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American LNG exports: still a good idea?

April 1, 2016
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LNG exports: Mr. Obama’s campaign promise?

 

There is nothing new about the gas export from the United States. Canada, Mexico and Japan have been receiving American gas for almost a century. However, shale revolution came out as a surprise not only to the world’s major gas producers but to the American market as well. Innovative technology not only made extraction from shale formations with low permeability economically viable but increased the output which can be extracted from a single well. It did not take even a decade to observe the fast rate at which American gas reserves have depleted. As a result, natural gas production increased by 40% from the 2005’s level, driving the costs of production down,-typical economy of scale!            

 

Today, when the US’ inventories are so abundant in natural gas what in turn pushes the price down, many energy companies withdraw from drilling and production: there is too much product and not enough demand. For this reason, natural gas futures have plummeted below 3$ and the current market can be visually represented by a typical contango curve. NYMEX projections of price (i.e. the market price expectations) are currently lower than nominal prices (i.e. the prices that take into account the annual rate of inflation), what means that if prices remain at their historic lows, the companies will cut down on their investment into upstream sector while trying to re-orient themselves towards the development of export facilities targeting foreign markets whose prices can still be relied on.            

 

As of today, the US Department of Energy has approved 5 LNG terminal projects, whereas 25 other are considered pending given that Chinese investments that are supposed to support these projects made the issue political rather than just financial. Regasification plants built in the expectation of upcoming LNG imports from Qatar prior to the renaissance of American shale are currently being converted to liquefaction plants that would allow American LNG reach international markets. At the same time, despite the great potential for such a large supply of natural gas, many fear that LNG export might cause the increase in domestic gas prices.

Pricing: domestic and international

Given that regulatory framework as well as political and economic challenges surrounding the issue of LNG export are far from being resolved, it might be too early to make any price approximations. According to IEA, the US is likely to export about 2bcf daily in the event of oil price coming back to 70$ per barrel. It means that the total share of LNG export will not be significant compared to current production rate and will not, in turn, shape the price. In any event, given the dynamism of American gas market that is more elastic in long term, one should not fear the radical price increase. Speaking about the price of the LNG by itself, it is needed to say that Henry Hub, being at the cross-road of all export terminals, will attract the biggest price impact which will later attenuate depending on the distance to downstream markets.            

 

Having mentioned that the price will depend on geography, let’s see how the price of LNG will vary in the international markets. Today, Asia already consumes 2/3 of the world’s LNG while the population and economic growth will only increase energy demand. Also, you don’t need to like COP21’s ambitious pledges aiming at the reduction of carbon emissions to notice how gas is already on the way of crowding out oil and coal. That is why even despite a great price differential (which is defined in Asian typically long-term oil price-tied contracts) between JCC and Henry Hub, LNG exports to China, who has recently become a leader in the war on pollution, might remain a viable option.            

 

Situation in Europe will be rather different. Since 2009 the EU has been negotiating with its biggest suppliers (particularly Gazprom) the amendments to oil-indexed price formulas for natural gas, seeing the spot indexation as the only viable option. This situation currently remains unresolved, what means that US LNG exports will be marginally competitive only in Spain and the United Kingdom, who pay a higher gas price to Russia than Eastern or Central European states who are more easily reached by pipeline. As we see, Europe won’t be a big US customer. However, American LNG will be vital for Japan and China as well as Turkey who currently imports 98% of its gas from Iran and Russia at a higher price than would be alternatively offered by the USA.

Doesn’t the US need its own gas?

Given that American demand for electricity is likely to experience a 50% increase in the next 20 years, it seems rational to presuppose that gas will become the optimal choice for power generation. Also, despite a popular perception that the US will be able “to power every home in America” with renewable energy in the near future, it is important to remember that both wind and solar remain intermittent energy sources. In other words, they are unable to satisfy base load demand, while the inability to provide due storage for electricity (stemming from the limited technological capabilities) once again makes gas a perfect alternative for a backup.

 

While the current downfall in the oil price is really likely to hamper the development of new projects, this price drop is definitely not permanent. To a certain extent it managed to take energy issues out of the heated debate in American electoral campaign and today what everyone is talking about is environment, not the oil revenue as a way to revitalize American economic landscape. This is a perfect moment for the US to promote its plans for LNG exports: supply chain earnings will enrich the US economy by going to the Federal coffers, individual producers and local governments, while accounting for major gains in total direct and indirect employment in less than 15 years.

http://www.nera.com/content/dam/nera/publications/archive2/PUB_Macroeconomic_Impacts_LNG_Exports_0413.pdf

http://www.api.org/~/media/Files/Policy/LNG-Exports/API-LNG-Export-Report-by-ICF.pdf

 

http://www.nera.com/content/dam/nera/publications/archive2/PUB_LNG_Update_0214_FINAL.pdf

https://www.fas.org/sgp/crs/misc/R42074.pdf

 

http://www2.deloitte.com/content/dam/Deloitte/us/Documents/energy-resources/us-er-exporting-the-american-renaissance.pdf

 

http://energy.gov/fe/downloads/lng-export-study-related-documents

 

http://www.chron.com/jobs/article/LNG-industry-looks-to-positive-economic-impact-of-6377908.php

 

http://www.nera.com/content/dam/nera/publications/archive2/PUB_LNG_Update_0214_FINAL.pdf

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