Testimony

• Mr. Guy F. Caruso

  Administrator, Energy Information Administration

  U.S. Department of Energy

Witness Panel 2

• Mr. Paul Wilkinson
  Read statement

  Witness Panel 2

  Mr. Paul Wilkinson

  The American Gas Association represents 192 local energy utility companies that deliver natural gas to more than 53 million homes, businesses and industries throughout the United States. Natural gas meets one-fourth of the United States’ energy needs and it is the fastest growing major energy source. As a result, adequate supplies of competitively priced natural gas are of critical importance to AGA and its member companies. Similarly, ample supplies of reasonably priced natural gas are of critical importance to the millions of consumers that AGA members serve. AGA speaks for those consumers as well as its member companies. The key points of our testimony can be summarized as follows: · Natural gas demand has been increasing more rapidly than supply and the resultant tight market has exhibited higher and more volatile gas prices. · The short-term gas supply situation is better this year than last, but only marginally. · Without aggressive action by government and private industry, this unstable situation will persist. · Increasing our national gas supply is necessary for economic growth and consumer well-being, and it can be compatible with environmental protection. · The Lower-48 has provided about 85 percent of the total U.S. gas supply in recent years. This percentage likely will decline over time, but it will continue to provide the majority of our gas for the foreseeable future. Increasing or even maintaining current Lower-48 production levels without increased access is problematic. · New sources of gas supply, including Alaska and imported liquefied natural gas (LNG), must account for a larger share of our gas supply portfolio in the future. The longer these sources are delayed, the longer U.S. consumers will face market instability. · There are market mechanisms, such as hedging and long-term fixed price contracts, that can reduce price volatility to some extent and they should be encouraged. However, these measures do not solve the fundamental market imbalance. · In light of the expectation of continued difficult market conditions, low-income consumers must be provided greater relief in the form of increased LIHEAP funding. Only 15 percent of eligible recipients currently receive LIHEAP funds, and the appropriation level should be increased to $3.4 billion. The natural gas industry is at a critical crossroads. Natural gas prices were relatively low and very stable for most of the 1980s and 1990s. Wholesale natural gas prices during this period tended to fluctuate around $2 per million Btus (MMBtu). But the balance between supply and demand has been extremely tight since then, and even small changes in weather, economic activity or world energy trends have resulted in significant wholesale natural gas price fluctuations. Market conditions have changed significantly since the winter of 2000-2001. Today our industry no longer enjoys prodigious supply; rather, it treads a supply tightrope, bringing with it unpleasant and undesirable economic and political consequences—most importantly high prices and higher price volatility. Both consequences strain natural gas customers—residential, commercial, industrial and electricity generators. Since the beginning of 2003, the circumstances in which our industry finds itself have become plainly evident through significantly higher natural gas prices. Natural gas prices have consistently hovered in the range of $5-6 per thousand cubic feet in most wellhead markets. In some areas where pipeline transportation constraints exist, prices have skyrocketed for short periods of time to $70 per thousand cubic feet. Simply put, natural gas prices are high, and the marketplace is predicting that they will stay high. At this point there is no debate among analysts as to this state of affairs. As this committee well knows, energy is the lifeblood of our economy. More than 60 million Americans rely upon natural gas to heat their homes, and high prices are a serious drain on their pocketbooks. High, volatile natural gas prices also put America at a competitive disadvantage, cause plant closings, and idle workers. Directly or indirectly, natural gas is critical to every American. The consensus of forecasters is that natural gas demand will increase steadily over the next two decades. This growth will occur because natural gas is the most environmentally friendly fossil fuel and is an economic, reliable, and homegrown source of energy. It is in the national interest that natural gas be available to serve the demands of the market. The federal government must address these issues and take prompt and appropriate steps to ensure that the nation has adequate supplies of natural gas at reasonable prices. Many of the fields from which natural gas currently is being produced are mature. Over the last two decades, technological advances have greatly enhanced the ability to find natural gas as well as to produce the maximum amount possible from a field. While technology will undoubtedly continue to progress, technology alone will not be sufficient to maintain or increase our domestic production. As Federal Reserve Chairman Alan Greenspan noted before the House Energy and Commerce Committee in 2003, today’s tight natural gas markets have been a long time in coming but there are still numerous unexploited sources of gas in the United States. We are not running out of natural gas; we are not running out of places to look for natural gas; we are running out of places where we are allowed to look for gas. The truth we must confront now is that, as a matter of policy, this country has chosen not to develop much of its natural gas resource base. Today and for the coming winter heating season the supply picture is improving. Underground storage is strong. Inventories exceed the prior 5-year average by more than six percent. On the domestic natural gas production front, our current view is that gas production is stabilizing given the high levels of drilling experienced in the last 18-24 months. But the longer-term faces many challenges. Without prudent elimination of some current restrictions on U.S. natural gas production, producers will struggle to increase, or even maintain current production levels in the lower-48 states. This likely would expose 63 million homes, businesses, industries and electric-power generation plants that use natural gas to unnecessary levels of price volatility—thus harming the U.S. economy and threatening America’s standard of living. If America’s needs for energy are to be met, there is no choice other than for exploration and production activity to migrate into new, undeveloped areas. There is no question that the nation’s natural gas resource base is rich and diverse. It is simply a matter of taking E&P activity to the many areas where we know natural gas exists. Regrettably, many of these areas—largely on federal lands—are either totally closed to exploration and development or are subject to so many restrictions that timely and economic development is not possible. As we contemplate taking these steps, it is important that all understand that the E&P business is—again as a result of technological improvements—enormously more environmentally friendly today than it was 25 years ago. In short, restrictions on land access that have been in place for many years need to be reevaluated if we are to address the nation’s current and future energy needs. This year, like last year, the most important next step the entire Congress can take to address these pressing issues is to enact a comprehensive energy bill with provisions ensuring that lands where natural gas is believed to exist are available for environmentally sound exploration and development. Additionally, it is appropriate to create incentives to seek and produce this natural gas. These steps are necessary to help consumers and the economy. Recommendations To promote meeting consumer needs, economic vitality, and sound environmental stewardship, the American Gas Association urges Congress as follows: Ø Current restrictions on access to new sources of natural gas supply must be re-evaluated in light of technological improvements that have made natural gas exploration and production more environmentally sensitive. Ø Federal and state officials must take the lead in overcoming the pervasive “not in my backyard” attitude toward energy infrastructure development, including gas production. Ø Interagency activity directed specifically toward expediting environmental review and permitting of natural gas pipelines and drilling programs is necessary, and agencies must be held responsible for not meeting time stipulations on leases, lease review, and permitting procedures. Ø Federal lands must continue to be leased for multi-purpose use, including oil and gas extraction and infrastructure construction. Ø Both private and public entities should act to educate the public regarding energy matters, including energy efficiency and conservation. Federal and state agencies, with private sector support and involvement, should strive to educate the public on the relationship between energy, the environment, and the economy. That is, energy growth is necessary to support economic growth, and responsible energy growth is compatible with environmental protection. Ø Economic viability must be considered along with environmental and technology standards in an effort to develop a “least impact” approach to exploration and development but not a “zero impact.” Ø The geologic conditions for oil and gas discovery exist in the US mid-Atlantic area, the Pacific Offshore area, and the eastern portion of the Gulf of Mexico. · Although some prospects have been previously tested, new evaluations of Atlantic oil and gas potential should be completed using today’s technology – in contrast to that of 20 to 30 years ago. · The federal government should facilitate this activity by lifting or modifying the current moratoria regarding drilling and other activities in the Atlantic Offshore, in the Pacific Offshore, and in the Gulf of Mexico to ensure that adequate geological and geophysical evaluations can be made, and that exploratory drilling can proceed. · The federal government must work with the states to assist—not impede—the process of moving natural gas supplies to nearby markets should gas resources be discovered in commercial quantities. Federal agencies and states must work together to ensure the quality of the environment, but they must also ensure that infrastructure (such as landing an offshore pipeline) is permitted and not held up by multi-jurisdictional roadblocks. Ø The federal government should continue to permit royalty relief where appropriate to change the risk profile for companies trying to manage the technical and regulatory risks of operations in deepwater. Ø Tax provisions such as percentage depletion, expensing geological and geophysical costs in the year incurred, Section 29 credits, and other credits encourage investment in drilling programs, and such provisions are often necessary, particularly in areas faced with increasing costs due to environmental and other stipulations. Ø The Coastal Zone Management Act (CZMA) is being used in ways not originally intended to threaten or thwart offshore natural gas production and the pipeline infrastructure necessary to deliver natural gas to markets. Companies face this impediment even though leases to be developed may be 100 miles offshore. These impediments must be eliminated or at least managed within a context of making safe, secure delivery of natural gas to market a reality. Ø The U.S. government should work closely with Canadian and Mexican officials to address the challenges of supplying North America with competitively priced natural gas in an environmentally sound manner. Ø Renewable forms of energy should play a greater role in meeting U.S. energy needs, but government officials and customers must realize that all forms of energy have environmental impacts. Ø Construction of an Alaskan natural gas pipeline must begin as quickly as possible. · Construction of this pipeline is possible with acceptable levels of environmental impact. · The pipeline project would be the largest private sector investment in history, and it would pose a huge financial risk to project sponsors. Many believe the project may not be undertaken without some form of federal support. Ø The Federal Energy Regulatory Commission (FERC) announced in December of 2002 that it would not require LNG terminals to be “open access” (that is, common carriers) at the point where tankers offload LNG. This policy will spur LNG development because it reduces project uncertainty and risk. · Other federal and state agencies should review any regulations that impede LNG projects and act similarly to reduce or eliminate these impediments. · The siting of LNG offloading terminals is generally the most time-consuming roadblock for new LNG projects. Federal agencies should take the lead in demonstrating the need for timely approval of proposed offloading terminals, and state officials must begin to view such projects as a means to satisfy supply and price concerns of residential, commercial and industrial customers. · Some new LNG facilities should be sited on federal lands so that permitting processes can be expedited. Ø Congress should increase LIHEAP funding. Low-income energy assistance is currently provided to roughly 4 million households, only 15 percent of those eligible. The financial burden on needy families certainly will increase this winter, and LIHEAP appropriations should be increased to $3.4 billion – up from $1.9 billion of total assistance in 2004. Ø States should be encouraged to authorize local utilities to enter into fixed-price long-term contracts and/or natural gas hedging programs as a means of dampening the impact of natural gas price volatility upon consumers. Written Statement AGA is grateful for the opportunity to share its views on the critical importance to the nation of ensuring ample natural gas supplies at competitive prices. Doing so is necessary for the nation—both to protect consumers and to address the energy and economic situations we currently face. The American Gas Association represents 192 local energy utility companies that deliver natural gas to more than 53 million homes, businesses and industries throughout the United States. Natural gas meets one-fourth of the United States’ energy needs and is the fastest growing major energy source. AGA members are charged with the responsibility, under local law or regulation, of acquiring natural gas for the majority of their customers and delivering it in a safe and reliable manner. Having an ample supply of natural gas at reasonable prices is a critical issue for AGA and its members. AGA members and the natural gas consumers they serve share both an interest and a perspective on this subject. It is important to understand that the bread-and-butter business of AGA members is acquiring and delivering natural gas to residential, commercial, and, in some cases, industrial and electric generation consumers across America. Our members remain economically viable by delivering natural gas to consumers at the lowest reasonable price, which we do by operating our systems—over a million miles of distribution lines—as efficiently as possible. Exploring for and producing natural gas is the business of our energy-industry colleagues in oil and gas exploration companies, whether they are super-major, major, independent, or “Mom and Pop” operators. We do not speak for them, but their continued success in providing natural gas to America’s consumers is of the utmost importance to us as well. AGA and its members stand in the shoes of consumers who want reasonable heating bills and good jobs. AGA has three objectives in this statement: first, to explain briefly why natural gas prices have increased over the past several years; second, to describe the magnitude of the natural gas supply challenge facing this country over the next two decades; and third, to recommend a number of steps that Congress can take to help bring natural gas prices down in the long term. AGA remains encouraged that Congress continues to address this critical issue. The House of Representatives and the Senate each passed a version of the Energy Policy Act of 2003. The House and Senate bills each contained a wide array of provisions designed to bring forth more of America’s prodigious supply of natural gas to benefit consumers. Notwithstanding the inability of both houses to agree upon a comprehensive energy bill, AGA remains encouraged that Congress will address the issues surrounding the nation’s need for a secure supply of ample quantities of natural gas at reasonable prices. Adequate natural gas supply is crucial to all of America for a number of reasons. It is imperative that the natural gas industry and the government work together to take significant action in the very near term to assure the continued economic growth, environmental protection, and national security of our nation. The tumultuous events in energy markets over the last several years serve to underscore the importance of adequate and reliable supplies of reasonably priced natural gas to consumers, to the economy, and to national security. There has been a crescendo of public policy discussion with regard to natural gas supply since the “Perfect Storm” winter of 2000-2001, when tight supplies of natural gas collided with record-cold weather to yield record natural gas home-heating bills. Nevertheless, over the course of the last year the volume and the tenor of this discussion have increased dramatically. Simply put, this issue continues to become more critical with every passing day. For the past two years, natural gas has been trading in wellhead markets throughout the nation at prices often floating between $5 and $6 per thousand cubic feet. This has not been a “price spike” of the sort that has occurred in times past, lasting several days or weeks. Rather, it has been sustained for nearly two years. Moreover, there is no sign that it will abate in the near future. Indeed, quotes for futures prices on NYMEX over the next several years have been consistent with these levels. Over the last year or more, business consumers of natural gas have been raising a cry of concern over natural gas prices. This concern has touched businesses of all stripes. Since natural gas prices began rising in 2000, an estimated 78,000 jobs have been lost in the U.S. chemical industry, which is the nation’s largest industrial consumer of natural gas, both for generation of electricity at manufacturing plants and as a raw material for making medicine, plastics, fertilizer and other products used each day. Similarly, fertilizer plants, where natural gas can represent 80 percent of the cost structure, have closed one facility after another. Glass manufacturers, which also use large amounts of natural gas, have reported earnings falling by 50 percent as a result of natural gas prices. In our industrial and commercial sector, competitiveness in world markets and jobs at home are on the line. Of course, when families pay hundreds of dollars more to heat their homes, they have hundreds of dollars less to spend on other things. Many families are forced to make difficult decisions between paying the gas bill, buying a new car, or saving for future college educations. There are, of course, state and federal programs such as LIHEAP to assist the most needy. But LIHEAP only provides assistance to about 15 percent of those who are eligible, and it does not provide assistance to the average working family. These price increases have affected all families – those on fixed incomes, the working poor, lower-income groups, those living day to day, and those living comfortably. America received its first wake-up call on natural gas supply in the winter of 2000-2001 when a confluence of events—a cold winter, a hot summer and a surging economy—created the so-called “perfect storm.” This jump in demand sent natural gas prices soaring. Drilling boomed, supply grew (slightly), demand fell, and gas prices retreated—just what one would expect from a competitive, deregulated natural gas market. Falling natural gas prices predictably led to a slowdown in drilling. The industry drilled 30% fewer gas wells in 2002 than in 2001. This downturn in drilling in 2002 set the stage for another run-up in prices in the 2002-2004 time frame. Today and for the coming winter heating season the supply picture is improving. With higher wellhead prices, nearly 20,000 new gas wells were drilled in 2003 and will be drilled in 2004. Regarding domestic production, AGA’s current view is that gas production is stabilizing given the high levels of drilling experienced in the last 18-24 months and may even increase slightly in 2004 over 2003. Many of the wells drilled have been in coal seams, tight sands and shales, adding to the contribution of unconventional sources of gas to the supply mix. In addition, underground storage injections have been strong. By mid-September 2004, storage inventories were the second highest they have been in ten years even with the interruption of significant hurricane activity in the Gulf of Mexico. National storage volumes exceed the prior 5-year average by more than six percent, with the Producing Region over 11 percent greater than the five-year average. However, the longer-term still faces many challenges. It is harmful to individual families and to the entire U.S. economy for natural gas price volatility to persist. Unless we make the proper public policy choices—and quickly—we will be facing many more difficult years with regard to natural gas prices. The natural gas industry is presently at a critical crossroads. The question before this body today is: What will that crossroads look like? Will it look like a brand new interstate highway? Or will it look like a 100-car collision on a Los Angeles freeway? It is important to remember that at the heart of this intersection are America’s consumers. For the past five years, natural gas production has operated full-tilt to meet consumer demand. The “surplus deliverability “ or “gas bubble” of the late 1980s and 1990s is simply gone. No longer is demand met while unneeded production facilities sit idle. No longer can new demand be met by simply opening the valve a few turns. The valves have been, and presently are, wide open. The supply tightrope has brought with it several inexorable and unpleasant consequences—prices in wholesale markets have risen dramatically, and that market has become much more volatile. During the 2000-2001 heating season, for example, gas prices moved from the $2 level to approximately $10 and back again to nearly $2. Such volatility hurts consumers, puts domestic industry at a competitive disadvantage, closes plants, and idles workers. The winter of 2000-2001 made it abundantly clear to natural gas utilities (and to legislators as well) that consumers dislike these price increases and the market volatility that has now become an everyday norm. Unless significant actions are taken on the supply side, gas markets will remain tumultuous, and 63 million gas customers will suffer the consequences. Today’s recurrent $5 price levels appear to represent a regular, level of natural gas prices for the foreseeable future, although this prospect can be moderated somewhat with aggressive and enlightened public policy. Gas utilities have in place a number of programs to insulate consumers, to some extent, from the full impact of wholesale price volatility. Nevertheless, consumers must ultimately pay the price that the market commands. There has been, and will be, considerable economic and political pushback from natural gas prices stabilizing at the current $5 level. That pushback can be expected to continue as the impacts of these price levels trickle through the economy. Energy prices are undoubtedly a factor in what some have called a “jobless” recovery from the last several years of economic malaise. Some would suggest that current natural gas conditions are not the result of market fundamentals. Continued high and volatile natural gas prices have, for example, resulted in charges of market manipulation and calls for investigation. While AGA has not performed an independent evaluation regarding these assertions, others–including the CFTC, FERC and various analysts—have. These evaluations consistently identify supply and demand as the explanatory variables regarding natural gas prices. Certainly any substantiated market irregularities should be dealt with aggressively and with certainty. However, the burden of high and unpredictable natural gas prices on consumers will not be eased until we as a nation address the supply/demand imbalance in the natural gas market. It would be ill advised to embrace the notion that that aggressive investigation and law enforcement will remedy the underlying, fundamental imbalance in supply and demand. The role of supply and demand in natural gas markets has been plainly evident over the last two years. Very cold weather in January and February of 2003 resulted in gas consumption that was 18 percent higher than the previous year. This strong demand resulted in aggressive natural gas storage withdrawals, and storage inventories were 50 percent below the five-year average at the end of the 2002-2003 winter. Despite concern that storage could not be refilled to adequate levels prior to the 2003-2004 winter, gas utilities injected gas at record levels in order to ensure winter reliability. In late December 2003, storage levels marginally exceeded the five-year average, although much of this gas was purchased in periods of high prices and the need to refill storage contributed to market tightness. Natural gas prices fluctuated around $6 per thousand cubic feet for the first half of the year (with a spike over $9 during the February cold snap) declining to about $5 late in the year. For most of 2004, wellhead acquisition prices have remained above $5 dollars. The primary reason for high and volatile natural gas prices is the tightness in the marketplace. While law enforcement agencies must continue to be alert for manipulative actions, federal policy changes must lead the way in reducing this tightness. Not until we increase supply, reduce demand and streamline relevant energy regulations will 63 million gas consumers see more reasonably priced and more stable natural gas prices. Moreover, the problem that we face today is not simply one of finding means to meet current demands in the market for natural gas. Rather, with a growing economy we are in a growing market, and the demand for natural gas in the U.S. is expected to increase steadily. Growth seems inevitable because natural gas is a clean, economic, and domestic source of available energy. It does not face the environmental hurdles of coal and nuclear energy, the economic and technological drawbacks of most renewable energy forms, or the national security problems associated with imported oil. The U.S. natural gas market may grow by nearly 2 percent per year over the next twenty years. Much of this growth in natural gas demand will occur as a result of power generation needs. In fact, the U.S. now has two hundred thousand megawatts of new gas-fired power plants on line that did not exist in the summer of 1999—the equivalent of several scores of Diablo Canyon nuclear power plants. If the market was to grow by 2 percent per year, gas supply would need to increase, in terms of average daily supply, from about 60 billion cubic feet per day today to about 95 billion cubic feet per day in 2025—a 35 billion-cubic-foot-per-day increase in deliverability. (To place this potential increase in perspective, current production from the entire Gulf of Mexico is only about 14 billion cubic feet per day, and imports from Canada are about 10 billion cubic feet per day.) The challenge for both government and industry is quite straightforward: to ensure that both the current and future needs for natural gas are met at reasonable and economic prices. There is no question that facilitating this result is sound public policy. Natural gas is abundant domestically and is the environmentally friendly fuel of choice. Ensuring adequate natural gas supply will lead to reasonable prices for consumers, will dampen the unacceptable volatility of wholesale natural gas markets, will help keep the economy growing, and will help protect the environment. America has a large and diverse natural gas resource; producing it, however, can be a challenge. Providing the natural gas that the economy requires will necessitate: (1) providing incentives to bring the plentiful reserves of North American natural gas to production and, hence, to market; (2) making available for exploration and production the lands—particularly federal lands—where natural gas is already known to exist so gas can be produced on an economic and timely basis; (3) ensuring that the new infrastructure that will be needed to serve the market is in place in a timely and economic fashion. Natural gas—our cleanest fossil fuel—is found in abundance throughout both North America and the world. It currently meets one-fourth of the United States’ energy needs. Unlike oil, about 99 percent of the natural gas supplied to U.S. consumers originates in the United States or Canada. The estimated natural gas resource base in the U.S. has actually increased over the last several decades. In fact, we now believe that we have more natural gas resources in the U.S. than we estimated twenty years ago, notwithstanding the production of approximately 300 trillion cubic feet of gas in the interim. This is true, in part, because new sources of gas, such as coalbed methane, have become an important part of the resource base. Nonetheless, having the natural gas resource is not the same as making natural gas available to consumers. That requires natural gas production. Natural gas production is sustained and grows only by drilling in currently productive areas or by exploring in new areas. Over the past two decades a number of technological revolutions have swept across the industry. We are able today to drill for gas with dramatically greater success and with a significantly reduced environmental impact than we were able to do twenty years ago. We are also much more efficient in producing the maximum amount of natural gas from a given area of land. A host of technological advances allows producers to identify and extract natural gas deeper, smarter, and more efficiently. For example, the drilling success rate for wells deeper than 15,000 feet has improved from 53 percent in 1988 to over 82 percent today. In addition, gas trapped in coal seams, tight sands, or shale is no longer out of reach, and today it provides a major source of supply. While further improvements in this regard can be expected, they will not be sufficient to meet growing demand unless they are coupled with other measures. Regrettably, technology alone cannot indefinitely extend the production life of mature producing areas. New areas and sources of gas will be necessary. Notwithstanding the dramatic impact of innovation upon the natural gas business, the inevitable fact today is that we have reached a point of rapidly diminishing returns with many existing natural gas fields. This is almost entirely a product of the laws of petroleum geology. The first ten wells in a field may ultimately produce 60 percent of the gas in that field; yet it may take forty more wells to produce the balance. In many of the natural gas fields in America today, we are long past those first ten wells and are well into those forty wells in the field. In other words, the low-hanging fruit have already been picked in the orchards that are open for business. Drilling activity in the U.S. has moved over time, from onshore Kansas, Oklahoma and Arkansas to offshore Texas and Louisiana, and then to the Rocky Mountains. Historically, we have been quite dependent on fields in the Gulf of Mexico. But recent production declines in the shallow waters of the Gulf of Mexico have necessitated migration of activity to deeper waters to offset this decline. These newer, more expensive, deepwater fields tend to have short lives and significantly more rapid rates of decline in production than onshore wells. The sobering reality is that America’s producers are drilling more wells today than they were five years ago. Nevertheless, domestic supply is struggling to be sustained. U.S. gas producers are on an accelerating treadmill, running harder just trying to stay in place. For reasons that are partly due to technology, and partly due to the maturing of the accessible natural gas resource base, a typical well drilled today will decline at a faster rate than a typical well drilled a decade ago. Moreover, because up to half of this country’s current natural gas supply is coming from wells that have been drilled in the past five years, this decline trend is likely to continue. Before we can meet growing gas demand, we must first replace the perennial decline in production. The U.S. natural gas decline rate will be in the range of 26-28 % this year. In practical terms, if all drilling stopped today, in twelve months U.S. natural gas production would be 26-28% lower than it is today. The accelerating decline rate helps explain why U.S. gas deliverability has been stuck in the 52-54 billion cubic feet per day range for the past eight years, notwithstanding an increase in gas-directed drilling. In short, America’s natural gas fields are mature—in fact many are well into their golden years. There is no new technology on the horizon that will permit us to pull a rabbit out of a hat in these fields. These simple, and incontrovertible, facts explain why we are today walking a supply tightrope. High and volatile natural gas prices have become the norm and will become increasingly accentuated as the economy returns to its full vigor. There is no question that high and volatile natural gas prices are putting a brake on the economy, once again causing lost output, idle productive capacity, and lost jobs. If we are to continue to meet the energy demands of America and its citizens and if we are to meet the demands that will they make upon us in the next two decades, we must change course. It will not be enough to make a slight adjustment or to wait three or four more years to make necessary policy changes. Rather, we must change course entirely, and we must do it in the very near future. Lead times are long in our business, and meeting demand years down the road requires that we begin work today. We have several reasonable and practical options. It is clear that continuing to do what we have been doing is simply not enough. In the longer term we have a number of options: First, and most importantly, we must work to sustain and increase natural gas production by looking to new frontiers within the United States. Further growth in production from this resource base is jeopardized by limitations currently placed on access to it. For example, most of the gas resource base off the East and West Coasts of the U.S. and the Eastern Gulf of Mexico is currently closed to any exploration and production activity. Moreover, access to large portions of the Rocky Mountains is severely restricted. The potential for increased production of natural gas is severely constrained so long as these restrictions remain in place. To be direct, America is not running out of natural gas, and it is not running out of places to look for natural gas. America is running out of places where we are allowed to look for gas. The truth that must be confronted now is that, as a matter of policy, this country has chosen not to develop much of its natural gas resource base. We doubt that that many of the 63 million American households that depend on natural gas for heat are aware that this choice has been made on their behalf. In this vein, the Rocky Mountain region is expected to be a growing supplier of natural gas, but only if access to key prospects is not unduly impeded by stipulations and restrictions. Two separate studies by the National Petroleum Council and the U.S. Department of the Interior reached a similar conclusion—that nearly 40 percent of the gas resource base in the Rockies is restricted from development, in some cases partially and in some cases totally. On this issue, the Department of the Interior noted that there are nearly 1,000 different stipulations that can impede resource development on federal lands. One of the most significant new gas discoveries in North America in the past ten years is located just north of the US/Canada border in eastern Canadian coastal waters on the Scotian shelf. Natural gas discoveries have been made at Sable Island and Deep Panuke. Gas production from Sable Island already serves Canada’s Maritimes Provinces and New England through an offshore and land-based pipeline system. This has been done with positive economic benefits to the region and without environmental degradation. This experience provides an important example for the United States, where we believe that the offshore Atlantic area has a similar geology. In some areas we appear to be marching backward. The buy-back of federal leases where discoveries had already been made in the Destin Dome area (offshore Florida) of the eastern Gulf of Mexico was a serious step backward in terms of satisfying consumer gas demand. This action was contrary to what needs to be done to meet America’s energy needs. With Destin Dome we did not come full about, as we need to do; rather, we ran from the storm. Geographic expansion of gas exploration and drilling activity has for the entirety of the last century been essential to sustaining growth in natural gas production. Future migration, to new frontiers and to new fields, in both the U.S. and Canada, will also be critical. Without production from geographic areas that are currently subject to access restrictions, it is not at all likely that producers will be able to continue to provide increased amounts of natural gas from the lower-48 states to customers for longer than 10 or 15 years. We believe that the same is true in Canada as well. Quite simply, we do not believe that there is any way, other than exploring for natural gas in new geographic areas, to meet America’s anticipated demand for natural gas unless we turn increasingly to sources located outside North America. In the middle of the 20th century, when the postwar economy had begun its half-century climb and when natural gas became the fuel of choice in America, our colleagues in the producing business opened one new natural gas field after another in the mid-continent. In this era, it was not that difficult to produce a triple or a home run virtually every inning. As those fields developed, producers continued to hit a regular pattern of singles and doubles, with the occasional triple or home run in new discovery areas. This same pattern in the mid-continent was repeated in the Gulf of Mexico. Today, however, it is extremely difficult to find the new, open areas where the producing community can continue to hit the ball. As things are today, America has confined them to a playing field where only bunts are permitted. The Yankees did not get to the World Series playing that kind of game. AGA does not advance this thesis lightly. Over the past several years both the American Gas Association and the American Gas Foundation have studied this important issue vigorously. We have believed for several years that it is necessary for policy makers to embrace this thesis so that natural gas can continue to be—as it has been for nearly a century—a safe and reliable form of energy that is America’s best energy value and its most environmentally benign fossil fuel. We think that events in gas market in 2003-2004 underscore that our concerns have been on the mark. When the first energy shock transpired in the early 1970s, the nation learned, quite painfully, the price of dependence upon foreign sources of crude oil. We also learned, through long gasoline lines and shuttered factories, that energy is the lifeblood of our economy. Nevertheless, thirty years later we are even more dependent upon foreign oil than we were in 1970. Regrettably, the nation has since failed to make the policy choices that would have brought us freedom from undue dependence on foreign-source energy supplies. We hope that the nation can reflect upon that thirty-year experience and today make the correct policy choices with regard to its future natural gas supply. We can blame some of the past energy problems on a lack of foresight, understanding, and experience. We will not be permitted to do so again. Meeting our nation’s ever-increasing demand for energy has an impact on the environment, regardless of the energy source. The challenge, therefore, is to balance these competing policy objectives realistically. Even with dramatic improvements in the efficient use of energy, U.S. energy demand has increased more than 25 percent since 1973, and significant continued growth is almost certain. Satisfying this energy demand will continue to affect air, land, and water. A great American success story is that, with but five percent of the world’s population, we produce nearly one-third of the planet’s economic output. Energy is an essential—indeed critical—input for that success story both to continue and to grow. It is imperative that energy needs be balanced with environmental impacts and that this evaluation be complete and up-to-date. There is no doubt that growing usage of natural gas harmonizes both objectives. Finding and producing natural gas is accomplished today through sophisticated technologies and methodologies that are cleaner, more efficient, and much more environmentally sound than those used in the 1970s. It is unfortunate that many restrictions on natural gas production have simply not taken account of the important technological developments of the preceding thirty years. The result has been policies that deter and forestall increased usage of natural gas, which is, after all, the nation’s most environmentally benign and cost-effective energy source. Natural gas consumers enjoyed stable prices from the mid-1980s to 2000, with prices that actually fell when adjusted for inflation. Today, however, the balance between supply and demand has become extremely tight, creating the tightrope effect. Even small changes in weather, economic activity, or world energy trends result in wholesale natural gas price fluctuations. We saw this most dramatically in the winters of 2000-2001, 2002-2003, and 2003-2004. Most analysts believe that we will continue to see it on a longer-term basis. In the 1980s and ‘90s, when the wholesale (wellhead) price of traditional natural gas sources was around $2 per million British thermal units, natural gas from deep waters and Alaska, as well as LNG, may not have been price competitive. However, most analysts suggest that these sources are competitive when gas is in a $3.00 to $4.00 price environment. Increased volumes of natural gas from a wider mix of sources will be vital to meeting consumer demand and to ensuring that natural gas remains affordable. Increasing natural gas supplies will boost economic development and will promote environmental protection, while achieving the critical goal of ensuring more stable prices for natural gas customers. Most importantly, increasing natural gas supplies will give customers—ours and yours—what they seek: reasonable prices, greater price stability, and fuel for our vibrant economy. On the other hand, without policy changes with regard to natural gas supply, as well as expansion of production, pipeline and local delivery infrastructure for natural gas, the natural gas industry will have difficulty meeting the anticipated 40 percent increase in market demand. Price increases, price volatility, and a brake on the economy will be inevitable. Second, we need to increase our focus on non-traditional sources, such as liquefied natural gas (LNG). Reliance upon LNG has been modest to date, but it is clear that increases will be necessary to meet growing market demand. Today, roughly 97 percent of U.S. gas supply comes from traditional land-based and offshore supply areas in North America. Despite this fact, during the next two decades, non-traditional supply sources such as LNG will likely account for a significantly larger share of the supply mix. LNG has become increasingly economic. It is a commonly used worldwide technology that allows natural gas produced in one part of the world to be liquefied through a chilling process, transported via tanker, and then re-gasified and injected into the pipeline system of the receiving country. Although LNG currently supplies less than 3 percent of the gas consumed in the U.S., it represents 100 percent of the gas consumed in Japan. LNG has proven to be safe, economical and consistent with environmental quality. Due to constraints on other forms of gas supply and increasingly favorable LNG economics, LNG is likely to be a more significant contributor to US gas markets in the future. It will certainly not be as large a contributor as imported oil (nearly 60 percent of US oil consumption), but it could account for 15-20 percent of domestic gas consumption 15-20 years from now if pursued aggressively and if impediments are reduced. It is unlikely that LNG can solve the entirety of our problem. A score of new LNG import terminals have been proposed, some with capacities in excess of 2.5 billion cubic feet per day. However, given the intense “not on our beach” opposition to siting new LNG terminals, a major supply impact from LNG may be a tall order indeed. Third, we must tap the huge potential of Alaska. Alaska is estimated to contain more than 250 trillion cubic feet of natural gas—enough by itself to satisfy US gas demand for more than a decade. Authorizations were granted twenty-five years ago to move gas from the North Slope to the Lower-48, yet no gas is flowing today nor is any transportation system under construction. Indeed, every day the North Slope produces approximately 8 billion cubic feet of natural gas that is re-injected because it has no way to market. Alaskan gas has the potential to be the single largest source of price and price volatility relief for US gas consumers. Deliveries from the North Slope would not only put downward pressure on gas prices, but they would also spur the development of other gas sources in the state as well as in northern Canada. Fourth, we can look to our neighbors to the north. Canadian gas supply has grown dramatically over the last decade in terms of the portion of the U.S. market that it has captured. At present, Canada supplies approximately 14 percent of the United States’ needs. We should continue to rely upon Canadian gas, but it may not be realistic to expect the U.S. market share for Canadian gas to continue to grow as it has in the past or to rely upon Canadian new frontier gas to meet the bulk of the increased demand that lies ahead for the United States. The pipelines under consideration today from the Prudhoe Bay area of Alaska and the Mackenzie Delta area of Canada are at least 5-10 years from reality. They are certainly facilities that will be necessary to broaden our national gas supply portfolio. We must recognize, however, that together they might eventually deliver up to 8 billion cubic feet per day to the lower 48 States–less than 10% of the natural gas envisioned for the 2025 market. There is much talk today of the need for LNG, Alaska gas, and Canadian gas. There is no question that we need to pursue those supplies to meet both our current and future needs. Nonetheless, it is equally clear that, in order to meet the needs of the continental United States, we will need to continue to look to the lower 48 States.

• Mr. Gary Huss
  Read statement

  Witness Panel 2

  Mr. Gary Huss

  Chairman Smith and members of the Committee, I am Gary Huss, president of the Hudapack Metal Treating company in Elkhorn, Wisconsin. It is a great honor, as a member of the National Association of Manufacturers, to have the opportunity to address you regarding our concerns about the huge impact of energy costs, especially natural gas on our company and the manufacturing industry. The National Association of Manufacturers is the nation’s largest industrial trade association, representing small and large manufacturers in every industrial sector and in all 50 states. Hudapack Metal Treating has been treating steel and stainless steel parts for almost 20 years. Metal treating is a process where heat, requiring considerable use of natural gas, is applied to metallurgically change the structure of the metal parts, thereby giving them strength and wear resistance. Without heat treating, metal is relatively soft and pliable. Using the spring as an example: the steel needs to be soft to be formed into the shape of the spring. The heat treat process, which in this case is called “austemper,” gives the material the strength and resiliency to be a “spring.” We operate two plants in Wisconsin and one in Illinois and provide our 160 employees with relatively high paying jobs, good health, life, short-term disability and retirement plans. However, maintaining these levels of benefits and employment has been very difficult since natural gas prices skyrocketed upward in 2000! As is the case with all energy intensive manufacturers during the past four years, Hudapack Metal Treating has been faced with major cost increases that threaten our survival as a company. High energy cost increases have historically driven the economy into recession, by reducing orders for capital equipment, and lowering consumer confidence. I must give the Federal Reserve Board and the President’s three tax relief bills over the past three years credit for keeping the economy afloat in the face of unprecedented natural gas and oil costs. In addition, credit must be given to the continuous improvements in energy efficiency in the manufacturing sector in particular, which has led the country to be 46 percent more efficient in energy use per unit of GDP versus 30 years ago. Despite these general improvements, high energy prices are still devastating to manufactures. In fact, the results of a poll taken at last week’s meeting of the board of the National Association of Manufacturers, revealed that 93 percent of the directors from small and medium manufacturing companies believe that higher energy prices are having a negative impact on their bottom lines. At Hudapack Metal Treating, we have struggled with increases in group insurance and workers comp insurance, but these increases pale by comparison to our cost increases for natural gas. We experienced a substantial run up in natural gas prices at the Northern Illinois City Gate during 2000 and 2001, and while prices did moderate in 2002, they were still 40 percent above 1999 levels. However, during the past two years, natural gas prices have skyrocketed, and have been averaging about 75 percent higher than the 2002 price. More specifically, during the four winters ending with the winter of 1999/2000, natural gas prices at the Northern Illinois City Gate averaged $2.65 cents per thousand btu’s. However, the average of the past two winters’ prices has been $5.55 cents per thousand btu’s, more than doubling of the late 1990s price. Worse, for the first time in our history, the prices were higher for this summers’ gas at the city gate than the preceding winter’s prices. This summer, natural gas averaged $5.94 per thousand btu’s or about 150 percent more than the average summer prices for the four years ending in the summer of 1999. In fact, this summer’s prices have jumped 82 percent just since 2002. This is despite about a 10 percent reduction in natural gas use in the electricity sector this summer compared to 2002. In my view, this summer’s natural gas prices may well have been exacerbated by large investors, such as hedge funds and commodity-trading advisers, as suggested in an article on oil trading in The Wall Street Journal on September 2 of this year. I respectfully recommend that a study be undertaken to determine the extent to which pure speculation and market manipulation created this summer’s price run-up. However, even if commodity market activities were a substantial influence on prices this summer, the core problem remains the same because tight gas markets invite investor influence on prices. The nation needs adequate natural gas supplies to reduce both price spikes and volatility. These escalating natural gas prices are having a real negative impact on my company. Although we at Hudapack Metal Treating are currently producing and shipping at a record pace, our pre-tax profit will only be very modest at approximately 2-3 percent of sales, compared with the 15 percent we should achieve at these sales levels. As an employer, I enjoyed issuing extra bonus checks. In 2000, we disbursed over $50,000 in bonuses. Since then, we have been unable to do any bonuses. Although we are now passing a portion of our increased gas costs through, we are limited in the cost increases we can charge our customers. Our customers have access to imported metal products and parts that are already heat-treated and compete with the ones we produce. When our customers buy the less-expensive imported parts, not only do we lose business, but so do the part fabricator and the metal forger who sent their metal to us to heat-treat. In other words, high natural gas prices not only affect the jobs in the heat-treating industry, but the high prices also are “outforcing” jobs in the businesses above me in the supply chain. Still worse, the more our foreign competitors take advantage of their lower cost structure, the more experience they will develop in matching our quality and our supply chain efficiency. Thus, just as foreign competition with low natural gas prices hurts jobs in my industry and those companies above me in the supply chain, so do imports put increasing pressure on my domestic customers as foreign competitors increase the complexity and the value-added of the products they sell to the U.S. market. In the face of these higher natural gas costs, Hudapack Metal Treating has been trying to maintain its profitability and keep all of our workers fully employed. Since natural gas is critical to our whole business, and since there are no real substitutes for natural gas in most of our treating, we are fully engaged in energy efficiency measures. We have undertaken the task of adding recuperation of all of our burners for the furnaces. It costs between $75,000 and $100,000 per furnace, depending on size, to accomplish this upgrade. I have about 10-15 furnaces in two plants that need this upgrade. With lower profits due to the high gas costs, I can only do one or two upgrades per year. I would add that making these energy-efficiency investments would be less difficult if there were more favorable corporate taxation and capital cost recovery rules. Last December, the National Association of Manufacturers and the Manufacturing Alliance released a study entitled “How Structural Costs Imposed on Manufacturers Harm Workers and Threaten Competitiveness,” which concluded that overall, domestic manufacturers face at least a 22 percent price disadvantage as compared with our major foreign competitors. This is because, compared to our trading partners, we have higher energy prices, higher health care and pension costs, a more punitive corporate tax structure, a more costly regulatory burden — especially environmental — and a wildly out-of-control legal system. In the past, U.S. manufacturing has been able to compete with imports made by low-wage competitors because of our extraordinary productivity. However, the cumulative effect of these other factors — and Congress’ unwillingness to address them — is “outforcing” manufacturing jobs to foreign workers. The U.S. manufacturing sector lost almost 3 million jobs during the period when natural gas prices started increasing in 2000, until we started adding jobs in the spring of this year. If Congress does not aggressively address these factors of energy costs, health care and pension costs, punitive taxes, regulatory burden and scandalous product-liability judgments, then it is pretty clear that most of these 3 million jobs lost over the past four years will not be coming back to the United States. For my company and others in the metal-treating industry, the recent run-up in natural gas prices has had a more acute impact than these other factors, but the natural gas cost increases have been piled onto the other structural cost disadvantages and caused some in my industry to close their doors. The persistent high prices during this past summer, when natural gas prices are usually lower, underscore a number of changes that have occurred in the natural gas supply/demand balance. First, during the 1990s, natural gas became the overwhelming choice for new electric generation. Second, the natural gas domestic supply “bubble” shrank and disappeared during the 1990s, and Canadian imports grew every year to pick up the gap between domestic demand and supply. However, in 2003, Canadian gas imports began to drop. Despite active drilling in some areas of the United States, domestic production has been at its best level. Meanwhile, the industrial economy has been recovering. Consequently, there has not been enough gas to meet demand at reasonable prices. In addition to creating a more favorable climate for energy efficiency investments for manufactures — such as my own investments in recuperation — Congress must face up to its responsibility to facilitate increases in natural gas supply. The very modest production response to the past four years of high natural gas prices is a clear indication that just drilling more holes in the same old fields is not a sustainable solution. Congress needs to allow drilling in new fields, especially in the Rocky Mountains and offshore. If more gas were available in Texas or Oklahoma, we would be getting it with these high prices. We need to get the gas where it is. In addition, Congress needs to help with the siting and permitting of new liquefied natural gas facilities, which are a vital component of any natural gas supply strategy. Congress should also pass legislation that will facilitate the construction of the Alaska Gas Pipeline. Many of the predictions of environmental disasters from an Alaskan pipeline have proven to be false; and with state-of-the-art materials and technology, construction of a new natural gas pipeline will be safer and cleaner. It is the responsibility of Congress to protect our jobs, our economy and our nation by ensuring that these initiatives are put on a fast track, without fear of lengthy litigation. Unfortunately, none of the energy bills that have passed either body during the past two congresses have done enough to increase natural gas supplies. Nevertheless, Congress can help by recognizing that we need more of every type of energy supply including, coal, nuclear and affordable renewables. Electric generators must be able to increase their use of other sources if natural gas is to be affordable for manufactures and homeowners. And affordable electricity is the key, because overall, manufacturers use more electricity than any other energy input. Clean coal technology has become better, nuclear technology has become safer. Still, Congress must avoid command and control approaches to limit carbon dioxide emissions, to force use of expensive renewables and to impose draconian mercury reductions, any one of which would drive electricity prices through the roof and compound manufacturing’s structural cost disadvantage. I applaud the majorities of both houses for supporting H.R. 6, the Energy Policy Act. Most Members of Congress have it right — we need improvements in every energy area. Congress needs to pass comprehensive energy legislation that will increase the supply of affordable energy, facilitate improvements to the natural gas and electricity infrastructure, and provide incentives for additional energy efficiency investments. Please do this as a first order of business next congress, because I want to continue providing value to my customers and quality lives for my workers, here in the United States of America. Thank you.

• Ms. Wenonah Hauter
  Read statement

  Witness Panel 2

  Ms. Wenonah Hauter

  Thank you, Mr. Chairman and members of the Senate Subcommittee on Competition, Foreign Commerce, and Infrastructure for the opportunity to testify on the issue of natural gas markets. My name is Wenonah Hauter and I am Director of Public Citizen’s Energy Program. Public Citizen is a 30-year old public interest organization with over 160,000 members nationwide. We represent consumer interests through research, public education and grassroots organizing. I last testified before the Senate Commerce Committee in April 2002, when I documented how Enron exploited deregulation to manipulate West Coast energy markets. Since I gave that testimony, federal and state governments have authorized over $2 billion in fines, penalties, refunds and other enforcement actions against natural gas companies for manipulating domestic natural gas markets—an amount far less than the amount by which natural gas companies are alleged to have manipulated prices. Anti-competitive actions by the handful of natural gas companies—made possible by inadequate regulation over the industry—are a determining factor in the 155% increase in natural gas prices for consumers since 1999. In the wake of Enron’s collapse, Congress recognized that strengthening regulations over corporations was necessary to protect consumers and investors. In the summer of 2002, Congress wisely passed the Sarbanes-Oxley Act, imposing regulations on the accounting industry and the auditing process for corporations. The majority of recent corporate accounting scandals have been concentrated in the energy industry. But the Sarbanes-Oxley Act addresses what is arguably the “secondary” problem: natural gas and power companies primarily engaged in accounting fraud as a means to hide the enormous revenues they were earning from price-gouging consumers. Congress has thus far ignored the glaring need for a Sarbanes-Oxley-type reform of energy regulations. The two main types of abuse by natural gas companies are manipulation of energy trading markets (where prices are set) and storage data (which influence prices). Congress can restore accountability to natural gas markets and protect consumers by supporting Public Citizen’s 5-point reform plan: · Re-regulate natural gas trading exchanges to restore transparency. · Order trading exchanges to reform natural gas trading price limits. · Establish a “just and reasonable” standard for natural gas. · Mandate natural gas storage requirements. · Improve local control over LNG siting. Restore Transparency of Natural Gas Trading Exchanges Beginning in 2000, natural gas companies exploited energy industry deregulation to engage in one of the largest consumer rip-offs in history. Despite only moderately rising demand (which grew only 4.2% from 1999 to 2000), natural gas prices increased 245% from January 1999 to January 2001. This increase was not justified by the underlying market conditions: adequate supply matching moderately growing demand. This market manipulation trend may be continuing since Congress and the two federal regulatory commissions with jurisdiction have not reformed the rules that allowed the manipulation to occur. Over the last two years, two federal agencies (the Commodity Futures Trading Commission and the Federal Energy Regulatory Commission) have obtained $2 billion in settlements against natural gas companies for market manipulation. These fines cover manipulation of energy trading markets, but only represent a fraction of the total amount by which consumers have been price-gouged. For example, California alone estimates that it is owed $9 billion for energy market overcharging. This wide discrepancy between what consumers are owed and what the government has forced natural gas companies to pay exists because the federal government, through legislative and regulatory action, has severely limited its ability to effectively oversee the industry. Both the CFTC and FERC have been negligent in policing these markets effectively. The CFTC is directly responsible for regulating commodities trade on futures exchanges (such as the New York Mercantile Exchange), but also has the power under the Commodity Exchange Act to intervene against traders in the under-regulated over-the-counter (OTC) markets. FERC is responsible for most non-exchange natural gas market issues. Natural gas futures trading only began in November 1989, and it is clear that the significant problems that continue to plague these trading markets do not warrant the weak federal oversight. Contracts representing billions of BTUs of natural gas are traded every day on NYMEX. An increasing share of this trading, however, has been moving off regulated exchanges like NYMEX and into unregulated OTC exchanges. The Bank of International Settlements estimates that in 2003, the global OTC market has grown to over $2 trillion, a 150% increase from 1998. Traders operating on exchanges like NYMEX are required to disclose details of their trades to federal regulators. But traders in OTC exchanges are not required to disclose such information, allowing energy companies, investment banks and hedge funds to escape federal oversight and more easily engage in manipulation strategies. The need for stronger consumer protections is more urgent as powerful new players—led by hedge funds and investment banks—now dominate natural gas trading. Energy trading on these OTC exchanges was greatly expanded at the beginning of 1993 when the CFTC, under the chairmanship of Dr. Wendy Gramm, granted an exemption requested by Enron and eight other companies for energy contracts (including natural gas) from exchange-trading requirements and anti-fraud provisions of the Commodity Exchange Act. By doing so, the CFTC voluntarily limited its ability to police energy trading markets. The growth of these OTC exchanges exploded in 2000 when Congress passed the Commodity Futures Modernization Act which, among other things, largely exempted trading of energy commodities on OTC exchanges from federal government oversight. As a result, many investment banks and energy companies opened their own electronic exchanges where the bulk of their activities were unregulated. Since the law took effect, the industry has been plagued by dozens of high-profile scandals attributed to the lack of adequate regulatory oversight over trader’s operations. Public Citizen has supported efforts to re-regulate energy trading by subjecting OTC markets to tougher oversight and enhanced consumer protections. But the latest such effort, an amendment to the energy bill, was rejected by the Senate by a vote of 55-44 in June 2003 (Amendment 876 to S.14). The amendment would largely repeal the 1993 CFTC and 2000 Congressional deregulation acts. The measure was defeated after a public spat between Warren Buffett, chairman of Berkshire Hathaway, and Federal Reserve chairman Alan Greenspan, over the danger posed by under-regulation of derivatives. Buffett called the underreguated derivatives markets “weapons of mass destruction” in March 2003, and Greenspan took the unusual step of publicly disputing Buffett’s assertions. As if deregulation by the CFTC and Congress were not bad enough, the CFTC has experienced a troublesome streak of “revolving door” appointments and hiring which may further hamper the ability of the agency to effectively regulate the energy trading industry. In August 2004, CFTC chairman James Newsome left the Commission to accept a $1 million yearly salary as president of NYMEX, the world’s largest energy futures marketplace. Just weeks later, Scott Parsons, the CFTC’s chief operating officer, resigned to become executive vice-president for government affairs at the Managed Funds Association, a hedge-fund industry group that figures prominently in energy derivatives markets. Such prominent defections may hamper the CFTC’s ability to protect consumers. It is prudent to enhance regulatory oversight over natural gas trading markets considering the new breed of trader that is beginning to dominate these markets. Public Citizen research has identified more than 200 hedge funds that have developed significant positions in natural gas trading markets. In addition, investment banks—led by Goldman Sachs and Morgan Stanley—have already firmly established themselves as dominant players in natural gas trading. Given the sheer size and political muscle behind these hedge funds and investment banks, greater transparency over their actions is needed now more than ever. Reform NYMEX Natural Gas Trading Price Limits Trading exchanges can impose price limits on daily trading as a way to protect consumers. For example, in response to the Mad Cow scare, the Chicago Mercantile Exchange (CME) imposed a price limit on cattle of 3¢ per pound—so if the price fluctuates more than that amount, trading on cattle is stopped until the next day. The 3¢ limit is about 0.4% of the current trading price of live cattle—a very low threshold that protects consumers and producers from volatility. Even commodities unafflicted with Mad Cow-like “scares” have strict price limits. Trading in milk futures contracts is suspended until the following day if the price changes more than 75¢ (about 5% of the current price). Trading in lumber futures is halted for the day if the price swings more than $10.00 per thousand board feet (3% of the current price). These severe price limits help control volatility and reduce damaging speculation. The CME implemented these strict price limits typically at the request of producers, since many of the price swings were hurting their bottom line. But NYMEX has weak price limits on natural gas trading. If the price changes by $3/Btu during a daily session, then trading is suspended for only 5 minutes. This $3 limit is roughly half the current price of natural gas (compared to the much smaller range of 0.4% to 5% listed in the above agricultural commodities). This means that NYMEX tolerates more volatility in natural gas trading markets, making it a more attractive market for speculators to profit at the expense of consumers. But, unlike agricultural products with tough price limits, the natural gas producers and speculators are making billions of dollars off these volatile natural gas markets. Public Citizen urges the Senate Commerce Committee to pass a law forcing NYMEX to set stricter price limits for natural gas in order to better protect consumers. Establish a “Just and Reasonable” Standard for Natural Gas While the CFTC regulates the natural gas futures markets, the Federal Energy Regulatory Commission is in charge of regulating other aspects of natural gas markets. While FERC has a legal mandate to ensure that electricity prices under its jurisdiction are “just and reasonable,” it has no such “fair price” standard for natural gas. As natural gas continues to have a bigger impact on the U.S. economy—not to mention setting the de facto price of electricity due to its use as fuel for power—Public Citizen strongly urges the Senate Commerce Committee to support legislation that would establish a “just and reasonable” standard for all natural gas production. The 9th Circuit Court of Appeals recently ruled that FERC had broader power than it currently exercises to force energy companies to provide refunds to consumers for overcharging. The ability of FERC to order such refunds, however, is contingent upon the existence of the “just and reasonable” standard enshrined in the Federal Power Act. Without such a standard for natural gas, consumers are left unprotected. Mandate Natural Gas Storage Requirements While under-regulation of energy trading markets allows market gaming to set natural gas prices, published natural gas storage levels influence the price. If natural gas storage levels are at historically high levels, the market typically will lower the price of natural gas, since more natural gas is available to release in response to demand fluctuations. For years there has been a strong correlation between the amount of working gas in storage and the wellhead price of natural gas. But in recent years, the natural gas industry has kept less product in storage, which in turn has sent strong signals to markets to help drive the price of natural gas higher. Acknowledging that there may be flaws in allowing natural gas companies to set storage levels by themselves, Public Citizen recommends the creation of a “Strategic Natural Gas Reserve,” perhaps modeled on the Strategic Petroleum Reserve. A federally-controlled and regulated natural gas storage system would help ensure that natural gas storage levels are adequate to meet demand. It is important to note that in recent years, the correlation between storage levels and prices has become less strong. This trend may be attributable to an over-reliance of natural gas users on futures trading, rather than physical storage, as a hedging tool. In addition, the less-transparent natural gas trading markets since 2000 may also be contributing to this deviation from standard correlations, as market manipulation—rather than true supply and demand—sets prices. Improve Local Control Over LNG Siting Last year, Federal Reserve chairman Alan Greenspan called on the U.S. to quickly approve a “major” increase in Liquefied Natural Gas (LNG) import facilities, claiming that domestic supply and demand trends require increases in natural gas importation. Such an analysis, however, ignores the benefits of reducing projected natural gas demand through improvements in energy efficiency and the encouragement of alternative energy. The Department of Energy projects that natural gas demand will grow at a rate of 1.4% a year from now through 2025, with domestic production growing at a rate of 1.0% a year. But the DOE projections assume little to no improvements in natural gas consumption efficiency, and only limited development of alternative electricity generation during that time. If America’s energy policies are prioritized to reduce demand and increase renewable fuels, the need to import LNG will greatly diminish. Indeed, one of the biggest debates in energy policy is reducing America’s dependence on foreign sources of energy. But importing LNG will make us more dependent on such imports, particularly from volatile regions of the world. In 2003, we obtained 98% of our natural gas needs from domestic production and pipeline shipments from Canada and Mexico (83% of our natural gas needs are derived from domestic production). The reminder come from LNG imports, with 23% of those imports coming from OPEC nations (Algeria, Qatar and Nigeria). Increasing reliance on LNG will result in the U.S. becoming more dependent on OPEC. Nonetheless, even assuming the need for an expansion of LNG facilities, the Senate Commerce Committee should make sure that such an expansion contains new protections for states to have adequate jurisdiction over safety, environmental and consumer protections. Given the concerns raised by state officials and at least 20 U.S. Senators regarding improper FERC assertion of jurisdiction over traditional state domains on electricity markets, it would seem that Congressional action asserting the rights of states on LNG siting may be required. In March 2004, FERC denied California (and other states) the right to adequately regulate LNG import facilities located or proposed in the state. In July, the California Public Utilities Commission voted to appeal FERC's ruling. Public Citizen feels FERC has overstepped its authority under the Natural Gas Act. This is probably why a bill has been introduced in the U.S. House of Representatives (HR 4413) that would clarify FERC's exclusive jurisdiction over such LNG facilities. If FERC were on stronger ground, such proposed legislation would be unnecessary. Finally, FERC has not provided adequate guarantees regarding the security concerns of LNG import facilities. LNG tankers and LNG marine terminals pose significant terrorist targets due to the sheer magnitude of the amount of fuel carried by LNG tankers (they carry up to ten times the amount of fuel in a typical crude oil ship) and the risk of fires and subsequent thermal radiation associated with the heating of the LNG at the marine terminals. States have already raised serious questions about the adequacy of FERC’s security assessments. This is particularly important given assertions by the United State’s former deputy counterterrorism czar that Al Qaeda operatives trained in Afghanistan came to the U.S. smuggled aboard LNG tankers from Algeria and considered Boston a “logistical hub” for the terror network’s activities in the U.S. prior to the September 11 attacks. This, and the fact that Al Qaeda has already demonstrated the capacity to strike at sea, with the boat bombing of the USS Cole in 2000 and the oil tanker Limburg in 2002.