Gas reservation is a pipe dream

A federal study into eastern Australia's gas market flags a risk that domestic gas prices may overshoot export parity levels. It delivers a clear message to the manufacturing sector: forget about a national gas reservation policy.

A study of the east coast’s gas markets was slipped out without fanfare by the federal Department of Industry on the Friday after New Year’s Day, and it deals with some pretty meaty topics.

It has sent the beleagured manufacturing sector a blunt message: at a national level, you can forget about a gas reservation policy, something factory people have been rather strident about for many months.

The pedigree of this study is that it was set in motion by Gary Gray, replacing Martin Ferguson as Labor’s resources and energy minister, back in May last year when the public hullabaloo about east-coast LNG exports, the impasse on coal-seam gas (CSG) development in New South Wales and manufacturer hair-tearing about gas  prices had reached some sort of apogee ahead of the federal election.

One aspect of the 133-page study is likely to start this fuss all over again when the media and the manufacturing lobby shake off their summer holiday snooze: the report warns “there is a risk (domestic) gas prices may overshoot export parity levels.”

This does not automatically mean the east coast market has failed or that (political) intervention is necessary, the bureaucrats say. The linkage of local gas prices to international markets has been coming for years, they point out. And, “while the effect of rising prices on (manufacturing) industry costs and competitiveness should not be understated,” this needs to be seen “in the context of a range of factors that impact on the overall competitiveness of manufacturing and industrial gas users.”

This highlights the fact that we lack a straightforward, all-embracing commentary on all the issues rocking the manufacturers’ boat, not the least of which is a more than 40 per cent appreciation in the value of the Aussie dollar in trade-weighted terms over the past dozen years.

The mantra of the loudest of the factory lobby has been to argue that enforcing a gas-reservation policy designed to separate what producers can get here compared with the LNG sales is a semi magic wand. The new government report won’t have a bar of this.

Shorn of the Sir Humphrey language, the study says four things:

First, going down the reservation route opens up a can of worms.

“The introduction of (this) policy would distort market signals which may increase the risk of under-investment and defer the development of new supply.”

Second, the costs and benefits need to be properly understood.

“The overall net economic impact is likely to see a reduction in economic welfare if Australia foregoes export earnings and tax revenues in favour of presumably lower-value domestic production and lower future exploration and development activity.”

Third, beware of pursuing short-term gains.

“Where the supply side is already tight, the importance of incentivising the supply response grows and the chances of (reservation) causing net losses (over time) dramatically increase.”

Fourth, there is a lot of gas resource out there; the real trick is getting the stuff out of the ground and into the market to meet domestic and export needs.

“The rapidity and efficiency of a supply response will depend in a large part on clear market signals and effective government regulation.”

The report does identify a mouse hole for manufacturers: it points out that the federal government is only one player and east coast state governments can, if they wish, reserve resource regions for only domestic use – but doing it retrospectively will raise sovereign risk areas and this is a cross-border business locally, too.

The unspoken big problem here is New South Wales: you can’t reserve what you haven’t got and the O’Farrell government is a long way from pursuing large new CSG supply within its own borders while its local users’ supply options from interstate are getting closer by the day to drying up.

This is why the factory types want a national approach – O’Farrell can’t dictate what happens to gas produced in South Australia while he ducks and weaves over the political difficulties of approving local CSG activity.

“It’s important,” says the study, “that all jurisdictions do not unnecessarily restrict supply development. All governments should focus on removing impediments to supply and maximising opportunities from their acreage.”

There is also a lot in the report about the need to do more to sort out pipeline and financial market issues to improve the gas scene but I will finish with what top bureaucrats do so well: telling their political masters rotten news ever so politely.

“An important policy issue associated with the gas price narrative is the extent and duration of any tightness in the market,” the report says. “It is possible that, in a period of tightness, price will overshoot export parity until there is sufficient supply or information to either overcome transient market power or readjust price expectations.”

Think about that in the context of political time frames – ie elections over the next two to five years – and you will appreciate why reading this will cause any number of ministerial persons to feel a certain physical tightness.

Keith Orchison, director of consultancy Coolibah Pty Ltd, publisher of the This is Power blog and editor of OnPower newsletter, was chief executive of two national energy associations from 1980 to 2003. He was made a member of the Order of Australia in 2004 for services to the energy industry.

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