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The US is the world’s largest exporter of LNG. And efforts are apace to further increase that export capacity. As the US exports LNG at an increasing rate, this implies good news and bad news. The good news is that gas producers and owners of gas liquefaction facilities will likely enjoy higher profitability in the years ahead. The bad news is that US residential and industrial consumers will be paying those higher prices for gas while also experiencing increased price volatility. Why? Because where or how commodity prices are set makes a huge difference. At present, in the US, our natural gas commodity prices are set (mostly) domestically. This means they are influenced mainly by local supply demand imbalances, taxes, regulation (which often decides what gets built), and infrastructure constraints like pipeline availability. Those are all things our industry leaders and local politicians influence, if not control. However, when commodity prices are set internationally, like oil, prices are no longer determined by the domestic concerns above. Instead, they are set by competitive global spot markets. And there’s the problem. The global market is often much bigger than domestic markets, meaning a buyer in Europe or Japan can now outbid its American counterpart for gas. And there’s often a hurricane, tsunami, or military skirmish somewhere in the world that can now temporarily spike prices adding increased volatility to the mix.

There is little disagreement that moving from a domestic to an international commodity gas market results in higher commodity prices and more volatility. More to the point, this is not a new idea. In 2018, Trump’s DoE issued a report on the implications of increased LNG exports and wrote the following: “On the negative side, producing incremental natural gas volumes to support natural gas exports will increase the marginal cost of supplying gas and therefore raise domestic natural gas prices in general.” The study further noted that more exports meant higher gas prices for households and industry. But the DoE authors did helpfully note that if gas consumers became stock investors and purchased shares of gas liquefaction companies, the gains on these securities would help offset some of the sting from higher prices. Yes, they really said this.

Our readers know why this is a potentially huge economic problem. We are in the middle of an electrification induced power plant build cycle, which includes lots of new gas fired power plants. Substantially raising the operating costs of new gas fired power generating units soon to come on line (via higher, globalized gas prices and more commodity gas price volatility) is not, as they say, on most people’s bingo cards. This could imply much higher future electricity costs than many are expecting.  In the past, utility commissions have at least insulated utility companies from the adverse financial impact of commodity price spikes via so called fuel adjustment clauses. We think they will continue to do so, not least because it lowers corporate operating risks, which makes bond raters like Moody’s happy. This means all additional gas commodity costs will pass through directly to electricity consumers.

The economic downsides of a transition to a global gas commodity market are fairly simple to state: higher society-wide energy bills, adverse industry-wide impacts via higher level of operating costs, and relatedly, an adverse impact on corporate competitiveness. We’ve already started to see what appears to be some consumer electoral pushback in response to rapidly rising electricity prices. What makes this looming gas affordability problem different to us is that it is entirely self-inflicted. Our federal government has chosen to encourage further LNG exports (raising prices) while a rapid expansion of the domestic gas power generation fleet is also occurring. More profits for gas producers and higher prices for consumers. All we can say is that an issue like this has traditionally become political, increasing public scrutiny of utility finances with an eye toward lowering utility profitability.. As for obvious losers, consider the plight of consumers in deregulated states where the price of gas effectively sets all electricity prices (whether or not the electricity is generated by burning gas). For close to 30 years, deregulation has failed to reduce prices to consumers.  Now it looks as if deregulation will raise prices for consumers thanks to a tighter gas market. Well, where there are losers, there are also winners, the obvious ones being all renewable forms of power generation and new nuclear, which will benefit from higher expected power prices.

By Leonard Hyman and William Tilles for Oilprice.com