Turning off the gas?

Grattan’s latest energy analysis has provoked much debate in the media including pushback on some of its conclusions from the federal government and the gas network sector, amongst others.

Grattan’s main thesis is that the idea of a gas-led recovery is a mirage and would require massive government subsidies. They go further and say that Australia should start weaning itself off gas by declaring a moratorium on new residential gas connections in all states and territories expect Victoria and ACT.

The first part of this thesis is pretty straightforward. Production costs from new gas fields, which represent the efficient marginal costs of an extra molecule of gas, are around $6/GJ. This is therefore about as low as contract prices can go without significant government intervention to subsidise it. Even if they did it’s not clear why they would. There are a small number of industrial facilities for whom gas costs are a big enough proportion of their input costs for the gas price to really matter to them. We can ignore the west, where the domestic gas price is not much of an issue, which takes away half of them. Those on the east directly employ around 5,000 people. So, it’s just not much of a job driver. Critics say that Grattan have overlooked some other major gas users, but we are still talking thousands maybe tens of thousands rather than hundreds of thousands.

If anything, gas prices may be more relevant as a driver of electricity costs across the economy. But this will naturally diminish as more renewables come online. Gas peakers are likely to play an important role in balancing renewables for decades to come. But they will only set the price sporadically, and this price may not be that sensitives to gas fuel costs.

Grattan neatly bust the myth that Australian gas is perversely cheaper in importing countries like Japan than it is here. Figure 1 below shows different gas price reference points. East coast domestic contract gas prices, i.e. agreements to supply an agreed volume of gas over several years remain below export prices, as one would expect. However, a glut of LNG allied with an oil price crash has led to a collapse in the spot price. This is for opportunistic buying and selling of a one-off volume of gas (i.e. a tanker-full). So, you can buy a single cargo of LNG cheaper than a multi-year contract in Australia, but that is comparing apples with oranges.

Figure 1: Gas prices (A$/GJ)

Source: Grattan Institute

Figure 2 shows that local spot prices are also low and falling (and consistent with export spot pricing). This is cold comfort for industrial users who need more than just a one-off purchase of gas to run their facilities, but it just reflects a temporary supply/demand imbalance.

Figure 2: East coast spot prices

Source: AEMO Quarterly Energy Dynamics, Q3 2020

Grattan don’t pooh-pooh the commonwealth’s reform intentions entirely – noting that reforms to improve competition in the market and facilitate domestic contracting can certainly help at the margins. But they aren’t likely to fundamentally change gas prices. Similarly, underwriting new gas pipelines is a solution looking for a problem – the market has a good track record of delivering new pipelines in response to material demand for new transport routes. Jemena’s northern gas pipeline is a good example, with Jemena building the initial pipeline bigger than required by the foundation contracts they’d arranged so they could market additional capacity. Now they are talking about a new much bigger pipeline along the same route if it looks like there will be major gas development of the Betaloo basin in the Northern Territory.

The one intervention Grattan does promote is the ban on new residential gas connections. This is surprisingly draconian for Grattan. Their logic is that it is cheaper in places like NSW, SA and Queensland for houses to be all-electric, so it is doing homeowners a favour by taking this choice away from them. This is less obviously the case in Victoria and ACT where a lot of gas is used for space heating and where the switch to electric would drive up winter peaks on the networks, requiring additional investment in poles and wires (and maybe generation).

But not all homes are the same, and price isn’t the only reason people choose gas. As Grattan note, the other policy rationale is emissions reduction. But there are few other situations where there are higher and lower emissions alternatives, and we solve by banning the higher emission alternative.

For gas distribution networks at least, this puts them on notice to get cracking on hydrogen blending as an interim step to full conversion. This would negate the emissions argument (assuming the hydrogen was from zero emissions sources). To be fair, they are mostly doing this with a range of pilots and trials taking place around the country.