Why Natural Gas Could be the Next Crucial Industry for Australia

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Well how about that? Life may be grim in the industrialised welfare state for most people, at least in terms of real income growth. But according to new data, Australia is the happiest industrial country in the world! Take that, Sweden and Canada!

The study ranked 34 countries in 11 categories like health, environment, jobs and income. The data in the report, called ‘The Better Life Index’, comes from Organisation for Economic Cooperation and Development (OECD). The only real blip in the news is that Australians rank their quality of life at 7.2 on a scale of 10. The Norwegians, Mexicans, and the Kiwis all reckon they are happier.

So come on Australia. Cheer up. You haven’t had a recession in 22 years. Yesterday, in case you missed it, we reported that the mining boom may not even be halfway over, according to our friend Phil Anderson. Phil’s work on long-term cycles (especially Kondratiev cycles) ought to be welcome news for beleaguered resource investors. And wait until you hear what he has to say about property.

That life is getting better all the time is a point we’re also hearing from the other end of the room here in our new Albert Park headquarters. Kris Sayce and Sam Volkering have broken off from the normal doom and gloom to do research into breakthrough technologies that become breakthrough businesses. Kris and Sam have made the same point: this may be the most exciting time to live in all of human history, given the technological breakthroughs happening across many different industries.

There’s only so much gloom a man can take. After all, if you didn’t think today was going to be better than yesterday, you probably wouldn’t get out of bed. We’ll keep you posted on both projects. You can expect to hear about Phil’s later this week.

Meanwhile, back in the world where the lights go on when you flick a switch, will the lights go out in Sydney this year? New South Wales imports 95% of the natural gas it uses for electricity generation and manufacturing. But with LNG exports from Queensland due to start up from several projects in the next two years, a supply crunch is coming. Having kicked out all unconventional gas producers from its own borders, the State will have to get the gas from somewhere, or cut back on its power consumption.
But when you look at it economic terms, it’s not complicated. What happens when supply is tight? Well that’s right…prices rise. That’s exactly what’s been happening.

Australian manufacturers are already up in arms over the fact that gas is going for about $5.50 a gigajoule in NSW. Compare that to Tokyo, where it’s closer to $12 per gigajoule. If Australian gas prices rise to meet what gas sellers can get for exporting it, any relief industry gets from a falling dollar will be undercut by rising energy prices.

And let’s not even talk about your electricity bill. Do you have any idea what that will look like if gas prices rise? It already looks like a crime scene. But that brings us to a question we asked at the Broken Hill Resources and Energy Symposium last week: why are electricity prices in Australia so stupidly high?

Is it the carbon tax? Is it price gouging by the power producers? Is it bad regulation and policy making? Or is it all of the above?

It’s probably all of the above. But in a market where prices act as signals to producers and consumers, rising prices would be an incentive for new producers to get busy producing. If gas prices are rising due to demand (internal and external) surely the answer is to produce more gas. More gas and lower gas prices mean lower power bills, a big cost advantage for industry, and plenty of jobs in the energy sector.

Of course these are many of the talking points coming out of the Australian Petroleum Production and Exploration Association conference in Brisbane this week. You’d expect the industry to talk its own book. But it’s a pretty good book for Australia.

One speaker at the conference made the point that there wasn’t really a mining boom in Australia, there was a LNG boom. He referred to the fact that $200 billion of the resources investment in the last ten years was in seven separate LNG projects. In fact, of the 13 LNG plants in construction worldwide, seven are in Australia.

That’s impressive, said none other than Fatih Birol, head of the International Energy Agency in Paris. Channelling his inner Phil Anderson, with optimism for the future, Birol said,

As somebody sitting in Paris and trying to have a global overview of energy markets, I can tell you the entire global energy industry sees this [a $200 billion investment boom] as a very impressive move. For me the golden age of gas is very likely, and a golden age of coal is also likely, which means it is a golden age of Australia.’

Australia has an 18-month window to unlock another $100 billion in LNG investment, according to the industry. As is tradition, the industry blames unions for Australian labour costs, which are 30% higher than in North America. It also says productivity is lower in Australia.

High costs, militant unions, green and red tape…these are all things you would expect the industry to say in order to maximise its bargaining position with the government. But at the end of the day, the investment will either happen or it won’t. When you have billions of dollars floating around on that many projects, there are going to be a lot of snouts bellying up to the trough for a bigger share.

In Broken Hill, we made the point that Australia could have a second resources boom if it wanted. But it would have to be an energy boom, not an iron ore and coal boom. And it would have to be an energy boom driven by technology, namely horizontal drilling and hydraulic fracturing. But even having that discussion has become nearly impossible in the current political climate. Instead of a second energy Revolution in the Desert (the Cooper Basin) you’re more likely to get what’s below.

The mini woolly mammoth you see above is an English Leicester Sheep. We called it a 19th century solar panel, for reasons which we’ll reveal shortly. But it was a popular breed of sheep to raise in Australia in the 19th century. The English Leicester Association of Australia explains why:

The English Leicester is a sound, black footed sheep, suitable to most districts of Australia – flat, hilly, or more especially, marginal country. English Leicesters are large framed longwool sheep, with a wide level topline, strong constitution and good temperament. Rams make a superior crossing sire with fine wool ewe to produce prime lamb mothers, inheriting the desirable qualities of the English Leicester breed – large frame body, strong constitution, milking ability and high lambing average. The lambs grow out well to good marketable prime lambs. The English Leicester is classified as a dual purpose sheep, being prized in both the wool and meat markets.

The Leicester sheep is the 19th century version of a solar panel. The meat and wool produced by the sheep are a form of stored solar income. The process is simple. The sun grows the grass. The grass feeds the sheep. Then, through the magic of digestion, the sheep converts sunlight into wool and meat, or calories and warmth.

Sheep need grass, and sun, and water. And someone has to look after them. But in a society organised around agriculture, this is a perfectly sensible way of generating calories and heat. It’s not terribly efficient compared to, say, fossil fuels. But it does make for nice postcards.

And as the chart below shows, the world needs mutton and warmth all the time. The 1950s terms of trade boom actually eclipsed the current boom. The former was driven by wool, the latter by metal, but both by Asia. The question now is what a return to historic averages for the terms of trade will mean to the Australian economy and to investors.

Source: Australia’s Major Terms of Trade and Resource Shocks, 1800-2012: Sources and Impacts

A second resource boom driven by energy won’t prevent mean reversion in the terms of trade. But it might promote a realistic discussion about where Australia’s energy is going to come from in the next 50 years. Mutton is delicious, and lamb cutlets are even better. But unless you want to turn a 21st century industrial economy into a 19th century pastoral economy, you’d better have a serious, adult conversation about more oil and gas. More on that tomorrow.

Regards,
Dan Denning
for The Daily Reckoning Australia

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From the Archives…

How a Slowing Chinese Economy is About to Hand Australia a Pay-Cut
24-05-13 – Greg Canavan

Your Forefathers’ Pain Can Be Your Gain
23-05-13 – Vern Gowdie

The Fatal Flaw at the Heart of Modern Economics
22-05-13 ­– Bill Bonner

The Warning Signs for Australia’s Economy
21-05-13 – Greg Canavan

A Simple Interpretation on Gold for Times of Monetary Madness
20-05-13 – Greg Canavan

Dan Denning
Dan Denning examines the geopolitical and economic events that can affect your investments domestically. He raises the questions you need to answer, in order to survive financially in these turbulent times.
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Ross
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We don’t have an industrial economy, rather we have a fiat economy, and we have been deindustrialising for many decades. The employment numbers say so explicitly. Ranked top 3 countries with largest sheep numbers: 1. China 2. Australia 3. India Having been around sheep sporadically all my life, I’ll leave the comments to the experts. For a light read try Miles Franklin 2006 Winner – The Ballad of Desmond Kale by Roger McDonald whose account of the Merino introduction and those breed qualities that made for the 19th century boom. The genetics of modern sheep is a complex business with… Read more »
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