Responding to transitional pressures

Energy markets: gas

To date, investment in Australia’s gas transmission and distribution networks has been mainly demand driven. As a result, new pipeline investments have historically been underpinned by long-term pre-investment contracts with large foundation customers. While this appears to have delivered on-time investment, there is a risk of poorly timed investment if market signals are dampened by a lack of price transparency and forward price discovery.

A related issue is the efficiency of current infrastructure and access to pipeline capacity. Although most pipeline capacity is fully contracted, there is often considerable unused capacity on any given day. The underutilised capacity could be used by participants to ship gas, increasing network flexibility and trading opportunities. The current owner of that capacity would need to be fully compensated for its ‘sale’.

Access to pipeline capacity affects the ability of shippers to participate in a supply hub trading market: haulage rights on what are currently fully contracted pipelines into Wallumbilla are needed for market participants to ship gas to and from the hub.

Understanding potential linkages between gas and other energy markets

Over the long term, carbon pricing is expected to increase domestic demand for gas-fired electricity generation, including for distributed or co-generation, peaking and baseload capacity.

With appropriate storage facilities, energy businesses may be able to develop well-balanced coal, gas and renewable energy portfolios that provide for more flexible generation management based on relative cost and availability. Such developments would improve Australia’s energy security and, if managed efficiently, reduce overall costs.

It will be important that these investments, including locational decisions, are efficient. However, there is some potential for distortion through mismatched locational incentives in gas and electricity transmission and distribution incentive structures. This may occur where electricity infrastructure and connection costs that meet certain tests are able to be spread across a broader customer base, while pipeline and other gas infrastructure costs must be directly recouped from users.

These issues are not currently well understood, so further analysis of the potential interactions and their drivers is needed to underpin a considered policy and operational response (if one is required).

9.3.3 Responding to transitional pressures

Emerging pressures in our gas markets must be addressed smoothly, efficiently and in ways that are consistent with the principle of market-based development. Well-functioning markets with access to timely and adequate supply remain the most effective mechanism for providing energy security.

While current pressures may remain for some time, both the eastern and western markets have the production capacity to respond to tightening conditions. In the eastern market this can occur through a range of options, including adjusting production schedules, increasing production from existing fields, such as Gippsland, bringing forward incremental capacity from new CSG reserves, or any combination of those options. In this context, there is a critical window of opportunity to develop the Gunnedah CSG basin in New South Wales, although with a four- to five-year development timeline the contribution that may make to market supply in this period is fast narrowing.

However, the key to stimulating effective and timely market response is to maintain open trading arrangements that do not constrict the proven ability of the market to deliver. This must allow price to play its role as a balancing incentive that can drive the development of additional supply.

It is also critical that current impediments to the safe and sustainable development of new gas resources are addressed as a matter of priority.

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Energy markets: gas

For this reason, the Australian Government does not support calls for a national gas reservation policy or other forms of subsidy to effectively maintain separation between domestic and international gas markets or to quarantine gas for domestic supply.

While the immediate focus of industry and governments should be on ensuring adequate supply, it is critical that this is not focused solely on addressing shorter-term transition issues, but is consistent with the broader future needs and direction of Australia’s gas markets. This should recognise how the changing dynamics will affect the medium- to long-term operation of the market and provide a supporting framework for smooth adaptation to them. This will help to ensure that gas market policy is effective in the long term, to the benefit of both industry and consumers.

The policy objective should be to provide the most efficient framework for the market to flexibly manage emerging pressures while monitoring market outcomes closely to ensure that the market is responding as necessary. The provision of better information on production, supply, demand and prices will also work to increase market confidence and give industry greater certainty in its decision-making.

In this context, a national reservation policy would add to, rather than reduce, long-term market risk by eroding development and supply incentives. It would be likely to impede the development of efficient gas markets and reduce returns to the economy from the development of our natural gas resources. Furthermore, the government notes that as a policy instrument for ensuring affordable supply, gas reservation does not in itself promote market or price separation or ensure timely supply in response to changing market conditions beyond that which would be incentivised through free-forming market incentives.

The prima facie evidence from the application of reservation policy in Western Australia supports this view. There is no compelling evidence that it has constrained domestic prices, and domestic supply obligations placed on the North West Shelf project have been exceeded well ahead of schedule, driven by commercial incentives rather than mandated production requirements.

Beyond concerns about its impact on market efficiency, a national reservation policy would also be damaging to the nation’s investment reputation, and would be at odds with our longstanding national commitment to open and fair trade.

Claims that intervening to provide cheap domestic gas would support the large-scale development of new industries must be also tested against the investment outcomes that occurred when gas was available at such prices over the past two decades. The best value-add outcome for Australia will be achieved by allowing resources to flow to their highest valued uses.

Comparisons of higher Australian gas prices with the low prices in the United States to justify intervention are also misplaced. The US gas market has been transformed by the development of shale gas reserves that are high in valuable liquid content (oil and condensate) with easy access to interconnected gas pipelines, resulting in extremely low-price gas. In contrast, Australian CSG has no liquid content and our prospective shale and tight gas resources are likely to be lower in liquids than those in the United States (due to differing geology) and, with the exception of the Cooper Basin, will require costly new infrastructure to develop.

The government does not accept the proposition that export developments are compromising Australia’s gas security. Transitional pressures notwithstanding, LNG exports provide a critical platform for the expansion of our domestic markets and gas supply infrastructure. LNG projects are expected to produce $30 billion in export earnings by 2016–17 (BREE 2012g). These projects provide enormous returns to the Australian economy that would not be possible from domestic development alone.

Market interventions should always be a matter of last resort and undertaken only where there is clear evidence of market failure. In the government’s view, those conditions do not currently exist in Australia’s gas markets.

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Energy markets: gas

However, the government does not dismiss the potential risks associated with emerging pressures, particularly the ongoing lack of liquidity in the long-term contract market on the east coast and the impact that might have on existing large users.

Therefore, it will work as a matter of priority with the relevant jurisdictions and gas market bodies to further develop gas market arrangements as described above and to closely monitor market conditions to ensure that markets are delivering against stated objectives, particularly the provision of timely and adequate domestic supply.

As discussed in Chapter 5: Energy resources, when assessing retention leases or considering grants of production licences, the Australian Government pays close attention to the potential for offshore LNG projects to supply the domestic gas market. Further responses, if any, would be developed through the SCER and be consistent with market development objectives.

The government will continue to engage with the gas industry and relevant jurisdictions to identify opportunities to promote market liquidity, while recognising that it is not the role of government to interfere in commercial negotiating processes.

9.4 Measuring policy success

Policy success in further developing our gas markets and addressing transitional pressures should produce:

• more competitive and efficient gas markets with:

– greater trading flexibility, including through the development of an upstream trading facility in the eastern market and the development of a short-term trading market in the west

– improved transparency, including on price discovery, supply–demand balances and pipeline capacities

– increased market liquidity, including in secondary markets

– adequate supply to meet current and projected domestic and export needs – efficient interactions with electricity markets

• a more interconnected and extensive gas pipeline network driven by efficient and timely investment signals

• an investment schedule in gas development, processing and transmission pipeline and distribution infrastructure that can meet projected demand in all three geographical markets.

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Energy markets: gas