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Opinion

Memo to Oregon Gov from PUC Chairman Lee Beyer

May 30, 2008
MEMO TO: Governor Kulongoski
FROM: Lee Beyer, Chairman
Oregon Public Utility Commission
RE: Comments on ODOE Natural Gas Report
The Chief of Staff requested that I coordinate a presentation of alternative perspectives on natural gas supply/demand as presented in the Department of Energy’s recent report to you. I will provide the Commission’s ratepayer perspective/concerns, I have asked Northwest Natural Gas Company to share their experience as Oregon’s largest purchaser of natural gas to give their perspective and, I have requested Ed Kelly, an industry expert with Wood McKenzie Company to share their perspective of the ODOE report. Wood McKenzie is recognized as one of the leading consultants regarding energy.
There is not a clear right answer to energy related questions anymore. The environment is changing rapidly. The factors that are most directly impacting energy markets are:
(1) Declining domestic natural gas supply
(2) Increasing energy demand in developing nations leading to more globalization of energy
markets; and
(3) Increasing interest in climate change and reducing carbon release leading to greater emphasi
on building gas-fired electric generation.
Given this environment, it is fair to say that any one analyst’s assumptions or conclusions may be right or wrong, and sometimes widely so.
With this in mind, the following is the Commission’s observations on the ODOE report. For ease of comparison, I have attempted to reference specific pages of the report to my comments.
The Commission’s statutory responsibility is to represent utility ratepayers in obtaining reliable utility service at a reasonable price. Naturally, we are very rate-sensitive with concerns about rate stability as well as consistency of service. To a large extent, our sensitivity was heightened by our experience with the 2001 energy crisis. From this perspective, we tend to take a “belt & suspenders” approach to energj hoping to avoid the ““what if we were wrong” result down the line.
In sum, the Commission believes, short-term calamities aside, Natural gas will likely be available for the foreseeable future, but the question is: at what cost.
DEMAND:
The US Energy Information Agency projects that domestic natural gas usage will rise 0.3% per year through 2030. {Report Page 3] This forecast however is part of a study on the impact of Congressional passage of a Carbon Cap & Trade bill and assumes gas generation will be replaced by construction of 145 new nuclear plants and, in the out years, a number of new coal plants with carbon capture and sequestration technology. Most industry analysts question this forecast. They believe the forecast for gas demand is low based on a belief that new commercial coal technologies will not be available until after 2025 or 2030 and that the projected number of nuclear plants is unrealistically high.
Projecting higher regional demand, the Northwest Gas Association (NWGA) projecis that Northwest ga demand will grow by 1.9% annually through 2012. [Report page 4] The NWGA projection is generally

consistent with the experience of Oregon’s three natural gas utilities and is reflected in their Integrated Resource Plans as submitted to the PUC.
The Wall Street Journal recently reported: “The global appetite for natural gas has profound implications for a U.S. economy already tipping toward recession and struggling against inflation pressures. The fuel heats half of U.S. homes, generates 20% of the country’s electricity and is used to
make everything from fertilizer to plastic bags.” / Report Page 1 – Referenced Wall Street Journal 18 April 2008]
Most natural gas usage in Oregon is for electricity generation – 34% according to the ODOE report [Report page 2], Most Oregon gas generation was built in the 1990s. According to a March 2008 NRRI Report, between 1999 and 2003 200,OOOMW of natural gas generating capacity was built in the US. During this building cycle, gas prices were around $2.00/MMBTU promoting that “Dash for Gas.”
The current energy environment appears to be on the cusp of a second “Dash for Gas.” The Report notes that 40% of current Oregon electricity comes from coal generation and notes that financial conditions (and policy uncertainty) will encourage the switch from coal to natural gas. “As renewable energy becomes a larger part of the Oregon energy portfolio, more gas-fired generation will likely be built to fill in the gaps and act as backup. This could increase demand for natural gas in Oregon.” [Report page 3].
The Report further notes that climatic changes and natural resource policy could reduce the amount of hydro-generation from the Columbia system. The Report states … “Some of this lost summer generation could be made up with gas-fired electricity, driving up consumption of natural gas. Legal issues around operation of the dams could also diminish hydropower generation and increase reliance on natural gas.” [Reportpage 3]
Commenting on the interplay between social desires to address climate change, the Wall Street Journal also noted “.. .In a twist, the effort to build alternative-energy projects like solar arrays and wind farms also boosts construction of gas-fired plants. Because wind is unpredictable, it’s often necessary to build back-up generators…” [ReportPage 1]
In sum, it is fair to say that Oregon’s demand for natural gas will continue to grow over the next 20 years, perhaps substantially.
SUPPLY;
Natural gas from Oregon’s predominate supplier is diminishing. The Report notes that”… Oregon is served primarily by Canadian natural gas that is shipped via pipelines through Washington. Oregon also receives natural gas from the Rocky Mountain states via the Northwest Pipeline that accesses the Opal Hub in Wyoming.” [Report Page 5] About 70% of Northwest natural gas comes from Canada. The Northwest pipeline from Wyoming is currently operating at or near capacity. The Report further points out that Canadian exports, which make up 19% of total U.S. consumption, are expected to decrease by more than 20% during the next 20 years. The Federal Energy Information Agency says that this loss will be made up by LNG imports. [Report Page 5]
Many industry analysts believe the EIA numbers are very conservative. According to Canadian government sources, natural gas well count in Alberta is decreasing while the productive life of each well is also decreasing. At the same time, Canadian domestic demand is increasing, especially for use in extraction of oil from shale and tar sands deposits in Alberta. At current world oil prices, oil extraction is very economic and the primary technology for extraction of shale and tar sands oil is the use of natural gas to produce steam to free the oil and push it to the surface.

The Report states that even with reduced supply from Canada, there is sufficient LNG capacity in the U.S. to meet demand. This assumes the replacement of diminishing domestic and Canadian gas will occur mainly in the Mid-West and North East since most of the LNG terminals are in the Gulf of Mexico or along the East Coast. [Report Page 5] This displacement theory assumes that the Northwest will continue to get its gas supply from Canada and the Rockies resources. While possible, this optimism may be misplaced in view of limited pipeline capacity and energy economics.
The Report also takes note of the new Mexican Costa Azul LNG terminal in Baja and assumes at least some of the Canadian imports to California could be displaced by Costa Azul gas. In terms of the availability of Mexican gas from the Costa Azul facility, pipeline capacity is a problem without more construction. For example, Northern California demand cannot currently be met by supply from the Southern California.
The current global price of LNG compared to North American gas is keeping LNG out of the U.S. market. The Wall Street Journal noted “… Today, a tanker of liquefied natural gas, or LNG, pulling into port in Japan can command close to $20 per million BTUs, roughly double the price of the U.S. benchmark. As a result, the U.S. is having trouble attracting the imports it needs to supplement homegrown production. For the moment at least, the import slowdown means the U.S. has a glut of LNG import terminals…”
A recent FERC Market Monitoring Snapshot reported that Japanese contract gas prices are pegged at $14 MMBTU, about $1.50 above the current domestic spot price. One of the limitations on the availability of LNG is the lack of LNG liquifaction plants. While there are a number that have been proposed, financing and politics may limit their ultimate availability.” It is worth noting that the reported actual cost of delivering LNG to U.S. facilities is approximately $4.50/MMBTU leaving lots of room for market economics to work.
LNG is unlikely to consistently come into the U.S. until domestic prices reach the world market price for long-term contract LNG. Actually, we are getting much closer to global prices with industry analysts forecasting U.S. gas prices of $14 by 2014. The U.S. could continue to rely only spot-market LNG cargos as has been past practice. However, long-term contract LNG prices are cheaper than the spot market prices. It is likely that LNG terminals and their customers will shift to more stable and cheaper long-term contracts as the availability of domestic supply diminishes and reaches global market pricing. Also, in today’s financial markets, it is unlikely that a LNG developer could get financing without having long-term contracts for both supply and consumption.
Potential increased supply by our second largest supplier: The Report takes note of the increased drilling for natural gas in the Rockies and the announcement of a number of new pipeline projects from the Rockies to the Northwest. [Report page 6-8] This new exploration is in what the industry refers to as ‘nonconventional’ resources. That means expensive to get at. For the most part, these resources are shale gas deposits that require more drilling for less output. They tend to be located in areas more difficult to get to and work in.
The Northwest has gotten cheap gas in the past from the Rockies because of that supply’s limited access to Eastern markets. That situation however, has changed and continues to evolve. In the last few years, a new pipeline has been completed to California (the Kern line) and a new pipeline was just completed into Missouri (the Rockies Express). This line provides Rockies gas with access to Midwest and Eastern markets which traditionally demand higher gas prices. There are plans underway to expand the Rockies Express further East (into New Jersey) and to build yet another pipeline from the Rockies to the Chicago market.

While there are also proposals to built additional pipelines to the West, clearly gas prices will rise with increased competition. Additionally, the current proposals for new Western pipelines only get the gas to the East side of the Cascades. The Northwest Pipeline, which connects supplies at Stanfield with the Willamette Valley, currently has limited capacity. Even depending on Rockies gas to meet most of the regions future demand requires a new or expanded pipeline to the West.
On the bright side, there are also new nonconventional resources in the Mid-West, South and in Texas. It is likely however, that the cost of mining these nonconventional resources will approach the world market price for LNG. These supplies may, to some degree, compete against Canadian gas that otherwise would go to Eastern markets.
Can Alaskan Gas help meet Oregon demand? The Report notes an EIA projection that domestic needs will be met by development of Alaskan gas and a new pipeline to the continental U.S. However, the Report acknowledges that such a development is unlikely before 2018 and escalating steel prices could make it unlikely that such a project will get built. [Report Page 6] Many industry analysts have doubts that politics will allow this pipeline ever to be built. Even if built, many believe that the gas would likely flow to the Alberta oil fields or to Eastern large consumption areas in Canada and the U.S. The Alaska Governor has recently recommended approval of a pipeline project that would take gas across Alaska and connect it to the TransCanada pipeline in Alberta.
Stability is a concern. The Report notes that natural gas supply disruptions commonly affect the U.S. Most notable are hurricanes in the Gulf Coast, the source of much of the nation’s domestic supply, or problems with major pipelines such as the failure of the El Paso Southwest line during the 2001 energy crisis. It is worth noting that both FERC and electricity reliability regulators have raised concerns in the recent years over the potential for insufficient gas supply during severe weather periods as we have become more dependent on gas fueled electricity generation. Natural gas storage and a diversity of pipelines are the best answer to this concern. Oregon is currently supplied by two pipelines, the Northwest pipeline which runs down the west side of the Cascades to Medford, and the GTN line which runs down the east side of the Cascades and is connected to the West side by a pipeline in the Columbia Gorge. The connecting pipeline is currently at capacity.
Oregon customers are fortunate to have natural gas storage available. Avista has storage available at Jackson Prairie in Southwest Washington and Northwest Natural has storage at their Mist fields as well as two LNG facilities in Portland and Newport. Northwest is also developing a new storage facility in Northern California.
However, as noted in the Report, “… a regional (supply) problem that left the Northwest isolated from supply could put significant stress on the state’s energy resources.” The Report goes on to say “… the storage offered by an LNG plant in Oregon could benefit the state due to cost savings during high demand periods and provide resiliency in an emergency.” Other regions of the country are all looking to secure access to additional gas supply sources, such an LNG and nonconventional gas, to replace supplies from quickly diminishing domestic and pipeline import sources. The Northwest should do the same.
SUMMARY:
• Natural gas demand will most likely continue to increase through the next 20 years.
• Lack of supply and increased cost of extracting Canadian and domestic resources will push prices
higher. As the marginal generation fuel and the likely replacement for coal generation, as well as the integrator for renewable generation, rising natural gas prices will push electricity prices up

substantially creating problems ror maustry ana especially low-income customers.
• There is no assurance that new pipelines into the Northwest will be built; at best, we will likely see
only one new line which likely would interconnect with the GTN line East of the Cascades. Getting gas to the Willamette Valley would still require a new pipeline from the East.
• While there is no assurance that an LNG terminal will ever be built, it’s presence would help in
meeting demand even though it would likely be at the same price as domestic gas. There may be some small savings because of lower LNG transportation cost.

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