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Thursday, April 24, 2014

Shale gas — a market phenomenon

Posted on Dec. 26, 2012 at 12:00 a.m.

Robert Samuelson

Let’s not smother the shale-gas boom. It is the crown jewel of the disappointing economic recovery. Why tamper with success? Yet, there are those who argue that benefits of shale gas could be maximized if we restricted gas exports, mainly as liquefied natural gas (LNG). This would, it’s argued, keep prices low for U.S. consumers and manufacturers, contributing powerfully to the revival of American industry. Sounds convincing. It isn’t.

Limiting LNG exports might initially cut prices, but the long-run consequences would be perverse. By depressing prices, we might kill the boom. Production would become less profitable or unprofitable, and new drilling would slow or stop. This is not just supply and demand. It’s also history. From 1954 to the early 1990s, the federal government regulated prices for interstate natural gas. Prices were held artificially low. “Shortages” developed in the 1970s; drilling suffered.

The shale-gas boom — the most important energy event in decades — is mostly a market phenomenon. The drilling techniques to extract gas from tight formations long considered uneconomic were first demonstrated by a small Texas company, Mitchell Energy. Other firms then perfected these techniques: “fracking” — injecting formations with highly-pressurized liquids — and “horizontal drilling.”

Government agencies are studying whether added environmental regulation of fracking and wastewater disposal is needed. So far, hazards seem manageable. Mainly, the boom should be left alone to build on its considerable gains. Since 2000, U.S. natural gas production has risen by a quarter, with the increase coming mostly from shale gas. From 2000 to 2012, its share of production zoomed from less than 2 percent to 34 percent. By 2040, the Energy Information Administration, the source of these figures, expects overall gas production to increase by nearly 40 percent. The share of shale gas would rise to about half.

By one study, the gas boom has created nearly 500,000 jobs for producers and their suppliers. Surging output has reduced wellhead prices more than half from stratospheric 2008 levels. In 2012, residential gas bills (which also cover transportation and distribution costs) are down 21 percent from 2008. Manufacturers consume about a third of U.S. natural gas as both a heating fuel and a petrochemical feedstock. Low prices are promoting investment by energy-intensive firms. Companies have announced at least 100 new projects or expansions worth an estimated $90 billion, estimates Dow Chemical.

Greenhouse gas emissions have also been curbed because natural gas, when used as an alternative to coal to generate electricity, produces about half as much carbon dioxide. Finally, fracking and horizontal drilling have been applied to oil, spawning a parallel boom. In 2012, U.S. oil production is up 25 percent from 2008. That’s about another 400,000 production and supplier jobs, estimates the consulting firm IHS.

In theory, LNG might divert large volumes of natural gas because the wellhead price of U.S. gas is, on an energy-equivalent basis, much cheaper than oil. But in practice, this isn’t likely: LNG isn’t easily substituted for oil and is costly. The expense of liquefying it to minus-260 degrees Fahrenheit and transporting it long distances in refrigerator tankers raises the price sharply. LNG projects are fabulously expensive.

Exporting natural gas simply isn’t as easy as exporting wheat. Unsurprisingly, LNG satisfied less than 10 percent of global gas demand in 2010. Nor are U.S. producers guaranteed contracts. Other large suppliers (Qatar, Australia) might undercut U.S. prices. But the global LNG market could absorb some U.S. shale-gas production. Why discourage this? A study commissioned by the Energy Department suggests that the price impact would be modest.

The truth is that the United States needs domestic and foreign buyers for its natural gas. Supply is outpacing demand, leading to a collapse in prices and drilling activity. Gas rigs are down half from a year ago, reports the energy firm Baker Hughes. Prices can’t be held at artificially low levels. Companies won’t drill unless they can profitably sell what they find.

A policy that discriminates against producers in favor of consumers by restricting foreign sales will hurt both. The gas boom will recede as an engine of growth. For years, Americans have complained about trade deficits. Now that we have something more to sell, we shouldn’t turn away customers.

Robert Samuelson writes a weekly economics column for The Washington Post.

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