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Controversy Over LNG & Oil Exports Heats Up As Production Expands*

By Mike Dotten
February 11, 2013

In our article Energy Policy in the Second Obama Administration, we recently reported on a broad array of energy and energy-related environmental policies that will be addressed during President Obama’s second term – particularly policies that relate to the dramatic surge in domestic natural gas and oil production. Not since the first OPEC oil embargo in 1973-74[1] has the United States been presented with the opportunity to dramatically reduce its dependence of foreign energy suppliers. The United States is projected to become a net exporter of natural gas by 2020.[2] America is similarly projected to become the largest global oil producer around 2020, and a net oil exporter by 2030.[3]

The natural gas and oil boom is fueling both a domestic industrial renaissance and a contentious debate over the extent to which the United States should export domestically-produced energy. Indeed, the Department of Energy (DOE) recently received over 30,000 public comments on a report discussing the domestic economics of liquefied natural gas (LNG) exports.

Congress has also taken a keen interest, and numerous bills have been introduced that would variously restrict or expand energy exports. For example, one bill would require natural gas extracted from federal lands to be sold only to customers in the United States.[4] A second bill would prohibit the Federal Energy Regulatory Commission (FERC) from licensing LNG export terminals.[5] More recently, a bipartisan bill introduced in the Senate would give NATO members, Japan, and other certain countries preferential treatment with respect to LNG exports.[6]

Senator Ron Wyden (OR), the new Chairman of the Senate Energy and Natural Resources Committee, has said that his committee will be looking for the “sweet spot” that allows for some natural gas export revenue without adversely impacting energy prices in the United States and thereby missing the economic advantages for consumers and manufacturers.[7] The issue is not whether the United States will export energy; but rather, how much and how soon.

This article previews the various political and economic cross-currents that are informing the present debate about U.S. energy export policy, with a particular focus on the export of LNG and oil.

I. The Legal Framework Surrounding Natural Gas and Oil Exports

Proposals to export LNG and other energy products are subject to extensive federal, state, and local permitting requirements. While state and local regulators wield significant regulatory power, the ultimate scale of LNG and energy exports will be decided in large part via federal policy, including DOE’s interpretation of the Natural Gas Act, existing prohibitions on crude oil exports, and FERC’s licensing of energy export facilities.

A. The Natural Gas Act and LNG Exports

The Department of Energy Office of Fossil Energy (DOE-FE) regulates the import and export of LNG. When reviewing export applications, DOE-FE focuses on a number of issues, including the domestic need for the natural gas proposed to be exported; whether the proposed exports pose a threat to the security of domestic natural gas supplies; and whether the proposal promotes competition in the marketplace by allowing commercial parties to freely negotiate their own trade agreements.[8]

DOE-FE’s scrutiny of LNG export applications depends in large part on whether the LNG will be exported to countries with which the United States has a fair trade agreement (FTA). The Natural Gas Act requires DOE-FE to approve export applications so long as they are not inconsistent with the public interest.[9] That provision creates a rebuttable presumption under which project opponents bear the burden of demonstrating that proposed exports are inconsistent with the public interest. [10] The Natural Gas Act further provides that LNG exports to a nation with which the United States has an FTA giving national treatment for the trade in natural gas are deemed in the public interest, and applications for such exports are given expedited consideration.[11]

To date, DOE-FE has approved only one application for LNG exports to a non-FTA country. In May 2011, DOE-FE conditionally granted Sabine Pass Liquefaction’s application to export LNG to non-FTA countries.[12] In its order approving the Sabine Pass application, DOE-FE noted that it had a continuing duty to monitor natural gas supplies in order to ensure that export authorizations do not reduce supplies necessary to meet essential domestic needs. DOE-FE also stated that it would evaluate the cumulative impact of the Sabine Pass authorization and any future export authorizations when considering export applications.[13]

DOE-FE is currently holding in abeyance at least 16 applications to export over 20 billion cubic feet per day (Bcf/d) of LNG to non-FTA countries while the agency evaluates the macroeconomic impacts associated with exporting domestic natural gas.[14] To that end, DOE-FE has commissioned two reports evaluating the economic effects of increased LNG exports. In January 2012, the EIA released a report evaluating how specific scenarios of increased LNG exports could affect domestic energy markets, including consumption, production, and prices.[15] A second report, completed by NERA in December 2012, evaluated macroeconomic impacts of increased LNG exports under specified scenarios.[16] NERA concluded that, under most circumstances, LNG exports would have net positive economic impacts. That conclusion, however, is not without controversy. Over 30,000 public comments were filed on the NERA report, and the reply comment period, which runs through February 25, 2013, is expected to generate similar comment volumes.

B. Oil and Refined Product Exports

The public debate concerning energy exports has largely focused on natural gas, but a similar debate concerning oil exports is brewing.[17] Hydraulic fracturing and horizontal drilling have opened up previously inaccessible tight oil formations like the Bakken and Eagle Ford plays. As a result, the IEA projects that the United States will surpass Saudi Arabia as the world’s largest oil producer around 2020, and will become a net oil exporter by 2030. Despite those resources, the future of the United States as an oil exporter remains uncertain due to significant restrictions on crude oil exports that are presently in place.

The United States banned crude oil exports in 1975, with limited exceptions, in response to oil shortages caused in large part by the Arab oil embargo. The Energy Policy and Conservation Act of 1975 (EPCA) directs the President to ban the export of crude oil unless a determination is made that such exports would be consistent with the national interest.[18] Other statutory provisions similarly prohibit crude oil exports. For example, the Mineral Leasing Act restricts exports of domestically-produced crude oil that is transported by pipeline over rights-of-way granted under that statute.[19] The Outer Continental Shelf Lands Act restricts exports of crude oil produced from the outer Continental Shelf.[20] And the Naval Petroleum Reserves Production Act restricts exports of crude oil produced form the naval petroleum reserves.[21]

The United States has for decades been the world’s largest oil importer.[22] In recent years, however, the volume of net crude imports has decreased due to reduced demand and increased domestic supplies.[23] For example, between 2006 and 2011, net crude imports dropped from approximately 12.3 million barrels per day (BPD) to 8.5 million BPD.[24] Indeed, net imports have fallen 33% since 2005.[25] At the same time, there are almost no restrictions on the export of refined petroleum products, and as a result, the net exports of petroleum products in 2011 exceeded imports for the first time since 1949.[26]

C. Federal Energy Regulatory Commission

FERC has received applications for 11 domestic LNG import and/or export facilities, and project sponsors have identified seven additional potential LNG facilities in the United States.[27] FERC has exclusive authority to “approve or deny an application for the siting, construction, expansion, or operation of an LNG terminal”[28]– the means for exporting to any region of the world other than North America.

FERC is not authorized to approve or disapprove the import or export of the commodity itself. To avoid duplicating, and potentially contradicting DOE-FE’s export licensing determinations, FERC has interpreted its authority as “limited to consideration of the place of importation, which necessarily includes the technical and environmental aspects of any related facilities.”[29] Nonetheless, even if DOE-FE expands the scope of permissible LNG exports, FERC could be a stumbling block if it refuses to approve export facilities for any of the public interest reasons that it could rely upon for doing so.

II. The Energy Export Debate – Looking for the Sweet Spot

The LNG export debate encompasses a broad range of economic and geopolitical considerations, including concerns that exports will increase domestic energy prices and dampen the resurgence of domestic manufacturing; the United States’ balance of trade; free trade obligations; and global market conditions. This section summarizes some of the arguments being made for and against expanded LNG exports.

A. Domestic Natural Gas Prices and Manufacturing

The increase in domestic oil and gas production is fueling significant domestic economic activity. Direct economic impacts include growing demand for labor and products associated with the exploration, production, and transmission of natural gas and oil, such as pipes, drill bits, excavators, chemicals, asphalt, and pumps.[30] Increased natural gas production has also driven down domestic electric power generation costs, and hence, market electricity prices. Similarly, abundant and low cost natural gas is now available as chemical feedstock for domestic industry.

The impact of shale gas could allow industry to add one million workers, and reduce natural gas expenses by as much as $11.6 billion annually through 2025.[31] Indeed, examples abound of the American industrial renaissance that is largely attributable to the oil and gas boom. For example, investments are being made in steel production to support the shale gas industry.[32] Chemical manufacturing facilities are being constructed and expanded across the country, particularly along the Gulf Coast.[33] In Louisiana alone, capital investments in natural gas induced projects are expected to exceed $20.2 billion over the next nine years.[34]

But to achieve these benefits, the price of energy will have to remain relatively low. Increases in exports will reduce domestic supply and apply upward pressure on energy and chemical feedstock prices. As such, rifts have formed within U.S. industry concerning the proper balance of LNG exports. Many businesses and trade groups, such as the National Association of Manufacturing, support robust LNG exports. At the same time, many chemical interests and energy-intensive trade-exposed industries have urged a more cautious approach to exports.[35] The debate is not confined to the United States alone. Dow Chemical’s Australian unit and other Australian manufacturers are ringing alarm bells, arguing that Australia’s domestic supply and price are suffering due to excessive exports of LNG from that energy-rich country.[36]

B. Balance of Trade

Between 1964 and 2011, the annual U.S. balance of payments in international trade in goods and services went from a positive $6 billion to a negative $560 billion.[37] Much of this increase in the trade deficit was due to the increased volume of oil imports and the increase in price per barrel of oil.[38] But as U.S. exports of energy increase and reach net export levels, the United States balance of trade will improve, particularly if world oil and gas prices increase. Paradoxically, this increase in energy prices could hurt exports for the manufacturing sector by increasing production costs, reducing international manufacturing competitiveness and thereby manufacturing exports, particular in energy intensive industries and those that use energy for feedstocks.

Besides impacting the balance of trade, export policy and related price implications can have countervailing impacts on the U.S. budget deficit. The U.S. Government is the largest single consumer of energy in United States.[39] As a consumer, the U.S. government would like energy prices to remain low in order to help reduce the budget deficit. At the same time, as the lessor of federal lands used for energy production, the government would benefit from higher energy prices. In this area, as well, the government faces a paradox and the incentive to find the export “sweet spot.”

C. Free Trade & Geopolitics

Potential limitations on LNG exports have also triggered a debate as to whether such restrictions would run afoul of international trade obligations. The General Agreement on Tariffs and Trade 1994 (GATT) prohibits most export restrictions, including those imposed by export licenses, on the “exportation or sale for export of any product destined for the territory of any other contracting party.”[40] Relying on GATT, parties have argued that LNG exports to World Trade Organization (WTO) members should receive the same expedited and automatic approval as LNG exports to FTA countries are given.[41]

LNG exports trigger other geopolitical considerations in addition to free trade obligations. Commentators have observed that increased LNG exports from the United States would provide allies with alternate supplies – particularly in Europe where Russia has used natural gas exports for political leverage. Similarly, some of the United States’ most important allies are not covered by FTAs. Japan, in particular, is the world’s top importer of LNG, but is not presently covered by an FTA. Japan’s LNG imports soared over 11 percent in 2012 – due in large part to the ramp-up of natural gas-fired electric generation in the wake of the Fukushima nuclear crisis.[42] Japan, along with other markets in Asia and Europe, thus have a growing interest in U.S. LNG.[43]

D. Market Conditions

The level of LNG exports will also be dictated in large part by global market conditions. The impetus behind proposed LNG exports is the dramatic price spread between natural gas prices in the United States and other markets. U.S. natural gas prices recently dropped to the lowest levels in a decade, fluctuating between $3 and $4 per million BTU (mBtu), while Japanese importers are paying as much as $16 to $17 per mBtu.[44] At the same time, the market prices for LNG imports in Europe have risen to $11.79 per mBtu.[45]

Clearly, not all of the proposed LNG export facilities will be constructed because they are competing, not only with one another for markets, but also with facilities in other countries with huge natural gas supplies. The largest producer of LNG is Qatar, which produced roughly one-quarter of global LNG capacity as of mid-2011. Qatar’s LNG capacity increased by 63 bcm since early 2009 to reach 105 bcm. Indonesia, Malaysia, Australia and Algeria are also significant LNG exporters. Russia and Yemen began exporting in 2009 and Peru in 2010. Australia is set to become the second largest LNG exporter behind Qatar by 2016 – six projects are currently committed or under construction, representing 60 bcm of new capacity.[46] Angola is expected to start exporting LNG in the second quarter of 2013.[47] Papua New Guinea will being exports in 2014.[48]

The net impact of rising U.S. natural gas prices will almost certainly drive LNG production costs up. At the same time, a multitude of domestic and foreign LNG, exports to Asia would tend to reduce the benchmark Platts Japan-Korea Marker, thus reducing the spread between U.S. and Asian prices. The economic rationale for delivering LNG to Asia would be significantly diminished at a U.S. price of about $6 per mBtu, while in Europe it disappears at about $5 per mBtu.[49] The James Baker Institute has published a study that concludes that even if DOE-FE grants large numbers of export permits “market adjustments will ultimately limit the construction and/or utilization of terminal capacity, in much the same way they have done with LNG import facilities” because prices spreads will narrow so much that loses on LNG sales will be possible.[50] The same study, published in August 2012 concludes that “the long-term sustainable price must reflect the marginal cost of supply” which Baker Institute concludes is “likely in the $4 to $6 per mcf range for the next couple of decades.”[51]

III. Conclusion

The United States is presently enjoying abundant domestic natural gas and oil supplies. But much of the country’s economic and strategic energy policy was shaped decades ago during a period of perceived supply shortages and dependence on foreign imports. The United States must now determine how to shape its economic, environmental, and foreign policies in light of abundant domestic energy supplies. The next article in this series will deal with the regulatory issues surrounding energy export facilities.

For more information, please contact Michael C. Dotten or any member of Marten Law’s Energy practice group.

* This is the first in a two-part series discussing the legal, political and economic ramifications of increased oil and gas exports for the United States. The authors represent oil and gas producers, transporters and consumers.

[1] http://history.state.gov/milestones/1969-1976/OPEC

[2] U.S. Energy Information Administration (EIA), Annual Energy Outlook 2012 at 92 (AEO-2012).

[3] International Energy Agency (IEA), World Energy Outlook 2012 Executive Summary at 1 (WEO-2012).

[4] Keep American Natural Gas Here Act (H.R. 4025).

[5] North America Natural Gas Security and Consumer Protection Act (H.R. 4024).

[6] The Expedited LNG for American Allies Act of 2013 (S. 192).

[7] R. Wyden, Getting Natural Gas Right a Priority, The Hill (Feb. 7, 2013).

[8] DOE/FE Order No. 2961, Sabine Pass Liquefaction, LLC, FE Docket No. 10-111-LNG at 29 (May 20, 2011) (Sabine Pass Order).

[9] 15 U.S.C. § 717b(a).

[10] Sabine Pass Order at 28.

[11] 15 U.S.C. § 717b(c).

[12] See Sabine Pass Order. DOE-FE approved Sabine Pass Liquefaction’s proposal to export LNG from the Sabine Pass LNG Terminal – an existing LNG import facility in Cameron Parish, Louisiana. Sabine Pass Liquefaction is a subsidiary of Cheniere Energy, Inc.

[13] Sabine Pass Order at 32.

[14] Applications Received by DOE/FE to Export Domestically Produced LNG from the Lower 48 States (as of January 11, 2013).

[15] EIA,Effect of Increased Natural Gas Exports on Domestic Energy Markets (Jan. 2012).

[16] NERA, Macroeconomic Impacts of LNG Exports from the United States (Dec. 2012).

[17] E.g., Rising US Crude Output May Open Door to Exports – API Head, Reuters (June 15, 2012).

[18] 42 U.S.C. § 6212.

[19] 30 U.S.C. § 185(u).

[20] 29 U.S.C. § 1354.

[21] 10 U.S.C. § 7430.

[22] Neelesh Nerurkar, U.S. Oil Imports and Exports, Congressional Research Service, R42465 at 9 (Apr. 2012). China’s net oil imports were about two-thirds of the United States in 2011.

[23] Decreased oil demand in the United States is attributable to numerous factors, including increased fuel efficiency standards for motor vehicles, the rise in ethanol-based fuels, and the lingering effects of the Great Recession.

[24] EIA, U.S. Net Imports by Country.

[25] U.S. Oil Imports and Exports at 9.

[26] EIA, U.S. Petroleum Products Exports Exceed Imports in 2011 for the First Time in Over Six Decades.

[27] FERC, North American LNG Import/Export Terminals (as of Dec. 5, 2012). FERC has also identified 2 proposed and two potential LNG export sites in Canada.

[28] 16 U.S.C.§717b(e).

[29] Order Granting Section 3 Authorization, 139 FERC ¶ 61,039 at 11-12 and n.35 (FERC Docket No. CP11-72-000, Apr. 16, 2012).

[30] MNI Deutsche Börse Group, Reality Check: US Manufacturing Output Rising on Natural Gas(Nov. 26, 2012).

[31] Id.

[32] The Boston Company, Potential Beneficiaries of a U.S. Manufacturing Renaissanceat 5 (May 2012).

[33] Id.

[34] Louisiana State University Center for Energy Studies, Unconventional Resources and Louisiana’s Manufacturing Development Renaissance(Jan. 11, 2013).

[35] E.g., Wall Street Journal, Big Business Splits Over Gas Exports(Jan. 17, 2013).

[36]Australian, Danger Lies Ahead With Gas Bills Set to Explode, (February 7, 2013).

[37] U.S. Census Bureau, U.S. Trade in Goods and Services – Balance of Payments (BOP) Basis (June 8, 2012). The peak deficit was actually in 2006 at $753 billion.

[38] For example, the 2011 deficit of $326.8 billion in petroleum products alone represented 58% of the total U.S. goods and services deficit. Fitch Ratings, Oil Imports Driving Worsening Q1 U.S. Trade Deficit (Mar. 28, 2012).

[39] http://www.whitehouse.gov/the-press-office/president-obama-sets-greenhouse-gas-emissions-reduction-target-federal-operations

[40] GATT 1994 Article XI:1.

[41] E.g., Sabine Pass Liquefaction Application for Long-Term Authorization to Export Liquefied Natural Gas, FE Docket No. 10-111-LNG (Sept. 7, 2010).

[42] Reuters, Japan’s 2012 LNG Imports at Record High on Nuclear Woes(Jan. 23, 2013).

[43] FuelFix, Geopolitics Likely to Trump Economics in US LNG Export Question (Dec. 9, 2012).

[44] Finalcial Times, Japan’s LNG in Crucial Pricing Shift(Dec. 18, 2012).

[45] Europe Natural Gas Import Price for December 2012.

[46] IEA, FAQs: Natural Gas.

[47] Bloomberg Business Week, First Exports of Angola LNG not Expected until Q2(Jan. 31, 2013).

[48] The Wall Street Journal, Cost of Exxon LNG Project Jumps Again (Nov. 12, 2012).

[49] Bloomberg, U.S. LNG Profit Seen Elusive as Price Gap Closes: Energy Markets (Jan. 11, 2013).

[50] James A. Baker III Institute for Public Policy, U.S. LNG Exports: Truth & Consequencesat 9(Aug. 10, 2012).

[51] Id. at 10

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