Expressing concern about price volatility in the natural gas market, New Jersey, Virginia and Michigan regulators have directed local gas distribution companies to try fixed-price contracts and...
Decontracting: Stranded Costs for Interstate Pipelines?
Competition from Order 636 has gas customers rethinking their firm capacity options.
Just when everyone thought we had put Order 636 behind us, up pops perhaps our greatest challenge yet: the turnback (or "decontracting") of firm capacity on interstate natural gas pipelines. This phenomenon, now emerging on a few major pipelines, such as Transwestern, El Paso, and Natural Gas Pipeline Co. of America, inspires different reactions. Some see the problem as a natural outgrowth of competition. Others believe it foretells a dire future. Either way, the issue will play a central role in ongoing and future debates over rate design, rate incentives, and the management of pipeline capacity.
Decontracting occurs at the point where competitive opportunities (born of Order 636) run headlong into the as-yet, relatively uncompetitive pipeline infrastructure. Strictly defined, "decontracting" describes the behavior of pipeline customers (shippers) that fail to renew their contracts for firm transportation (FT) service. The trend draws concern from pipelines: If they prove unable to resell that released firm capacity, they may find it difficult to recover costs.
No one knows how widespread this phenomenon will become. Last September the Interstate
Natural Gas Association of America (INGAA) released a paper that predicted only a moderate decline in demand for long-term FT. Even though contracts for nearly half of pipeline firm capacity will expire before 2002, INGAA expects three-quarters of that capacity will be resubscribed on a long-term basis, so that over 85 percent of total capacity will continue under long-term contracts. Nevertheless, decontracting will likely develop into a more serious problem in certain supply-to-market corridors.
With pipeline unbundling through Order 636, gas LDCs have effectively assumed control over their FT rights. Thus, decontracting arose in part from the dynamic adjustment process taking place across the natural gas industry, as participants reshaped their business practices to respond to new market realities.
LDCs now take responsibility for managing their contractual rights to interstate transmission and storage capacity; they control how much capacity they place under contract and how that capacity is used. At the same time, state public utility commissions (PUCs) are encouraging LDCs to minimize the upstream costs they pass on to end users. In response, LDCs are relinquishing, upon contract expiration, capacity that exceeds the amount necessary to meet their system reliability requirements. This trend may accelerate as LDC customers shift away from bundled LDC sales service to transportation service.
The drive for efficiency is expanding throughout the entire gas transmission network. Mechanisms mandated by Order 636, such as FT capacity release and flexible use of pipeline receipt and delivery points, in combination with industry initiatives such as the Grid Integration Project, which results in expanded use of pipeline interconnects, are enhancing transactional efficiency on and between pipelines. Complementing these innovations is the evolution of a group of companies providing value-added services. These service providers are developing strategically placed storage fields and pipeline header systems that bind the pipeline grid together, facilitating optimal use of the integrated interstate, intrastate, and LDC infrastructure.
Market centers are boosting market liquidity, giving shippers access to a more