There is another industry sponsored report out this morning. We are used to seeing these from the mining sector but today it is manufacturing that is getting into the act and more particularly chemicals.
The report is called Large scale export of East Coast Australia natural gas: Unintended consequences. It is by Melbourne consultancy National Economics and was commissioned by AiG as well as the PCIA, the chemicals lobby.
In the name of consistency I suggest taking the report with a grain of salt, especially the modelling. But the report has some value in highlighting that LNG exports do represent a developing dimension of Dutch disease for East coast manufacturing with gas inputs. There is no doubt that the East coast price is going to rise as it is exposed to the much higher North Asian price. I’m of the view that the North Asian price is also going to fall, probably substantially, but even if we take a median between the local and international of $8-9 that is more than a doubling the local gas cost.
There is a need for an objective debate around this. The full report is below.
Natural gas is a fundamental source of energy for power generation, industry, consumers, hospitals and institutions generally. In today’s world of transition to greater use of renewable energy it plays an important role in facilitating cost effective peaking power to fill the gaps when renewable supply is not available. It is both an efficient relatively clean fuel source and a critical feedstock for conversion by industry into value-added consumer products. Its value to the domestic economy is very significant as the alternatives are less efficient and, in the case of coal and oil, have significantly higher greenhouse gas emissions.
Many major projects to export Liquefied Natural Gas from Eastern Australia have been approved and will start to operate over the next several years. This will significantly impact the domestic supply of natural gas. In this report we do not argue against the export of LNG but emphasise that the benefits from exporting LNG should be weighed against the benefits of ensuring competitive supply to the domestic gas-dependent manufacturing sector. In a market where there are sufficient reserves of the resource, as appears to be the case in Australia, the typical response would be for additional supply to be made available to meet domestic demand. However, due to the nature of the gas resources, their location, limitations in infrastructure and the way in which we manage these resources, there is a serious risk that this will not be the case. Even a temporary period without secure access to domestic gas would have significant unintended consequences, as would a shift to LNG linked gas pricing. As such, it is prudent to look at the implications of these developments for consumers and industry.
The National Institute of Economic and Industry Research (NIEIR) has made such an assessment, reviewing the literature and conducting its own assessment of the sectoral and macroeconomic implications of these developments. The findings are concerning.
NIEIR has found that:
• if existing plans proceed, gas exports from eastern Australia will rise from 2 million tonnes in 2015 to 20 million tonnes in 2018, and possibly 24 million tonnes in 2023;
• the current policy framework and market settings for the Australian gas industry favour export of LNG without a subsequent assurance of reliable, competitively priced supplies of gas for domestic industry. Such supplies have historically been a competitive advantage for Australian industry, and gas export revenue is insufficient to compensate Australia for the loss of this advantage;
• natural gas is essential to a range of industries, particularly non-ferrous metals and basic chemicals, but also plastics, pharmaceuticals, paints and cosmetics. Secure local supply at competitive prices is a fundamental requirement for the continuation of a significant part of production and the development of new investment in these industries;
• contracts for the long term supply of gas to domestic industry have ‘evaporated’ as a consequence of export commitments;
• Australia has only a few years before significant economic loss is likely to be felt from the failure to secure an affordable supply of natural gas to domestic users;
• domestic gas users are increasingly being offered “surplus” gas volumes and prices that do not reflect domestic supply, demand or extraction costs, but are instead linked to East Asia’s LNG market – the highest-priced gas in the world. This is a radical reshaping of the domestic gas market, constraining supply (in the near term at least) and driving prices to high (and for many industries uneconomic) levels;
• current gas production and proven reserves will need to expand dramatically in order to support the LNG expansion without significant large scale suppression of gas use on the domestic economy. While the total gas resource is thought to be very large, proving up additional resources and developing them will take time and faces community opposition and other barriers. To ensure gas availability for domestic users, the management of reserves and their supply to market needs attention if domestic needs are not to be overlooked in the rush to export this valuable resource;
• there are important opportunities to expand use of gas in industrial production and electricity generation, but even so domestic consumers cannot make use of the whole gas resource. There are worthwhile benefits to pursue from exporting gas production beyond these needs. But each petajoule of natural gas that is shifted away from industrial use towards export, whether because of tight supply or uneconomic pricing, means giving up $255 million in lost industrial output for a $12 million gain in export output. That is, for every dollar gained $21 is lost. This increases to $24 when
economy-wide impacts are taken into account;
• the dramatic shift in the domestic gas market will have wider impacts well beyond the gas intensive industries:
• increased operating costs for gas-fired electricity generators due to high gas prices. Such generators would see cost increases three times greater than those currently resulting from the carbon tax. Wholesale electricity prices would thus rise, and the viability of new gas-fired generation would suffer. These plants already play an important role in the electricity market for both peak power and base load. That role is expected to grow to meet emissions reduction targets and provide backup for expanding renewable generation;
• some substitution away from gas towards electricity by business and households, to reduce their exposure to rising gas prices. This would still leave their costs higher than at present, and would raise greenhouse emissions;
• a slow-down of general economic activity resulting from impacts of the tighter gas supply and higher costs for gas and electricity;
• the expected economic response to the East Coast LNG expansion will involve a combination of the adjustments above. As a result, modelling indicates that, by 2040 the gross production benefit for East Coast LNG expansion will be $15 billion annually, in 2009 prices. However, taking into account the negative effects of adjustment on other sectors, annual GDP will be $22 billion lower than it would be with secure and affordable gas. An alternative ‘benefit indicator’ used for this study, which combines private consumption, tax receipts and net national product, will be reduced by $46 billion;
• under current policy settings and market structures, the unwanted consequences of the significant boom in LNG exports will persist even if, as is likely, adequate natural gas reserves exist and are brought to market; and
• there are substantial further risks that would lead to even greater costs if realised.These risks include:
(i) LNG prices may be lower than currently expected. While this would reduce the extent of domestic price rises, it would also reduce gross export benefits while leaving domestic supply constrained in the short-to-medium term by contracted export commitments; and
(ii) industry will likely be unable to grow without secure affordable gas supplies, leading to additional damage. The rules of thumb developed in this study for these additional effects are:
• for every 1 per cent reduction in the LNG price the economy-wide benefits from LNG exports will be reduced by approximately 2 percentage points. This stems mainly from the fact that tax receipts and domestic profits will be disproportionately impacted. Foreign interest payments and repayment of debt will still have to be paid; and
• for every $1m of existing chemical industry output that is saved by increased natural gas supply there is another $1m of output that can be obtained by using the competitive advantages for domestic natural gas availability in general, and natural gas liquids in particular.The likely consequences of the current policy and industry settings on natural gas export are serious for both industry and households. There is an urgent need for more recognition of these impacts, and for a debate on how they can be prevented, alleviated or adapted to.
LNG export is a positive for Australia as long as it proceeds without significant harm to the domestic sector and with confident assurance of domestic supply.
