Gasoline: 70 percent off

Six years ago, the New York Times profiled Charif Souki, the chairman of the Cheniere Energy company, which was building a nationwide network of natural gas import terminals. North American production of natural gas was declining, and Souki hoped to cash in on increased natural gas imports.

Now, just a few years later, the price of natural gas has collapsed, largely due to an enormous increase in American supplies made possible by new discoveries and technologies. In January the Times ran another story on Mr. Souki. It was headlined, “U.S. Company, in Reversal, Wants to Export Natural Gas.” His Cheniere Energy is now planning to spend at least $10 billion to convert its import terminals into export terminals.

Cheniere’s story highlights the incredible shift in the natural gas industry over the past decade. In the early 2000s, experts believed the U.S. would soon be forced to import most of its natural gas from foreign sources, and the industry invested billions to expand import capacity by almost 900 percent, from 2 billion cubic feet per day to 17.4 billion feet per day. Today, most of these facilities remain unused while companies like Cheniere Energy race to expand America’s capacity to export natural gas. 

The reversal comes thanks to the shale gas revolution, improvements in technology that have made it possible to retrieve the natural gas trapped in shale. In the period of just a few years, our estimated supply in North America has gone from less than a decade’s worth of gas left to more than a century’s worth.

Several weeks ago in this newsletter, I suggested $2.50 should be an attainable price for a gallon of gasoline with an aggressive American energy policy which, among other things, greatly expands drilling permits for federal lands. $2.50 would be about a one-third decline in price from Monday’s national average of $3.77 per gallon.

The Left and their allies in the media—who would sooner see prices rise to $8 a gallon than make pickup trucks and SUVs affordable to fill up—defensively protested that $2.50 a gallon was “unrealistic,” or even, in the words of David Axelrod, “magic fairy dust.”

My suggestion to lower gasoline prices is based on exactly the same “magic fairy dust” that has caused the price of natural gas to decline 70 percent since 2008: supply and demand. Before the shale gas revolution dramatically enlarged our supply, natural gas cost almost $8 per MMbtu in 2008. At the end of last week, the spot price was $2.36  per MMbtu. This steep crash in price came with just an 11 percent increase in total production from 2008 to 2011.

A similar 70 percent drop in gasoline prices would give us $1.13 a gallon gasoline. That’s less than half of the $2.50 a gallon I have argued should be realistic. So while it’s not possible to make a direct comparison between the oil market and natural gas markets, there should be no doubt that a substantial supply increase can yield a big drop in price. Expanding our exploration and development of oil can bring similar economic forces to bear on the cost of gasoline that have produced this collapse in natural gas prices.

Critics on the left claim that any effect of expanded federal leasing on oil and gas prices will be years away. But that’s simply not true. An real commitment to an American energy policy can put downward pressure on prices right away, since the market anticipates future supply changes  today. Martin Feldstein, chairman of the Council of Economic Advisors under President Reagan, addressed this effect in the Wall Street Journal back in 2008, as candidate-Obama was claiming (like he still is today) that we couldn’t “drill our way out” of higher gas prices. Feldstein wrote that “any policy that causes the expected future oil price to fall can cause the current price to fall, or to rise less than it would otherwise do. In other words, it is possible to bring down today’s price of oil with policies that will have their physical impact on oil demand or supply only in the future.” The President could help relieve consumers immediately by ending his opposition to substantial new oil and gas development.

The credible promise of increased American energy production can have other positive economic effects in the near future as well. In the case of natural gas, the shale revolution has made home heating and manufacturing less expensive, and some manufacturing jobs are already returning to the US because of the lower cost of energy from natural gas. A commitment to more development of American oil supplies will only accelerate these trends.

The record low price of natural gas is itself likely to help tame the rising cost of gasoline. At no time in recent history has natural gas been cheaper relative to oil:

By substituting natural gas for gasoline where economically rational, such as in public transportation fleets or other vehicles that are expensive to operate on gasoline, reduced consumption of gasoline will also help drive prices down. And because natural gas is roughly 75 percent cheaper than oil on an energy equivalent basis, companies and individuals are responding to the prices all by themselves. In fact, Chrysler and General Motors this week are announcing pickup trucks powered by natural gas.

The contrast could not be clearer: President Obama has killed jobs and taken hundreds of billions in taxpayer money to support fantasy technologies which aren’t ready and which are more expensive than gasoline.

We want to use the power of supply and demand to lower the price of gasoline, create jobs, and allow Americans to voluntarily choose cheaper forms of energy, using technology that’s ready to go in cars and trucks today.

Who’s not being realistic again?