A Snafu for US Gas Exports and US Energy Policy

A cost-overrun dispute on the expanded Panama Canal construction could be a big snafu for exporting US liquefied natural gas. Keith Johnson of the Seattle Times notes that:

The project is the expansion of the Panama Canal to allow more and bigger ships to pass through – for instance, the large tankers that carry liquefied natural gas (LNG). Today, only about 6 percent of the global LNG tanker fleet can pass through the canal; after the expansion, about 90 percent of tankers will be able to use it, according to a U.S. government study. The bigger canal would provide a quicker and cheaper way to ship natural gas from the U.S. Gulf Coast and East Coast to markets in Asia that are desperate to secure supplies of natural gas.

But those plans now could be jeopardized because of a dispute over cost overruns – which means America’s gas-export dreams could be in jeopardy, too.

Why is LNG a critical part of any talk about both US and global energy? LNG is produced when natural gas is cooled to approximately -260 F. As summarized by Charles Morris in his Reuters opinion, The Case Against Natural Gas Exports:

Natural gas, the cleanest of the hydrocarbon-based fuels, has long been a primary choice for heating and power generation, as well as an essential raw material, or “feedstock,” for a vast range of chemistry-based products, including every kind of plastic, synthetic cloth and high-tech composite materials.

More importantly to the LNG/natural gas discussion is that since the early 2000’s, US gas production has increased so much that it has largely outstripped any growth in consumption. As observed by Trefis analysts in their 1/3/2014 posting on Key Trends Impacting Natural Gas Prices:

The outlook for U.S. natural gas supply has changed significantly over the past few years, primarily due to the evolution of horizontal drilling and hydraulic fracturing; these techniques have enabled energy companies to tap the huge shale gas reserves in the U.S. at commercially sustainable rates. Widespread use of these techniques started only during the early 2000s in the Barnett shale play in north-central Texas. However, since then, natural gas production in the U.S. has ramped up much faster than the growth in consumption, which has led to severely depressed commodity prices by international standards.

Today, natural gas prices in the U.S. are less than half of that in the Europe and less than one-third of that in the LNG (liquefied natural gas) dependent Asian economies, such as Japan. Those hoping to make investments in oil and gas may want to use the services of a company like EnergyFunders with help from their elite operator teams and access to diverse, highly vetted investments through an easy-to-use online platform. Huge recoverable reserve estimates lead the EIA (authors note: US Energy Information Administration) to believe that shale gas would account for ~50% of the total natural gas production in the U.S. in 2040. Additionally, as the industry’s understanding of the shale resource basins continues to grow, leading to more productive wells, drilling costs are expected to trend lower. We therefore expect natural gas prices in the U.S. to remain depressed by international standards in the medium to long term.

The significant point here is that the price of US produced natural gas is much, much lower in the US than natural gas sold elsewhere. Charles Morris gives a summary of how the spot price of domestic gas is set:

The spot price of gas is set in the New York futures market, based on trades at a major Louisiana collection center called the Henry Hub. During the worst of the glut, the Henry Hub price dropped below $2 per thousand cubic feet (Mcf), well under the cost of production. But now new pipeline construction has broken the worst pipeline bottlenecks, and customer demand is rising, so prices have been hovering near $4 per Mcf for some time.

However, natural gas prices overseas are typically “oil-linked”, which means the price is coupled to the per-unit energy cost of crude oil. Morris further notes that in the global market:

Global oil and gas are not traded in free markets…World oil prices are carefully managed by the Organization of Petroleum Exporting Countries (OPEC) cartel. Knowing a good deal when they see it, the world’s largest gas producers, Russia and Qatar, both of whom produce gas more cheaply than the American shale industry can, keep gas prices resolutely oil-linked. It’s raining money for all of them.

Thus, one of the primary consequences of LNG exports is an expected rise in the domestic price of natural gas. Morris also points to Australia as the real world example of this:

Fortunately, we don’t have to rely on forecasts. There is a real-life experiment underway in Australia. They have been exporting natural gas for some time in modest amounts. But a number of big projects will start coming on line next year, and local gas prices have already tripled – though there is ample supply and there has been little change in production costs. Suppliers apparently “prefer to sell the LNG to the likes of Japan and South Korea who will pay a premium for it.”

Not surprisingly, a huge lobbying confrontation is occurring in Washington. The confrontation centers on the approval process for liquefaction installations (gas needs to be liquefied at cryogenic temperatures which “shrinks the volume by about 600 times, making the resource easier to store and transport through marine shipments”. The approval process involves both the US Department of Energy and the Federal Energy Regulatory Commission. According to the American Petroleum Institute:

As of October 1, 2013, the U.S. Department of Energy (DOE) had approved only four applications for permits to export liquefied natural gas (LNG) to non-free trade agreement nations. There are currently 21 pending applications, covering 19 facilities where U.S. businesses are seeking to build and operate terminals to process LNG for sales abroad. (A map showing proposed LNG export facilities is on the API website and is linked here.)

Interestingly enough, there is yet another sidelight to US LNG exports as outlined by the Sierra Club in An open letter to Energy Secretary Moniz on natural gas exports:

But the real game-changer for exporting LNG will be if the U.S. completes the free trade agreement called the Trans Pacific Partnership (TPP), which is currently under negotiation with 10 countries across the Pacific Rim. And Japan, the world’s biggest LNG importer, is likely to join the talks in July. The TPP and another pact the U.S. is initiating with the European Union (EU) are likely to require DOE to approve all gas exports, of any amount and without delay, to nations in the agreement. The TPP could be finalized as early as October of this year, and the U.S.-EU trade pact in 2015.

All in all, 2014 is already shaping up as a very interesting year for US natural gas, LNG exports, and US energy policy.