Order Code RL33716
CRS Report for Congress
Received through the CRS Web
Alaska Natural Gas Pipelines:
Interaction of the Natural Gas and Steel Markets
November 2, 2006
Stephen Cooney
Industry Specialist
Resources, Science, and Industry Division
Robert Pirog
Specialist in Energy Economics and Policy
Resources, Science, and Industry Division
Congressional Research Service ˜ The Library of Congress
Alaska Natural Gas Pipelines:
Interaction of the Natural Gas and Steel Markets
Summary
In 1976 Congress approved legislation to establish the regulatory framework for
building a pipeline to bring natural gas from the Alaska North Slope to the lower 48
states (Alaska Natural Gas Transportation Act, 15 U.S.C. § 719 et seq.). Despite the
rich deposits of natural gas and the success of the Alaska oil pipeline, the Alaska
segment of a gas pipeline has never been started. To encourage its development,
Congress passed in 2004 and the President signed into law the Alaska Natural Gas
Pipeline Act (Division C of P.L. 108-324), which includes a federal loan guarantee
of as much as $18 billion. Since then, the North Slope producers and the state of
Alaska have been in extensive negotiations on building a gas pipeline. Under a
provision of the 2004 law, as no application for a certificate of public convenience
and necessity for the pipeline had been received 18 months after passage of the law,
the Department of Energy on April 13, 2006, began a study on alternative approaches
to the construction and operation of an Alaska natural gas transportation system.
Two major issues or uncertainties may serve as economic constraints on such
a major capital investment undertaking. The first is whether the price of natural gas
over the long term will repay investment in a project now estimated to cost $25
billion or more, and which would not deliver gas to the major U.S. markets before
2016. Natural gas prices in the North American market are high, but volatile. Spot
prices rose to more than $13 per million BTUs in 2005, then fell to less than $6 by
late summer 2006, and are expected to increase only moderately during the winter
2006-07 heating season. Developments of liquefied natural gas technology and of
advanced drilling technologies portend new sources of supply. At the same time, the
Department of Energy’s Energy Information Administration reports that the only
significant increase in U.S. demand for natural gas over the past 10 years has been
for electricity generation.
Secondly, the price of steel, the material to be used in building a pipeline, has
more than doubled since 2003, and may account for a significant share of increased
cost estimates. Earlier, the pipeline project was viewed by some observers as a
possible way to boost domestic steel demand, at a time when prices were low, many
major North American producers had gone into bankruptcy, and trade safeguards
were in place. But the steel industry has recovered and restructured. Moreover,
because of the conditions under which the pipeline would be built and operated, the
gas producers’ pipeline consortium has specified a grade of steel that is not yet
produced anywhere commercially. The American Iron and Steel Institute (AISI)
estimates that 3 to 5 million tons of steel could be required, but states that sufficient
capacity can be readily developed in North America for manufacturing the necessary
steel pipe. P.L. 108-324 contains a “sense of Congress” resolution that North
American steel should be used in the project. ExxonMobil Corporation, one of the
three developers of Alaska North Slope oil and gas, has, however, announced an
agreement with two Japanese companies to commercialize a new type of high-
strength steel that could reduce Alaska pipeline costs.
Contents
Introduction . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1
Northern Natural Gas Pipelines: Issues and Alternatives . . . . . . . . . . . . . . . . . . . 2
Bringing North Slope Gas to Market . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 2
An Untapped Resource . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 2
Congressional Support for an Alaskan Gas Pipeline . . . . . . . . . . . . . . . 2
No Gas Pipeline Is Started in Alaska . . . . . . . . . . . . . . . . . . . . . . . . . . . 3
The Northern Route and Mackenzie Delta Gas . . . . . . . . . . . . . . . . . . . 5
The Liquefied Natural Gas Option . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 6
Financing the Pipeline under Federal Legislation . . . . . . . . . . . . . . . . . . . . . 7
State-Level Pipeline Negotiations in Alaska . . . . . . . . . . . . . . . . . . . . . . . . 10
Progress on Canada’s Mackenzie Pipeline Project . . . . . . . . . . . . . . . . . . . 11
Evaluating an Alaskan Pipeline Investment Project . . . . . . . . . . . . . . . . . . . . . . 13
Pipeline Returns . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 14
Pipeline Costs . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 14
Risk Factors . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 14
Market Conditions in the Natural Gas Markets . . . . . . . . . . . . . . . . . . . . . . . . . . 15
Long Run Natural Gas Markets: EIA’s Projections . . . . . . . . . . . . . . . . . . . 15
Recent History of Natural Gas Markets . . . . . . . . . . . . . . . . . . . . . . . . . . . . 17
Consumption . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 17
Production and Imports . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 19
Natural Gas Reserves . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 19
Natural Gas Prices . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 20
Uncertainties . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 22
Short Term Market Conditions . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 23
The Impact of Steel Prices and Availability . . . . . . . . . . . . . . . . . . . . . . . . . . . . 23
The Reversal in Steel Prices . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 23
North American Large Pipe Production Capacity . . . . . . . . . . . . . . . . . . . . 26
The ExxonMobil High-Strength Pipeline Steel Project . . . . . . . . . . . . . . . . 29
Conclusion . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 30
List of Figures
Figure 1. Alaska Oil and Gas Pipelines . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 4
Figure 2: U.S. Natural Gas Price, Consumption and Production Indexes . . . . . . 21
Figure 3. Prices for Large-Diameter Steel Pipe and Plate . . . . . . . . . . . . . . . . . . 24
List of Tables
Table 1: Overview of U.S. Natural Gas Market . . . . . . . . . . . . . . . . . . . . . . . . . 17
Alaska Natural Gas Pipelines:
Interaction of the Natural Gas and Steel
Markets
Introduction
In 1976, Congress approved legislation to establish the regulatory framework
for building a pipeline to bring natural gas from the Alaska North Slope to the lower
48 states. Despite the rich deposits of natural gas in Alaska and the success of the
Alaska oil pipeline, the Alaska segment of a gas pipeline has never been started. To
encourage development of the gas pipeline, Congress passed further legislation in
2004, including a federal loan guarantee of as much as $18 billion. Since then, the
North Slope producers and the state government of Alaska have been engaged in
extensive negotiations on building a gas pipeline.
This report focuses on two major issues or uncertainties that may serve as
economic constraints on a capital investment undertaking of this major scale:
! Natural gas prices in the North American market are high, but
volatile. With Gulf of Mexico production shutdowns occasioned by
major hurricanes in 2004 and 2005, spot prices rose to more than
$13 per million BTUs. Prices fell to less than $6 by late summer
2006, but were expected by some analysts to increase again in winter
2006-07. Advances in liquefied natural gas technology and
transportation, and in drilling technologies in difficult operating
environments, portend new sources of supply for the domestic
market. It is not clear if the fundamental demand-supply balance in
the market will sustain a high enough price over the long term to
make building an Alaska gas pipeline a profitable venture.
! The price of steel, the major construction material to be used in
building a pipeline, has more than doubled since 2003. Earlier, the
pipeline project was viewed by some observers as a possible way to
boost domestic steel demand, at a time when prices were low, global
capacity was ample, the domestic industry was being protected by
extensive trade safeguards, and many major North American
producers had gone into bankruptcy. But the steel industry has
recovered and restructured. Higher prices for steel have contributed
to an estimated increase in the cost estimates for the Alaska gas
pipeline from less than $20 billion to at least $25 billion. Moreover,
because of the conditions under which the pipeline will be built and
operated, the gas producers have specified a grade of steel that is not
yet produced anywhere commercially.
CRS-2
Northern Natural Gas Pipelines: Issues and
Alternatives1
Bringing North Slope Gas to Market
An Untapped Resource. Alaskan natural gas is a largely untapped U.S.
energy resource. The Alaska Department of Natural Resources (DNR) estimates gas
reserves in the North Slope at 35.4 trillion cubic feet (tcf), which is the energy
equivalent of about 6.3 billion barrels of oil.2 For comparison, the entire annual U.S.
consumption of natural gas is approximately 20 tcf. But most of the gas produced
on Alaska’s North Slope, 80% of the eight to nine billion cubic feet produced
annually, has been reinjected into the ground.3 Only a small amount has been used
for operations in conjunction with oil production and transportation, such as
powering oil through pipelines, and other local uses.
Alaskan natural gas resources have not been developed because of a lack of
cost-effective transportation to major consuming markets. Using a more stringent
definition than the state, the Energy Information Administration (EIA) of the federal
Department of Energy estimates that proved natural gas reserves in the entire state
of Alaska were 8.2 tcf at the end of 2005. Because of the lack of a pipeline, or near-
term prospects for a pipeline, the remainder of Alaska’s gas reserves is commercially
unrecoverable.4
Congressional Support for an Alaskan Gas Pipeline. Congress has
established a statutory framework for an Alaska natural gas pipeline. The legislative
authority for designation of an Alaska natural gas pipeline route, and for the U.S. role
in the approval, construction and operation of such a pipeline, was established in the
Alaska Natural Gas Transportation Act of 1976 (15 U.S.C. § 719 et seq.), which
remains in effect. Acting under that framework, a private sector consortium planned
a natural gas pipeline that would parallel the existing Alaska oil pipeline (Trans
Alaska Pipeline System) from the North Slope to Fairbanks, and then head
southeastward along the Alaska Highway and into Canada via the Yukon Territory,
British Columbia, and Alberta. This is the proposed Alaska Natural Gas
1 This section of the report was written by Stephen Cooney.
2 Alaska Dept. of Natural Resources, Div. of Oil and Gas. Alaska Oil and Gas Report (May
2006), p. 3-2.
3 Natural gas pumped back into the ground enhances the flow of oil.
4 U.S. Dept. of Energy. Energy Information Administration. U.S. Crude Oil, natural Gas,
and Natural Gas Liquid Reserves: 2005 Annual Report (advance summary), Table 3. EIA
adheres to the standard definition that proved reserves are recoverable in today’s economic
conditions with today’s technology. The Alaska DNR’s stated definition substantially is the
same: “Remaining reserves are oil and gas that are economically and technologically
feasible to produce and are expected to produce revenue in the foreseeable future.” Alaska
Oil and Gas Report (May 2006), p. 3-1.
CRS-3
Transportation System (ANGTS), was approved by the U.S. and Canadian
governments in the 1970s.5
In 2004, Congress approved, and the President signed into law on October 13,
2004, legislation that amended and extended the original act (Alaska Natural Gas
Pipeline Act of 2004, Division C of P.L. 108-324).6 This law amends the 1976 act
and expands it by adding several important new provisions, including a federal loan
guarantee for the project. Details of this law are discussed below.
No Gas Pipeline Is Started in Alaska. Phase I (“prebuild”) of the ANGTS
pipeline was actually completed in the early 1980s and is in operation. Its two legs
stretch from a central collecting point in Alberta in the direction of the U.S. West
Coast and the Midwest. They deliver one-third of Canada’s total annual natural gas
exports to the United States.7
But the crucial third leg, connecting the “prebuilt” network to the North Slope,
has never been started. It would run for 2,140 miles, from Prudhoe Bay to
Edmonton, Alberta.8 Proposed pipeline capacity enhancements from Canada to the
Midwest would increase the total length to 3,500 miles.9 The planned ANGTS
pipeline along the Alaska Highway route and the completed lower legs of the
pipeline into the United States are shown in Figure 1.
5 Ibid., pp. 45-46.
6 Codified at 15 U.S.C. § 720 et seq.
7 The “prebuild” section of the Alaska Natural Gas Pipeline in Alberta was completed by
the Foothills Pipe Lines consortium. In 2003, TransCanada Corp., the major partner in the
consortium, acquired 100% ownership of Foothills’ interests; TransCanada Corp. website,
“Alaska Highway Pipeline Project,” and “Setting the Record Straight: Alaska Highway
Pipeline,” presentation by CEO Hal Kvisle (Apr. 7, 2005), p. 9. Also, information on the
prebuilt pipeline from the former website of Foothills Pipe Lines Ltd., 2003.
8 The length of 2,140 miles is from a chart in Arctic Resources Corporation (ARC), The
Right Solution to Tap Arctic Gas (Nov. 12, 2002), Fig. 2. It was confirmed to the author in
a CRS interview with EIA on Nov. 19, 2003.
9 Sen. Lisa Murkowski. “Murkowski Says Gas Loan Guarantee Designed to Help Get Alaska
Natural Gas to Market, Regardless of Final Project,” press release, Dec. 2, 2003.
CRS-4
Figure 1. Alaska Oil and Gas Pipelines
Source: Adapted from CRS Report RL31278, Arctic National Wildlife Refuge, Figure 6, based on Energy Department maps.
CRS-5
In January 2004, two consortia filed proposals with the Alaska state government
to build a gas pipeline along the Alaska Highway route. One group included the
three North Slope oil and natural gas producers – BP PLC, ConocoPhillips, and
Exxon Mobil Corporation.10 The other group was led by the Alaska Gas
Transmission Company, a subsidiary of MidAmerican, which is a major U.S.
pipeline operator. But in March 2004, MidAmerican cited “the inability of the state
of Alaska to complete a contract that would have allowed [our consortium] to move
forward on an accelerated schedule with an exclusive five-year period,” and
withdrew its proposal.11
In June 2004, TransCanada Corporation, a Canadian pipeline company, filed its
own separate application to build the complete pipeline. While Alaska Governor
Frank Murkowski has negotiated primarily with the producers’ group, TransCanada
has continued to seek a role in constructing the pipeline, emphasizing that it alone
holds the right to build the segment that will cross Canadian territory.12
The Northern Route and Mackenzie Delta Gas. A different route to the
Alaska Highway pipeline was proposed by a separate group, the Arctic Resources
Consortium (ARC), based in Canada. This was the Northern Route Gas Pipeline
Project. It was designed to access the Prudhoe Bay gas field in Alaska, then to swing
offshore across the top of the state, under the Beaufort Sea, and to join the existing
Alberta pipeline connection via the Mackenzie River (see Figure 1). This route also
could deliver to the North American market the more recently discovered gas reserves
of the Mackenzie Delta, as well as the Alaska North Slope gas.
A Mackenzie River pipeline would require a separate 1,350 mile project. ARC
claimed that it could feasibly build a single 1,665-mile pipeline connecting both
Alaska North Slope and Mackenzie Delta gas to North American markets.13
However, the northern route was opposed in both Congress and the Alaska state
legislature. The Alaska legislature enacted a law that bans construction of a gas
pipeline in northern state waters, while strongly supporting proposals for a pipeline
to the south. It has been suggested that “... State officials see a greater gain through
the income multiplier effect of construction within the state and greater access by
Alaskan communities to the new gas supplies. Also at issue is the fact that a Canadian
10 “Exxon,” Petroleum News (Feb. 8, 2004), p. 10.
11 Mid American Energy Holding Co., “Application Filed to Build Alaska Pipeline,” press
releases, Jan. 22 and Mar. 25, 2004
12 TransCanada, “Alaska Highway Pipeline Project,” and “Setting the Record Straight,” esp.
p. 6; and, AP, “TransCanada Presents Murkowski with a Proposal,” Anchorage Daily News
(Jul. 15, 2006). According to the Federal Energy Regulatory Commission (FERC), the
TransCanada proposal was made under the original 1976 U.S. law, Canada’s 1978 Northern
Pipeline Act, and a 1977 bilateral U.S.-Canadian agreement. The North Slope producers’
proposal is pursuant to the 2004 Act and other provisions of U.S. law. FERC, Second
Report to Congress on Progress Made in Licensing and Constructing the Alaska Natural
Gas Pipeline (Jul. 10, 2006), pp. 1-2.
13 ARC, Right Solution, Fig. 2 and p. 7.
CRS-6
route would likely serve new Canadian gas fields, which would then compete with
Alaska in U.S. markets.”14
The Senate-passed version of the energy bill in the 107th Congress agreed with
the Alaskan position (H.R. 4, approved on April 25, 2002). It provided that no
pipeline could be constructed for Prudhoe Bay gas that traverses the submerged lands
of the Beaufort Sea, as well as its adjacent shoreline, and that enters Canada “at any
point north of 68°N latitude.” In a March 2003 article, Peter Behr of the Washington
Post reported that the route along the Alaska Highway was “mandated by the Senate
... to secure the greatest number of construction jobs for Alaskans.”15
In the 108th Congress, the House on April 11, 2003, passed a version of its energy
bill, which included the same provision as the Senate on the location of the natural gas
pipeline. The same provision was passed again by the Senate and became law as
Section 103(d) of the 2004 Alaska Natural Gas Pipeline Act.16 But the law also
includes a “sense of Congress” provision (Sec. 114) that, as North American gas
demand will continue to increase “dramatically,” it will be necessary to complete a
separate Mackenzie Delta natural gas project, and that “Federal and State officials
should work together with officials in Canada to ensure both projects can move
forward in a mutually beneficial fashion.” This section further stated that, “Federal
and state officials should acknowledge that the smaller scope, fewer permitting
requirements and lower cost of the Mackenzie Delta project means it will most likely
be completed before the Alaska Natural Gas Pipeline.”17
The Liquefied Natural Gas Option. High prices for natural gas since 2000
have revived interest in the United States and abroad in developing liquefied natural
gas (LNG) technology. LNG is gas that has been liquefied by cryogenic technology,
transported in special-purpose carriers, then regasified for normal commercial use.
All four LNG plants that were built in the United States in the 1970s have been
reopened, and more are currently being considered, including on the U.S. West
Coast.18
14 CRS Report RL31278. Arctic National Wildlife Refuge: Background and Issues, by M.
Lynne Corn.
15 Washington Post. “Natural Gas Line Proposed in Alaska,” by Peter Behr (Mar. 26, 2003).
16 15 U.S.C. § 720a(d).
17 15 U.S.C. § 720l.
18 Dept. of Energy. EIA. The Global Liquefied Natural Gas Market: Status & Outlook
(DOE/EIA-0637), December 2003. Then-Chairman Alan Greenspan of the Federal Reserve
Board (FRB) emphasized the potential role of LNG in relieving recurrent U.S. natural gas
shortages and price volatility; see FRB, Testimony of Chairman Alan Greenspan, “Natural
Gas Supply and Demand Issues,” House Committee on Energy and Commerce (June 10,
2003). See also Bureau of National Affairs. Daily Report for Executives (DER), “Four-Year
Spike in Natural Gas Prices Alters Consumption, Development Outlook, EIA Says” (Dec.
17, 2003); Susan Warren, “Qatar Pursues Natural Gas Deals,” Wall St. Journal (July 14,
2003), p. B4; Wesley Loy, “State to Court Asian Buyers for Natural Gas,” Anchorage Daily
News (Aug. 12, 2003), p. F1. For details on the emerging LNG industry see CRS Report
(continued...)
CRS-7
Thus, another possibility that has emerged is a new natural gas pipeline wholly
within Alaska to feed an LNG operation. From there, the LNG could be transshipped
by special-purpose maritime carriers to domestic or foreign markets. Alaska voters
in a November 2002 referendum by 61% authorized a new state authority to build a
gas pipeline to parallel the existing oil pipeline from Prudhoe Bay to Valdez, and to
build a new LNG plant there. This project is being promoted by the Alaska Gas Port
Authority.19 But ConocoPhillips Alaska representatives in July 2003 reportedly
shared with state officials the results of an extensive multi-company industry study,
which concluded that an Alaska North Slope LNG project was not commercially
competitive with other LNG projects.20
Financing the Pipeline under Federal Legislation
A key question on approaches to building a pipeline is government financial
support. The three major North Slope oil and gas development companies,
ExxonMobil, ConocoPhillips and BP, undertook a joint study of the costs of a natural
gas pipeline, especially in view of a rise in the North American price of natural gas.
The study, completed in April 2002, estimated the cost of a new pipeline as $19.4
billion if the ANGTS route were used, and $18.6 billion if it followed the northern
route, via the Beaufort Sea and the Mackenzie Delta. Either way, the companies
concluded that the cost was prohibitive for natural gas to be commercially delivered
to the U.S. market, even at relatively high natural gas price levels.21 Subsequently, the
rise in the price of steel and other factors have increased cost estimates for a pipeline
along the Alaska Highway to $25 billion.22
In response to this question of cost, Congress has considered a number of
financial measures to support construction of an Alaska pipeline. In 2002, the Senate
included a $10 billion loan guarantee for private sector parties that would undertake
the project (Sec. 710 of H.R. 4, as approved in April 2002), and a price floor
mechanism that would guarantee a minimum price for Alaskan natural gas through tax
credits (Sec. 2503 of the same bill). In the 108th Congress, the Senate Energy and
18 (...continued)
RL32666, The Gas to Liquids Industry and Natural Gas Markets, by Robert Pirog.
19 Ben Spiess, “Ulmer Authorizes Gas Pipeline Referendum for November 5 Ballot,”
Anchorage Daily News (Mar. 13, 2002), p. F4; Tim Bradner, “Voters Approve Gas
Authority; Now What?” Alaska Journal of Commerce (Nov. 17, 2002), p. B1; FERC,
Second Report, p. 2. San Diego-based Sempra Energy is building an LNG terminal in Baja
California, Mexico, and another LNG terminal, aimed largely at the U.S. market, is being
developed in Kitimat, British Columbia; see Oil Daily, “British Columbia’s Kitimat
Terminal Still Lacks Supply Deal” (Aug. 15, 2006), p. 5.
20 Kristen Nelson, “LNG Not Cost Competitive for ConocoPhillips,” Petroleum News (July
13, 2003), p. 2.
21 CRS interview with ExxonMobil spokesman Robert H. Davis, April 25, 2003. The study
assumed that the pipeline would be completed to Chicago, so it could be possible to effect
some savings if capacity could be shared with the existing ANGTS “prebuilt” pipeline to
the Midwest.
22 FERC, Second Report, p. 15.
CRS-8
Natural Resources Committee increased the Alaska natural gas pipeline loan
guarantee to $18 billion (S. 14 § 144). The price floor provision was included as
Section 511 of the revised Energy Tax Incentives Act (S. 1149) reported by the Senate
Finance Committee.23 The stated intention of the Energy Committee was to amend
the Energy Tax Incentives Act “into S. 14 during floor action.”24
The Bush Administration in 2002 indicated its opposition to the “price-floor
subsidy provision ... and any similar provision because it would distort markets, could
cost over $1 billion in annual lost revenue, and would likely undermine Canada’s
support for construction of the pipeline and thus set back broader bilateral energy
integration.”25 The Statement of Administration Policy of May 8, 2003, on Senate
energy legislation reiterated opposition to “the price-floor tax subsidy provision in the
Senate Finance Committee bill, because it could distort markets and could be very
costly.”26 In response, Senators John Breaux, Jeff Bingaman and Tom Daschle wrote
President Bush on May 21, 2003, asking him to “reconsider” this position. The three
Senators argued that, “Given the inevitable volatility of gas prices over the 50 year life
of this project, this Administration position effectively means that no pipeline will be
built ...”27
The Canadian government position has been one of declared official neutrality
between the two (or more) potential routes, but opposition to any mandated, unilateral
selection of routes by the U.S. government, particularly if this is included in a policy
utilizing price support mechanisms for Alaskan gas, which Canada strenuously
opposes.28 Price supports and any other mechanisms that favor Alaskan gas over
imports from Canada also may raise questions under World Trade Organization
agreements.
The conference report of November 18, 2003, on H.R. 6 (H.Rept. 108-375)
included the loan guarantee provision as approved in the Senate Energy Committee,
but did not include the price floor/tax credit mechanism to reduce the risk of low
natural gas prices. The loan guarantee provision was incorporated into the final 2004
Alaska Natural Gas Pipeline Act. It would authorize the Secretary of Energy to issue
a guarantee within two years after a “final certificate of public convenience and
necessity (including any Canadian certificates of public convenience and necessity)
23 See S.Rept. 108-54, part J.
24 Senate Committee on Energy and Natural Resources. “Highlights of the Energy Policy Act
of 2003 and the Energy Tax Incentives Act of 2003,” press release, May 1, 2003.
25 Secretary of Energy Spencer Abraham. Letter to Rep. W.J. Tauzin, June 27, 2002.
26 Office of Management and Budget. “Statement of Administration Policy: S. 14 — Energy
Policy Act of 2003” (May 8, 2003), p. 2.
27 Sens. Breaux, Bingaman and Daschle. Letter to President George W. Bush, May 21, 2003.
28 Ambassador of Canada Michael Kergin. “Trust the Market (and Canada),” article in Wall
Street Journal, May 15, 2002; letter to U.S. Under Secretary of State for Economic Affairs
Alan P. Larson, Sept. 17, 2002. This position was confirmed in a CRS interview with Paul
Connors, Energy Counsellor to the Canadian Embassy (Aug. 3, 2006).
CRS-9
is issued for the project.” The guarantee “shall not exceed” 80% of the total cost of
a “qualified” project, up to $18 billion.29
According to a press report, ConocoPhillips publicly confirmed that it would not
participate in the pipeline project without a price floor mechanism. An Alaska
executive of the company informed a conference in Anchorage on November 20,
2003, that, “We’re not going to be able to advance the project without the risk
mitigation.” The same press source stated that BP was still “interested” in moving
forward with the project, though it would find the risk-mitigation tax credit
“helpful.”30 Despite the stance, negotiations on building the pipeline continued
between the state of Alaska and the North Slope producers.
In addition to the basic loan guarantee and to enhance the prospects for the LNG
alternative, Senator Lisa Murkowski sought to “provide equal financial incentives”
for federal support in transporting Alaska natural gas to U.S. markets, “whether that
gas moves by pipeline through Canada or by tanker from Alaska’s south coast.”31 She
succeeded in adding to earlier legislation a provision to permit the consideration of an
option providing a loan guarantee for an LNG transportation project in Alaska.32 This
language was incorporated in the 2004 Act. The portion of the Alaska gas pipeline
$18 billion federal loan guarantee that could be used to cover an LNG project is
limited to $2 billion. The cost of building LNG tankers could be included.33
Pursuit of the LNG option would entail a much shorter pipeline (the Trans
Alaska oil pipeline is about 800 miles long) and, therefore, would imply use of a much
smaller amount of steel. Of course, if the federal guarantee is used, an additional
amount of domestic steel may be required for building Jones Act-qualified LNG
tankers. The companies that own the gas remain less interested in an LNG project.
During the administration of Alaska Governor Frank Murkowski, they focused on the
Alaska Highway pipeline.34
29 15 U.S.C. § 720n(c)(2).
30 Tim Bradner, “ConocoPhillips Out of Gas Line,” Alaska Journal of Commerce (Nov. 30,
2003).
31 Sen. Lisa Murkowski, “Murkowski Says Gas Loan Guarantee Designed to Help Get
Alaska Natural Gas to Market ...” press release (Dec. 2, 2003).
32 Description quoted from H.Rept. 108-401, p. 1180. See account in Larry Persily, “Federal
Loan Guarantee Extended to LNG,” Petroleum News (Dec. 7, 2003), p. 13.
33 Inclusion of the cost of building LNG tankers is justified on grounds that they would have
to be U.S.-built and -manned under the Jones Act, and therefore the price of construction
may be “two to three times as much as foreign-built ships;” Sen. Murkowski press statement
(Dec. 2, 2003). See 15 U.S.C. § 720n(a)(1), (c)(2), and (g)(4) on LNG project coverage.
34 Christian Schmollinger, “Pork Barrel Language No Guarantee for Alaska LNG Project,”
Oil Daily ((Dec. 4, 2003);Associated Press, “Governor Pushes Alaska Highway Pipeline
Route ...” Anchorage Daily News (Dec. 2, 2003), p. F2; Tim Bradner, “Pipeline Firms Eye
Highway Line,” Alaska Journal of Commerce (Dec. 14, 2003), p. B1.
CRS-10
State-Level Pipeline Negotiations in Alaska
Essentially rejecting both the TransCanada and LNG project proposals, Gov.
Murkowski has pursued an agreement with the three North Slope producers. His goal,
and theirs, has been to assure fiscally stable conditions under which the pipeline can
be built. This has meant seeking both a long-term fiscal contract between producers
and the state under the Alaska Stranded Gas Development Act, as well as changes to
the state’s oil and gas tax and royalty laws. A draft contract was reached in early 2006
with the producers, which provided a 20% ownership share for the state of Alaska in
the primary project elements, plus royalties to be paid in gas, rather than cash. In
return, the companies would receive a guarantee of a long-term stable tax rate.35
In August 2006, a special session of the legislature approved a new Petroleum
Production Tax regime for oil and gas producers, according to press reports. The new
plan fundamentally shifted the basis of taxation, as sought by the governor and
producers, from a tax on production to a tax on net profits. The new law also allowed
for deductions and tax credits for new investments. Though it did not allow a
deduction for building a gas pipeline, it did allow companies to deduct the cost of gas
treatment plants and other infrastructure. The final law raised the tax on profits from
20%, as originally proposed, to 22.5%. It also added a surtax at any time when the
price of oil is higher than $55 per barrel, and set a floor to the tax rate at 4% of gross
revenues when the price of oil is low.36
The legislature refused to approve the draft contract in two separate special
sessions in summer 2006. The oil companies’ refusal so far to develop the North
Slope gas fields is controversial in Alaska. For example, it is reported that
ExxonMobil and its predecessor, Exxon Corporation, “which operates ... the state’s
largest untapped gas field ... has put off developing the field for 30 years and recently
fended off a state order to submit a new development plan or face losing its leases.”
The producers reportedly are concerned with the amendments to the state tax regime
as finally approved, and are determined to secure contract provisions as favorable as
possible.37
Governor Murkowski lost his bid for re-election in the Republican primary on
August 22, 2006. The natural gas pipeline contract provisions were an issue in the
campaign. Further negotiations may occur after the November general election and
the inauguration of a new governor in December 2006.38 Adding uncertainty to the
35 FERC, Second Report, p. 2.
36 Oil Daily, “Alaska Legislature Approves New Tax Regime for Oil Producers” (Aug. 15,
2006), p. 5.
37 Ibid., and “Alaska, Exxon Headed for Showdown on Point Thomson” (Oct. 6, 2006), p.
5; “Candidate Knowles calls for caution on Point Thomson Standoff” (Oct. 11, 2006), p. 5.
38 See, for example, Ibid., and the the following additional stories: “Alaska Governor May
Call Third Special Session on Gas Pipeline” (Aug. 31, 2006), p. 2; “Lame Duck Murkowski
Pulls Plug on Alaska Gas Pipe Deal” (Sept. 11, 2006), p. 5; “Murkowski Vows to Press On
with Alaska Gas Line Negotiations” (Sept. 12, 2006), p. 2; and, Oil & Gas Journal, “Alaska
(continued...)
CRS-11
situation is an investigation into alleged bribes of six Alaska legislators paid by an oil
field services company, highlighted by an August 31, 2006, FBI raid on their offices.39
Until these issues are resolved at the state level, it appears that the terms of the
federal loan guarantee cannot be established and the gas pipeline project will not
proceed. As stated by FERC in its recent analysis of the gas pipeline project, “When
the commercial project emerges [from negotiations between the state of Alaska and
producers, and from the fiscal framework legislated by the state], DOE will proceed
with structuring the loan guarantee.”40 The FERC analysis stresses that:
For Alaska to be a meaningful part of the natural gas supply mix of the U.S. in the
coming years, action needs to be taken now. At best, if the draft contract were
approved under the Alaska Stranded Gas Development Act, gas would not flow
in significant quantities to the Lower 48 prior to 2016.41
The Department of Energy on April 13, 2006, started a study of alternative
approaches to the construction and operation of an Alaska natural gas transportation
system. Such a study was required under Section 109 of the 2004 Alaska Natural Gas
Pipeline Act, if no application for a certificate of public convenience and necessity for
the pipeline had been received 18 months after passage of the law in October 2004.42
The study includes consultations with the Army Corps of Engineers and the Treasury
Department. The study, reported in September 2006 to be in a “pre-scoping” phase,
may include consideration of establishment of a federal corporation to construct the
pipeline project. The results of the study and any recommendations, including
proposals for legislation, are to be submitted to Congress.43
Progress on Canada’s Mackenzie Pipeline Project
As noted above, Congress, when approving the 2004 Alaska pipeline law, found
that there was ample demand in North America for gas from both Alaska and the
Mackenzie River Delta of Canada, and that both projects should go forward.
Moreover, gas from the Mackenzie Delta may be used as fuel for the major oil sands
project in Alberta, rather than for consumption elsewhere in North America.
However, there is some possibility that moving forward simultaneously with the
38 (...continued)
Session Possible on Pipeline Contract” (Sept. 1, 2006). Later reports conflict on whether any
deal would be possible until a new administration is established in Alaska, and even then,
any renegotiation may take considerable time. Oil Daily, “Alaska Gas Line Faces Many
Pitfalls Ahead” (Oct. 6, 2006), p. 1; and, “Murkowski May Sign Gas Deal, Bypass
Legislature (Oct. 16, 2006), p. 2.
39 Oil Daily, “FBI Probe Could Deal Death Blow to Alaska Pipeline” (Sept. 5, 2006), p. 6.
40 FERC, Second Report, p. 7.
41 Ibid., pp. 11-12.
42 15 U.S.C. § 720g.
43 FERC, Second Report, p. 7; Petroleum News, “Federal Regulators Move on Gas Line”
(Sept. 24, 2006), p. 4.
CRS-12
Mackenzie and Alaska pipelines could create a competition for both steel and labor,
and thereby drive up the costs and create delays for both projects.
As currently planned, the Mackenzie pipeline would be about 800 miles long,
and would consist of 30-inch-diameter pipe of a grade that is presently available
commercially. The pipe would be mostly above ground, because of the difficulties in
constructing and maintaining a pipeline built through permafrost. The anticipated
delivery rate of the pipeline would be 1.2 billion cubic feet per day (bcf/d), if built
under current plans, compared to total current production in Canada of 17 bcf/d. If
more gas is found than currently anticipated in the Mackenzie Delta region, plans are
that the pipeline could be looped along the same route.44
Current plans are that all of the Mackenzie gas would be devoted to the Alberta
oil sands project. Natural gas is the primary fuel for that project. Current usage by
that project is only about a half-million bcf/d, but when the project is built out to
planned full capacity by 2015, the natural gas requirement would be 2.1 million bcf/d,
or more than the anticipated throughput of the Mackenzie pipeline. At that time, total
nominal capacity of the oil sands projects would be 4.4 million barrels of oil per day
(mbd), though official projections by the Canadian National Energy Board are for an
average peak output of 3.0 mbd. The oil sands project is calculated to achieve a
required return of 10% on the projected capital investment, as long as the price of oil
is at least in the range of $30-35 per barrel.45
FERC finds that development of the Mackenzie pipeline “poses certain problems
and risks to an Alaskan project.” This not because direct competition in the gas
market, but because of a lack of sufficient pipeline grade steel and a shortage of
skilled labor required to build two technically challenging Arctic projects of such
magnitude at the same time.46 Both FERC and the Canadian government emphasize
that the project has been expedited by creation under Canadian law of a “Joint Review
Panel,” which will consider all environmental and social aspects of the project, and
produce a final report to the National Energy Board (NEB) by April 2007. One
potentially contentious issue that remains unresolved is provision of an acceptable
level of access to and benefits from the project for aboriginal peoples who live in and
near the Mackenzie Valley.47 If all these issues can be resolved along the time line
projected by the Canadian government, the Mackenzie pipeline could be finished by
2012, before the peak of construction activity projected for an Alaska pipeline.48
44 Connors interview, Canadian Embassy; FERC, Second Report, p. 9.
45 Govt. of Canada. National Energy Board (NEB). Canada’s Oil Sands: Opportunities and
Challenges to 2015 — An Update (June 2006), pp. 5, 12-13, 16-18. However, the report
notes an 88% increase in the estimated cost of natural gas used in the project in less than
two years since the first report issued by the Board, and the consequent intensification of
efforts to develop alternate energy sources.
46 FERC, Second Report, p. 9.
47 Canadian Embassy interview.
48 Ibid., pp. 9-10; NEB, esp. fig. 6.2; Canadian Embassy interview.
CRS-13
But concerns about rising costs may contribute to further delays in approval of
the Mackenzie gas project. It has been reported that the Joint Review Panel process
has already led to a delay of one construction season in the project, and that cost
estimates for the pipeline will increase from $C7.5 billion to $C10 billion in estimates
being prepared by Imperial Oil of Canada, an ExxonMobil subsidiary active in both
the oil sands and Mackenzie gas projects. A private sector analyst, quoted in the same
article, estimated that development of Mackenzie Delta gas is only economic if crude
oil is in the range of $60-70 per barrel and natural gas is $7-9 per million BTUs.49 If
the Mackenzie pipeline project does not go ahead, there should be no impact on the
Alaska project. But if the Mackenzie project is further delayed before proceeding, it
may lead to increased costs and delays in keeping with FERC’s concerns, should the
Alaska project be constructed simultaneously.
Evaluating an Alaskan Pipeline Investment Project50
Large scale capital investment projects, such as an Alaskan natural gas pipeline,
typically require substantial financial commitments at the inception of, and in the early
years of, the project and promise to provide net profits to investors for many years into
the future. For this reason, before undertaking such projects, investors use financial
tests such as net present value analysis, that seek to determine whether, for any
particular project, the value today of the proposed investment funds, are less than, or
greater than, the discounted future profit stream. The principal financial advantage
to having funds currently available is that they can be invested in financial assets and
earn a market rate of return.51 A key factor in evaluating capital investment project
decisions is whether this financial return, which is given up, or traded off, is
compensated by the potential earnings of the real capital investment.52
Because of the nature of the net present value investment test, any factor that
affects the revenue the project might earn, or the costs that the project might accrue,
is likely to affect the determination of whether the project is profitable and likely to
be implemented. In the case of an Alaskan natural gas pipeline, the key market factors
are likely to be natural gas prices and consumption levels, which will largely
determine the revenue derived from the pipeline, and the price and availability of steel
49 Petroleum News, “Costs Pose Threat” (Sept. 3, 2006), p. 1.
50 This section was written by Robert Pirog. The purpose of this section is not to carry out
an analysis of the economic viability of an Alaskan natural gas pipeline project. The
purpose is to highlight those factors which might influence the viability of the project, and
to tie them to understanding developments in the natural gas and steel industries and
markets.
51 This rate of return may vary depending on the class of financial asset chosen for
investment. However, the financial rate of return is generically referred to as the rate of
interest.
52 The most common investment test is net present value analysis. This technique compares
the inflation adjusted net discounted profits of the project over time to the initial investment.
If the net present value of the project is greater than zero, ie. discounted profits are greater
than the initial investment, the project qualifies for implementation.
CRS-14
required to construct the pipeline, which is a major part of projected costs.53 As a
result, analyses of the natural gas and steel industries and markets carried out in this
report can contribute to understanding the nature of the debate concerning the need
for, and economic viability of an Alaska natural gas pipeline. Additionally, these
analyses can identify the factors that determine the risk of the project. In a large scale
project that could have economy-wide implications, such as an Alaskan natural gas
pipeline, risk sharing may be one approach for government policy concerning the
project.
Pipeline Returns
An Alaskan natural gas pipeline’s main purpose is to deliver natural gas supplies
from fields at the North Slope of Alaska to consuming markets in the lower 48 states.
This natural gas is now “stranded” in the sense that it can be physically produced, but
cannot be delivered to consumers because of the lack of a transportation system.
Currently, the gas is not wasted: it is re-injected into oil wells operating in the area,
increasing the productivity of those wells.
The key factors determining the returns, or revenues, that might be earned by an
Alaskan natural gas pipeline are the expected price of natural gas over the life of the
pipeline, the quantity of natural gas that might be delivered through the pipeline each
year, and the number of years that the pipeline, and the producing fields that feed
natural gas into it, will be operational. These factors are all related to the current, and
future, projected conditions of the natural gas market. An analysis of the natural gas
market is carried out later in the report.
Pipeline Costs
The costs of an Alaskan natural gas pipeline fall into two categories: investment,
or capital costs, and operating costs. A large number of factors enter into the
determination of either class of costs. In a subsequent section, this report focuses on
one of the main capital costs of the project: the cost and timely availability of steel
pipe that would be used in construction of the pipeline. The report focuses on that
cost factor because of its potential significance to the North American steel industry.
Risk Factors
In financial analysis, the riskiness of a given factor is taken to be equivalent to
its variability.54 If the value of a factor is taken to be constant, this implies that the
factor is risk free. If its volatility is low, its riskiness is low, and if the factor’s value
demonstrates high volatility, this is associated with high levels of risk.55 Generally,
53 An additional factor is the availability of skilled labor to construct and operate the
pipeline, a factor not specifically analyzed in this report.
54 Gitman, Lawrence J., Principles of Managerial Finance, 8th ed., Addison-Wesley, 1997,
p.228.
55 The volatility based definition of risk includes favorable as well as unfavorable
(continued...)
CRS-15
higher levels of risk associated with a capital investment project must be compensated
with higher levels of expected return if the project is to be approved for
implementation through application of the net present value criterion.
In relation to an Alaskan natural gas pipeline, several of the key market factors
that will determine the expected revenues and costs are likely to exhibit considerable
risk. These factors include the price of steel to be used in the construction of the
pipeline, the near and long term price of natural gas, and the price of labor, both for
construction and operation of the pipeline. The demand for natural gas has been
projected by many analysts to be relatively assured, but available historical and current
market data suggests that it too might better be considered as subject to risk.
The relationship between risk factors and the viability of an investment decision
may be of importance when evaluating whether public policy measures to encourage
carrying out of the project are appropriate. If the benefits of a project are captured in
their entirety by the investors, there is little reason for active public support.
However, if the completion of the project is judged to include significant public
benefits, then there may be a case made for active support of the project through
public support.
Public support for an investment project might occur through loan guarantees,
direct investment participation, price and regulatory guarantees, policies which
encourage demand for the delivered product, and the discouragement of substitute
products or services. However, critics argue that if the market will not support the
economic viability of the project, neither should the government. Some of these
policy options were discussed in an earlier section of this report.
Market Conditions in the Natural Gas Markets56
An Alaskan natural gas pipeline is unlikely to come online before 2016, and from
that point, its throughput is likely to be a part of U.S. natural gas supply through the
middle of the century. As a result of this long time frame, analyzing the likely values
for risk factors associated with the project may come from both future projections of
market behavior as well as historical trends.
Long Run Natural Gas Markets: EIA’s Projections
A widely used long run projection of energy markets is the EIA’s Annual Energy
Outlook 2006 (AEO), which provides market projections and analysis out to 2030.57
55 (...continued)
movements of the factor. For example, the market price of natural gas might decrease, or
increase, by 10% in a month. Either movement in the price would be consistent with
identifying the price of natural gas as a risk factor.
56 This section was written by Robert Pirog.
57 The Annual Energy Outlook 2006 is not a forecast, it is a projection. It is in the form of
(continued...)
CRS-16
The AEO reference case projects aggregate U.S. natural gas demand to rise by about
20% from 2004 to 2030, from 22.4 trillion cubic feet (tcf) to 26.9 tcf in 2030.58
Almost all of the gains in demand, approximately 18%, are projected to take place by
2017, with less than 2% growth, relative to 2004, taking place from 2018 through
2030. The AEO projects this growth in demand to be led by electricity generators
demand growth through 2019, with more limited growth in the residential,
commercial, and industrial sectors, due to the effect of higher projected prices. The
AEO’s 4.5 tcf projected demand increase provides the demand-side basis for the
construction of an Alaskan natural gas pipeline, which itself would deliver
approximately 1.5 tcf per year.
The AEO projects a changing mix of supply sources which might meet U.S.
demand. Conventional onshore production of natural gas in the lower 48 states is
projected to decline by about 10% from 2004 to 2030 to 4.2 tcf. Production from the
shallow waters of the Gulf of Mexico is also projected to decline, by about 25% from
2004 to 2030, to 1.8 tcf. Onshore production from unconventional sources in the
lower 48 states is projected to increase by about 27% from 2004 to 2030, to 9.5 tcf
while deepwater production from the Gulf of Mexico is expected to increase by about
78% from 2004 to 2014, and then decline by about 35% from 2015 to 2030.59 Over
the period 2004 to 2030, deepwater Gulf of Mexico production is expected to increase
by about 17% to 2.1 tcf. In 2030, Alaskan natural gas production is projected to total
about 2.1 tcf. This mixture of decreasing and increasing supply sources provides the
supply-side basis for the construction of an Alaskan natural gas pipeline.
Imports of natural gas by pipeline from Canada are projected to decline by about
44% from 2004 and 2030, to 1.8 tcf. Net imports of LNG are projected to increase by
about 42% from 2004 to 2030, to 4.4 tcf. In the AEO reference case, both the Alaskan
natural gas production and the LNG totals are dependent on major capital investments
taking place over the next ten years: a pipeline in the case of Alaska and receiving
terminals in the case of LNG.
While a variety of factors, including personal income levels, industrial structure,
technology, and environmental considerations are likely to affect the demand and
supply of natural gas in U.S. markets in the future, the key element is price. The AEO
projects the price of natural gas to decline from the 2004 levels to an average of $4.46
per thousand cubic feet (mcf) by 2016, rising to $5.92 per mcf by 2030.60 Prices at
57 (...continued)
a baseline; a projection of what might occur if current conditions and policies remain in
place and no new policies, or new extraneous conditions affect the market.
58 In addition to the reference case, the AEO includes high and low economic growth and
high and low price cases. These differing assumptions affect the natural gas values cited in
this report.
59 Unconventional sources of natural gas include coalbed methane, tight sandstones, and gas
shale.
60 In the AEO, prices are expressed in base year, here 2004, levels. Actual, nominal, prices
in the future will likely be higher reflecting the average rate of inflation over the period.
(continued...)
CRS-17
these projected levels are likely to encourage the construction of an adequate number
of new LNG terminals in the United States, as well as providing incentive to build an
Alaskan natural gas pipeline, according to the AEO.
Recent History of Natural Gas Markets
Since 1997, at the aggregate level, the U.S. natural gas market has maintained the
appearance of balance and stability with respect to demand, supply, and reserves. As
shown in Table 1, consumption, production, and proved reserves have been quite
stable since the late 1990s. Only the wellhead price of natural gas has shown high
volatility, which might be associated with an unsettled market.
Table 1: Overview of U.S. Natural Gas Market
(Volumes in trillion cubic feet; price in dollars per thousand cubic feet)
Year
1997
1998
1999
2000
2001
2002
2003
2004
2005
Consumption
22.7
22.4
22.4
23.3
22.2
23.0
22.3
22.4
21.9
Production
18.9
19.0
18.8
19.1
19.6
18.9
19.1
18.7
18.2
Proved Reserves
167
164
167
177
183
187
189
192
N/A
Wellhead Price
2.32
1.96
2.19
3.68
4.00
2.95
4.88
5.46
7.51
Source: Energy Information Administration, available at [http://www.eia.doe.gov].
Consumption. The sectoral demand data, which underly the aggregate data
of Table 1, show that important shifts have taken place in the composition of demand,
even though the aggregate totals have not changed greatly.
Consumers of natural gas fall into four major groups: residential, commercial,
industrial, and electric power generators.61 While the aggregate demand for natural
gas is frequently estimated to be relatively inelastic, or unresponsive to changes in
price, this may not be equally true for all sectors and may have contributed to sectoral
shifts.
Residential consumer demand has declined since 1997 by about 3%, probably in
response to residential gas prices that were nearly twice as high in 2005 as in 1997.
The effect of higher prices was likely offset by the trend toward more and larger
homes, as well as higher consumer incomes. Residential consumers may not have tied
60 (...continued)
However, it is not definite that the future price will merely capture inflation. Actual,
observed, future prices might be higher or lower than the AEO projections, depending on
relative demand and supply conditions.
61 Each of these consumer groups pay a different price per unit for natural gas. Generally,
large scale consumers pay less per unit than smaller consumers. For example, the EIA
reported that in June 2006 residential consumers paid $14.95 per mcf while industrial
consumers paid $6.87 per mcf.
CRS-18
home heating decisions to the cost of natural gas due to the lack of real-time metering
and this might also have supported demand.
Commercial demand has decreased since 1997 by about 5%, in response to
commercial gas prices that also were more than twice as high in 2005 as in 1997.
Industrial demand for natural gas has declined by 23% since 1997 in response to
increases in industrial prices for natural gas of 125% since 1997. Industrial uses of
natural gas, either for production process heating, or as a raw material, are likely to be
more price responsive than that of the other consuming sectors. Cost increases are
likely to be passed on to consumers, or they must be absorbed as lower profits,
depending on the nature of the market for the industries’ products. For example, an
industry that is a large consumer of natural gas as a raw material and has no suitable
substitute, is nitrogenous fertilizer manufacturing.62 Also, the U.S. fertilizer industry
is open to foreign competition, which prevents an easy pass-through of cost increases
to consumers. It is capable of moving production overseas where natural gas prices
are generally lower, likely accounting for part of the reduced demand from the
industrial sector.63
The demand for natural gas by electric power generators has increased by about
42% from 1997 to 2005. Since the early 1990’s, technology, emissions performance,
the availability of long term contracts, and low prices for part of the period have
favored natural gas as the fuel of choice for new generating capacity. Household and
commercial demand for electricity is relatively price inelastic because of the nature
of its use in the home, and in businesses, as well as the lack of real time metering to
allow users to determine the true cost of their electricity use decisions.
An important question in the evaluation of an Alaskan natural gas pipeline is
whether its role will be to allow demand growth for all, or part, of the 26.9 tcf
projected demand in 2030, or whether its role will be to replace diminished production
from currently existing sources, or both. One scenario could begin with the
assumption that demand patterns observed over the past nine years will continue in
the future. This approach would have residential and commercial demand nearly flat,
electric power demand increasing, and industrial demand decreasing. Industrial
demand decreases have been large enough to offset growth in electric power
generation because, among the sectors, industry is the largest user of natural gas.
Another scenario might be that those uses of natural gas in the industrial sector that
are price responsive will be exhausted at some level, and after that usage level is
attained, industrial demand would not decline as rapidly in response to price as in the
past. Thus, demand would rise over the next decades. On balance, reviewing the
period since 1997, it is not clear whether aggregate U.S. demand growth could provide
the major justification for an Alaskan pipeline.
62 See Domestic Nitrogen Fertilizer Production Depends on Natural Gas Availability and
Prices , GAO-03-1148, September 2003, for a further discussion of the effect of natural gas
prices on the nitrogen fertilizer industry.
63 Imports of fertilizer by the United States have increased from an annual rate of $3.2
billion in 1997 to $8.2 billion in 2006 and the United States has shifted from a net exporter
to a net importer.
CRS-19
Production and Imports. Production data for U.S. natural gas production
shown in Table 1 indicates that although year-to-year variations exist, there does not
appear to be a clear upward or downward trend. U.S. production decreased by about
5% between 2000 and 2005, but only by about 4% since 1997. Peak U.S. production
levels were attained in 2001, near the beginning of the period of volatile, escalated
prices. Production is likely related to price, but technology and the geological
characteristics of the gas fields also play an important role in determining output.
The difference between U.S. production and U.S. consumption is made up by
imports, mostly by pipeline from Canada. The natural gas market, unlike the crude
oil market, is regional rather than global in scope, extending along pipeline systems.
It is possible that the geographic scope of the U.S. natural gas market may expand in
the coming decades through the expansion and maturation of the LNG market.
Imports from Canada increased by approximately 3% over the period 2000 to
2005. Imports of LNG increased by about 180% over the period 2000 to 2005, but
still accounted for only about 3% of U.S. consumption in 2005. Imports from Canada
are expected to decline in the coming decades as Canadian domestic consumption
increases, more natural gas is used in the production of oil from oil sands, and
Canadian fields continue to deplete. These trends could be moderated by the opening
of new supplies, especially those delivered through the proposed construction of the
Mackenzie River natural gas pipeline, or through technological improvements.
The United States currently has four operational LNG receiving facilities. Plans
for expansion at existing facilities, coupled with the construction of new facilities
could increase the U.S. consumption of LNG considerably. However, the spot market
for LNG has been slow to develop on the production side, and other competing uses
are vying with LNG for available natural gas feedstock supplies.64 The market for
LNG remains largely a long-term contract market.65
Natural Gas Reserves. Proved reserves are those reserves that are
recoverable using currently available technology under existing economic conditions,
including price. These reserves provide the basis for current and future production.
Current production draws down the level of proved reserves, and new discoveries
increase, or maintain, the level of proved reserves.
Data in Table 1 show that the level of U.S. proved reserves of natural gas has
increased by approximately 15% over the period 1997 to 2004. Another key measure
of the production base is the reserve-to-production ratio. In 1997 this ratio was 8.8,
implying that at then-current production rates the reserve base could sustain
production for 8.8 years. By 2004, the reserve-to-production ratio had increased to
10.4, implying that the reserve base could sustain U.S. production levels longer than
64 See CRS Report RL32666, The Gas to Liquids Industry and Natural Gas Markets.
65 See CRS Report RL32445, Liquified Natural Gas (LNG) Markets in Transition:
Implications for U.S. Supply and Price, by Robert Pirog.
CRS-20
in 1997.66 This increase came after the production of over 133 tcf from the U.S.
reserve base during the period 1997 to 2003. Natural gas discoveries have more than
replaced production draws during this period.
As noted by the EIA in the AEO, the sources of U.S. gas production are moving
away from conventional, onshore to more costly unconventional and deep offshore
supplies, which may imply an upward trend in the price of natural gas, but also
suggests that availability is not likely to be sharply reduced relative to current levels.
Natural Gas Prices. The wellhead price data presented in Table 1 suggests
that prices have generally been rising since 1997, with a good deal of volatility.
Notable was the decline in prices in 2002, consistent with the downturn in U.S.
production that year, but seemingly at odds with the increased consumption that year.
Since 2003, the price trend has been upward and volatile, with wellhead prices
peaking above $10 per tcf in both October and December 2005, before moderating to
historically high average levels in 2006.67
The wellhead price of natural gas has risen by 225% over the period 1997 to
2005. Price increases of this magnitude might ordinarily be associated with a major
change in the underlying market fundamentals. If consumption demand had increased
markedly, or production had diminished, or even if the reserve base upon which
consumption and production are based had been reduced, sharply affecting
expectations for the future, then the change in price could be explained in terms of
normal market demand and supply adjustment.68 However, the data presented in
Figure 2 is seemingly more consistent with market stability than upheaval.
66 In recent years, the overall industry reserve-to-production ratio has been about nine years.
67 Monthly natural gas price data is affected by a wide variety of short run forces which
affect the market. Weather, a highly variable factor, can affect monthly prices by creating
unexpected changes in the average draw from, or injection into storage, as well as
consumption. Extreme weather conditions, such as hurricane Katrina, have also been shown
to be able to affect natural gas production adding more volatility to price.
68 The prices of crude oil and natural gas usually stand in a 6:1 ratio based on energy
content. That is, the price of a barrel of crude oil is six times the price of 1 mcf of gas.
During 2006, the ratio has been over 10:1, although this is likely due to the price of crude
oil rising to reflect geopolitical uncertainties and the tight demand/supply balance in the
world oil market.
CRS-21
Figure 2: U.S. Natural Gas Price, Consumption and Production
Indexes
Index: 1997=100
340
320
300
Price
Price
Consumption
Production
280
260
240
220
200
Production
180
160
Consumption
140
120
100
80
1997
1998
1999
2000
2001
2002
2003
2004
2005
2006
Years
Source: Energy Information Administration, available at [http://www.eia.doe.gov]. Index computed
by CRS.
Note: 2006 indexes estimated from data for January-June 2006.
Other explanations for the pattern of natural gas price movements since 1997
include the effects of financial trading of natural gas futures contracts. One approach
suggests that the increased interest in natural gas markets by financial traders in itself
has caused prices to rise. Another approach claims that speculators have used illegal
strategies to create artificial prices in the natural gas market.
In a recent study, Mark N. Cooper investigated the case for influence by financial
traders on natural gas prices.69 Cooper identifies what he sees as a pattern of increased
interest in natural gas trading by financial investors and movements in the wellhead
price of natural gas. For example, Cooper notes that while the price of natural gas was
relatively stable in the 1990s, it began to increase in the spring of 2000, a period
coincident with the expansion of natural gas trading on the Enron Online trading
platform.70 Cooper also notes that after Enron’s departure from the market in
December 2001, the wellhead price of natural gas declined in early 2002.71
69 Mark N. Cooper, The Role of Supply, Demand and Financial Commodity Markets in the
Natural Gas Price Spiral, prepared for the Midwest Attorneys General Natural Gas Working
Group, May 2006.
70 The growth of the Enron Online trading platform led to both an increase in financial
trading as well as being associated with the illegal activities that led to Enron’s bankruptcy.
71 Cooper, p. 8.
CRS-22
While Cooper’s study presents examples of possible correlation between
movements of natural gas prices and financial trading patterns, he does not carry out
statistical analysis that might demonstrate more conclusively causal links between the
two sets of data. Irrespective of the effect on price, the trading of natural gas futures
contracts does allow consumers and producers of natural gas to re-distribute the price
risk they face to speculators who are more willing to bear that risk.
Studies undertaken by the New York Mercantile Exchange (NYMEX) and the
Commodity Futures Trading Commission (CFTC) present conclusions different from
Cooper. Both studies are limited to the regulated, standard contract part of the futures
and derivative market. The over-the-counter segment of the futures and derivatives
market is exempt from regulatory oversight. The NYMEX study found that hedge
funds comprised only a modest share of trading in natural gas futures contracts and
their activities were not a likely source of excess volatility in the market.72 The CFTC
study found that hedge fund trading on energy futures and derivatives markets and
commodity prices were not linked, and that price volatility was not increased by their
trading activities.73 Unlike the Cooper study, the NYMEX and CFTC studies are
based on extensive statistical analysis of price and other market data.
Uncertainties
Comparison of the AEO projection of natural gas market conditions to the actual
performance of the market over the past nine years yields differing pictures of the
market itself, as well as conditions for an Alaskan natural gas pipeline.
This report has identified the future natural gas price, the quantity demanded, and
the output levels of existing gas production sources as key risk factors in evaluating
the economic feasibility of an Alaskan natural gas pipeline. These factors are
interrelated in the sense that they each help determine the other’s value. If an Alaskan
natural gas pipeline is constructed, and either new demand is not created, or existing
production sources do not decline, or are replaced with gas from other more
technically or economically viable sources, the 4.5 billion cubic feet of gas per day the
pipeline will be capable of delivering could depress the market price. In this scenario,
the economic viability of the pipeline would be in danger as well as that of other
relatively high cost sources of gas.
LNG imports also have the potential to change the economics of an Alaskan
natural gas pipeline. While the United States currently uses LNG for less than 4% of
its total consumption needs, plans exist to expand currently available offloading
facilities and to construct many new facilities. These facilities, are capital intensive,
although for comparable capacity they may cost a fraction of the cost of a pipeline.
If they are built, and gas begins to flow through them, they could be viewed as
competing for the same increase in demand that the AEO projects for the future.
72 New York Mercantile Exchange, A Review of Recent Hedge Fund Participation in
NYMEX Natural Gas and Crude Oil Futures Markets, March 1, 2005, p.3.
73 U.S. Commodity Futures Trading Commission, Price Dynamics, Price Discovery and
Large Futures Trader Interactions in the Energy Complex, April 28, 2005, p.24.
CRS-23
Over-capacity might be a concern to the natural gas market. Residential demand
growth depends on the extent of new home construction, which is just coming out of
a major growth phase and slowing down. Commercial demand is relatively flat, while
industrial demand is declining. To the extent that permanent demand destruction has
occurred in the industrial sector, it may be unrealistic to assume any growth over the
near term. Electricity generation by natural-gas-fired generators, however, is projected
to continue to experience growth and provide support for the growth in natural gas
demand.74
Short Term Market Conditions
Current, and near-term, natural gas market indicators are of limited use when
planning long term capital projects in the industry. The market-fundamental-based
value of natural gas in the short term is determined by the interaction of consumption,
production, and stored quantities. Since production is relatively constant during any
year, and consumption tends to be seasonal, stored quantities of natural gas balance
the market. The primary short term direct determinant of consumption, and indirect
determinant of stored quantities, is the weather. Exceptionally cold weather during
the winter heating season can cause demand to surge. Exceptionally warm weather
during the summer season can cause electricity demand, much of which on the margin
is natural gas generated, to surge. Storage injections typically occur during the spring
and summer. Storage draws typically occur during the winter heating season. If a
cold winter (large withdrawals from storage) is followed by a very warm summer
(below expected injections into storage), it is likely that the price of natural gas will
experience upward volatility. However, this upward price movement may not be
permanent, or even indicative of long term trends. A cold winter might be followed
by more temperate conditions, reversing the natural gas price pressure.
Long-term economic decisions, such as the construction of an Alaska natural gas
pipeline, are usually based on expected outcomes over a time period commensurate
with the economic life of the project. Favorable, or unfavorable, short run conditions
on the commodity market are often discounted.
The Impact of Steel Prices and Availability75
The Reversal in Steel Prices
The Alaska natural gas pipeline project was supported by the North American
steel industry in a period of low prices and company bankruptcies, because it could
provide a boost to employment and revenues. For example, the American Iron and
Steel Institute (AISI) estimated that the project could generate “up to 10,000 work
74 Many factors are likely to contribute to the potential growth in electricity demand. For
example, high prices for natural gas could make coal fired powerplants competitive.
Climate change legislation, if enacted, could influence the growth of electricity demand and
the mix of fuels used in electricity generation.
75 This section was written by Stephen Cooney.
CRS-24
years of direct employment from North American steel supply.76 In addition almost
4,000 additional work years would be used to manufacture pipe from steel.” This
estimate was based on the use of three to five million tons of steel. By comparison,
AISI noted that in 1999-2000, “three North American steel pipe producers supplied
over 1,000,000 tons of steel for the 2,000 mile Alliance Pipeline running from
Northern British Columbia to Chicago,” which AISI stated was “the most
technologically advanced and largest pipeline construction project ever in North
America.”77
Figure 3. Prices for Large-Diameter Steel Pipe and Plate
Sources: Preston Pipe & Tube Report; Global Insight, steel plate data reported from Purchasing
magazine.
Note: Pipe prices represent average transaction price (by weighted average value) for
double-submerged arc-welded pipe > 24" diameter , combining both domestic and import shipments.
Plate prices are for coiled plate.
The situation now, just a few years later, is almost totally reversed. The North
American steel industry has restructured, and recovered profitability because of
strong domestic and worldwide demand.78 Now, higher prices resulting from both
strong demand and increased production costs for carbon steel plate, used in making
large-diameter steel pipe, may alter the basic economics of an Alaska natural gas
pipeline project.
76 The phrase “North American steel” is used throughout this report and most AISI
documents, instead of “U.S.” steel. U.S. and Canadian steelmakers compete within the same
free trade area, and the same industry union, the United Steelworkers, operates on both sides
of the border. Moreover, if the pipeline were to run through Canada, participation by
Canadian steelmakers in any competitive bidding process would presumably be required.
77 Quotations from Andrew G. Sharkey, III, AISI. Letter to Sen. Frank Murkowski (April 17,
2002), with attached statement. Estimates of total amounts of steel from CRS interviews
with Chip Foley, AISI, April 22 and 24, 2003. The total production of steel in the United
States has recently been about 100-110 million tons per year, with imports adding roughly
30-40 million tons annually to U.S. supply; AISI, Annual Statistical Report (2005), figs. in
frontispiece, “U.S. Steel Shipments” and p. 46, “Imports of Steel Mill Products.”
78 See CRS Report RL32333, Steel: Price and Policy Issues, by Stephen Cooney, for details.
CRS-25
As illustrated in Figure 3, data reported by the consulting firm Global Insight
(formerly known as DRI-WEFA) indicate that the price of carbon plate has more than
doubled during the past five years.79 As of late 2001, DRI-WEFA reported that spot
prices for plate were between $250 and $300 per ton. This was consonant with an
overall depression in steel prices. DRI-WEFA at the time stated that the “...
composite of eight carbon spot prices sets a new low almost every month, and in the
past seven years has fallen 44%.”80 Carbon steel plate was one of many steel mill
products protected from imports by special tariffs, known as safeguard remedies,
between March 2002 and December 2003, when they were terminated by President
Bush. During 2003, steel prices began to strengthen, and carbon plate averaged $303
per ton for the year. After the the safeguards ended, steel prices escalated instead of
falling, as one might expect, because of a global recovery in demand. The carbon
plate price average doubled to $633 per ton in 2004. For 2005, the average price was
even higher at $744, and it was still at a similar level in mid-2006. Global Insight
forecasts carbon plate prices to decline over the next two years, but only gradually,
and to a level still more than double the price early in the decade.81 While the price
of flat-rolled steel is expected to fall because of reduced light vehicle output by the
major U.S. domestic producers, Global Insight analyst John Anton has also stated
that, “Not all products will decline, as markets for structurals and plate are still tight
...”82
Figure 3 illustrates the parallel increase in large-diameter pipe prices consonant
with the underlying increase in price of steel plate. As of late 2001 and early 2002,
the price of large-diameter pipe was generally around $600 per ton. As shown in
Figure 3, the price of coiled plate was less than half that level. By late 2005, the
average reported price of large-diameter pipe was more than $1,000 per ton, with
plate, now more than $750 per ton, accounting for the increase. By mid-2006, the
price of pipe was approaching $1,200 per ton, with the cost of coiled plate close to
$800.
The increased cost of steel could account for a substantial share of the recent
increase in cost estimates for the Alaska natural gas pipeline. Actual prices for large
quantities of steel pipe for major projects are negotiated by the steel supplier and
seller, and are not made publicly available. But average monthly transaction prices
are reported in Preston Pipe & Tube Report, the only data source for large-diameter
steel pipe prices. In a previous section of the report, it was noted that a producers’
79 Figure 3 uses a price series for coiled plate. This is the steel used for the highest grade
steel pipe of the largest diameter, which is now spiral-welded. Much large diameter pipe is
also made from “cut-to-length” plate. The prices of the two types of plate are close and
generally move in tandem.
80 Based on data from Purchasing magazine. DRI-WEFA. Steel Industry Review (4th Qtr.
2001), p. 18 and table 16.
81 Global Insight. Steel Industry Review (2nd Qtr. 2006), tabs. 1.11-1.12. Even higher prices
of $840-880 per ton were quoted on the West Coast, from which plate could be provided for
mills to manufacture large-diameter pipe to be used in Alaska; American Metal Market
(AMM), “West Sees More Steel Plate But Prices Holding Ground” (Aug. 31, 2006).
82 Global Insight. Steel Monthly Report (Sept. 2006), p. 2.
CRS-26
study in 2002-2003 estimated a total pipeline cost of $18 billion to $19.6 billion for
the Alaska Highway route, and that more recent estimates were at least $25 billion.
An informed 2006 estimate for the tonnage of pipe needed is at least four million
tons (which is also the midpoint of the estimate quoted earlier by AISI).83 The data
in Figure 3 show an increase in the average price of steel from about $300 to about
$750 per ton, and for large-diameter pipe from around $600 to about $1,100 per ton.
But pipe for use in Arctic conditions would probably require the highest grade of
steel available (see below), so the increase in price since the earlier project estimates
were produced may be on the order of at least $500-600 per ton. That would imply
an increased cost of steel pipe for the project of about $2.0-2.5 billion, which alone
could account for half or more of the increase in overall project cost estimates.
North American Large Pipe Production Capacity
Section 111 of the 2004 Alaska Natural Gas Pipeline Act expresses the sense
of Congress that, as “an Alaska natural gas transportation project would provide
specific significant economic benefits to the United States and Canada ...” its
sponsors “should make every effort to ... use steel that is manufactured in North
America ...”84 The relative capabilities of U.S. and Canadian industries to supply
steel for the project would depend on a number of variables, including the time frame
for completing the project, the final route chosen, and the pipeline specifications.
The North Slope natural gas producers have indicated that they would require a pipe
of maximum capacity, to ensure the ability to transport a high enough volume of gas
to earn an adequate return on a privately financed system. When the 800-mile Trans
Alaska oil pipeline was built in the 1970s, it used 500,000 tons of special cold-
weather steel 48-inch diameter pipe imported from Japan.85 There are a number of
questions today about the capacities of the North American industry to supply the
steel that might be required to construct an Alaska natural gas pipeline.
The increase in oil and gas prices in 2005-06 has encouraged North American
drilling activity and increased demand for all steel products used in the oil and gas
industry, including large-diameter pipe for long-distance gas transmission. But there
are currently only a few large-diameter pipe producers active in North America:86
! Ipsco, Inc., originally a Canadian company, which now has more of
its assets in U.S. mills and its operational headquarters in Illinois, is
the largest producer of large-diameter pipe. It operates a pipe mill
in Regina, Saskatchewan, with an annual capacity of 350,000 tons,
83 Ipsco Inc. Northern Pipelines (presentation to U.S. federal agencies, Apr. 2006), p. 22.
84 15 U.S.C. § 720i.
85 U.S. Dept. of the Interior, with Argonne National Laboratory. “TAPS History,” in TAPS
Renewal Environmental Impact Statement, [http://tapseis.anl.gov].
86 Data for the following list based on Ipsco, Northern Pipelines, table on p. 25; Oregon
Steel Mills corporate website; and, AMM, “A Big Backlog and Even Bigger Potential in
Large-Diameter Pipe” (Sept. 11, 2006 print ed.), pp. 6-7. On the Ipsco-NS deal, see Wall
St. Journal, “Ipsco to Buy NS for $1.46 Billion in Steel-Tube Push” (Sept. 11, 2006), p. A2;
AMM, “Ipsco’s $1.5B Buy of NS Shores Up OCTG Stance” (Sept. 12, 2006).
CRS-27
and a capability to make pipe up to 80 inches wide. Plate is supplied
from a mill there, and from mills in Iowa and Alabama. The
company is also building a new R&D facility in Regina devoted to
pipe technology. Ipsco recently announced a deal to acquire NS
Group, a Kentucky-based pipe and tube manufacturer, but it
specializes in smaller diameter oil country tubular goods (OCTG)
products, not large-diameter pipe.
! Oregon Steel Mills, a U.S.-based steel minimill company, currently
operates a large-diameter pipe mill in Camrose, Alberta. Originally
this was a joint venture with the Canadian steelmaker, Stelco.
Oregon Steel acquired full control of the facility, which has an
annual capacity of 180,000 tons of pipe ranging from 20 to 42 inches
in diameter. Oregon Steel is also opening in late 2006 a new large-
diameter pipe mill complex in Portland, Oregon. It will have an
annual capacity of 175,000-200,000 tons of 24 to 60 inch diameter
pipe.
! Berg Steel Pipe, a subsidiary of Europipe, jointly owned by German
and French steel interests, manufactures pipe in Panama City,
Florida. Berg buys domestic or imported plate for manufacturing
pipe with a diameter from 24 to 72 inches. It recently announced
plans to expand with a second mill along the Gulf Coast, but this
would be for pipe of lesser diameter.
Ipsco and Oregon both operate minimills. Nucor, the largest operator of
minimills in North America, makes plate at two mills in North Carolina and
Alabama, and can supply plate to customers for pipemaking operations.87 Among the
large integrated companies, both U.S. Steel and Bethlehem Steel have closed some
steel pipemaking operations in recent years, though U.S. Steel makes smaller
diameter pipe and tubing for OCTG applications.88 U.S. Steel has not in recent years
been a major market force in plate. In 2003, it agreed to trade its plate operation at
Gary, Indiana, to Bethlehem’s successor, Mittal Steel, for a different type of
operation in the same vicinity.89 According to its corporate website, Mittal produces
plate at its large integrated mill in Burns Harbor, Indiana, as well as rolling some
grades of plate at two plants in Pennsylvania.90 Both minimills and integrated steel
87 See “Nucor Steel — Hertford” and “Nucor Steel Tuscaloosa, Inc.” on Nucor Corp.
website. AISI confirmed that Nucor does supply plate for OCTG pipe applications.
88 The Bethlehem pipemaking operation in Steelton, PA, was acquired by Dura-Bond
Industries, a pipe coatings specialist, and is now operated by them. It manufactures line pipe
of up to 42” in diameter. The Dura-Bond website did not report any long-distance oil or gas
pipeline projects completed, nor was this facility included in the report compiled by Ipsco.
89 CRS Report RL31748, The American Steel Industry: A Changing Profile, by Stephen
Cooney.
90 See “Plate” listing under “Flat Products” at Mittal Steel USA website.
CRS-28
mills since 2003 have faced much higher input costs, which have driven the price of
plate higher along with increased industrial demand.91
These data portend a limited North American capacity in the face of a dramatic
recent increase in demand for steel in pipelines. James Declusin, CEO of Oregon
Steel, stated that when his company decided to proceed with the new large-diameter
pipe mill, it projected total ongoing demand for about 2.5 million tons per year —
and, “Since then there have been even more projects on the drawing board.” His
large-diameter pipe facilities are “booked through mid-2008,” and there are reports
of demand remaining at a high level through 2009-10.92 John Tulloch, a senior
executive at Ipsco, noted that large-diameter pipe historically accounts for 10-20%
of U.S. steel plate usage. Though “we had been at 10% or lower for a while there,
now we are at the higher end of that range, much closer to 20%.”93
Globally, the Ipsco report also counts about three million tons of annual capacity
in large-diameter steel pipe outside North America. This is divided roughly equally
between the Europipe consortium in Germany (Berg’s parent company) at 1.6 million
tons, and three major Japanese steelmakers (Nippon Steel, Sumitomo and JFE) at
about a half-million tons each.94
Steel industry sources emphasize that the capability of the industry to supply
pipe for the Alaska natural gas project will also depend on the timing and
specifications for the pipe. The maximum diameter being considered is 52 inches,
capable of delivering 6.0 billion cubic feet of gas per day (bcf/d), as indicated in data
provided by AISI. But 52-inch pipe has only been produced in very limited amounts
in North America (or anywhere else). Moreover, the Alaska natural gas producers
in the pipeline consortium have indicated that they want to specify a measure of
strength, X100 or X120 grade pipe, that is beyond the X80 grade — currently the
highest available.
In its report, Ipsco flatly stated that, “No North American producer can currently
supply the pipe proposed for the Alaska pipeline ... no pipeline operating uses these
specifications ... if the line is as specified today (48”-52” [diameter] x 0.80”
[thickness] x X100), we are not able to supply the pipe without major capital
expenditures and lead time.” The company added that it was “proceeding with X100
trials,” but that the specifications would require “designing out of market capability.”
Moreover, “due to extremely large volume [it is] very unlikely [that] it will be
supplied by one supplier ... [and the] proposed gauge and grade requirements will
necessitate capital investment by any potential supplier throughout the world.”95
91 CRS Report RL32333, Steel: Price and Policy Issues, by Stephen Cooney.
92 AMM, “Big Backlog,” p. 6. AMM also reports European pipe mills, including Berg’s
parent companies, booked up through 2007 or 2008; “Salzgitter Plant Sold Out of Pipe until
2008” (Oct. 5, 2006), p. 6.
93 AMM, “Rigged for Profits,” p. 5.
94 Ipsco, Northern Pipelines, pp. 24-25.
95 Ipsco, Northern Pipelines, pp. 14-15, 22-23. In an interview with CRS, an Ipsco
(continued...)
CRS-29
Use of this size and grade of pipe would create logistical complexities in
pipeline construction and operation, requiring, for example, 48 compressor stations
along the Alaska route. Using a 48-inch pipe might reduce operational and
construction difficulties somewhat, and it could be made from X80-rated steel, but
would reduce capacity to 4.0 bcf/d. Downsizing to a 42-inch pipe would
substantially reduce pipe manufacturers’ retooling costs, but would also reduce
capacity to 2.0 bcf/d.96 By comparison, construction and operational difficulties
would be much less along the Mackenzie River route. Only 10 compressor stations
would be required along the river valley route, and a total of only 465,000 tons of 30-
inch mainline pipe, which, for example, Ipsco states it could now provide
commercially. Ipsco was also the largest supplier of pipe for the Alliance pipeline
cited by AISI, and delivered 716 miles of 36-inch, X70 pipe.97
U.S. steel industry sources expect that North American steel companies can and
would make the investment, and provide the expertise necessary, to supply steel for
an Alaska natural gas pipeline. President Andrew Sharkey of AISI stated in the letter
cited earlier to then-Senator Frank Murkowski that “North American steel and pipe
industries stand ready to work with all other interested parties to arrive at the best
pipeline design necessary to accomplish the objective.” He further advocated that
North American steel suppliers be fully included in the design of pipeline and be
given an opportunity to compete for steel procurement.98
The ExxonMobil High-Strength Pipeline Steel Project
An alternative type of pipe to that supplied from currently available sources has
been advanced by one of the three producers of Alaska oil and gas, the ExxonMobil
Corporation. It hopes to achieve substantial cost reductions by using innovative
technology in building the pipeline.
In seeking to achieve such a technology breakthrough, ExxonMobil
representatives on April 22, 2003, signed a letter of intent with two Japanese
companies, Nippon Steel Corporation (NSC) and Mitsui & Co. Ltd., “to
commercialize a jointly developed new steel, which is 20-50% stronger than
alternative pipeline steels in use today. The agreement includes possible upgrades
to an NSC pipe mill.” The announcement also noted that the formulation for the
steel had first been developed in ExxonMobil Upstream Research laboratories, and
that further work to make commercial production viable has already occurred jointly
95 (...continued)
representative pointed out that the 4 million ton figure was based on the full projected
pipeline length to the U.S. Midwest, and that the highest Arctic grade of steel would not be
required for the more southern sections of the pipeline.
96 Estimates and data from 2002 analyses supplied by member companies to AISI task force
established on the Alaska Natural Gas Pipeline (provided to CRS on April 22, 2003).
97 Ipsco, Northern Pipelines, pp. 12, 21.
98 AISI letter and statement to Sen. Murkowski, April 17, 2002.
CRS-30
with Nippon Steel.99 The technical announcement indicated that the new steel would
be rated X100 and X120, grades that hitherto have not been manufactured
anywhere.100 Press commentary on the ExxonMobil announcement stated that pipe
made from the new grade of steel would be lighter in weight, and therefore easier to
handle — meaning significant potential reductions in construction costs. In addition
to production and long-distance pipeline interests in Alaska and the Mackenzie Delta,
ExxonMobil also has interests in a Sakhalin-to-Japan gas pipeline project and the
west-east pipeline project being considered to bring gas from Central Asia to
China.101
CRS contacted ExxonMobil in August 2006 regarding further progress on the
high-strength steel project. In response, a company representative replied, “Technical
and developmental aspects of the X120 high-strength steel pipeline continue to be
studied by ExxonMobil, and there is no new information that we can convey at this
time regarding its applicability to specific projects or the timing of its commercial
availability.”102
The ExxonMobil proposal for a technologically innovative grade of steel for
pipeline construction would not rely on U.S. (or Canadian) steel industry technology.
The new grade of steel could be produced under license, although tooling and set-up
costs would be substantial for multiple manufacturers working in different locations.
But the required order for an Alaska natural gas pipeline may be so large as to require
sharing of the work by multiple mills anyway.
Conclusion103
The Alaska natural gas pipeline would be a major capital investment. If, or
when, it is built, the investment decision will depend on a complex set of factors that
will determine its potential profitability. Those factors, on the expected revenue and
cost sides, are linked to conditions in two markets: natural gas and steel. If a pipeline
is to be constructed, estimates provided in this report suggest that its throughput of
natural gas might equal about one third of potential U.S. future demand growth for
natural gas. LNG terminals will be the primary competition for the pipeline in filling
99 ExxonMobil. “ExxonMobil Signs Letter of Intent with Nippon Steel and Mitsui & Co.
Ltd. to Commercialize Advanced High Strength Steel,” press release, April 22, 2003.
100 Technical details are presented in Proceedings of the Thirteenth (2003) International
Offshore and Polar Engineering Conference, vol. IV (2003), “Steel Development,” at
[http://www.isope.org].
101 Oil Daily, “Exxon Steel Deal Boosts ANS Gas Prospects,” April 23, 2003. But there has
also been speculation about the future of ExxonMobil’s Sakhalin project, in view of actions
taken in 2006 by the Russian government against foreign-owned operators of energy
projects in the Far East region; Andrew Neff, “Death by a Thousand Cuts – Rising Resource
Nationalism in Russia,” presented at Global Insight World Economic Conference (Oct. 26,
2006).
102 Email from Robert H. Davis, media adviser, ExxonMobil Corp., Aug. 18, 2006.
103 Written by Robert Pirog and Stephen Cooney.
CRS-31
this potential demand. Should the expected demand growth fall short of projections,
natural gas prices will likely decline affecting the potential profitability of both the
pipeline and the LNG terminals.
On the cost side, the pipeline could generate a major steel order for the North
American industry. However, the size of the pipe, as well as other required
specifications, suggest that it will be expensive. Steel prices have been rising over
the past several years, resulting in substantial increases in the estimated materials cost
of the pipeline. Additionally, innovative production capacity to produce the required
pipe might have to be constructed first particularly since no one anywhere has yet
produced pipe with the dimensions and grade specified to date, further affecting the
economics of the project.
The joint venture between ExxonMobil and the two Japanese steel companies
appears to present an option that could spur a debate with respect to whose
technology, and whose steel, would be used in this major investment project.