FERGUSON’S FORECAST: LNG in California – – No Panacea

By Published On: October 28, 2005

Elementary economic theory would say that increasing supplies of natural gas would put downward pressure on gas prices. Nearly everyone can agree that would be good for the people of California, especially after gas prices jumped nearly $2 on Tuesday. But life is more complicated than you learned in Econ 101. The California Senate Committee on Energy, Utilities and Communications held an informational hearing on importing liquefied natural gas October 27. I was asked by committee staff to provide background information on the North American natural gas situation. Much of my presentation was simply a summary of statistical data on supplies, consumption, drilling, and prices. However, it was impossible not to speculate on the extent to which California should count on LNG as a major energy supply, and what role it should play. To begin with, Canada, the U.S., and northern Mexico constitute a single consolidated gas market. LNG imported through terminals on the California coast doesn?t “belong” to California any more than LNG coming in through Maryland belongs to Maryland. Importers are going to sell their LNG wherever they can get the best price, which is not necessarily in California. Nevertheless, having additional supplies available locally will tend to lower local prices. If nothing else, we will save the transmission cost of shipping some gas to California from other supply regions – – Canada, the Rockies, or the Southwest. And we gain some protection if one of these pipelines breaks. So far, so good. But if gas prices continue to track the price of crude oil, and oil prices continue to climb as some of us expect, gas prices could rise regardless of additional LNG imports. The future of crude oil is really the 800-pound gorilla in the energy closet. In the last few years, U.S. LNG terminals have been taken out of mothballs and now provide about 3 percent of domestic gas supplies. Yet gas prices have continued to climb in concert with crude. More LNG does not necessarily mean lower gas prices. The Thursday hearing was concerned primarily with how LNG terminals should be sited to address safety issues. (My personal view is that the things should be located far enough offshore to avoid human catastrophe if they blow up.) There was little discussion of the dangers of becoming increasingly dependent on overseas supplies of energy, implications for the trade deficit, global warming, competition with Europe and Asia, and so on. I continue to believe that LNG should continue to play a role in California’s energy supply, but it is no silver bullet that will solve all our problems. Additional LNG may lower prices a bit, but even this is unclear. What California really needs is a comprehensive energy strategy, of which LNG is only a minor piece. Energy-related facilities such as highways, power plants, and LNG terminals have lifetimes of many decades, and the state’s energy strategy should have a long time horizon as well. The most important question is how to prepare California for the possibility that oil supplies may soon begin to decline. LNG is the hot topic of the day, but it is no panacea for the energy problems we face.

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