Electric Power, Natural Gas and Oil
By Brian J Fleay
January 10, 2001
The USA is in a major electric power crisis. Peak power demand is
exceeding reliable generation and transmission capacity, especially in
California and on the west coast. The industry is trying to overcome the
crisis by installing gas turbines just when the supply of natural gas in
North America has reached a peak, creating in turn a natural gas supply
crisis. The only short term solution is to reduce consumption of both
electricity and natural gas, bringing energy efficiency back on the
agenda. This requires a shift of focus to a co-operative environment
between energy providers and consumers, away from the competition
characteristic of the world-wide movement to deregulate the electric
The crisis coincides with an emerging world oil supply crisis as
production of cheap oil outside the Persian Gulf countries peaks. The
focus of oil supply is shifting to the latter countries who are not
ready to invest in stabilizing and expanding their production capacity
to meet normal demand growth through to 2005 and beyond. Rising oil
prices reflect this scenario. The US consumes 26% of the world's oil and
imports nearly 60% of that for an import bill in 2000 of some US$100
US electric power crisis
Base load electric power in the USA is provided by coal fired and
nuclear plants with a lesser role for hydroelectric. To an increasing
extent peak power demand is being met by gas turbines, either single
cycle or combined cycle. In combined cycle hot exhaust gases from the
turbine are used to raise steam and generate additional electricity,
yielding much more per unit of gas. Gas turbines are being favored for
environmental reasons (less pollution and Greenhouse gas emissions),
lower installation cost per MW and their shorter construction time while
smaller units are economically efficient. A single cycle gas turbine
installation costs US$300/KW as against US$2000/KW for a coal unit.
Electric power consumption has been growing at 3% per annum (pa) since
the mid-1980's, two-thirds of the increase being supplied by the
utilities and the remainder by the rapidly growing non-regulated
gas-fired merchant generators, including industries now generating their
own power with options to sell to the grid. The merchant generators
chase the peak loads in deregulated markets - see below. These high
growth rates have been driven by population increase, air conditioning
and now by the internet. The proportion of houses with air conditioning
has nearly doubled since 1975, increasing summer peak power demand. The
internet has also been driving electric power consumption growth in the
1990's. Electric power consumption grew by 5.4% in 1998, according
to the Edison Electric Institute. The internet needs high power supply
US electric utility deregulation
Deregulation of the electric power utility industry began in the
mid-1990's, led by California with 23 states now participating, each
with its own rules. Interstate power transfers come under Federal
jurisdiction - and these are growing. The merchant generators are
presently able to operate in an almost unregulated environment. In
California the two biggest utilities, Pacific Gas & Electric
(PG&E) and Southern California Edison (SCE) lobbied for deregulation
and virtually wrote the legislation. In California and other states
there is a transition regime while the major utilities sell off their
power stations and become distributors and retailers, so ending the
vertically integrated monopolies and introducing competition among the
generators. During this period the retail prices of electricity in most
jurisdictions are capped until fully "competitive" markets
emerge. Independent electricity traders are emerging buying electricity
from the generators and on-selling it to distributors, retail utilities
and large industrial and commercial users. These changes are overloading
the major transmission lines that were not designed for the increased
power loads or their location. The public was told deregulation would
lead to cheaper electricity.
Before 1990 there was a 25% installed generator capacity margin over
peak summer demand in the USA, necessary for supply security -
electricity cannot be stored. The uncertainty introduced by deregulation
led to a cut back in investment in power stations and transmission lines
so that by 1998 the capacity margin was below 10% - and worse in states
like California where utilities import about 25% of their peak summer
power load from other states. During 2000 there were over 40 occasions
in California when Stage 2 emergencies were called with repeated
incidents of blackouts and brownouts - these continue.
The spot market for electricity in California at the peak has reached
US$1.50/kwh whereas their sale price was capped at 6.5c/kwh and was only
3c/kwh before deregulation. The average purchase price last year was
around 30c/kwh. The price of natural gas has increased as well from
US$2.20/1000c.ft. in late 1999 to spot prices over US$9 in December -
see below for a discussion on natural gas supply. The merchant
generators have been able to make windfall profits in this environment
by exploiting the futures market in both electricity and natural gas.
Similar situations have arisen in the US north east and elsewhere, but
not on the scale of California.
PG&E and SCE (over 9 million customers) have accumulated losses of
over US$9 billion since June and face bankruptcy. They applied to the
Californian Public Utilities Commission (PUC) on 2 January for
permission to increase their rates by 26% to 30% for six months to
overcome the crisis. The PUC on 4 January only agreed to a 90 day 9%
increase for residential rates and 7 to 15% for businesses. Stock prices
of both companies immediately fell while their credit rating is now near
junk bond status - which affects their continuing capacity to borrow and
buy peak electricity. The following day stocks of major banks with
significant loans to PG&E and SCE also fell, like the Bank of
America and Citigroup. Further action is inevitable within weeks to
resolve the hiatus.
PUC Commissioner Carl Wood said: "We are voting the epitaph for
deregulation in California today. Deregulation is dead." Consumer
advocates see no reason why consumers should pay for this fiasco for
which they are not responsible.
The publicly owned power utilities in the Los Angeles region have yet to
be deregulated and have not experienced problems on anywhere near the
scale of PG&E and SCE. Some states took steps to ensure that
deregulation did not undermine investment in new capacity through the
uncertainty arising from the reform.
US natural gas shortfall
Underlying this electric power crisis is a shortage of natural gas.
US installed generating capacity was some 743,000 MW in 1998 with a peak
load of 680,000 MW. About 90% of new capacity to 2010 is planned to be
natural gas fired with 22,000 MW added in 2000 and as much as 30,000 MW
expected in 2001. The capacity of gas turbine manufacturers and
installers is being pushed to the limit. Consumption of natural gas for
power generation is growing at over 10% pa, the major contributor to a
2.6% growth in natural gas consumption.
Natural gas is the principal fuel for winter heating in North
America. Winter consumption is 50% higher than in summer while
winter residential and commercial consumption is four times that in
summer. Natural gas consumption has exceeded US production since the
mid-1980's and Canadian imports now supply 15% of US consumption.
However, US production has declined since 1997 with the increasing
number of new wells unable to offset a doubling of production well
decline rates to 40% since the mid-1980's. A similar pattern has emerged
in Canada. Running faster and faster in order to stand still - or even
go backwards! There is no way US production and imports from Canada can
grow at 2.6% pa to fuel gas turbines to meet electric power growth
through the next 5-10 years.
Some summer gas production is stored in depleted onshore oil and gas
fields close to the demand centres to meet residential and commercial
heating demand in winter. About 20% of winter supply is met from these
storages. However, gas turbines supplying peak demand electricity in
summer (the air conditioning load) is rapidly eroding the capacity to
recharge these storages. The current winter is a cold one following
three warm winters and these storages will reach record low levels by
end March. Consumption is being met by drawing down the storages which
could be depleted during 2002/3 winter or earlier. The weather and a
possible decline in industrial uses will have a bearing on the outcome.
For example, some nitrogen fertilizer manufacturers have shut down as
rising gas prices make them non-competitive with imports. Kaiser
aluminum has shut down an aluminum smelter. It is more profitable to
on-sell electricity purchased under long-term contracts than to convert
it in to aluminum. Some have stopped stripping ethane, butane and
propane from natural gas - it is more profitable to sell it as gas.
Ripple effects in industry will follow and perhaps influence the price
of liquid petroleum gas (LPG) world-wide.
Gas withdrawal rates from these storages will decline as the winter
drawn down progresses and curtailment of industrial consumption may be
needed during February-March cold spells to meet residential heating
needs. Heating bills this winter will be 30% higher than 12 months ago.
US gas supply options
There are three options. Import liquid natural gas (LNG), develop gas
resources in northern Alaska and along the adjacent Canadian Arctic
Ocean coast, or develop gas resources at greater depth in the lower 48
states and in presently embargoed areas offshore on the east and west
coasts and in the Gulf of Mexico off Florida. Investment of billions of
dollars are needed and significant supply would only become available
from about 2005.
There is some spare LNG terminal capacity at US ports, but insufficient
uncommitted LNG supply or tanker capacity to supply them. New LNG
production capacity is needed, most likely in Venezuela and Nigeria,
plus a fleet of LNG tankers at US$150 million each, plus expanded US
port facilities. Alaskan sources require a minimum investment of US$10
billion to develop gas fields and construct several thousand of
pipelines on a minimum 6-7 year time frame. Long term gas prices of over
US$3/1000 c.ft. are required to justify these investments.
Two-thirds of lower 48 states gas potential is thought to be onshore
east of the Rocky Mountains in deep formations. Drilling costs will be
double or more because of the greater depth and the time to drill a well
will more than double. The east and west coasts are off limits for
environmental reasons and will require new infrastructure such as
offshore pipelines. A massive number of new and specialist drill rigs
are required that is well beyond the current capacity of the rig
manufacturers to build. 40-50% of the experienced staff (eg petroleum
geologists) in the US upstream petroleum industry will retire over the
next 10 years and there are few new ones in training. 15 years of low
oil prices have taken their toll on the petroleum exploration and
development industry world-wide, but especially in the USA. An ageing
oil tanker fleet is now fully committed.
The constraints to the massive expansion required to exploit these
hydrocarbon resources are as much in the physical resources and skilled
personnel required to do the job. Such constraints cannot be overcome
Since the mid-1980's the world has been expanding its consumption of
natural gas and oil. Over half the oil supply growth in that time has
come from Persian Gulf countries turning on wells shut down in the early
1980's. The remaining growth has come from developing expensive sources
in ever smaller fields outside the Persian Gulf, eg the North Sea and
deep water in the Gulf of Mexico. At the same time low oil prices have
decimated industry profit margins and forced a downsizing of the
exploration and development industry, especially in the USA. As well as
consuming a non-renewable resource, the upstream petroleum industry has
also been consuming its capital, both fixed and human. And in the USA
not developing its electric power infrastructure as well. In late 2000
the last of the effective spare oil production capacity from the 1980's
was turned on - only Saudi Arabia has limited spare capacity left.
Suddenly the upstream petroleum industry has to run more than twice as
hard to keep pace with growing demand for oil and natural gas,
especially in the US where circumstances have also conspired to produce
a major electric power crisis. A triple whammy!.
The only immediate solution for the US is to systematically reduce
consumption of electric power, natural gas and oil, it takes time and
dollars to overcome physical constraints. Any attempt to massively
expand energy production must divert energy from the general economy to
achieve this task, just as existing hydrocarbon supplies are declining.
There are severe limits to the rate at which the energy industry can be
expand under these circumstances. In the jargon of economics there is an
"opportunity cost" of no small proportions.
So President-elect George Bush has the USA's greatest energy crisis in
it's history on his agenda. He will of necessity have to preside over a
contraction of oil and gas consumption in the USA, shortly after the US
refused to do so at The Hague Greenhouse conference last year to reduce
Greenhouse gas emissions!
The present thrust of economic development in the USA has hit an energy
supply ceiling - economic growth in the old way is no longer possible.
In California energy efficiency measures to get more service by
consuming less energy are already on the agenda.
Reports and papers from Simmons & Coy International. www.simmonsco-intl.com
Click Research. Items since October give the most up-to-date information
and several from April to June are relevant. Simmons & Coy is based
in Houston Texas and is the leading US provider of comprehensive
financial services to the upstream petroleum industry. Its principal,
Matthew Simmons, is a close associate of James Baker one of the leading
Republicans in George Bush Jr's circle. This company is quite frank in
its analyses and has sound relevant information.
Articles under "energy" in the Houston Chronicle, Texas. www.HoustonChronicle.com
Campbell, CJ, Perrodon., A, & Laherrere, J 1996. The World's Gas
Potential, Petroconsultants SA, Geneva.
Articles in leading oil industry journals since the early 1990's.
Campbell, CJ 1997. The Coming Oil Crisis, Multi-Science Publishing Coy
UK and Petroconsultants SA, Geneva.
Fleay, BJ (1999) Climaxing Oil: How Will Transport Adapt? Paper
presented to the Chartered Institute of Transport in Australia's
National Symposium, Beyond Oil: Transport and Fuels for the Future,
Launceston Tasmania, 6-7 November 1998. Published as Occasional Paper
1/99 by the Institute of Sustainability and Technology Policy, Murdoch
University Western Australia. wwwistp.murdoch.edu.au
See Section 5 in particular for constraints to expansion of the upstream
to Oil Depletion
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