US LNG Exports May Not Have Large Price Impact, But Could Create Significant Commercial Risks for Companies

This post was written by Kenneth B. Medlock III, the James A. Baker, III, and Susan G. Baker Fellow in Energy and Resource Economics at the Baker Institute Energy Forum.

US domestic price impacts of LNG exports have been overblown and their commercial risks understated, a new report by the Baker Institute concludes. The report “US LNG Exports: Truth and Consequence” suggests that US domestic market interactions with the market abroad will determine export volumes and therefore US domestic price impacts. Our analysis suggests that the long term volume of exports from the US will not likely be very large given expected market developments abroad.

There are several key factors that determine the impact of LNG exports on domestic prices and whether or not LNG exports actually occur. They include: 1) elasticity of domestic supply 2) the elasticity of foreign supply 3) the role of short term capacity constraints 4) the cost of developing and utilizing export capacity, and 5) the value of the US dollar, an oft ignored issue in analysis of US LNG exports.

A distinction must be made between long-run and short-run market equilibrium. The current weakness in US market prices, which may accelerate this autumn, could in the long-run prove transitory, as might the strength in Asian prices which are driven in large part by the unexpected increase in demand due to the phased shutdown of all of Japan’s nuclear reactors in the wake of the disaster at Fukushima.

As markets evolve over time, these transitory features of the market will become resolved in a manner that could have shale reach 50 percent of US natural gas production by the 2020s and Asian LNG prices recede significantly.

Allowing US LNG exports does not mean that exports will occur in any particular volume. Regional price differentials around the globe will be affected by LNG trade because prices both domestically and abroad will be influenced by the introduction of trade. As prices adjust to new volumes, there will be a feedback that is important in determining the volume of trade that ultimately occurs. If US domestic supply is sufficiently abundant relative to supplies abroad, as we believe to be the case, then economic “rents” can be shared by US natural gas producers and US manufacturers who process domestic gas to make other export goods, allowing US natural gas to provide a competitive advantage across the economy. And, no matter how many export licenses are granted, LNG exporters will still face competition from LNG and pipeline suppliers abroad from a host of places such as Russia, Mozambique, Argentina, Canada and Australia, to name a few. US LNG exports carry commercial risks, including touted projects from Alaska.