Are oil and natural gas going separate ways in the United Kingdom? Cointegration tests with structural shifts

ABSTRACT Previous analyses show that UK spot market prices for gas follow the same pattern as the global oil price, ie, there is an integrated market for energy. In recent years there have been several developments in the UK gas market that may call for a different price relationship. The spot market for gas has become more liquid, and an increasing fraction of gas is being used for electricity generation, therefore competing against coal and nuclear power. Moreover, there is an increasing level of imported liquefied natural gas, and there may have been a change in the perception of relative scarcity of oil and natural gas as well as the effectiveness of the Organization of the Petroleum Exporting Countries cartel. Analyzing more recent data and applying newer analytical tools that allow for endogenous structural shifts, we test whether oil and gas prices in the United Kingdom are still cointegrated. We find structural shifts in 2006 and 2007, and, after the second structural shift, the evidence for oil and gas markets being cointegrated is much weaker. Specifically, the stochastic trend in Brent oil seems to be less predominant in the movement of National Balancing Point gas price.