Still no solution for rising gas prices

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By Leith van Onselen

Another article appeared in the Weekend AFR arguing that New South Wales faces big job losses if gas prices are allowed to rise on the back of LNG exports from Queensland:

…western Sydney will bear the brunt of expected shortages in natural gas in NSW that are predicted in just over two years, resulting in job losses and higher energy bills…

NSW has big gas purchase contracts rolling off in the next few years…

Food producers, large manufacturers and industry groups have all been warning of the escalating risks to companies and jobs because of a pending gas supply crisis in NSW, which produces only about 5 per cent of its gas requirements, relying on other states for the rest…

“A lot of businesses are simply not going to be able to afford to pay the higher prices, let alone deal with supply shortfalls.”

Wholesale gas prices, which historically have been about $3 a gigajoule, have surged above $8 in recent contracts. Some analysts are advising prices could spike to $12 in the next few years before likely softening again to below $10.

The solution, according to AGL, is to boost the supply of unconventional (coal seam) gas in New South Wales, so that supply can catch-up to demand, which is expected to triple on the East Coast as the Gladstone LNG export plants come on line.

Similar arguments were on display from The Australian’s Judith Sloan (also a former director of Santos Ltd and Woodside), who blames opposition to coal seam gas in New South Wales for making gas costlier:

…if the supply of new gas reserves is constrained, then the price will rise.

…when these tame economists claim there is a world price for gas, that demand for gas is effectively limitless and the supply curve is perfectly elastic, they are talking through their hats…

…how do these apologists for the green movement explain the fact the price of gas in the US has fallen from $10 per 1000 cubic feet to less than $3?

That would be because of fracking and the dramatic increase in the exploitation of unconventional gas. More supply has driven lower prices — the basic laws of economics have not been suspended…

NSW, in particular, is facing a monumental shortage of gas, with close to 95 per cent of supplies coming from interstate. The domestic price of gas will go up and up and there is very little that can be done in the short term…

Increasing the supply of gas would mean lower domestic prices…

In the meantime, we can only observe with a sense of envy the developments in the US, where the price of gas has fallen by two-third.

Unfortunately, there are holes in Sloan’s argument.

First, comparisons with the US aren’t valid. The US is primarily a domestic market, whereas Australia’s gas market will soon become linked to the global market, requiring us to pay global prices (less the cost of liquefaction and shipping). In the US, unlike Australia, significant export restrictions on domestic gas exist. The Natural Gas Act 1938 requires anyone who wants to import or export natural gas, including LNG from or to a foreign country, to first obtain an authorisation from the Department of Energy. The granting of export licenses are only a recent phenomenon, so the US gas price is not yet linked to the world market (although this will gradually change as LNG export plants are built).

Accordingly, the huge positive supply shock from the shale gas boom has directly benefited domestic US gas users via lower prices, whereas if a similar coal seam gas (CGS) boom occurred in New South Wales or Victoria, chances are that much of the gas would be exported, therefore domestic gas prices would not be lowered to anywhere near the same extent as in the US (although it would likely provide some marginal downward pressure on prices).

Second, there is the broader debate over the efficacy of fracking the countryside in the pursuit of CSG. The process of fracking is highly controversial as it risks contaminating nearby water tables with both methane and poisonous fracking fluid, potentially destroying farmland in the process. Such concerns are real and cannot simply be swept aside as environmental hysteria.

Without a domestic gas reservation policy, or better mechanisms to capture rents from exporting Australia’s limited supply of gas, the resulting shortages, higher prices, and loss of domestic competitiveness could very well trump the domestic benefits from LNG exports, whereby the majority of profits flow offshore.

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Leith van Onselen

Leith van Onselen is Chief Economist at the MB Fund and MB Super. Leith has previously worked at the Australian Treasury, Victorian Treasury and Goldman Sachs.

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Comments

  1. Peter, nonsense.

    European cities have evolved over hundreds of years and as such are constrained by the accumulation of planning decisions not optimal to todays lifestyles. Aus mostly does not have that problem. Neither does the US with perhaps 3 exceptions (NYC, Boston, SF).

    Yes, some people want to live close to the CBD, but the advantage and attraction that new-world countries such as Aus and US have over the old world is that they HAVE space in which to unwind and raise a family. Its great that people can have both choices and IMO there will not be the trend you are envisaging where people increasingly move into the cities. IMO the whole thing is being completely distorted by the attraction of making property investable and giving Asian investors in particular somewhere to park their money. When that trend unwinds, we’ll be left with a massive glut of useless accommodation. Whether thats next year or in 20 years is hard to know, but it will happen. Just as Irish and Spanish holiday accommodation built for a temporary investor-class market.

    People looking for a demographic trend are looking for a rationalisation to explain why we have so many dogbox units in our CBD. There are only so many opera-loving downsizing boomers to go around.

    • Yes!

      ” IMO the whole thing is being completely distorted by the attraction of making property investable”

      The current environment where people can live close to the CBD just because they want to is unsustainable. Those living close to the CBD are essentially the regulators of everyone and everything else..We will at some stage reach a point, and as an old bloke I think it must be close, where the increased regulation strangles the whole of society. At the moment it just strangles the productive sector. The productive sector is way out-voted by the ‘regulating’ sector so nobody gives a RA.

      NSW has more problems than the supply of gas. The rergulators are strangling everything with rules, taxes and fees.That’s what happens when you build an economy on a CBD that doesn’t produce anything.

  2. I am a bit worried by the haste to frack all the countryside.

    If there is all this valuable gas there, I don’t see why it needs to be extracted so quickly. Better to consume the resource slowly. As such it would be a good idea to concentrate the fracking in small areas and use this as a test case.

    Part of the solution might be to require frackers to obtain real insurance from a real insurance company (if any still exist). In theory the premiums would accurately reflect the risk and cost of the damage from the process. The premiums should deter fracking near the most valuable water sources.

    • And let’s do the same for any nuclear related activities.

      The insurance industry is far better placed to estimate the real risks than a handful of environmental activists, although the environmental activists always to a great job of exposing risks that people aren’t aware of after they start to emerge in reality. eg “Gasland”, climate change

    • Claw
      Part of the solution would be to limit the amount of foreign capital we allow into this country one form and another perhaps with restrictions on foreign ownership.
      This would result in a lower level of the A$ than we are currently used to, less consumption, and we actually might have to work productively.
      However it would also require of us to actually REALLY save and invest in our own country.
      Whoa! Stupid concept!