the MENA region is well placed to be a leading world exporter of green hydrogen if it acts now.

As with any emerging industry, there are hurdles to overcome as a sustainable market emerges. These hurdles will inevitably dissipate as the regulatory, insurance, finance and contracting environments mature and offtake opportunities grow.

What is clean hydrogen?

Currently, hydrogen is often produced from methane using the steam-methane reforming (SMR) process. This is relatively cheap, but produces carbon dioxide (CO2) as a byproduct, and is known as 'grey' hydrogen. The process can be combined with carbon capture and storage (CCS), where it is known as 'blue' hydrogen.

Green hydrogen uses renewable energy combined with electrolysis. Whilst this process does not produce CO2, it is not currently cost competitive with grey hydrogen or 'brown' hydrogen, produced from coal; even where the costs of CCS to reduce the carbon footprint of the process is taken into account.

However, electrolysis is a tried and tested technology, and the costs are forecast to reduce significantly as production is scaled up. Regional developer ACWA Power has recently formed a consortium with other developers, with the aim of reducing the cost of green hydrogen to below $2 per kilogramme by 2026.

In the Middle East, there is an opportunity to target the hydrogen market through any of these production routes - but green hydrogen is likely to dominate in the long term as more and more countries seek to decarbonise their economies.

There is not currently a significant hydrogen market in the Middle East, so the first projects announced in the region are targeting export markets. These projects will require scale in order to be cost competitive, which in turn will require a large market which has not yet arrived. They will also be competing with existing conventional producers of hydrogen and ammonia in the region.

Establishing a clean hydrogen market

The biggest challenge for the MENA region is that, in the absence of the development of a local market, roll-out will be dependent on securing contracts in export markets. The race to develop both a domestic and international hydrogen trading market is very real, which is evident from the substantial government investment being deployed in countries like Germany, France, Australia, Japan and South Korea to advance their local markets.

There are a number of other potential hurdles to overcome as a sustainable market is established.

Securing offtake

Offtake opportunities for hydrogen are currently limited, largely due to the lack of a domestic and international trading market. While the number of green hydrogen projects being developed globally is increasing at an exponential rate, it is critical that demand for hydrogen develops in parallel.

A recently-announced green hydrogen project in Neom - a mega-city development in Saudi Arabia - by ACWA Power and Air Products is aimed at transportation demand globally. Joint venture partner Air Products has been named as an offtaker, however, Air Products in turn will need to identify users for the hydrogen, given that its business is in the supply rather than use of gases.

Potential offtake markets to watch include:

• gas network operators – blending hydrogen into existing gas networks is the simplest and easiest way to boost local demand for hydrogen. Markets such as the UK, Australia, France and Germany are all taking strides in this direction. Japan is considering introducing ammonia or hydrogen into coal-fired power plants as a way of reducing carbon emissions. Saudi Aramco has recently made a first shipment of blue ammonia to Japan;
• transportation – transport sector demand for hydrogen will be substantial in the future, although the significant level of capital expenditure required to incorporate hydrogen into transportation is currently a significant deterrent outside the commercial sector. Investment will be needed in refuelling stations, new vehicle manufacture, hydrogen transportation and storage and similar facilities. Pilot transportation projects have been announced in the UAE and Saudi Arabia, but these are currently on a small scale;
• grid – hydrogen as an energy storage vector will play an important role in grid stabilisation. Storing excess green energy produced during peak production times can assist with stabilising grid energy loads and flatten the peaks and troughs of the electricity spot market. The round-trip efficiency of incorporating hydrogen storage into grids remains a challenge but, in the long-term, this represents one of the biggest opportunities in the region as the development of a reliable, cheap storage solution for renewables would enable round-the-clock dispatch. If developed locally, this could also become a technology which could be exported from the region to the rest of the world;
• industry – there is an existing market for hydrogen in various industries, but green hydrogen will need to become cost competitive before it can displace existing sources.

Finance

As this is a relatively new market, financiers tend to apply more onerous lending principles when undertaking their financial assessment of a project, including being able to demonstrate a secure revenue stream.

While debt finance remains relatively plentiful for standard renewable energy assets like solar and wind, the limited offtake opportunities in respect of green hydrogen is, rightly, troublesome for conventional debt financiers. However, the emergence of private equity investors and pension funds in this market are quickly filling the liquidity shortfall.

Contracting models

EPC contracting is the global norm for most major renewable energy projects, particularly in the MENA region. However, given the specialist nature of the individual components which make up a hydrogen project - the solar or wind component, electrolyser etc. - split contracting could be a more economic way of project delivery on early projects. However, this approach is often not supported by financiers, which tend to push for full risk transfer through EPC contracting.

Regulatory environment

As a relatively new industry, it is unsurprising that the regulatory environment around green hydrogen remains immature. While new regulations and regulatory regimes will no doubt arise, hydrogen projects will not have the benefit of a mature, certain and consistent regulatory regime. In many markets, regulations will be required to incentivise green hydrogen projects, either through the introduction of emissions schemes or financial support for hydrogen through contracts for difference (CfDs) or other mechanisms.

As the global experience with feed-in tariffs has demonstrated, these types of mechanisms can be subject to regular change which raises the risk associated with such projects. Developers must be conscious that changes in law - perhaps significant changes - may occur during the life of their projects, which may have material cost impacts.

Storage and transport

The technology around the storage and transportation of hydrogen remains a work in progress. Before a truly global hydrogen trading market is possible, we will first have to develop an appropriate means of storing and transporting hydrogen in a cost effective and safe way. Japan has just launched the world's first liquid hydrogen vessel to import brown hydrogen from Australia, and there are other projects, including Neom, looking to use ammonia as a transport medium as this is easier and safer to store.

Co-written by Toby Evans of Pinsent Masons