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Energy Economics and Technology

A lot has happened in the four years since the February, 2001 message was written. At that time, the California electricity crisis was a continuing concern. Natural gas prices had risen to an alarming extent, but still nowhere near as high as now, and coal prices were experiencing the first of two “price spikes”.

Subsequently, natural gas prices collapsed and have now risen to unheard-of levels, with prices at the Henry Hub indicated by the futures market to remain at historic highs at least until 2008 – when it is hoped that LNG imports will bring some relief. Why the high prices? It is now widely recognized that supply is having difficulty keeping up with demand – not that natural gas demand is surging, which it is not (yet). Even gas demand in the power sector has dropped back to levels that existed about 4 years ago. Rather, in natural gas, the problems arise in part from the advances in technology that permit efficient extraction and in part from the maturity of the accessible resource base. Thus, it has taken almost two years of progressively falling production in the face of increasing drilling rates before supplies have started to grow. Traditional supplies remain on a treadmill, a race to add new production to replace ever-more rapid extraction. And so it goes.

The situation with coal is remarkably similar to natural gas. Both fuels are in the midst of a supply crisis. The coal price spike of 2000-2001 has been attributed to strong power sector demand – with some very interesting new analysis suggesting an important tie between U.S. metallurgical coal and international coal supply-demand balances. The current prolonged period of high coal prices is now attributed to tight supplies. Too, there are fewer coal companies and fewer mines, with consolidation and movement of private companies into publicly-traded Wall Street entities. Yet careful tracking of power generation statistics destroys one myth, which is that coal demand is booming (and therefore driving up prices) because companies are turning to coal instead of even higher-priced natural gas-fired generation. Investment in new mining capacity is occurring at a slower pace than happened even just four years ago. Coupled with financial and operational problems across the railroads (and movement toward higher rail rates for coal), the power sector is operating at historic low inventory levels. With mine, transportation and inventory capacity all tight, the coal market is experiencing greater volatility in pricing. Only new supplies can bring relief.

To continue regarding coal, the near term outlook depends greatly on whether even modest amounts of additional production can be achieved. What is holding back investment? A classic standoff appears to be taking place, with mining companies reluctant to overinvest – the price collapsed in late 2001 while costs had risen, and almost no revenues from high spot prices had flowed to producers because most coal was (and is) sold under long term contracts. That memory is certainly one factor in the standoff. The other is the problem that power generators face. They cannot commit to long term contracts at today’s high prices without facing the risk of paying far above market prices, and possibly being unable to run their power plants in competition with more fortunate competitors, when prices, eventually, retreat. The answer depends in part on achieving some common vision around which to finance new mine investment. That process is continuing.

This brings us to uranium – a totally different resource with a totally different history – yet even here the underlying dynamics of the market will sound similar. Demand is growing only modestly, yet prices have doubled. For the first time in years, all participants in the market are thinking about the adequacy of mined uranium production, as contrasted with tapping existing inventories or conversion of highly enriched uranium to nuclear fuel. In fact, for the first time since the 1970s, serious attention is being given to the interplay of uranium supply prospects and the type of nuclear technology, in particular its fuel efficiency, needed in the future. A host of additional technical and political issues are also at play, including concerns about risks of nuclear proliferation from use of more efficient fuel cycles. More immediate is, like coal production, the questions of who will invest in new mining capacity and at what price. Dr. Tom Neff of MIT characterized the just-emerging tight uranium supply issues in April 2003 by juxtaposing the viewpoints of the uranium producer (“if you come, we will build it”) and the uranium buyer (“if you build it, we will come”). As for coal, the process of getting to an answer is continuing.

What does all this mean for the role to be played by EMD’s Energy Economics and Technology initiative? For one, we have posted a summary of a number of the issues raised here, with graphs of prices and other documentation, on the members-only portion of the web site. Second, a number of issues warrant ongoing and objective scrutiny. It is evident that a growing scramble is taking place to increase natural gas supplies of any type, including LNG and coalbed methane, and all of these are interlocked. The interest in methane hydrates is an example of this, although this is at a far earlier stage of scientific understanding. Increasing coal supplies and avoiding production problems at existing mines is a pressing responsibility, especially given the tightness of the coal supply chain. New mines will need to be developed for uranium – something few have imagined necessary in many years – and the knowledge base of uranium supplies and prospects in many countries will have to be “dusted off” and refreshed (see Uranium Committee report).

Many questions remain about what will be the path of power generation technology development and deployment over the intermediate term. Understanding this sector is important to understanding movements in the fuel markets over time (as well as to avoiding misconceptions). Setting aside the motivations of technology advocates of one sort or another, there appears to be a growing consensus that the U.S. does not have the luxury to pick and choose a “winning” technology. Nuclear, pulverized coal with state of the art emission controls, integrated gasification combined cycle plants (which use coal), fluidized bed combustion (also coal), natural gas in combined cycles in the right places (in spite of the general overbuilding that has occurred), hydroelectric development where feasible (a large project has been proposed recently by Hydro-Quebec), and renewables of various types (predominantly wind, some biomass, and other sources) will all be needed – none to the exclusion of the others.

Individuals interested in pursuing any of these topics in the context of AAPG and EMD are invited to discuss and promote initiatives that would benefit them.

For more information contact:

Jeremy B. Platt, Chair
Phone: (650) 855-2628
Email : jplatt@epri.com