NATURAL GAS POLICY ACT
I S S U E B R I E F NUMBER I B 8 1 0 2 0
E n v i r o n m e n t and N a t u r a l R e s o u r c e s P o l i c y D i v i s i o n
T H E L I B R A R Y OF C O N G R E S S
CONGRESSIONAL RESEARCH SERVICE
MAJOR I S S U E S S Y S T E M
D A T E O R I G I N A T E D 02/19/81
D A T E U P D A T E D 01/20/83
F O R A D D I T I O N A L I N F O R M A T I O N C A L L 287-5700
The Natural Gas Policy Act of 1978 (NGPA) culminated decades of dispute
over natural gas policy and was the "centerpiecew of President Carter's
National Energy Act.
Now there are many issues of both
legislative concern under discussion.
These items were unanticipated by the
framers of this difficult and delicate compromise.
Generally speaking, they
all stem from the fact that oil prices more than doubled in 1979 and 1980.
The N G P A 1 s framers set wellhead gas prices within the new law's framework in
such a way that they would converge on oil equivalent prices -- a s they were
As events unfolded, the
then perceived -- in real dollar terms by
statutory pricing schedules that the new law contained became out of context
with oil prices just a year after NGPA was passed.
Additionally, there are a
significant number of other unanticipated matters related to the nature of
the regulated gas pipeline industry and its interaction with NGPA
By 1982, dissatisfaction with NGPA was becoming more vocal.
gas pipelines were complaining about high wellhead prices in some cases, a s
well a s a variety of provisions in Contracts with producers which they found
disadvantageous. Consumer complaints were being heard because of large
increases in residential gas bills.
And producers voiced concerns about the
low (relative to oil) prices of some classes of old gas, a s well a s the price
caps on " n e w w gas.
At issue are a large number of regulatory agency issues and legislative
changes, which could have the effect of raising prices paid by consumers.
the other hand, there could well be a trade-off among some o r all of these
items, involving enhanced domestic gas supply, with attendant benefits
measured in terms of economics and national security.
BACKGROUND AND POLICY ANALYSIS
The Natural Gas Policy Act of 1978 (NGPA) was enacted a s o n e of five major
energy bills which made up the National Energy Act, but it was unquestionably
the most controversial and most difficult to enact.
That was because the
NGPA attempted to end a debate that had gone on for 25 years:
Federal Government regulate the prices a t which natural gas producers
gas to interstate natural gas pipelines?
The Natural Gas Act of 1938 (15 U.S.C.
(NGA) ordered the Federal
Power Commission (FPC) to regulate the sale of natural gas in interstate
commerce for resale. Until 1954, the Federal Power Commission, now called
the Federal Energy Regulatory Commission
interstate natural gas pipeline companies that purchased and carried gas from
the producing companies, most of which were primarily oil companies, for sale
to the distributing gas utilities that were subject to regulations by State
utility commissions. In that year, however, the Supreme Court decided, in
Phillips Petroleum Corp. v. Wisconsin (347 U.S. 672), that sales by natural
gas producers to pipelines were "sales for resalew within the meaning of the
Natural Gas Act, and that producers' sales should be regulated by the FPC.
The FPC attempted to carry out this mandate first on a company-by-company
basis in traditional utility fashion, and then by setting ceiling prices for
sales in designated producing regions based on average costs of production.
But a severe shortage of natural gas for customers outside the producing
States was caused in the early 1970s by the unwillingness of producers to
commit new finds to regulated pipelines when intrastate buyers could pay
higher unregulated prices.
The FPC attempted to set much higher incentive
prices o n a nationwide basis during the 1970s, but growth of intrastate
markets and fall-off i n new gas discoveries perpetuated the shortage.
FPC was fought in court both by consumer interests opposed t o the escalating
prices that resulted and by the producers, who thought the prices were too
Meanwhile, the natural gas industry began to consider possible
alternate sources of natural gas supply, such a s LNG (liquefied natural gas)
from overseas, methane from coal gasification, imports of natural gas by
pipeline from Canada and Mexico, synthetic natural gas manufactured
liquid petroleum products, generation of methane from animal wastes and
biomass, and other new or exotic sources of natural gas.
The common feature
of this myriad of new sources was that they presented than higher costs than
did conventional natural gas -- even than unregulated gas in the intrastate
market, and most of them suffered from technological, supply security, and
Because they lacked adequate supplies of natural. gas to serve all the
customers on their lines, the interstate natural gas pipelines were forced to
design and implement, under guidance from the FPC, "curtailment plansH which
designated priorities among those users who would lose service when there was
too little gas in the pipe.
In general, electric utilities and industrial
users using natural gas as fuel were deemed the lowest priority, and
commercial, public and residential users were deemed the highest.
in 1971, curtailments of natural gas worsened every year.
deliverability problems caused notable curtailments during the very cold
Proposals to modify or end producer regulation for natural gas sales had
been made in every Congress since such regulation was imposed by the 1 9 5 4
Supreme Court decision, but the healthy growth of the natural gas industry
kept the issue from the front burners.
With the start of the natural gas
shortage, however, this changed.
In the 9 2 d , 9 3 d , and 94th Congresses, major
debates took place, but no basic statutory reform was enacted.
were passionate a s producer interests and consumer interests championed their
concepts of fairness and economic necessity, and conflicting legislation was
adopted in the Senate and House without success in compromising the
Natural Gas Policy Actions of the 95th Congress
The 95th Congress' first substantive enactment was emergency natural gas
legislation to deal with the massive curtailments that then afflicted the
Nation, caused a s much by pipelines' inability to deliver gas quickly enough
to deal with record-setting cold weather a s by the unavailability of natural
gas supply. The larger issues of producer regulation policy were avoided in
the interest of haste and because the newly inaugurated Carter Administration
had promised a major legislative proposal on the topic a s part of the
National Energy Plan submitted in April 1977.
emphasized that natural gas was a declining resource to be husbanded.
essence of his proposal was that "new natural gas" in both interstate and
intrastate markets be subject to a ceiling price of the 3tu equivalent of
domestic crude o i l delivered t o refineries, t h e n about $1.75
A geological definition w a s a t t e m p t e d , to distinguish new
cubic feet (Mcf).
natural gas from that natural gas which had already been discovered o r was in
T h e producing industry uniformly condemned t h e proposal a s an
extsnsion of regulation a t confiscatory p r i c e s , lower than prices then
a v a i l a b l e in intrastate markets.
Consumers likewise attacked i t , o n the
basis that the ceiling price w a s higher t h a n could b e justified by t h e costs
incurred by producers; but they were happier with i t t h a n the producers were.
Paradoxically, had i t been enacted, a l l o t h e r things being e q u a l , new natural
g a s prices would n o w be deregulated and much higher than they are.
President's proposal also included provisions granting higher prices t o gas
from high-cost s o u r c e s , a n d allocating the c o s t of the n e w natural g a s a n d
high-cost g a s to industrial users.
Elsewhere i n the National Energy P l a n , in
the portion that became the Powerplant a n d Industrial F u e l U s e Act o f 1 9 7 8 ,
the President proposed that natural gas u s e be taxed a n d regulated
o u t of
applications, a n d that a ban be instituted o n n e w applications.
T h e House of Representatives, through t h e formation o f a n Ad Hoc Energy
Committee, moved rapidly a n d enacted the President's
plan almost intact.
T h e r e were minor modifications expanding
t h e new g a s definition
i n the
natural gas portion of the p l a n , and outright n e w gas deregulation w a s voted
o n and defeated.
T h e S e n a t e , however, divided
the plan for r e f e r r a l to
A deadlocked S e n a t e Energy Committee, s p l i t 9-9 o n both
the P r e s i d e n t ' s
plan a n d then on new gas deregulation, reported the President's bill without
When a n early tabling v o t e indicated that
deregulation would pass i n s t e a d , its o p p o n e n t s mounted
a filibuster, and
President Carter threatened to veto any deregulation measure.
was i n v o k e d , so opponents began a novel f i l i b u s t e r by demanding roll-call
votes o n hundreds of amendments.
c o m p r o m i s e efforts were t r i e d a n d
f a i l e d , a n d the filibuster w a s finally broken when Vice President Mondale a n d
majority leader Byrd succeeded i n adopting a rule c h a n g e making dilatory
amendments out o f order.
President Carter apparently did not want t h e rest
of his energy proposals held hostage to his g a s proposal.
T h e Senate swiftly
enacted a Pearson-Bentsen substitute bill deregulating n e w g a s after 2 years
of price ceilings equivalent t o distillate f u e l oil prices.
New g a s was
defined more broadly than in t h e House bill.
A conference t o resolve the differences between the two a p p r o a c h e s w a s
begun, with numerous compromise proposals surfacing among moderate g r o u p s of
conferees and then sinking a f t e r taking f i r e from both extremes.
Most o f the
shots from the consumer s i d e dealt with
the cost of d e r e g u l a t i o n , the
billions o f d o l l a r s of additional producer revenues compared to modest
increases in new natural g a s reserves that were predicted.
Most o f t h e shots
from t h e gas industry s i d e Concerned the need to produce additional natural
g a s t o displace f o r e i g n o i l , a n d the burdens of Federal regulation.
President Carter gradually c a m e to a g r e e t o support eventual deregulation
a f t e r a n initial period o f regulation i n both interstate and i n t r a s t a t e
A d e a l w a s narrowly s t r u c k , f i r s t among
markets a t rising ceiling prices.
the evenly divided Senate conferees and t h e entire Energy Committee, a n d then
with the House conferees.
After a n a r d u o u s drafting p r o c e s s by
s t a f f , s o m e last-minute shifts of position by s o m e who had opposed a n d some
w h o had supported the compromise, and a S u p r e m e Court d e c i s i o n in a natural
gas c a s e which a d d e d to the COntrOVersy surrounding i t , the conference r e p o r t
New issues and circumstances had arisen during the lengthy conference
process which affected the general support of ~ h ecompromise: concerns about
the enforceability of the extraordinarily complex bill; concern about the
image growing abroad that the United States was unable to resolve its energy
policy difficulties; and a growing surplus of natural gas reserves in
producing regions, which had been prompted by the high intrastate prices and
which was softening those prices and leading some producer
support the compromise in order to have access to the supposed pent-up demand
in the interstate market.
But the interstate market itself had quietly
changed: Many industrial customers who had suffered due to curtailments had
discovered that they could do without large amounts of the natural gas they
had been buying through conservation practices, and a large number had
switched to fuel oil, which had been relatively stable in price
Arab oil embargo of 1973 and was predicted to be developing a glut on the
They were not eager to break their oil contracts and return to
natural gas when they were still a t the bottom of the curtailment priorities,
when they were told that their use would be phased out, when
pricing would keep gas prices near oil price levels, and when long-term
service of natural gas depended on better resources than many
The compromise was truly that -- a creation of the moderate .elements of
both sides -- and a rough coalition of the extremes on both sides formed to
Some producers favored i t , others opposed it, and potent lobbies
for deregulation found themselves unable to take a firm position one way or
another. Most gas pipelines and distributors accepted it with reservations
about the incremental pricing provisions, realizing that these would make
regaining their lost industrial customers much more difficult.
agony of the process of compromise, the earlier filibusters, the public
expectation that Congress would enact significant energy legislation, and the
constant badgering from both sides, had led many Members to lean towards
passage, if only to get the divisive issue behind them and turn to other
The proponents of
things, including the 1978 election, then 6 weeks away.
the compromise were quick to capitalize on this mood by threatening to refuse
to consider any other proposals should the compromise be defeated.
President fervently campaigned for the bill, citing its forecasted benefits
in strengthening the dollar and the economy, and permitting interstate access
to a huge "gas bubblew of surplus intrastate gas.
The Senate acted first,
refusing recommittal of the compromise by a wide margin and then passing the
bill, 57-42 o n Sept. 27, 1978.
The House vote was likely to be much closer, so the leadership wanted
combine the gas bill with the other four parts -- all also substantially
changed from the original proposals -- that made up the National Energy Act,
and permit o n e vote on the package.
The key vote concerned the rule to
combine the various bills for a single vote.
It passed by a single vote, 208
to 207. Without their combination into a package, it is highly likely that
some of those who favored the rule would have opposed the gas bill a s an
independent enactment. President Carter signed the Natural Gas Policy Act
into law on Nov. 9 , 1978, and it became P.L. 95-621. Natural gas had been
the subject of the first and last enactments of the 95th Congress.
The Provisions of the Natural Gas Policy Act of 1978
A s F a s s e d , the NGPA was an extremely c ~ m p l e x law, one w n i c h completely
changed the FERC's previous regulatory system for priclng nacural gas at che
Title I of the NGPA included the wellhead
categories of natural gas production were defined in Subtitle A ,
was some dispute about how many categories had actually been created.
prices were set in the statute, and increased according to differing formulas
reflecting escalator and inflation factors.
Subtitle B provides that
regulation for some, but not all, categories would end on Jan. 1 , 1985,
subject to being reimposed a t the discretion of Congress after a period
six months for a period of a s long a s eighteen months.
The major categories
of natural gas created, by the numbers of the sections of the NGPA which
created them, were:
- - Section 1 0 2 , new natural gas. Intended to include genuine new
discoveries of gas resources, which started its price path a t about $2.08 per
Mcf and rose a t the rate of inflation plus about 4% per year, until all gas
committed under this category is deregulated in 1985.
-- Section 103, new onshore production wells. Intended to include
extension wells expanding known natural gas deposits, which started its price
path a t about $2.00 per Mcf, rose by inflation alone, and will be deregulated
in 1985 -- except for that part sold interstate and from wells deeper than
- - Section 1 0 4 , flowing interstate gas.
Covers gas which was already
being sold to interstate pipelines prior to consideration of the NGPA, and
priced according to the previous standards ($1.45 was the highest ceiling)
plus inflation, and not deregulated.
The section also contains language
permitting F E R C to set other rates that are "just and reasonable," as do
section 106 and section 109.
-- Section 1 0 5 , other natural gas under contract.
intrastate gas, limited to the lower levels of the contract price or the
section 1 0 2 price to prevent full operation of contractual escalator clauses,
- - Section
higher of the
higher of the
1 0 6 , rollover gas or gas resold to the same purchaser upon
the earlier contract. Limited rollover and resold gas to the
earlier price of $.54 per Mcf for interstate g a s , and to the
contract price or $1.00 per Mcf for intrastate gas.
-- Section 1 0 7 , high cost gas. Identified certain potential sources of
natural gas believed to cost significantly more to develop than others:
from Devonian shales, geopressured acquifers, coal seams, and wells deeper
than 15,000 feet. These four categories of gas, deregulated
1979, and other categories identified by the FERC, could receive special
This has particularly been applied to "tight sands" gas,
gas from relatively nonporous reservoirs.
Section 1 0 8 , stripper well gas.
Invented a distinction to benefit
owners of small natural gas wells, starting their prices a t about $2.22
escalted by about 4% inflation, but not deregulating them.
Section 1 0 9 , all other categories, and specifically Alaskan -gas from
the Prudhoe Bay Unit.
Priced in accordance with the section 1 0 4 provisions,
and not deregulated.
Title 1 1 of the NGPA established the incremental pricing provisions,
requiring the FERC to apply incremental pricing to industrial boiler
facilities served directly or indirectly by interstate pipelines within one
year, and to expand that rule to apply to other industrial applications by
six months later. The F E R C was given much leeway in implementing incremental
pricing in order to achieve the statutory objective:
the maximum allocation
of the higher cost of new and high-cost natural gas sold in interstate
commerce to industrial customers without causing industrial customers to
switch from natural gas to other fuels.
Title I11 of the NGPA created permanent authorities similar t o the
temporary emergency authorities of the Emergency Natural Gas Act passed in
January 1977, allowing the President to declare a gas supply emergency,
allocate gas among pipelines, and from others who volunteer, to areas of
shortage. Title IV granted agricultural users of natural gas a higher
priority during curtailments than any but residential, small commercial, and
t o be
other critical users.
Title V presented the administrative mechanism
primarily reviewing State agency determinations
used by F E R C in regulation
standards for court
of the category a given well falls in -- and provides
review of the NGPA.
Title V I coordinates the NGPA with the Natural G a s Act
of 1938, the prior statutory basis for gas regulation, much of which applied
to pipeline operations, accounting, and other aspects of the gas industry
which were not affected by the NGPA.
Natural Gas Conservation
Since the NGPA's passage, and partly a s a result of the NGPA, demand for
natural gas has changed markedly.
The conservation among residential and
commercial users has been remarkable, so that even with many conversions from
fuel oil and many new hook-ups, the total deliveries to these sectors have
The prospect i s that additional
stayed stable or declined
conservation will be achieved, and most observers attribute the conservation
to higher prices.
Some gas i s used for pipeline operation, and this amount
will not change much.
Industrial users who must use natural gas because of
its unique properties or chemical constituents and natural gas users in the
agricultural and food--processing chains have a higher priority for gas when
curtailments occur than boiler fuel users.
Their use has expanded since the
NGPA, but they have also achieved much
conservation and they have been
affected by poor economic conditions.
They are very
sensitive to the
long-term implications of gas supply and sensitive to price stability, since
their plants are long-term investments, and they would have no alternative
The outlook is for continued but cautious growth in this sector of
natural gas use, not growth a t the boom levels seen in the 1960s.
T h e key sector in natural gas demand i s the large group of industrial
users who use natural gas in boilers of different sizes and alternate fuel
These users are highly sensitive to natural gas price levels,
and less sensitive to the long-term supply.
Their alternate fuel i s
generally oil, mostly residual fuel oil. As they use more natural gas, their
use of oil falls. The portion of industrial natural gas use in this category
is not precisely known, but i s a t least half of the industrial demand -- the
half which can rise and fall most rapidly, with the largest effects on oil
imports, and with th-e-greatestflexibility when curtailments are necessary.
They have the lowest priorities for gas during curtailments, generally in
order of the size of their boilers.
It is the demand of this market that wiil determine what the marginal
supply will be in the next f e w y e a r s , and
toward gas prices and
imported oil w i l l largely determine this demand
serving this demand by making natural g a s relatively cheap and available
these users o v e r the next f e w years may reduce oil i m p o r t s , but it may a l s o
exhaust more quickly
the conventional supplies that we now depend o n ,
requiring earlier availability of the supplemental supplies, or threatening
the long-term service of higher-priority
u s e r s , and
f o r c e higher
prices upon other users.
In f a c t , what i s happening a t this juncture is that
- o n some g a s pipeline systems that have made inopportune decisions
regarding t h e price and ancillary terms o f gas purchases
there has been significant conversion to cheaper heavy fuel oil by industrial
And the trend t o residential gas conversion has abated a s well.
T h e s e pipeline
systems a r e
faced with a declining market
remaining contractually obligated t o expensive gas that will not
sell i n
today's more competitive market.
F o r t h i s reason, there appears to be
something of a current oversupply of deliverable, albeit expensive, gas.
S o m e Recent Developments Effecting the Natural Gas Situation
T h e r e have been two developments since N G P A 1 s passage that have shaped the
institutional framework in which
the g a s market
O n e is the
amendment of t h e Powerplant and Industrial Fuel Gas Act
1 9 7 8 to permit
existing gas-fired electric plants to burn gas during the remainder of their
T h i s was accomplished a s a n amendment to the 1 9 8 1 budget
authorization b i l l in June 1981.
T h i s means
a b o u t 20% of t h e nations gas now -- will continue unrestrained use.
a n d i s now before t h e
The other matter -- which i s still unresolved
-- regards incremental pricing, Title I1 of the
Incremental pricing allocates high-priced g a s to industrial consumers up t o
the point t h a t they pay the equivalent of oil fuel prices.
envisioned b o i l e r fuel users being initially targeted for price increases up
the equivalant of
relatively c h e a p high
S u b s e q u e n t l y , under P h a s e 1 1 , more industrial users would
covered, a n d
rise t o parity
Phase I o f incremental pricing
affecting boiler fuel users of more than
300 Mcf per d a y
1 , 1979.
1 1 , affecting
smaller i n d u s t r i a l users to the extent necessary to cover 95% o f industrial
gas use, was t o become effective 6 months later. A great deal of concern w a s
expressed by industrial users and others that incremental pricing would
to higher i n d u s t r i a l fuel prices a t a time o f inflation and recession.
was a l s o
challenged o n t h e basis that, as incremental pricing forced industrial users
f r o m natural g a s , the system costs of the pipelines a n d distributors would be
allocated to t h e remaining customers.
In a d d i t i o n , the cost increases o f
manufactured g o o d s would be paid by their buyers.
Legislation was introduced
t o repeal T i t l e
i n its entirety.
Representatives exercised the legislative veto provided
i n NGPA a n d voted
overwhelmingly to veto the regulations implementing
T h i s both left the statute intact and Phase I in operation.
T h i s veto l e t industrial g a s prices
remain a t the equivalant
sulfur residual fuel oil and limited incremental pricing
to a relatively
narrow p o r t i o n of i n d u s t r y .
? h a s e I , as i t r e m a l n s i n
l i t t l e m o r e t h a n w o u l d otherwise b e t h e c a s e .
mandate t h a t gas be
d i s t i l l a t e p r i c e s , t h e v e t o means t h a t r e l a t i v e l y few u s e r s
i n c r e m e n t a l p r i c i n g a t b u r n e r t i p p r i c e s o f a b o u t $ 4 . 0 0 p e r Mcf.
I 1 p l a n , s e e m i n g l y m a n d a t e d b y NGPA, w o u l d h a v e e f f e c t e d
u s e and would have r e s u l t e d i n i n c r e m e n t a l p r i c e s of a b o u t $6.50.
a t middle
The P h a s e
t h e D.C.
T h e l e g i s l a t i v e v e t o was o v e r t u r n e d
The c o u r t r u l e d t h a t t h i s a c t i o n
was u n c o n s t i t u t i o n a l ,
J a n u a r y 1982.
m a n d a t e d t h a t FERC p r o m u l g a t e a n e w P h a s e I 1 p l a n
NGPA's i n t e n t .
T h i s matter h a s b e e n s t a y e d , p e n d i n g a p p e a l
If u p h e l d , P h a s e I1 w i l l e i t h e r
T h e G a s M a r k e t U n d e r NGPA
When t h e p r i c e o f c r u d e o i l d o u b l e d , t h e f u n d a m e n t a l c h a r a c t e r
m a r k e t s c h a n g e d , l e a v i n g t h e r a t h e r i n f l e x i b l e NGPA p r i c i n g s t r u c t u r e b e h i n d .
W r i t t e n w i t h t h e g o a l o f e q u i l i b r a t i n g o i l and n a t u r a l gas p r i c e s
a n d b r i n g i n g t h e m c l o s e r t o g e t h e r t h a n t h e y h a d b e e n d u r i n g t h e i n t e r i m , NGPA
f e l l o u t of context with i t s i n i t i a l l e g i s l a t i v e i n t e n t .
The changed economics of
energy markets interacted with
l a w and
p r o d u c e d many u n i n t e n d e d a n d u n a n t i c i p a t e d r e s u l t s .
gas m a r k e t w e r e g a i n e d , a n d
led to calls for
a c t i o n s b y FERC a n d , i n i t i a l l y , t o c a l l s f o r d e r e g u l a t i o n o f a t
( i f n o t a l l ) gas.
The l a t t e r were r e p l a c e d , as t h e d i s c u s s i o n
C o n g r e s s e v o l v e d , w i t h c a l l s f o r a r e a d j u s t m e n t o f p r i c e s s o t h a t o i l a n d gas
would be on a more
e q u a l f o o t i n g and would r e a c h
t h e s e p r o p o s a l s were consumer groups,
became more v o c a l
regarding quite rapid
i n t r o d u c e d i n t h e House w i t h 226 co-sponsors t o e x p r e s s t h e
s e n s e of
H o u s e t h a t FERC s h o u l d t a k e n o a d m i n i s t r a t i v e a c t i o n t o a c c e l e r a t e t h e
a t w h i c h g a s p r i c e s were b e i n g d e c o n t r o l l e d .
The s t a t u s a t t h i s j u n c t u r e f i n d s t h e a v e r a g e p r i c e o f gas n a t i o n w i d e
a b o u t $2.75 p e r Mcf, r o u g h l y h a l f t h e p r i c e o f c r u d e o i l o n a b t u
Gas p r i c e d i n a c c o r d a n c e w i t h NGPA v a r i e s f r o m a f e w c e n t s p e r Mcf t o
U n d e r t h e NGPA
o v e r $10, w i t h Canadian and Mexican i m p o r t s a t j u s t under $5.
1, 1 9 8 5 .
p h a s e o u t of p r i c e c e i l i n g s , much g a s w i l l b e d e c o n t r o l l e d o n J a n .
However, b e c a u s e n o t a l l c l a s s e s o f g a s w i l l
c o n t r a c t s between p r o d u c e r s and p i p e l i n e s w i l l l i m i t t h e amount of e s c a l a t i o n
f o r some gas t h a t m i g h t o t h e r w i s e r i s e t o u n c o n t r o l l e d l e v e l s , b e t w e e n 40-60%
of f l o w i n g o i l w i l l 'remain under c o n t r o l s o r
How t h e l a w , c h a n g e d e v e n t s , a n d d e v e l o p m e n t s
e n a c t m e n t w i l l p l a y o u t -- v i e w e d w i t h t h e k n o w l e d g e a n d e x p e r i e n c e g a i n e d i n
concerns regarding t h e
t h e p a s t 4 y e a r s -- r e p r e s e n t s i n t e r e s t i n g p o l i c y
f u t u r e of gas markets.
What d o e s
seem t o b e h a p p e n i n g
a n d many
c h a r a c t e r i s t i c , i s t h a t p i p e l i n e s w i t h l a r g e amounts of g a s c o n t r o l l e d a t low
p r i c e s t e n d t o pay v e r y h i g h p r i c e s f o r what u n c o n t r o l l e d g a s i s a v a i l a b l e t o
They a l s o a p p e a r t o a l l o w t h e p r i c e s o f c o n t r o l l e d gas u n d e r
t o t h e m t o r i s e f r o m l o w e r c o n t r a c t u a l p r i c e s t o maximum l a w f u l
s i t u a t i o n can be characterized with
somewhat o v e r s i m p l i f i e d
Assume that half of all gas were to be deregulated and half were zo be
c ~ n t r o l l e d at $2.50.
Assume further that the market clearing price for gas
What, then, would unregulated gas sell for?
A great deal of
current thought, particularly among economists, would have gas prices
determined by pipelines competing for supply. They would bid unregulated gas
prices up to the point where they could not sell any more -- that is to say,
the point where their weighted average gas cost was at the market clearing
price of $5.00.
Thus, the half of gas supply which is not regulated in this
example would sell for $7.50.
This contradicts the old conventional wisdom, which held that pipelines
would be unwilling to pay prices in excess of market clearing levels for new
gas supply. The fact is that consumers -- the customers of pipelines -- are
likely to be unwilling to pay above market clearing prices for whatever blend
of gas pipelines have to provide.
Knowing this, and having the ability to
average or "roll in" various gas prices, pipelines will compete for gas
supply and will bid gas up to the point where the rolled in price they charge
their customers reaches the point where they can sell no more -- in other
words, the market clearing consumer price.
The other part of the "new economicsR which i s relevant for the policy
debate i s a better understanding -- or a t least a new perception -- of how
wellhead prices are determined.
Earlier thinking had wellhead prices
equilibrating with the btu equivalant price of crude oil, middle distillate,
or o ~ of
e the types of residual fuel oil, depending on which version of this
thinking was being articulated. The current perception sees wellhead prices
being determined a t the burner tip. This means that the market clearing for
will determine wellhead prices.
energy -- whatever that may actually be
Wellhead prices will then be the burner tip price, less the
distribution utility tariff, less the long distance pipeline tariff.
example, burner tip prices are set in competition with 1 % sulfur residual
fuel, now about $27/bbl or roughly $4.25/million btu's (the equivalant of an
Mcf of gas), this could back down to an implied wellhead price quite close to
the present $2.75 average.
Whatever the current or future market clearing gas price may be, in
contemporary discussion regarding this figure it is often given in terms of a
fraction of crude oil prices.
For example, much current thought holds that
the market clearing price either i s or should be about 70% of the crude
The American Gas Association claims the current market clearing price
to be about 60%. In any case, the current average wellhead price i s somewhat
less than half current crude price equivalancy.
The Natural Gas Market
Developments During 1 9 8 2
1 9 8 2 has been a confusing year for energy prices generally.
for example, rose fairly sharply during mid-year in the face of very
demand, presenting something of a paradox.
Now, natural gas prices appear to
be following a similar pattern.
Pipelines which heretofore had been hard
pressed for new supplies made commitments for several types of higher-cost
Apart from higher-priced new, but still controlled gas
pipelines also bid for expensive gas in section 106 and section 107.
1 0 7 gas consists of uncontrolled deep gas (from zones below 15,000 feet) and
other difficult-to-produce gas now controlled a t about $5.50.
In toto, the
average price of gas in both interstate and intrastate pipeline systems rose,
approximating market clearing levels. On some pipeline systems, gas costs
rose to above market clearing levels, which meant that some of the more price
s e n s ~ t i v ez u s t o m e r s r e d u c e d 3r n a l t e d c o m p l e t e l y heir
r e s u l t h a s been a n a p p a r e n t s u r p l u s o f d e l i v e r a b l e g a s , w l t h numerous r e p o r t s
of s h u t - i n w e l l s and w i t h s c a t t e r e d r e p o r t s o f g a s b e i n g f l a r e d .
I n t h e f a c e of t h i s s e e m i n g o v e r s u p p l y , 1 9 8 1 t u r n e d i n t o a b a n n e r y e a r f o r
gas reserve additions.
R e s p o n d i n g t o r e c o r d d r i l l i n g a c t i v i t y , new
f o r t h e f i r s t time s i n c e 1968 exceeded
g a s was
d i s c o v e r e d , e x c e e d i n g p r o d u c t i o n b y a b o u t 1 0 % . Now p r o d u c e r s
having d i f f i c u l t y marketing t h e gas they found, o r a t
f o r t h e i r new g a s a t t h e p r i c e s t h e y l i k e l y a n t i c i p a t e d
w e l l s i n 1980 o r 1981.
T h e r e a r e two r e a l i t i e s
t o have
wherein gas p r i c e s a r e r i s i n g and s u p p l i e s remain i n t h e ground.
i s t h a t p i p e l i n e s h a v e c o m m i t t e d t h e m s e l v e s t o more g a s t h a n t h e y c a n
a t p r i c e s w h i c h -- o n a v e r a g e -- a r e e s c a l a t i n g r a p i d l y .
Many p i p e l i n e s
f i n d i n g t h e m s e l v e s o v e r - c o m m i t t e d a n d , i n some i n s t a n c e s , t i e d i n t o
p a y c o n t r a c t s , w h i c h r e q u i r e p a y m e n t f o r minimum a m o u n t s o f g a s r e g a r d l e s s o f
-- f o r g a s n o t
whether t h e p i p e l i n e t a k e s t h e gas o r not.
a c t u a l l y t a k e n -- a r e a u t o m a t i c a l l y p a s s e d o n t o e n d u s e r s t h r u t h e p u r c h a s e d
gas adjustment clauses t h a t v i r t u a l l y a l l
Unit p r i c e s of g a s a c t u a l l y s o l d t h e r e f o r e r i s e t o pay
T h i s raises t h e a v e r a g e c o s t o f g a s s o l d on
A d d i t i o n a l l y , many
Pipeline a f f i l i a t e d production i s allowed t h e highest
unregulated s e c t i o n 107 g a s too.
Pipelines, i n the
i n c e n t i v e s t o t a k e t h e i r own a f f i l i a t e s ' p r o d u c t i o n a n d g a s u n d e r t a k e o r p a y
c o n t r a c t s i n p r e f e r e n c e t o o t h e r g a s t h a t may b e l o w e r p r i c e d .
And o t h e r g a s
d o e s t e n d t o be l o w e r p r i c e d , b e c a u s e t a k e o r p a y a n d
t e n d t o be r e l a t i v e l y r e c e n t p h e n o m e n a a n d i n v o l v e t h e n e w e r , m o s t
o f NGPA g a s .
A l l t h i s t e n d s t o d e f i n e a cascading problem.
G a s flowing i n the Nation's
p i p e l i n e s y s t e m now h a s e s c a l a t e d t o t h e p o i n t w h e r e n o t
production can be sold.
In backing out unsold supplies, pipelines
i n some c a s e s a c t u a l l y d o , r a i s e t h e a v e r a g e u n i t p r i c e o f f l o w i n g g a s .
h i g h e r p r i c e s mean l o w e r s a l e s , a n d t h i s c o u l d b e c o m e a r e c u r s i v e t h e m e .
The s e c o n d r e a l i t y i s t h a t t h e m a r k e t
i s much
l o w e r , i n r e l a t i o n t o o i l f u e l p r i c e s , t h a n most
( p o l i c y m a k e r s i n c l u d e d ) t h o u g h t i t was w h e n NGPA was b e i n g c r a f t e d .
becoming an i n c r e a s i n g l y c l e a r f a c t o f l i f e i s t h a t b u r n e r t i p p r i c e s have t o
be c o m p e t i t i v e w i t h o i l f u e l s , s p e c i f i c a l l y r e s i d u a l f u e l .
p r i c e s embody b o t h l o n g - d i s t a n c e a n d l o c a l p i p e l i n e u t i l i t y t a r i f f s , a s w e l l
a s the wellhead price of t h e gas.
l i k e l y burner
t i p market
p r i c e i s t h e Btu e q u i v a l a n t of r e s i d u a l f u e l , and t h e l i k e l y wellhead
While t h i s i s
c l e a r i n g p r i c e w i l l be t h i s l e s s t h e u t i l i t y t a r i f f s i n v o l v e d .
s o m e t h i n g o f a n o v e r s i m p l i f i c a t i o n -- s i n c e n o t a l l u t i l i t y t a r i f f s a r e e q u a l
( t h e y vary, f o r example, w i t h l e n g t h of h a u l from t h e g a s
-- t h e
i s n ' t n e c e s s a r i l y t h e a l t e r n a t i v e , o r c o m p e t i t i v e , f u e l i n a l l cases
example d e l i n e a t e s a set of economics
t h e s e e c o n o m i c f o r c e s s e e m t o i n d i c a t e t h a t many t y p e s o f g a s p r i c e s a r e
h i g h t o be s o l d .
Standing between t h e b u r n e r t i p and wellhead
local distribution pipeline utilicles.
in ~ r d e rfor tne market zonditions a c
the burner tip -- where prices are determined -- to a f f e c t wellhead prices,
price signals must be transmitted through two independent entities -- the
local distribution utility and the long-distance pipeline - - back to the also
This process is really new.
In the past, gas
pipelines typically could sell all the gas they could g e t , and they have
never had to exercise the option of passing price signals back down the pipe
to the wellhead.
How well this will work is n o w in the process of being
Recent months have seen some price signals begin to get passed back down
One of the first signs of this has been the decline in the prices
of d e e p (unregulated) section 1 0 7 gas.
Some g a s i n this class reached the
$ 1 0 mark, but many pipelines have had g r e a t trouble with the highest-priced
g a s a n d have renegotiated contract prices o r otherwise gotten o u t of
excessively expensive commitments o r a r e i n the process of doing so.
During the summer o f 1 9 8 2 , producers selling new gas began to face great
Marketing gas a t prices a b o v e $3.00 became d i f f i c u l t , because
pipelines were either overcommitted under pre-existing g a s contracts or could
n o t a b s o r b gas which would raise their weighted average o r delivered price.
In f a c t , pipelines that made commitments to higher priced g a s were i n no
position t o take advantage of new offers of supply that might be priced below
Whether or not pipelines a r e willing or
earlier c o n t r a c t u a l . c o m m i t m e n t s .
a b l e to renegotiate t h e higher of their g a s contracts to take advantage of
what appears to be a near-term oversupply will be tested i n the months ahead.
T o s o m e extent, this will provide a n indication of how well g a s markets work,
with important implications for the price control debate.
A bottom-line policy consideration s e e m s t o be developing.
In the current
market, wellhead prices i n the $2.75/Mcf a r e a seem to translate i n t o burner
t i p prices a t a b o u t market clearing levels.
If this i s actually true, then
those favoring deregulation of wellhead prices could make a very
point -- that immediate decontrol would not r a i s e prices, a t least i n the
current energy pricing environment.
T h o s e opposing decontrol would likely
a r g u e t h a t the pipeline industry has y e t to prove it can d e a l effectively
with producers i n terms of keeping gas supply prices economically.
would question pipelines ability to contract a t the wellhead such that g a s
can be delivered a t market clearing prices.
It is likely that the next 6 to
1 2 months will yield a n indication of who is correct.
Administrative Issues Before F E R C
In t h e context of NGPA and prices being out o f step with those of o i l ,
there a r e a number of administrative matters under consideration a t F E R C
which a r e relevant to the policy discussion. Among the more important a r e
t h e following issues:
G a s in sections 1 0 4 , 1 0 6 , and small a m o u n t s in section
the "spud" d a t e of the
P r i c e s of section 1 0 4 g a s range from a b o u t $2.25 f o r old g a s down to
2 7 c e n t s per Mcf for " o l d e s t w g a s , for example.
After some discussion of the
pro's a n d c o n ' s of having such a wide dispersion of old g a s prices, F E R C
i n order to collect
issued a Notice of Inquiry (04/28/82) o n the matter
It should be emphasized that this is not a r u l e m a k i n g , although
i t could lead to one.
The g o a l here i s to determine the wisdom
a l l old g a s i n o n e , higher priced class.
This would raise the average price
109 is price controlled in several tiers based o n
of gas substactially.
The vintaging matter is often associated with what has come to be called
the market ordering problem or market disorder.
What has happened is that
the old gas provides "a cushion" so that pipelines can acquire gas a t much
higher prices than it could be sold for on its own.
This gas can be made
marketable by averaging its price in with old gas, so that the blend price is
competitive a t the burner tip.
This has led to purchases of unregulated
section 107 gas at attention-focusing prices, some above $10.00.
I t has
likely led to repricing of other gas under contract a t below-ceiling prices,
and to purchases of gas a t high-ceiling
prices Which would be uneconomic
without the "cushion."
Additionally, intrastate pipelines assert that they a r e a t a comparative
disadvantage relative to intrastate systems since they have had historically
Hence, they are unable
higher gas acquisition costs and less of a cushion.
to bid successfully for new supply against the comparatively better cushioned
This has become a regional issue of some concern.
* Near Deep Gas
With gas from zones below 15,000 ft. unregulated, FERC
has issued a Notice of Proposed Rulemaking regarding gas from the 10,000 to
15,000 ft. zone. The proposal would raise the price of gas from these strata
to 150% of its NGPA price.
This would create incentive for deeper drilling
- - where gas prospects are better -- and would create disincentives to drill
all the way to 15,000 ft. simply to qualify for a higher price.
* Gas Produced in Deep Water -- F E R C went through all the administrative
procedures needed to raise the price of gas produced from waters 300-feet
deep or deeper by 200% in excess of the statutory rate.
commission never brought the matter to a vote, and the issue i s now in limbo.
* Cap on Sec. 1 0 7 gas -- There has been informal discussion about placing
a floating ceiling on unregulated gas in this class, perhaps tying it to 70%
of crude prices.
This gas has sold for $10 in some cases.
* Incremental pricing -- If the Phase I1 ruling i s sustained, the
Commission may have to promulgate a new incremental pricing rule.
preliminary study is now ongoing a t the staff level regarding what type of
Phase I1 plan may be brought forward.
The 97th Congress has been disinclined to take up the natural gas
regulation issue with any vigor.
Hearings were held by
the Senate Energy
Committee in November 1981 and March 1982. Similarly, the House Synthetic
and Fossil Fuels Subcommittee held hearings i n July and August 1982.
in the way of consensus, much less legislation, emerged from these hearings.
Two similar pieces of legislation, H.R. 5866 (Gramm) and S.
seem to capture the essence of thought of those seeking deregulation.
main provisions of those bills are:
* Repeal of the Powerplant and Industrial Fuel
constrains natural gas use;
* Repeal of incremental pricing;
* 3-year phaseout of all price ceilings, aimed a t converging gas prices on
7 C % of crude oli equivaiancy by Jan. 1 , 1985.
post-1985 prlce controls;
itemoves all F E R C authority f o r
* Capping high cost gas (section 107) at 70% of crude equivalancy;
* Facilitating intrastate pipelines access to Outer
Areas now primarily reserved for interstate pipelines;
* A variety of provisions aimed a t giving pipelines legislative
to deal with disadvantageous producer contracts.
The only item on the natural gas agenda that actually came close to a vote
This represented a statement by
this Congress was H.Res.
anti-deregulation forces that NGPA should not be administratively
with. As such, it encapsulates the pro-regulation sentiment at this time:
preserve the status quo.
H.Res. 371 was intended to be a device to bring
political pressure to bear on FERC, halting the progress of administrative
procedures oriented toward raising the price of old gas, specifically that in
It was introduced with 226 co-sponsors, but was never acted
In spite of this, those opposing administrative measures raising gas
prices cite the measure as indicative of the wsense of Congress" that NGPA's
statuatory pricing structure should not be tampered with.
371 (Dingell et dl.)
Expresses the sense of the Mouse that the Federal Energy Regulatory
Commission should take no action to accelerate the decontrol of wellhead
natural gas prices.
4 6 7 (Corcoran)
Provides for the expiration of the waiver of laws granted for the Alaska
natural gas transportation system unless the Federal Energy Regulatory
Commission issues, on or before Dec. 1 5 , 1983, a final certificate of public
convenience and necessity for the approved transporation system.
any Federal financial assistance for the transportation system after approval
of this resolution.
Introduced Apr. 29, 1982.
5645 (Hartel et al.)
Amends the Natural Gas Policy Act of 1978 to declare unenforceable any
take-or-pay clause of any contract which is entered into on or after
enactment of this Act and which i s applicable to any first or subsequent sale
of natural gas.
Introduced Mar. 1 , 1982; referred to Committee on Energy and
H.R. 5646 (Hetel et al.)
Amends the Natural Gas Policy Act of 1978 to declare unenforceable
indefinite price escalator clauses in natural gas contracts.
any first or subsequent sale of natural gas.
1 , 1982;
referred to Committee on Energy and Commerce.
5866 ( ~ r a m m )
Xepeals the Powerplanc and Industrial Fuel Use Act of i978.
the incremental pricing requirements of the Natural Gas Policy Act of 1978.
Repeals provisions of the Public Utility Regulatory Policies Act of 1978
relating to retail policies for natural gas utilities.
Provides for the
decontrol of natural gas.
Introduced Mar. 1 7 , 1982.
5923 (Collins, J., by request)
Amends the Federal Energy Administration Act of 1974 and the Department of
Energy Organization Act with respect t o the disclosure of energy information
obtained from Federal agencies.
Repeals specified energy
reporting requirements under the Energy Supply and Environmental Coordination
Act of 1974, the Federal Energy Administration Act of 1974, the Department of
Energy Organization Act, the Powerplant and Industrial Fuel Use Act of 1978,
and the Emergency Energy Conservation Act of 1979.
Introduced Mar. 23, 1982.
5 9 5 4 (Mottl et al.)
Amends the Natural Gas Policy Act of 1978 to repeal provisions
for the decontrol of natural gas prices.
Introduced Mar. 24, 1982.
6331 (Young, R., et al.)
Amends the Natural Gas Policy Act of 1978 to:
(1) eliminate the monthly
(2) allow increase in such
indexing of wellhead natural gas prices; and
prices prior to the expiration of natural gas price controls only to the
justified by increases in the cost of producing natural gas.
Introduced June 3 , 1982.
6 8 5 0 (Young, R.)
Amends the Natural Gas Policy Act of 1978 to provide for continuation of
price controls beyond 1985. Eliminates the monthly indexing of wellhead
natural gas prices.
Allows increase i n such prices prior to the expiration
of natural gas price controls only to the extent justified on the basis of
increases in the cost of producing natural gas.
Introduced July 2 2 , 1982.
331 (Chafee et al.)
Expresses the sense of the Senate that the Federal Energy Regulatory
Commission should take no action to accelerate the decontrol of wellhead
natural gas prices.
Introduced Mar. 3 , 1982.
S. 2074 (Johnston et al.)
Repeals the Powerplant and Industrial Fuel Use Act of 1978.
Public Utility Regulatory Policies Act of 1978 to repeal provisions relating
to retail policies for natural gas.
Provides for the deregulation of
committed or dedicated natural gas under the Natural Gas Policy Act of 1978.
S. 2292 (Metzenbaum et al.)
Amends the Federal Power Act to require the Federal Energy Regulatory
Commission t o approve, upon application by a public utility and after
examination of the propriety of the costs involved, the inclusion in the
wholesale rate base of construction work in progress with
construction of pollution control facilities; o r (2) conversion of oil or
Provides that public utility charges based upon costs
associated with other construction
(McClure by request)
Authorizes the Federal Energy Regulatory Commission to assess and
fees from natural gas companies, public utilities, and
services and privileges rendered under its regulatory programs.
A D D I T I O N A L REFERENCE SOURCES