We should get used to paying more for gas

With the coal seam gas boom in Queensland, companies like BG Group and Santos invested billions of dollars to build facilities at Gladstone that would allow them to deliver gas to foreign markets.

When these export facilities become operational in 2014/15, Australian producers will have the option of selling to the domestic market or to gas-hungry foreign markets like Japan where prices are up to three times as high.

Industry groups and unions claim that the looming surge in gas prices will cause serious damage to manufacturing and other gas-intensive industries. Their proposed solution: to reserve a proportion of gas extracted in Australia for the domestic market.

While the new Federal Minister for Energy and Resources, Ian MacFarlane, has maintained the former Labor government’s opposition to such a scheme, he has softened that opposition in a key respect. The Coalition Minister has flagged support for an ‘acreage reservation’ policy. Under MacFarlane’s scheme, the government would reserve parcels of gas-abundant land that could only be used to service the domestic market.

But gas reservation of any flavour is a poor policy option.

For one, there is no evidence of a market failure that would justify an intervention. NSW is not is facing a supply crisis. Australian users will have access to gas; they will simply be forced to meet the price that others in the Asia-Pacific are willing to pay.

As chair of the BG Group, Catherine Tanna, recently remarked, “when gas users say gas is unavailable, they are often really saying they cannot contract gas at a price they want to pay”.

The justification for gas reservation relies on the promise of price benefits to downstream firms and households. Advocates of the policy claim that for every $1 of lost export income many times that amount will be gained by gas-intensive industries like manufacturing.

Yet in October, Deloitte Access Economics released a study that projected the impacts of a federal policy of gas reservation. It found that a reservation policy would in fact have a significantly adverse impact on Australia’s economic welfare. The results were roughly consistent with those of a study commissioned in 2009 by the Queensland government.

The modelling simply confirms what economists have said for some time. Export restrictions distort the operation of efficient markets. They act as an implicit tax on exporting firms and they inefficiently subsidise domestic industry.

So who would benefit from a reservation scheme?

Exporting firms, forced to divert their production to domestic markets, would see their incomes decline. Governments, in turn, would receive substantially reduced tax receipts and royalties. Manufacturing firms would be protected from competition, which would stifle innovation and growth in the long run.