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NATURAL GAS SUPPLY AND DEMAND ISSUES

HEARING

BEFORE THE

COMMITTEE ON ENERGY AND

COMMERCE

HOUSE OF REPRESENTATIVES

ONE HUNDRED EIGHTH CONGRESS

FIRST SESSION

JUNE 10, 2003

Serial No. 108–26

Printed for the use of the Committee on Energy and Commerce

(

Available via the World Wide Web: http://www.access.gpo.gov/congress/house

2

COMMITTEE ON ENERGY AND COMMERCE

W.J. ‘‘BILLY’’ TAUZIN, Louisiana, Chairman

MICHAEL BILIRAKIS, Florida

JOE BARTON, Texas

FRED UPTON, Michigan

CLIFF STEARNS, Florida

PAUL E. GILLMOR, Ohio

JAMES C. GREENWOOD, Pennsylvania

CHRISTOPHER COX, California

NATHAN DEAL, Georgia

RICHARD BURR, North Carolina

Vice Chairman

ED WHITFIELD, Kentucky

CHARLIE NORWOOD, Georgia

BARBARA CUBIN, Wyoming

JOHN SHIMKUS, Illinois

HEATHER WILSON, New Mexico

JOHN B. SHADEGG, Arizona

CHARLES W. ‘‘CHIP’’ PICKERING,

Mississippi

VITO FOSSELLA, New York

ROY BLUNT, Missouri

STEVE BUYER, Indiana

GEORGE RADANOVICH, California

CHARLES F. BASS, New Hampshire

JOSEPH R. PITTS, Pennsylvania

MARY BONO, California

GREG WALDEN, Oregon

LEE TERRY, Nebraska

ERNIE FLETCHER, Kentucky

MIKE FERGUSON, New Jersey

MIKE ROGERS, Michigan

DARRELL E. ISSA, California

C.L. ‘‘BUTCH’’ OTTER, Idaho

JOHN D. DINGELL, Michigan

Ranking Member

HENRY A. WAXMAN, California

EDWARD J. MARKEY, Massachusetts

RALPH M. HALL, Texas

RICK BOUCHER, Virginia

EDOLPHUS TOWNS, New York

FRANK PALLONE, Jr., New Jersey

SHERROD BROWN, Ohio

BART GORDON, Tennessee

PETER DEUTSCH, Florida

BOBBY L. RUSH, Illinois

ANNA G. ESHOO, California

BART STUPAK, Michigan

ELIOT L. ENGEL, New York

ALBERT R. WYNN, Maryland

GENE GREEN, Texas

KAREN MCCARTHY, Missouri

TED STRICKLAND, Ohio

DIANA DEGETTE, Colorado

LOIS CAPPS, California

MICHAEL F. DOYLE, Pennsylvania

CHRISTOPHER JOHN, Louisiana

TOM ALLEN, Maine

JIM DAVIS, Florida

JAN SCHAKOWSKY, Illinois

HILDA L. SOLIS, California

DAN R. BROUILLETTE, Staff Director

JAMES D. BARNETTE, General Counsel

REID P.F. STUNTZ, Minority Staff Director and Chief Counsel

(II)

C O N T E N T S

Page

Testimony of:

Caruso, Guy F., Administrator, Energy Information Administration, U.S.

Department of Energy .................................................................................. 16

Currie, Jeffrey R., Managing Director, Goldman, Sachs & Co ..................... 65

English, Carl L., President and CEO, Consumers Energy, on behalf of

American Gas Association ............................................................................ 30

Greenspan, Alan, Chairman, Board of Governors, Federal Reserve System ................................................................................................................. 91

Hoglund, Forrest E., Chairman and CEO, Arctic Resources Company ....... 54

Kvisle, Harold N., President and CEO, TransCanada Pipelines Limited ... 60

Liuzzi, Robert C., President and CEO, CF Industries, Inc., on behalf

of the Fertilizer Institute ............................................................................. 38

Mason, Donald L., Commissioner, Ohio Public Utilities Commission ......... 22

Sharples, Richard J., Senior Vice President, Anadarko Petroleum Corporation, on behalf of Domestic Petroleum Council, U.S. Oil & Gas

Institute, National Ocean Industries Association, and Independent Petroleum Association of America ................................................................... 25

Material submitted for the record by:

Caruso, Guy F., Administrator, Energy Information Administration, U.S.

Department of Energy, response for the record ......................................... 119

Currie, Jeffrey R., Managing Director, Goldman, Sachs & Co., response

for the record ................................................................................................. 119

Edison Electric Institute, prepared statement of ........................................... 110

English, Carl L., President and CEO, Consumers Energy, on behalf of

American Gas Association, response for the record ................................... 120

Greenspan, Alan, Chairman, Board of Governors, Federal Reserve System, response for the record ......................................................................... 117

Interstate Natural Gas Association of America, prepared statement of ...... 113

Mason, Donald L., Commissioner, Ohio Public Utilities Commission, response for the record ..................................................................................... 118

Sharples, Richard J., Senior Vice President, Marketing & Minerals,

Anadarko Petroleum Corporation, letter dated June 18, 2003 ................. 121

(III)

(1)

NATURAL GAS SUPPLY AND DEMAND ISSUES

TUESDAY, JUNE 10, 2003

HOUSE OF REPRESENTATIVES,

COMMITTEE ON ENERGY AND COMMERCE,

Washington, DC.

The committee met, pursuant to notice, at 10:06 a.m., in room

2123, Rayburn House Office Building, Hon. W.J. ‘‘Billy’’ Tauzin

(chairman) presiding.

Members present: Representatives Tauzin, Bilirakis, Barton,

Upton, Stearns, Gillmor, Deal, Whitfield, Shimkus, Shadegg,

Buyer, Radanovich, Bass, Bono, Walden, Terry, Rogers, Otter, Dingell, Markey, Hall, Boucher, Deutsch, Stupak, Wynn, Green,

McCarthy, Strickland, DeGette, Capps, John, Allen, Davis, and

Solis.

Staff present: Bill Cooper, majority counsel; Andy Black, policy

coordinator; Peter Kielty, legislative clerk; Sue Sheridan, minority

counsel; and Bruce Harris, minority professional staff member.

Chairman TAUZIN. The committee will please come to order.

Without objection, the committee will proceed pursuant to committee rule 4(e). It is so ordered.

The Chair recognizes himself for an opening statement.

Today’s hearing is entitled ‘‘Natural Gas Supply and Demand

Issues.’’ It sounds like the title of a chapter in an economics textbook, I am sure, but in an academics setting, that topic would probably put people to sleep. However, in this real world of running air

conditioners to cool homes in the summer or running furnaces to

heat homes in the winter and running factories to make products

necessary for the 21st century for our economy to grow and to prosper, natural gas supply and demand is a hotly debated topic today.

The seriousness of the topic is underscored by the level of nervousness exhibited by those dealings in the natural gas industry on

a daily basis.

Demand for natural gas is ever-increasing. Nearly 23 percent of

the United States’ primary energy requirements are fulfilled by

natural gas. Oil accounts for about 39 percent and coal represents

22 percent. Total natural gas consumption is expected to increase

from the current rate of 21.6 trillion cubic feet per year to 35 trillion cubic feet by the year 2055.

Natural gas has been advocated for a myriad of uses ranging

from fuel for automobiles to fuel for electric power generators to

fuel for heating homes to fuel for charcoal grills even. And for years

we have all seen and read the advertisements saying that natural

gas is the cleanest fossil fuel—environmentally friendly, produced

domestically, and available in abundant supplies. But now we are

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hearing a different story. Natural gas production is flat and has

been flat since the year 1994. As drilling and production technologies improved, declining rates for natural gas wells are climbing right now, which means wells are being depleted at faster

rates.

For instance, in 1990, the average decline rate was 17 percent.

In 2003, it is estimated that the decline rate is now 28 percent.

Technology plays an important role in the industry’s ability to

produce faster and faster. However, the industry is drilling for

smaller and smaller reservoirs, and consequently huge reservoirs

with long life spans are not now being drilled.

Is this a subversive plot by energy companies to deprive the Nation of much-needed natural gas and to drive up the price? The answer clearly is ‘‘no.’’ Drilling companies are at work everywhere

they are allowed to go. The problem is, huge areas of potential natural gas reserves are off limits because the Federal Government

prohibits drilling activities on vast areas of lands that are now

owned by the Federal Government.

Less than 50 percent of the undiscovered gas resources on Federal public lands is now available for leasing; yet one of the difficult battles we had in passing H.R. 6 was an amendment to strip

out an inventory of oil and gas resources on lands owned by the

Federal Government. So drilling companies are doing the best they

can with what they have to provide natural gas to a consuming

public that desperately needs it.

The Chairman of the Federal Reserve Board, Alan Greenspan,

who will be with us later today, I think at 2 o’clock, hit the nail

on the head when he said that we have a contradictory Federal policy concerning natural gas. On the one hand, the Federal Government encourages the use of natural gas for a whole host of processes. On the other hand, the Federal Government restricts more

and more public land to natural gas development. So the Federal

Government is the not so invisible hand in the marketplace increasing demand, and all the while decreasing supply.

Yet, talk about market manipulation. To quote Mr. Greenspan,

and this is his quote, ‘‘And if on the one hand we have encouraged,

as we have, very significant growth and domestic demand for natural gas, but are very readily constrained by our ability to increase

supply, then something has got to give.’’

And what is giving, of course, is price. Price affects everybody,

from the well hand to the burner chip.

High natural gas prices are having an adverse impact on this

economy. It is bad enough that our industries must battle foreign

products that are unfairly advantaged by foreign governments such

as the Russian nitrogen fertilizer industry. Our government should

not punish industries relying heavily on natural gas by restricting

access to supply.

If a train wreck occurs and natural gas prices skyrocket and

shortages occur, who will be at fault? Will it be the producer, the

consumer, or perhaps the Federal Government? Well, the bottom

line is, the reason we are having this hearing today is, we see a

storm brewing on the horizon, and we need to prepare for it.

I look forward to hearing the testimony from the witnesses today,

on this topic which is so critically important not only to industries

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and economists, but to every single American who is now struggling to make ends meet, and to all of us who are hoping that

Americans can go back to work and this economy can recover instead of going through another shock.

And the Chair yields back the balance of his time and seeks

members interested in opening statements.

Mr. Boucher is recognized for an opening statement.

Mr. BOUCHER. Thank you very much, Mr. Chairman. I want to

commend you for convening today’s hearing on natural gas supply

and demand concerns. The topic is very timely, given the vital importance of natural gas to our Nation’s energy portfolio and to our

entire national economy.

Currently, 23 percent of the United States primary energy requirements, including industrial, residential, commercial, and electric utility sectors, are met through the use of natural gas. According to the Energy Information Administration, the Nation’s use of

natural gas is expected to increase to 52 percent by the year 2025.

In recent years, natural gas has proven to be the fuel of choice

for electric utilities building new electricity generating units. This

trend is expected to continue, with an estimated 10.4 trillion cubic

feet of gas consumption by electricity generators predicted by the

year 2025. And that is up from 5.3 trillion cubic feet in the year

2001.

In addition, the Energy Information Administration estimates

that domestic gas production is expected to increase more slowly

than consumption during the same period of time.

Along with the increased usage of natural gas, there has been an

increase in price volatility and cyclical decreases in storage inventories. In January of 2001, natural gas prices peaked at nearly $9

per million BTUs. Current prices range between $5 and $6 per million BTUs, and natural gas inventories are at the present time

below historic averages.

Given the recent and projected increases in natural gas consumption, the many concerns regarding the availability of enough natural gas to meet demand, the price volatility which has been evident in recent years and which, given the current projections, we

can expect to continue over time; in concerns related to inventory

levels, natural gas usage is among the most critical energy policy

questions that face this committee today.

Natural gas certainly has many benefits, ranging from environmental compatibility to the comparatively low capital costs associated with starting a new gas-fired electric generating facility. However, our Nation has a number of energy alternatives. I would note,

for example, that coal remains the Nation’s largest domestic energy

resource with reserves estimated for an additional 250 years.

In addition, advances in clean-coal technologies, both recent and

on the horizon, are ensuring that future coal-fired electricity plants

will be able to operate with little environmental effect. Ensuring

that fuels other than natural gas, including coal, play a larger role

in meeting future energy needs will help to keep natural gas prices

affordable for the utilities, for the residential users, and for the industrial consumers who depend upon natural gas.

I look forward to the witnesses’ testimony before us today, and

I want to thank them for preparing remarks and taking time to

4

join us here. The topic they are addressing, the current state of

natural gas supply and demand, is truly timely. I welcome their

recommendations with respect to policies that will ensure that this

Nation does not reach a natural gas crisis.

I thank you very much, Mr. Chairman, for holding this hearing,

and I yield back.

Chairman TAUZIN. I thank my friend.

And the Chair asks, further requests for opening statements?

The chairman of the Subcommittee on Energy, Mr. Barton, is recognized for an opening statement.

Mr. BARTON. Thank you, Mr. Chairman, for holding this important hearing today. I appreciate your offer to conduct the hearing

at the full committee level after we learned that Chairman Alan

Greenspan would be willing to testify if it was a full committee

hearing instead of a subcommittee hearing. The participation with

Chairman Greenspan underscores the significance of the issue

that’s before the committee.

Our Nation faces both a short-term and a long-term future of

high natural gas prices. It is my understanding that natural gas

prices at the wellhead today are over $6 in MCF. Many Americans

are dependent upon affordable natural gas prices for their residential heating, the electricity the power companies sends them, many

products that they use, and perhaps even their job. Today, we call

the Nation’s attention to the problems of a steady increase in natural gas demand and a staggering or slow-growing natural gas supply.

The witnesses before us represent natural gas producers, consumers, analysts, and infrastructure experts. I expect that we will

hear that little can be done to reduce demand in the short term.

Therefore, we must try to do something to improve the supply.

The hearing today is timed perfectly for a number of reasons, Mr.

Chairman. First, decisions that are made today by market participants will determine the amount of natural gas stored in inventory

for the coming winter. If this winter is as cold as last winter was,

many people expect surprisingly high prices.

Second, the U.S. Senate this week is trying to complete work on

its energy bill. I would encourage all the Members of the Senate

to work together for whatever time agreements are necessary to get

the energy bill done so that we can go to conference between the

House and the Senate. As you well know, we passed our House energy bill several months ago.

The energy bill is not an inside-the-Beltway bill, because it does

affect real people. As we will hear today, energy affects all Americans and needs the attention of Congress. The House has acted,

passing legislation that will do its part to address the problem. I

know in the Senate it is often easier to slow things down than to

speed things up, but I would hope that this hearing today would

encourage our Senators on both sides of the aisle to try to work together for the Nation’s energy business.

The third reason that today’s hearing is well-timed is that proponents of regulating carbon dioxide either as a pollutant or

through some other mechanism needs to consider what added fuel

switching would do to our natural markets and to our consumers.

I strongly believe that our Nation should continue to have a broad

5

portfolio of fuel choices, that coal should continue to play a leading

role in electric power generation. The thing to do with coal burning

is to improve it, not to reduce it.

Next week, on June 17, my subcommittee, the Energy and Air

Quality Subcommittee, will hold a hearing on the future options for

generation of electricity from coal. Witnesses will discuss clean-coal

technologies and new applications, like coal gasification, advanced

combustion boilers, the Department of Energy future program, and

other possibilities to have coal burn more cleanly, yet still play its

vital role for Americans.

Today, the focus of the natural gas supply and demand is before

the full committee. Congress needs to hear just what the problems

are and what the possible solutions are. We need to know about

the investment climate that dictates whether someone does or does

not want to invest in natural gas production. We need to hear what

it will take to get private parties to build the Alaska natural gas

pipeline, which will help but not by itself solve the supply and demand imbalance. And last but not least, Americans need to know

what is facing us down the road in terms of natural gas.

Mr. Chairman, I want to again thank you for holding today’s

hearing at the full committee; and as always, thank you for your

leadership on energy issues.

Chairman TAUZIN. I thank the gentleman.

Mr. Green? Does Mr. Green seek recognition for an opening

statement?

I see Mr. Dingell is here. My apologies. Mr. Dingell, the ranking

Democrat of our committee, is recognized for an opening statement

if he wishes to give one.

Mr. DINGELL. Mr. Chairman, I do.

Chairman TAUZIN. The gentleman is recognized.

Mr. DINGELL. And I thank you.

Mr. Chairman, thank you for holding this hearing on natural gas

supply and demand. After years of relatively low natural gas costs,

consumers in Michigan and other parts of the country have experienced wide price swings in recent years. In January 2001, gas

peaked at nearly $9 per million BTU. One year later, prices are

running $3 per BTU. But by January 2003, they crested again at

nearly $8 million per BTU—or rather, nearly $8 per million BTU.

These fluctuations make budgeting for energy use difficult for

both residential and industrial consumers.

Currently, gas is about $6 per million BTU and predicted to stay

at least at that high level for the foreseeable future. Chairman

Greenspan has noted with concern that these prices seem out of

kilter with moderating prices for oil and gasoline in recent months.

Secretary of Energy Abraham recently noted that natural gas

working storage levels are 42 percent below the previous 5-year average, and that hot summer weather could hinder efforts to refill

these inventories. In the event the storage levels remain low into

the winter heating season, consumers could once again face skyrocketing prices.

While Congress has attempted to deal with natural gas supply

issues in the past, the wrinkle that makes this particularly difficult

today is that the Nation has become highly dependent on natural

gas for various uses that higher prices reverberate even more

6

broadly throughout our economy. Most of the new electric generating capacity added in recent years is fueled by natural gas, so

that when prices rise, it is felt not only in the homes that use natural gas directly, but also those that use electricity made from gas.

Moreover, electric consumers in many parts of the country, particularly the Western States, have had more than their fair share of

volatility in their utility bills. Since a number of industries depend

also on natural gas directly or indirectly, the Nation’s economic recovery could be jeopardized by a prolonged period of high prices.

Unfortunately, it is easier to comment on the nature of the problem than to come up with solutions. If Congress enacts comprehensive energy legislation, provisions to encourage greater conservation and energy efficiency may provide some relief, but not in the

short run.

I am interested in suggestions from our witnesses regarding

what can be done to prevent consumer hardship next winter. I

know Secretary Abraham has called on the industry to come up

with ideas along these lines, and perhaps some of those are gelling.

Members of the committee led successful efforts in 1987 to repeal

most of the restrictions on natural gas use of the Power Plant Industrial Fuel Use Act of 1978. I would be interested if our current

committee members have the same or a different opinion.

With that, I wish to extend a special welcome to Carl English

from Consumers Energy. That is a company that provides great

service to Michigan consumers, and I am glad he will be with us

today and look forward to his testimony.

I also look forward to Chairman Greenspan’s testimony and recommendations.

Mr. Chairman, I thank you and my colleagues for your attention.

Chairman TAUZIN. I thank my friend.

Are there further requests for opening statements on this side?

The gentleman from Florida, Mr. Stearns, seeks recognition for an

opening statement?

Mr. STEARNS. Yes. Thank you, Mr. Chairman.

Chairman TAUZIN. The gentleman is recognized.

Mr. STEARNS. I think we have had many hearings here in which

we have talked about the growing gap between natural gas supply

and demand. This is my 15th year in Congress, and I have been

in many hearings like this.

I applaud the Chairman for having this hearing. It is a long-term

problem. We are not going to expect to solve it today or in the very

near future, but I think one of the things that is coming across my

way of thinking is that the U.S. Government, the States, and local

municipalities own a lot of land; and I think Congress would help

the situation if we went ahead and sort of deregulated and allowed

private industry to develop the gas that might be in this Federal,

State, and local land. That would be one area where a regulatory

framework could be set up, established, and encouraged so that in

a cost-efficient manner we could explore this opportunity for gas in

these, I think, a lot of resource-rich Federal lands.

So, Mr. Chairman, I think that is one thing that we as a legislative body could do. And I applaud you for this hearing, and I hope

that the witnesses will confirm some other things that we can do.

7

In Florida, it appears that in the foreseeable future our demand

for gas is going to double, and we don’t really have any opportunity

to develop gas in the State of Florida, so we get—all of our gas is

imported, so it is extremely important that even Florida look within its land territory for some type of way to develop some of this

resource-rich Federal land.

So I thank you, Mr. Chairman. I look forward to the witnesses.

Chairman TAUZIN. I thank my friend.

The Chair asks Mr. Green if he seeks recognition. He does. And

the Chair recognizes the gentleman from Texas, Mr. Green, for an

opening statement.

Mr. GREEN. Thank you, Mr. Chairman. And following my good

friend from Florida, there are some gas resources off the State of

Florida, but our committee has taken them off the production list.

But I appreciate the opportunity for the chairman to have this,

like my colleague from Florida, because just like Florida, all of our

States are experiencing high natural gas prices. I feel strongly we

must do everything in our power to raise the awareness of the natural gas crisis in our country, especially with our fellow colleagues

in Congress. Consumers across the country are hit by high natural

gas prices in the summer and the winter. Gas is a familiar fuel for

furnaces in the northern part of our country, but 40 percent of the

new power generation is being fired by natural gas. Consumers will

increasingly feel the bite of gas prices in their power bills also.

Over the last two decades, since the deregulation of the natural

gas industry, we have gotten used to fluctuating prices, typically

about $2 per million cubic feet. And those prices have been over $3

for almost all of the last 2 years and over $4 since last January.

Now, it is close to $6.50 per million cubic feet.

Experts predict steady U.S. demand growth for natural gas

through the year 2030 and slowing declining domestic production,

and that is a formula for high prices. This issue is of paramount

importance to my constituents in the State of Texas because the

natural gas crisis threatens the lifeblood of Texas Gulf Coast industry, petrochemical production. This industry is one of Texas’ largest

employers, and many of these jobs are in danger of being lost forever.

Without reliable, affordable natural gas, plastics and other petrochemical products now made in America will be produced overseas.

And I would point out that the chemical and petrochemical industry is one field of manufacturing where America is still a net exporter. As policymakers, we must first take a serious look at the

obstacles to domestic gas production, restricted public lands onshore and offshore, irrational pipeline regulation, and politically

motivated moves to open up long-term energy contracts and to cap

prices.

Most coastal States and their Washington delegations that have

lots of new gas-fired power plants refuse to allow gas production

offshore. The House energy bill in its current form does not even

allow the Federal Government to study its own offshore reserves.

Second, we need to ensure that we have a healthy mix of energy

sources. Cleaner coal technology, responsible nuclear power, both

have important roles to play. However, natural gas will continue to

be a popular choice because of the few negative consequences. It

8

burns clean, improves air quality, and plants will come to become

more efficient. Liquefied natural gas technology, which allows us to

tap abundant global resources, is also improving. But there is a serious not-in-my-backyard problem with the location of LNG terminals that will need to be addressed if we want gas-fired plants.

With a break-even point near $2.50 per MCF, we need to take a

hard look at LNG.

I look forward to hearing some of the solutions from our panelists

this morning. I look forward to Chairman Greenspan’s testimony

this afternoon, which hopefully will motivate my colleagues to take

action on this issue.

And again, Mr. Chairman, thank you for calling this hearing.

Chairman TAUZIN. I thank my friend from Texas.

Further requests for opening statements on this side? Mr.

Whitfield, waives? Mr. Rogers, waives?

On this side, the gentlelady from California, Mrs. Capps, seeks

recognition for an opening statement, and is so recognized.

Mrs. CAPPS. Thank you for recognizing me, Mr. Chairman, and

for holding this hearing.

Ensuring we have adequate supplies of energy is critically important to our economy and our Nation’s well-being. And some of the

information we will hear today about natural gas supplies is disturbing, as natural gas has become a critical part of our energy

stream and has allowed us to reduce polluting emissions. So it is

good we are holding this hearing.

Mr. Chairman, attaining energy independence and predictability

of supplies are some of the best reasons to enact a national energy

policy. Our country should explore and extract oil, gas, and coal

wherever it is economically feasible and environmentally sensitive.

But first we should also adopt strategies for reducing our demand

for energy. Simply drilling for more oil and gas anywhere we can

find it is a fool’s errand. We really should start by managing our

consumption better.

In addition, we must have tough regulatory policies in place to

prevent the blatant manipulation of energy markets, like what

happened in California, when trading tricks and faked shortages

drove prices through the roof and stole billions of dollars from California residents.

Unfortunately, the House energy bill fell woefully short of achieving these goals and establishing a rational, forward-looking national energy policy. Comprised mainly of subsidizing the oil, gas,

coal, and nuclear industries, weakening environmental protections

and lacking aggressive actions to reduce energy consumption, the

bill is a classic missed opportunity.

For example, we should have adopted Representative Pallone’s

common-sense proposal to establish a renewable portfolio standard

for power plants, to encourage them to use more renewable energy.

This would lessen our dependence on fossil fuels; and it is clearly

doable, since California companies are already doing it.

I do, however, want to point to one positive step the House took,

and this has already been mentioned today: the adoption of a bipartisan amendment that I offered with my colleagues from Florida, Representative Davis, who is also a member of this committee,

and Representative Jeff Miller. Our amendment removed from the

9

bill an extremely ill-advised provision added by the Resources Committee that would inventory the oil and gas resources off our coast.

Taking inventory sounds pretty innocuous, but this is not CVS,

and the inventory isn’t about counting toothbrushes. The inventory

would actually undermine the long-standing national consensus,

and two decades of executive and congressional action against new

oil and gas drilling off some of our economically valuable and environmentally precious coastlines. And since we pretty much know

where the vast majority of economically extractable oil and gas is—

in the central and western Gulf, which are open to drilling—the inventory proposal is a thinly disguised attempt to drill off Florida,

California, Massachusetts, and anywhere else with a beach. I am

pleased that the House acted to check the irresponsible actions of

the Resources Committee.

Clearly, we must have a vibrant energy extraction industry, but

we have to do it in a way that is compatible with our national goal

to protect our environment and coastal economies. And our energy

policy is lacking if we don’t first look at how to reduce our consumption of nonrenewable sources.

So I welcome the testimony of our witnesses, and I hope that this

current difficulty in matching natural gas supply and demand is

not seen as an easy excuse to push for more oil drilling and gas

drilling off our coasts.

I yield back the balance of my time.

Chairman TAUZIN. I thank the gentlelady.

Further requests for time on this side? Mr. Stupak seeks recognition?

Mr. STUPAK. I waive.

Chairman TAUZIN. Waives.

Anyone else? I see Mr. Davis. Mr. Davis seeks recognition and

is so recognized.

Mr. DAVIS. Thank you, Mr. Chairman. Thank you for holding

this hearing.

I wish we had had a chance for a more thoughtful discussion on

this issue during the course of the energy bill debate. I simply

wanted to ask your consent to enter into the record a policy report

just recently prepared by Chuck Alston of the Progressive Policy

Institute, which I think represents an attempt to define how we

can balance some of the environmental sensitivities Representative

Capps referred to with legitimate concerns about supply.

Chairman TAUZIN. Without objection, the gentleman’s request is

granted, and the record will reflect the document. The gentleman

may proceed. Is that all the gentleman had?

Mr. DAVIS. That is all.

[The report is available at www.ppionline.org]

Chairman TAUZIN. The Chair asks, is there further request for

time?

The gentlelady Ms. Solis requests time. Ms. Solis is recognized

for an opening statement.

Ms. SOLIS. Thank you, Mr. Chairman.

Good morning. I’m also pleased to be here and very anxious to

hear from our witnesses today. I want to commend you, Mr. Chairman, and also Ranking Member Dingell for bringing this important

matter to this committee’s attention. And I am sure we will learn

10

quite a bit about this vital natural resource and its implications for

our economy.

There is no doubt that natural gas will play a vital role in a

cleaner energy future. As the least polluting fossil fuel, natural gas

will play a central role when we finally get serious about reducing

our greenhouse gas emissions.

Natural gas can and should play a great role in our transportation alternatives. In my home State of California, for example, we

desperately need to speed the transition to cleaner natural gas

school buses to protect the health of our school children in our communities. These new applications will increase demand for natural

gas, and this will have the potential to drive up prices. Keeping

natural gas affordable will require a renewed commitment to conservation and renewable fuels as well as seeking new supplies of

natural gas.

There are some who would sacrifice environmental protections in

a rush to develop new natural gas resources. I don’t believe that

in seeking solutions to one environmental problem we should create another.

It has been said, for example, that environmental laws effectively

lock up much of our public land from natural gas exploration. In

fact, the administration’s own data show that this claim is simply

not true. A study conducted by the Department of Interior surveyed

five Western basins that contain the bulk of natural gas resources

on U.S. public lands, and show that 12 percent of these lands were

restricted for natural gas development. Even this low number is

greatly inflated by the inclusion of major natural parks and wilderness areas in the study.

Americans overwhelmingly believe these areas should be off limits to resource extraction. California’s famous Gold Rush created a

contradictory legacy of economic opportunity and environmental destruction that we are still paying for today. The natural gas gold

rush will also create a potential for economic prosperity and certainly environmental challenges. We would be wise to proceed

thoughtfully and thoroughly as we consider our energy future.

In that regard, I hope that future hearings on this matter will

feature analysts who can speak on both the environmental promise

and potential for damage in increasing the use of natural gas in

our energy portfolio.

I yield back the balance of my time.

Chairman TAUZIN. The gentlelady yields back.

Are there further requests for opening statements?

The gentleman, Mr. Markey.

Mr. MARKEY. Do I have to make the motion to waive my opening

statement?

Chairman TAUZIN. Actually, let me do this; en bloc, I think, will

help. Under the rule—let me explain to the audience what we are

doing.

Under our new rules, if a member seeks time for an opening

statement, he may give an opening statement. If he waives an

opening statement affirmatively, that member is entitled to a little

bit longer time in questioning. It is kind of an inducement so we

can get to you quicker.

11

And I will make the en bloc request of all members who have

waived their opening statement that they be permitted under the

rule the benefits of the rule. Is there any objection? Without objection, so ordered.

The Chair will now welcome our guests, the first panel this

morning. As I pointed out, we will have Alan Greenspan at 2

o’clock, but we have a distinguished panel of individuals who can

indeed tell us a lot about this issue and inform us as to many of

the questions I know that the committee will have.

First of all, Mr. Guy Caruso is Administrator of the Energy Information Agency.

Excuse me. Before I introduce the panel, do you seek recognition,

sir, for an opening statement?

Mr. HALL. Mr. Chairman, if I can make a very important opening

statement.

Chairman TAUZIN. On behalf of Texas, I assume.

Mr. HALL. Right.

Chairman TAUZIN. The gentleman is recognized for that purpose.

Mr. HALL. The Fourth District oil patch in particular.

Chairman TAUZIN. The gentleman is recognized.

Mr. HALL. Mr. Chairman, thank you, and members of the committee. And I am sorry to be late.

We have come almost full circle in my time in Congress and my

time on this committee from a time of natural gas scarcity to the

plentiful supply of natural gas back to a time of scarcity. The signs

have been ominous for several years, yet we have chosen to ignore

them, much like driving a car until the tank is nearly dry and then

starting to look for a service station. Except, in this case, there is

no real active service station on the block.

Then, as now, we talk about a scarcity when there really isn’t

one, only a lack of available supply. What is really scarce is the

easy-to-find-and-produce natural gas. That gas is rapidly being depleted, but the hard-to-find-and-produce gas is not being brought

on quickly enough to replace what we are using.

U.S. natural gas production has been virtually flat for the last

decade. The EIA reported that the production declined in 2002.

And even though the rig count is rising again, EIA is very cautious

in its predictions of any significant production increase.

A lot of the resource is still underground, onshore and off our

coasts, but I think we have to be smarter and have better tools to

find and produce this gas. When ANWR fell by the wayside in Senate the last time, toward the end of the session, I called Boone

Pickens and told him. I said, well, they knocked ANWAR out. He

said, That is okay; it will still be there. It will always be there.

So we have got a supply, but it is still down in the ground. And

kind of like my preacher at home told us, he had good news and

bad news for us. He said, the good news is, There is enough in

church right now to pay off the entire church debt; and the bad

news is, It is still in you-all’s pockets. That is kind of the way we

are on the production of gas.

Much to its credit, several years ago the Department of Energy

identified this problem and produced a road map for drilling and

producing the gas that lies in the ultra-deep waters in the Gulf of

Mexico in water depths in excess of 5,500 feet. According to a UniVerDate 11-MAY-2000 12:34 Aug 25, 2003 Jkt 000000 PO 00000 Frm 00015 Fmt 6633 Sfmt 6633 88422.TXT HCOM1 PsN: HCOM1
12

versity of Texas Bureau of Economic Geology study completed in

2000, as much as 69 trillion cubic feet of incremental or additional

natural gas can be produced from the deep waters of the Gulf and

from unconventional onshore gas reserves if advanced technologies

are used and deployed.

The revenues to the Federal Government from production on

Federal waters and onshore Federal lands could be as high as 22

billion between now and the year 2015 at a cost to the Federal

Government of about 3 billion. That is a good deal in anybody’s

books. These are incredibly compelling reasons to make a full-scale

assault on developing these technologies on a crash basis and

bringing this gas to our doorsteps sooner rather than later.

But, Mr. Chairman, let me be clear. We will never be able to

produce as much gas as we have in the past. Peak annual production occurred in the early 1970’s. However, we can slowly and surely and greatly slow the rate of decline in our domestic production.

We need to take the pressure off of natural gas to meet some of

the incredible demand that is projected by the Energy Information

Administration and others’ pressure, I might add, that is driven

largely by Federal policy, namely, clean air and some other things,

forcing people to use natural gas and not coal.

We need to use our most abundant resource, coal, but we also

need to develop the technology that is necessary to burn coal with

as few emissions as possible. We need to spend more on renewables—where it works, solar, and geothermal where it is available.

And, of course, there is still much more to do in conservation, unless we use less of what we have.

I have a bill and a part of a bill that passed the Science Committee. Well, as a matter of fact, the first bill I passed in Congress

in 1981 or 1982, when I came here, was a conservation bill that

RCS and CACS and, Mr. Chairman and Mr. Markey, you well remember though.

We simply no longer have the luxury of engaging in fights over

coal versus gas versus renewables. We need all of them, and we

need them now to take some of the demand pressure off of natural

gas.

Last year, I introduced legislation not only to establish an industry-led offshore program to bring these technologies into reality,

but also to develop the technologies that will enable us to produce

the hard-to-find gas onshore, too. These provisions were contained

in the energy bill and were ready to be adopted by conferees when

the conference collapsed last year.

The Science Committee included this language in the bill, H.R.

238, it reported this year. The Energy and Commerce Committee,

Mr. Chairman, your committee had several similar provisions in its

bill, too. So I submit that this ultra-deep and onshore exploration

and production R&D language is really a production provision

masquerading as an R&D provision. Development of these technologies under this provision will produce more than one-third of

the gas estimated to be needed between now and the year 2015 at

costs considerably less than importing an equivalent amount of

LNG.

The history of natural gas production has proven that big increases in production occur when technology is applied to break

13

down production barriers. Coal bed methane is a case in point. In

1990, coal bed methane production was negligible. With an investment of 140 million, production began to increase to the point that

today it is about 7 percent of annual gas production. There are

other examples.

So, in closing, Mr. Chairman, there is broad consensus in this

body for this legislation. You, Mr. Markey, and the majority leader,

Mr. DeLay, certainly have been helpful on keeping these provisions

in the conference, but we need you and the rest of the conferees

to stand strong and push hard on our colleagues in the Senate

when the conference convenes.

I don’t exclude anyone else, including my friend Mr. Markey to

the right, who is a good strong member of this committee, and purports and sets forth a desire to solve the energy problem. He has

his ways and his methods, of course; and I can’t sit here and say

that he is totally wrong. He is a good man to work with, and we

need to all work together.

The pending energy bill may be our last best opportunity to

make a major breakthrough on production technologies that will

yield huge returns in additional gas supplies. We can’t afford to let

this opportunity pass us by. The cost in increased natural gas

prices, if we fail to act, will be truly enormous.

And I thank you, Mr. Chairman. I yield back my time, if I may.

Chairman TAUZIN. The gentleman has no time to yield, but we

appreciate his opening statement.

Mr. HALL. I could go on.

Chairman TAUZIN. We all know.

The gentlelady, Ms. DeGette, has arrived. And the Chair will

seek whether or not the gentlelady wishes to give an opening statement.

Ms. DEGETTE. Just briefly, Mr. Chairman.

Chairman TAUZIN. The gentlelady is recognized.

Ms. DEGETTE. I will ask unanimous consent to put my full opening statement in the record. And we have a large panel.

So let me just say that, as a Westerner, I was quite interested

in this so-called EPCA report Ms. Solis was talking about, which

concluded that public land protections are not holding our Nation’s

gas supply hostage. And I was a little dismayed that none of the

witnesses talked about that conclusion in their written testimony.

I am hoping someone will talk about this today. As we make very

important land-use decisions in the West, particularly regarding

BLM land, we need to keep in mind that while we need to develop

our natural gas supplies in the West, that does not necessarily

mean 100 percent development in all lands. And, if we have a reasonable land-use policy, we can still have robust natural gas development.

With that, I will yield back.

[The prepared statement of Hon. Diana DeGette follows:]

PREPARED STATEMENT OF HON. DIANA DEGETTE, A REPRESENTATIVE IN CONGRESS

FROM THE STATE OF COLORADO

I want to thank our chairman, Mr. Tauzin, for holding this hearing on natural

gas supply and demand. Gas rates directly affect my constituents, just as they affect

the constituents of every Member here. Clearly, we all have an interest in decreasing volatility in natural gas prices.

14

I believe that the panels the Chair has assembled well represent the supply side

of the equation. And I look forward to discussing with our panelists the challenges

and solutions of increasing the supply of natural gas.

But with all due respect to the panelists who are here today, I am somewhat confounded by what is not included in their testimonies. Not one mentions the recent

survey from the Bush Administration’s Department of Interior and the United

States Geological Service. The so-called EPCA report concluded that public lands’

protections are not holding our nation’s gas supply hostage. I hope that the study’s

omission from everyone’s testimony isn’t because the results of the survey are inconsistent with industry claims that public lands’ protections are the bogeyman. I also

hope that the rumors of provisions in the energy bill to commission another study,

maybe one that would be more to the Administration’s liking, are unfounded.

I voted against the comprehensive energy bill that our committee marked up earlier this year because I felt it wasn’t well balanced. The emphasis was almost entirely on production with little to address the need to conserve. This hearing is invoking similar flutters of de ́ja` vu.

I am pleased that we will be hearing from Mr. Mason, Commissioner for the Public Utilities Commission of Ohio, who may have similar concerns to the utility companies in my district. An article from yesterday’s Denver Post, my hometown paper,

quotes an official from Xcel Energy, which supplies most of the power for my constituents’ homes. ‘‘It will be incumbent on us to make sure our customers know that

higher prices are coming, and that we do all we can to encourage conservation and

energy efficiency. Education, conservation and energy efficiency will be our best

weapons against higher prices . . .’’ After reading the testimony from Mr. Mason, it

doesn’t sound as if Xcel Energy’s situation and approach are unique.

That article also mentions the effect rising prices will have on low-income residents. It may not be the right time to discuss this, but I hope that the Republicans

will join us in ensuring that Americans who are the most vulnerable will not have

to make the choice between feeding themselves and heating their homes come next

winter. I think we ought to plan ahead and increase the money available for

LIHEAP.

Those concerns aside, I look forward to hearing from the panelists assembled here

today.

Chairman TAUZIN. The gentlelady yields back.

The gentlelady has made a request that the written statement be

made a part of the record. Without objection, that is so ordered.

And the chairman will note, generally for all members who have

written statements, to introduce those statements into the record

without objection. That is so ordered.

Are there further members seeking recognition?

[Additional statements submitted for the record follow:]

PREPARED STATEMENT OF HON. PAUL E. GILLMOR, A REPRESENTATIVE IN CONGRESS

FROM THE STATE OF OHIO

I thank the Chairman for the opportunity to address the issue of natural gas supply and demand as a major element of our country’s energy debate. I also look forward to learning from a well-balanced panel of witnesses, as well as the honorable

Chairman Greenspan later this afternoon.

Furthermore, I would like to extend a special welcome to fellow Buckeye Donald

Mason, currently serving the Public Utilities Commission of Ohio (PUCO). In particular, I look forward to hearing your testimony regarding the volatility of natural

gas prices and their affects on Ohio residential customers.

Over the last several years, a number of my constituents, many of which are on

a fixed income, have written to convey their concern and at times, have enclosed

copies of exorbitant natural gas bills.

Just as important, I represent a number of growers dependent on natural gas as

the primary component in the production of commercial fertilizers. Northwest Ohio

farmers have consistently communicated the need to stabilize natural gas markets

to not only increase farm income, but become less dependent on support programs.

At a time when natural gas consumption is nearly four times greater than it was

50 years ago, and production continues to be limited due to the unpredictability of

natural gas markets, I again applaud the Chairman for bringing attention to this

important matter today.

I yield back the remainder of my time.

15

PREPARED STATEMENT OF HON. ED WHITFIELD, A REPRESENTATIVE IN CONGRESS

FROM THE STATE OF KENTUCKY

Thank you Mr. Chairman. Although this hearing is focused on natural gas, I

wanted to take the opportunity to remind the Committee about the fundamental

role of coal-based generation in supplying our nation’s electricity. Although natural

gas will fuel the majority of new capacity additions in the near future, new technologies could allow coal-based power to add 40,000 MW in the near term. According

to the National Coal Council, an advisory group for the Secretary of Energy, this

would minimize economic impacts while new generation facilities are sited, constructed, and brought into service without increasing emissions at existing facilities

and, in some cases, lowering emissions. Approximately 25% of existing facilities can

be targeted for repowering with much cleaner and more efficient coal-based power

generation. I hope to be able to expand upon this at next week’s hearing. Thank

you.

PREPARED STATEMENT OF HON. C.L. ‘‘BUTCH’’ OTTER, A REPRESENTATIVE IN

CONGRESS FROM THE STATE OF IDAHO

Thank you, Mr. Chairman, for holding this hearing today. As our economy begins

to recover, it is more important than ever that the United States maintain an abundant and reliable energy supply. While the Energy Policy Act passed earlier this

year will go a long way toward achieving this goal, hearings like the one we’re conducting today will help us to see what additional effort must be taken, if any.

Over the past several years, government policies have seemed to encourage the

use of natural gas for environmental reasons as well as for energy efficiency. But

those policies have not been updated to reflect new exploration and production technologies, most of which minimize environmental disruption while maximizing resource recovery. A consequence of these out-of-date policies has been to constrain

the supply of gas despite growing market demand.

It is my understanding that there are plentiful natural gas supplies throughout

the United States and Canada. However, many of the existing wells that have provided so much natural gas at reasonable prices are becoming depleted. Production

must migrate to new areas and we must have the federal policies in place to allow

the development of new sources.

Mr. Chairman, I look forward hearing from our witnesses today, to gain a better

understanding of the outlook for natural gas in the United States.

Chairman TAUZIN. Then the Chair again welcomes our panel and

will begin to introduce them.

First, let us welcome Mr. Guy Caruso, the Administrator of the

Energy Information Agency of our own U.S. Department of Energy.

Welcome, Mr. Caruso.

Mr. Richard Sharples, who is the Senior Vice President of

Anadarko Petroleum Corporation on behalf of the Domestic Petroleum Council of the Oil & Gas Association. I think you are third,

Mr. Sharples. There you are. We want to welcome you.

Mr. Donald Mason, the Commissioner of the Public Utilities

Commission of the great State of Ohio, from Columbus, Ohio. And

Mr. Mason, we want to recognize and welcome you, sir.

We have Mr. Carl English, President and Chief Executive Officer

of Consumers Energy on behalf of the American Gas Association.

Welcome, Mr. English.

Mr. Robert Liuzzi, President and CEO of CF Industries, Inc., on

behalf of The Fertilizer Institute. Welcome, Mr. Liuzzi. I understand you have a plant in my district as well, so, welcome.

Mr. Forrest Hoglund, Chairman and CEO of the Arctic Resources

Company in Houston, Texas. So, welcome, Mr. Hoglund.

Harold Kvisle, President and CEO of TransCanada Pipelines

Limited of Calgary, Alberta, Canada. We want to welcome our

neighbor from across the Big Divide.

16

And Mr. Jeffrey Currie, who is the Managing Director of Goldman, Sachs & Company of New York, New York. And, Mr. Currie,

we also want to welcome you.

A distinguished panel indeed.

Our rules provide that we recognize you each for 5 minutes to

summarize your written statements which are made a part of our

record already. And we all have your written statements in front

of us, so we would ask you not to read those statements, but to use

the 5 minutes to summarize the key points of your statement, at

which time we will then open the panel to discussion with our

members, who will be recognized in order of appearance at the

close of the opening statements.

So we will begin with Mr. Guy Caruso of our own Energy Information Administration, the Administrator of that important agency

within the Department of Energy.

Mr. Caruso, welcome, sir. And we will take your testimony at

this time.

STATEMENTS OF GUY F. CARUSO, ADMINISTRATOR, ENERGY

INFORMATION ADMINISTRATION, U.S. DEPARTMENT OF ENERGY; DONALD L. MASON, COMMISSIONER, OHIO PUBLIC

UTILITIES COMMISSION; RICHARD J. SHARPLES, SENIOR

VICE PRESIDENT, ANADARKO PETROLEUM CORPORATION,

ON BEHALF OF DOMESTIC PETROLEUM COUNCIL, U.S. OIL &

GAS INSTITUTE, NATIONAL OCEAN INDUSTRIES ASSOCIATION, INDEPENDENT PETROLEUM ASSOCIATION OF AMERICA; CARL L. ENGLISH, PRESIDENT AND CEO, CONSUMERS

ENERGY, ON BEHALF OF AMERICAN GAS ASSOCIATION; ROBERT C. LIUZZI, PRESIDENT AND CEO, CF INDUSTRIES, INC.,

ON BEHALF OF THE FERTILIZER INSTITUTE; FORREST E.

HOGLUND, CHAIRMAN AND CEO, ARCTIC RESOURCES COMPANY; HAROLD N. KVISLE, PRESIDENT AND CEO, TransCANADA PIPELINES LIMITED; AND JEFFREY R. CURRIE,

MANAGING DIRECTOR, GOLDMAN, SACHS & CO.

Mr. CARUSO. Thank you, Mr. Chairman. I appreciate this opportunity to present the Energy Information Administration’s views on

the natural gas market which are contained in the Short-Term Energy Outlook, which was recently released on June 6 and in our

Annual Energy Outlook, which was released in January of this

year.

As you know, the EIA does not take positions on policy issues,

and indeed, we are charged with providing objective, timely, and

relevant data, analysis and projections to the Department as well

as to other Federal agencies, Congress, and the public so that officials may draw on our information and analysis to study energy

policies.

Our outlooks, both short- and long-term, presented today represents our best assessment of what the current conditions are, including macroeconomic assumptions and our assumptions about

things like the weather, which is critical to natural gas. And indeed, although our long-term energy Outlook takes policy in existence at the time of its publication as given we recognize the importance of policy changes that can very much affect these numbers,

17

such as the President’s national energy plan and the legislation

you are currently debating in both Houses.

So we recognize that although these numbers seem pointed and

stark, they are not fixed in concrete, and things can change. And

I know that is the purpose of this hearing, to see what can be done.

So, with that in mind, we note that the current natural gas market is tight, and the potential for significant volatility is high. As

shown in the first chart, natural gas prices are now above $6 per

million BTUs. And we expect the price of between $5 and $6 per

million BTUs for the remainder of this year. Last winter’s unseasonably cold weather drove natural gas prices higher. It depleted

storage, which is holding up that price today, and we expect that

to continue during the spring and the summer because there will

be tremendous demand to refill the storage that we depleted.

The second chart shows the kind of storage refill that we face

over the coming months. And we are about 29 percent below the

5-year average for working gas in storage as of the end of May as

released in our latest report. So we have a steep hill to climb.

We are 2 months into the rebuild season, and we are well below

average storage levels for this time of year.

Storage is expected to build to between 2.8 and 2.9 trillion cubic

feet by the end of October, based on our latest Short-Term Energy

Outlook. Under normal weather conditions, this should be enough

to satisfy winter demand and to allow storage to be near normal

if we have a typical winter. However, because demand to refill

working gas in storage will be larger than average, EIA projects

that natural gas prices will average between $5 and $6 per million

BTU for the remainder of this year, and the potential for volatility

is considerable.

On the supply side, natural gas production appears to have fallen

in 2002, although data remains preliminary. Part of this loss is attributable to the hurricanes that occurred in the Gulf of Mexico in

September and October.

This year, with the higher price of gas and the increased drilling

rates, we do expect an increase in domestic production, but this is

by no means certain because of the need to drill many more wells

to produce enough gas to meet this resurgence in demand that has

already been mentioned in opening statements. However, this extra

effort might result in enough production to allow an increase of

about 2 percent if our assumptions on productivity are accurate.

The point made about the depletion of the existing gas wells, by

the chairman in his opening remarks, is shown, I think clearly, in

the third chart. More than 50 percent of the gas that we expect to

be produced in the United States this year is likely to come from

wells drilled less than 3 years ago. This chart shows how high the

current depletion rate is and points to the kind of drilling effort we

need to meet demand. Imports are also expected to increase, but

it will be not enough to meet the kind of refill we need.

Chairman TAUZIN. Mr. Caruso, your time has expired, sir. Can

you wrap for us?

Mr. CARUSO. Sure.

Let me just finish by saying that we do expect prices to increase, as I mentioned, staying at the $5 to $6 per million BTUs range.

However, over the longer term, the increase in drilling will, we do

18

believe, bring forth enough natural gas to moderate that price, so

that although the short term is volatile, we do have hope in our

long term that the increased production will bring that price back

down into the $3 to $4 range.

[The prepared statement of Guy F. Caruso follows:]

PREPARED STATEMENT OF GUY F. CARUSO, ADMINISTRATOR, ENERGY INFORMATION

ADMINISTRATION, DEPARTMENT OF ENERGY

Mr. Chairman and Members of the Committee: I appreciate the opportunity to appear before you today to discuss EIA’s outlook for the U.S. natural gas market. The

source of our short term projections is the June 2003 release of EIA’s monthly

Short-Term Energy Outlook; the long term projections are drawn from the National

Energy Modeling System (NEMS).

The EIA is the statutorily chartered statistical and analytical agency within the

Department of Energy. We are charged with providing objective, timely, and relevant data, analysis, and projections for the use of the Department of Energy, other

Government agencies, the U.S. Congress, and the public. We do not take positions

on policy issues. We produce data and analysis reports that are meant to help policy

makers determine energy policy. Because we have an element of statutory independence with respect to the analyses that we publish, our views are strictly those of

EIA. They should not be construed as representing those of the Department of Energy or the Administration.

SUMMARY

Short-Term Natural Gas Market (Through 2004)

Currently, the natural gas market in the United States is tight, with gas storage

levels lagging well behind normal levels. Spot natural gas prices reflect this deficit

and the expectation that demand, while not necessarily expected to exceed levels

seen in 2002 on an annual basis, remains at a high level relative to domestic natural gas supply capability. The high market prices and strong drilling efforts are

expected to ultimately allow gas storage volumes to move closer to normal by the

beginning of the next heating season. This expectation, however, is predicated on

prices continuing at high levels ($5.50-$6.00 per million Btu) through the next winter.

Longer-Term Natural Gas Market (Through 2025)

By 2025 total natural gas consumption is expected to increase to almost 35 trillion

cubic feet (Tcf) or 26 percent of U.S. delivered energy consumption. Such a demand

level represents an increase of about 52 percent from the expected 2003 level. Domestic gas production is expected to increase more slowly than consumption over

the forecast, rising from 19.5 Tcf in 2001 to 26.4 Tcf in 2025. Growing production

reflects increasing natural gas demand and is supported by rising wellhead gas

prices, relatively abundant gas resources, and improvements in technologies, particularly for unconventional gas.

Short-Term Gas Market Analysis

Overview of U.S. Natural Gas Markets

The natural gas market is tight. The natural gas spot price at the Henry Hub

(the market location used for pricing the New York Mercantile Exchange gas futures

contracts) is high in historical terms for this time of the year. Spot natural gas

prices have fluctuated around $6 per million btu (mmbtu) over the last several

weeks, and levels of natural gas in underground storage remain low two months

into the injection season. At the end of May, working gas in storage stood about 38

percent below end-of-May 2002 levels and 28 percent below the previous 5-year average. Spot natural gas prices will likely average $5-$6 per mmbtu through the rest

of this year. The exceptionally low level of natural gas storage continues to place

unusually strong upward pressure on near-term natural gas prices. In the current

environment companies will need to obtain large amounts of natural gas from other

sources to refill storage for the next heating season. Moreover, if abnormally warm

weather prevails this summer the current market may become highly sensitive to

demand, particularly in the Western and South Central United States, where natural gas is heavily used for power generation. Such conditions could cause a midyear run-up in prices well above current levels (about $6 per mmbtu). However such

price run-ups are usually short lived.

19

The projections outlined above are made at the national level, but it is important

to emphasize that regional prices can diverge. Regional prices can also be highly

volatile. For example, the average April spot price for natural gas traded at New

York City was $5.94, down considerably from the $8.81 seen in March, a result of

the usual change in seasonal demand levels but also of the high margins between

the New York city gate and the Henry Hub that sometimes arise during peak demand periods.

Natural Gas Supply and Demand

With high natural gas prices, natural gas demand is expected to remain flat in

2003. Flat demand this year is likely despite sharply higher weather-related demand during the first quarter of 2003. Natural gas demand in 2004 is expected to

remain flat as high prices discourage use enough to offset increases that might otherwise have accompanied industrial growth. Gas-intensive industrial growth (i.e., a

composite index of industrial output, weighted by industry use of natural gas) is

likely to be well below 1 percent this year, if indeed it is positive.

Demand for natural gas this summer is expected to fall by about 1 percent from

last summer’s level. This is in part due to weaker industrial demand. Under our

assumption of normal weather, cooling degree-days for the season (Q2 2003 and Q3

2003) would be close to 10 percent below year-ago levels, reducing gas usage for

power generation. In the event of a hotter-than-normal summer this year, natural

gas prices could move higher as cooling-related demand would compete with the

need to build storage inventories. The National Climate Prediction Center currently

indicates that above-average temperatures in the U.S. Southwest and parts of Texas

are likely in June and possibly in the third quarter as well. Such a development

could increase gas demand for power generation and increase pressure on spot

prices.

Working natural gas in storage is estimated to have reached about 1,212 billion

cubic feet (bcf) at the end of May, 38 percent below the year-ago level. This is the

second lowest aggregate inventory level for the end of May recorded by EIA. Eastern

and producing regions stocks, in particular, are at very low levels. Demand for natural gas to refill working gas storage in 2003 will be higher than average, which

means that prices are likely to remain volatile. Storage is expected to build to about

2,900 billion cubic feet by the end of October. Under normal weather conditions, this

should be enough to allow storage to be about 1 trillion cubic feet at the end of next

winter, near to normal for that stage of the storage cycle.

Natural gas production declined in 2002. Part of the loss was due to the effects

of hurricane activity in the Gulf of Mexico in September and October. The last significant disruption in gas supply prior to the fall of 2002 was September of 1998.

(While hurricanes regularly threaten platforms in the Gulf of Mexico, actual production impacts that are considered significant are not really very frequent and, when

they do occur they tend to be short-lived.) Production is expected to increase by 2.2

percent this year. High natural gas prices and sharply higher oil and natural gas

field revenues are expected to drive a resurgence in natural gas-directed drilling activity this year following a downturn in 2002. Monthly oil and natural gas field revenues are expected to continue to average close to $400 million this year. Domestic

production growth should continue in 2004 but, given recent experience, the extra

effort might result in increases of less than 2 percent from 2003 levels. The prospects for significant reductions in natural gas wellhead prices over the forecast period from the current high levels hinges in large measure on the productivity of the

expected upsurge in drilling in terms of expected output.

Net Imports

Prospects for sharp increases in net imports in 2003 are limited but we do expect

to see an overall increase in 2003 of about 2 percent. Substantial increases in LNG

imports are possible and we believe that they have made a noticeable contribution

already this year. Canadian exports to the United States were up 3-4 percent from

year ago in early 2003. Any growth in gross imports is likely to be offset partially

by increased exports to Mexico, which have been rising sharply in recent years.

Prospects for Price Volatility

In light of the current low storage levels, chances of continued price volatility are

great. Let me raise some factors that could contribute to volatility and analyze their

likely impacts, as summarized in the Table below. To examine these effects, we ran

the model under alternative assumptions.

20

1 Energy Information Adeministration, International Energy Outlook 2003, Table A4, page

185.

Volatility Factors

Factor Assumption Price Impact

Weather ............................................ 10% Hotter Summer/Colder Winter Relative to Normal.50%-60% higher peak price this winter

Lower than expected domestic supply.Productive capacity continues to weaken, no production growth in 2003.10%-20% higher peak price this winter

The table shows that a significant tightening of the U.S. natural gas market and

much higher prices than expected in our base case are possible under some plausible scenarios. One development that could generate more difficult market conditions than are already in prospect is the weather. An abnormally hot summer followed by a cold winter could push natural gas deliverability to the limit and cause

record average prices this winter. The severe weather case considered here is an extreme case but one that merits attention given the lack of storage cushion. It is also

apparent that less robust assumptions about natural gas productive capacity and

near-term production could shift average prices well above our base case. It appears

that for every 1 percent that production falls below our base case assumptions, we

can expect 5-10 percent higher peak prices this winter. These estimated average impacts mask the potential for much more dramatic spikes in prices for short periods

(a few days to a few weeks). Such spikes are characteristic of net demand surges

in the context of low natural gas storage. Thus, current and prospective conditions

in the U.S. gas market significantly increase the probability of very sharp shortterm spikes on top of generally high levels of natural gas prices.

There are no detailed estimates concerning the extent to which industrial output

weakness seen since 2000 is attributable to the recent episodes of natural gas price

strength. It is obvious, however, that many industries dependent upon natural gas

for basic processes and operations have been hurt by high natural gas prices. Part

of the short-term market response to the current imbalance in supplies may be to

let high prices back out industrial activity to insure that higher-valued demands,

such as heating, are met. While the price volatility described in this section is clearly possible, it is not a foregone conclusion. Normal weather, improved productivity

from newer natural gas wells and other factors could serve to moderate price increases. It is also important to note that recent history illustrates that price volatility is usually short-lived.

Longer-Term Natural Gas Market Analysis

The longer-term natural gas projections provided in this testimony were produced

using the National Energy Modeling System (NEMS), a computer-based, energyeconomy modeling system of U.S. energy markets through 2025. NEMS projects annual production, imports, consumption, and prices of energy, subject to assumptions

on macroeconomic and financial factors, world energy markets, resource availability

and costs, behavioral and technological choice criteria, cost and performance characteristics of energy technologies, and demographics. Two of the key inputs to NEMS

are re world oil prices and macroeconomic growth.

World oil prices averaged about $23.43 per barrel in 2002 in 2001 dollars. Between now and 2025 they are expected to rise to about $26.60 a barrel in 2001 dollars, as world oil demand increases from 78 million barrels per day to 119 million

barrels per day.1 Real gross domestic product (GDP) is projected to grow at an annual average rate of 3.0 percent between 2001 and 2025.

The natural gas projections discussed in this testimony are based on the most current NEMS configuration, which EIA recently used in analyzing a 10 percent renewable portfolio standard, as requested by Senator Bingaman.

Natural Gas Outlook to 2025

y 2025 total natural gas consumption is expected to increase to almost 35 trillion

cubic feet (Tcf) or 26 percent of U.S. delivered energy consumption.

Domestic gas production is expected to increase more slowly than consumption

over the forecast, rising from 19.5 Tcf in 2001 to 26.4 Tcf in 2025. Growing production reflects increasing natural gas demand and is supported by rising wellhead gas

prices, relatively abundant gas resources, and improvements in technologies, particularly for unconventional gas. In this forecast, economic conditions allow an Alaskan pipeline to begin moving gas to the lower 48 States in 2020. The national average wellhead price is projected to reach $3.95 per Mcf in 2001 dollars by 2025.

21

The difference between consumption and production is made up by increasing use

of imports throughout the forecast, particularly from liquefied natural gas (LNG),

with a 2.1 Tcf increase expected over 2001 levels. By 2025 we expect expansion at

the four existing terminals and construction of three new LNG terminals.

Consumption. U.S. natural gas consumption is expected to increase by 1.8 percent annually from 2001 through 2025. Gas consumption by electric generators is

expected to double over the forecast, from 5.3 Tcf in 2001 to 10.4 Tcf in 2025, an

average annual growth rate of 2.8 percent. Demand by electricity generators is expected to account for 30 percent of total natural gas consumption in 2025.

Most new electricity generation capacity is expected to be fueled by natural gas,

so natural gas consumption in the electricity generation sector is projected to grow

rapidly throughout the forecast as electricity consumption increases. Although average coal prices to electricity generators are projected to fall throughout the forecast,

gas-fired generators are expected to have advantages over coal-fired generators, including lower capital costs, higher fuel efficiencies, shorter construction lead times,

and lower emissions.

Historically the industrial sector, excluding lease and plant fuel, is the largest

gas-consuming sector, with significant amounts of gas used in the bulk chemical and

refining sectors. Industrial consumption is expected to increase by 3.4 Tcf over the

forecast, driven primarily by macroeconomic growth. The chemical and metal durables sectors show the largest growth.

Combined consumption in the residential and commercial sectors is projected to

increase by 2.5 Tcf from 2001 to 2025, driven by increasing population, healthy economic growth, and gradually rising prices in real terms. Natural gas remains the

overwhelming choice for home heating throughout the forecast period, with the

number of natural gas furnaces rising nearly 18 million.

Production. The forecast estimate of total technically recoverable natural gas resources as of January 1, 2002, is 1,289 Tcf. These resource assessments come primarily from the assessments done by the U.S. Geological Survey for onshore regions

and by the Mineral Management Service for the offshore.

These resources included 183 Tcf of proved reserves (9 years of consumption at

20 Tcf per year), 222 Tcf of inferred reserves, and 269 Tcf of undiscovered nonassociated conventional resources. The largest category was unconventional resources at

445 Tcf, with most of that in tight sandstones at 71 percent. Other unconventional

natural gas resources include gas shales and coalbed methane. Alaska gas (32 Tcf)

and associated-dissolved natural gas in lower 48 crude oil reservoirs (137 Tcf) round

out the resource.

Increased U.S. natural gas production through 2025 comes primarily from unconventional sources and from Alaska. Unconventional gas production increases by 4.2

Tcf over the forecast period—more than any other source, largely because of expanded tight sands gas production in the Rocky Mountain region. Annual production from unconventional sources is expected to account for 36 percent of production

in 2025, more than any other source, compared to 28 percent today.

Conventional onshore non-associated production increases by 500 Bcf over the

forecast, driven by technological improvements and rising natural gas prices. However, its share of total production declines from 34 percent in 2001 to 27 percent

by 2025. Non-associated offshore production adds 710 Bcf, with increased drilling activity in deep waters; however, its share of total U.S. production declines from 22

percent in 2001 to 19 percent by 2025.

Depletion. A key question facing producers and policymakers today is whether

natural gas resources in the mature onshore lower 48 States have been exploited

to a point at which more rapid depletion rates eliminate the possibility of increasing—or even maintaining—current production levels at reasonable cost.

Depletion is a natural phenomenon that accompanies the development of all nonrenewable resources. Physically, depletion is the progressive reduction of the overall

volume of a resource over time as the resource is produced. In the petroleum industry, depletion may also more narrowly refer to the decline of production associated

with a particular well, reservoir, or field. As existing wells, reservoirs, and fields are

depleted, new resources must be developed to replace depleted reservoirs.

Depletion has been counterbalanced historically by improvements in technology

that have allowed gas resources to be discovered more efficiently, have extended the

economic life of existing fields, and have allowed natural gas to be produced less

expensively, making available resources that previously were too costly to develop.

In these natural gas projections, technological progress for both conventional and

unconventional recovery is expected to continue to enhance exploration, reduce

costs, and improve production technology.

The depletion of conventional and unconventional natural gas resources is expected to continue over the projection period as the demand for natural gas inVerDate 11-MAY-2000 12:34 Aug 25, 2003 Jkt 000000 PO 00000 Frm 00025 Fmt 6633 Sfmt 6621 88422.TXT HCOM1 PsN: HCOM1
22

creases significantly, continuing the trend that began in the mid-1990s. Nevertheless, with sustained wellhead prices generally over $3 per thousand cubic feet (in

2001 dollars) and continued technological improvements, lower 48 nonassociated gas

production is expected to increase above current levels.

Imports. Net imports of natural gas, primarily from Canada, are projected to increase from 3.7 trillion cubic feet in 2001 to 7.9 trillion cubic feet in 2025. Imports

contributed 16 percent to total natural gas supply in 2001, compared to an expected

23 percent in 2025.

Just over half of the increase in U.S. imports is expected to come from LNG.

Much of the increase comes from expansion at existing sites, but three additional

facilities are also projected. By 2025, LNG imports are expected to equal 7 percent

of total U.S. gas supply.

Growth in pipeline imports from Canada partly depends on the completion of the

MacKenzie Delta pipeline. The initial full flow rate into Alberta is assumed to be

1.5 Bcf per day. Additional Canadian imports will come from the Scotian Shelf in

the offshore Atlantic. The forecast of Canadian imports largely depends on the ability of Canadian producers to economically produce and market their untapped unconventional resources, particularly coalbed methane. Net imports from Canada are

projected to provide 15 percent of total U.S. supply in 2025 in the reference case,

about the same as in 2001.

Wellhead Prices. In the mid-term, gas prices are projected to move higher as

technology improvements and new supply sources prove unable to completely offset

the effects of resource depletion and increased demand.

Natural gas prices through 2025 are projected to increase in an uneven fashion

as major new, large-volume supply projects temporarily depress prices when initially brought online. Examples include deep and ultra-deep offshore projects in the

Gulf of Mexico, unconventional gas (tight sands, coalbed methane, shale), liquefied

natural gas facilities (both the expansion of existing and development of new facilities), the MacKenzie Delta pipeline in Canada, and an Alaskan natural gas pipeline

that delivers gas supplies to the lower 48 States.

In the reference case, average wellhead natural gas prices are expected to be $3.95 per thousand cubic feet (2001 dollars) in 2025. The increase reflects rising demand for natural gas and the impact of the progression of discoveries from larger

and more profitable fields to smaller, less economical ones. In current dollars, natural gas prices reach $7.15 in 2025.

End-Use Prices. End-use natural gas prices are expected to increase gradually

starting in about 2005 as a result of increasing wellhead prices. A portion of the

increase in wellhead prices is expected to be offset by a projected decline in average

transmission and distribution margins as a larger proportion of the natural gas delivery infrastructure becomes fully depreciated. The average end-use price is expected to increase by 40 cents per thousand cubic feet between 2005 and 2025 (in

constant 2001 dollars), compared with an increase of 72 cents per thousand cubic

feet in the average price of domestic and imported natural gas supplies over the

same period. Part of this difference is attributable to an increasing share of natural

gas sold to electric generators, the sector with the lowest prices.

Chairman TAUZIN. Thank you, Mr. Caruso.

The Chair is now pleased to recognize Mr. Mason, the Commissioner of Public Utilities Commission of the great State of Ohio.

Mr. Mason.

STATEMENT OF DONALD L. MASON

Mr. MASON. Thank you, Mr. Chairman, members of the committee. I would like to talk more from the residential consumer’s

side of the equation. And I appreciate all the information provided

by the DOE, EIA. And I want to comment that the remarks by

Congressmen were all to the point, very succinct and very factual.

Now, as I had information from the residential consumer standpoint in Ohio, the average homeowner in the southern part of the

State uses maybe 100 MCF of natural gas and in the northern portion of the State maybe 110 MCF of gas every year.

Now, what is interesting is, due to high prices 2 years ago, consumers have already dramatically cut back their home heating in

terms of setting back the temperatures, modernizing appliances,

23

equipment, things of that nature, so that an issue becomes, how

much more can residential consumers do to curb demand for natural gas?

Based on my discussions with Ohio utilities, I would say, on a

minimum, today’s gas being stored is between $2.50 and $3 more

an MCF than it was last year. In real terms, this means the average residential homeowner this winter is going to pay about $220

more than the previous winter.

Now, what does $220 mean? I guess, if you think about it, it

means that some people will be able to pay the bill, but it also

means that some people will not. In the past, we have seen an increase of uncollectibles from one company doing business in Ohio—

by uncollectibles, I mean people who couldn’t pay their bills—jump

from $10 million a year to about $26 million a year. Basically, that

also means disconnection from services increased by about 50 percent for those residential customers.

And what does it mean when a home is disconnected from a gas

source? Well, even in the summertime, it might mean a lack of hot

water. Additionally, as we all know, if it is still in the colder times

of the year—and, quite frankly, in Ohio it is quite common to run

your chimneys or furnaces even through early June—it means a

loss of heat. It also means to some degree destruction of consumer

credit and family stability. These are things that we worry about.

Now, going back to what we were discussing earlier, yes, gas is

being filled at about $3 an MCF higher than it was ago. But our

grave concern is for the coming winter heating season with the volatility of the spot market. As indicated earlier, last year we had

about 3.2 TCF of natural gas stored by the time we began the winter heating season, but unfortunately we drew that down very low.

And so, as a regulator who works to maintain the fact that local

gas companies are storing gas, I guess my big concern is the fact

that our storage levels are still 40 to 50 percent lower than what

we would like to see them at.

I guess my message for residential consumers—and then perhaps

each of you could take it back to your respective districts—is, we

need to increase and pay attention to the demand side by encouraging local gas companies and regulatory authorities to promote

budget billing and payments for residential customers to even out

the load of the residential bill, so it doesn’t hit them all at once.

Also, we would like to encourage utilities to use financial and physical hedges to reduce the volatility of prices to those residential

customers, especially gas bought in spot markets. Obviously, increasing public awareness of the benefits of home weatherization,

and asking residential customers to once again encourage examining their own appliances and the settings of their temperatures.

But finally, obviously if there is attention to the demand side,

there must also be attention to the supply side. It has been discussed earlier, when appropriate—looking at opening up public

lands and offshore to drilling activity when appropriate; but also,

as mentioned earlier, encouraging technologies that promote a multitude of energy options for electricity generation so that residential

heating customers are not competing against electricity utilities for

gas consumption.

24

Finally, something we can all do is work on streamlining gas

pipeline permitting and construction in the Midwest and Northeast

so that those markets have more gas options available to them; and

finally, improving the tax and fiscal policies of our country to encourage investment of capital in energy exploration and pipeline

transportation.

Once again, I thank you for the opportunity to represent residential customers.

[The prepared statement of Donald L. Mason follows:]

PREPARED STATEMENT OF DONALD L. MASON, COMMISSIONER, PUBLIC UTILITIES

COMMISSION OF OHIO

Mr. Chairman, members of the committee, my name is Don Mason and I am a

Commissioner of the Public Utilities Commission of Ohio. I would like to thank you

for the opportunity to discuss the impact of potential natural gas supply shortages

on consumers. In Ohio, the average residential natural gas consumption ranges

from 100 mcf annually in the southern part of the state to about 110 mcf in northern Ohio. It is important to note that this is 5% lower than historic demand. Residential consumers have already responded to high natural gas prices by decreasing

consumption over the last several years. Residential consumers have modernized appliances and set back their thermostats. Therefore, my message to homeowners and

renters is the conservation of energy can only have a marginal impact on their natural gas bills.

Based on discussions with Ohio companies, I am anticipating that we will see a

minimum of $2.50-$3.00 per mcf increase to residential natural gas customers, this

winter heating season. In real terms, the home heating cost this winter will increase

by at least $220 per household. That might not sound significant, but during the

winter season of 2000-2001, one gas company in Ohio saw residential nonpayment

jump from $10 million a year to $26 million. As a result, 2002 saw an increase of

50% of residential customers who were disconnected from gas service. It is hard to

measure the suffering that takes place to a family that has high heating bills; only

to have their hot water and heating disconnected, which could even occur during

the summer months. Additionally, those families that do manage to make payments,

substitute those payments for other important items, or delay paying other bills. Either outcome affects consumer credit and family stability.

The natural gas which is being stored this spring and summer will provide the

base load, or about 50% of Ohio’s residential consumers’ winter needs. I have concerns for the upcoming winter heating season. Natural gas going into storage is

about $3.00 higher per mcf than last year. However, comparatively speaking, that

is the good news. There is no good way of predicting what the cost associated with

the spot market will be if the winter is a long, cold one without relief. This past

year, the nation was fortunate to have about 3.2 tcf of gas in storage, compared to

current storage level of 1.2 tcf. Typically, at this time we should have at least 1.7

tcf of gas in storage, and as you can see we are considerably behind. If the summer

is hot, and natural gas-fired electricity generation creates a competitive demand for

gas, then the price of stored gas will be even higher than originally anticipated. It

is possible that we can see spot market gas at $10.00 to $12.00 per mcf.

Government officials can have the greatest impact on this impending problem by

first increasing public awareness that their gas prices are going to be higher this

coming heating season. We can do this on our own as well as with the help of the

local distribution companies, in the form of bill inserts for example. The best form

of demand management or conservation is price signal.

Unfortunately, gas is used BEFORE the consumer sees a bill. People need to

know the price is going up BEFORE they use the gas, this will help them prepare

for the ‘‘sticker shock,’’ thereby lessening the ‘‘shock.’’ It will also help them make

their own choices about how best to manage their energy needs.

After examining the natural gas supply and demand curves, and recognizing that

the prediction for high gas prices is a likely scenario, I would like to leave you with

the following recommendations.

Federal and state government leaders need to encourage energy conservation and

increase the supply of natural gas.

We need to increase attention to the demand side by:

• Encouraging local natural gas companies and regulatory authorities to promote

budget billing and payments for residential consumers;

25

• Utilize regulatory authorities to encourage local gas companies to utilize financial

and physical hedges to reduce the impacts of high gas prices, especially spot

market gas purchases;

• Increasing public awareness on the effectiveness of home weatherization; and,

• Encouraging residential consumers to examine the temperature settings and the

age of their existing appliances.

We need to increase attention to the supply side by:

• Where appropriate, opening public lands and off shore locations to exploration activity;

• Encouraging technologies that promote a multitude of energy options for electricity generation so that residential heating consumption and gas storage do

not compete against electricity generation;

• Streamlining gas pipeline siting and construction so that the Midwest and Northeast markets have more options available to transport natural gas and product;

and,

• Improving the tax and fiscal policies of our country to encourage the investment

of capital in energy exploration and pipeline transportation.

I would like to thank the Chairman and the Members of the Committee for allowing me to present my views today. I would be happy to address any questions you

may have at the appropriate time.

Chairman TAUZIN. Thank you, Mr. Mason.

We have heard of the hope of our agency and the problems consumers are facing. Now we will hear from the industry. Mr.

Sharples is representing the U.S. Oil & Gas Association, Domestic

Petroleum Council.

Welcome, Mr. Sharples.

STATEMENT OF RICHARD J. SHARPLES

Mr. SHARPLES. Thank you, Mr. Chairman and members of the

committee.

Anadarko is the seventh largest producer of natural gas in the

U.S., and last week we had more rigs drilling for gas than any

other company. I appreciate the opportunity to talk with you about

the current state of the natural gas market, because gas is such a

big part of Anadarko’s future and of the members of each of the

associations I am also testifying on behalf of today.

I think we all agree that we face a serious challenge with the

growing gap between supply and potential demand for natural gas.

I, too, am anxious to hear Chairman Greenspan’s comments this

afternoon, because I believe he was right on target last month

when he called our policy toward gas exploration, ‘‘contradictory.’’

I would like to make three points today.

First, the situation did not develop overnight, and we can’t solve

it overnight. Second, if we maintain the status quo, we will continue to see high volatility and upward price pressure. And, third,

I believe there are ways to address the challenge, but only if we

have the political will to do so.

There are vast energy resources beneath Federal lands, but congressional action and administration practices have locked up that

energy. Congress needs to find a way to unlock it.

While the U.S. rig count is up this year, don’t expect gas production to increase significantly, because traditional producing areas

are playing out. New supplies are barely offsetting the effect of natural declines.

We do have one slide, if we could put it up. This slide shows

trends in the shallow water Gulf of Mexico, and illustrates how difficult it is to increase production from the mature producing areas.

26

Industry has drilled here since 1938. The first 1,000 discoveries

made on the shelf added about 40 billion barrels of oil equivalent,

most of which was natural gas. But the next 1,000 discoveries are

expected to generate just 6 billion because the basin is mature. We

have drilled it and drilled it and drilled it.

Even with increased drilling, production is falling, new wells are

coming on at lower rates, and their decline rates are steeper. Most

of the gas we will find onshore in the future will be unconventional,

gas that is higher-cost and lower-margin. Offshore we will be drilling deeper wells in deeper water. Unless we are allowed to explore

in less mature basins, price volatility and upper price pressure are

a certainty.

The economic effect on Americans will be twofold. First is on the

pocketbook, whether it is residents paying more to heat or cool

their homes, or businesses paying more to fuel their factories. It

could also cost a lot of Americans their jobs. If we can’t find cheaper gas sources, manufacturers that are heavy users of gas will continue to move plants to countries where it is cheaper.

Make no mistake, the U.S. isn’t running out of natural gas, but

we are running out of places where we are allowed to explore for

gas that can be developed cost effectively. The traditional producing States of Texas, Alabama, Louisiana, Mississippi, Oklahoma, and Kansas have all lost gas production since 1995. What

growth we have seen has been primarily in the Western States.

To increase supply, we have to attack the problem on several

fronts. First, Congress needs to come up with a solution that will

lift the moratorium on certain Federal acreage where the resource

is the greatest. Except for House language that would open a small

portion of the coastal plain of ANWR for exploration, there is nothing in either House or Senate bill that would remove the moratorium. We are not asking that Congress open up every acre of Federal land, but there are areas where we can explore today and develop without harming the environment. We have proved that is

possible by using advanced technology that is getting better every

day.

Second, Federal land management agencies need to detangle the

bureaucracy and eliminate unnecessary leasing and permitting

delays that are discouraging exploration. In high-cost areas, delay

is denial, whether it is due to regulatory inefficiency or to lawsuits

that can stall projects for months or even years. This is an area

that was not addressed in EPCA study that was referenced in the

opening remarks.

We need more staff at the BLM to review backlogged applications and a consistent playbook to tell us up front what we must

do to get our projects permitted. The administration also needs to

remove regulatory barriers to pipeline permitting so we can unlock

stranded gas from the West and, 1 day, bring arctic gas to the

Lower 48. And, in the future, we will have to rely on LNG to help

close the supply gap.

So the third thing we need to do is to be able to permit and build

regasification terminals quickly.

A number of exploration incentives were passed in the House bill

and are being considered by the Senate. Some of them would enhance existing royalty reductions for deep-water and deep-gas

27

projects offshore, accelerate amortization of geological and geophysical costs in delay rentals, provide 7-year depreciation for gathering lines, and renew Section 29 credits for unconventional gas.

Since most of the remaining resource is unconventional or in

deep water, these incentives are important to developing more U.S.

gas, and we support them.

Ladies and gentlemen, we do face a serious challenge. Industry

is working hard to produce new supplies, but vast resources that

could make a difference are controlled by the Federal Government,

and only the government can unlock them. We must begin making

changes today in land-use policy and in how we balance environmental concerns with economic considerations if we want natural

gas to be available to Americans at prices they can afford.

Thank you for the opportunity to address you today, and our industry looks forward to working with you to provide Americans

with affordable, reliable energy supplies.

[The prepared statement of Richard J. Sharples follows:]

PREPARED STATEMENT OF RICHARD J. SHARPLES, SENIOR VICE PRESIDENT, MARKETING & MINERALS, ANADARKO PETROLEUM CORPORATION, ALSO REPRESENTING

THE AMERICAN PETROLEUM INSTITUTE, THE DOMESTIC PETROLEUM COUNCIL, THE

INDEPENDENT PETROLEUM ASSOCIATION OF AMERICA, THE NATIONAL OCEAN INDUSTRIES ASSOCIATION, THE NATURAL GAS SUPPLY ASSOCIATION, AND THE US OIL

AND GAS ASSOCIATION

Thank you, Mr. Chairman, and members of the committee. I’m Dick Sharples,

senior vice president of marketing and minerals for Houston-based Anadarko Petroleum.

Anadarko is the seventh-largest producer of natural gas in the U.S., and last

week we had more rigs drilling for gas in the U.S. than any other company. So, I

appreciate the opportunity to talk with you about the current state of the natural

gas market today, because gas is such a big part of Anadarko’s future—and of the

members of each of the associations I am also testifying on behalf of today.

I think we all agree that we face a real challenge with the growing gap between

natural gas supply and demand. I’m anxious to hear Chairman Greenspan’s comments this afternoon, because he was right on target last month when he called our

policy toward gas exploration, quote ‘‘contradictory.’’

Three points I’d like to make today:

First—the gas supply/demand gap didn’t develop overnight, and we can’t solve it

overnight. This is a long-term, structural issue that requires major changes in our

current energy policy.

Second—if we maintain the status quo, we will continue to have high levels of

volatility and upward pressure on price.

And third—there are ways to solve this problem—but only if we have the political

will to do so. There are vast energy resources beneath federal lands, but congressional actions and administrative practices have effectively locked up this energy.

Congress needs to find a way to unlock it.

While it’s true that the U.S. rig count is up about 25 percent over a year ago,

don’t expect gas production to increase. The reason is simple: traditional producing

areas are playing out. New supplies we bring on will barely offset natural declines.

Three slides I’d like to show you illustrate my point. I’ve used the Gulf of Mexico

as an example, because it provides about one-quarter of U.S. gas production, and

the trends are pretty startling.

(Slide 1: Exploration Challenge: Basin Maturity)

This curve shows how difficult it is to increase reserves today: The first 1,000 discoveries on the Shelf in the Gulf of Mexico added 40 billion barrels of oil equivalent

of reserves, but the next thousand will generate a maximum of 6 billion, because

the basin is mature.

(Slide 2: Exploration Challenge: Basin Maturity)

Here, you can see that while we’ve been drilling more wells every year—with the

exception of last year when prices were in a slump—average daily production has

been falling.

(Slide 3: Exploration Challenge: Well Productivity)

28

This graph shows that over the last few years, new wells are coming online at

lower production rates, and their decline is much steeper.

Western Canada—which provides 18 percent of U.S. gas demand—is also declining. Canadian gas imports declined almost 3 percent in 2002, and they’re expected

to drop another 5 percent this year.

Going forward, most of the gas that we’ll find in this country onshore will be ‘‘unconventional’’—tight sands gas, shale, and coal bed methane—gas that is higher cost

and lower margin. Offshore, we’ll be drilling deeper wells in deeper water.

Today, we are literally squeezing the last molecules of energy out of the basins

where we have access. But as someone’s wise old grandma used to say, ‘‘we can’t

get blood out of a turnip.’’ That’s what we face today in the domestic industry.

Unless we are allowed to explore in less mature basins, using technology that has

allowed us to find and produce oil and gas more cost effectively and with less and

less impact on the environment, price volatility and upward price pressure are a

certainty, as the market struggles to balance.

Another important point: The market is working, despite the tightening between

supply and demand. More rigs are running... gas is getting to customers who need

and value it the most... and gas is going into storage.

But in the future, the market will have to balance at higher prices than we’ve

seen in the past unless we can tap lower-cost resources.

As in any industry, capital chases the highest returns. It makes no sense for producers to invest in low-margin projects in worn-out U.S. basins when higher-potential opportunities lay across the ocean.

The economic effect of these higher prices will be two-fold:

The first is on the pocketbook, whether it’s residents paying more to heat or cool

their homes, or businesses paying more to fuel their factories.

The average American paid 20 percent higher prices for natural gas during the

first quarter of this year, compared with the same period in 2002. (Source: Consumer Price Index Data)

It could also cost a lot of Americans their jobs. If we can’t find more cost competitive sources, manufacturers that use large amounts of gas for fuel or feedstocks will

move plants to countries where it is cheaper.

Take ammonia, for example, which is a major feedstock for fertilizer. A U.S.G.S.

study shows that from 1999 to 2002 alone, ammonia production decreased 26 percent, employment by this industry decreased 23 percent, and U.S. reliance on imports increased from 20 percent to 34 percent. (Source: U.S.G.S. Geological Survey’s

Mineral Commodity Summaries)

These job losses could become permanent. In fact, industrial production capacity

is already beginning to relocate overseas. For example, 41 percent of the ammonia

production capacity in Trinidad has been built just since 1996, representing about

$700 million of investment. Last year 56 percent of U.S. ammonia imports were

sourced from Trinidad while 43 percent of U.S. capacity lay idle.

So our inability to grow supply due to misguided energy policies is a consumer

issue, not just an industry issue. In fact, elected representatives of the consuming

states ought to be hollering loudest for policy change.

The U.S. isn’t running out of gas. The U.S.G.S. and the Minerals Management

Service estimate there are about 1,400 trillion cubic feet of technically recoverable

gas resources in the U.S.—including the Lower 48, offshore and Alaska.

But we are running out of places where we’re allowed to explore for those gas resources that can be developed most cost effectively. Yes, there is a lot of natural

gas left in the basins we’ve been producing for the last 60 years, and U.S. producers

are actively exploring for and producing it. But as I explained a moment ago, because of basin exhaustion, this is mostly high-cost gas. Some of the most cost-effective gas resources we have left are found on federal lands.

In the Lower 48 alone, there is an estimated 213 trillion cubic feet of natural gas

beneath federal lands or waters where moratoria or regulation make exploration virtually impossible . . . in the West, where much of the land is owned by the federal

government . . . on the East and West Coasts, and in the Eastern Gulf of Mexico.

That’s a 10-year supply at today’s demand rate. And if history is a reliable guide,

as more exploration takes place, these estimates could turn out to be very conservative.

In the West, there is more than 290 Tcf of technically recoverable gas located on

federal lands, but nearly half is either closed to exploration or so highly restricted

it’s not economic to explore. (Source: National Petroleum Council Natural Gas

Study, December 1999)

To increase supply, we have to attack the problem on several fronts:

First, Congress needs to come up with a solution that will lift the moratoria on

certain federal acreage where the resource base is the greatest.

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We’re not asking that Congress open up every acre of federal land. But there are

areas where we can explore and develop a lot of oil and gas without harming the

environment. We’ve proved that’s possible by using advanced technology that’s getting better every day.

(Slide 4: Alpine—A new Approach)

A great example is the Alpine field Anadarko is a partner in on the North Slope

of Alaska—a little over 100 miles west of the coastal plain of ANWR. We’ve developed this 430 million barrel field from gravel pads totaling less than 100 acres using

multi-lateral well completions. Today, Alpine is producing over 100,000 barrels a

day.

In Alaska, tools such as ice pads and roads, multilateral well completions and reinjection of drilling wastes allow us to minimize the impact on the tundra. We use

a variety of different tools to tackle other complex exploration and development

challenges all over the world—safely and responsibly.

Second, federal land management agencies need to detangle the administrative

bureaucracy and eliminate unnecessary leasing and permitting delays that discourage exploration. In high-cost areas, delay is denial, whether it’s due to regulatory

inefficiency or to lawsuits that can stall projects for months or even years. If we

could speed up permitting and reduce the threat of litigation, we’d see an immediate

increase in exploration.

(Slide 5: Grass Roots Timeline)

As this slide illustrates, when you consider the fact that wildlife restrictions and

other stipulations prevent us from operating more than half the year in some areas

of the West, and you factor in all the steps it takes to permit a well, it can take

six to seven years just to reach the development drilling stage. And that makes no

sense. The administration took a good first step by ordering fast-track updates of resource management plans in the West. But we need more staff at the BLM to review backlogged applications, and we need a consistent play book to tell us upfront

what we must do to get our projects permitted.

The administration also needs to remove unnecessary regulatory barriers to pipeline permitting, so we can unlock stranded gas from the West... and one day bring

Arctic gas to the Lower 48.

In the future, we will have to rely on LNG to help close the supply gap, so the

third thing we need is to be able to permit and build regassification terminals—

quickly.

Let me make an important point about LNG: We cannot import our way out of

this supply crunch, either with Canadian gas or LNG, as we have done with imported oil. Even if we start permitting new import facilities today, it will take 5 to

10 years to meaningfully increase our supply of LNG. So this is a long-term solution, albeit an important one.

Next, let’s look at exploration incentives: A number of incentives were included

in legislation passed by the House, and they’re being considered by the Senate.

These would enhance existing royalty reductions for deep water and deep gas

projects offshore... allow accelerated amortization of G&G costs and delay rental

payments’ provide seven-year depreciation for gas gathering lines... and renew Section 29 production tax credits for unconventional gas.

As I said a moment ago, most of the remaining resource is unconventional or in

deep water, so these incentives will be important to helping producers develop more

of our domestic resources.

We know these incentives work. Passage of Section 29, for example, led to a tripling in the production of non-conventional gas, and it resulted in innovation in

drilling and completion technology. (Source: Gas Technology Institute)

We do have the ability to increase domestic supplies—and in doing so increase

U.S. energy security—but only if we have the political will to do so.

Ladies and gentlemen, as a nation, we face a serious energy challenge. Industry

is working as hard as it can to produce new supplies. New technology and good

management practices allow us to do so in environmentally acceptable ways, with

less and less temporary surface disturbance. But the vast energy resource potential

that could address this challenge is under the control of the federal government, and

only the government can unlock it.

We must begin to make changes today—changes in federal land use policy and

in how we balance environmental concerns with economic considerations—if we

want this safe, environmentally friendly fuel to be available to Americans at prices

they can afford.

Thank you for the opportunity to address you today. Our industry looks forward

to working with you to provide our country with the affordable, reliable energy supplies that are critical to a strong, growing economy.

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Chairman TAUZIN. Thank you, Mr. Sharples.

Likewise, we want to welcome the President and Chief Executive

Officer of Consumers Energy on behalf of the American Gas Association, Mr. Carl English.

Mr. English, you are recognized, sir.

STATEMENT OF CARL L. ENGLISH

Mr. ENGLISH. Thank you, Mr. Chairman. Good morning.

As you indicated I am the President and Chief Executive of Consumers Energy, a publicly owned gas utility based in Jackson,

Michigan.

I am appearing today also on behalf of the American Gas Association and its 191 member companies. AGA’s membership includes

natural gas distribution companies and utilities serving more than

53 million of our Nation’s homes, businesses and industries. We appreciate the opportunity to share the industry’s views with you on

the urgent need for ample natural gas supplies to be made available at competitive prices.

Natural gas is the most popular home heating source in America

and for a good reason. More than 50 million households have chosen natural gas heat because it is comfortable, efficient and reliable. Natural gas is also the fuel of choice for America’s economic

prosperity and is gaining in popularity as a fuel source for electric

generation, as you know.

The current natural gas crunch has exposed millions of families

to a roller coaster ride of prices. Two of the last three winters have

seen abnormal and often record cold temperatures. Demand spikes

saw prices skyrocket, jumping as much as 70 percent in 1 year.

Prices increased because the extremely tight balance between supply and demand hasn’t eased. Even with the return to summer, the

wholesale price of natural gas is twice as high as it was last year

at this time.

In addition to heating the majority of American homes, natural

gas also forms the energy backbone of the manufacturing sector.

More than 50 percent of the natural gas consumed in the United

States is used by factories and other industrial customers. In a

world market, domestic manufacturers cannot remain competitive

with natural gas prices that are two and three times higher than

they were just a few years ago.

The impact upon the residential customer cannot be minimized.

Customers of Consumers Energy system have experienced the price

for natural gas go from $2.84 a thousand cubic feet in 2000 to currently $5.18 per thousand cubic feet. The increase of gas prices we

are experiencing today could unleash a fire storm of protest in the

fall and winter of this coming season as many consumers see their

natural gas bills double. Families will again be forced to make active decisions among paying the gas bill, paying the mortgage, or

saving for future college educations. State regulators will be facing

rate hike requests by utilities that will need to pass these price increases on to customers.

Fortunately, this Congress has supported programs to assist the

most needy through the LIHEAP program. This program provides

needed financial assistance to pay heating bills, especially senior

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citizens on a fixed income and those citizens caught between living

comfortably and living day to day.

Last month, Federal Reserve Board Chairman Alan Greenspan

emphasized the contradictions in Federal policies that have led to

us where we are now, policies that promote increased use of natural gas particularly for electric power generation while clamping

down on access to supply. We look forward as well to hearing the

Chairman’s comments today.

We are in a growing market, and the demand for natural gas in

the United States is expected to increase 50 percent in the 2015

to 2020 timeframe. In Michigan, more than 4,600 megawatts of

new generation that is exclusively gas fired has come on line just

since 2000. This represents a 20 percent increase in in-State electric generation supply, all fueled by natural gas.

The natural gas industry is definitely at a crossroads. It is incumbent upon industry and policymakers to make the right

choices.

The House should be commended for taking positive action in

April by passing an energy bill that supports increasing supply. We

also congratulate the House for addressing the energy tax issues

and allowing for accelerated depreciation of natural gas distribution lines. This legislation will serve as a down payment on America’s energy future.

To wholly secure that future, AGA has developed a list of

prioritized proposed solutions: First and foremost, the smart, safe,

and environmentally responsible exploration of untapped resources

in several areas of the United States. In addition, we also need an

increased focus on nontraditional energy sources, such as liquefied

natural gas.

The complete detailed list of the solutions is in my written testimony. We have the technology, the ingenuity and the drive to succeed. I am confident that if we use the opportunities before us

today we will make the right decisions for the future and for tomorrow. Thank you.

[The prepared statement of Carl L. English follows:]

PREPARED STATEMENT OF CARL ENGLISH, PRESIDENT AND CHIEF EXECUTIVE

OFFICER, CONSUMERS ENERGY ON BEHALF OF THE AMERICAN GAS ASSOCIATION

Good morning. I am Carl English, President & Chief Executive Officer—Gas of

Consumers Energy in Jackson, Michigan. I am testifying today on behalf of the

American Gas Association in Washington, D.C. (‘‘AGA’’) and its natural gas utility

members. AGA is grateful for the opportunity to share its views with you 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.

AGA is composed of 191 natural gas distribution companies, which deliver gas

throughout the United States. Local gas utilities deliver gas to more than 64 million

customers nationwide. AGA members deliver approximately 83 percent of this natural gas.

Our 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. Last year, this Committee addressed the safety issue by

taking a balanced approach to the important issue of pipeline safety, and we thank

you, Mr. Chairman and members of the committee, for having done so. Safety is a

critical issue for the industry. Likewise, today having an ample supply of natural

gas at reasonable prices is a critical issue for AGA and its members. AGA members

and the consumers they serve share both an interest and a perspective on this subject.

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It is important for you to understand that the bread and butter business of AGA

members is acquiring and delivering natural gas to residential, commercial, and industrial 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 the oil and gas business, whether they are major, independent,

or ‘‘Mom and Pop’’ operators. We are not here to speak for them today, but their

continued success in providing natural gas to America’s consumers is of the utmost

importance to us as well. Today we are here to speak for consumers who want reasonable heating bills and good jobs.

AGA is encouraged that Congress is addressing this increasingly critical issue.

Earlier this year we were privileged to testify before both the Senate Energy and

Natural Resources Committee and the House Resources Committee with regard to

the challenging issue of natural gas supply. We also are gratified that H.R. 6, the

Energy Policy Act of 2003, which was passed by the House of Representatives in

April, 2003, contains a wide array of provisions designed to bring forth more of

America’s prodigious supply of natural gas to benefit consumers. That bill is without

question more focused on natural gas supply than were the iterations under consideration in 2001 and 2002.

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 two 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.

AGA wishes to commend the leadership of the Committee for convening this important hearing so promptly upon the heels of the passage of H.R. 6. To be sure,

there has been a crescendo of public policy discussion with regard to natural gas

supply since the ‘‘Perfect Storm’’ winter of 2000-2001. Nevertheless, in the several

weeks since AGA last testified on Capitol Hill—in February and March of this

year—the volume and the tenor of this discussion have increased dramatically. Simply put, this issue becomes more critical with every passing day.

Since the beginning of this year, natural gas has been trading in wellhead mar- kets throughout the nation at prices floating between $5 and $6 per thousand cubic

feet. This has not been a ‘‘price spike’’ of the sort that we have seen in the past

lasting several days or perhaps several weeks. Rather, it has been sustained over

a period of several months. And there is no sign that it will abate in the near future.

Indeed, quotes for futures prices on NYMEX over the next 24 months have reached

a consistent record level mirroring current cash prices.

In the course of the last several months, business consumers of natural gas have

been raising a cry of concern over natural gas prices. And this concern has touched

businesses of all stripes. In Connecticut, for example, pizza shops complain that

their natural gas bills have increased $500-700 per month. The chemical and pharmaceutical industry, which uses 10% or more of the U.S. gas supply annually, has

been reeling from increased natural gas prices. It has been projected that the chemical industry in Louisiana will lose at least 2,000 jobs as a result of high gas prices.

Similarly, a major chemical company in Mississippi has declared bankruptcy, citing

natural gas prices. That industry needs gas prices between $2.50 and $3.00 per

thousand cubic feet to remain competitive on the world stage, while prices since the

beginning of the year have been averaging in the range of $5.00 per thousand cubic

feet. Similarly, fertilizer plants, where natural gas can represent 80% of the cost

structure, are closing one facility after another. Glass manufacturers, which also use

large amounts of natural gas, have reported earnings falling by 50% 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.

Businesses and factories tend to purchase most of their own gas, and they very

quickly feel increases in prices. Residential customers, in contrast, typically rely

upon their local utilities to act as merchants on their behalf. As a result of the manner in which state-approved regulatory mechanisms operate, most consumers will

not begin to feel current high gas prices for months.

From the point of view of the residential consumer, some families will pay hundreds of dollars more to heat their homes this winter, which will be hundreds less

to spend on other things. Families will again be 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. This winter the potential price increases will affect all families—

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those on fixed income, the working poor, and the lower-income group as well as

those caught between living comfortably and living day to day.

The level of gas prices we are experiencing today could unleash a firestorm of protest in the fall and winter of this year as some consumers may see their natural

gas bills double. The next twelve months may make the winter of 2000-2001 look

tame from the perspective of consumers, regulators, and legislators. Some forwardlooking state public utility commissions, having learned from the 2000-2001 experience, are beginning to express concern over the possible impact of the winter of

2003-2004. We are pleased that Ohio Public Utility Commissioner Donald Mason is

here today to express those concerns. The Secretary of Energy has also called for

an extraordinary meeting of the National Petroleum Council to address the situation.

These are but the first few alarms in what seems likely to become a very difficult

year. Moreover, unless we make the proper public policy choices—and quickly at

that—we will be facing an even more difficult several years.

The natural gas industry is presently at a critical crossroads. The question before

you 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?

For the past three years, natural gas production has had to operate full-tilt to

meet consumer demand. The ‘‘surplus deliverability ’’ or ‘‘gas bubble’’ of the late

1980’s and 1990’s 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 are today, wide open.

The supply tightrope has brought with it several inexorable and unpleasant consequences—prices in the wholesale market have gone up 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.

In Michigan the average price of natural gas on the Consumers Energy system in

2000 was $2.84 per thousand cubic feet. In 2002 the price was $3.80. Today the

charge is $5.18. 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 us (and to you as well) that consumers do not like these

price increases and that they do not like the market volatility that is now an everyday norm. Unless significant actions are taken on the supply side, gas markets will

remain tumultuous, and 64 million gas customers will suffer the consequences. Today’s recurrent $5 price levels may represent a new, and regular, level of natural

gas prices for the foreseeable future, although this prospect can be moderated with

aggressive and enlightened public policy.

As gas utilities, we do have a number of programs in place to insulate consumers

to some extent from the full impact of wholesale price volatility, but consumers

must ultimately still pay the price that the market commands. We believe that

there will be considerable economic and political pushback should natural gas prices

stabilize at the current $5 level for anything but a brief period of time.

The problem that we face today is not simply one of finding means to meet current demands in the market for natural gas. Rather, we are in a growing market,

and the demand for natural gas in the U.S. is expected to increase 50 percent by

2015-2020. Growth seems inevitable because gas is a clean, economic, 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.

A significant sector where growth is occurring is electric generation. Nationwide

most new electric generation is expected to be gas fired. In Michigan more than

4,600 megawatts of new gas-fired generation has come online since 2000. This represents a 20% increase in the state’s capacity.

The challenge for both government and industry is quite straightforward: to ensure that the current need for natural gas is met and that the future need for natural gas will also be met—both at reasonable and economic prices. There can be no

responsible question that facilitating this result is sound public policy. Natural gas

is abundant domestically, and natural gas 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 where natural gas is already known to exist so gas can be proVerDate 11-MAY-2000 12:34 Aug 25, 2003 Jkt 000000 PO 00000 Frm 00037 Fmt 6633 Sfmt 6621 88422.TXT HCOM1 PsN: HCOM1
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duced on an economic and timely basis; (3) ensuring that the new infrastructure

that will be needed to serve the market is in place in 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 in

the U.S. than we estimated twenty years ago, notwithstanding the production of between 300 and 400 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. But having the natural gas is not the same as making

that 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 our industry. We are able today to

drill for gas with dramatically greater success and with 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 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.

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 our 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, while it may take forty more 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 also tend to have short lives and significantly

more rapid rates of decline in production than is the case with onshore wells.

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 and why the winter of 2000-2001 may

become a regular occurrence, particularly at the point the economy returns to its

full vigor. Having the winter of 2000-2001 return every year will undoubtedly put

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 of the

tiller or to wait three or four more years to push it over full. Rather, we must come

full about, 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. And, as I hope you do understand, 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 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 seVerDate 11-MAY-2000 12:34 Aug 25, 2003 Jkt 000000 PO 00000 Frm 00038 Fmt 6633 Sfmt 6621 88422.TXT HCOM1 PsN: HCOM1
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verely restricted. The potential for increased production of natural gas is severely

constrained so long as these restrictions remain in place.

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 was restricted from development to

some degree, some partially and some 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 Canada 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 the offshore Atlantic area to have 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 back 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, 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 halfcentury 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 diet 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 such a thesis lightly. Over the past two 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 that

policy makers 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 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. Yet 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 thirtyyear 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 enVerDate 11-MAY-2000 12:34 Aug 25, 2003 Jkt 000000 PO 00000 Frm 00039 Fmt 6633 Sfmt 6621 88422.TXT HCOM1 PsN: HCOM1
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ergy 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 onethird of the planet’s economic output. And 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 today accomplished 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 winter of 2000-2001. We may be seeing it today on a longer-term basis.

In the 1980s and 1990s, when the wholesale (wellhead) price of traditional nat- ural 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. However, 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 50 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 99 percent of U.S. gas supply comes from traditional land-based and offshore supply areas in North America. But, 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 1 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 10-15 percent of domestic gas consumption 15-20 years from now if pursued aggressively and if impediments are reduced.

Third, we must tap the huge potential of Alaska. Alaska is estimated to contain more than 250 trillion cubic feet—enough by itself to satisfy US natural 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 yet 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 15 percent of the

37

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 lay ahead in the United States.

RECOMMENDATIONS

To promote meeting consumer needs, economic vitality, and sound environmental

stewardship, the American Gas Association urges the Congress as follows:

• Current restrictions on access to new sources of natural gas supply must be reevaluated in light of technological improvements that have made natural gas

exploration and production more environmentally sensitive.

• Federal and state officials must take the lead in overcoming the pervasive ‘‘not

in my backyard’’ attitude toward energy infrastructure development, including

gas production.

• 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 lease,

lease review, and permitting procedures.

• Federal lands must continue to be leased for multi-purpose use, including oil and

gas extraction and infrastructure construction.

• 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.

• 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’’.

• Existing moratoria for onshore lands should be lifted.

• 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 Destin Dome (181 lease area) should immediately be offered for lease for

oil and gas exploration.

• 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.

• 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.

• 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.

• The Coastal Zone Management Act (CZMA) is being used to threaten or thwart

offshore natural gas production and the pipeline infrastructure necessary to deliver natural gas to markets in ways not originally intended. 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.

• 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.

38

• 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.

• 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.

• 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.

• Efforts should be made to encourage existing LNG terminals to commence operating at full capacity at the earliest opportunity.

• 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.

• 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 will certainly increase this winter,

and LIHEAP appropriations should be increased to $3.4 billion—up from $2.0

billion of total assistance in 2003

• Should gas supplies become extremely tight, the federal government and the

states should consider easing environmental restrictions on a temporary basis

so that electric generating facilities and industrial facilities can switch to alternative fuels.

• States should be encouraged to authorize local utilities to enter into fixed-price

long-term contracts and to enter into natural gas hedging programs as a means

to dampen the impact of natural gas price volatility upon consumers.

Chairman TAUZIN. Thank you, Mr. English.

The Chair now recognizes Mr. Robert Liuzzi, the President and

CEO of CF Industries, on behalf of the Fertilizer Institute which

for the record uses natural gas as a raw material source, not just

as a power source.

Mr. Liuzzi.

STATEMENT OF ROBERT C. LIUZZI

Mr. LIUZZI. Thank you, Mr. Chairman, members of the committee.

The situation that the opening remarks addressed, the volatility

in the level of price, has created an extremely bad situation for the

nitrogen fertilizer business. The situation has resulted in the closure of 20 percent of U.S. nitrogen capacity and another 25 percent

has been idled. I am here to urge the Congress and this committee

to take action on a comprehensive energy policy to deal with the

issue.

CF is a farmer-owned cooperative. We are one of the largest nitrogen producers in North America. We operate large facilities in

Donaldsonville, Louisiana, and Alberta, Canada. In Louisiana, we

employ over 500 people on a full-time basis, which accounts for $46

million a year in wages, $8 million in sales and property taxes.

During a normal production year, the facility converts 78 million

BTUs of natural gas into 2.25 million tons of ammonia, 1 and three

39

quarter million tons of urea and over 2 million tons of nitrogen solution.

CF Industries through its members accounts for one-fourth of all

nitrogen applied to the ground in the United States and one-third

of all the nitrogen used in the Midwest. Through our owners, our

phosphate and nitrogen products reach a million farms and

ranches in 48 States and two Canadian Provinces.

As the chairman mentioned, we are slightly different than testimony previously. Natural gas is my raw material, my feedstock. It

is—the primary product we make, anhydrous ammonia and gas, accounts for 90 percent of the total cash cost of ammonia production.

Ammonia is also the basic building block for dry nitrogen such as

urea and nitrogen solutions. It is also a raw material for ammoniated phosphatic fertilizers.

Because it is the raw material of the feedstock, the current situation is having a devastating impact on our business. As you are

aware, prices began to steadily increase in early 2000, rising to almost $10 per million BTUs in January of 2001. You can imagine

what that did to fertilizer production costs.

Not surprisingly, in response, the industry began to shut down

production. Operating rates by the end of January in 2001 had

dropped to a low of 46 percent. That compares to an average operating rate during the 1990’s of about 92 percent. We saw moderation after that, but then we saw escalation again. February of this

particular year, spot natural gas prices soared to a record high of

almost $20 per million BTUs. Although they again moderated, they

remain well above historical averages. As I mentioned, we have

suffered permanent closures and protracted idling of facilities.

What does this all mean to fertilizer manufacturers or to U.S. agriculture? During the 1990’s, about three-quarters of all nitrogen

consumed in America was supplied by domestic production, 15 percent came from Canada, and 10 to 15 percent was sourced offshore.

Plant closures affect rural economies. Chemical operating jobs are

very high-paying jobs. The continued scenario of high prices for gas

undoubtedly will lead to more closures and abandonment of the infrastructure and the people that support the fertilizer business.

One of the most disturbing aspects of this particular situation is

that it has created for U.S. farmers an issue of reliability of supply.

Imports cannot come in to fill the gap that will result from permanent closure of plants in the United States.

The infrastructure even on the Gulf Coast, Mr. Chairman, is not

sufficient to bring product in from Russia or other places, move it

through the inland waterway system and get it where it is needed

when it is needed, a short planting period that uses large amounts

of fertilizer.

Furthermore, imports will not lower prices to American farmers.

U.S. Plants will run as long as they can cover their cash cost to

production. The U.S. producer is the marginal supplier to the U.S.

market, and consequently imports will be priced just under that

level.

Congress, we believe, has to adopt, as everyone has said already,

a two-pronged approach. We have got to expand supply, whether

that is drilling in areas that are currently prohibited in various

parts of the gulf, and we have got to curtail an artificially induced

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demand, particularly for electric power generation. Going forward,

90 percent of all power plants will burn natural gas.

I am running over, Mr. Chairman. I thank you for the opportunity to be here. I will say that all the others have adequately

summarized many aspects of my testimony. It is all in the record.

Thank you, sir.

[The prepared statement of Robert C. Liuzzi follows:]

PREPARED STATEMENT OF ROBERT C. LIUZZI, PRESIDENT, CF INDUSTRIES, INC. ON

BEHALF OF THE FERTILIZER INSTITUTE

On behalf of The Fertilizer Institute, CF Industries, Inc. is pleased to have the

opportunity to discuss the urgent situation currently facing the U.S. fertilizer industry. The volatility and level of U.S. natural gas prices, virtually unprecedented in

the history of our country, has resulted in the permanent closure of almost 20% of

U.S. nitrogen fertilizer capacity and the idling of an additional 25%. This situation

threatens to destroy an efficient U.S. industry and displace the thousands of workers who support it. Congress must pass a comprehensive energy policy that addresses both the supply and demand aspects of the natural gas market. This is crucial

to the long-term survivability of the U.S. fertilizer industry.

The Fertilizer Institute (TFI) represents fertilizer from the plants where it is produced to the plants where it used—and all points in between. Producers, retailers,

trading firms and equipment manufacturers, which comprise TFI’s membership, are

served by a full-time Washington, D.C., staff in various legislative, educational and

technical areas as well as with information and public outreach programs.

As a general background, CF Industries is a farmer-owned cooperative and is one

of the largest nitrogen fertilizer producers and marketers in North America. The

Company is headquartered in Long Grove, Illinois. CF operates world-scale production facilities in Donaldsonville, Louisiana, and Medicine Hat, Alberta, Canada. In

Louisiana, CF currently employs 507 full-time and contract workers. This facility accounts for $46 million a year in wages and $8 million in sales and property taxes.

During a normal production year, the facility converts approximately 78 million

MMBtu of natural gas into 2.25 million tons of ammonia, 1.75 million tons of urea,

and 2.15 million tons of UAN. The Complex has a daily requirement of over 200

million cubic feet of natural gas as a feedstock and fuel.

CF and its Member cooperatives account for approximately one-fourth of the nitrogen fertilizers applied in the United States and approximately one-third of the nitrogen fertilizers applied in the primary growing areas of the Midwest. The Company

also mines and manufactures phosphate fertilizers in Hardee County and Plant

City, Florida. Through its eight Member-owners, CF’s nitrogen and phosphate fertilizer products reach one million farmers and ranchers in 48 states and two Canadian provinces.

My purpose today is to discuss the devastating impact that the high level and unprecedented volatility in natural gas prices is having on both the fertilizer industry

and the American farmer. To fully understand why increased and volatile natural

gas prices are creating such fundamental difficulties for the nitrogen fertilizer industry, a basic understanding of our products and manufacturing process is necessary.

Natural gas is the primary feedstock in the production of virtually all commercial

nitrogen fertilizers in the United States (Figure 1). And it is important to be very

clear about this: natural gas is not simply an energy source for us; it is the raw

material from which nitrogen fertilizers are made. Our production process involves

a catalytic reaction between elemental nitrogen derived from the air with hydrogen

derived from natural gas. The primary product from this reaction is anhydrous ammonia (NH3). Anhydrous ammonia is used directly as a commercial fertilizer or as

the basic building block for producing virtually all other forms of nitrogen fertilizers

such as urea, ammonium nitrate and nitrogen solutions, as well as diammonium

phosphate and mono-ammonium phosphate. Natural gas is also used as a process

gas, an energy source, to generate heat when upgrading anhydrous ammonia to

urea, but this use is minor compared to our use of natural gas as a raw material.

Natural Gas (CH4) + Air (N2) ‰ Anhydrous Ammonia (NH3)

Because natural gas is the only economically feasible raw material used in producing nitrogen fertilizers, it is by far the primary cost component. Today, in the

case of ammonia, natural gas accounts for 90% of the total cash cost of production

(Figure 2).

41

Given this heavy reliance on natural gas, the volatility of natural gas prices continues to have a devastating impact on the domestic fertilizer industry. This can be

clearly demonstrated by comparing natural gas costs, production costs and U.S. nitrogen fertilizer operating rates. As you are well aware, natural gas prices began

to steadily increase during calendar year 2000, rising from an average of $2.36 per

MMBtu in January to over $6.00 per MMBtu in December, 2000 and to a record

$10 per MMBtu in January 2001 (Figure 3). In turn, this forced fertilizer production

costs to unprecedented levels. Ammonia production costs, for example, spiked up

from approximately $100 per ton to $170 by June 2000, to $220 per ton in December, and to an average of over $350 per ton in January 2001.

Not surprisingly, the industry began to shut down production in response (Figure

4). By the end of December 2000, the U.S. nitrogen operating rate fell to below 70%

of capacity. By the end of January 2001, operating rates dropped to an all-time low

of only 46%. To put this into perspective, the average U.S. operating rate during

the 1990s was 92% (Figure 5).

Following this natural gas spike, gas prices began to moderate and by mid-2001

had fallen back to historic levels. In response, idled capacity in the U.S. quickly

came back on-stream, and the industry operating rate climbed to just under 90%

of capacity.

Unfortunately, the lower natural gas prices and higher operating rates were

short-lived. By mid-year 2002, natural gas prices once again began to slowly escalate until February 26, 2003, when spot natural gas prices suddenly spiked to a

record high of over $20 per MMBtu. Although natural gas prices again quickly moderated, they have remained well above historic averages. Gas prices over the last

month, for example, have been trading in the $5.50-$6.50 range—approximately

150% above the 1990s historic average of $2.40.

The sharp rise in natural gas prices and the resulting curtailment of U.S. fertilizer production also has had a dramatic impact on fertilizer prices throughout the

marketing chain and, in particular, at the farm level. Nitrogen prices at the farm

level, for example, jumped this year to near-record high levels. According to USDA

data, the U.S. average farm-level price for ammonia jumped this spring to $373 per

ton compared to an average spring price last year of $250. Similarly, urea prices

have climbed from $191 to $261 and UAN prices from $127 to $161. This translates

into an increase in cost to a typical Midwest corn farmer of $10 to $15 per acre (Figure 6).

Unfortunately, there appears to be no end in sight. According to Department of

Energy (DOE) Secretary Abraham, current stocks of natural gas are low due to a

combination of cold weather and declines in both domestic production and net imports. The 696 billion cubic feet of gas in storage this spring represented the lowest

level since 1976, when the Energy Information Agency began keeping records. Storage has increased since that time, but it is still only half the level of a year ago,

and 42% below the previous five-year average. According to most industry analysts,

the current tight inventory situation will likely keep natural gas prices at extremely

high levels throughout the remainder of this year and into next year.

Absent a substantial long-term reduction in natural gas prices, the U.S. nitrogen

fertilizer industry and, therefore, farm-level supply is at serious risk. Of the 20 million tons of ammonia capacity that existed in the U.S. prior to 2000, approximately

3.5 million tons have already been permanently closed. According to a recent study

completed by Fertecon, (Figure 7) the world’s largest fertilizer consulting company,

another four million tons is at risk of closing within the next two years. In addition,

it is anticipated that the remainder of the industry will likely operate on a ‘‘swing

basis.’’ That is, plants will only run when natural gas prices are low enough and/

or fertilizer prices are high enough that producers can, at a minimum, cover their

cash costs of production (Figure 8).

So what does all of this mean to American fertilizer manufacturing and for U.S.

agriculture? To fully answer that question, it is necessary to provide some additional

background information. Since the 1940s, when commercial fertilizers were introduced into the market on a large-scale basis, farm demand for nitrogen fertilizers

was always supported by a large, efficient, domestic fertilizer industry. During the

1990s, for example, approximately 70-75% of the nitrogen fertilizers consumed by

American farmers was supplied by domestic production with another 15% supplied

from nearby Canadian plants. The remaining 10-15% of the volume was sourced

from offshore suppliers (Figure 9).

At the heart of the domestic fertilizer industry are production facilities designed

to manufacture fertilizer products annually at full capacity. Many of these facilities

are located near the source of raw materials but far from the major consuming regions. Furthermore, it is important to understand that most U.S. nitrogen fertilizer

is consumed within a very short time frame in the fall and spring application seaVerDate 11-MAY-2000 12:34 Aug 25, 2003 Jkt 000000 PO 00000 Frm 00045 Fmt 6633 Sfmt 6621 88422.TXT HCOM1 PsN: HCOM1
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1 Bongiorni, S. (2003, May 11). Overseas business threatens Louisiana’s chemical industry.

The Baton Rouge Advocate.

sons. As a result, an extensive distribution and storage infrastructure has been developed over the years to bridge this geographic and seasonal gap to ensure that

American farmers would have adequate supplies at the right time. This system is

specifically designed to move and handle large volumes of product from domestic

production sites to the major consuming areas. Thus, the distribution and storage

infrastructure is purposely integrated into the domestic production system to ensure

efficiency, economies of scale and reliability of supply.

Domestic fertilizer manufacturing facilities have historically provided top-paying

jobs and additional employment opportunities in local communities. According to a

recent Baton Rouge Advocate article 1, jobs in chemical manufacturing are at the top

of the pay scale among Louisiana manufacturers. The average chemical industry

wage in February was $25.23 per hour, with a 44.2-hour workweek producing

$1,115 per worker per week, compared to a general manufacturing wage of $17.63

per hour or $756 on a 42.9-hour workweek. Chemical industry jobs also have a high

multiplier effect. In East Baton Rouge Parish, for example, each chemical job is estimated to support another 4.6 positions in the overall job market.

A scenario of continued high natural gas prices will undoubtedly lead to more U.S.

plant closures and abandonment of marginally profitable infrastructure in rural

communities. While higher volumes of imports will fill part of the potential loss in

U.S. supply, domestic production and distribution must remain viable to fully meet

farmer demand. Because the current distribution and storage system within the

U.S. was constructed around a U.S. supply base, there is limited infrastructure to

off-load, store and transport larger and larger volumes of imports. The lack of infrastructure is particularly apparent for anhydrous ammonia, which requires refrigerated or pressurized tanks, pipelines, railcars and barges. Massive new investment

and considerable lead-time will be needed if the existing infrastructure assets are

left permanently stranded. Much like the proposed improvements to liquefied natural gas infrastructure, restructuring the domestic fertilizer distribution system to

efficiently handle adequate levels of imports will be on a decennary time scale.

The answer is not simply to say that we will just rely on imported fertilizer. Increased reliance on imports would also result in a considerable increase in the potential for supply and price volatility. The vast majority of the U.S. industry was

constructed to meet U.S. demand. Offshore supply, on the other hand, was largely

constructed to opportunistically compete in a world market. In other words, putting

aside unfairly traded product, cargoes are generally sold and shipped to those international markets that will yield the highest netback prices. Imports are also subject

to changes in world economic conditions, fluctuating exchange rates and political

and/or policy changes in other countries.

Moreover, increased U.S. reliance on imports will not result in lower prices for

U.S. farmers. Nitrogen fertilizers are a fungible commodity product for which prices

are set by supply/demand conditions and, therefore, by the cash costs of the marginal producer. Under a continued environment of high natural gas costs, the marginal supplier to the market will be the U.S. producer. Consequently, higher import

volumes will not translate to lower prices to U.S. farmers.

High natural gas prices present the most serious threat to the fertilizer sector,

and to farmers in general, since the energy shocks of the 1970s. The fertilizer industry believes it is imperative that the U.S. develop a comprehensive and balanced energy policy—one that encourages the development of additional supplies and, at the

same time, promotes the efficient use of a variety of energy sources and technologies.

More specifically, the fertilizer industry stresses that the most effective measure

to deal with high natural gas prices over the short-term are incentives and other

regulatory measures that will reverse decades of artificially induced demand for natural gas over other fuel technology for electric power generation. Congress itself is

among those who share in the responsibility for this problem, as the requirements

of the Clean Air Act have made it increasingly difficult to permit, construct and enlarge the nation’s coal-fired plants. Where the nation once relied on coal for the

lion’s share of its electric power, over 90% of all new power plant construction intends to rely on natural gas. Recent proposals to impose further rules on mercury

and CO2 emissions will only add to the burden of coal-fired generators and hasten

the move to natural gas. This, of course, will cause a tremendous new demand to

be placed on the existing gas supply base, ensure high prices into the foreseeable

future, and threaten the viability of the domestic nitrogen fertilizer industry—an industry, unlike the electric power industry, that does not have an alternative to natural gas. Accordingly, any legislation passed by this Committee should ensure that

43

all coal, nuclear and hydroelectric plants are able to operate safely at their full capacity, and that incentives are provided and obstacles removed to ensure that new

coal and nuclear facilities are constructed.

The fertilizer industry also supports a thorough review of those policies that severely restrict oil and gas production on multiple-use federal lands and large portions of the continental shelf. We believe that access to these reserves can be substantially beneficial towards meeting the Nation’s energy needs without compromising other legitimate interests.

For those of us in the fertilizer industry, ‘‘the future is now.’’ We encourage this

Committee, the Congress, and the Bush Administration to continue to aggressively

look for ways to even further expedite projects which not only increase supplies, but

also help get supplies to the fertilizer industry in the near term. We think bold, creative initiatives are needed. In fact, we understand that domestic supplies are being

found which cannot get to market because the delivery systems are just not there.

Anything that this Committee, the Congress and the Administration can do to expedite the creation of new modes of delivery for untapped domestic natural gas supplies or to facilitate imports can help our industry in the immediate future. This

can take the form of new pipelines and even more innovative solutions such as encouraging the development of the maritime transportation of natural gas in the form

of compressed natural gas or CNG.

Specifically, I would like to commend this Committee and the Congress for its efforts just completed last year to facilitate the importation of new supplies of natural

gas by enacting provisions of the Maritime Transportation Security Act of 2002 that

created deepwater natural gas ports. This is an important first step in helping to

increase natural gas availability in the United States and help to bring supply and

demand back into better balance.

There is a deep-water port project right off the Louisiana coast that can come onstream sooner rather than later because of its unique history. Freeport-McMoRan

Sulphur LLC’s permit is to be submitted in the next few months to the Coast Guard

and other agencies for regulatory approval. Freeport is currently working to convert

this massive offshore complex that once produced sulfur, to a deepwater natural gas

port. The ‘‘Main Pass Energy Hub,’’ will offload LNG from tankers and re-gasify the

gas on the platforms formerly used for sulfur production. Since the facility is located

on a giant salt dome—two miles across in diameter—Freeport envisions providing

major storage facilities for the re-gasified gas in salt caverns created and accessed

by wells drilled from the existing platforms. The Department of the Interior would

regulate the storage, in offshore salt caverns, of natural gas produced from outside

the waters of the Outer Continental Shelf (OCS); thereby enabling Freeport to store

imported gas in salt caverns underlying OCS waters.

In addition to this unique project and to substantially increase the supply of natural gas in the market, we urge that Congress encourage the development and acceptance of the maritime transportation of natural gas in the form of compressed

natural gas or CNG. As opposed to LNG, where natural gas (methane) is cooled and

stored as a liquid, the CNG gas remains in the gaseous phase and is stored under

such pressure so that it is compressed. This enables the transportation and storage

of a much greater volume of gas.

Although the technology of maritime transport of LNG has become accepted for

use in the waters of the United States, the technology of maritime transport of CNG

is now under review. The potential for the acceptance of maritime transport of CNG

to increase natural gas supplies is tremendous because it is less expensive and is

within shorter distances than LNG to transport and re-gasify.

Its acceptance will enable the production and delivery to market of a gas produced

in federal waters of the Gulf of Mexico that would otherwise be uneconomical to

produce. Such gas may either be found underlying the shallow waters of the Gulf

of Mexico where it is economically ‘‘stranded’’ due to distance from a pipeline. It

may be associated with oil produced in the deep waters of the Gulf of Mexico, but

is likewise stranded due to distance from a pipeline. As the oil is produced, the associated gas is pumped back into the geological formation from which it came due to

the uneconomical nature of the process. The Department of the Interior has informed OCS producers that they may return this gas to the reservoir as long as they

have a plan for producing it sometime in the future. The delivery of this gas, as

well as gas produced from elsewhere nearby in the Western Hemisphere will be

made economical with the approval of CNG transport in U.S. waters. We urge the

acceleration of efforts to approve the use of this technology in U.S. waters.

We are in no position to be an expert on Freeport’s project or any other specific

project underway. Regardless, we must urge the Congress and the Administration

to take a very close look and consider expediting permits for any project that can

help save our industry and the jobs that we create. We are very excited about potenVerDate 11-MAY-2000 12:34 Aug 25, 2003 Jkt 000000 PO 00000 Frm 00047 Fmt 6633 Sfmt 6621 88422.TXT HCOM1 PsN: HCOM1
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tial projects that would enhance the supply of gas coming to our Nation on an expedited basis.

In summary, the fertilizer industry believes that a balanced and comprehensive

energy policy is not only long overdue, but also essential to the long-term viability

of this strategic sector. It is also crucial to the American farmer, given that almost

one-third of U.S. crop production is derived from nitrogen fertilizer (Figure 10).

Thank you for the opportunity to discuss these issues with you today. We look

forward to working with you over the next few months, and I would be pleased to

answer any questions you may have on the fertilizer industry and natural gas pricing issues.

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Chairman TAUZIN. Thank you very much, Mr. Liuzzi.

We are pleased to welcome Mr. Forrest Hoglund, Chairman and

CEO of Arctic Resources Company of Houston Texas. Mr. Hoglund.

STATEMENT OF FORREST E. HOGLUND

Mr. HOGLUND. Thank you, Mr. Chairman and members of the

committee. I appreciate the opportunity to testify today.

The most significant action that can be taken to improve natural

gas supplies is defined as an economic and environmentally satisfactory way of accessing the 44 trillion cubic feet of proven reserves

in Alaska and Canada and the 160 trillion cubic feet of Arctic gas

potential. Let me assure you high-cost, mandated pipelines are not

the answer. In fact, Congress is in the midst of playing local politics with the most important energy project in the United States.

The question of tapping Arctic gas has been around for a long

time. Industry studied the situation in the mid-1970’s and almost

all companies agreed one northern route picking up Canadian and

Alaskan gas was the way to go. Two longer and more expensive

pipelines was not the answer. Unfortunately, Canada blocked the

one pipeline answer at that time because aboriginal land claims

were not in place.

Now the route question is back again; and our estimates show

that the two-pipeline Alaskan approach is twice as long, goes

through 900 miles of mountains and is twice the cost of the onepipeline northern route—$14.6 billion versus $7.8 billion.

Not surprisingly, the major producers who want a subsidy don’t

agree. They say that the routes are close in cost, but that claim

should be examined.

First of all, they say it would cost $20 billion to lay clear to Chicago. It doesn’t appear that they need to go beyond Edmonton, Alberta; and that would save $5 billion.

Second, after they saw they might get subsidies, a $4 billion contingency was added to their northern route estimates, apparently

the ice affecting summertime construction. We are proposing wintertime construction.

Also, they never mentioned the additional $3 billion needed for

the Canadian pipeline segment.

The point that should be made is that there are regulatory bodies

in the U.S. and Canada to decide these issues. Congress should not

pick winners or losers on questionable one-sided data.

Who is for the Alaskan approach? The Alaskans, of course, and

two major oil companies who think they can get others to accept

the economic risk. They have convinced Congress to mandate their

line even though the administration is soundly against it.

Also, Canada is not being included in the discussion when twothirds of the Alaskan route goes through Canada. Canada has expressed strong opposition to subsidized natural gas from Alaska

and lately has called for a bilateral commission to analyze the situation. They are in a position to block the projects and have given

indications they might.

Why is Alaska so strongly behind the issue? They want the

short-term construction jobs and profits, plus they would get natural gas to Fairbanks, and that is understandable if the costs

weren’t so huge. On the other hand, they would be giving up an

55

extra $4 to $5 billion in State revenue based on their own estimates due to higher royalty and severance taxes. They would get

more long-term jobs for additional exploration and a better assurance of the project being completed.

There are a lot of things conceptually wrong with the current

proposal being considered in the Senate.

First, why the mandate? Obviously, they are trying to preclude

any other alternatives; and when a mandate is pushed all kinds of

alarms ought to go off in everybody’s ahead. Second, the majors want debt guarantees of up to $18 billion to

take the gas clear to Chicago, which is a gigantic overreach. Normal industry practice would be see how other intersecting pipelines

near Edmonton could carry the gas to market utilizing any spare

capacity and low-cost expansions available.

Third, the majors want a tax credit of up to 52 cents for MCF if the gas prices drop below $1.35 MCF. This basically guarantees

them an 80 cent price. If they have gigantic cost overruns, like they

did when they built the Alaskan oil pipeline, the $18 billion loan

guarantee might be called, but the producers would still get their

80 cents. That is a pretty nice deal.

The proponents say this is similar to a section 29 tax credit. It

is not at all. Section 29 credits are given when you need that to

produce the resource. Here you have a cheaper alternative that you

are trying to mandate out and not even consider.

The intellectual concept behind this U.S. House and Senate action is seriously flawed. People who agree include the Bush Administration, the Democratic Progressive Policy Institute, Taxpayers

for Common Sense, the Wall Street Journal, the Washington Post,

National Environmental Trust, CATO Institute, National Center

for Policy Analysis and a large number of independent producers

and associations.

What should be understood is that Alaska could be the key in

getting this project done right. If they would agree to work for the

most economic and best environmental pipeline, then industry and

government would quickly get behind the right project. When the

energy bill goes to conference I urge you to reconsider the Housepassed route mandate and stay firmly against the need for tax subsidies for Alaskan gas. Let’s pass an Energy Bill that will truly

pave the way for development of Alaskan and other Arctic gas resources.

Thank you, Mr. Chairman.

[The prepared statement of Forrest E. Hoglund follows:]

PREPARED STATEMENT OF FORREST E. HOGLUND, CHAIRMAN & CEO, ARCTIC

RESOURCES COMPANY

Chairman Tauzin, Congressman Dingell, Members of the Committee: Thank you

for the opportunity to speak here today on the importance of adequate natural gas

supplies to our nation’s energy security and economic vitality. My name is Forrest

Hoglund, and I am the CEO of Arctic Resources Company (ARC), a sole purpose

company developed to facilitate permitting, construction and operation of a natural

gas pipeline from Alaska’s North Slope to gas-hungry markets in the lower-48

states.

Chief among this nation’s opportunities to increase our domestic natural gas supplies and increase our energy security is facilitating construction of a natural gas

pipeline from Alaska’s North Slope to markets in the lower-48 states in the lowest

cost, shortest, and most environmentally sensitive manner available. Without Congressional impediments currently included in the House and Senate energy bills, the

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market will ensure that this line is constructed and operates to the benefit of all

natural gas consumers, gas producers and explorers, the U.S. government, U.S. taxpayers, Alaskans, Native Peoples and the Canadian government.

Construction of an Arctic natural gas pipeline is the biggest impact energy project

available and the most important to America today. The question to Congress is

this: Should a pipeline be constructed in the lowest cost and most environmentally

responsible manner that provides the most benefit for taxpayers and natural gas

consumers, or should Congress mandate that a high cost, economically risky project

be undertaken to appease some Alaskan political interests and economically benefit

the largest oil companies in the world by shifting the project risk from the companies to the U.S. tax payers? I submit that if the Congress passes legislation in the

form that is currently being considered, no pipeline will be built.

The construction of an Arctic gas pipeline has an interesting history. There was

a big push by industry, the U.S. and the Canadian governments for construction of

a line 28 years ago. Industry spent about $750 million and almost all the stakeholders decided that a Northern Route was preferable both economically and environmentally. One buried pipeline laid in a good pipeline construction path was much

better than two pipelines, one of which had to run through approximately 900 miles

of mountains. The same remains true today. Unfortunately in the 70’s, due to Aboriginal opposition and Aboriginal land claims that were not settled at that time,

a Canadian Commission called for a 10 year moratorium on a pipeline through the

Mackenzie Valley, and that ended up blocking the Northern Route. With the Northern Route ruled out, President Jimmy Carter approved the Southern route in the

Alaskan Natural Gas Transportation Act (ANGTA), but it was so uneconomic it was

never built. Alaskan politicians and labor unions kept the ANGTA Route as their

dream and kept working to find ways to get someone to subsidize its construction.

Today, Alaska, BP and ConocoPhillips think they have found the way. Both last

year and apparently this year they have convinced Congress to mandate the uneconomic Southern Route. The U.S. Senate is also seriously considering some very

flawed tax and other economic incentives in its energy bill that it knows are needed

since the mandated route is uneconomic. The Bush Administration is firmly against

the mandate and these incentives, and considers that approach bad energy policy

as evidenced in their May 8, 2003, Statement of Administration Policy (attached).

COMPARING THE TWO OPTIONS

The Alaskan proposal requires two pipelines—the Alaskan Highway (or Southern)

Route and another to connect Canadian reserves through the Mackenzie River Valley. Below are maps of the two separate pipeline routes that would be needed to

transport both Alaskan North Slope and Canadian Mackenzie Valley natural gas to

markets.

This Southern Route parallels the oil pipeline right of way to Fairbanks, and then

proceeds down the Alaska Highway to pipeline interconnects near Edmonton, Alberta. Interestingly, two-thirds of the Southern Route line must be laid in Canada.

The Mackenzie Valley only line originates in the Mackenzie River Delta and follows

the Mackenzie River Valley south to Edmonton.

The following map shows the proposed Arctic Resources pipeline route. This proposal is very close to the preferred route proposed 28 years ago.

The Arctic Resources proposed pipeline proceeds offshore from Prudhoe Bay to the

Mackenzie River Delta, connects the Canadian reserves, and then continues down

the Mackenzie River Valley to Edmonton, Alberta. The offshore segment of the pipeline will be buried in a 15 foot trench and will be constructed during the winter

months. This route is shorter, faster to construct, and has a lower cost. This project

does not need subsidies or financial incentives. All one needs to do is look at the

maps to decide which answer is best.

As shown in Chart 3, in comparing the competing pipeline proposals, one must

realize that a Southern Route requires two pipelines whose combined total will be

twice as long (3490 miles versus 1665 miles) and twice the cost ($14.6 Billion versus

$7.8 Billion) of a single Northern Route. Proponents are working to have the Southern Route subsidized.

The Northern Route does not need to be subsidized. In fact, the Northern Route

should create significant tax revenue for both the United States and Alaska. Pipeline tariffs on the Northern Route are in the range of 50 to 75 cents per thousand

cubic feet (Mcf) lower than a Southern Route alternative, which means better economics for the natural gas explorers and therefore more natural gas will be found

for American consumers. In any business where a product is a long way from the

market, the lower-cost transportation system is always more desirable. When politics get in the way of sound economics, nothing good happens.

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If the economic comparison is so compelling, why are the major producers not

backing the Northern Route? Good question. They did 28 years ago, but now, two

of the three North Slope majors—BP and ConocoPhillips—have fallen in lockstep

with the Alaskans. They dispute the cost differences (not the distances) and their

latest answer is that both routes cost nearly the same. It is interesting that this

new position came after Congress showed a willingness to subsidize the Southern

Route. Several parts of their estimate need to be expanded upon. First, they added

roughly a $4 billion cost contingency for summertime offshore construction in the

Beaufort Sea evidently due to more ice problems. This does not affect our estimate

since we are talking about winter construction. They also say construction costs are

around $20 billion to get the gas all the way to Chicago when there is no clear economic evidence to show that a pipeline needs to go beyond the existing pipeline

interconnects near Edmonton, Alberta. These two producers evidently feel that if

the U.S. taxpayers will guarantee the debt and subsidize a line to Chicago, why not

try for it?

They also never mention the cost of the line in Canada. Keep in mind that they

want a mandate so that the projects cannot be compared. ARC is not seeking a

mandate; we are willing to stand on merit, markets, geometry and statutory regulatory requirements. Buying the mandate argument is like letting the wolf design

how strong the hen house will be. The real question should be: Why is Congress

mandating a route rather than letting the regulatory process and market forces work

as they were designed? The Bush Administration has recognized this important

question and has asked the Congress not to mandate a route and not to subsidize

the pipeline with tax credits. Such Congressional action is unnecessary. It could be

very expensive for the taxpayers. And, it will jeopardize the construction of any

pipeline by aggravating our Canadian neighbors.

IMPORTANT INTERESTS NOT REPRESENTED

Several important parties and issues are being ignored in the current Congressional debate on construction of this natural gas pipeline. First of all, Canada is a

very important player in this pipeline debate because the National Energy Board

(NEB) of Canada must approve the pipeline plans for either route. About two-thirds

of the Southern Route goes through Canada (if Edmonton is the terminus), and

about 90% of the Northern Route is in Canada. Applications must be filed with the

NEB and the Board must consider economic, regulatory and environmental aspects

of the line. It will not be in Canada’s interest to approve a subsidized line for Alaskan gas that will disadvantage Canadian gas in the marketplace.

The Canadian government has been vocal on this issue. The Canadian alternative

is to build a Canadian-only line which is not very economic either. Two high-priced

pipelines will definitely limit the exploration potential in Alaska and Canada due

to higher pipeline tariffs and less profit on the lines, to the detriment of both countries. Additionally, there are significant Canadian Aboriginal land claim problems

with the Alaskan route that are being glossed over. The likelihood that Canada will

delay or block the Alaskan plan is high.

As previously mentioned, two high cost pipelines into Alaska and Canada will

limit the exploration efforts in both the North Slope and Canada’s Mackenzie Valley. A subsidized pipeline will be an economic discouragement to exploration and

production interests in all other North American producing regions. A number of

independent companies and industry associations have protested against the Congressional actions. One low cost pipeline system, selected through market competition in an open and transparent regulatory process, with open access features for

new volumes, is what is needed to maximize the exploration potential in each area.

This is the most important energy project in North America; both countries

and other interested parties need to be involved in the process.

Two high cost pipelines, particularly one that goes all the way to Chicago from

Prudhoe Bay, will be very expensive to U.S. and Canada taxpayers and natural gas

consumers. The subsidies being considered for the Southern Route are designed to

move only the current proved reserves on the North Slope of Alaska. The Northern

Route does not need subsidies and, in fact, would create significant tax revenues for

both Alaska and the United States government. In mandating an uneconomic route

and forcing taxpayers to subsidize the construction and operation of the line, Congress seems to not be fairly representing the majority of its constituents.

Natural gas consumer interests are also not being adequately represented. The

lowest cost system will create the largest gas supplies and the best economic results.

If the U.S., Canada and Alaska will support the lowest-cost system, it will also be

the fastest line to be built.

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The project can also be a definite plus for U.S. and Canadian businesses if done

right. The Southern Route (ANGTA) pipeline plan involves laying 52-inch high pressure pipeline through approximately 900 miles of mountains and the chances of significant cost overruns are present. There are no pipe mills in North America that

can manufacture any significant quantity of 52-inch pipe; only German and Japanese mills can manufacture the steel for a pipeline of this magnitude and pressure.

Construction of this natural gas pipeline would be the largest steel order in North

American history. It would be a shame to congressionally mandate a project in

which North American pipe mills could not participate. The Arctic Resources plan

for laying two 36’’ lines in succession would allow Canadian and U.S. pipe mills to

help fill the orders. In addition, standard construction equipment could be used to

lay the pipeline. There is currently no construction equipment to lay 52-inch pipe,

so contractors would have to build new equipment for the project. Operating in

mountainous terrain is another cost risk. Limited pipe suppliers and unfamiliar

equipment are recipes for cost overruns. With regard to jobs, there is no great differential between the routes. Many qualified people will be needed, and either route

will have to employ significant labor from Canada, Alaska, and the lower-48.

THE ROUTE MANDATE

There are several flaws in the route mandate and the subsidies being proposed

in the House legislation (H.R. 6) and the Senate version (S. 14).

First of all, there is a better route than the Southern Route. A single Northern

Route is preferable to two—an expensive Alaskan line, plus another line through

the Mackenzie Valley for the Canadian reserves. As noted, in ARC’s view, the two

lines would be twice as long and cost twice as much as one Northern line. In addition, the footprint of the pipeline would be 3,400 miles instead of 1700.

A mandate for the more costly option does nobody any good over the long term

and should be fought as hard as the tax and economic subsidy being proposed.

THE TAX CREDIT SUBSIDY

This Senate’s proposed subsidy package also has several questionable features. The $.52 per million British thermal units (MMBtu) tax credit that the Senate Finance Committee has endorsed would kick in when wellhead prices dip below $1.35

per/Mcf. There are two objectionable features in that approach.

First, proponents claim that up to 20% of U.S. gas has Section 29 credits, so they

should get these credits as well. What the Senate has proposed is not a Section 29

tax credit. Section 29 credits are normally given when it has been established that

they are needed to develop the resource. The credits would not be given if there

were less costly ways of developing the resource. Alaska and two major companies’

logic is to first mandate that a high-cost route be built, then a subsidy would obviously be needed. A much better, free market approach would be to have no mandate

and no subsidy. In the alterative, if Congress deems that subsidies are necessary,

then they should apply to any route built and be available to any gas that moves

through the pipeline.

Secondly, basing the tax credit on the North Slope wellhead price is a way of

shifting the cost/risk responsibility from the North Slope gas producers (BP,

ConocoPhillips and ExxonMobil) to the pipeline debt holders or guarantors. If the

high-cost approach being taken by the majors ends up costing considerably more,

the multi-national oil company producers would still be guaranteed at least $.52/Mcf

after taxes (that is more like an $.80 wellhead price), no matter how high the pipeline tariff goes. The major producers have found a tricky way to shift the risk away

from them. Congress should recall that the last time the majors built a big pipeline

in Alaska, the Alaskan oil pipeline, the cost estimate of roughly $900 million ended

up ballooning to $9 billion.

OTHER SUBSIDIES

In another questionable maneuver, the majors also want to include the gas conditioning plant in the pipeline tariff before getting to a wellhead price. The plant is

needed to clean out CO2 and nitrogen from the gas and, under normal industry

practices, that cost would not be included in a pipeline tariff. For example, if other

producers have clean gas, they would not need a gas conditioning plant and they

would not want to pay for a portion of the majors’ plant. By trying to include the

plant in the tariff, the total pipeline tariff is higher and, therefore, the wellhead

price lower, which means the tax credit is triggered faster.

They also want and the Senate legislation provides for federal debt guarantees of

up to $18 billion for the pipeline. That level of guarantee is needed to get the pipeline all the way to Chicago so that the majors can control the gas going to market

59

there. Normally the line would stop near Edmonton where existing or expanded

intersecting pipelines would move the gas to markets on the West Coast, Midwest,

or wherever else they may be needed.

But, if the Alaskan parties can convince the government to guarantee the loan,

the line can be constructed all the way to Chicago and the other pipelines will be

bypassed. That would limit competition and further exacerbate the problems of industrial and other consumers as they struggle with high gas prices. A much better

approach would be to only approve enough in loan guarantees (approximately $8 billion) to get the gas to Edmonton and to make it applicable to all routes. The Canadians may also wonder why the U.S. is guaranteeing all the debt for a pipeline that

is two-thirds in Canada, particularly when the Canadians oppose this treatment.

It is difficult to get the right thing done for taxpayers and natural gas consumers

when the major reserve holders have fallen into the Alaskan web. They have been

convinced that the taxpayers will backstop any project financial risk due to the

Alaskan political strength. It must be difficult when the major stakeholders spent

a lot of money 28 years ago and decided the Northern Route was lower cost, shorter

to construct and was better environmentally to now try to argue the other side. Intellectually, many Alaskans, consumers and taxpayers, natural gas producers and

others who have studied the problem are confounded. The Southern route is 20th

century solution of necessity. Now, 30 years later, the country needs a 21st century

solution to bring Alaskan and other Arctic gas to market.

THE RIGHT ANSWER

The first thing that has to happen to ensure that the appropriate pipeline is constructed is to convince Alaska that U.S. taxpayers will not take all the risks on the

project, and the most economic project and the best environmental project is the one

that should ultimately be built. They also should understand that the Canadian government has a legitimate role in approving and permitting the pipeline, and should

be involved in the planning phase.

Recently, Canadian Minister Robert Nault called for a Bilateral Commission to be

formed to study this subject with the U.S. and Canada participating. I believe that

this is an excellent approach to solving the problem. The U.S. also has a lot at stake

since a good deal of the future exploration potential lies on federal lands; it is not

all in Alaska.

ALASKA’S STAKE

It should be noted that Alaskan long term economic impacts will be much better

with the most economic project being built. Prior studies in Alaska have shown that

with the Northern Route they should make about $4 billion more from severance

taxes and royalties due to the higher wellhead prices resulting from the lower transportation tariff. With the lowest-cost system, Alaska also will have more exploration

activity and therefore more future gas reserves will be discovered, which equates to

more long-term jobs in the State. Any short-term construction jobs gained from

building the Alaskan line do not offset the high project cost to the taxpayer or lower

long-term gains for Alaska.

When once again Congress refuses to provide tax subsidies for a Southern Alaskan line, Alaska’s best option will be to work with the other states and Canada to

get the right project built as quickly as possible. When Alaska drops its opposition

to the Northern Route, a project will then be able to move forward fast, and will end

up being the best answer for all.

WHAT SHOULD CONGRESS DO NOW?

The House has passed the route mandate in H.R. 6, and it appears the Senate

is poised to pass the mandate as well as the tax subsidy and debt guarantee package in its energy bill, S. 14. This is exactly what happened in the last Congress.

During the energy conference, the House should remain steadfastly opposed to the

tax subsidy and debt guarantee package, and, just like last session, realize that the

mandate without the subsidy is harmful to all U.S. natural gas consumers. The

Bush Administration is supporting the no mandate or subsidy position and instead

is promoting good energy and financial policy allowing the market to work for the

right decision.

As you join with your Senate colleagues in a conference committee on your respective energy bills, I would encourage conferees to oppose the massive subsidy package

and route mandate for an Arctic natural gas pipeline. If the route mandate and subsidies are struck from a final compromise bill during the Conference Committee,

then we can all start working on the right answer for everyone. Once that happens,

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then Alaska and the major producers will be free to pursue the most economic route

available in an expeditious manner and all of the country will benefit.

It should be noted that there are several provisions in the House and Senate legislation that would be beneficial to expediting construction of an appropriate natural

gas pipeline to get these reserves to market. Passage of those provisions would lead

to greater regulatory certainty in pipeline construction, and I would encourage you

to retain these provisions in conference.

Thank you, Mr. Chairman, for the opportunity to present this testimony before

you here today. I appreciate your willingness to listen to my concerns, and I hope

you will take my recommendations under serious consideration when you go to conference with your Senate colleagues. I look forward to answering any questions you

may have for me today.

Chairman TAUZIN. I have got someone I want you to meet. His

name is Don Young.

Mr. HOGLUND. I have met him.

Chairman TAUZIN. The gentleman next is the TransCanada Pipeline Limited President and CEO, Mr. Harold Kvisle.

STATEMENT OF HAROLD N. KVISLE

Mr. KVISLE. Thank you, Mr. Chairman. Thank you to the committee for allowing me to address you today.

TransCanada, first of all, is one of the largest gas transmission

companies in the world. We transport about 75 percent of western

Canada’s gas, and much of that goes to U.S. markets. We move significant volumes to markets in California, in the U.S. Midwest, and

over to New York and New England as well. One of our subsidiaries is Foothills Pipe Lines, which holds the certificates to construct the Canadian portion of the Alaskan natural gas transportation system, the Alaska highway project.

Over the next decade, we do agree that demand for natural gas

in the United States will grow significantly. We see demand growing by about 18 BCF, and we see North American conventional

supply growing by only 5 BCF. That leaves a gap of more than 10

BCF that must come either as imported LNG or from frontier basins.

People have expected that much of this gas will come from western Canada, but today we see production growth flat-lining in western Canada, and there is very significant increase in demand in no

small part due to the oil projects that exist at Fort McMurray and

which will supply a very large portion of North America’s future

crude oil requirements.

On the supply side, we see production growing from various

parts in the United States. We see one or two BCF a day coming

from the Rockies, the Gulf Coast, and from western Canada. But

that growth represents only 5 BCF a day of incremental gas, as

compared to the 10 BCF a day that I mentioned earlier that we

will need to balance supply and demand.

The most significant increase that is available to us today I

would submit is from the frontier basins in Alaska and northern

Canada. Let me speak specifically about the Alaska gas project.

In the late 1970’s, Canada and the United States signed a treaty

to govern the transportation of Alaska gas to market. Canada enacted the Northern Pipeline Act, which granted Foothills the certificates to construct the Canadian portion of the project.

Sorry about the slides.

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We also in Canada established the Northern Pipeline Agency to

oversee construction of the project. Over the past 25 years, Foothills and the Canadian government have maintained those certificates and maintained the route entitlements that would enable us

to get that pipeline built quickly. In 1982, we built the Prebuild

portion of that pipeline. This does in fact today deliver western Canadian gas to markets in California and the Chicago regions of the

Midwest.

Under the existing treaty, we think Canada brings you a quick

and expeditious alternative to get that pipeline built through the

Canadian portion of the project. By using the Foothills structure,

you can ensure utilization and optimization of existing infrastructure and reduce both capital costs and the risk of cost overruns for

the project. In addition, we can provide market diversity for Alaska

gas, moving it to markets both east and west of the Rockies, to

California and to the Midwest. We think this is a significant advantage that should not be overlooked.

With respect to routing, we think that broad stakeholder interests are served by two pipes, one to move Mackenzie gas down

through Canada and through our systems into our North American

markets and the other to move Alaska gas; and this is what TransCanada as proposed for several years now.

TransCanada and Foothills have been essential to developing the

transportation infrastructure for northern gas for almost 30 years.

This is not a new project for us. This is something that we are prepared to proceed with and implement in the most expeditious way.

We have never wavered in our belief that both Alaska and Mackenzie natural gas will be needed by the North American economy.

We have patiently maintained both Alaska and Canadian transportation projects, and we do intend to play a central role in developing the most efficient way to move northern gas to market.

Thank you again for allowing me the opportunity to present my

views this morning.

[The prepared statement of Harold N. Kvisle follows:]

PREPARED STATEMENT OF HAL KVISLE, PRESIDENT AND CEO, TRANSCANADA

CORPORATION

INTRODUCTION

Good morning, Chairman Tauzin, Congressman Barton, Members of the Committee. My name is Hal Kvisle. I am the President and CEO of TransCanada Corporation (TransCanada). Last month, TransCanada announced the purchase of the

remaining share of Foothills Pipe Lines Ltd. (Foothills) it did not already own. Once

Canadian Government approvals required for the transaction are in hand, TransCanada will own 100% of Foothills. TransCanada and Foothills have a longstanding

interest in the development of northern gas and welcome the opportunity to participate in this proceeding.

Foothills is the owner of the Canadian section of the Alaska Natural Gas Transportation System (ANGTS or Alaska Highway Pipeline) and joint owner with TransCanada of the Alaskan segment. Foothills holds the certificates awarded by the Government of Canada to construct the Canadian portion of the Alaska Highway natural gas pipeline project. The Prebuild portion of the ANGTS was constructed in the

early 1980’s to transport surplus Canadian gas to the United States. The Prebuild

pipeline has been expanded several times over the past 20 years. It currently has

assets of US$1 billion, a total capacity of 3.3 Bcf/d and it transports approximately

30% of total Canadian gas exports to the United States.

Foothills’ eastern leg runs from central Alberta eastward to a point on the Canada/U.S. border where it interconnects with Northern Border Pipeline Company to

serve gas markets in the Midwest. Foothills’ western leg extends from central AlVerDate 11-MAY-2000 12:34 Aug 25, 2003 Jkt 000000 PO 00000 Frm 00065 Fmt 6633 Sfmt 6621 88422.TXT HCOM1 PsN: HCOM1
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berta to a point on the Canada/U.S. border where it interconnects with Pacific Gas

Transmission to serve gas markets in California and the Pacific Northwest.

TransCanada is a leading North American energy company. It owns one of the

largest natural gas transmission systems in the world—over 24,000 miles and has

operations and facilities extending across Canada and into the northern United

States. TransCanada transports approximately 75% (5 tcf/year) of western Canada’s

natural gas production to markets across North America. TransCanada also manages or controls more than 4,100 MW of electric generation in Canada and the

United States.

TransCanada is headquartered in Calgary, Alberta, Canada. Its shares trade on

the Toronto and New York Stock Exchanges. TransCanada has 2,400 employees and

total assets of US$14 billion. Our 2002 net income was approximately US$500 million.

ASSESSMENT OF OVERALL NORTH AMERICAN SUPPLY AND DEMAND

TransCanada expects the growth in natural gas demand in North America to outpace supply from traditional gas sources over the next decade necessitating new gas

supply from frontier basins. We believe that natural gas from the Mackenzie Delta

in Canada’s north, Prudhoe Bay gas from Alaska and liquefied natural gas (LNG)

are all required in the next decade if North America is to have acceptable gas prices.

Natural Gas Demand

TransCanada forecasts total demand in the U.S. and Canada to grow by 18 Bcf/

d in the ten-year period from 2002 to 2012. The adjacent chart highlights Canadian

growth of approximately 3.7 Bcf/d or almost 50% over this timeframe. This dramatic

growth in Canadian gas demand will require new supply sources to permit western

Canadian gas to continue to serve its traditional markets. The three U.S. regions

that are served by Canadian gas exports will increase their gas demand by 7.6 Bcf/

d or approximately 25% in this same timeframe. The remaining 7 Bcf/d of demand

growth will occur in the southern United States.

The significant growth in Canadian gas demand is focused on western Canada

and is primarily driven by substantial industrial demand growth in Alberta from

oilsands and heavy oil development. This chart highlights the components of Alberta

gas demand over the next decade.

The Alberta oilsands have recoverable reserves of 315 billion barrels. Oil production from the oilsands is expected to grow dramatically over the next decade. This

increase in oil production will replace declining conventional oil production in Canada and provide a secure and growing source of oil for North American markets in

the long term. The oilsands produced 0.8 million barrels per day in 2002. This production is expected to nearly triple to 2.3 million barrels per day by 2015.

Achieving this increased oil production, however, is an energy-intensive process.

It will consume approximately 1.5 Bcf/d of additional natural gas to extract the oil

from the oilsands, produce in-situ heavy oil reserves and provide the necessary electricity generation for that region. The adjacent map illustrates the current, or expected new oil sands or heavy oil sites in northeastern Alberta near Fort McMurray

over the next decade. Many of these new projects are producing or under construction.

There are several critical uncertainties that would affect our forecast of North

American natural gas demand. Long-term growth rates of the U.S. and Canadian

economies, the level of oil prices, and the relative price of natural gas to other fuels

could all have a significant impact on natural gas demand over the next decade. The

current uncertainties in the power sector, the effect of environmental policies such

as the Kyoto Protocol in Canada and the conventional natural gas supply response

will also affect gas prices and demand.

Supply

Currently, there are some concerns that inadequate natural gas supply could

cause sustained high gas prices and negatively impact the North American economy

over the long term. TransCanada expects that gas supply from traditional U.S. and

Canadian natural gas sources will grow by approximately 5 Bcf/d from 2002 through

2012, leaving a gap of more than 13 Bcf/day to be filled by new sources of supply.

Without new gas resources, natural gas prices could be expected to rise high enough

to restrict gas demand, thereby balancing the market. We forecast both sources of

Arctic gas coming on-stream by 2012—Mackenzie Delta gas from northern Canada

in late 2008 and Prudhoe Bay gas from Alaska in late 2011. Significant new LNG

will also be required; beyond the capacities of the existing four LNG terminals.

The chart above indicates that the Rockies, the Gulf Coast and the Western Canadian Sedimentary Basin (WCSB) are the only traditional exploration basins exVerDate 11-MAY-2000 12:34 Aug 25, 2003 Jkt 000000 PO 00000 Frm 00066 Fmt 6633 Sfmt 6621 88422.TXT HCOM1 PsN: HCOM1
63

pected to increase their gas supply over the next decade. The relative growth in the

Rockies is significant, with much more modest growth rates in the Gulf Coast and

western Canada. More than 5 Bcf/d from northern Canada and Alaska is required

by 2012, as well as an additional 7 Bcf/d of LNG to balance the market and bring

gas prices back to US$4.00 per MMbtu and keep them in that range.

Western Canadian gas production increased more than 50% in the 1990’s, but has

leveled off post-2000 despite a significant increase in wells drilled and connected.

More than 10,000 wells are expected to be drilled per year going forward to allow

western Canada to maintain and modestly increase its natural gas production. The

increasing maturity of the basin and the annual depletion of approximately 3.5 Bcf/

d necessitates high levels of drilling each year. This same situation exists in the

Lower 48 gas basins.

The modest increase of 1.2 Bcf/d in western Canadian production from 2002 to

2012 is clearly insufficient to meet the expected growth in Canadian gas demand

of some 3.7 Bcf/d over this period, let alone provide any additional supply to meet

U.S. demand. Natural gas production from conventional sources in western Canada

is at, or is approaching, its peak and is forecast to begin a significant decline within

a decade.

Unconventional sources, primarily coal bed methane, are projected to begin to

make a contribution to western Canadian gas supply over the next 10-15 years. Unconventional supply from western Canada should be approaching 2 Bcf/d by the

time that Alaskan gas is in-service. Gas from Canada’s North will be available this

decade to partially meet the growth in demand in western Canada.

Natural gas production from Canada’s East Coast near Sable Island has currently

plateaued at approximately 0.5 Bcf/d. Our projections have this growing to nearly

1 Bcf/d by 2010. Significant uncertainties in the near term exist with regards to the

specific timing of new production from Canada’s East Coast.

Total natural gas supply from traditional sources in Canada and the United

States will be insufficient to meet projected growth in gas demand, in our view. Natural gas from frontier basins in Alaska and Canada’s north are required within a

decade to supplement new LNG supplies to ensure North America has competitively

priced natural gas.

ALASKA GAS PROJECT

In the late 1970’s, Canada and the United States signed an Agreement on Principles (a ‘‘treaty’’) to govern relations between the two countries for the transportation of Alaskan gas to market. After a protracted competitive regulatory process,

the Government of Canada passed into law the Northern Pipeline Act to effect the

terms of this treaty. The Northern Pipeline Act awarded Foothills Pipe Lines Ltd.

the certificate for the construction of the Canadian portion of the Alaska Natural

Gas Transportation System along the Alaska Highway. The Canadian Government

also established the Northern Pipeline Agency as a single window regulatory body

to oversee the construction of the pipeline in Canada. Changes in the North American natural gas supply/demand balance postponed actual construction of the pipeline from Alaska.

Over the past 25 years, the governments of Canada and the United States have

maintained the pipeline treaty. The Government of Canada and Foothills have

maintained Foothills’ certificate to construct the Canadian portion of the pipeline.

The Northern Pipeline Agency continues as the regulatory body to oversee the construction in Canada. Foothills’ certificates to transport Alaskan gas across Canada

remain valid today. Foothills pipeline through Canada can connect to a pipeline in

the State of Alaska constructed under the Alaska Natural Gas Transportation Act

or other U.S. legislation.

In 1981/82, Foothills used its certificate to construct the Prebuild pipeline to

transport available Canadian gas to U.S. markets in advance of the startup of Alaskan gas. Utilization of the Foothills system through Canada under the Northern

Pipeline Act provides regulatory structure and certainty for Alaskan gas, as no new

legislation or regulations are needed in Canada. It is the most expeditious and preferred means to advance the Alaska pipeline project within and across Canada.

The Foothills Prebuild system is integrated with the existing western Canadian

pipeline grid. Construction of the Alaska project in Canada under the Northern

Pipeline Act will ensure utilization and optimization of existing infrastructure, and

provide market diversity for Alaskan gas east and west of the Rocky Mountains.

The Canadian gas infrastructure currently has approximately 2 Bcf/d of spare capacity, and we forecast there will be significant spare pipeline capacity at the time

Alaskan gas is delivered to market. The Alaska project is expected to initially transport 4.5 Bcf/d. Integration of the project into the existing infrastructure will reduce

64

the capital costs and cost overrun risks for a new project, reduce regulatory risks

and minimize environmental and other societal impacts. All of these benefits are

available for Alaskan gas by using the existing Canada/U.S. treaty, existing Canadian legislation (the Northern Pipeline Act) and integration via Foothills with the

existing North American pipeline grid.

As is evident from our supply/demand testimony, Foothills and TransCanada believe that Alaskan gas is needed soon to meet North American gas demand. We believe that using the Foothills system under the Northern Pipeline Act in Canada

will expedite the Alaska project, avoid a new round of negotiations between the U.S.

and Canada and provide maximum benefits to both countries.

Routing

With respect to overall northern natural gas development, Foothills and TransCanada believe that broad stakeholder interests are best served by a two-pipeline

solution to move Mackenzie Delta and Prudhoe Bay natural gas to market through

two separate pipelines. TransCanada has been actively engaged to make a standalone Mackenzie Valley pipeline a reality. The Mackenzie Valley pipeline proponents are expected to file a preliminary information package with Canadian regulators soon, with a formal application to follow late this year.

Based on our own in-depth engineering study, TransCanada’s and Foothills—assessment is that the Alaska Highway route continues to be the most economic, least

risky and most timely route to transport Alaskan gas to market. An over-the-top

route has serious, uncontrollable weather risks, technology and environmental

issues, all without a cost advantage. The Prudhoe producers also concluded one year

ago that the capital cost for an Alaska Highway route was approximately the same

as an over-the-top route. With the over-the-top risk issues, the Canadian certification for the Alaska Highway route in hand, and the State of Alaska opposing an

over-the-top route, TransCanada and Foothills do not consider over-the-top as a viable route option.

The Mackenzie Valley project is proceeding on its own at this time and is currently on target for an in-service date of late 2008. Gas from Prudhoe Bay could

be delivered to U.S. markets via the Alaska Highway pipeline by late 2011. The

market has chosen the two-pipeline strategy.

CONCLUSIONS

Conventional sources of natural gas are not expected to be sufficient to meet expected growth in natural gas demand in North America over the next decade. Either

new gas sources must be connected, or alternative fuels at competitive prices must

be proven quickly, or gas prices will rise to mute demand growth. TransCanada and

Foothills believe that the frontier gas sources already discovered in northern Canada and Alaska can be connected on competitive terms in this timeframe to meet

market demands. Construction of two pipelines from Alaska and northern Canada

will spur additional exploration for natural gas in those regions. This will provide

additional supply for North American consumers, beyond the already substantial

proven Arctic gas reserves.

Mackenzie Delta gas is expected to be in-service in approximately five years. This

gas will primarily serve growing demand in western Canada and will therefore permit conventional western Canadian gas to serve its traditional markets in Canada

and the U.S. Alaskan gas can be in-service by 2011 by moving along the Alaska

Highway and across Canada under the existing Canada/U.S. treaty and the Northern Pipeline Act using the Foothills system. Significant benefits are available by integration with the existing North American pipeline grid in Alberta.

TransCanada and Foothills have been engaged in developing the transportation

infrastructure for northern gas for almost thirty years. We have never wavered in

our belief that both Alaskan and Mackenzie natural gas will be needed by the North

American economy. TransCanada and Foothills have patiently maintained, since the

1970’s, both the Alaskan and Canadian transportation projects and clearly intend

to continue to play a central role in developing the most efficient transportation system for northern gas.

Thank you for this opportunity to present our views on the North American supply and demand picture and, particularly, northern gas from the Canadian Arctic

and Alaska.

Chairman TAUZIN. Thank you very much, Mr. Kvisle.

Now, finally, Dr. Jeffery Currie, Managing Director of Goldman,

Sachs of New York, New York, to give us the financial perspective

on this looming crisis.

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Mr. Currie.

STATEMENT OF JEFFREY R. CURRIE

Mr. CURRIE. Thank you, Mr. Chairman and members of the committee, for this opportunity to testify before you today about the

short-term and long-term issues surrounding the U.S. natural gas

market. I am a Managing Director at Goldman, Sachs where I am

the senior energy economist, but I want to emphasize that the

views presented here today are my own and do not represent the

views of Goldman, Sachs.

The core problem with the U.S. natural gas market is inadequate

infrastructure. This makes the current shortage very different from

a normal cyclical shortage and will require much more dramatic action than simply allowing the markets to function.

Although the public attention has been focused on the ability to

grow natural supply in the current environment, however, the underlying shortages in storage and transportation are the primary

constraints on both supply and demand growth. The infrastructure

in natural gas is so depleted that much of the adjustment has been

and will continue to be in demand. The reason for this is that demand is the quicker and lower cost margin of adjustment, not supply.

Another way to view this is that destroying demand is much faster and cheaper than building expensive pipelines with long lead

times. As a result, price spikes typically lead to demand destruction, not new supply. The demand destruction, in turn, creates dramatic price declines and, hence, the price volatility that we currently see today.

However, the much-needed investment in new infrastructure is

ultimately discouraged by the increasing risky price environment

in the core returns on these assets. Demand destruction is not a

long-term solution to the problem. Shortages will develop again

once demand recovers and create subsequent pricing spikes.

What we have on our hands right here is a vicious cycle that continues to repeat itself. But not only do these infrastructure constraints restrict demand growth, they also restrict the ability to

grow supply. What this suggests is that solving the basic supply

problem will not in itself solve the deliverability problems currently

facing the natural gas market.

The basic supply question of whether to open up areas of drilling

or depend upon LNG is a very important long-term issue, and I do

not want to dismiss it. However, in the current environment, even

if there was significant surplus gas, and there is surplus gas in the

Rocky Mountains, the market doesn’t possess the pipeline capacity

to transport it. And even if it had the pipeline capacity to transport

it, the market lacks the storage capacity to store it.

To demonstrate the critical importance these infrastructure constraints play, let’s review the winter and summer of 2001. That

winter severe shortages developed from a combination of cold

weather and a lack of supply. Once inventories were exhausted,

physical shortages turned critical. This resulted in a massive price

spike to $10 that destroyed price-sensitive industrial demand to

make room for heating demand. The loss to industrial demand was

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massive, a 20 percent permanent decline that resulted in the loss

of at least 200,000 manufacturing jobs.

The price spike also triggered a modest supply response which

then, combined with the sharp drop in industrial demand, created

a very large surplus in gas that took only 6 months to completely

overwhelm the entire U.S. natural gas infrastructure.

By the end of summer of 2001 surplus gas had nowhere to go. Gas prices collapsed to under $2, and ultimately production had to

be shut in.

So the broader question really becomes, why is the infrastructure

so inadequate? The answer in its simplest form is that investing

in energy infrastructure is distinctly unprofitable. A combination of

regulation, taxes, and direct market intervention has made the return on capital in the energy industry a break-even proposition at

best.

In 2001, a period of record high gas prices and record high equity

evaluations, the entire gas industry—supply, transmission, and distribution—was actually valued at only 73 percent of the total cash

invested. It is no wonder the capital markets have responded by

not providing the capital to expand, and the net result is the capacity constraints that you see today.

The paradox of all this is that the underinvestment in infrastructure by the market is the correct economic outcome, given these

poor rates of return. The best use of capital is in other industries

where rates of return are higher. As the market solution is not concerned with volatility but rather with the expected rate of return,

the market fails to generate the excess capacity or reserve capacity

that is required to lower the price volatility. What this suggests is

that transportation and storage assets should be viewed as public

goods and treated just like a freeway or toll road.

The key policy aim in this context should be to create excess capacity that the market fails to generate. Such a policy would dramatically reduce price volatility, investment risk and create a more

conducive environment for demand and growth.

That concludes my remarks, and thank you very much for your

time to present my views.

[The prepared statement of Jeffrey R. Currie follows:]

PREPARED STATEMENT OF JEFFREY R. CURRIE, MANAGING DIRECTOR, GOLDMAN,

SACHS & CO.

Mr. Chairman and Members of the Committee, thank you for the opportunity to

testify before you today about the short-term and long-term issues surrounding the

natural gas market.

My name is Jeffrey Currie. I am a Managing Director of Goldman Sachs, where

I am the Senior Energy Economist. The views presented here today are my own and

do not necessarily reflect the views of Goldman, Sachs & Co.

The current shortage in the natural gas market is quite different from a normal

cyclical shortage, and more dramatic action than simply allowing the market to

function will be necessary to address the core problem, which is significant underinvestment in basic infrastructure. Public attention has been focused on the ability

to grow natural gas supply. However, in this case, the underlying shortages in storage and transportation are the primary constraint on both supply and demand

growth.

The infrastructure in natural gas is so depleted that much of the adjustment has

been and will continue to be in demand. Since demand is the quicker and lowercost margin of adjustment, rather than supply, price spikes are likely to lead to demand destruction, which will quickly result in dramatic price declines. The muchneeded investment in new infrastructure, however, has been and continues to be

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discouraged by poor returns that are exacerbated by an increasingly risky price environment. Since demand adjustments are not a long-term solution to the problem,

shortages will develop again once demand recovers, creating a subsequent spike in

prices.

Further, these shortages in basic underlying infrastructure have prevented efficient use of existing supplies and efficient development of new supplies, which suggests that solving the basic supply problem will not, by itself, resolve the deliverability problems currently facing the natural gas market. The basic supply question

of whether to open up areas to drilling or depend on LNG imports is a very important long-term issue. However, due to the current infrastructure constraints, even

if there were significant surplus domestic natural gas (and there is in the Rockies),

the market doesn’t possess the pipeline capacity to transport it; and even if there

were adequate pipeline capacity to transport this gas, which there is not, the market lacks the capacity to store it. Similar operational constraints also apply to potential LNG imports.

As a case study, the winter and summer of 2001 demonstrate the economic impact

of constraints on storage and pipeline capacity. That winter, severe shortages developed from a combination of cold weather and a lack of supply. Once inventories were

exhausted, physical shortages turned critical, resulting in a massive price spike to

$10.00/mmBtu that destroyed price-sensitive industrial demand to make room for

essential heating demand. The loss in industrial demand was massive: a 20% permanent decline that resulted in the loss of at least 200 thousand manufacturing jobs

(see Exhibit 1). Yet, the price spike also triggered a modest supply response, which

when combined with the sharp drop in industrial demand, created a very large surplus of gas that took only six months to completely overwhelm the entire US natural

gas infrastructure. By the end of the summer of 2001, surplus gas had nowhere to

go, gas prices collapsed to under $2.00/mmBtu, and ultimately production had to be

shut in (see Exhibit 2).

The reason for this rapid reversal is straightforward economics—the industry did

not possess the infrastructure to store or transport the surplus gas for a future supply shortage. When another shortage occurred only a year later in the winter of

2002/2003, the market had insufficient inventories to handle it. Looking forward

from today, even if the industry filled storage to capacity by the end of this October,

the inventory would still only cover 75% of all potential winter outcomes, leaving

the market with a 25% chance of running into severe shortages before the end of

next winter even under an improved supply outlook.

LACK OF STORAGE CAPACITY IS THE KEY DETERMINANT OF NATURAL GAS PRICE

VOLATILITY

These experiences of the last couple of years show that storage capacity is the key

determinant of natural gas price volatility. Storage capacity provides the system

with a buffer to supply and demand shocks by allowing it to run surpluses and deficits that smooth the normal cyclical swings in prices. As storage capacity has failed

to keep pace with growth in demand over the past two decades, this buffer has

shrunk relative to the size of the market, resulting in chronically higher-than-normal price volatility.

In the 1980s, we had about 1,400 bcf of storage beyond that which is necessary

to operate the system and deal with winter demand swings. This storage represented about 26 days of forward consumption, a significant shock absorber that

generated relatively stable natural gas prices. Today, we have only 330 bcf of storage beyond what is necessary to run the system, which at today’s higher demand

levels is only 6 days of forward consumption. In response, price volatility has exploded to nearly three times the historical average (see Exhibit 3). Thus, fairly small

deficits or surpluses will cause the market to move from full to empty and from $2

to $10/mmBtu or back in a relatively short amount of time.

POOR RATES OF RETURNS HAVE RESULTED IN UNDERINVESTMENT IN INFRASTRUCTURE

The broader question is, ‘‘Why has storage capacity and related infrastructure

failed to keep pace with demand?’’ The answer in its simplest form is that a combination of regulation, taxes, and direct market intervention have made the return

on capital in the energy industry a breakeven proposition at best and have made

investing in the downstream (transportation, storage and other aspects of the infrastructure) distinctly unprofitable. The market has responded by not providing the

capital to expand, and the net result is the capacity constraints that you see today.

If you look at the industry as a whole during 2001, a year which posted the highest annual gas prices on record, and saw historically high energy equity valuations

during the 1H2001, the industry was not even valued at the cash that had been

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invested into it, hardly a compelling return. Worse, if we exclude the super majors,

the rest of the gas supply, transmission, and distribution industry was actually valued at only 73% of the cash invested (see Exhibit 4). It is hardly surprising that

the market has not supplied sufficient additional capital to meet current demands.

If we look deeper into the numbers, the lack of investment in basic core infrastructure (storage and transportation) becomes even clearer. E&P, the drilling part

of the business, has earned a 5.6% return on assets on average over the last three

years, while distribution and transmission, the infrastructure part of the industry,

has earned only a 2.4% return on assets (see Exhibit 5). This return on assets for

downstream companies is considerably below the 5.0% return on assets earned by

the broader S&P 500 index in the second half of the 1990s.

The reality of modern capital markets is that only industries with significant positive returns on cash invested above the cost of capital attract new capital. If you

compare return on cash invested across industries over the last decade for companies in the S&P 500, the reason for today’s energy shortages become quite transparent. Utilities and energy companies managed to produce slightly less than a 9%

return on cash invested while the rest of the market produced returns on cash invested of 12.5% and above (see Exhibit 6). It is hardly surprising that most of the

investment activity has occurred elsewhere, stressing our energy infrastructure to

its limits.

CONTROLLED ‘‘DEREGULATION’’ INCREASES RISKS ON POOR RETURNS

Worse, the risks associated with these poor returns have increased significantly

since the mid-1990s due to ‘‘deregulation’’ and ‘‘environmental rules.’’ Clearly, the

introduction of competition over the last decade has increased the risks associated

with investments in energy infrastructure. In natural gas storage and transmission,

controlled deregulation as opposed to true competition has dramatically increased

risks (primarily volume risks). However, the rates of return on these assets have

not risen over the last decade to compensate for the higher risks. Rather, the rates

of return have fallen, which makes the situation worse on a risk-adjusted basis.

Further, following ‘‘deregulation,’’ the rates of return were supported primarily

through cost reduction, as the emphasis in the industry shifted from reliability to

efficiency, i.e. through getting rid of the excess. This is all too apparent in the drop

in transmission and gathering pipeline capacity that was deemed ‘‘excess’’ during

the 1990s (see Exhibit 7).

To internalize these risks, the industry in the past has relied upon long-term forward contracts or some form of vertical integration. Current regulations, however,

discourage both of these forms of risk management, as the emphasis is placed on

the use of spot prices and the transparency they provide to both consumers and producers. This spot price transparency is very effective in providing market signals for

efficient drilling and consumption patterns, which are relatively low-capital intensive activities. However, for more capital intensive and longer lead-time activities,

such as building infrastructure, a spot market price signal is a lagging indicator of

an investment that should have already been made. Instead, forward contracts of

sufficiently long duration are needed to internalize the risks and induce the needed

investment in advance of shortages. Further, current regulations require any longterm contracts to build infrastructure to have such a high subscription rate, near

80%, that excess capacity will rarely be built, which reinforces the underinvestment

problem.

POLICY NEEDS TO CREATE RESERVE CAPACITY THAT MARKET FORCES ARE FAILING TO

GENERATE

The paradox of the current situation is that the underinvestment in infrastructure

by the market is the correct economic outcome given the poor rates of return, as

the best use of capital is in other industries where the rates of return are higher.

The market solution is not concerned with volatility, but rather the expected rate

of return. This solution only leads to new infrastructure when it is absolutely needed, which is usually too late. Just look at the only large infrastructure projects of

the last several years—the Alliance, Kern River, and Gulf Stream pipelines—

projects brought about by extreme pricing.

However, reserve or excess capacity should be viewed as a public good, just like

a road, where markets fail to find a solution. This inability of the market to provide

adequate incentives for investment in reserve infrastructure is where the market

fails and why more dramatic action is required. Further, the current market and

regulatory structure reinforces this price volatility as it emphasizes efficiency over

reliability. Accordingly, the aim of policy should be to reduce the price volatility

69

through creating excess capacity without significantly sacrificing the efficiency and

transparency of a market-based system.

Forcing excess capacity through regulation has not been met with much success

in the past. Before the 1980s, regulatory practices emphasized reliability by requiring pipeline companies to demonstrate sufficient capacity to serve additional customers before projects would be approved. To internalize the risks of such ambitious

projects, 30-year long-term contracts with regulated price caps were often used.

These price caps were fixed and ultimately led to significant market distortions, as

the market could not clear properly. The stranded costs generated during this regulatory period have been estimated at $80 billion in 2002 dollars.

Interestingly, the costs to consumers due to increased volatility in the post-‘‘deregulation’’ period are not much smaller. Since 1995, these costs, measured as the

cumulative difference between the price paid and marginal cost of production is near

$75 billion in 2002 dollars, nearly the same as stranded costs generated from the

regulatory period, and this does not include the costs of the California crisis and

the long-term loss of manufacturing activity. Further, with the cost of an arctic

pipeline estimated at $10 billion, these costs would have paid for new infrastructure

and then some.

What this suggests is that transportation and storage assets may be thought of

as public goods and could be treated just like a freeway or toll road. The US energy

consumer would have most likely been made better off had the government taxed

natural gas prices and used the proceeds to build infrastructure, just as it taxes gasoline to build roads. The key issue is to create excess capacity that market forces

are failing to generate. This would dramatically reduce price volatility, investment

risk, and create a more conducive environment for demand growth.

THE LACK OF INFRASTRUCTURE IS A LIMITING FACTOR ON ECONOMIC GROWTH.

Energy is rapidly becoming a major limiting factor on economic growth. If the core

energy infrastructure in the United States does not improve, energy crises are likely

to become progressively more frequent, more severe, and more disruptive of economic activity. Without significant new investment, each crisis further damages the

system by permanently destroying the price-sensitive demand that serves as a pressure valve and by giving companies incentives to stress existing facilities to meet

excess demand, leading to accidents and capacity losses.

The long-term consequences of either allowing infrastructure to remain inadequate or sacrificing environmental concerns in the name of economic expediency

are unacceptable. Finding a ‘‘workable’’ solution will require imagination and flexibility from both a market and policy perspective. Economic solutions depend on diversification of risk and flexibility of response, both of which are lacking under the

current market and regulatory structure.

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Chairman TAUZIN. Thank you very much.

The Chair recognizes himself for 5 minutes for the purpose of

questions.

I have in my hand a story by the Reuters news service today in

which it details how the Energy Secretary Spence Abraham is literally scheduling an emergency meeting on June 26th to consider

ways to conserve in this critical area. So the Department of Energy

is obviously very concerned, Mr. Caruso, when your boss is scheduling this kind of a deal.

Then, Mr. Mason, I look at your testimony, and I want to quote

from it. It is a pretty strong message. You say, therefore, my message to home owners and renters is the conservation of energy can

only have a marginal impact on their natural gas bills. In effect,

the residential consumers have already, at least in your State, done

the bulk of the conservation methods they can achieve. Is that correct?

Mr. MASON. Thank you, Chairman, Members of Congress.

It is my belief, based on the fact there was a serious 5 percent

drop over the last 2 years when, on a normal cycle basis, there

would be a half percent efficiency gained. So I think people took

serious steps already. That doesn’t mean other things can’t be scrutinized.

Chairman TAUZIN. But you are basically saying the bulk of it has

already been done. We are about to have an emergency conference

on what else we can do to conserve. You are telling us, at least

from Ohio, we have done most of that already.

Mr. MASON. Congressman, I am stating from the residential

standpoint, which is only about 25, 26 percent of the total gas load.

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Chairman TAUZIN. So then we turn back to Mr. Caruso, and we

note that you give us a hopeful message that you think we can ride

this out. But, in the extreme, if we have abnormally low temperatures and the economy does begin to pick up and demand increases, we could have some problems, couldn’t we?

Mr. CARUSO. Definitely. Mr. Chairman, that is the reason I mentioned that markets are not only tight but the potential for volatility remains high with weather or other unusual circumstances.

Chairman TAUZIN. Unforeseen circumstances. You also say in

your statement, in the current environment companies will need to

obtain large amounts of natural gas from other sources to refill

storage for the next heating season. What do you mean ‘‘from other

sources?’’

Mr. CARUSO. Well, on the supply side, although we have heard

from our Canadian colleague that that may be difficult, we certainly need to increase our imports from both Canada and, to the

extent possible, limited ability for LNG. But the other side of that

is the destruction of the demand which has been mentioned by several witnesses.

Chairman TAUZIN. That is the other side. But if we are limited

to other sources, we also face very limited options there, don’t we?

We face limited options in liquid natural gas imports to this country; we face limited options in terms of Canadian imports. Is that

right, Mr. Kvisle? Right now, until we have new infrastructure, Mr.

Currie, to permit delivery, we could be in some pretty tight spots,

couldn’t we?

Mr. CARUSO. Yes, sir.

Chairman TAUZIN. It is not just the homeowner and the consumer. Now we are looking at serious concerns for the farm community.

I want to quote from your testimony, Mr. Liuzzi: High natural

gas prices present the most serious threat to the fertilizer sector

and to farmers in general since the energy shocks of the 1970’s.

That is a pretty strong statement. I remember those energy shocks

in the 1970’s. In fact, I was elected to Congress in 1980 to come

and hopefully straighten out the Federal policy that resulted from

that.

What resulted from that was the Federal Government trying to

control the price of natural gas through government fiat. We ended

up with the worst disruptions of the natural gas markets this country has ever seen.

My concern is, are we building another problem like that? Are

we going to face a situation where, because everyone wants natural

gas to make electricity, it is the most environmentally popular

source of fuel for electricity, homeowners will start seeing their fuel

bills go up, shortages could develop depending upon weather conditions that we can’t predict, and all of a sudden, you know, we can’t

get it fast enough? We can’t blame Canada this time like the kids

from South Park did. Canada is trying to get gas to us to the extent they can.

So we are left with a situation where even our fertilizer manufacturers are telling us we might not have the natural gas critical to

the raw material production of essential fertilizers to the farm community and imports can’t satisfy some of that demand because of

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critical infrastructure problems again in ports and distribution systems. Are we building another case where we are going to be debating Federal price controls again?

Can anyone give us a better answer, any one of you out there?

Mr. Kvisle.

Mr. KVISLE. I would offer a couple of comments.

First of all, in the near term there is virtually nothing that can

be done to significantly increase the supply of natural gas. This is

a multi-year process. And the big projects, whether it is LNG importation or natural gas from the north, will——

Chairman TAUZIN. Or gasification of coal, which my friend

from——

Mr. KVISLE. These are all 5, 10 years. So the near-term market

balancing mechanism, as Dr. Currie said, will in fact demand destruction.

I have great sympathy for people in industries like fertilizer, but

it is the reality of what will balance the market in the near term.

There is not just an infrastructure problem from Canada. We have

supplied 50 percent of your incremental gas in the past 10 years,

and our industry is now running flat out. There is not much more

production increase available.

Chairman TAUZIN. So, to summarize it, short term we got very

limited options. All we can do is press conservation as tough as we

can in many circles. Long term, we need some policy to get supply

back and infrastructure developed to make sure people can use it.

We need to, long term, think about an alternative sources for natural gas in the marketplace; and so I yield to my friend from coal

country for a discussion of that subject.

Mr. BOUCHER. Thank you, Mr. Chairman.

Mr. Caruso, I have several questions of you concerning the very

enlightening testimony you have presented this morning. Among

other things, you are projecting an increase in natural gas consumption by electricity generators from 5.3 trillion cubic feet in

2001 to 10.4 trillion cubic feet by 2025. In preparing that projection, what is your assumption about the number of new electricity

generating plants that will be constructed between now and 2025

and how many of those new plants do you anticipate will be fueled

with natural gas?

Mr. CARUSO. Our Outlook calls for almost 450 gigawatts of new

capacity to be built between now and 2025. Of that, 80 percent is

assumed to be natural gas-fired; and the largest of the remainder

would be coal. Then there is a relatively small amount that would

be wind-generation and other sources of renewable energy. That is

on the assumption, of course, that, as I mentioned in the testimony,

that prices for natural gas do retreat from these high levels we are

seeing this year; and we see them continuing probably for 2 or 3

years. But the increased availability of gas from our unconventional sources does bring that price back into the $3 to $4 per million BTU range, a critical assumption in reaching conclusion that

80 percent of our new electric power plants will be fueled by natural gas.

Mr. BOUCHER. Okay. You are also predicting that coal prices during the course of that period will decline. But you are saying that,

76

even with falling coal prices, natural gas is going to continue to

enjoy an advantage.

I wonder if you have taken a look at the provisions in the Senate

version of the energy bill that extends a range of tax credits, production tax credits and investment tax credits, to electric utilities

that use a new generation of clean coal technology? The information we have had from the utilities is that the level of tax credit

afforded by the Senate bill would encourage a large number of

them to use coal instead of natural gas in their new generating

units. I wonder if you have taken any independent look at that

and, if you have, if you could share it with us.

Mr. CARUSO. We haven’t actually looked at that particular provision, but we certainly would be willing to do that, sir, if you would

so desire.

Mr. BOUCHER. If we ask for it. Thank you.

Let me ask you also about the statement that you made on page

17 where you predict that increased U.S. gas production through

2025 will come from unconventional sources and also from Alaska.

Two basic questions about that.

First of all, what kind of assumptions are you making about

Alaska gas? We have had a lot of testimony concerning it here this

morning. Are you assuming that a new pipeline will be built? And

do you think that that—that this assumption that you have made

is based upon any level of government support such as a loan guaranty or price floor with respect to natural gas production?

Mr. CARUSO. Yes, Congressman Boucher. The assumptions about

the Alaskan natural gas in our long-term Outlook are that a pipeline will be built and, based on the outlook for prices that I mentioned earlier, that approximately $3.50 per million BTU price in

today’s dollars would be sufficient to attract that project. The other

assumption we make is that existing policies are the basis of that

judgment. There are no new subsidies that would be included. It

would come on line, based on our latest Outlook, around the year

2020 using the route that was mandated by law, the fact that being

the State of Alaska has prohibited the so-called northern route.

Chairman TAUZIN. If I can, that was done by statute, was it not?

Mr. CARUSO. Yes.

Mr. BOUCHER. Let me ask you also about liquefied natural gas

imports. To what extent do you see any growth in those as you

make these projections about gas usage?

Mr. CARUSO. We have LNG imports increasing to about 2 trillion

cubic feet by 2025.

Mr. BOUCHER. What is the level today?

Mr. CARUSO. It is quite low today, around 200 billion.

Mr. BOUCHER. So you are projecting a major increase in LNG increase. Do you think that wise? Do you think that is good policy?

Mr. CARUSO. Well, I am not in the policy business. But to the extent that more options are available to meet growing needs, that

makes the market more robust and less regional.

Mr. BOUCHER. One final question and that is, do you see a role

for coal gasification as a possible way of bringing a new and unconventional means of gas production to the United States?

Mr. CARUSO. Our long-term Outlook has very little of that in it

at this time.

77

Mr. BOUCHER. Thank you very much, Mr. Caruso.

Chairman TAUZIN. Thank you, Mr. Boucher.

The gentleman, Mr. Whitfield, is recognized I believe for 8 minutes for questions.

Mr. WHITFIELD. Thank you, Mr. Chairman; and I want to thank

the panel for being with us this morning and for their testimony

on this important issue.

Mr. Caruso, in your testimony you talked about in 2025 the demand would be 35 trillion cubic feet per year; and the supply would

be in the neighborhood of 26 or so. Now, on the supply, are you including liquefied natural gas in supply on that supply side? In the

26 trillion cubic feet, is that including liquefied natural gas?

Mr. CARUSO. No, that would be part of net imports needed to fill

that difference between the 35 trillion cubic feet and the 26.9 of domestic production.

Mr. WHITFIELD. All right. Now, Mr. Liuzzi in his testimony referred to artificially induced demand for natural gas; and I am assuming you are talking about the Clean Air Act and other regulatory matters, is that correct, Mr. Liuzzi?

Mr. LIUZZI. Yes, sir.

Mr. WHITFIELD. Do you all agree with him that there has been

an artificially induced demand for the supply of gas through the

policy of the government? Would anybody else like to address that

issue?

Mr. KVISLE. TransCanada is also a power generation company,

including here in the United States. We have used natural gas as

a fuel for power generation, but those decisions were taken in an

era where natural gas was quite inexpensive, in the $2 range. It

is a different ball game when natural gas is north of $5. I don’t

know that it is so much a policy inducement as just gas was very

cheap and a lot of major investments were committed. Whether

people would commit to that in an era of higher gas price I am not

certain.

Mr. WHITFIELD. Mr. English, would you agree with that comment. That there is an artificially induced demand for natural gas?

Mr. ENGLISH. I am not sure I would term it ‘‘artificial.’’ There

certainly is need based upon current regulations to have an environmentally friendly source of fuel for electric generation. But I

think what we have to continue to keep in mind is that we do need

a balanced portfolio of fuels for electric generation, and we do have

an awful lot of coal in this country, we have nuclear option that

has not been fully explored recently for a variety of reasons, lots

of options out there, that we need have some balance rather than

to think that we can depend upon just one source of fuel.

Mr. WHITFIELD. Well, I certainly agree with that. Like Mr. Boucher, being from a coal area, we have such a tremendous resource

in coal. I, for one, think we need to address and look in a new way

at this environmental standard that we have in America today.

My friend, Mr. Shimkus, here has a book with him today which

I have called The Skeptical Environmentalist, written by a Professor Lomborg in Europe, who was Mr. Green in Europe. The New

York Times wrote a large article about his book and another book,

One Moment on the Earth, written by an environmental writer for

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the New York Times. In both of those books they question the models being used in projecting global warming.

When you talk about this issue of global warming and acid rain,

people just automatically accept arguments that are being made by

a lot of environmentalists; and I think that this book and others

are now bringing to the forefront that this is an area that needs

objectivity in analyzing some of the models being used, particularly

when you think of the impact that all of this has on our economy.

I would also like to ask a question about jobs and manufacturing.

Do any of you feel like that we have lost a lot of manufacturing

jobs in the U.S. over the last number of years as a direct result of

this scarcity and pricing of natural gas?

Mr. KVISLE. Yes.

Mr. WHITFIELD. Yes.

Mr. ENGLISH. Certainly we have seen the evidence of the demand

destruction just a couple of years ago has very definitely pushed

jobs out of this country.

Mr. WHITFIELD. When we hear about loss of manufacturing jobs,

we primarily hear about low wages in China or Mexico or whatever

and their environmental standards are not as demanding as ours.

All of this obviously fits in together. But in opening statements this

morning we heard—and I am not sure which report was referred

to—but I know our friend from Colorado and also California referred to a recent report from the government that said that this

lack of supply of natural gas, the fact that it is not being explored

in some of our public lands really has nothing to do with that.

I may be simplifying their comment, and I am sure Ms. DeGette

will get to it later, but there was some comment like that. And yet

you all have been testifying this morning that you need access to

at least part of these public lands. Most of you agree with that

statement, is that correct?

Ms. DEGETTE. Would the gentleman yield real quick?

Because, actually, they do have access to most of the public

lands. The question really is, do they—in fact, I intend to ask that

when it comes up to me. The question is not do they need access

to public lands, because even I would agree, yes, they do. The question is, do they need access to some of the public lands like wilderness areas or national parks where drilling is not allowed as part

of the management plan? Because in the vast majority of public

lands, oil and gas exploration is allowed and, in fact, encouraged.

Mr. SHIMKUS [presiding]. Would the gentleman yield for a second?

We are trying to get a handle on there have been a couple of reports listed. We would like to ask a UC that these reports, whatever is being quoted, be submitted for the record so that we could

review whether there is one report or two reports. If you have the

exact report that is being cited, any member, if would you like to

do that.

Ms. DEGETTE. Mr. Chairman, the report I am referring to is a

study which was prepared at the request of Congress under provisions of the 2000 Energy Policy and Conservation Act by the Department of Interior, which was released, I believe, in December of

2002. I would add to the unanimous consent that that report be

made a part of the record of this proceeding.

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Mr. SHIMKUS. Is there objection? Hearing none, so ordered.

[The report is available at http://www.doi.gov/epca/]

Mr. SHIMKUS. The gentleman still has a minute.

Mr. WHITFIELD. Mr. Otter.

Mr. OTTER. I thank the gentleman for yielding.

In responding to earlier comments, I think what we need is access to public lands where the gas is; and I think that is the report—that is what we want to glean from the report. Because I

think, at this point at least, if I have read the same report when

I was on the Resources Committee, the report has been grossly

misquoted here this morning and way above the 12 percent that

was referred to earlier.

I thank the gentleman for yielding.

Mr. WHITFIELD. Of course, another comment that we can make

about this, and it was referred to in your testimony, was that even

if you have access and you are able to bring on new supplies of natural gas, being able to transport that and have the infrastructure

in place is a serious issue as well.

So, Mr. Chairman, I see my time has already expired. So thank

you.

Mr. SHIMKUS. I would like to thank my colleague from Kentucky.

Now the Chair recognizes the gentleman from Michigan for 8

minutes.

Mr. STUPAK. Thank you, Mr. Chairman; and thank you to some

of our witnesses. Sorry I missed some of it. I had to run off and

do a quick meeting there.

On this public lands issue, since we seem to be going back and

forth on it, can you, any of you, give us an estimate how much natural gas you believe is tied up on Federal lands? Does anyone have

an idea, a guesstimation? Other than a bunch. No one has an estimation. Yes, sir.

Mr. SHARPLES. At the risk of misquoting without numbers in

front of me, we run—there is confusion about gas that is technologically recoverable gas that is economically recoverable and

whether or not gas is available.

As to the last point, while we heard that only 12 percent of the

lands in the West in this EPCA report are technically off limits,

which would be the parks primarily, wilderness areas, that number

goes to 40 percent if you look at areas that are subject to significant lease restrictions. The number goes even higher, and the

study did not get to this issue, of lands that are subject to very significant post-leasing restrictions.

Mr. STUPAK. I understand all those differentiations, but are you

all saying this is off limits? But if there is not enough gas there

to go after, why worry about it then?

Mr. SHARPLES. My recollection is that, just looking at the Western States, there is an excess of 200 trillion cubic feet that is technologically recoverable.

Mr. STUPAK. Two hundred trillion. How long will that take this

country in our gas consumption?

Mr. SHARPLES. Eight years.

Mr. STUPAK. There has been a lot of discussion about new gas

coming in from Canada. It is going to take another pipeline, I take

it, to bring that gas down, correct?

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Mr. KVISLE. The issue in Canada is that western Canada produces about 17 BCF a day, and the decline rates in western Canada are such that that is about as high as it is going to get. You

are not going to see a lot of increased production out of western

Canada. In fact, there is increased demand in western Canada in

the oil sounds so you should not count on increased imports from

there.

The only Canadian source that will be significant for you in the

near term is the McKenzie Delta, where about 1 BCF a day will

come on stream within the next 5 or 6 years, and that will in fact

flow through to U.S. markets because it is gas on the margin.

Mr. STUPAK. Would you have to build a new pipeline to get that

gas down or could you use existing infrastructure?

Mr. KVISLE. That project was first proposed 30 years ago when

a 3,500 kilometer pipeline to the U.S. was proposed. Today, only

1,200 kilometers is required to get it to northern Alberta where our

existing systems have enough capacity to——

Mr. STUPAK. To pick it up from there.

Mr. KVISLE. Yes.

Mr. CARUSO. Congressman Stupak, we participated in this study

with Interior; and our estimate is that if Federal legislation were

enacted to rescind the State moratorium on outer continental shelf

development, that would add about 58 trillion cubic feet of resources. And in the Rocky Mountains, if, again, legislation were enacted to allow greater access and standard lease, that would add

about 70 TCF to resources available.

Mr. STUPAK. Good.

Mr. Caruso were mentioning about current prices around $5.50, near $6. You felt that it would stay that way through this year.

Mr. CARUSO. Yes, sir.

Mr. STUPAK. In January, will we see a spike like we have seen

in the last couple of years?

Mr. CARUSO. This morning’s spot price of natural gas at Henry Hub was $6.25 a million BTU. Our estimate is that the average

price, which, of course, is based on some longer-term prices as well,

would be between $5 and $6 per million BTUs. However, given possible weather conditions such as a warm summer adding to natural

gas demand for electricity production or wintertime demand for

heating, we could very well see price spikes that could reach $10

per million BTU in a given timeframe such as 1 week or so.

The good news is most of the historical experiences with price

spikes are that they are relatively short-lived.

Mr. STUPAK. What we saw in January, 2001, with the $9 was—

and it was nearly $8 last January, so you are saying January this

year could get as high as 10 and these spikes are for a short period

of time.

Mr. CARUSO. Certainly a possibility.

Mr. STUPAK. Is it correct to assume that most of the natural gas

used in this country is used for industrial use as opposed to home

heating use?

Mr. CARUSO. The industrial use is about 35 to 40 percent of our

total use of natural gas.

Mr. STUPAK. In that industrial use does that include generating

electricity?

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Mr. CARUSO. No, that is separate.

Mr. STUPAK. How much is generation?

Mr. CARUSO. Generation of electricity, excluding co-generation, is

about 24 percent.

Mr. STUPAK. So, really, about 55 to 60 percent of all the natural

gas is used for industrial use, either for electric generation or for

industrial use.

Mr. CARUSO. That is correct, sir.

Mr. STUPAK. But about 60 percent of American homes are heated

with natural gas. Back in 1978 to 1987, Congress restricted the use

of natural gas for generation of electricity under the Fuel Use Act.

It required that power plants be capable of generation with natural

gas or coal. That law obviously expired. Do you think it would be

wise to recommend any kind of policy like that?

It seems like we have big users of natural gas for generation of

electricity—I know we talk about other fuel, nuclear, or someone

mentioned it earlier. Should we look for other ways to generate

electricity as opposed to natural gas if we are running into this

wall of short supply since so many homes are heated with natural

gas?

Mr. CARUSO. Well, the EIA is not in the policy business, but you

are correct that the 1990’s witnessed an enormous explosion of demand for natural gas for electricity generation. We certainly expect

that would continue in our long-term forecasts under existing rules

and regulations.

Mr. STUPAK. But if that demand continues, there is going to be

a point in time, if you can use the word, the ‘‘bubble’’ is going to

burst here pretty quick unless you open up new areas to drilling,

which may or may not happen. And if you did that, that is going

to take time. And even if you do open up new areas you have to

build pipelines to move it and everything else. Would it seem more

practical or logical to say, hey, let’s start prioritizing who is going

to be using natural gas and we have to look at other energy alternatives to produce electricity?

Just throwing that out if anyone cares to comment.

Mr. Mason.

Mr. MASON. Chairman, Congressman, in my prepared comments

one of the things I commented, it is the residential customer, as

you indicated, who is bound to use natural gas as his energy

source. But, in fact, many new boilers being constructed also have

dual-fuel capability so they can go to heating fuel or even to coal.

I know of two facilities in Ohio alone, industrial, not burning natural gas because they have already fuel shifted. You do have that

kind of demand destruction when the price goes up into the $6

range and beyond.

Now, going back to an earlier comment, we can’t play down the

effect in the wintertime of peaking or spikes in gas, because, in

fact, that means it has gotten unusually cold; and, obviously, that

is when the residential customers need it for home heating.

Mr. STUPAK. Anyone else care to comment? Yes, sir.

Mr. KVISLE. I don’t believe that the U.S. Government would need

to regulate or set out guidelines for how natural gas needs to be

used. I believe the market would take care of that. But I would

support your question that other sources of electric generation

82

should be examined and should be encouraged and should be pursued.

I believe you also made the observation that this would take

some time, and that is correct. In the near term we have a few options, but to use the facilities that are available to us, a significant

portion of it is gas fired.

Mr. STUPAK. It seems like some of our energy policy is to get us

through next January and February, then we will worry about it

again next year. But if you are talking about energy, you almost

have to start thinking about it long term, 10 and 15 years out, if

you are going to really address it.

Thank you, Mr. Chairman.

Mr. SHIMKUS. My colleagues will have to give me more time if

he takes more time off the clock.

Mr. STUPAK. I received an extra 3 minutes because I didn’t do

my opening.

Mr. SHIMKUS. You ran over already.

Mr. STUPAK. Three minutes, not 3 seconds.

Mr. SHIMKUS. The Chair now recognizes my colleague, Mr. Shadegg, for 5 minutes.

Mr. SHADEGG. Thank you, Mr. Chairman.

I want to try to get further information on this issue of available

resources in the United States and the restriction of Federal lands.

In that regard, I guess, Mr. Sharples, I want to start with you.

In your testimony, you state flatly that there is a great deal of

natural gas left in basins which we are not producing from. You

specifically referred to in the lower 48 there is an estimated 213

trillion cubic feet of natural gas behind below Federal lands or waters where moratoria or regulation make exploration virtually impossible.

Ms. DeGette has already raised this issue and discussed it. I

think she makes the point that it is unlikely the Congress is going

to open up either natural parks or wilderness areas. Your testimony does not expand on whether this supply or how much of this

supply is beneath natural parks or wilderness areas. Can you further elucidate the committee on that point?

Mr. SHARPLES. I can only extrapolate on a portion of it right now.

We can certainly get you the information.

The EPCA study that has been repeatedly referred to, which

looked at only five basins in the West——

Mr. SHADEGG. Is this the study that Ms. DeGette referred to and

put in the record?

Mr. SHARPLES. Yes, sir. About 12 percent of the lands in that

study were absolutely off limits, which in my estimation would be

parks and wilderness areas. The rest of the lands are either subject

to restrictions on leasing or restrictions on permitting or other

issues but not necessarily off limits.

As I said in my testimony, our industry is not looking for blanket

access. We are looking for a reasonable balance between economic

needs and environmental concerns. We do think, though, there are

areas which can be exploited, and those areas can be exploited in

an environmentally responsible manner. But not a blanket access,

sir.

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Mr. SHADEGG. But you believe that to be—I am sorry, did you

say less than 12 percent of that total?

Mr. SHARPLES. No. I am saying that if we just exclude the 12

percent that is parks and wilderness and don’t even touch that, of

the remainder, there are certainly areas where the resource could

be exploited on an environmentally responsible and economic basis.

Mr. SHADEGG. In your testimony also, Mr. Sharples, I believe you

make a reference to two studies. You say a National Petroleum

Council study and a U.S. Department of Interior study, both of

which say that there is a tremendous amount of natural gas available in the Rocky Mountain region that is available and is not, as

I understand it, under either national parks or wilderness areas.

Is that correct?

Mr. SHARPLES. Yes, sir.

Mr. SHADEGG. Is this one of those two studies? This is a natural

gas—meeting the challenges of the Nation’s growing natural gas

demand?

Mr. SHARPLES. I believe so, sir.

Mr. SHADEGG. This particular study identifies, I believe, 137 trillion cubic feet in the Rocky Mountain area that is restricted; and

it also references 31 trillion cubic feet off the east coast of the

United States. Could you get for the committee information on how

much of that is in these truly environmentally sensitive areas

where no one is going to agree to go in and explore a wilderness

area or a national park versus how much of it is restricted for

other reasons?

Mr. SHARPLES. We will work on that for you, sir.

Mr. SHADEGG. Mr. English, you testified on the same point. Are

you familiar with the study Ms. DeGette referred to?

Mr. ENGLISH. No, I am not an expert on that.

Mr. SHADEGG. Are you familiar with the Department of Interior

study which reached the conclusion that has these numbers in it

showing substantial resources in the Rocky Mountains and off the

east coast that are restricted?

Mr. ENGLISH. I am familiar with the report.

Mr. SHADEGG. Is it your belief that there are substantial quantities there that could be obtained without either going into national parks or going into wilderness areas?

Mr. ENGLISH. I am not expert enough to answer that, either.

Mr. SHADEGG. Okay. Well, if you could get us information on

that, I think it would be tremendous help to the committee. I think

there would be consensus that we are not going to go into wilderness areas or national parks. But it seems to me if there are unduly restrictive provisions of our other environmental laws where

the areas are not in fact as sensitive, I think we could build a consensus around going after them; and the book that the Chairman,

Mr. Shimkus, referred to talked about the fact that some of these

supplies could be accessed.

Yes, sir.

Mr. SHARPLES. If I may, sir. We referred repeatedly to this Energy Policy and Conservation Act phase one study about areas that

are——

Mr. SHADEGG. EPCA you are referring to that Ms. DeGette has?

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Mr. SHARPLES. Yes, sir, on these five basins. I think it is important to go beyond what this study did and look beyond just what

is technically off limits and look at the effect of post-leasing restrictions, difficulty in acquiring permits, time during which one is allowed to operate. Things that, because of the relatively low margins

of some of these properties, effectively deny access and see if there

are areas where improvement is possible in that area as well.

Mr. SHADEGG. Would it be your recommendation—my time has

run out. But would it be your recommendation that the Congress

order or direct that a study of all those issues be conducted? Or are

the resource information already available? Is the information

available?

Mr. SHARPLES. It is my personal opinion that I don’t believe the

information is available.

Mr. SHADEGG. So we need to take a look at that, given the price

structure and the pieces of these restrictions that cause the price

to go up.

Mr. SHIMKUS. The gentleman’s time has expired.

The Chair recognizes my colleague from Colorado for 5 minutes.

Ms. DEGETTE. Thank you, Mr. Chairman.

You know, I think we are finding some common ground here.

This is great.

Mr. Sharples, in your written statement you said there were two

things the government needed to do to increase natural gas development: one, allow greater access to certain resource-rich Federal

lands and waters that are currently closed to exploration; and, two,

create a regulatory framework that allows and encourages exploration. But when I first read this I thought maybe you were talking

about drilling in wilderness areas and national parks, but that is

not what you are talking about at all, is it?

Mr. SHARPLES. That is certainly not the major thrust of what we

are looking at.

Ms. DEGETTE. But I think you just told Mr. Shadegg you don’t

think we should drill in those areas.

Mr. SHARPLES. I personally don’t. If an adequate assessment of

economic benefits versus environmental issues have been taken

into account, no. I think there are a lot of other things we can do.

Ms. DEGETTE. Right. And what you are really concerned about

is what you just said, which is laws and regulations and restrictions on leases that in effect stop exploration because they make

it economically infeasible, right?

Mr. SHARPLES. That is correct, ma’am.

Ms. DEGETTE. And do you have some sense or do you know about

a study about what percentage of the public lands we are looking

at where those types of barriers exist to drilling?

Mr. SHARPLES. I don’t believe that has been quantified. In fact,

as I mentioned, I think that a phase two of the EPCA study that

looked beyond just what is available for leasing would be very, very

valuable.

Ms. DEGETTE. So do we have any other information? And, by the

way, to Mr. Shadegg, the study I was referring to is a Department

of Interior study, okay?

But so what you are saying is, let us do another study which

shows what kinds of regulatory barriers are there to the developVerDate 11-MAY-2000 12:34 Aug 25, 2003 Jkt 000000 PO 00000 Frm 00088 Fmt 6633 Sfmt 6602 88422.TXT HCOM1 PsN: HCOM1
85

ment of the other lands that should be available for development,

right?

Mr. SHARPLES. Yes, ma’am.

Ms. DEGETTE. Well, I think that is a great idea, too; and I think,

Mr. Shadegg, maybe we can work on that.

What kinds of regulatory barriers exist to development of natural

gas in areas where it would be acceptable?

Mr. SHARPLES. We could perhaps start—we have already discussed whether or not you can lease and then what kind of restrictions on operations are placed in leases. Those are relatively easy

to quantify.

Ms. DEGETTE. And do we have any sense about those restrictions

that are included in leases, how much development those are stopping?

Mr. SHARPLES. Actually, to some extent that is addressed in

phase one of this EPCA study. What is not is extensive delays in

granting leases—excuse me, granting permits to operate, extensive

delays once the permit for an exploration well is granted, and assuming it is successful in going on to development.

Ms. DEGETTE. I hate to interrupt you. They only give us 5 minutes.

Mr. SHARPLES. But a lot of those kinds of technical issues.

Ms. DEGETTE. Right. And a lot of those barriers are due to what

Mr. English was talking about, which is insufficient resources to

the regulators who are supposed to be granting these, right?

Mr. SHARPLES. Absolutely, ma’am.

Ms. DEGETTE. So one thing that we could really do on a bipartisan basis that could help, that Congress could do, is beef up resources in particular to the BLM to allow regulators to review more

quickly these leasing applications.

Mr. SHARPLES. We would wholeheartedly support that.

Ms. DEGETTE. Now, Mr. English also talks and others on the

panel talk about a lack of resources going toward infrastructure.

Let us say you go into some of these areas that are remote. I have

been to many of these areas in the Rocky Mountains. Let us say

you go in and you find a successful well. Getting the natural gas

out is also a problem, correct, Mr. English?

Mr. ENGLISH. That is true. It does——

Ms. DEGETTE. Can you speak up?

Mr. ENGLISH. It does indeed take infrastructure to move the natural gas from where it is found to move it to people’s homes and

businesses.

Ms. DEGETTE. And let us say we eliminate some of the regulatory barriers and the regulatory delays. What can we do to speed

up development of infrastructure so we can actually remove the resources and get it into people’s homes?

Mr. ENGLISH. Well, certainly what has been discussed is appropriate, that we speed up the actual regulatory process so that those

particular facilities can be sited. And certainly the action taken by

the House in order to speed up depreciation of those investments

is also a big——

Ms. DEGETTE. That will help with development of infrastructure.

Great.

Thank you so much, Mr. Chairman.

86

Mr. SHIMKUS. I want to thank my colleague, and I will now recognize myself for 5 minutes. And let me start with Mr. English.

If natural gas becomes cost prohibitive or physically unavailable,

what will the people use as an alternative?

Mr. ENGLISH. Well, first of all, I don’t think it is going to become

unavailable. Certainly——

Mr. SHIMKUS. Well, okay. Let us don’t use ‘‘unavailable.’’ Let us

use ‘‘unable to deliver.’’

Mr. ENGLISH. Certainly, we have explored in the discussions

today the fact that, under the right circumstances, there can indeed be scenarios where there could be shortages. All gas distribution companies in this country have emergency procedures that

deal with those kinds of situations, because you can never predict

how cold a winter is going to be or just what kind of problems you

may face in terms of supply at any given point in time.

So the situation is if there is a—if there is not enough available

at any given point in time, then the procedures are such that we

begin to not serve particular customers, which generally starts out

with industry and in many cases with electric generation. The last

thing on the list ends up being homes and schools and that sort

of thing. Those are the kinds of problems we faced in the 1970’s

and certainly hoped that we wouldn’t have to face that kind of

thing again, which is the reason that we are here today.

Mr. SHIMKUS. Let me continue on. I have always spoken on this

committee about a diversified energy portfolio and the fact that we

ought to—the market will be the best means of distributing the

best fuel at the lowest price, if you don’t put external demands or,

as Mr. Whitfield said, the cost of doing business, sometimes a successive government regulation, whether it is not able to get natural

gas off of Federal lands.

Let me make a point just for clarification. Public land is by definition multi-use. That is an important point to be made. Public

lands is multi-use land versus wilderness areas which are defined

as not being multi-use. So this whole debate about public lands, the

use of those public lands for exploration and recovery is well within

the purview of what we ought to be doing as good public policy.

I wanted to ask Mr. Caruso. On your report, you mentioned unconventional recovery. In fact, I lost what—I think it was on page

17—and you talked about the increase from, I don’t know, 28 to 36

percent by 2025. That is probably not the exact percentage. In that

unconventional recovery, are you talking about coal, coal bed methane gas?

Mr. CARUSO. Yes, sir. It is not only coal bed methane but also

tight sands gas, which is a large part of the unconventional resources and is the largest single block of new gas resources that

we have in our long-term forecast. That gets us to the 26.7-26.8

TCF by 2025.

Mr. SHIMKUS. And I want to just mention that, because of the

line of questions of the ranking member and Mr. Boucher and also

my friend, Mr. Whitfield—because, obviously, in coal States with

untouched locations still available, plus old mines that have been

left, there is an opportunity there in the extraction of coal bed

methane to meet those needs.

87

I wanted also to go to Mr. Currie on this—just this debate. I

made a comment a few minutes ago about the market, and I think

probably you all look at the market based upon investments. I had

a new natural gas line built in my congressional district last summer. I think the company was NI Gas that put it in, and at great

expense. Worked probably 5 or 6 months, a lot of equipment, a lot

of land, and now it is in place.

Can we in this debate talk about—when I talk about the diversified energy portfolio, can we trust the market if we—trying to

make things as equal as possible from the cost of doing business

from the government regulatory end, to be a better means of distributing economic growth and opportunity and a return on the investment, should we allow the market to determine which fuel is

the best use for which use, versus what you will hear here is an

attempt for government to manipulate and micromanage the market based upon our perception of how we can best determine the

best fuel for the best use?

Mr. CURRIE. I think, in terms of thinking about the market, it

doesn’t care about the price volatility. It actually cares about the

expected rate of return off of these assets. And we look at a competitive marketplace. It is just going to build assets to just the

amount that it needs to keep the system running, which is what

we are currently seeing at this point right now. It will not build

excess capacity beyond what is required that would actually diminish the volatility. So even if we saw the supply problem today and

found all the supply and brought it out there, as long as we have

the market continuing building the infrastructure, they are just

going to build enough to get by.

So that question really becomes, how do you incentivize the market to build the excess or spare capacity that will actually tame the

volatility? Because, ultimately, when we see these prices—I want

to emphasize, prices were $2 or $1.80 18 months ago, and they

were $10 24 months ago. The cycle goes up and down, but the average price has only creeped up modestly, and the rates returns have

only gone up modestly.

So when we think about the rates return, they don’t care about

the volatility. The consumer, the producer cares about the volatility. So if we want to actually incentivize that spare capacity to

take down the volatility, it is going to take more dramatic action

than simply letting the market function.

Mr. SHIMKUS. Is there a role for the government in that aspect?

Mr. CURRIE. I can see the government playing a role, but one of

market intervention, but rather just build these pipelines and storage facilities just like they build freeways or toll roads. Essentially,

there are—if you want the spare capacity. If you are fine with the

high level of volatility, that is what the market will provide you

with. If you want to have the spare capacity to reduce the volatility, it will take more dramatic action. By not advocating regulation of prices or regulation of the market in general, it is just like

building a road and letting the market function on its own.

Mr. SHIMKUS. I am out of time.

I would like to now go to my colleague from Texas, Mr. Green,

for 5 minutes.

Mr. GREEN. Thank you, Mr. Chairman.

88

I have a question for both Mr. Currie and also Mr. Caruso, although anyone can chime in. What policies could States and the

Federal Government enact to encourage the needed energy infrastructure investment, including sanctity of a long-term contract?

But if we make changes to pipeline siting policy like we did in the

energy bill for power lines at FERC, are local obstacles reaching a

level that require Federal intervention for pipelines?

Mr. KVISLE. TransCanada and its partners have worked for 5 or

6 years to build a pipeline into the New York City region that has

been stymied by local opposition. That local opposition is for whatever reasons, but it has proved to be a significant barrier to the

construction of pipelines like that. I cite one example, but there are

dozens of those in the United States, and equally they exist in Canada. So I do believe that some means of addressing this problem

needs to be examined.

Mr. GREEN. Anyone else? I mean, I understand the New York situation.

Mr. CURRIE. In general, we would argue that the restrictions on

the development of infrastructure is one of the forces currently impeding the rates return on these assets. Freeing up these restrictions would obviously help the matter. But, again, I want to emphasize, the real question is, you need to have not just enough capacity to function, but you need to have spare capacity if you want

the volatility reduced, which is going to be much more difficult

than just lifting the current restrictions on where you can develop

pipelines.

Mr. GREEN. Anyone else?

Thank you, Mr. Chairman.

Mr. SHADEGG [presiding]. Does the gentleman yield back his

time?

Mr. GREEN. I yield back my time.

Mr. SHADEGG. Okay. We have been joined by the gentleman from

Massachusetts, Mr. Markey. There being no one on the other side,

the Chair would recognize him for 8 minutes.

Mr. MARKEY. Thank you, Mr. Chairman, very much.

Mr. Caruso, to what extent does the EIA believe that the natural

gas prices track prices for crude oil? Historically, isn’t there a

rough overall correlation between the two?

Mr. CARUSO. Yes, sir. There is a certain amount of competition

between natural gas and oil prices to the extent that certain users

can switch to, perhaps, residual fuel oil, distillate fuel oil. There is

a linkage between the two.

Mr. MARKEY. So when oil prices spiked upwards in the months

leading up to the war in Iraq, that played a significant role, did it

not, in driving the price of natural gas upwards as well?

Mr. CARUSO. It was one of the reasons that led to the upward

pressure.

Mr. MARKEY. Was it a significant factor, in your mind?

Mr. CARUSO. I think it was an important factor, yes. There were,

obviously, the points made earlier about whether the fact that we

had low storage and the fact that, with high oil prices, the incentive to switch out of gas into residual fuel oil was less significant.

So it was a number of factors, and that was one of them.

89

Mr. MARKEY. So Chairman Greenspan, who is testifying later

this afternoon, noted in a recent speech that, while oil prices have

declined since the end of the war, that natural gas prices have remained high. Do you agree with that?

Mr. CARUSO. That is correct. The low storage of gas continued to

put upward pressure on demand to refill that storage, which is the

main reason for that.

Mr. MARKEY. You are saying that is the key factor in the

delinkage between the natural gas and crude oil prices?

Mr. CARUSO. That has been the key factor since the end of the

winter.

Mr. MARKEY. And the cause of that is?

Mr. CARUSO. That we came out of the winter with such a low

level of working gas in storage, there was unusually high demand

for refilling that storage in April and May, and, as mentioned in

the testimony, we expect that to continue throughout the summer

in order to get us where we need to be by the winter.

Mr. MARKEY. Going back to your earlier point, historically,

though, and on a continuing basis, there is an important link between the price of crude oil and the price of natural gas? That continues to be very real. It is a factor.

Mr. CARUSO. Yes. It is a factor. Yes, sir.

Mr. MARKEY. And it is more than at the margin. It is a significant factor. It is an important factor, in your own words.

Mr. CARUSO. And as you know, at the margin it can be important. It can be important because of the marginal nature of the

pricing of energy. Supply is very inelastic, particularly when you

reach the kind of storage levels that we are at right now.

Mr. MARKEY. Now, on the front page of today’s New York Times,

Mr. Caruso, there is a report that widespread looting has left Iraq’s

oil industry in ruins, and that, as a result, it could take several

months to a year to get Iraqi oil production back to its pre-war levels. Given this important linkage between crude oil and the global

marketplace and the price of natural gas, do you think that, as a

result of that, that there is a higher price for natural gas because

the price for crude oil is staying unnaturally high because Iraq is

not coming back on line as quickly as had been projected?

Mr. CARUSO. I don’t think right now that is a major factor.

Mr. MARKEY. Is it a factor?

Mr. CARUSO. It is a factor. But I would downplay its importance

at this point in time, given the seasonal nature of where we are.

In other words, the winter spikes and pressure on prices was partly

due to the economic disincentive to switch in many cases. Right

now, you don’t have that. That circumstance does not exist.

Mr. MARKEY. Well, the point I am making is that the Bush Administration secured the oil fields from being blown up by Saddam

Hussein, but they did not secure the oil fields from being systematically dismantled by looters, accomplishing the very same goal.

So the Bush Administration touted their great success in ensuring

that the oil fields were secured in the first 2 weeks of the war, but

then they did not secure the oil fields from being looted and, as a

result, we have not secured the peace, either in terms of the revenues being used to rebuild Iraq or in terms of that additional oil

going on to the global marketplace and having an impact as a reVerDate 11-MAY-2000 12:34 Aug 25, 2003 Jkt 000000 PO 00000 Frm 00093 Fmt 6633 Sfmt 6602 88422.TXT HCOM1 PsN: HCOM1
90

sult upon the competitiveness of natural gas as a substitute and

putting pressure, downward pressure on the price of natural gas.

Do you agree with that?

Mr. CARUSO. It is outside of our analysis on the point you just

made. But I think that it is much too soon to give up on how quickly the Iraqi oil can come back into the marketplace.

Mr. MARKEY. Well, when will we know that answer, Mr. Caruso?

Because, obviously, the natural gas marketplace is dependent upon

their bet on that issue. If they think going through the end of this

year and into the coming winter that that additional 2 million barrels of Iraqi oil at the margin is not going into the marketplace,

that obviously is going to make it more likely that they have got

a much better marketplace to sell their natural gas and to keep

prices high, affecting the consumers of New England and those all

across the country. This is a huge mistake by the Bush Administration if it is not rectified by the fall.

Mr. CARUSO. Our Short-Term Energy Outlook has crude oil

prices trending downward, given the return of Iraq and the fact

that other producers continue to produce.

Mr. MARKEY. So when do you expect then, Mr. Caruso, for natural gas prices to trend down, given all of the identical factors?

Mr. CARUSO. I think the main factor is getting natural gas into

storage.

Mr. MARKEY. Well, when will that occur?

Mr. CARUSO. I think——

Mr. MARKEY. When will the prices trend down?

Mr. CARUSO. We should start seeing prices coming down a bit in

2004. And, as I mentioned earlier, over a longer term we see them

coming back into the $3 to $4 per million BTU range.

Mr. MARKEY. So if natural gas prices are high and likely to remain so in the near future, why isn’t the profit incentive sufficient

for companies to increase storage and increase production as well?

Mr. CARUSO. I think the incentive is there, and we are now seeing some refueling going on at a good pace. Our expectations are

that the drilling rig activities that have increased this year and the

additional monies available will bring forth some additional supplies. But it takes time. It is not instantaneous.

Mr. SHADEGG. The time of the gentleman has expired—well expired.

Mr. MARKEY. Thirty-two seconds. For anyone who is watching CSPAN. You see, the Republican chairman thinks that 32 seconds

is well expired.

Mr. SHADEGG. And I think we gave you ample time.

I don’t believe there are any further members. I want to thank

this panel for their testimony. We will recess until 2 o’clock. We

very much appreciate each of you for your testimony.

[Brief recess.]

Chairman TAUZIN. The committee will please come to order. Let

me first announce that the Ranking Member Dingell is on his way,

but I think we need to get started to accommodate our guest today.

It is my extreme pleasure to introduce for the committee Mr. Alan

Greenspan, the Chairman of the Board of Governors of the Federal

Reserve System, who has agreed to come and testify today on this

91

most important topic of natural gas and its effect upon the U.S.

economy.

We certainly want to welcome you, Mr. Greenspan. You have

been a frequent visitor to the committee in the past, and we want

to thank you for all the courtesies and the time you have spent

with us both in public meetings such as this and when we have

called upon you for advice and counsel. So we welcome you today.

I ask unanimous consent that Mr. Greenspan be allowed 15 minutes to present his statement.

Mr. Greenspan, it is our intention to try to get you out of here

by 3. I understand that is your time schedule, and we will accommodate that.

Mr. Greenspan.

STATEMENT OF ALAN GREENSPAN, CHAIRMAN, BOARD OF

GOVERNORS, FEDERAL RESERVE SYSTEM

Mr. GREENSPAN. Thank you very much, Mr. Chairman. I am very

thankful to be invited before this committee on what I consider to

be a most important subject, one which has not been getting as

much notice as I think it deserves considering the broad nature of

the policies that are related to it.

As you know, Mr. Chairman and members of the committee, in

recent months, in response to very tight supplies, prices of natural

gas have increased sharply. Working gas in storage is currently at

very low levels relative to its seasonal norm because of a colderthan-average winter and a seeming inability of increased gas well

drilling to significantly augment net marketed production. Canada,

our major source of imported natural gas, has had little room to expand shipments to the United States, and our limited capacity to

import liquefied natural gas effectively restricts our access to the

world’s abundant supplies of gas.

Our inability to increase imports to close a modest gap between

North American demand and production, a gap, incidentally, we

can almost always close in the case of oil, is largely responsible for

the marked rise in natural gas prices over the past year. Such price

pressures are not evident elsewhere. Competitive crude oil prices,

after wide gyrations related to the war in Iraq, are now only slightly elevated from a year ago. And where spot markets for natural

gas exist, such as in Great Britain, prices exhibit little change from

a year ago. In the United States, rising demand for natural gas,

especially as a clean-burning source of electric power, is pressing

against a supply essentially restricted to North American production.

Given the current infrastructure, the U.S. market for natural gas

is mainly regional, is characterized by relatively longer-term contracts, and is still regulated, but less so than in the past. As a result, residential and commercial prices of natural gas respond sluggishly to movements in the spot price. Thus, to the extent that natural gas consumption must adjust to limited supplies, most of the

reduction must come from the industrial sector and, to a lesser extent, utilities.

Yesterday the price of gas for delivery in July closed at $6.31 per

million Btu. That contract sold for as low as $2.55 in July of 2000

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92

creases through the summer cooling season to the peak of the heating season next January. Indeed, market expectations reflected in

option prices imply a 25 percent probability that the peak price will

exceed $7.50 per million Btu.

Today’s tight natural gas markets have been a long time in coming, and futures prices suggest that we are not apt to return to earlier periods of relative abundance and low prices any time soon. It

was little more than a half century ago that drillers seeking valuable crude oil bemoaned the discovery of natural gas. Given the

lack of adequate transportation, wells had to be capped, or the gas

flared. As the economy expanded after World War II, the development of a vast interstate transmission system facilitated widespread consumption of natural gas in our homes and business establishments. On a heat-equivalent basis, natural gas consumption

by 1970 had risen to three-fourths of that of oil. But natural gas

consumption lagged in the following decade because of competitive

incursions from coal and nuclear power. Since 1985, natural gas

has gradually increased its share of total energy use and is projected by the Energy Information Administration to gain share over

the next quarter century, owing to its status as a clean-burning

fuel.

Recent years’ dramatic changes in technology are making existing energy reserves stretch further while keeping long-term energy

costs lower than they otherwise would have been. Seismic techniques and satellite imaging, which are facilitating the discovery of

promising new natural gas reservoirs, have nearly doubled the success rate of new-field wildcat wells in the United States during the

past decade. New techniques allow far deeper drilling of promising

fields, especially offshore. The newer recovery innovations reportedly have raised the average proportion of gas reserves eventually

brought to the surface. Technologies are facilitating Rocky Mountain production of tight sands gas and coalbed methane. Marketed

production in Wyoming, for example, has risen from 3.4 percent of

total U.S. output in 1996 to 7.1 percent last year.

One might expect that the dramatic shift away from hit-or-miss

methods toward more advanced technologies would have lowered

the cost of developing new fields and, hence, the long-term marginal costs of new gas. Indeed, those costs have declined, but by

less than might have been the case, because much of the innovation in oil and gas development outside of OPEC has been directed

at overcoming an increasingly inhospitable and costly exploratory

physical environment.

Moreover, improving technologies have increased the depletion

rate of newly discovered gas reservoirs, placing a strain on supply

that has required increasingly larger gross additions from drilling

to maintain any given level of dry gas production. Depletion rates

are estimated to have reached 27 percent last year compared with

21 percent as recently as 5 years ago. The rise has been even more

pronounced for conventionally produced gas because tight sands

gas, which comprises an increasing share of new gas finds, exhibits

a slower depletion rate than conventional wells.

Improved technologies, however, have been unable to prevent the

underlying long-term price of natural gas in the United States from

rising. This is most readily observed in markets for natural gas

93

where contract delivery is sufficiently distant to allow new supply

to be developed and brought to market. That price has risen gradually from $2 per million Btu in 1997 for delivery in 2000 and presumably well beyond to more than $4.50 for delivery in 2009, the

crude oil heating equivalent rising from less than $12 a barrel to

$26 a barrel. Over the same period, the distant futures price of

light sweet crude oil has edged up only $4 per barrel and is selling

at a historically rare discount to comparably dated natural gas.

Because gas is particularly challenging to transport in its cryogenic form as a liquid, imports of LNG have been negligible. Environmental and safety concerns and cost have limited the number

of LNG terminals and imports of LNG. In 2001, LNG imports accounted for only 1 percent of U.S. gas supply. Canada, which has

recently supplied a sixth of our consumption, has little capacity to

significantly expand its exports, in part because of the role that Canadian gas plays in supporting growing oil production from tar

sands.

Given notable cost reductions for both liquefaction and transportation of LNG, significant global trade is developing, and high gas

prices projected in the American distant futures market have made

us a potential very large importer. Worldwide imports of natural

gas in 2000 were only 26 percent of world consumption, compared

to 50 percent for oil.

Even with markedly less geopolitical instability confronting

world gas than world oil in recent years, spot gas prices have been

far more volatile than those for oil, doubtless reflecting, in part,

less developed global trade. The updrift and volatility of the spot

price for gas have put significant segments of the North American

gas-using industry in a weakened competitive position. Unless this

competitive weakness is addressed, new investment in these technologies will flag.

Increased marginal supplies from abroad, while likely to notably

damp the levels and volatility of American natural gas prices,

would expose us to possibly insecure sources of foreign supply as

it has for oil. But natural gas reserves are somewhat more widely

dispersed than those of oil for which three-fifths of proved world reserves reside in the Middle East. Nearly two-fifths of world natural

gas reserves are in Russia and its former satellites, and one-third

are in the Middle East.

Creating a price-pressure safety valve through larger import capacity of LNG need not unduly expose us to potentially unstable

sources of imports. There are still numerous unexploited sources of

gas production in the United States. We have been struggling to

reach an agreeable tradeoff between environmental and energy

concerns for decades. I do not doubt we will continue to fine-tune

our areas of consensus, but it is essential that our policies be consistent. For example, we cannot, on the one hand, encourage the

use of environmentally desirable natural gas in this country while

being conflicted on larger imports of LNG. Such contradictions are

resolved only by debilitating spikes in price.

In summary, the long-term equilibrium price for natural gas in

the United States has risen persistently during the past 6 years

from approximately $2 per million Btu to more than $4.50. The

perceived tightening of long-term demand/supply balances is beginVerDate 11-MAY-2000 12:34 Aug 25, 2003 Jkt 000000 PO 00000 Frm 00097 Fmt 6633 Sfmt 6602 88422.TXT HCOM1 PsN: HCOM1
94

ning to price some industrial demand out of the market. It is not

clear whether these losses are temporary, pending a fall in price,

or permanent.

Such pressures do not arise in the U.S. market for crude oil.

American refiners have unlimited access to world supplies, as was

demonstrated most recently when Venezuelan oil production shut

down. Refiners were able to replace lost oil with supplies from Europe, Asia, and the Middle East. If North American natural gas

markets are to function with the flexibility exhibited by oil, unlimited access to the vast world reserves of gas is required. Markets

need to be able to effectively adjust to unexpected shortfalls in domestic supply. Access to world natural gas supplies will require a

major expansion of LNG terminal import capacity. Without the

flexibility such facilities will impart, imbalances in supply and demand must inevitably engender price volatility.

As the technology of LNG liquefaction and shipping has improved, and as safety considerations have lessened, a major expansion of U.S. import capability appears to be under way. These

movements bode well for widespread natural gas availability in

North America in the years ahead.

Thank you very much, Mr. Chairman. I look forward to your

questions.

[The prepared statement of Alan Greenspan follows:]

PREPARED STATEMENT OF ALAN GREENSPAN, CHAIRMAN, BOARD OF GOVERNORS,

FEDERAL RESERVE SYSTEM

In recent months, in response to very tight supplies, prices of natural gas have

increased sharply. Working gas in storage is currently at very low levels relative

to its seasonal norm because of a colder-than-average winter and a seeming inability

of increased gas well drilling to significantly augment net marketed production.

Canada, our major source of imported natural gas, has had little room to expand

shipments to the United States, and our limited capacity to import liquefied natural

gas (LNG) effectively restricts our access to the world’s abundant supplies of gas.

Our inability to increase imports to close a modest gap between North American

demand and production (a gap we can almost always close in oil) is largely responsible for the marked rise in natural gas prices over the past year. Such price pressures are not evident elsewhere. Competitive crude oil prices, after wide gyrations

related to the war in Iraq, are now only slightly elevated from a year ago, and

where spot markets for natural gas exist, such as in Great Britain, prices exhibit

little change from a year ago. In the United States, rising demand for natural gas,

especially as a clean-burning source of electric power, is pressing against a supply

essentially restricted to North American production.

Given the current infrastructure, the U.S. market for natural gas is mainly regional, is characterized by relatively longer term contracts, and is still regulated,

but less so than in the past. As a result, residential and commercial prices of natural gas respond sluggishly to movements in the spot price. Thus, to the extent that

natural gas consumption must adjust to limited supplies, most of the reduction must

come from the industrial sector and, to a lesser extent, utilities.

Yesterday the price of gas for delivery in July closed at $6.31 per million Btu.

That contract sold for as low as $2.55 in July 2000 and for $3.65 a year ago. Futures

markets project further price increases through the summer cooling season to the

peak of the heating season next January. Indeed, market expectations reflected in

option prices imply a 25 percent probability that the peak price will exceed $7.50

per million Btu.

Today’s tight natural gas markets have been a long time in coming, and futures

prices suggest that we are not apt to return to earlier periods of relative abundance

and low prices anytime soon. It was little more than a half-century ago that drillers

seeking valuable crude oil bemoaned the discovery of natural gas. Given the lack

of adequate transportation, wells had to be capped or the gas flared. As the economy

expanded after World War II, the development of a vast interstate transmission system facilitated widespread consumption of natural gas in our homes and business

95

establishments. On a heat-equivalent basis, natural gas consumption by 1970 had

risen to three-fourths of that of oil. But natural gas consumption lagged in the following decade because of competitive incursions from coal and nuclear power. Since

1985, natural gas has gradually increased its share of total energy use and is projected by the Energy Information Administration to gain share over the next quarter

century, owing to its status as a clean-burning fuel.

Recent years’ dramatic changes in technology are making existing energy reserves

stretch further while keeping long-term energy costs lower than they otherwise

would have been. Seismic techniques and satellite imaging, which are facilitating

the discovery of promising new natural gas reservoirs, have nearly doubled the success rate of new-field wildcat wells in the United States during the past decade.

New techniques allow far deeper drilling of promising fields, especially offshore. The

newer recovery innovations reportedly have raised the average proportion of gas reserves eventually brought to the surface. Technologies are facilitating Rocky Mountain production of tight sands gas and coalbed methane. Marketed production in

Wyoming, for example, has risen from 3.4 percent of total U.S. output in 1996 to

7.1 percent last year.

One might expect that the dramatic shift away from hit-or-miss methods toward

more advanced technologies would have lowered the cost of developing new fields

and, hence, the long-term marginal costs of new gas. Indeed, those costs have declined, but by less than might have been the case because much of the innovation

in oil and gas development outside of OPEC has been directed at overcoming an increasingly inhospitable and costly exploratory physical environment.

Moreover, improving technologies have also increased the depletion rate of newly

discovered gas reservoirs, placing a strain on supply that has required increasingly

larger gross additions from drilling to maintain any given level of dry gas production. Depletion rates are estimated to have reached 27 percent last year, compared

with 21 percent as recently as five years ago. The rise has been even more pronounced for conventionally produced gas because tight sands gas, which comprises

an increasing share of new gas finds, exhibits a slower depletion rate than conventional wells.

Improved technologies, however, have been unable to prevent the underlying longterm price of natural gas in the United States from rising. This is most readily observed in markets for natural gas where contract delivery is sufficiently distant to

allow new supply to be developed and brought to market. That price has risen

gradually from $2 per million Btu in 1997 for delivery in 2000, and presumably well

beyond, to more than $4.50 for delivery in 2009, the crude oil heating equivalent

of rising from less than $12 per barrel to $26 per barrel. Over the same period, the

distant futures price of light sweet crude oil has edged up only $4 per barrel and

is selling at a historically rare discount to comparably dated natural gas.

Because gas is particularly challenging to transport in its cryogenic form as a liquid, imports of LNG have been negligible. Environmental and safety concerns and

cost have limited the number of LNG terminals and imports of LNG. In 2001, LNG

imports accounted for only 1 percent of U.S. gas supply. Canada, which has recently

supplied a sixth of our consumption, has little capacity to significantly expand its

exports, in part because of the role that Canadian gas plays in supporting growing

oil production from tar sands.

Given notable cost reductions for both liquefaction and transportation of LNG, significant global trade is developing. And high gas prices projected in the American

distant futures market have made us a potential very large importer. Worldwide imports of natural gas in 2000 were only 26 percent of world consumption, compared

to 50 percent for oil.

Even with markedly less geopolitical instability confronting world gas than world

oil in recent years, spot gas prices have been far more volatile than those for oil,

doubtless reflecting, in part, less-developed global trade. The updrift and volatility

of the spot price for gas have put significant segments of the North American gasusing industry in a weakened competitive position. Unless this competitive weakness is addressed, new investment in these technologies will flag.

Increased marginal supplies from abroad, while likely to notably damp the levels

and volatility of American natural gas prices, would expose us to possibly insecure

sources of foreign supply, as it has for oil. But natural gas reserves are somewhat

more widely dispersed than those of oil, for which three-fifths of proved world reserves reside in the Middle East. Nearly two-fifths of world natural gas reserves are

in Russia and its former satellites, and one-third are in the Middle East.

Creating a price-pressure safety valve through larger import capacity of LNG

need not unduly expose us to potentially unstable sources of imports. There are still

numerous unexploited sources of gas production in the United States. We have been

struggling to reach an agreeable tradeoff between environmental and energy conVerDate 11-MAY-2000 12:34 Aug 25, 2003 Jkt 000000 PO 00000 Frm 00099 Fmt 6633 Sfmt 6621 88422.TXT HCOM1 PsN: HCOM1
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cerns for decades. I do not doubt we will continue to fine-tune our areas of consensus. But it is essential that our policies be consistent. For example, we cannot,

on the one hand, encourage the use of environmentally desirable natural gas in this

country while being conflicted on larger imports of LNG. Such contradictions are resolved only by debilitating spikes in price.

In summary, the long-term equilibrium price for natural gas in the United States

has risen persistently during the past six years from approximately $2 per million

Btu to more than $4.50. The perceived tightening of long-term demand-supply balances is beginning to price some industrial demand out of the market. It is not clear

whether these losses are temporary, pending a fall in price, or permanent.

Such pressures do not arise in the U.S. market for crude oil. American refiners

have unlimited access to world supplies, as was demonstrated most recently when

Venezuelan oil production shut down. Refiners were able to replace lost oil with supplies from Europe, Asia, and the Middle East. If North American natural gas markets are to function with the flexibility exhibited by oil, unlimited access to the vast

world reserves of gas is required. Markets need to be able to effectively adjust to

unexpected shortfalls in domestic supply. Access to world natural gas supplies will

require a major expansion of LNG terminal import capacity. Without the flexibility

such facilities will impart, imbalances in supply and demand must inevitably engender price volatility.

As the technology of LNG liquefaction and shipping has improved, and as safety

considerations have lessened, a major expansion of U.S. import capability appears

to be under way. These movements bode well for widespread natural gas availability

in North America in the years ahead.

Chairman TAUZIN. Thank you very much, Mr. Chairman.

It is the Chairman’s pleasure to recognize Members for questions

in order of their appearance this morning, and I will advise all

Members Mr. Greenspan needs to be out of here at 3, so we will

hold to a strict timetable. The Chair recognizes himself for—quickly for 5 minutes under the rules.

Mr. Chairman, you obviously talk about the updrift in volatility

of the spot price for gas having put a significant segment of the

North American gas-using industries in a weakened competitive

position. I suppose the first question we need to know is what is

your appraisal of that weakened competitive position if it maintains? Does that bode any serious consequences for the overall

economy?

Mr. GREENSPAN. Eventually it has significant impacts. It has not

as yet had impacts which one sees in the macrodata. I mean, for

example, in a number of subtle places like nonfinancial nonenergy

corporations the rise in natural gas costs has knocked a couple of

tenths off profit margins. And since profit margins are a critical aspect in general of capital investment and broad economic development, this is one of many areas where you can begin to see the impact of the big surge in gas prices. And have no doubt if it continues, and if we stay at these very elevated prices, we are going

to see some erosion in a number of macroeconomic variables which

are not evident at this stage.

Chairman TAUZIN. At the heart of your evaluation of the problem

is this sort of schizophrenic position our country finds itself in

where we are encouraging dramatically the use of natural gas because of its environmental status, and at the same time we are obviously operating without encouraging new supplies—you mentioned liquefied natural gas as an example of something we might

want to encourage dramatic increases to satisfy some of that new

demand. Are there other ways this country ought to think about

satisfying that demand we are artificially creating?

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Mr. GREENSPAN. Mr. Chairman, I think we are all quite familiar

with a number of different potential sources of supply which have

not as yet be exploited in this country. And here where the major

concerns arise, there are obviously tradeoffs, as you well know better than I, between environmental concerns and energy. And it is

not as though there is a formula which suggests a tradeoff. There

is no joining of value systems, and the Congress has got to make

some very important judgments with respect to this. I mean, we obviously know that the tight sands technology, especially in the

Rocky Mountains, is one area where fairly significant new ‘‘lower

48’’ natural gas capabilities reside. We also know that there are potentially significant additional reserves. We have got Alaska, we

have the potential of not only an Alaska pipeline bringing down

Alaskan gas, but also the MacKenzie River line bringing additional

reserves down from Canada as well. So we have innumerable

sources.

The reason I put emphasis especially on LNG is that if we could

get that market functioning, it is a vast reserve. I wouldn’t say unlimited, obviously, but it has many of the characteristics of what

our international oil market is. As you know, the size of the international market in gas relative to consumption is half that of oil,

and it is a crucial safety valve in maintaining price stability in oil,

and it could be in gas as well.

Chairman TAUZIN. Well, again, in analyzing that as the answer

to our demand shortfalls, and to what could happen economically

if we don’t address it relatively soon, we turn to foreign imports.

Would that not further exacerbate the problems we have with foreign trade deficits and the problems that has on our economy?

Mr. GREENSPAN. There are innumerable questions that one has

to confront with respect to foreign sources of oil, gas and everything else, national security being obviously at the top of the list.

This is a whole series of tradeoffs. I think we can define what the

nature of the gas market is or should be under various different

legislative initiatives, and we can define what we reasonably well

know is available with respect to both proved and nonproved reserves, especially in nonconventional gas.

Chairman TAUZIN. My time has run. How much time do we have

to find an answer before we have serious economic impacts?

Mr. GREENSPAN. Well, that is extremely difficult to say. All we

can really rest upon is our best judgment of what the markets are

telling us. And we do have 6-year-forward markets in natural gas

as we have in crude oil. Those markets are telling us that $2 gas

is a historic relic, at least for the time being. And a very significant

amount of natural gas using infrastructure in the American economy was based on $2 gas, which means a lot of noncompetitive

structures are sitting out there. And if the $4.50 gas which I

quoted in my prepared remarks continues, I think some very important structural changes are going to hit us.

Chairman TAUZIN. Thank you, Mr. Chairman.

The ranking member of our committee Mr. Dingell is recognized

for a round of questions.

Mr. DINGELL. Mr. Chairman, thank you.

I would like to welcome you Mr. Greenspan. It is a privilege to

have you here before the committee.

98

Mr. Greenspan’s statement has been an excellent one. I have no

further comment. Thank you. And welcome, Mr. Greenspan.

Thank you, Mr. Chairman.

Chairman TAUZIN. Thank you, Mr. Dingell.

The Chair recognizes the gentleman Mr. Upton from Michigan,

who was first at the committee, for a round of questions.

Mr. UPTON. Thank you, Mr. Chairman. I actually—at meetings

like this, I like to ask my question is this the right time to refinance, but I will save that for another day.

Mr. GREENSPAN. If you have a natural gas well, maybe.

Mr. UPTON. I will remind somebody about that in my family.

You know, as I look back at the year 2000 and 2001, coming from

Michigan, I thought that one of the very earliest signs about our

economy slowing down was the spike that we had in the Midwest

with regard to gasoline prices. And it took a number of months to

trickle through, but, in fact, we had some real problems, and thank

goodness things seem to be back in some balance now. But to me

this is another parallel. As you indicated, there are so many industries and home owners that, in fact, went out and converted to natural gas, and as we have seen this price double or triple, there are

real problems. As we look at one of the solutions, as we are debating—as we debated an energy bill so to try and open up more lands

for domestic production, but I think most people would say that is

much more of a long-term solution rather than a short one. And I

am just wondering as you talk about creating, in your testimony,

a price-pressure safety valve through larger import capacity of

LNG need not unduly expose us to potentially unstable sources of

imports, how quickly do you think we can do that?

Mr. GREENSPAN. It is obviously not a matter of months. It is

going to take time.

Mr. UPTON. Could be another long winter.

Mr. GREENSPAN. It could very well be, largely because there are

similarities here to the electric power problems that we had in the

past where there is a long lead time when you have a commodity

which either has no capacity for inventorying, such as electric

power, or limited capacity, which we have for natural gas. That

creates a longer timeframe of adjustment usually than we see in

many other economic areas.

My own view is that if we can get LNG moving reasonably quickly, and there are an awful lot of potential exporters of LNG—I

mean, Russia is clearly looking to get into that market; Indonesia,

Algeria, Trinidad—they are all very heavy potential exporters, and

there is a potential of this market expanding fairly quickly.

If we have a safety valve in the import area to absorb any imbalance in domestic supply, that gives us the capability of then making other judgments as to what is the tradeoff between the environment and domestic energy production and the like. If we do not

have that international safety valve, then we confront some very

tight decisions.

And while I acknowledge that there are obvious problems involved when you expand your overall international exposure, at

least we know as an ultimate fallback, as we have in oil, we can

always get the gas.

99

Mr. UPTON. Do we have the import structure at our ports to take

in imports of that magnitude?

Mr. GREENSPAN. Not yet. As I am sure you know, Congressman,

we have four major LNG terminals which are projected to expand,

and as I recall, the Energy Information Administration is projecting several new terminals. My own judgment is that we ought

to be doing more rather than less in this area. Because the technological advances in LNG have brought the cost down, safety factors

have been markedly improved, and I think it gives us the best way

that we can handle essentially unforeseen problems in the gas industry. What we do over and above that, I think, clearly is another

set of issues.

Mr. UPTON. Thank you.

I yield back, Mr. Chairman.

Chairman TAUZIN. The gentleman yields back.

The Chair recognizes the gentleman Mr. Green from Texas for a

round of questions.

Mr. GREEN. Thank you, Mr. Chairman. And thank you, Chairman Greenspan, for being here.

In your comments before the Joint Economic Committee last

month and today, you suggested that in the situation that we are

now seeing—this long-term trend rather than just short-term

spikes that we have grown accustomed to—LNG is a potential, but

we also continue to need more exploration both in the continental

United States and offshore that would bring supply and demand

back into balance; is that correct?

Mr. GREENSPAN. There is no question that from what industry

observers have been able to ferret out, there are significant

unexploited gas reserves in the lower 48 and obviously up in Alaska as well.

Mr. GREEN. Our energy bill actually provided for that gas pipeline, and I think the Senate’s will, too, once they finish their debate. My concern is the consequences, not just the cost of the gas—

the natural gas to our consumers, but I have heard that these high

natural gas prices are having an effect on possibly shifting our industrial jobs from the United States to countries where the prices

are lower, particularly in the chemical area, since gas is feed stock,

and even certain Middle Eastern countries. Is this correct? And can

you describe that for me?

Mr. GREENSPAN. We are not sure exactly how serious the issue

is at the moment because it is unclear at this stage whether a

number of the industries, which, as I mentioned before, were largely built on $2 gas, are presuming that the spike or whatever they

are looking at now is temporary. And they are making temporary

adjustments on the presumption that gas prices will recede very

significantly.

If they prove wrong, and it looks as though, as the market is apparently trying to tell us, that there is a far more persistent higher

level of prices out there than we are hoping for, then you begin to

get permanent changes in structure. You can obviously absorb excess spikes in natural gas prices for a while, and indeed, many

have done that over the last number of years. You change the capital structure and the competitiveness of your economy and your

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er than that which you contemplated when the capital investment

was made.

And so the answer to the question is we do not see significant

shifts as yet, but it is hard to believe that that will not happen if

prices stay up.

Mr. GREEN. Okay. From my college economics class, I remember

you have to have access to capital, a work force, and also energy

to produce. So what you are saying is that any of those three and

particularly the cost of energy could make some long-term shifts.

Mr. GREENSPAN. Yes, sir.

Mr. GREEN. Do you know of any actions this Congress or the

President could take to increase production in the short term?

Mr. GREENSPAN. No.

Mr. GREEN. Okay. Mr. Chairman, I thank you, and I yield back

my time. I wish we had some solutions on the short term. Thank

you.

Chairman TAUZIN. The gentleman yields back.

The Chair is pleased to recognize for a round of questions Mr.

Whitfield.

Mr. WHITFIELD. Thank you, Mr. Chairman. And like others, I

want to extend a welcome to Chairman Greenspan. You have indicated in your testimony and in answering questions that you are

uncertain about the impact that the spike in natural gas prices

may have had on our economy. Over the last year or so we know

from economic data that we have lost a large number of manufacturing jobs in our country. We have had some growth in service

sector jobs. But I would ask you what in your view are the primary

factors contributing to our loss of manufacturing jobs?

Mr. GREENSPAN. I am sorry, manufacturing jobs you say?

Mr. WHITFIELD. Yes.

Mr. GREENSPAN. The aggregate amount of gross product in manufacturing has drifted only slightly lower relative to the total GDP.

So the answer is not a major hollowing out of manufacturing per

se, although various measures do suggest that there has been some

decline in aggregate output relative to the national product.

What is obviously creating significant decline in jobs is a very

dramatic increase in output per hour. The overall productivity

growth in the economy as a whole has been very impressive, but

‘‘manufacturing’’ has been especially so. And the arithmetic of

maintaining no more than just an average growth rate of aggregate

output in manufacturing, coupled with an above average increase

in output per hour must of necessity, arithmetically, reduce the

proportion of manufacturing jobs to total jobs.

And that is a process which has been going on, as you well know,

for quite a while, and there is no immediate evidence of that turning around, so that long term we are getting two things happening:

We are getting actually a redefinition of what we mean by manufacturing. Total output of goods per dollar for real dollar value has

been going down very dramatically. You know, it was 50 years ago

that American manufacturing meant big assembly plants for cars,

huge-style complexes turning out vast complexes of heavy-weighted

goods. Now the most valuable stuff we turn out of manufacturing

is virtually impalpable and very difficult to find. And surely if you

101

try to weigh it, it doesn’t weigh a fraction of what its counterpart

weighed 30 to 50 years ago.

Mr. WHITFIELD. You were saying that our productivity has been

increasing at such a rate that that has contributed. As I go around

in my district and attend town meetings, this issue always comes

up about loss of manufacturing jobs which may or may not be real.

But many people do have the sense that we are becoming more of

a service-oriented society rather than a manufacturing society. If

you were trying to give assurances to employees in America, how

would you respond to their concern about that?

Mr. GREENSPAN. I think this is a very important question, and

I think one that gets raised every 5 or 10 years. And I think that

the best way of answering it is to look at our history. This country

has grown enormously in the last 100 years, and unemployment

rates have on occasion gone up pretty high, but they have always

drifted back down to somewhere around 4 or 5 percent of the total

labor force, which necessarily means that jobs are created year in

and year out. And as those various areas of our economy become

obsolescent, new ones come in. And indeed, what tends to happen

is that people who are in jobs with no real future or running companies which are in bad shape, they tend to seek different activities

and are re-employed.

So overall, we don’t know what the job structure will look like

20, 30 years from now. What we do know is that we have every

reason to believe that somewhere in the area of 95 percent of our

work force is going to be employed as it always has.

Mr. WHITFIELD. Thank you.

Chairman TAUZIN. The gentleman’s time has expired.

The Chair recognizes the gentlelady from California Mrs. Capps

for a round of questions.

Mrs. CAPPS. Chairman Tauzin, thank you very much. Chairman

Greenspan, thank you for your testimony and for being with us at

this important hearing today.

My question relates to some of the specific points in your testimony; for example, your statement of a need for increased availability of imports of natural gas and expansion of facilities to handle it, specifically liquid natural gas or LNG facilities. And following along the line of questioning of my colleague, Mr. Upton,

there are some inherent costs with this proposal, are there not? For

example, the basic costs of liquefaction, transportation, regasification, not to mention the construction of these facilities. And this

will raise the cost of imported natural gas versus what we could

produce domestically or from Canada. I understand that you have

acknowledged that increase. And in addition, I would think we

would also want to recognize the safety aspects of these facilities,

and especially the security aspects of LNG facilities. If we set down

a number of these places, are we not adding yet another potential

site ripe for terrorist activities? Lots of questions still remain about

how far along we are in securing existing chemical and nuclear

plants, and we know that terrorists at least had the drawings of

some of our nuclear facilities in mind.

I have a particular concern with these security questions because

there are proposals to put an LNG facility right off my district near

the fairly large city of Oxnard, which is the gateway to Channel IsVerDate 11-MAY-2000 12:34 Aug 25, 2003 Jkt 000000 PO 00000 Frm 00105 Fmt 6633 Sfmt 6602 88422.TXT HCOM1 PsN: HCOM1
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lands National Park. My concerns are heightened by provisions

contained in the House energy bill that would weaken the review

process for LNG to facility siting. These provisions essentially give

the proponents of LNG facilities an advantage or a leg up in the

process. I am concerned that these safety and security questions

may not receive the scrutiny they deserve.

Other associated questions such as safety, security, environmental effects impact on fishing, tourism and recreation. I am anticipating the site in one proposal to convert an offshore oil platform into an LNG facility right there at that gateway and the effect

that might have on the local fishing industry.

So my question is if you could comment on the associated costs

perhaps with this decision whether or not to import natural gas.

Mr. GREENSPAN. Yes. Congresswoman, you are raising a lot of

important questions. Let me just say first that we have been fortunate in that the technological advances that have occurred in liquefaction and in transportation and degasifying have been really

quite marked, including the storage. This is not a new technology.

Remember, we have got a liquefaction plant sitting up in Alaska

which I believe has been there since 1969 and indeed is shipping

LNG to Japan because that is the only direct route that they can

commercially do it at.

If you take a look at the cost and prices coming out of imports

in a number of the new LNG importing areas in the Middle East

and other areas of the world, prices are not particularly elevated.

There is no question, of course, that building these plants and terminals and the like cost money, but the technologies have improved

very considerably, and the cost as a consequence has come down.

Also, the technology has enabled, in many respects, the safety

standards to be significant, we are not dealing with a technology

which is dangerous in any meaningful sense of the word, but having said that, as I said before the Joint Economic Committee the

other day, there is no way to create energy without any risk. It is

a question of choice.

On the issue of environmental questions, as I said before, there

is no simple algebraic formula which can tradeoff environment

against energy and the economy and other characteristics. We are

looking at two really incompatible value systems, and both are crucial to human existence. And the only way to make judgments is

for individuals to make those tradeoffs, and indeed, it is those judgments as reflected in the Congress which in a sense makes national

policy. But you can’t ask an economist, for example, to tradeoff the

environment against economic activity because I don’t know what

the language translation is. In fact, there is none.

Mrs. CAPPS. I know my time is up, but——

Chairman TAUZIN. I have to hold to very strictly; otherwise people are going to miss the chance.

The Chairman of the subcommittee of energy Mr. Barton is recognized.

Mr. BARTON. Thank you, Mr. Chairman.

Chairman Greenspan, you talked about the trends in the natural

gas industry in this country in your testimony. You did not—or if

you did, I didn’t catch it—make a policy statement about whether

we should try to be self-sufficient in natural gas production and

103

consumption. We could do it technically if we wanted to. Should

we?

Mr. GREENSPAN. I think not. I think we are committed irrevocably to a global economy and a global environment for a very

good reason. You get all of the advantages of the division of labor

in a global marketplace, and while we don’t put much stress on

that in recent years, one of the most important aspects of the flexibility of the American economy which has been so important given

the shocks that we have had in recent years, a very considerable

part of that flexibility reflects our global status, our ability to interact around the world in so many different areas.

My view is that it is the interest of this country not to endeavor

to localize, to be protectionist, to pull in our horns. At the end of

the day, I don’t think we will succeed. I don’t think we have a

choice but to deal in a global economy and still have the standards

of living that we so much cherish.

Mr. BARTON. Are there—notwithstanding that answer, which is

a very good answer, by the way—are there areas in the United

States that you think should be drilled for natural gas that are currently off limits because of various political bans?

Mr. GREENSPAN. Well, I am an economist. My view is if you are

looking for natural gas, you got to know whether it is there, and

the only way to find out ultimately is to drill a hole. And if that

drilling of the hole violates environmental standards, those are the

tradeoffs that the Congress has got to make.

Mr. BARTON. It is a very political answer from a supposedly nonpolitical appointee.

Mr. GREENSPAN. When you ask a political question, you get a political answer.

Mr. BARTON. All right. Let me ask another nonpolitical question.

We had testimony this morning from various individuals who had

a preference for a specific pipeline route for the Alaskan natural

gas pipeline. Do you have any preference, or do you think that

should be a market-based decision, or should it be a political-based

decision?

Mr. GREENSPAN. Congressman, if we have got a problem as I try

to outline it of the significant possibility of gas prices being higher

than we would like, I suggest to you that we allow the market to

make judgments as to whether or not we bring gas down from either Alaska or through the MacKenzie River or whatever or whenever.

The reason why I put so much emphasis on LNG is that I think

the timeframe involved in any of these pipeline projects is far distant in the future. I know, for example, the Energy Information Administration puts the possibility of the Alaska pipeline at 2021 or

something like that. That is pretty far out. And conceivably it could

be earlier.

But I think the more important issue is up front we have a far

greater capability of significant supplies from LNG than we have

from a number of those sources, and my own judgment is that the

at the end of the day, those pipelines will be built, and they will

be built because the market will be very strongly pressuring that

type of construction.

104

Mr. BARTON. Let me ask my last question in the last 45 seconds.

Your testimony has focused, as it was supposed to be focused, on

natural gas, but if the goal of a national energy policy is the overall

economic viability of our economy, would it not be a positive to enhance the possibility of using other fuel sources like nuclear power

and coal to relieve some of the prices on natural gas demand?

Mr. GREENSPAN. I have always testified in favor of reexamining

what I think is a policy which is mistaken, namely our views toward nuclear power. I do think that the technologies have improved immensely, and the advantages that they obviously have, I

don’t have to go into. I am sure you know them far better than I.

I do think an overall policy of energy cannot dismiss the issue of

nuclear power. You may at the end of the day decide that the desirability of it, granted environmental costs, security and other problems, is such that it is not advisable, but at least look at it rather

than dismiss it out of hand.

Mr. BARTON. Thank you, Mr. Chairman.

Mr. GREENSPAN. I say the same for coal.

Chairman TAUZIN. The gentleman Mr. Stupak is recognized for

a round of questions.

Mr. STUPAK. Thank you, Mr. Chairman.

Thank you, Mr. Greenspan, for coming here today and testifying.

You have emphasized and you have testified that increased natural gas supply for U.S. consumption will have to come at least in

part from increased imports. You have also noted that, and I am

looking at page 6 of your testimony, access to world natural gas

supplies will require major expansion of LNG terminal import capacity. You go on further to say that as the technology of LNG liquefaction and shipping has improved, and as safety considerations

have lessened, a major expansion of U.S. import capability appears

to be under way.

In light of the present overall state of the economy, do you have

concerns about the availability of capital for investment in these

new facilities?

Mr. GREENSPAN. I do not, no.

Mr. STUPAK. How will the present economic downturn then affect

this type of investment in the short term, long term? I don’t see

anyone investing in these terminals if we are going to need them

to increase the imports of LNG.

Mr. GREENSPAN. If prices stay anywhere near where they are in

the longer-term futures markets, the potential profitability of investments of that type will be far in excess of the normal rate of

return on capital investment.

Mr. STUPAK. As you know, we had testimony this morning, we

are talking about LNG, and when you take a look at it, we import

about 16 percent of our natural gas, 15 percent from Canada and

1 percent from outside North America as liquefied natural gas. So

even if we doubled the capacity, that would only be 2 percent that

we would be importing. Is the investment worth it to go from 1 percent to 2 percent?

Mr. GREENSPAN. No. I envision a number very significantly higher than that.

Mr. STUPAK. What realistically do you think we could expect

from imports?

105

Mr. GREENSPAN. I don’t know. I would just let the market make

that determination. I think that as costs go down in the construction of these terminals, and the whole question of safety declines

as well, I think the markets will open up in a very significant manner, because remember, it is not only our import capability, it is

the availability of LNG in export sites, whether Indonesia or Algeria or Trinidad. I mean, it is the development of a market which

is very much smaller than the international oil market. As a consequence its potential for expansion is very substantial.

Mr. STUPAK. So to develop this market it wouldn’t necessarily require tax breaks and offsets from the U.S. Government. You feel

that the natural gas prices would override any of those conditions

for investment?

Mr. GREENSPAN. Implicit in my testimony, Congressman, is that

this is not something requiring subsidies. This is something which

requires private capital investment. And unless the markets are

wrong, and they have been wrong on occasion, and the general

view of the long-term equilibrium price for natural gas is where the

markets are saying it is, if that stays there for a while, there will

be significant capital investment coming specifically in import technologies, especially LNG.

Mr. STUPAK. Well, no matter what industry you look at, whether

it’s coal, gas, nuclear or anything, in this country when it comes

to energy, have not taken a long-term look at our needs. It seems

like we try to get through each winter, see where the spikes are,

there is some reaction. But I would think if you are going to do the

LNG terminals, nuclear, even clean coal technology, whatever it

might be, a pipeline even, which might be 2021 before one gets online, we have to take a longer view or longer look at these potential

problems on the horizon and not just react every January and February when it spikes. So—and I don’t see anyone out there doing

the investment that is going to take right now. So how do we get

these investments and arrive at a long-term energy policy or goal

for this Nation?

Mr. GREENSPAN. I think there are two ways of coming at it. You

can subsidize the system, which I think is, one, unnecessary and,

two, undesirable; or two, set up a legal structure and a regulatory

structure which enables people to invest in a profitable manner, because it is only under those conditions that markets can effectively

function and we can resolve problems which are rather difficult.

And I don’t deny that.

My own view is I trust that what the Congress will do is try to

find ways to facilitate capital investment, but not subsidize it.

Chairman TAUZIN. The Chair thanks the gentleman.

The Chair recognizes the Chairman of the Commerce, Trade,

Consumer Protection Subcommittee Mr. Stearns for a round of

questions.

Mr. STEARNS. Thank you, Mr. Chairman.

Mr. Greenspan, we certainly welcome your comments. Judging

from your testimony, what other Members have said, I think in the

short term there is probably nothing that Congress could do with

less than adequate storage and inability to import sufficient LNG

combined with an increase in demand for natural gas. It comes

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down to almost Mother Nature, I guess, all of us just praying for

a light winter.

But I wanted to follow up on two of your points. One, you talked

about the flexibility of the economy, and the other is you talked

about a mistake in policy, if I heard you correctly, on nuclear energy. So, I would like to take the latter question first.

I heard you say that this country has a mistake in policy with

nuclear energy. And if I heard you correctly, I would like to you

elaborate what do you think the United States should do, because

the technologies have changed since we have built nuclear, and in

many ways that would relieve some of the problem here. So I

would appreciate your comments.

Mr. GREENSPAN. I think the policy which I find less than impressive is more neglect than anything. I don’t know what the appropriate nuclear policy should be with respect to the whole energy

program. It is a very complex set of issues. But the one thing I am

reasonably certain of is we are spending very little time relative to

the size of the problem in raising the question and examining the

question and all the various alternatives as to whether we should

be doing more nuclear. The French, for example, have very large

nuclear programs and very little problem that I am aware of exists

as a consequence of that.

A major endeavor to examine this whole program is where I

think we ought to be, and I don’t deny at the end of the day that

a judgment of the Congress might be that it is not desirable to

move forward in this area.

But my own suspicion is that is not the way it will come out, but

it is perfectly possible it might.

Mr. STEARNS. So what you are saying is we have no policy now,

there is no discussion. You recommend a full-blown nationwide discussion on nuclear energy and what we should do. And you are

saying the outcome is in doubt? What we would do as a result of,

but you are actually saying that it has been very poor on the

United States to turn and put its head in the ground and not look

at nuclear energy as an alternative and try to find out what solutions could be done?

Mr. GREENSPAN. Well, I didn’t choose those words, but I find myself agreeing.

Mr. STEARNS. Okay. Well, that is good. I told my staff if I could

get a no or yes partly, I would be very happy.

Let me just follow up on my other thought I had. In your testimony, you say nearly two-fifths of the world’s natural gas reserves

are in Russia and its former satellites, and one-third are in the

Middle East. Does that include Iraq?

Mr. GREENSPAN. Yes. Although Iraq is not a major natural gas

producer. It has got well over 110 billion barrels of crude oil, but

not all that much natural gas.

Mr. STEARNS. Why couldn’t we say to the industrial plants and

the power plants, let us just let the market decide and let the price

go up, instead of Congress stepping in? I am just conjecturing this.

And the industrial and the power plants will start to get diversity

and redundancy, which they should have anyway. And then just

take care of the residential, which I think in the big scheme of

things, the residential is a lot smaller percentage of everything.

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And that is the only way we can get this country to innovate and

to come up with solutions.

So I guess my question is, maybe as a follow-up, couldn’t we have

alternative coal, we mentioned nuclear, hydro for people other than

gas, and try to get them to realize that gas is just one commodity

and maybe we can go other places.

Mr. GREENSPAN. There is a history of our regulations which most

recently goes back to the 1970’s when we tried to manage every little nook and cranny in our energy system, and we ended up with

long lines at gasoline stations. We have an extraordinary energy

economy in this country. If we let it function fully, freely, I think

we might find that it is producing a great deal more than it currently is producing.

Mr. STEARNS. Thank you, Mr. Chairman.

Chairman TAUZIN. I thank the gentleman.

The Chair recognizes the gentleman from Louisiana, Mr. John,

for a round of questions.

Mr. JOHN. Thank you, Mr. Chairman.

And I too want to congratulate you and to thank you for coming

to this very important committee hearing. This issue is very important to me, being from Louisiana, and from an economic standpoint

of the district that I represent, about 300 miles of the Louisiana

coastline where a major portion of the natural gas in the Gulf of

Mexico comes onshore. In fact, Henry Hub is in my district. So it

is an issue that I know a little bit about, but I have a couple of

questions I would like to ask you. And I guess first, from listening

to your answers to some of my colleague’s questions and from your

concluding remarks as it relates to LNG. You feel that the LNG

area could be a possible short and/or long-term solution to some of

these problems that we are dealing with relating to price spikes.

You state that access to world natural gas supplies will require a

major expansion of LNG terminal import capacity—that is in the

last paragraph of your remarks. If you believe that, and if that is

so, what are the consequences, and are you concerned about America’s dependence on another fuel source as it relates to energy stability/energy security as we find ourselves very volatile and vulnerable with the importation of oil?

Mr. GREENSPAN. I think we have to make the choice, Mr. John.

The choice basically is whether we want to maintain a standard of

living which does require access to international resources both in

energy and elsewhere, but carries with it the insecurity risk and

various other problems which a number of other of your colleagues

have mentioned.

My own judgment is that there is probably no real alternative

here but to resort to international sources of energy, because there

is no way we can be self-sufficient. We certainly cannot be self-sufficient in oil without changing our lifestyle in ways which I doubt

very much whether the American people would coountenance. And

it is not quite the same thing with gas, but gas, remember, is currently close to two-thirds the heating value of oil. So it is a rather

large industry and has very large ramifications. And so I would say

much the same thing about gas as I would about oil.

Mr. JOHN. And I would agree, that the increased activity in the

LNG area, with new technology, is certainly a piece of the puzzle

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of the portfolio of energy that we must have in this country. I just

don’t want to see us get ourselves, especially in light of the instability in the Middle East, where I have seen us reliant upon oil imports and where we have been very vulnerable to OPEC and some

other sources because it is so important to our economy. I can say

with a lot of confidence that home heating and the air conditioning

that natural gas produces through electricity is important. But I

also have major petro chemical plants up and down the Mississippi

River and in Lake Charles, Louisiana that are losing jobs left and

right—most recently Koch Energy—because of the price of natural

gas. So we are talking jobs that are being lost because of this. Do

you think that our domestic natural gas reserves, that we have not

been able to access because of some of the decisions that are made

up here on the Hill, and I understand they are very political, could

meet our demand to prevent the reliance on supply of natural gas

from LNG?

Mr. GREENSPAN. Well, let me also just point out, which I tried

to do in my prepared remarks, that there is a much greater dispersion of natural gas reserves throughout the world, and hence we

are not as subject, or shouldn’t be as subject, to the type of problems we have when say three-fifths of our crude oil reserves currently exist in a very small area of the world.

So, I don’t deny that there are security problems with natural

gas supply, but they are less than for oil, because we have got fairly significant reserves of natural gas in areas which are not serious

problems with respect to national security for the United States.

Chairman TAUZIN. The gentleman’s time has expired. Mr. Chairman, we are at 3 o’clock. Members are still begging me to have a

chance to ask you a question. Would you permit me to recognize

a few more members for one question each, or do you have to go?

Mr. GREENSPAN. I think I can do for about 5 to 7 minutes——

Chairman TAUZIN. Let me try to do this.

Mr. GREENSPAN. [continuing] because I have to go to the airport.

Chairman TAUZIN. Mr. Rogers, for one question quickly.

Mr. ROGERS. Thank you, Mr. Chairman, for being here. I just

want to follow up in Mr. Whitfield’s line of questioning. One of your

responses that caught me a little bit off guard, you said, we haven’t

seen a significant shift in manufacturing, at least offshore. I have

to tell you——

Mr. GREENSPAN. I meant by that, permanent shift.

Mr. ROGERS. Well, you said a slight shift, and it was not something we ought to be concerned of. It may be a slight shift if you

are an economist in Washington, DC, but if you are a manufacturer

in Michigan, this thing is an avalanche. We have lost over 2 million

manufacturing jobs. They are citing energy as one of their top concerns, unfair trade, regulatory costs, litigation costs, and tax structure. Not once have they said it is productivity. So maybe you can

help me understand this.

Mr. GREENSPAN. Well, all I can say to you is that the data is unequivocal in this regard. I mean, if you look at the arithmetic, the

question is, are manufacturing levels of output or value-added

eroded only marginally, relative to the total GDP. But the number

of jobs have gone down very dramatically, and it means that you

can produce a higher level of output with fewer people. That is

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what the numbers tell us, and I have every reason to believe that

they are accurately reported.

Chairman TAUZIN. Thank the gentleman.

Mr. Markey, for one short question.

Mr. MARKEY. Mr. Chairman, most natural gas is used for home

heating, and most houses are purchased with mortgages. And

Freddie Mac and Fannie Mae are the companies that are used to

do most of that mortgaging. My question to you is—that is a loose

nexus, but I am trying——

Mr. GREENSPAN. I know where you are heading, Congressman.

Mr. MARKEY. [continuing] There is a wave of accounting scandals

now hitting Freddie Mac, and they are exempt from having to register their securities with the Securities and Exchange Commission. In your opinion, is it wise for that exemption to be allowed

to continue, or would we be better to have both of those companies

have to register their securities at the Securities and Exchange

Commission, like every other in the United States?

Mr. GREENSPAN. I believe in past questions, I have agreed with

your general point of view on that. In other words, there is no reason to differentiate Fannie and Freddie from the rest of the securities industry, as far as I am concerned.

Mr. MARKEY. Thank you, Mr. Chairman.

Chairman TAUZIN. Mr. Otter, for a short question, quickly.

Mr. OTTER. Thank you, Mr. Chairman.

I had quite a few questions here, Mr. Chairman, but I am going

to narrow it down to one, and relative to a statement that you

made that markets decide. And it has been my short experience

since I have been in Washington, DC. That it seems to me like the

government decides. We say we want conservation, yet we go out

and we heard testimony this morning from the gentleman from

PUC in Ohio saying we had to have more government programs

that paid people during the winter months when their heat bill

goes up. So when we end up subsidizing consumption, then there

is no market demand. There is no high price for people to conserve.

Yet, we know that the lowest hanging fruit in the energy orchard

is conservation. So, tell us how we can adjust those two positions

of our willingness to start programs that pay people to consume,

yet we also try to have programs that say please consume.

Mr. GREENSPAN. I agree with you. There is a contradiction that

has to be resolved.

Mr. OTTER. Well, that was quick. Could I have another one?

Chairman TAUZIN. No, you had it. Mr. Allen, for a short question.

Mr. ALLEN. Mr. Chairman, Chairman Greenspan, thank you for

being here. I will be quick. U.S. oil production peaked sometime

ago, around 1970. I am struck by looking at the numbers in some

of the charts. We have been presented with the fact that it looks

to me like the projections for domestic natural gas production are

very flat. You know, you can add on Alaska, but otherwise they

look flat. And you testified that it is harder and harder to get natural gas out of certain sources here. Are you at all concerned that

there is the possibility that the peak production for natural gas in

the United States may come in the next decade or two?

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Mr. GREENSPAN. This is a very big issue amongst geologists. And

the conventional gas probably creates concern. But there is a general presumption that the nonconventional gas, the tight sands gas,

the coal bed methane and shale all have significant possibilities for

much greater expansion than we currently contemplate. And the

reserves, the so-called nonproved reserves, expected geological formations and the like, suggest significant possibilities there. But I

do think that we had this debate, I remember, on oil and it was

exactly the same. In other words, we were sitting there with crude

oil production in the United States continuing to rise, and there

were those who were saying that the peak is near and those who

were saying that it is five decades off. I don’t think we really know.

But I do know that there is a big debate going on, and it is an issue

which is obviously crucial. The reason I say that the LNG is important is it will help either way, if I may put it that way.

Chairman TAUZIN. The last question, Mr. Bilirakis, and then we

will wrap up.

Mr. BILIRAKIS. Thank you, Mr. Chairman.

Mr. Chairman, in the interest of time. I studied petroleum engineering, got a degree in it many years ago. We had a thing in the

law at that time called the oil depletion allowance, and then it

went by the wayside. I have been here for 21 years, and I don’t

think anybody has ever brought it up. But we can talk about the

problems being this and that, that sort of thing. I think we are just

short in production. We don’t have the incentives, et cetera, et

cetera. That is my opinion. But I would ask you, should we consider bringing back some form of an oil depletion allowance, something to encourage, if you will, better, more production?

Mr. GREENSPAN. Well, I am not sure that we need incentives in

the sense that, at the prices that currently exist, profitability and

exploration and development within the United States, especially

in the Gulf and offshore, are more than adequate, in my judgment,

to maintain levels of production to the extent that we can. Remember, that we are dealing with 48 States and the Gulf of Mexico

which has been plugged full of holes. And you would know, certainly far better than I. And there is a law of diminishing returns

that we are not getting. I mean, you can stamp hard in some places

of the Middle East and you get a gusher. Here, it requires some

very sophisticated technology to find new reservoirs of oil.

Chairman TAUZIN. Thank you, Mr. Chairman. The committee is

in your debt again for the service you provide the country, and we

appreciate your testimony, sir.

Mr. GREENSPAN. Thank you very much, Mr. Chairman.

Chairman TAUZIN. The committee stands adjourned.

[Whereupon, at 3:10 p.m., the committee was adjourned.]

[Additional material submitted for the record follows:]

PREPARED STATEMENT OF THE EDISON ELECTRIC INSTITUTE

The Edison Electric Institute (EEI) and its Alliance of Energy Suppliers (Alliance)

are pleased to submit this statement for the record of the Committee’s June 10

hearing on ‘‘Natural Gas Supply and Demand Issues.’’ EEI is the trade association

of the U.S. shareholder-owned electric utilities and affiliates and associates worldwide. The Alliance is a Division of EEI that focuses on the generation business and

related wholesale business issues in the supply of electricity.

Record natural gas prices have gotten everyone’s attention, from the homeowner

who uses natural gas for heat to the electricity generator whose operating costs are

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substantially influenced by the cost of natural gas. Because generators of electricity

are an important and increasingly significant end-user of the nation’s natural gas

supplies, EEI appreciates the opportunity to submit written testimony, and to address the concern that this sector has with the current and foreseeable imbalance

between demand and supply.

While we believe there are limited opportunities in the short term for reducing

demand in our sector—primarily by encouraging large industrial users to switch to

off-peak times of consumption—there are longer term solutions for assuring adequate natural gas supplies in this country. These include helpful conservation and

careful policies to identify, tap and bring to market available known reserves and

new reserves—both here and abroad. It is the combination of increased supply and

the efficient use of that resource that will—result in lower—natural gas prices.

But from the perspective of the electric power industry, which is searching for

ways to continue the production of low-cost electricity essential for the United

States to compete in a global economy, one of the most important long term solutions is for Congress and the President to make sure that federal policies assure

that an adequate and diverse fuel supply is available for the generation of electricity. Fuel diversity means that coal, nuclear, hydro, wind, solar, natural gas—and

other fuel sources as they become available—can continue to be used by generators

of electricity to mitigate price or supply risk in any one source. It also means ‘‘fuel

switching’’ or maintaining a ‘‘dual fuel capability,’’ where natural gas-fired plants

are constructed and permitted to allow a switch between natural gas and oil products in times of either high prices or limited natural gas supplies.

Policies advanced by the Congress and the Administration need to maximize the

diversity of fuel sources available for the generation of electricity while allowing

market forces to dictate the choice, in any given circumstance, of how to assure the

low-cost production of electricity. Fuel diversity needs to include the ability to move

large blocks of power between regions so that diverse electric supplies can move into

various regions. For example, the potential of wind development throughout The

Great Plains is limited by a lack of high-voltage transmission lines to carry the

abundant raw resource to markets, either East or West. A more robust transmission

system would permit more inter-regional powerflows, which might permit coal, nuclear, hydroelectric and renewable technologies to penetrate markets displacing

other fuels.

Of course, stimulation of investment in transmission will do little to help if permitting of new transmission lines continues to take more than a decade. As to improving transmission siting, EEI compliments the Committee on its decision to include in H.R. 6 provisions to establish the Department of Energy (DOE) with lead

agency authority to coordinate the federal authorization process for transmission

lines, including project specific coordination requirements, and to give last-resort

backstop siting authority to FERC. Together with the corridor designation provisions of the bill, these new provisions will introduce transparency into the permitting process and facilitate timely decisions. We strongly urge the Committee to fight

for these provisions when H.R. 6 is conferenced with the Senate energy bill.

As transmission is helpful in distributing electricity, a market basket of generating technologies (coal, nuclear, hydroelectric and renewables as well as natural

gas) is helpful to fuel diversity and price stability. The price of converting different

fuels to electricity varies by technology, but generally, the broader the selection of

technologies and fuels available to the generator, the better for all classes of customer. When hydro generating capacity is reduced by a non-functional and prolonged hydro licensing process and federal policies render coal generation less economical, the short fall in generating capacity must be made up elsewhere. Carefully

established hydro and coal policies that allow these fuel sources to continue to play

a serious role in the nation’s fuel mix will help alleviate pressure on natural gas

supply.

The current Clean Air Act’s complex and multiple, overlapping requirements for

electric power generators constrain the use of coal generation. This puts additional

pressure on using natural gas to generate electricity. The Clear Skies Act (H.R. 999)

would reduce such pressures on natural gas by providing certainty to coal generators, while achieving roughly 70 percent emission reductions in sulfur dioxide, nitrogen oxides and mercury emissions over a timeframe that would promote immediate

environmental improvements and industry stability through certain and cost-effective emissions reductions. By contrast, the Clean Power Act (H.R. 2042) would exacerbate natural gas cost and supply concerns.

Congress should be concerned that federal energy, environmental and economic

policies do not: (1) inadvertently create an economic climate wherein one fuel, such

as natural gas, becomes the only practical option for new generation (2) in effect

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preclude the use of certain abundant and low-cost fuels or (3) sharply limit the generators flexibility to select a fuel mix that can optimize the production of electricity.

Electricity is the backbone of the modern economy. Advancements in technology

have increased U.S. productivity and driven growth, but technology depends on ever

increasing amounts of electricity. Currently, coal generation provides 50.1% of the

nation’s electricity supply, nuclear generation provides 20.3%, natural gas provides

18.1%, hydropower and other renewables provide 9.1%, and oil generation provides

2.4%.

In the past 10 years, natural gas-fired generation has been critical to providing

the low-cost electricity that is crucial to assuring that the United States can compete in the global economy. Natural gas has become the fuel of choice for new power

plants because plants fueled by natural gas are highly efficient, have predictable

and short construction cycles, and lower emissions. The trend was aided by the historically low cost of natural gas and the pressures on the costs of the other traditional sources of fuel for generating electricity.

While natural gas-only-fired power plants account for 18% of the fuel used by all

generation nationwide, 88% of the new electric capacity built in the last 10 years

use natural gas as their primary, and in many cases only, fuel. Numbers of this

magnitude indicate that the percentage of natural gas used as fuel for electric generation will most likely increase. There are good reasons for this.

First, power plants fired by natural gas have become very efficient. Combustion

turbines fueled by natural gas (simple cycle) were originally designed to augment

large baseload producers of electricity (coal, nuclear, and hydroelectricity). They

were designed to run for brief periods of time or a few hours annually to help meet

peaking requirements. By being smaller and specialized, the combustion turbine

minimized capital costs of construction and could be quickly installed. This was especially desirable when the nation had excess baseload supply and when cost overruns were common in the construction of baseload units, particularly for nuclear

projects.

The advent of higher efficiency combustion turbines in the 1990’s further accelerated the role played by natural gas-fired power plants in the nation’s generation

mix. The ‘‘Heat Recovery Steam Generator,’’ where waste heat from a combustion

turbine is used to produce steam and turn a steam turbine—hence the term ‘‘combined cycle’’—created efficiencies greater than 50% per each BTU of energy combusted. This compares to efficiency rates of 35-40% for coal plants. Highly efficient

combined cycle plants in 2003 now have an efficiency rate over 55%. Thus, some

are now being used for baseload operations, rather than just for peaking or loadfollowing. Second, the construction lead-times for natural gas-fired generation are

shorter than those for coal and nuclear. This benefits owners and developers by limiting the exposure of capital because there is a shorter period when costs are being

incurred but no electricity is being sold.

Third, construction costs for gas-fired generation are easier to estimate and much

less likely to be subject to construction cost over-runs than other types of power

plants. This makes it easier for owners and investors to take the risk of investing

millions of dollars in a new power plant.

Fourth, it is much easier to get environmental permits for natural gas power

plants because of their lower emissions profile relative to more traditional coal or

oil units.

Fifth, natural gas has traditionally been a relatively cheap fuel source.

Sixth, natural gas-fired units can often be sited to optimize location on both the

natural gas transmission system and the high-voltage electric transmission system.

Finally, for the electric system, one crucial advantage of natural gas technology

is its quick start capability and ability to move from zero output in a combustion

turbine, to full power in less than an hour. A combined cycle takes longer because

of the longer time required to receive power out of the heat recovery steam generator. This ability to easily load follow is very helpful in an industry which constantly

rebalances between supply and demand for voltage control purposes.

We recognize that this presents challenges, however, to the natural gas transmission industry and, if un-coordinated with pipeline dispatch operations, can create

operational difficulties. The amount of gas demanded by a combustion turbine going

to full power or shutting down rapidly because of fall-off in electricity demand can

create imbalances in the pipeline system and natural gas storage and even liquefied

natural gas (LNG) helps in managing operational requirements of gas-fired generation. Further development of storage facilities throughout the natural gas market

area, including LNG facilities, will be crucial to the balancing of gas supply and demand, as well as to electric operations.

In some regions of the country, dependence on natural gas is pronounced. For example, in the gas-producing Southwest, some utilities came to rely on natural gas

113

as a boiler fuel for electric production when other market uses for natural gas were

not well developed. Because they were using boilers to generate electricity, they

could switch fuels from natural gas to various grades of oil for either price or supply

reasons. Some of these units are now being retired, further reducing the fuel flexibility of the electric industry. Only 24% of the 168,760 MW of gas-fired generation

in operation since 1993 have dual fuel capability, and that percentage is declining.

According to the RDI’s PowerDat data base, by 2011, only 7% of the 188,215MW

of new natural gas capacity planned is identified to have dual fuel capability, which

represents 71% of total new electric generation. While some power plants can burn

oil in addition to natural gas, there are three main impediments to actually making

the switch to oil. The physical impacts on the combustion turbine, such as increased

maintenance requirements and possible warranty limitations from the turbine manufacturer, discourage switching to oil Additionally, environmental permits may preclude the use of oil because of increased NOX emissions associated with the use of

distillate oil (FO2). Finally, many local zoning regulations do not allow the construction of oil storage tanks.

All of these factors associated with the lack of fuel switching capability contribute

to increased inflexible demand by the electric industry for natural gas for electric

production, which, in turn, can contribute to increased natural gas commodity prices

and increased levels of price volatility.

The nation benefits from robust and diverse natural gas supplies. The Congress,

the Administration and the Federal Energy Regulatory Commission should publicly

encourage the development of new production, new pipeline capacity and marketarea storage to assist in meeting the demand of the electricity producer and other

end users for natural gas.

There may be those who would advocate end-use restraints on natural gas. EEI

firmly believes that these are not an appropriate solution to resolving natural gas

supply and demand problems. The market has the ability to ration supply, and over

time will return to equilibrium. The market needs to be allowed to send price signals that will stimulate investment in alternative generating technologies, dual-fuel

opportunities, and development of new gas supplies. End-use restraints, even if applied prospectively, have the potential to create considerable economic inefficiency

and would be counterproductive.

In conclusion, the use of natural gas to create electricity has been good for consumers and should remain an accessible fuel source for electric generators. There

are strong economic, efficiency, and environmental reasons to use natural gas in the

generation of electricity. Even if, as a nation, we transition to greater reliance on

renewable resources, natural gas will continue to be a necessary backstop. It is

therefore essential that we take the steps that are necessary to assure an adequate

supply. It is also crucial, however, that Congress and the President provide greater

regulatory certainty to the generators of electricity—particularly as to the environmental standards that new and existing generating sources of all types will have

to meet—and that the permitting and siting processes be streamlined to reduce the

current long-lead times.

PREPARED STATEMENT OF THE INTERSTATE NATURAL GAS ASSOCIATION OF AMERICA

INTRODUCTION

The Interstate Natural Gas Association of America (‘‘INGAA’’) represents North

America’s interstate and interprovincial natural gas pipeline companies. INGAA’s

members build and operate natural gas transmission pipelines and provide pipeline

transportation services for third parties. These activities are regulated by the Federal Energy Regulatory Commission (‘‘FERC’’) in the United States and by the National Energy Board in Canada.

For over a decade, interstate pipelines have operated purely as non-discriminatory, open access transporters of natural gas on behalf of third party shippers and

have not been in the business of purchasing and reselling natural gas. This development followed the wellhead decontrol of natural gas by the Congress and the competitive restructuring of the natural gas industry by the FERC (and similar deregulation and restructuring in Canada). While interstate pipelines, in some cases, are

affiliated with producers, marketers and distributors of natural gas, the natural gas

industry generally is vertically disaggregated, with separate production, transportation and distribution segments.

Natural gas consumption in the United States has grown steadily over the past

decade as our nation’s economy has grown and as this fuel has been valued for its

reliability, affordability and environmental attributes. The interstate pipeline indusVerDate 11-MAY-2000 12:34 Aug 25, 2003 Jkt 000000 PO 00000 Frm 00117 Fmt 6633 Sfmt 6621 88422.TXT HCOM1 PsN: HCOM1
114

try has added greatly to North America’s transmission pipeline infrastructure to facilitate the delivery of increased supplies of natural gas from producers to growing

consumer markets. The Energy Information Administration (‘‘EIA’’) projects that

natural gas demand will continue increasing dramatically over the next 15 years.

This will occur, however, only if natural gas supply and pipeline capacity can keep

pace with demand, thereby keeping prices within a reasonable range.

THE CURRENT SITUATION

Competition and restructuring increased the efficiency of the natural gas industry

and brought close to 20 years of moderate prices for natural gas delivered to local

distribution companies and direct end-use consumers. Now, however, a confluence

of factors has resulted in a much tighter balance between natural gas supply and

demand and, as an inevitable consequence, higher natural gas prices and greater

price volatility. These factors, which have been documented in greater detail elsewhere, include: the end of the excess natural gas production capacity that characterized the industry from the early 1980s through the late 1990s (the ‘‘gas bubble’’);

significant growth in the demand for natural gas, particularly for new electric generators; the decline in drilling activity following the collapse of natural gas prices

in 2002; accelerated decline rates for production from natural gas wells as a result

of the combination of improved technology and the diminished quality of accessible

drilling prospects; and a hot summer in 2002 followed by, in some parts of the country, a cold winter in 2002-2003, which resulted in significantly depleted natural gas

storage entering the spring and summer of 2003.

It is likely that that the balance between natural gas supply and demand will remain tight for the next several years before significant new natural gas resources

can be brought to the market. There will be pressure on elected officials and regulators for action to shield consumers and industry from the effects of higher natural

gas prices and greater price volatility. While there may be certain constructive steps

that can be taken in this regard, it will be important to resist government interventions in the marketplace that will be counterproductive to an efficient, long-term solution to the supply problem.

Experience demonstrates that markets are superior to government at allocating

resources. Government intervention in the market can lead to rationing and price

regulation. Prices play a critical role in providing incentives for developing new resources, infrastructure and technology and in causing consumers to make efficient

choices between fuels and between consumption and energy efficiency. The best energy policy is one that, first, promotes rational economic decisions about consumers’

choices in fuels and technologies and that, second, removes artificial barriers to developing energy resources in an environmentally responsible manner.

With this as background, INGAA offers its comments on several near-term and

long-term issues that have garnered attention in connection with the focus on natural gas supply and demand:

Natural Gas Storage

The rate at which natural gas storage is being refilled in advance of the next winter heating season has received great attention recently. In connection with this, it

is useful to review the roles of the respective industry segments in refilling storage

and the limitations on how quickly storage can be refilled.

As an integral part of their transmission systems, interstate natural gas pipelines

own and operate a majority of the natural gas storage capacity in the United States.

Still, as a result of natural gas industry restructuring and FERC’s open access policies, it is the pipelines’ customers who own the natural gas in storage and who dictate the injection and withdrawal of natural gas from storage. Such customers’ ability to inject and withdraw gas from storage, however, is dictated by the availability

of sufficient interstate pipeline capacity. This could be an important factor should

this year’s storage refill continue to lag historic rates. That is, unless storage customers have reserved firm pipeline capacity at levels sufficient to complete their

storage refills, they could find themselves competing with customers seeking to use

pipeline capacity for other purposes, such as fueling electric generators in response

to summer peak demand.

Interstate Pipeline Construction

Interstate natural gas pipelines are not constructed on speculation. Rather, given

the significant market and development risks for new pipelines, pipeline companies

will not invest the huge capital required for a new pipeline unless the investment

is underwritten by long-term contracts with creditworthy shippers. In recent years,

transportation contracts with natural gas merchants and with electric generators

supported much of the new interstate pipeline construction. Therefore, it is not surVerDate 11-MAY-2000 12:34 Aug 25, 2003 Jkt 000000 PO 00000 Frm 00118 Fmt 6633 Sfmt 6621 88422.TXT HCOM1 PsN: HCOM1
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1See: Expansion and Change on the U.S. Natural Gas Pipeline Network—2002; Energy Information Administration, May 2003. 2Pipeline and Storage Infrastructure for a 30 TCF Market—An Updated Assessment; The

INGAA Foundation, January 2002.

prising that the overall slowdown in the nation’s economy and, in particular, the severe economic distress in the merchant energy and non-utility generation sectors of

the energy industry has caused a corresponding slowdown in the expansion of interstate pipeline capacity.1

Historically, natural gas producers, and especially small independent producers,

have been reluctant to sign firm contracts and undertake the long-term financial

commitment associated with new pipeline capacity. Still, there are signs that this

is changing. The $1 billion Kern River Gas Transmission Company expansion—

which extends from Opal (in southwest Wyoming) to southern California and southern Nevada—entered service in May. This project, which is fully underwritten with

firm contracts, doubled the capacity of the Kern River pipeline and provides a

means for additional Rocky Mountain natural gas production to reach markets. In

addition, El Paso Natural Gas recently announced plans to proceed with its Cheyenne Plains project which will transport Rocky Mountain production from the Cheyenne hub in Wyoming to interconnections with pipelines in the Midwest. This

project is supported primarily by contracts with Wyoming producers.

Even if the expansion of interstate pipeline capacity is retarded temporarily, the

long-term trends point to the need for significant new pipeline capacity to keep pace

with growth and to connect new supply sources. The INGAA Foundation has estimated that between $60 and $70 billion in new pipeline investment will be required

over the next 12 to 15 years in order to meet the demands of the market.2 A financially sound pipeline industry and a supportive public policy and regulatory environment will be necessary for such capital formation to occur efficiently.

Capital formation remains the ‘‘coin of the realm’’ for getting new pipeline projects

off the ground, and the current trend is not encouraging. This is illustrated by the

fact that capital investment in the previously-mentioned Kern River expansion

equaled the value in total of the eight largest transmission expansions completed

in 2002. While part of the answer here lies in commitments from creditworthy shippers willing to subscribe firm transportation capacity, the ability to attract capital

to the pipeline sector would be improved by removing the impediment to capital formation created by the Public Utility Holding Company Act (‘‘PUHCA’’). The Act currently serves as a barrier for some investors who might otherwise be able to provide

capital for the natural gas industry, by potentially making then subject to PUHCA’s

restrictive provisions. In the 21st century, the need for this statute no longer exists,

and therefore INGAA strongly advocates PUHCA repeal. Any purpose served by

keeping this anachronistic statute on the books is overwhelmed by the harm it

causes in limiting investment in the regulated energy sector.

It also is important to understand how pipeline construction opponents are exploiting conflicts between existing laws and overlapping jurisdictions to delay and,

in some cases, possibly defeat pipeline projects. For example, the Coastal Zone Management Act (‘‘CZMA’’) has been invoked by two states to block interstate pipeline

projects for which the FERC already has issued a certificate of public convenience

and necessity; and, in one of these cases, this effort has been abetted by the National Oceanic and Atmospheric Administration within the Department of Commerce engaging in a protracted review of the appeal from the state’s action. In other

words, a federal law is being used by individual states to block the construction of

federally authorized, interstate projects that are important to meeting the energy

needs of the nation at large.

Also, with the likelihood that we will be increasingly reliant on natural gas resources developed on federal lands, such as in the Rocky Mountain States, it is important to address the process for siting and permitting interstate pipelines on federal land. The FERC needs a clear mandate for facilitating greater cooperation between government agencies. While the FERC has the primary responsibility under

the Natural Gas Act for approving interstate pipeline construction, it defers to federal and state agencies on environmental and land use permitting. Often these other

agencies operate at cross purposes, resulting in a cumbersome and time consuming

process for the applicant pipeline.

A few months ago, FERC signed a memorandum of understanding with nine other

federal agencies with the goal of making the permitting process less onerous for

pipelines. The signatories to this MOU agreed to review pipeline construction permits concurrently, rather than serially. This is a positive step and the various agencies should be held to their commitment. Avenues for engaging state agencies in

such commitments also should be explored.

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3See: Price Revision in Western Energy Markets: What Standard for Market Intervention;

Cambridge Energy Research Associates, Inc., May 2003.

Finally, economic regulation should not blunt the price signals that provide the

incentive for customers and the industry to commit to new pipelines, storage and

powerplants. While it is understandable that elected officials and regulators want

to respond forcefully to alleged misconduct in California and the Western states, it

is important that they not dampen the role that scarcity and price play in signaling

the need for new energy investment that can restore the balance between supply

and demand and thereby produce reasonable prices for consumers. A shift toward

a policy that just and reasonable prices must be the lower of cost or market would

greatly increase the perceived regulatory risk associated with investment in regulated U.S. natural gas and electric power markets and would sow the seeds for future shortages and price volatility.3

Gas-Fired Electricity Generation

Some have expressed concerns that the electric power industry is becoming overly

dependent on natural gas and that this fuel should be preserved for so-called ‘‘high

value’’ uses, i.e., space heating and industrial process uses.

This sentiment sounds remarkably like the arguments made during the artificial

shortages of the 1970s that resulted from wellhead price controls and the bifurcation

of the interstate and intrastate natural gas markets. The mistaken perception that

the nation was running out of natural gas and the resulting policy decision to husband this resource for ‘‘high value’’ uses led to enactment of the Powerplant and Industrial Fuel Use Act of 1978 and other initiatives to affect fuel choice through government market intervention. The Fuel Use Act was repealed by the Congress a

decade later to end the distortions it was causing in energy markets. The legacy of

this 1970s energy policy should teach us a lesson about the adverse consequences

of substituting government intervention for market economics in choosing fuels and

electric generating technologies.

Natural gas has been the fuel of choice for new electric generators because gasfired turbines offer advantages over other technologies in terms of capital cost,

siting and environmental permitting, modularity and speed of installation. If there

is a legitimate public policy concern that the current regulatory and market environment skews the choice of generating technology to favor natural gas, the appropriate

answer is not to impose artificial limits on the deployment of gas-fired technologies,

but rather to remove unnecessary impediments to other generating technologies.

Does the regulatory process for siting, permitting and constructing generators create

a bias against other generating technologies? Do the structure and rules governing

wholesale electricity markets create a bias? If so, the most appropriate public policy

would be one that removes such bias. (This would have to be done carefully, however. Past attempts at overtly favoring particular generating technologies produced

unintended, adverse results.)

In addition, in considering whether there is a looming overdependence on natural

gas for electric generation, it is important to place the question in its proper perspective. Clearly, most of the recent additions to power generation are natural-gasfired. During the period from 1999 to 2002, about 144 gigawatts of new generation

was added to the grid, of which 138 gigawatts (96 percent) is natural-gas-fired. Still,

natural gas generators are intended primarily to supply peak and intermediate capacity, not baseload. Coal continues to dominate baseload generation, and still commands 52 percent of all electric generation. EIA expects that the total amount of

electric generation from coal only will decrease to 47 percent by 2025, despite the

rise of gas-fired generation.

Natural gas’ share of electricity generation now is at 17 percent, and is expected

to grow to 29 percent by 2025, according to EIA. Nuclear generation is expected to

remain flat over the next 20 years, with the result being an overall decrease in nuclear power’s share of power generation. Natural gas is expected to overtake nuclear

power as the nation’s second-largest source of electricity by 2006. In sum, while dependence on natural gas for electricity generation will grow over the next two decades, the U.S. electric power industry will continue to have a diverse and balanced

generation portfolio.

The Natural Gas Resource Base

In responding to suggestions that natural gas be conserved for ‘‘high value’’ uses,

it is important that we not fall into the trap of addressing this issue with a scarcity

mentality. While the balance between supply and demand in natural gas markets

has tightened considerably, there clearly is a natural gas resource base in North

America that can support expanding natural gas markets.

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The National Petroleum Council in its 1999 study estimated that the natural gas

resource base in the lower-48 states is nearly 1500 trillion cubic feet (tcf). In addition, the NPC estimated Canada’s resource base at nearly 700 tcf. To place these

numbers in perspective, the United States will consume approximately 23 tcf of natural gas this year.

The challenge is whether we can develop this resource base and the associated

infrastructure at the pace needed to keep up with demand. In responding to this

challenge, the natural gas industry is seriously handicapped by current public policy, which reflects a choice not to develop much of the country’s natural resource

base. By some estimates, 30 to 40 percent of our country’s potential natural gas resource base is either off limits or else is open to development under highly restricted

conditions. The question for policy makers is whether we as a nation can afford policies that leave vast amounts of our domestic natural gas reserves untested and undeveloped. Until recently, the long-lived excess of natural gas production capacity

masked the true cost of such policies and permitted elected officials and their appointees to make politically popular decisions that energy resource and infrastructure development would not occur ‘‘in my backyard’’ or ‘‘off my beach.’’ Those days

are over, and we now must be assessing and developing a variety of new natural

gas supply options, rather than hoping that all of our supply needs can be met by

incremental additions to already-developed resources.

There is no silver bullet response to the need to replace current natural gas production and to add incremental production to meet the increasing demand for natural gas. It will take the development of resources and infrastructure from multiple

locations, including the Rocky Mountains, the Deepwater Gulf of Mexico, arctic frontier regions in Canada, the Alaska North Slope and imported liquefied natural gas

(‘‘LNG’’). All of these options are possible, and affordable, if only policy makers respond favorably on the fundamental, threshold questions on developing the nation’s

natural gas resource and infrastructure base. Furthermore, all of these options are

needed collectively for meeting the demand for natural gas in the coming decades.

One of those critical resource basins is the North Slope of Alaska, which gives rise

to the need for new pipeline infrastructure to deliver North Slope natural gas to the

Lower 48 states. While an Alaska natural gas pipeline was first authorized by the

Congress more than 25 years, the need for these natural gas resources and the infrastructure for delivering this gas to American consumers has never been greater.

While the United States cannot pin its hopes solely on Alaska gas, neither can it

realistically hope to meet projected demand without it. INGAA hopes that comprehensive energy legislation will include the necessary provisions ensuring that

this pipeline becomes a reality.

One Final, Cautionary Note

One of the most important provisions of the Pipeline Safety Improvement Act of

2002 is the mandate for ‘‘integrity assessments’’ for natural gas systems in populated areas. This new law establishes strict timeframes for baseline integrity assessments and re-assessment intervals. Beginning this year and continuing throughout

the decade, significant pipeline segments will be removed from service in order to

perform assessments and any resulting repairs. Furthermore, because this will be

occurring in a competitive industry, pipeline operators may not coordinate the

scheduling of their assessment activities, due to anti-trust concerns.

This unprecedented integrity program will almost certainly affect natural gas deliverability and delivered natural gas prices. This effect could be compounded by the

fact that, coincidentally, the integrity assessments will be occurring during a period

of tight natural gas supplies. In view of this, the details of the rulemaking implementing the pipeline safety legislation that is currently pending before the Research

and Special Programs Administration (‘‘RSPA’’) of the Department of Transportation

could have a significant effect on just how severely compliance with the integrity

management program will affect natural gas deliverability. This is an important factor to bear in mind as the Congress performs oversight of RSPA’s rulemaking.

RESPONSE FOR THE RECORD OF HON. ALAN GREENSPAN TO QUESTIONS OF HON.

RICHARD BURR

Question 1. In your estimation, what is the best approach for our nation’s energy

policy to establish the North Slope pipeline project? Purely market driven? Subsidization through tax incentives and loan subsidies? Loan subsidies alone?

Response: If, as I outlined in my statement, our nation has a problem of the significant possibility that gas prices remain higher than we would like, I suggest that

we allow the market to make judgments as to whether or not we bring gas to the

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lower 48 states from either Alaska, through the MacKenzie River, or by some other

means. Investment in these pipelines is not something requiring subsidies; construction of these pipelines requires private capital investment that will be supplied in

response to the market’s signals of the need for their construction.

Question 2. Would subsidizing the project through tax incentives as proposed in

the other Chamber’s legislation create a tax revenue drain?

Response: The subsidies would lower tax revenues generated from the operation

of the pipelines.

Question 3. What are the factors inhibiting investment in new baseload coal and

nuclear capacity? What policy options are available to the federal government to

stimulate investment in these electric generation technologies that could relieve the

stress on natural gas markets?

Response: Analysts cite an uncertain regulatory environment as well as uncertain

future environmental standards among the factors inhibiting additional investment

in nuclear energy and coal in the power sector. In the absence of a resolution of

these regulatory issues, it is difficult for anyone to determine whether the economics

would justify additional investment, at least in increasing nuclear capacity. It appears to me that we are spending very little time relative to the size of the problem

in raising and examining the question whether there should be additional investment to create power generating capacity using more nuclear energy and coal. Congress needs to make a judgment of the future course of our national policy toward

nuclear energy. If we wish to augment our electric generation capability through

greater use of coal and nuclear energy, we need a stable legal and regulatory structure which enables people to invest in a profitable manner, should the economics

justify such investment, rather than attempting to accomplish this goal through various types of subsidies.

PUBLIC UTILITIES COMMISSION OF OHIO

July 2, 2003

The Honorable W.J. ‘‘BILLY’’ TAUZIN,

Chairman

U. S. House of Representatives

Committee on Energy and Commerce

Washington, DC 20515-6115

DEAR CHAIRMAN TAUZIN: I am writing in response to questions posed by Congresswoman Hilda Solis, and would like to thank her for her interest. Conservation

and energy efficiency are key as we strive to control costs on our heating and cooling

bills. Setting back your thermostats, checking your insulation and having your heating and cooling systems checked and possibly tuned up are a few ways to lower your

natural gas usage. Attached, you will find a graph which shows the results of a survey conducted by a local distribution company of residential customers in Ohio and

Maryland, which is a breakdown of energy efficiencies and conservation measures.

Additionally, I have attached information collected by the Department of Energy/Energy Information Administration, which shows Natural Gas Consumption by Sector

and Proportion of Natural Gas Consumption in Residential and Commercial Sectors

by State.

I believe that when looking at natural gas consumption it is important to note

that residential customers only account for 25% of usage. Therefore, a 5% reduction

in residential usage only reduces consumption by about 1%. In conclusion, the only

way that prices will drop is if commercial, industrial and generation demand is reduced. Electricity generation demand is largely a function of weather, heat in the

west and cold in the east. Furthermore, industrial demand is a function of economic

growth.

Congresswoman Solis also requested information on incentive programs that exist

in Ohio to encourage energy efficiency, and we are unaware of any such programs

that exist, which have contributed to the reduction of natural gas consumption. The

energy efficiency programs that do exist in Ohio are funded by other means.

I hope this information is helpful and provides a better understanding of the impacts on natural gas prices. Thank you for giving me the opportunity to testify and

respond to questions of the Committee.

Sincerely,

DONALD L. MASON, Commissioner

Public Utilities Commission of Ohio

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RESPONSE OF JEFFREY R. CURRIE, PHD., MANAGING DIRECTOR, GOLDMAN, SACHS &

CO., TO QUESTION OF HON. HILDA L. SOLIS

Your analysis shows that price fluctuations are caused more by lack of transportation and storage infrastructure, rather than lack of supply. You further note that

profits from drilling for gas are much greater than profits for creating infrastructure. Doesn’t this suggest that the repeated calls to open up federal lands to drilling

is more profit driven than motivated by interest in stabilizing prices?

Although the upstream or drilling part of the energy industry generated better

returns on assets during the late 1990s than the downstream or infrastructure part

of the industry, what is more important is that the entire energy sector, including

the upstream part of the industry underperformed the broader market. More specifically, during the 1990s the upstream part of the industry had an 8.7% cash return

on cash invested versus an average market return on cash invested of 12.5% for

companies in the S&P 500. Further, it is reasonably assumed by most estimates

that the cost of capital during that same time period was between 10-15%. The reality of modern capital markets is that only industries with significant positive returns on cash invested above the cost of capital attract new capital. Over the last

decade, the upstream part of the energy industry did not meet this requirement. As

a result, it is extremely unlikely that excess returns have motivated the ‘‘repeated

calls to open up federal lands to drilling.’’

The paradox of the current situation is that the underinvestment in the energy

industry by the market is the correct economic outcome given the poor rates of return, as the best use of capital is in other industries where the rates of return are

higher. The market solution is not concerned with volatility, but rather the expected

rate of return. This inability of the market to provide adequate incentives for investment in reserve capacity to reduce price volatility is where the market fails and why

more dramatic action is required. Further, the current market and regulatory structure reinforces this price volatility as it emphasizes efficiency over reliability. In addition, a combination of regulation, taxes, and direct market intervention have further reduced the return on capital in the energy industry. As a result, the market

has responded by not providing the capital to expand, and the net result is the capacity constraints that you see today.

RESPONSE OF GUY CARUSO, ADMINISTRATOR, OFFICE OF ENERGY INFORMATION

ADMINISTRATION TO QUESTIONS OF HON. HILDA L. SOLIS

Natural Gas Supply and Demand

Question 1. Mr. Caruso, your testimony focuses on the supply side of natural gas.

I would like to know if, as you find, a 1% drop in natural gas production leads to

5-10% higher prices, what would a 1% drop in demand do in terms of lowering

prices.

Answer 1. A 1% drop in demand (for whatever reason) would tend to lower peak

winter prices by about 5%-10%, a reaction roughly similar in absolute magnitude

(but opposite in sign) to the impact from production shifts.

Natural Gas Price Fluctuations

Question 2. Mr. Caruso, your testimony indicates that fluctuations in weather

have major impacts on the price of natural gas. Computer models of expected climate change due to greenhouse gas emissions predict that weather fluctuations will

become more extreme in the future, and some evidence suggests that this is already

occurring. Have you analyzed how expected and observed climate changes will affect

natural gas price fluctuations?

Answer 2. EIA has not done an analysis that links global climate change to increased domestic weather variability to natural gas price volatility.

CMS ENERGY

JACKSON, MI

July 21, 2003

The Honorable BILLY TAUZIN

Chairman, Energy and Commerce Committee

2125 Rayburn House Office Building

Washingtn, DC 20515

DEAR MR. CHAIRMAN: Thank you for the opportunity to appear before the Energy

and Commerce Committee on June 10, 2003, to testify about natural gas supply and

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demand issues. It was a great opportunity for the local distribution industry to get

our message out.

I have attached, at your request, answers to questions provided by Congresswoman Hilda Solis.

Again, thank you for the opportunity to testify before your committee.

Sincerely,

CARL L. ENGLISH

President and Chief Executive Office , Consumers Energy

THE HONORABLE HILDA L. SOLIS

Question 1. Mr. English, your testimony claims that federal policies have ‘‘locked

up’’ resources for development. Yet the EPCA ‘‘Scientific Inventory of Onshore Federal Lands’ Oil and Gas Resources and Reserves and the Extent and Nature of Restrictions or Impediments to their Development’’ shows that only 12% of the major

western basins known to contain most of the gas supplies are off limits to drilling.

Would you suggest that more than 88% of public lands be open to drilling?

Response: At a time when natural gas demand is expected to increase as much

as 50 percent in the next 20 years, up to 59 percent of the gas resources yet to be

discovered are expected to be found on federal lands or in offshore waters, according

to the United States Geological Survey. In the Rocky Mountains, as much as 40 percent of gas resources are off-limits to leasing or have highly restrictive lease conditions. The issue is not necessarily the ‘‘known’’ producing gas basins—but is the opportunity to make new gas discoveries is areas less drilled and thus add ‘‘new’’ supplies for the nation’s gas energy requirements. Ultimately, environmentally sound

testing of gas prospects—with the drill bit—is the only way to know if natural gas

can be developed from an area.

Question 2. Given that the 12% closed to drilling includes major National Parks

and wilderness areas, would you ask to open these areas to drilling, despite overwhelming public support to protect these areas from resource extraction?

Response: Clearly not all areas should be opened to drilling or mining or other

surface activities. But the debate must be examined on the basis of good science and

choices be made regarding the impacts of energy development activities. Citizens

should have a voice in these decisions, as they should regarding the implementation

of any sustainable energy resource, such as wind and solar power generation, biomass and other options. Unfortunately, no sustainable energy resource is a zero impact proposition. Therefore, actions should be measured and carefully examined.

However, no action is a poor choice for our economy and our people.

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