Practical Economics


Countering Russia With Natural Gas

Jim Patterson

What the coming boost in exports spells for U.S. consumers, gas producers and investors.



A crisis thousands of miles away in Ukraine is about to have a big impact on the U.S. energy industry, as the Obama administration seeks to offset Russia’s growing influence in Eastern Europe. The White House aims to hit Moscow in the pocketbook by supplanting it as a big supplier of natural gas to Europe.

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Support for selling more of the U.S.’ abundant natural gas supplies abroad had already been building prior to Russia’s annexation of Ukraine’s Crimean territory. Though existing law bars energy firms from exporting natural gas to countries that haven’t signed free-trade agreements with the U.S., would-be exporters can apply to the Department of Energy for a special export license. Seven such licenses have been granted since 2012, with dozens more firms applying for approval to sell cheap domestic gas to buyers in Europe and Asia, where gas prices are far higher.

Though multiple studies commissioned by the federal government have concluded that exports of liquefied natural gas (LNG) would boost GDP and create jobs, the Department of Energy has taken a go-slow approach to granting export licenses, for fear that a flood of exports could ramp up gas prices here at home. But Russia’s recent aggression in Ukraine promises to expedite the process.

Lessening Europe’s reliance on Russian natural gas by boosting global supplies of LNG and creating alternative supply options is “what this is really all about,” says energy analyst Phil Flynn of brokerage firm PRICE Futures Group. Russia is “desperate to hang on to” its share of the European energy market, he says. Europe currently relies on Russia for one-third of its gas needs, according to data from the International Energy Agency.

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The White House figures a Europe less dependent on Russia for gas — and less exposed to Russian threats to shut off that gas during times of geopolitical tension — will be able to take a firmer stand against future Russian aggression.

Price Implications
Even with a faster pace of approvals for LNG export permits, building the multi-billion-dollar facilities for liquefying gas and loading it on ships will take years. The first export terminal, Cheniere’s Sabine Pass facility in coastal Louisiana, is still about a year and a half away from operation, with others coming on line from 2016 to 2019.

But the effect of those exports on prices of natural gas could show up sooner, as markets anticipate the increased demand. Henry Hub benchmark prices, now at about $4.40 per million British thermal units (MMBtu), have already rebounded from the lows of 2012, when a glut of gas pushed prices to $2 per MMBtu.

It’s hard to say just yet how much higher prices will rise, especially since domestic users such as electric utilities will also be ramping up their gas usage during this time frame, even as drillers unlock new supplies.

We think the most likely outcome is a moderate gain, to a range of $6 or so per MMBtu over the next few years.

That’s a considerable increase from two years ago, when gas prices were so low that many new wells became unprofitable to drill. But $6 gas would still be cheaper than 2008’s average price of about $9 per MMBtu, and would still compare favorably to the $10 or more that prevails in many Asian and European markets. That means U.S. makers of plastics and other chemicals that use natural gas as a raw material should continue to enjoy a competitive advantage over their foreign rivals.

Winners and Losers
Consumers will feel the effects of rising gas prices on their utility bills. Roughly half of U.S. households use natural gas to heat their homes, and nearly 30% of the nation’s power is generated by burning gas, too. So winter heating costs figure to rise slowly but steadily along with gas prices. Ditto for electric rates, which should increase by 10% to 15% as gas costs rise and utilities facing tougher limits on power plant emissions switch from burning coal to gas.

But rising gas prices promise to boost profits for producers. The biggest gas suppliers in the U.S. — ExxonMobil, Anadarko, Chesapeake Energy, Devon, etc. — would get a significant lift in profitability. That in turn means more drilling activity, particularly in the Marcellus Shale of Pennsylvania, where production costs tend to be relatively low. Also look for higher drilling and output rates in Texas (already the biggest gas-producing state) and the Gulf Coast.

Rising output means significant investment in pipelines to get gas to market: upwards of 300,000 miles of new pipe by industry estimates, along with new compressor stations and related infrastructure. All told, that equipment build-out will require $14 billion in annual spending and should keep pipeline builders and engineering firms busy for years to come.

Figuring out which firms looking to export gas will profit is tricky. Michael Lynch, an energy analyst and forecaster with Strategic Economic and Energy Research, figures not every company applying for an export permit will end up building an LNG shipping terminal, even if their application is approved. Plants that get built first “will make a ton of money,” he says, but latecomers could miss their chance to grab a share of the global LNG market.

Some good bets to get a jump on exports: Cheniere, ConocoPhillips and Sempra, which have already received export approval from the Department of Energy.



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