Coal, Gas

Natural Gas Crisis Revisited

Issue 8 and Volume 107.

By Bob Smock, Vice President,
Global Energy Group

Did you follow the flurry of news reports in June about the natural gas crisis? Though the media has since moved on to newer crises, the underlying problems with gas supply and pricing remain. The situation suggests the following scenario:

The crisis gets worse. Natural gas prices continue to climb into the winter heating season. Demand exceeds supply and shortages begin to occur. The winter is extra-cold and some homeowners can’t get enough gas to heat their homes. The growing number of gas-burning power plants is blamed. Congress, feeling the pressure, passes a law. The president signs it. The law bans the use of gas fuel in new power plants and sets a deadline for phasing out gas in existing plants.

Sounds crazy? Could never happen? Well, it did happen. In the 1970s, this scenario unfolded and in 1978 Congress passed the Power Plant and Industrial Fuel Use Act. PIFUA prohibited the use of gas as a fuel in new power plants and required existing plants to stop using gas by 1990.

PIFUA was repealed in 1987 – after the federal government stopped regulating the price of gas at the wellhead and supply quickly grew to exceed demand – but the ban was in place for nine years.

The current situation is eerily similar to what led up to PIFUA, including the threat of Congressional action intended to protect voters with gas-heated homes.

Prices are rising. Demand exceeds supply. Electric power generation is at the heart of the issue. Over the past four years about 200,000 MW of new gas fired generating plants have been built, significantly increasing demand for gas and putting upward pressure on prices. The build-out of gas plants is still underway, at a lower rate, but still adding to gas demand.

The underlying problem is that U.S. gas production is declining while demand is rising. Production is less than consumption, resulting in a drawdown of gas in storage. Talk of a crisis was triggered by the abnormally low levels of gas in storage this spring, bottoming at the lowest level since storage amounts started being recorded in 1976. Spot market gas prices climbed to above $6.00/MMBtu in June, almost double the level of a year ago.

First talk of a crisis came from industrial users who feel the high price impact first. Industrial consumers asked the president to “declare war on natural gas prices.” Representatives from chemical, fertilizer, and other process industrials that use natural gas as a feedstock complained that the high prices were making their products noncompetitive in international markets, aggravating the economic downturn.

U. S. Dept. of Energy Secretary Spencer Abraham wrote a letter to 30 senators in June calling for, among other steps, electric utilities to switch from natural gas to coal and other energy sources.

A House of Representatives energy and commerce committee hearing on the issue on June 10 featured testimony from federal reserve chairman Alan Greenspan, who concluded, “Uthe long-term equilibrium price for natural gas in the United States has risen persistently during the past six years from approximately $2 per million Btu to more than $4.50. The perceived tightening of long-term demand-supply balances is beginning to price some industrial demand out of the market. It is not clear whether these losses are temporary, pending a fall in price, or permanent.” Greenspan did not seem worried about a shortage of natural gas, noting that if the U.S. gas industry did not increase production sufficiently, then imports would fill the gap, in the form of liquefied natural gas if necessary. House committee chairman Billy Tauzin, R-La., was quoted as saying, “We see a storm brewing on the horizon. We need to prepare for it.”

By July the “crisis” eased. Large injections of gas into storage relieved fears of a shortage this winter, even though storage levels are still significantly below levels of a year ago. Spot prices fell back to the $5-6 range, down from the spring peaks but still well above year-ago levels.

Power generators cannot afford to ignore this issue. The underlying trends in the gas market remain:

  • Additional U.S. gas production or imports can meet demand, but at a much higher long-term price than in the past.
  • The tremendous increase in gas-fired electric power generating capacity in the last few years has been the dominant change on the demand side of the market and is the main cause of current market strain.
  • The U.S. has not had an extremely cold winter or a series of extremely cold winters since the mid 1970s—but that is certain to happen again sometime.

Note Alan Greenspan’s use of the word “perceived” in referring to the “tightening” of the “demand-supply balance.” Calling the situation a “crisis” may be an emotional over-reaction, but we must remember that natural gas is a politically sensitive commodity. In such situations, perceptions have a way of becoming realities.

Look at what happened in 1978.