NATURAL GAS MARKET MUDDLE
Natural gas reserves fill, demand declines, but prices are predicted to stay near record highs

JEFF JOHNSON, C&EN WASHINGTON

In the year ahead, the price of natural gas is not likely to increase or decrease very much, predicts the Energy Information Administration (EIA), an independent agency within the Department of Energy. Guy F. Caruso, EIA administrator, recently told a national meeting of state energy officials to expect nearly normal natural gas demand and supplies and relatively stable prices in 2004.

	UP AND COMING Gas-fired power station in Georgia. PHOTODISC

Although the news could have been much worse, it was not what the chemical industry wants to hear. Current natural gas prices--in the $4.50 to $5.00 per million Btu range--are likely to remain steady until summer, EIA says. Caruso predicts that prices might drop to around $4.00 by then, assuming normal winter weather. But he says that price would still be more than $1.00 above those of 2002.

One problem the chemical industry had worried about--depletion of natural gas inventories--appears solved for now, Caruso says. High demand last winter ate up natural gas inventories, driving storage to record lows. But a cool summer, high gas prices, and near-record drilling led to an extremely high gas-refill rate--so high that gas inventory is now at normal levels.

However, EIA officials tell C&EN that this gas was purchased for inventory when prices were high and will be sold at high prices. That is, gas will remain expensive.

Next year's prices are not the $6.00 per million Btu of early 2003, but they are a lot higher than the $2.00 per million Btu of the recent past, a past that the American Chemistry Council (ACC) would like to reprise.

ACC is pushing hard for more drilling for natural gas in western states and in coastal areas currently under drilling bans, more use of coal and oil to generate electricity, and other short-term actions that might ease demand and increase the supply of natural gas, a chemical industry feedstock and fuel.

Chemical companies use natural gas as a feedstock for ammonia, methanol, and ethylene production. Also, much concern has focused on ethane, a liquid natural gas and chemical feedstock.

"It's electrons competing with ethylene," says Jim Osten, a principal of Global Insights, an economic consulting firm. He and other energy analysts project a future in which cleaner burning natural gas displaces coal as the top fuel to generate electricity. That demand coupled with shrinking domestic gas production is likely to make gas prices continue their surge at the expense of the chemical industry (C&EN, July 14, page 19).

DESPITE THE FEAR, this drive to natural gas for electricity production has yet to occur. In recent years, the percentage of electricity generated with natural gas has stayed about the same at 16%, or sometimes lower, according to EIA figures.

EIA says natural gas use for electricity will actually decline by 3.6% in 2003 because of the fuel's high price and the nation's economic slump. And through 2008, natural gas technologies will produce electricity at about the same level--15 to 20%--although gas technologies have the capacity to produce up to one-third of the nation's electricity, according to a recent report by the National Petroleum Council, a federal advisory group of representatives from the fossil fuel industry.

However, if the price of natural gas drops, power generators will probably buy more gas, making chemical companies scramble. EIA has forecast that 90% of new electrical power plants will be fueled by cleaner burning natural gas--the shift being away from coal, which is used to generate 53% of electricity today.

ACC would like to hold down the demand for natural gas by ensuring that power plants can use other fuels, particularly coal and oil. However, these are the dirtiest fuels around, and the push for their use together with ACC's desire for more drilling in the coastal outer continental shelf and western areas is putting ACC on a collision course with environmental activists and some state leaders.

But for chemical makers, the impact of high gas prices is a true crisis.

"For methanol, ammonia, and ethylene," Osten notes, "the cost of natural gas feedstock makes up one-third to one-half or more the cost of the product."

With the exception of the U.S. and the Middle East, which have lots of natural gas, most of the world relies primarily on naphtha, a petroleum-derived feedstock, for these products. About 30% of the world's ethylene production is based on ethane, but in the U.S. that number is about 50%.

Ethane, Osten notes, had been cheaper than naphtha, once giving the U.S. a comfortable price advantage. For comparison, he says, when oil prices are $25 per barrel, naphtha runs around $4.50 per million Btu. But when natural gas prices reach $6.00 per million Btu, as they did this year, ethane hits $6.50 per million Btu. Osten says the high prices have led most U.S. methanol production to move overseas, with ammonia production following.

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Analysts project a future in which cleaner burning natural gas displaces coal as the top fuel to generate electricity.

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THREE FACTORS, however, help keep chemical manufacturing in the U.S., he says: These basic chemicals are used for many derivative products and are key to a chain of derivatives whose production is very difficult to relocate; chemical manufacturers' product markets are in the U.S., and transportation is difficult and expensive; and the U.S. is the center of technological innovation, and the chemical industry wants to remain nearby.

"On the other hand, all these things might not make up for $1.00 per million Btu in feedstock costs," Osten adds.

The past month has seen much hand-wringing over natural gas. In late September, the fossil fuel industry presented its view of the problem in a report by the National Petroleum Council (PDF file). NPC joined others in predicting more competition among gas users, driven by greater demand for clean-burning natural gas for electricity generation and a shrinking supply of domestic resources. In the short term, the report recommended energy efficiency and conservation measures, new government policies to increase drilling on public lands and on near-shore continental shelf areas that are currently off-limits because of public opposition, and suspension of air pollution regulations to increase coal and oil use.

The report also urged federal aid to build a new pipeline to bring gas down from Alaska and policy changes to speed construction of more liquefied natural gas (LNG) terminals.

Missing from the report, several energy analysts say, were priorities. "The report presented a list of things that industry has asked for before, but NPC didn't really reject anything," one analyst says.

Also about the same time that NPC's report came out, House Republicans issued their report with a similar wish list.

And Interior Secretary Gale A. Norton voiced her opinion at a luncheon at the U.S. Chamber of Commerce a week after NPC report's release. She said the "best short-term" approach to increase natural gas supplies is drilling and production of gas in coal beds in the Rocky Mountains.

Norton laid out the Interior Department's approach to the gas crisis, including new LNG terminals, more deep-water production, clean-coal projects, aid to speed federal review of the proposed Alaska pipeline, and royalty incentives and support for new drilling in offshore areas, but only where there are existing leases.

But in the near term, Norton said production on national lands was a top priority. She stressed that the Bureau of Land Management (BLM) was hurrying to remove a backlog of permit applications to drill on federal lands and had issued guidances to help industry. She said elements of the President's "healthy forest initiative" to ease logging on federal lands will be applied to gas drilling. BLM was also "batching" oil and gas permits to streamline application processing.

Gas production on federal lands has doubled in the past 30 years, Norton said, and today some 35% of U.S. natural gas comes from federal lands: 10% onshore and 25% offshore.

Nearly 37% of federal lands in the Rocky Mountain states is subject to drilling restrictions, she said, citing an assessment by her department. Removal of these restrictions is a theme trumpeted by chemical companies and energy providers.

However, the same study says that only 12% of the natural gas resources in the Rockies lies under these restricted lands. This fact is noted by western opponents, which include an unusual mix of ranchers, the tourist industry, some state officials, and environmentalists. They have sued to block Norton's plan.

DRILLING IN THE REGION is at an all-time high, and a large number of permits are pending. A federal plan would allow some 80,000 wells in Montana and Wyoming's Powder River Basin, and BLM officials say about 2,000 permit applications are under review now for that basin.

Quickly opening these western lands and overturning the moratorium on coastal areas is the hope of the chemical industry, said Greg Lebedev, ACC chief executive officer and president, when introducing Norton to the Chamber. LNG and Arctic gas are "both too little and too late to save the chemical industry," he said.

He applauded Norton's efforts on western lands, but he said near-coastal areas off the West and East Coasts and Florida "may hold enough gas to power the chemical industry for the next 25 years."

Coastal drilling, Norton noted, is opposed by President Bush and nearly the entire congressional delegations from California, New Jersey, and Florida, as well as by Jeb Bush (R), the Florida governor and the President's brother.

"As someone from Colorado, I was not familiar with coastal activities," Norton told C&EN. "I have found such tremendous concern in the coastal states about offshore activities."

A way out of the natural gas supply-demand muddle will not come easily. Many more years of price volatility and supply uncertainty should be expected, says Bruce B. Henning, a director with Energy & Environmental Analysis Inc.

"We have a market where the gas industry can expand. It serves customers' needs and is economical," Henning notes, "but it is not the $2.00 or $2.50 per million Btu that people hope for. To get prices below $3.00, it will take $10-per-barrel oil, a double-dip recession, and the warmest winter in 50 years."

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