By Andrew J. Stanley & Jane Nakano —

Facts:

• On March 15, 2017, Prime Minister Malcolm Turnbull of Australia met with executives from the largest gas producers in that nation to secure a commitment that sufficient levels of natural gas would be made available for domestic demand.
• This move came as a response to the statement released by the Australian Energy Market Operator (AEMO) that a shortfall in gas power electricity generation could occur in the territories of New South Wales, Victoria, and South Australia by next summer if preventative action is not taken.
• This issue has come to the fore of the Australian government’s political agenda due to a surge in domestic natural gas prices over the course of the past two years as Australian natural gas has been made available to the global market with the development of several large liquefied natural gas (LNG) export terminals.
• Prime Minister Turnbull announced to reporters following the meeting that measures aimed at regulating exports by establishing a domestic reserve could be introduced if producers cannot guarantee adequate levels of supply.
• The Annual Australian Domestic Gas Outlook for 2017 was held March 14 at which Rod Sims, chairman of the Australian Competition and Consumer Commission (ACCC), presented an update on the ACCC’s inquiry into the east coast gas market. Sims stated that the outlook for gas supply in Australia “is now even worse than it was a year ago” and added “indeed, our worst fears are being realized.” However, the ACCC remains opposed to any gas reservation policy.

Opinion:

Australia is currently the world’s second-largest LNG exporter behind Qatar and is set to become the largest by 2020. Three LNG plants have opened in Australia in the past two years, including the Curtis and Gladstone LNG plants on the east coast, which has brought onshore coal seam gas produced in Queensland to the international market. Consequently, the Australian and in particular the east coast gas markets are now more directly exposed to international oil and LNG prices via LNG export contracts, which has translated into higher and more volatile domestic gas market prices.

The warnings by the AEMO are a manifestation of the underinvestment in the exploration and production (E&P) sector as a result of the oil price collapse of 2014 when producers significantly reduced capital expenditures. While there is still another A$80 billion worth of LNG projects under construction in the country, investment in onshore and offshore oil and gas exploration in Australia has fallen by almost two-thirds in the last two years and now stands at its lowest level since the first quarter of 2006. In addition to this, significant regulatory changes in the oil and gas industry in Australia have also affected levels of investment. Producers have cited a lack of clarity surrounding Australia’s climate policy and regulatory measures on drilling as specific reasons that have had the effect of deterring greater levels of investment in developing new sources of natural gas. In particular, Victoria has now banned all onshore oil and gas production, and there have been significant delays to projects in New South Wales and the Northern Territory due to changes in regulatory measures and state moratoria. To add to producers’ concerns, there are impending tax legislation reforms for the oil and gas industry as well. While current prices and the back end of the forward curve have returned to attractive levels for developing new sources, the remaining untapped gas reserves are either politically challenging to develop for reasons outlined above or pose other technical and commercial challenges.

Upstream investment in Australia surged over the past decade due to the massive growth in demand for natural gas from East Asia. As a result, the likes of INPEX (Japan), Kogas (South Korea), and Sinopec (China) have taken a direct stake in developing several LNG terminals in Australia. Australia’s development of natural gas reserves and transition away from coal to gas would have been a lot slower if it were not for this demand from East Asia. Today, two-thirds of gas produced in Australia is exported overseas, primarily to Japan, China, and Korea, with A$17 billion ($13 billion) of export value in 2015 coming from LNG shipments abroad.

It remains unclear how much weight stands behind Prime Minister Turnbull’s threat of restricting gas exports from the country to ensure adequate supply domestically; however, this would appear to be a short-sighted solution. If it were to be implemented, it would create a sovereign risk issue, which would negatively impact levels of investment in exploration and production in Australia. In turn this would likely exacerbate the current situation of underinvestment in developing new sources of natural gas and undermine Australia’s growing role as one of the largest LNG exporters in the world and the economic benefits that come with this.

This piece is cross-posted from the CSIS Energy and National Security Program’s Energy Facts and Opinion series, where it first appeared here. 

Mr. Andrew J Stanley is a research associate with the Energy and National Security Program at CSIS. Ms. Jane Nakano is a senior fellow with the CSIS Energy and National Security Program.