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Abstract
Abstract continued
For the time being, the equality of gas and oil prices has
become the new norm; but, in the longer term, a discount of crude
oil relative to natural gas might be envisaged, as the latter is a cleaner
fuel and emits less carbon dioxide when used.
Historical background
During the first half of the 20th century, natural gas was treated as an undesirable
by-product of oil production and, wherever a wildcat would yield gas, it was usually
sealed off without further ado. And, if some of the associated gas was eventually sold
off as fuel, it was at negligible prices (sometimes barely enough to cover its transfer costs).
The first natural gas market developed gradually in the United States. In 1938,
by way of the Natural Gas Act, the US Congress placed the natural gas industry
under the aegis of the Federal Power Comission (FPC) and, in 1954, the US Supreme
Court ruled that the prices of interstate natural gas were subject to FPC control at the
wellhead.3 As late as 1975 and notwithstanding the explosive consumption growth of
natural gas in the USA to a record 555 billion cubic metres that year (representing a
whopping 46 per cent of worldwide gas consumption and also a 29 per cent share of
US primary energy4), the FPC set a new national ceiling price of 52 cents (per million
Brtitish thermal units) on natural gas.5 With the posted price of West Texas Light
Intermediate(WTI) crude oil barrel at an average of $12.23 (equivalent to $2.11 per
mBtu) in 1976, the ratio of the maximal gas price to WTI (on a Btu-basis) stood at
around 25 per cent. With time, however, this ratio rose towards 50 per cent and then,
during the 1990s, even to around 75 per cent (figure 1). Still, natural gas was always
sold at a discount to crude oil.
Towards the close of the 20th century, US gas prices began their very slow pro-
gression to reach the $23/mBtu bracket in the mid-1980s and late 1990s (figure 2).
The average price of imported gas to the European Union (EU) did stabilise in the
same bracket beginning to gradually align on the US market. In the third important
market of Japan (LNG), prices were always higher, settling during the 1990s between
$3/mBtu and $4/mBtu.
1.0
0.9
0.8
0.7
0.6
0.5
0.4
0.3
0.2
0.1
0
1986 1988 1990 1992 1994 1996 1998 1999
Figure 2
Natural gas price (yearly average) for the three major regional markets7
$/mBtu
6
Japan
5
EU
4
3 USA
0
1975 1979 1983 1987 1991 1995 1999
25
20
15
10
0
1920 1930 1940 1950 1960 1970 1980 1990 2000
Figure 4
Natural gas consumption growth in the three major markets9
billion cu m/yr
800
600
500
400 443.9
Europe
300
200 268.2
Asia-Pacific
100
0
1975 1980 1985 1990 1995 1999
Europe 17.3%
FSU 23.7%
Figure 6
Comparison of US crude oil and natural gas prices on relative Btu basis11
$/mBtu
11
10
9
8
7
6
5
4
3
2
1
0
Jan Feb Mar Apr May Jun Jul Aug Sep Oct Nov Dec Jan Feb Mar Apr
2000 2000 2001 2001
Henry Hub spot WTI spot
1.) Natural gas displaced coal in the global primary energy league, to
take the number two spot after crude oil.
2.) Natural gas prices created a revolution, as they shot up in the USA
to record highs: the Henry Hub spot price went from the normal $2.5/
mBtu in January to over $10/mBtu in late December 2000 (figure 6), while
WTI languished between $4/mBtu and $5/mBtu (on a Btu basis). At the
onset of 2001, the price of gas stood at a 120 per cent premium, compared
with WTI an extraordinary development. However, the price spike did
not last long and, by early February, gas prices had dwindled back to
$5/mBtu. Many believed things to be back on an even keel, with parity
between gas and oil prices now being seen as quite normal: the watershed
had wiped out the former discount.
The future
Global consumption of natural gas is set to continue its ascending course with
or without the implementation of the Kyoto Protocol and notwithstanding the higher
price bands. The International Energy Agency predicts global consumption of 4,315
bn cu m in 2020 from 2,484 bn cu m in 2000 (for an increase of 73.7 per cent over two
decades or an annual compounded average growth rate of 2.8 per cent).16
Another indication of things to come is underlined by the fact that global natural
gas reserves (in oil equivalent) will soon come to surpass crude oil reserves. Accord-
ing to BP, worldwide oil and gas reserves stood at, respectively, 140 and 134 billion
tonnes (oil equivalent) at end of 1999: a small advantage to oil. But, as crude output
annually averages around 3.5 bn t and that of natural gas only 2.1 bn t (oil equivalent),
by 2005 natural gas reserves should come to surpass crude reserves for the first time in
history: another advantage for natural gas in its bid to rival crude oil in the future.
As for gas prices, it would seem that, in the post-2000 era, the times of cheap
natural gas are a thing of the past, even though some diehard experts like John C.
Cochener advance that the relatively high gas price levels of 1999 and 2000 are con-
sidered to be transitory and supported by temporary factors17 and goes on to predict
that US nominal prices would rise only marginally from $2.32/mBtu in 2000 to $3.06/
mBtu in 202018 (supported in this by the IEAs vision of $3.5 mBtu in 202019). All
* They will certainly lead to higher fertilizer production costs and sales
prices,20 sending inflationary waves throughout the agricultural world and
the food chain.
* They will cause parallel increases in electricity costs, because of the ever-
higher share of natural gas in power generation, worldwide in general and
in the USA in particular, where 97 per cent of new power plants announced
since 1998 will rely substantially or entirely on natural gas as their primary
fuel.21
* They will mean higher income for all natural gas exporters, and espe-
cially for the major ones, such as Russia, Canada and Algeria (table 1). For
example, a rise of $1/mBtu in the gas price would yield an extra profit of
$4.6 bn to Russia.
* They will further disadvantage the use of natural gas as fuel, for example,
flagging down that of compressed natural gas (as against LPG).
Conclusion
For natural gas prices, the year 2000 was the watershed, as 1973/74 was for
crude oil pricing. In 2000, for the first time in history, the price of natural gas not only
rose significantly over that of crude oil (on a relative Btu basis), but even reached a
premium of 120 per cent in the USA, at its peak in late December 2000.
Natural gas prices used to be set independently in the three major markets, but
the 2000 crisis might have triggered the emergence of an American price-setter, and
gas prices worldwide could eventually come to follow the US Henry Hub, especially
if (as widely predicted) the USA steps up its LNG imports to readjust its gas supply/
demand imbalance.
With natural gas prices coming to the fore, it will soon be much easier to get
major market benchmarks: among others, Henry Hub in the USA, Bacton in the
UK and LNG cif prices for Japan.
The main beneficiaries of these higher prices will naturally be the main gas-
exporters: Russia, Canada, and Algeria. And they will also encourage potential
gas-exporters to jump into the fray.
Table 1
Major natural gas exporters with amounts exported in the year 2000
(Cedigaz estimates22) and share of total exports
3. See Carl Solberg, Oil Power, New York: Mentor Book, 1976, pp. 215219.
6. BP Statistical Review of World Energy, issues of June 1991 and June 2000.
7. Ibid., it should be noted, however, that, for the gas prices presented graphically in figure 2,
the following applies:
USA: for 197588, the average US wellhead price is presented and, for
198999, the Henry Hub spot price;
EU: for 197584, the average price for Western Europe is shown and, for
198599, the average price for the European Union; and
Japan: throughout, the Japanese average price of imported LNG is being used.
8. In order to compile the gas-to-primary energy ratios, the following sources were used:
G. Jenkins, Oil Economists Handbook, Elsevier, 5th ed., 1989, Vol. 1, p. 207.
www.bp.com/downloads/387/gas_consumption_[billion_cubic_meters].xls.
10. Preliminary estimates for 2000 were published by the International Gas Report, no. 423,
27 April 2001, pp. 14, quoting from the report Natural Gas Statistics for 2000 Cedigazs
First Estimates.
11. The data for the Henry Hub spot and the WTI spot was retrieved from the Energy
Information Administrations Natural Gas Weekly Market Update and averaged either
monthly or weekly. The WTI selling price (from the Gas Daily) was converted from $/b
into $/mBtu by using a conversion factor of 5.80 mBtu per barrel (in accordance with the
EIA).
14. The Canadian standard price of AECO C Hub (Alberta) rose in parallel with Henry
Hub during the year 2000. See various issues of the Petroleum Economist in 2000 and
the first quarter of 2001.
15. On the direct impact of US gas prices on gas-pricing in Mexico and the problems thus
created for PEMEX and Mexican customers, see George Baker, Mexicos natural gas
pricing crisis, Oil and Gas Journal, 22 January 2001, pp. 1825.
16. Gas to fore in IEA 2020 vision, in International Gas Report, no. 416, 19 January 2001,
pp. 3137.
17. US gas growth to rely heavily on Canada, Gulf of Mexico, Oil and Gas Journal, 22 Janu-
ary, 2001, p.59.
20. See A.M. Samsam Bakhtiari and F. Shahbudaghlou, What are the consequences of high
oil and gas prices?, in Hydrocarbon Processing, February 2001, pp.2526.
21. Benjamin Schlesinger, US Natural Gas Supply, in Oxford Energy Forum, February
2001, p.5.
22. Cedigaz estimates from the quotes in International Gas Report (see note 10 above).