Why US natural gas prices are so low – Are changes needed?

US natural gas prices are at record lows–about where they were in 1976, and at the low points in the 1990s, in today’s dollars (Figure 1).

Figure 1. US wellhead natural gas prices based on EIA data, adjusted to January 2012 price levels using US CPI All Urban Price data.

There are several reasons why US natural gas prices are so low:

  • Our pricing system is based on short-term supply and demand, and storage facilities are limited. It is very easy for supply to overwhelm the system, and prices to drop very low in response, if there is a mismatch.
  • US demand for natural gas has been fairly flat for the last 10 years, regardless of price. Of the four major uses for natural gas ((1)residential heating, hot water, and cooking;  (2)commercial heating, hot water, and cooking; (3) industrial demand; and (4) electricity), only electrical use has been growing.
  • Supply does not drop very quickly, even if prices fall, because producers need to continue to extract natural gas in order to repay loans and to comply with use-it-or-lose-it lease terms.

Besides variability, there are a number of other problems with depending on short-term supply and demand for pricing:

  • Today’s prices appear to be far below the cost of production for some providers, leading to the likelihood of a shakeout.
  • Unless price levels are higher and more stable, it is not clear that natural gas supply will grow over the next 10 or 20 years, making long-term investment in new uses (for example, vehicular use, gas-to-liquids, and pipelines to underserved areas) questionable.
  • Natural gas prices in the US are much lower than prices elsewhere in the world (Figure 2, below). This means that there is likely to be strong demand for US exports of natural gas, most likely as Liquefied Natural Gas (LNG), competing with internal US uses.

Figure 2. Natural gas prices in the United States, Europe, and Japan, based on World Bank Commodity Price Data (pink sheet)

Ramping up natural gas production is now very much of interest, even if new sources of demand are not available, because

  • Oil prices are high and some believe that natural gas can act as a substitute, and
  • Natural gas seems to produce less CO2 than coal or oil.

It is not clear that the current natural gas pricing approach is up to handling this mismatch between supply and demand.  In many ways, natural gas is a drill-it-as-you-need-it product, and our current market free-for-all does not recognize this.

Perhaps we should be considering a different method of regulating natural gas, since in many ways natural gas is essential. It is needed for balancing wind and solar PV, and for allowing us to continue to continue to heat our homes and businesses with natural gas. In the early days of gas, gas was regulated to produce a reasonable rate of return for providers. Perhaps something closer to this approach needs to be used again today.

If price is regulated, the amount to be drilled would need to be regulated as well, probably on a month-to-month basis. Higher prices would probably be needed under the new system to provide funds for more storage and for maintenance of pipelines, and to assure that US needs could compete with demand for LNG from overseas markets. I am doubtful that such a method of regulation would be feasible or would be politically acceptable, however.

In this post, I will explain these issues further.
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Why High Oil Prices Are Now Affecting Europe More Than the US

The world is presently sharing a limited supply of oil. When oil prices rise, oil production doesn’t rise very much, if at all.

Figure 1. Brent oil spot price and world oil supply (broadly defined), based on EIA data.

The issues then become: Which buyers get the oil? What uses get priced out of the market?  Which countries are disproportionately affected?

It seems to me that this time around, Europe, and in particular the Eurozone, is the area of the world getting hit the hardest by high oil prices. Part of this has to do with the relative level of the Euro and the US dollar. If we look at the price of Brent oil (a European oil) in Euros (Figure 2), we find that prices are as high now as they were in mid-2008.

Figure 2. Dated Brent average monthly oil prices, expressed in Euros, based on IndexMundi data.

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Businessweek Gets it Wrong—Everything You Know About Peak Oil is ‘Not’ Wrong

On January 26, Bloomberg Businessweek printed an editorial by Charles Kenny titled, “Everything You Know About Peak Oil Is Wrong”. This editorial reflects several common misunderstandings.

According to Kenny:

Titled Limits to Growth, their report suggested the world was heading toward economic collapse as it exhausted the natural resources, such as oil and copper, required for economic production. The report forecast that the world would run out of new gold in 2001 and petroleum by 2022, at the latest.

Limits to Growth gives a table that might be interpreted to show that oil and gold new extraction will be exhausted by the dates indicated. The book is careful to explain that the situation is more complicated, though. The way the book summarizes the issue is as a price problem:

Given present resource consumption rates and the projected increase in these rates, the great majority of non-renewable resources will be extremely costly 100 years from now.

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Natural Gas: The Squeeze at the Bottom of the Resource Triangle

Theoretically, we have a very large amount of resources of many kinds available–oil, natural gas, coal, uranium, gold, fresh water. There is a relatively small amount of high quality, inexpensive-to-extract resources, and we tend to extract those first. From there, we move to lower quality resources that are more expensive to extract. The question comes: How do we reach limits for the extraction of any of the resources?

For oil, I have shown this chart:

Figure 1. My version of the oil resource triangle.

I recently explained what I think is happening with oil, as we are extracting lower and lower quality resources, in my article Oil Limits, Recession, and Bumping Against the Growth Ceiling. High oil prices are squeezing the economy, leading to recession. I think this squeeze may ultimately lead to serious financial problems and reduced oil production.

In this post, I want to discuss natural gas, instead of oil. Here we are also moving down the resource triangle, getting to lower quality, more difficult to extract resources as well.

Figure 2. Stephen Holditch’s resource triangle for natural gas 

Shale gas is very low on the resource triangle for natural gas, at least according to Stephen Holditch, in a paper authored under the Distinguished Author Series of the Society of Petroleum Engineers. It has even lower permeability measured in millidarcies or md) than tight gas or coal bed methane.

It seems to me that in the United States we are, or will soon be, reaching a different kind of squeeze at the bottom of the triangle for natural gas–the squeeze of too low prices for shale gas producers to be profitable. If, somehow, natural gas prices do manage to rise sufficiently for the majority of shale gas producers to be profitable, the higher prices are likely to add to the oil’s high price squeeze on the economy that I noted in my earlier post.

In this post, I will explain what I see as happening with US natural gas supply and prices, and how this fits in with the natural gas supply controversy we have been reading about in the press recently.

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What President Obama Should Have Said Regarding Energy Policy

We meet here at a tumultuous time for the world.  In a matter of months, we’ve seen regimes toppled and democracy take root across North Africa and the Middle East. One particular area of concern is our energy supply, both present and in the future. It very much affects all of our nation’s actions, both at home and abroad.

I am afraid we have not been entirely open and honest about the situation in the past, but I want to make a change, and talk about the real energy situation, and start making plans for a lower-energy world. In the not too distant future–probably within the next 20 to 50 years, but perhaps as soon as the next 10 years, we will need to go back to using just the energy resources that we receive each day to sustain this world. This will require a very different type of society than we have today. Continue reading