DATELINE: 22 July 2004
Natural Gas Costs Could Continue to Rise
By Ken Silverstein
Director, Energy Industry Analysis
Natural gas demand could yield to shrinking gas reserves, high prices and regulatory hurdles that remain because of environmental concerns. Moreover, a new study by the gas industry says that a lag in the construction of vital infrastructure such as pipelines and storage facilities will cost U.S. consumers more than $200 billion by 2020.
Natural gas, of course, had been labeled the “fuel of choice” after the Clean Air Act amendments of 1990 had been signed by the elder President Bush. While about 90 percent of the new power generation is to be fueled with natural gas, producers and developers have had a difficult time winning new permits to drill and to lay pipe in the ground. That's pushed such prices higher as well as contributed to the reliance on other fuel sources such as coal.
The most immediate question is whether the optimistic calculations as to the demand for natural gas can hold. Today, the industry must produce 6 trillion cubic feet (tcf) per year of new natural gas just to keep pace with current needs because supplies are being depleted by about 29 percent per year. That goal is increasingly difficult to achieve as the wells are more costly to drill.
The lack of supply puts upward pressure on prices. In its "Accelerated Depletion: Impacts on Domestic Oil and Natural Gas" study released in 2001, the Energy Information Administration said that if the original 30 tcf demand projection is to reach fruition, then the price of gas would have to remain less than $3.25 per MMbtu. It also said that producers would need to maintain high levels of drilling and have access to basins off the Florida coast and in the Rocky Mountains. Gas prices are projected to be around $6 per MMbtu for the foreseeable future—a prediction that casts the 30 tcf prediction in doubt.
In fact, the new study by the INGAA Foundation says that the prices would rise from the base case price of $5.65 per MMbtu between 2005 and 2020 to $6.43 per MMbtu if construction projects were delayed by two or more years. This would be because of increased bottlenecks, it says. It furthermore says that U.S. industry would suffer from higher prices and that job losses would occur.
To meet a growth demand of 2 percent per year until 2020, the foundation says that roughly $61 billion of investment in natural gas pipelines and storage facilities is necessary, both in the United States and Canada. About $19 billion of that would be needed just to replace aging pipelines. The report goes on to say that the industry must build more than 45,000 miles of pipelines in North America, as well as at least 10 new liquefied natural gas (LNG) terminals.
“Much of the growth of the gas market over the next 20 years must be sustained by development of currently untapped supplies from areas that are generally more remote from the consuming markets in North America,” says that report.
Bush Administration Sympathetic
But natural gas production is down. A Lehman Brothers report concludes that quarterly natural gas production is off by as much as 5.3 percent from a year ago. That's surprising, given that drilling levels have been at near-record highs. The dilemma means that producers either must have more access to drilling on federal lands or it means that there will be a greater reliance on other fuel sources.
The current Bush administration is sympathetic to natural gas producers. By executive order, it just opened millions of acres in the northwest corner of Alaska to oil and natural gas drilling. Of the 8.8 million acres, no drilling will be allowed on 1.6 million acres as well as certain coastal areas.
Altogether, the National Petroleum Reserve that Bush just opened is 23 million acres, or about the size of Indiana. It's located adjacent to the Arctic National Wildlife Refuge, which has become a contentious issue. Unlike that refuge, the petroleum reserve was established in 1923 and has been explored, although infrequently. The Clinton administration opened about 4 million acres—a move that the environmental community opposed because of the impact on natural wildlife, an argument that is still relevant.
And, in another development, the Bush administration is expected to promote new government incentives to encourage natural gas exploration in the Gulf of Mexico. The White House announced previously that the Departments of Interior and Justice had reached an accord with private energy companies. The agreement stipulates that the government buy back leases sold more than 10 years ago for offshore drilling off the coast of Florida, where the Destin Dome is located. The Destin Dome is thought to hold 2.6 trillion cubic feet (tcf) of natural gas.
"We can continue to access these vital reserves and in doing so we can increase our national security, provide more stable energy prices for America's families, reduce our dependency on foreign oil and create new jobs in America," says Interior Secretary Gale Norton in reference to the National Petroleum Reserve.
Indeed, producers want more access to federal lands in the Rocky Mountains, the Atlantic coastline, California's coastline, the Gulf of Mexico and the Arctic National Wildlife Refuge (ANWR.) Producers point specifically to the Rockies, where 45 percent of all likely deposits are off limits to exploration and to the eastern Gulf of Mexico, the Atlantic Ocean and the California coast where a moratorium on drilling has been in place since 1998. Newer drilling techniques, they add, are environmentally “benign.”
Differing Views
Environmentalists have a different view. The void between the expected demand and the underlying riches is still too big, they say, adding that drilling is always devastating. Consider Alaska's ANWR: Opposition groups have opposed it on the grounds that the surroundings are too pristine and it would do little to dent the nation's dependence on foreign supplies.
The stark reality is that three-quarters of the world's natural gas reserves are in areas such as Eastern Europe, the former Soviet Union and the Middle East. It is likely that the United States will become increasingly dependent on those areas of the world to meet its growing natural gas demand through LNG imports.
In any event, producers are now gun-shy. Not only are the regulatory impediments high but also the cost of capital along with the volatility of the underlying commodity is also problematic. The added risks have made bankers recoil and forced U.S. producers to cut their budgets. Current spending is pegged at about $28 billion a year but nearly $40 billion annually is needed over the next 15 years, says the National Petroleum Council, an oil and natural gas advisory committee to the energy secretary.
Natural gas prices could come down if more supply came into the market. That's something that can only happen if producers gain more access to federal lands that are now off limits to them. But such access would also come at a cost, namely the environmental damage that would result. While the matter has become a hot topic between the presidential contenders, broader drilling rights are likely to remain elusive.
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