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Northeast Energy Markets: Windfall or Washout?

Fortnightly Magazine - January 1 2000

penetration reaching national levels in New York. When new customers are added, it is assumed that they will use natural gas for both space heating (83.2 MMBtu) and non-space heating services (30 MMBtu), and hence will contribute 113.2 MMBtu of additional load.

Old Power Plants: Replacement

a Net Positive for Gas

A recent EIA study pinpointed that non-fuel costs of generators built before 1960 were, on average, about four times as great as for generators of later vintages.[Fn.11] Naturally, this suggests that newer generators might replace these older generators in competitive markets. The total number of pre-1960 oil and gas generators in the Northeastern states represents significant amounts of generation.

As of 1997, New York had 30 power plants built before 1960 capable of switching between oil and gas, totaling 1,373 megawatts of nameplate capacity. Massachusetts and Connecticut had a total of 29 oil and gas units representing 2,186 MW of nameplate capacity. To the extent these older units are currently burning gas, their replacement with newer, more efficient units with higher heat rates implies a probable decrease in natural gas demand.

By contrast, as of the same date, New York had 1,946 MW of nameplace capacity in pre-1960 oil- and coal-fired power plants. Moreover, Vermont, Maine and New Hampshire had 37 old oil-fired plants, totaling 656 MW in nameplate capacity. Replacement of these units carries different implications. In fact, whether these units even represent likely candidates for direct replacement by new gas-fired plants depends on whether they have access to gas infrastructure. If they are not well-connected to gas supply lines, they may prove likely targets for new investment in gas infrastructure.

Thus, the likely retirement of older plants in this second group of facilities may represent potential growth - not only for the gas commodity, but also for capital investment. Certainly it would appear to offer at least regular returns for new investment in gas-fired power in the Northeast. This conclusion holds up under a price comparison between gas and electricity. In fact, an examination of power and wholesale natural gas prices for the last several years (see Figure 1) reveals that natural gas prices, in equivalent units using a heat rate of 7.8 MMBtu per megawatt-hour (MWh), almost always are less than power prices.

Price Volatility: Also Enticing

for Gas-Fired Power

The power price volatilities in the Northeast are enormous at times and under ordinary conditions exceed natural gas price volatilities, which already are huge when compared to those of other traded commodities. In addition, large changes in wholesale power prices in the summer elicit little or no change in gas prices.

High price volatilities and low correlation between changes in power and gas prices may explain much of the interest of some companies in obtaining rights to operationally flexible gas generation in the area. In fact such situations are dreams come true for companies with effective trading and hedging arms able to keep close track of the market. These companies are in the gravy as long as the conditions supporting the high volatilities and low correlations continue.