U.S. SUBSIDIZING PET GAS AGAIN

The U.S. oil and gas producing industry spends much time wondering why the price of natural gas seems to have embarked on a permanent migration south. The notorious gas bubble received all the blame for a while but now looks like a permanent feature of the business. Allegedly predatory practices of major oil companies and imports from Canada lately have come under fire. Warm winters have something to do with the phenomenon. So, perhaps, do rising sophistication of inventory management and

July 22, 1991

3 min read

There's something to be said for and against each of these theories on gas price torpor. So why not two more, one philosophical and one more specific?

TWO THEORIES

The philosophical theory asserts that the U.S. market has no idea what a unit of gas energy is worth and has only recently become free to work the matter out. Such new freedom implies ups and downs, some excessive. It's the only way to exorcise distortions bred by three decades of misregulation and to thereby lay solid commercial groundwork for this fuel of popular destiny.

The more specific theory on the gas price slump concerns a significant subsidy in a market that's supposed to be turning free. Reference is made, of course, to the beloved Section 29 tax credit for unconventional fuels.

It's difficult to argue with a statutory mechanism without which the U.S. rig count would be some lesser portion of its currently meager self. No such argument will be made here. Indeed, there are sound derivative reasons for the credit to exist. But what must it be doing to gas prices?

Suppressing them, that's what. The credit is now worth more than 80/Mcf. That's two thirds of recent spot gas prices. Producers of gas subsidized to this degree do not have the same incentive to haggle with purchasers over price as do competitors with conventional gas to sell.

It will be argued that volumes of gas produced under Section 29 aren't great enough to skew the market. Similarly, most producers benefiting from the credit also have conventional production and therefore retain a healthy interest in price strength.

But subsidized volumes are growing and will continue to do so, especially as coalbed methane wells plod to capacity. Ammonite Resources of New Canaan, Conn., recently projected peak coalbed methane production of 2-2.8 bcfd. That's enough to affect markets, certainly in regions where the production occurs. And the claim about producers maintaining their interest in price strength is no doubt true. It also was true when the Natural Gas Policy Act pushed high-cost gas onto the market. But that made incentive pricing no less harmful a perversion.

A subsidy is a subsidy. Subsidies distort markets.

DRILLING STIMULUS

This does not mean producers shouldn't avail themselves of this latest form of preferential treatment for pet types of gas. If a good deal exists, good business people take advantage of it. The Section 29 credit certainly has advanced technology.

Furthermore, it's small recompense in a tax regime that penalizes drilling investments overall. These days in the U.S., any official drilling stimulus possesses scarcity value if nothing else. This is not a call for repeal of the Section 29 credit.

It is nevertheless worthwhile to recognize the subsidy as one of the gremlins keeping the U.S. gas market from functioning the way it should. Especially now, with the gas industry trying to outgrow its overregulated past and with gas reaching for new ground in the energy mix, market distortions of any type deserve to be viewed with regret.