“Glut Hits Natural-Gas Prices,” read a front-page headline in a recent edition of The Wall Street Journal. The article began: “U.S. energy companies are pumping so much natural gas out of the ground that prices are plummeting, and the cheap gas isn’t likely to evaporate anytime soon.” Supply is so plentiful, and prices are getting so low, that some producers are resorting to a practice last common a century ago: flaring methane at the wellhead for want of pipelines and markets.
A buyers’ market is hardly exceptional in the history of U.S. oil and gas markets. Remember the ‘gas bubble’ of the 1990s when there was more natural gas than pipelines could contractually market, creating a take-or-pay problem? Or remember when domestic oil production brought prices to less than one dollar per barrel, resulting in government proration where supply was reduced to ‘market demand” from the 1920s until the early 1970s? Import tariffs and quotas were also necessary from the U.S.-side to prop up oil prices in this half-century.
An exception to the rule occurred during the 1970s when, not coincidentally, our federal government had price controls on oil and natural gas. The gasoline shortages of 1974 and 1979, and natural gas shortages in the winters of 1971/72 and 1976/77, came from the same cause: federal price and allocation controls that did not let supply and demand naturally mesh. Price controls also caused energy shortages during World War I and World War II.
Price ceilings and inadequate supply go together. “As an economist, whenever I hear the word ‘shortage’ I wait for the other shoe to drop,” stated Thomas Sowell. “That other shoe is usually ‘price control’.”
Oil today at north of $100 per barrel is hardly a buyers’ market, and price controls do not exist to explain it. But political factors around the world add a premium to what otherwise could be considered a free-market price. And the Obama administration’s anti-production policy on oil-bearing public lands, onshore and offshore, creates a ‘what-if’ scenario of more supply/lower price.
The general point is that energy minerals, as other so-called depletable resources, are not unusually scarce compared to the general basket of goods and services. Julian Simon popularized this profound and admittedly counter-intuitive idea by his standing bet that future mineral prices would be less than the present, adjusted for inflation. And he won what was the most famous bet in the history of economics against Paul Ehrlich, John Holdren, et al. with five such minerals over a ten-year horizon.
No doubt that some gas producers will look to government to (artificially) increase demand through special favor. The T. Boone Pickens-led New Alternative Transportation to Give Americans Solutions Act (Nat Gas Act), an opening scheme to convert the motor vehicle fleet from petroleum products to natural gas, is a taxpayer drain in the guise of national energy policy.
But instead of government market-rigging, natural gas producers should practice free-market self-help to reduce supply and increase demand in the face of gas gluts. To this end, domestic producers should:
1. Further penetrate the Northeast home heating oil market, continuing the trend of natural gas-for-oil of the last several decades.
2. Build/rejigger existing import LNG infrastructure to export U.S. gas to high-price markets.
3. Construct gas-to-liquids plants to turn natural gas into gasoline and other liquid products, a global opportunity (and increase exports of the same).
4. Offer long-term pricing deals to lock-in niche transportation markets (fleet vehicles).
Some of the above (#1, #4) are incremental, and some (#2, #3) require lots of capital and lead time. All require dedicated effort in a market where the energy competition is keen. But who said the free market was easy, especially for an industry that is breaking its own records for new production?
Just as the oil industry had to become efficient and sustainable amid the price collapse in 1986 without special government failure (Congress rejected an oil tariff plea), natural gas producers today need to become efficient at $3/MMBtu wellhead prices. This is certainly a challenge, but it is the way forward for the gas industry to win the future.