The New Politics Of Energy Abundance

by: Philip Mause

When I moved to Washington in the 1970s, one of the hottest energy issues was how to deal with the desperate shortage of natural gas. Various experts had decided that we were running out of natural gas and a concern that it only be used for its "highest and best uses" led to constant debates about the relative merits of feedstock uses versus hospitals versus schools. There was a general consensus that it was a sacrilege to "put gas under a boiler" just to make electricity. Occasionally, someone would suggest that the shortage was created by well head price regulation but such suggestions were generally shouted down as "oil industry propaganda" and we all returned to months and then years of "curtailment" proceedings, which would have been great fodder for Charles Dickens if only he had lived so long.

Times have changed. Natural gas production is up and supply seems bountiful. Lobbyists and politicians are beginning to wake up to the new world of energy abundance in which many old relationships have become passe and market dynamics are creating new communities of interest. First, let's look at some numbers. The table below provides natural gas production, net imports and use in electric generation measured by quadrillion BTUs.

Year Production Net Imports Use in Electric Generation
2006 19.0 3.6 6.4
2012E 24.8 1.6 9.9

The 2012 numbers are estimates based on extrapolation of year-to-date data. Production is up substantially and imports have probably been backed out about as much as possible. Transportation and other issues make Canadian gas (the overwhelming bulk of the imports) preferable in some parts of the country. Natural gas is rapidly moving into the electric generation market and in the short-term additional production will probably continue to move in this direction.

The next table provides data on various sources of electric generation measured in billions of kilowatt hours of electricity.

2006 2012E
Coal 1,991 1,484
Natural Gas 816 1,316
Wind 27 140
Nuclear 787 790

These numbers confirm that natural gas is penetrating the electric generation market rapidly and threatens to overtake coal as the leading fuel used to make electricity. Wind is also moving up to a non-trivial level of output. Nuclear is relatively stable because no new plants are coming on line and existing plants are run whenever possible because of their low operating costs. These numbers are ominous for the coal industry because electric generation provides roughly 90% of the market for U.S. coal production and a big fall off in utilization of coal in this market is disastrous for the industry.

I have written here before about the "two energy markets" in the United States and generally elsewhere - the petroleum/transportation market and everything else - and the third table illustrates this by providing 2011 numbers (in Quadrillion BTUs) for petroleum consumption in the transportation sector, use of all other fuels in the transportation sector, and total use of petroleum for all purposes other than transportation.

Petroleum in Trans. Sector Other Fuels in Trans. Sector Other Uses of Petroleum
2011 25.18 1.98 10.28

Petroleum dominates the transportation sector and transportation is by far the dominant use of petroleum and petroleum products. Because petroleum products have advantages in energy density and ease of transport and filling that are important in the transportation market, petroleum commands a premium price over all other fuels because they are really not substitutes in the transportation market.

Coal, wind, nuclear and other sources of electrical generation, which compete with natural gas, now have a strong interest in channeling the increasing production of natural gas into the transportation sector. It is really the only place left for it to go and its diversion in that direction will relieve some of the competitive pressure in the electric generation sector. In a very real sense, the future of the coal and alternate energy industries depends heavily upon the success of the Natural Gas Highway.

I do not expect coal industry lobbyists to team up with the solar and wind advocates immediately but issues have a way of making "strange bedfellows." National security advocates should also start teaming up to advocate the use of natural gas in the transportation sector; a reduction in our oil imports will enhance national security by reducing our dependence on imported oil and by lowering worldwide demand and prices to the detriment of Iran, Venezuela, and other petro-nasties.

I have been ambivalent about the government's role in this whole process because the government has a way of distorting incentives so as to produce an industry which cannot be competitive in the long run. But, at a minimum, government fleet vehicles should be candidates for conversion to natural gas. The Defense Department could probably do more for our national security by converting a lot of its trucks and other vehicles to natural gas than by implementing some of the more expensive measures often under consideration.

What should be avoided is the implementation of any restrictions on natural gas use or export. While these types of provisions may seem attractive to those who perceive that natural gas should serve only its "higher and better" uses, they invariably produce market distortions and undermine the incentives to find and produce more natural gas. They also tend to produce artificial markets for other fuels, which are not sustainable in the long run. Instead, the public policy push should be to encourage the use of natural gas in the transportation sector so that petroleum can be displaced and oil imports reduced. Given the enormous price disparity between the two fuels, it should not take a great deal of encouragement to get his ball rolling faster.

Certain companies are well-positioned to benefit from what is almost certain to be a wave of enthusiasm for using a domestic energy source. Clean Energy Fuels (NASDAQ:CLNE) is implementing the Natural Gas Highway, which will provide long-haul truckers with LNG. Westport Innovations (NASDAQ:WPRT) and Fuel Systems Solutions (NASDAQ:FSYS) convert vehicles to natural gas. Methanex (NASDAQ:MEOH) dominates the methanol market, which can be an important avenue for using natural gas as a transportation fuel. Of course, Tesla Motors (NASDAQ:TSLA) will benefit if electric cars become the means for displacing petroleum with other sources of energy.

I cannot promise that one day we will return to dealing with the problems of scarcity. That seems to be the history and nature of energy markets. But in the short and intermediate term we have an opportunity to reduce our dependence on petroleum and we should take every advantage of it.

Disclosure: I am long MEOH, CLNE. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

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