The coincidence of greenhouse gas (GHG) emissions pricing and the rapid expansion of unconventional gas resources (coal seam and shale gas) have led to one of the most intriguing conundrums facing the energy sector, globally and in Australia. Will Coal Seam Gas (CSG) provide an essential bridge to a cleaner future, will it fall at environmental hurdles or will it lock us into a half-clean state from which escape could prove expensive?

Coal Seam Gas and the energy market

In Australia, gas accounts for 18% of total power generation capacity and 11-14% of generated electricity. Gas power stations can be quickly ramped up and down, making it valuable to meeting variable demand, and this flexibility overcomes its price premium to coal in Australia where gas wholesale prices have generally been around $3-4/GJ, and coal is more like $1-2$/GJ.

Australia has very significant reserves of gas, and those reserves have been growing due to the emergence of new fields of traditional gas such as Gorgon in Western Australia and the development of coal seam gas (CSG) in Queensland. This positive outlook has meant that gas-fired power projects have combined with wind farms, and to a lesser extent, solar PV, to dominate recent additions of new capacity. Wind energy has been supported by the mandated renewable energy target and solar PV by feed-in tariffs levied on consumers by state governments.

This story has been mirrored in the USA with the emergence of shale gas supplies, to the extent that gas prices have fallen dramatically and a country that had been contemplating building massive LNG import terminals only a few years ago now sees an active discussion about the potential for gas exports.

In addition, combustion of gas to produce electricity emits less greenhouse gases than coal: approximately 0.4tonnes of CO2 per megawatt hour of electricity, versus 0.9 tonnes per megawatt hour for black coal and 1.2tonnes per megawatt hour for brown coal. This means that the imposition of a price on GHG emissions will favour gas ahead of black or brown coal. The climate change legislation to come into force on 1 July 2012 carries a fixed cost imposition of $23 per tonne of CO2 emitted. This will add an additional cost to gas-fired power of around$9 per megawatt hour, compared with $18 for black coal and $28 for brown coal.

The other benefit of gas power is that plants can be built with high operational flexibility so that they can balance the intermittency of wind and solar power, an increasingly valuable asset given the growth in these two energy sources.

It is not surprising that the gas industry and many others have seen gas as both a valuable energy resource and source of export revenues, and also a cost effective, medium-term solution to climate change. In this world-view, we can turn to gas to cut emissions whilst we develop the near-zero emission electricity technologies that will be needed in the longer term to truly address the climate change challenge.

The world context

However, the world is more complicated than that. For at least several years, prices imposed on greenhouse gas emissions are likely to be smaller than the impact of export markets for our black coal and gas. After many decades in which domestic east-coast prices were largely insulated from international forces, gas prices are moving towards export parity, with industry indications of at least a doubling of wholesale prices in the next few years, and this could move even higher. The balance of global gas demand and supply from non-traditional sources such as CSG and shale, will largely determine Australia’s domestic prices.

Export prices for black coal have also been strong and will progressively flow through to domestic prices, provided we do not see a proliferation of decisions like that of the New South Wales Government to effectively subsidise domestic coal prices.

The nett result will favour brown coal power for a number of years, given that brown coal does not have the export market opportunity of black coal or gas. Fuel switching between existing coal and gas plants is possible but will be driven by the relative export nett-back prices for gas and coal and progressively, the emissions price. To go further and shut down existing coal plants in favour of new gas plants will require a substantially higher emissions price than is envisaged in the first few years of the emissions trading scheme. Forcing this issue through the Federal Government’s payment for closure proposal seems an expensive way to buy emissions reduction, although it could trigger an increment of new gas generation capacity.

Environmental brakes on CSG development?

These factors do progressively favour gas, although not as strongly as some have assumed. Furthermore, environmental objections regarding CSG extraction could apply a major brake to development. The potential for CSG extraction and concerns that the extraction process could adversely impact water supplies have both been around for several decades. In recent years, the industry has been quick to embrace the former, but has been less than fully effective in addressing the latter. This needs to change.

In addition, questions have been raised regarding the full life cycle emissions of producing electricity from CSG. Although these concerns are partly based on extrapolation from assessments of shale gas development in the USA, the industry and its regulators have been slow to collect and disseminate credible data to refute concerns that fugitive methane emissions during the extraction process might offset the clean credentials that apply to combustion.

The impact of carbon pricing

The potential for a rapid and extended shift to gas for power generation globally has led to a separate concern. A price on emissions that triggers a major shift to gas as a low cost source of greenhouse gas abatement could squeeze out lower emission energy technologies for a decade or more. This issue is gaining the attention of environmentalists and policy makers in a number of countries.

It could mean that the development of technologies that could be lowest cost in the longer term is severely constrained, leading to Australia and the world being locked-in to an asset mix from which it could be difficult, or at least expensive, to achieve decarbonisation of electricity by mid-century.

The nett result of these influences on gas for power generation shows up in a wide range of scenarios and projections, including those from the electricity market operator (AEMO) and independent analysts. Near-term projections are generally positive for gas, whilst projections beyond 10 years or so begin to diverge sharply depending on assumptions regarding the above factors.

Australia is blessed (or cursed?) with a bounty of energy choices. In the medium term, the tide of change would seem to be flowing in favour of gas. In combination with wind and solar developments, driven by current policies to support renewable energy, gas can contribute strongly to the achievement of near-term climate change objectives. However, this achievement may come at a higher price that many will find acceptable, and environment challenges are likely to become stronger. Under most circumstances, gas looks to be a good bet, but whether today’s saviour becomes tomorrow’s satan is the more intriguing question.

*FAQ Research writer Tony Wood is Program Director, Energy, Grattan Institute, and a former executive in the energy sector