Australia is currently staring down the worst policy-created domestic gas mess in its history. The problems that we face today are a result of decisions made almost 30 years ago that have been systematically ignored by governments.
These decisions largely revolved around placing a national resource in private hands, with little regulation or assurances around safeguarding our national supply. This, of course, led to private companies being tempted by higher prices for gas abroad, sacrificing any notion of keeping local supply for Australia’s own energy needs.
These gas companies took a calculated bet that they could use their market power to force the government’s hand. When the Gladstone gas projects were financed, the companies argued that building export facilities vastly larger than the gas resources they had secured was a safe bet.
That assumption was based on the notion that they would either easily get the right to frack the gas they needed.
Should any government refuse, it was hedged by a counter strategy of taking gas out of the domestic market, hiking prices and causing enough local price pain to strongarm governments into clearing the way for the fracking they needed to do.
Australia now faces the completely laughable situation of being one of the world’s top LNG exporters, but is unable to retain enough supply for its own citizens – a result that is decimating what is left of our manufacturing and chemical industry and unnecessarily importing inflation.
Having been in this industry and seeing this situation evolve and crescendo into the current train wreck, allow me to pull together the threads which explain why today’s gas shortages have actually been three decades in the making … all obvious and intentional.
The initial mistake: Privatising without safeguards
It all starts back in the mid-1990s, when it was decided that greater competition was best. Through a process of “competitive reforms” the Council of Australian Governments (COAG) removed the barriers to interstate trade in gas.
Most government-owned gas businesses were sold into private hands and all natural gas distribution and transmission systems were opened to competition in what was hailed as an arrangement that would “ensure Australia had a well developed and competitive gas industry.”
This competitive reform and others at the same time meant that the new private Big Gas operators could extract gas out of reserves right across eastern Australia. To further encourage this, in 2005 the Ministerial Council on Energy established a gas industry-led Gas Market Leaders Group to prepare a Gas Market Development Plan.
These Gas Market Leaders were tasked with considering how best to manage the dual objective of building the domestic market as well as Australia’s LNG export capabilities, supposedly to ensure the long-term supply of competitively priced gas… the latter part was immediately completely ignored, as then Premier Colin Barnett recently reminded us.
Western Australia is the only state in Australia that does not have an issue with LNG supply as, unlike the eastern states, it legislated that 15% of the state’s gas supplies must be kept for local use.
The temptation of high global prices for Australian gas
Back then, significant changes were occurring; fracking technology was evolving and we were seeing high international prices that did not exist in Australia. The wholesale and bulk tariffs charged to industrial and commercial customers in eastern Australia ranged from around $3.50 to $3.80 a GJ, which was cheap compared with international gas prices that were close to $9/GJ .
Without export facilities Australia had experienced 50 years of low gas prices when compared to international prices. The profit gap between what locals were paying and what foreign buyers were prepared to pay was an attractive prospect for Australia’s major gas companies.
Low gas prices also meant low electricity prices that averaged about $35 megawatts per hour. All our domestic industry was benefiting from the international competitive advantage conferred by these stable low prices that would be disrupted by unrestricted exports of our gas.
Australia’s advantage was a massive profit opportunity, making life cheaper for foreign citizens and making it more expensive for us at home… What could go wrong!
So with the Gas Market Leaders Group basically controlling the policy process, the eastern gas market was liberalised and any restriction to moving gas around the eastern states was removed – and with that, the race was on.
The Gas Market Leaders started to jockey to secure the prize and launched massive LNG gas export projects. There were eight LNG projects proposed in Queensland, representing a total capital expenditure of more than $A80 billion. If all those projects proceeded, more than 50 million tonnes of LNG each year was to be exported… if they could just find the gas.
An early warning: The QLD Gas Supply Study
Things started off a little rough. Very early on, the Gas Market Leaders started to progress massive projects, even before they had drilled the additional gas they needed for export.
These companies started to enter into contracts to buy gas in the future to feed their export plants from the available domestic market gas, immediately causing problems for domestic businesses by driving up prices and swallowing all available existing domestic gas supply.
Suddenly, Australia – which historically had plenty of gas for its domestic market – had a “gas supply issue” caused by massive new demand from oversized export LNG facilities
This led to the Queensland government launching a Gas Security Supply study in 2009, which reported that:
“Current Queensland gas market conditions (contract availability and pricing) are being influenced by LNG project proponents’ requirement to satisfy their boards, bankers and LNG customers that they have security over sufficient gas supply to underwrite proposed LNG project investments.
“Queensland industrial gas customers are reporting increasing difficulty obtaining medium to long- term gas contracts. The majority of these projects (e.g. fertiliser production, crude oil refining, alumina refining etc) involve large investments in assets which take many years to recover and require very competitive gas prices.”
It also found:
“Two options have been identified for providing additional certainty about the availability of gas to the domestic market, and its price, in the presence of the projected LNG developments:
● Option 1 – application of a reservation policy requiring a percentage of gas production to be supplied to the domestic market.
● Option 2 – development of a reserve of potential gas-producing land which may be released as required to ensure supply. Depending on supply constraints identified in regular market assessments, this land may be conditioned such that it is only available to the domestic market.”
Of course, this study was not well received and soon many of the Gas Market Leaders commissioned consultants to undertake their own studies, challenging the idea of the need to take any action.
ACIL Tasman was first up with their study for QGC/BG International. Challenging the Queensland study, it suggested that:
“The Queensland government during 2009 considered the introduction of a domestic market obligation requiring LNG project proponents to set aside up to 20% of their CSG reserves for local domestic purposes.”
ACIL Tasman naturally found: “Such a policy would have increased the risks for the QCLNG Project with regard to reserves establishment, potentially delaying the process of proving up enough reserves to allow the LNG project to proceed.”
They concluded that domestic prices would not really be affected by the massive export projects and that prices could “rise from a low of around A$4.50/GJ delivered at Gladstone prior to commissioning of the LNG facilities to around A$5.30 (real, 2009) by 2030.”
Actually today that price is closer to $40.
How the gas industry escaped regulation… again
As proponents started to seek finance for their six LNG trains to be built concurrently at Gladstone, the elephant in the room was the supply side of the gas.
Fracking was getting underway, but there were problems, not only with the lower yields, faster tapering of output and higher costs of the fracked gas. Environmental regulators also started to ask what chemicals they were using, how they were managing aquifers and what they were doing with all the salt they were bringing to the surface as they dewatered wells.
Furthermore, their free and incontestable access to private farmers’ lands was coming under challenge.
The projects knew that they needed a clear explanation of how to overcome the many political hurdles that could stop them from fracking the place dry.
At the same time, discussion was being had about Australia’s manufacturing future with a very comprehensive report provided by Hawker Britten. This report was well received by the then Labor government and most recommendations were accepted, with the exception of two: The establishment of a Sovereign Wealth Fund and the imposition of a domestic gas reservation policy.
Yet again, the recommendation to introduce domestic gas reservation was rejected.
Big gas and fossils were at it across the economy contesting anything that threatened their strategy, successfully led by the Australian Petroleum Production & Exploration Association (AAPEA). The government was on the back foot with an election looming and fights over the Super Profits Tax and the carbon tax, the suggestion again of a domestic reservation system was on hold until after the election.
But the government of the day was not only struggling with outside attacks. In July 2012 its own department was seemingly parroting industry saying a reservation policy would have “adverse impacts on the long term domestic gas prices”.
A stream of pundits from places such as The Grattan Institute and Professor Department of Economics at Monash University were all against a domestic gas reservation policy and followed the purist economic reason, fed by the same analysis ACIL Tasman originally commissioned from the very people benefiting from gas exports.
A report from AAPEA not surprisingly found “arguments for domestic gas reservation are short-sighted and self-interested. Gas reservation policies actually impair local gas supply and affordability, rather than improve it.”
Labor went on to lose the election, and the topic wouldn’t resurface until now.
Looking ahead with an appreciation of the past
Australia’s gas shortage is essentially a product of economic purism being followed to the letter. By the government not seeing through this and acting in spite of the smokescreen of commentary from industry, we find ourselves in an almost farcical situation regarding our gas supplies and the gas price.
The average Australian would believe – with no industry knowledge and just reading the headlines – that Australia isn’t producing enough gas. When in reality, it’s all been promised to foreign companies. Profit before patriotism.
These exporting and foreign-owned companies now make significant profits while 22 million Australians are forced to pick up the tab for three decades of defunct policy decisions.
There is nothing stopping Australia from learning from our mistakes and implementing a domestic reservation system now.
The argument that this will cause a sovereign risk to the country is not correct, and yet another smokescreen erected to put this issue in the government’s too-hard basket. We can easily and fairly apply this condition to new contracts, or to all new gas produced.
Also, don’t cry for the LNG exporters. We need to remember they rushed into Australia to extract the cheap gas out of the market. The fact that they got it wrong doesn’t mean they can now spread that failure across all other businesses and consumers in Australia.
They chose to build more export capacity than available domestic gas. They failed. Manufacturers and consumers did nothing and just asked the government to respect that decisions have consequences and either implement a super profits tax on exports – that will drive down domestic prices – or put in place a domestic gas reservations system.
Given we have a budget deficit and a domestic gas price problem, I hope they get this policy change right. It is not complicated.
Oliver Yates is CEO of Sentient Impact Group, an investment firm driving change through investment in sustainable, impact projects.
