Issues in Energy Economics Led by Emerging Linkages between the Natural Gas and Power Sectors

Abstract

Fuel prices in 2006 continued at record levels, with uranium continuing upward unabated and coal, SO2 emission allowances, and natural gas all softening. This softening did not continue for natural gas, however, whose prices rose, fell and rose again, first following weather influences and, by the second quarter of 2007, continuing at high levels without any support from fundamentals. This article reviews these trends and describes the remarkable increases in fuel expenses for power generation. By the end of 2005, natural gas claimed 55% of annual power sector fuel expenses, even though it was used for only 19% of electric generation. Although natural gas is enormously important to the power sector, the sector also is an important driver of the natural gas market—growing to over 28% of the market even as total use has declined. The article proceeds to discuss globalization, natural gas price risk, and technology developments. Forces of globalization are poised to affect the energy markets in new ways—new in not being only about oil. Of particular interest in the growth of intermodal traffic and its a little-understood impacts on rail traffic patterns and transportation costs, and expected rapidly expanding LNG imports toward the end of the decade. Two aspects of natural gas price risk are discussed: how understanding the use of gas in the power sector helps define price ceilings and floors for natural gas, and how the recent increase in the natural gas production after years of record drilling could alter the supply–demand balance for the better. The article cautions, however, that escalation in natural gas finding and development costs is countering the more positive developments that emerged during 2006. Regarding technology, the exploitation of unconventional natural gas was one highlight. So too was the queuing up of coal-fired power plants for the post-2010 period, a phenomenon that has come under great pressure with many consequences including increased pressures in the natural gas market. The most significant illustration of these forces was the early 2007 suspension of development plans by a large power company, well before the Supreme Court’s ruling on CO2 as a tailpipe pollutant and President Bush’s call for global goals on CO2 emissions.