TODAY THE ELECTRIC UTILITY INDUSTRY HURTLES TOWARD massive restructuring. This fervor is not surprising as it appears society has become convinced that market forces can work better than a...
The Future of Fuel Diversity: Crisis or Euphoria?
premium that can reduce catastrophic risks of supply disruption or price spikes.
Currently, U.S. electricity production enjoys a reasonably diverse fuel base. In 2004, domestic coal supplies will produce approximately half of power output, and uranium and natural gas around 20 and 25 percent, respectively. Oil accounts for only about 3 percent of U.S. power production. But reliance on natural gas for power production is destined to grow over the next several years based on the existing hardware in the U.S. generation portfolio.
Fuels Outlook: Rising Dependence on Gas
The big three fuel sources for the immediate future remain coal, natural gas, and uranium (). While coal is the largest single-fuel source for power generation in the United States, natural gas is the fuel that is taking share, for the reasons explained below.
Roughly 200,000 MW of new power plant capacity was added in the United States between 2000 and 2004 to the 1999 capacity base of 903,000 MW. More than 94 percent of the incremental capacity built was natural-gas fueled ().
Today, natural-gas-fueled generation constitutes 39 percent of generating capacity, up from 10 percent in 1999. But in many regional markets, the new natural gas plants are idle for 75 to 80 percent of the hours of the year.
The projected 2 percent per annum growth in power consumption in the coming six years will occasion greater usage of natural gas fuel, since gas-fired power plants make up the bulk of the unused capacity in most U.S. regions. For example, in parts of the Southeast and Midwest, new combined-cycle gas turbines (CCGTs) are expected to operate fewer than 20 percent of the annual hours in 2004, rising to an estimated 40 to 45 percent by 2010. Thus there will be a disproportionate increase in gas generation relative to the overall growth in power consumption.
The projected rise in natural gas consumption comes at an unfortunate time for natural gas supply. North American gas production is simultaneously facing a decline. Exploration and development activity cannot replace reserves with the same ease as in the past. New gas supplies may be developed at higher costs through increased drilling, possibly in the deepwater Gulf of Mexico or Alaskan frontier and wilderness areas, or as a result of increased imports of liquefied natural gas, but none of these sources is a certainty and neither will be available in time to address near-term needs.
In the short run, investors can expect heightened risk associated with extremely volatile fuel prices and constrained fuel supplies. In the current environment, Fitch factors risks driven by commodity price volatility into the credit ratings of companies in the industry (). Credit ratings incorporate a composite of potential risks, some but usually not all of which pertain at a given point in time.
Will Market Forces Save the Day?
One policy alternative is to rely on market forces, such as the signals provided by substantially higher natural gas spot prices, the natural gas forward price curve, or rising coal prices, to spur new investments to foster diverse fuel supply.
Given the long