For fans of the fuel, Exxon
Mobil's takeover of XTO Energy, announced recently, signals the dawn of the age
of natural gas. That is good news for the
U.S.
chemicals industry.
Some 70% of
America
's production capacity for ethylene,
the most common basic building block of chemicals manufacturing, uses gas as a
feedstock. After years of hovering around $2 per million British thermal units
(BTU), average annual
U.S.
gas prices rose sharply this
decade, hitting almost $9 in 2005 and 2008.
With its main raw material suddenly expensive,
America
's chemicals industry lost a
critical competitive edge. Employment in the industry went into a marked
decline from 2000 onward. Chemicals sector capacity utilization never got above
80% in the past 10 years -- the first decade that has happened since World War
II.
While high prices were battering chemicals firms, they were encouraging the
likes of XTO to unlock
America
's vast unconventional gas reserves.
This new supply, along with the recent recession, pulled prices back down. The
spot price today is $5.49 per million BTU.
Equally important is that oil remains expensive relative to gas. Ethylene
plants using oil-derived feedstock like naphtha are predominant outside the
U.S.
, accounting for two-thirds of the
world's ethylene capacity, says Hassan Ahmed, a partner at independent research
firm Alembic Global Advisors. While in purely energy-equivalent terms, oil
should be six times the price of gas, oil's greater versatility means the
long-run average is closer to eight times. Today, the ratio is almost 14 times.
As the highest cost producers, plants using oil feedstock set the marginal
price of ethylene. That means bigger profits for
U.S.
producers. At current gas prices,
HSBC calculates
U.S.
chemical plants using gas produce a
ton of ethylene for between $550 and $600. Ethylene prices right now are above
$1,100 per ton.
Some see Exxon's move as bullish for gas prices, but XTO's decision to sell
suggests the near-term outlook is less rosy. If gas prices stabilize in a range
of $6 to $7 per million BTUs, oil prices would in theory have to drop toward
the unlikely level of $40 a barrel for
U.S.
chemicals producers using gas to
lose the edge regained with gas's price drop.
So American chemicals output may be due a revival. In practice, though,
investment in new ethylene capacity in the
U.S.
looks some years off. Burned by the
gas price's volatility earlier this decade, and the focus having shifted to new
plants in the
Middle
East
,
which also sits atop vast quantities of gas, chemicals firms would need to see
a few years of stable, healthy profits before opening new plants at home.
The biggest repercussions are likely to be felt in
Europe
and
Asia
, where the bulk of the world's
oil-based ethylene capacity resides. South Korean producers like LG Chemical
and Honam Petrochemical perhaps face the biggest threat.
At $60 crude oil and $6 gas, it costs South Korean producers using naphtha
$1,015 to produce a ton of ethylene, compared with $540 a ton for U.S.
gas-derived ethylene, says Mr Ahmed. Middle-Eastern gas-based producers are even
more competitive and will also target Asian markets.
Over time, exports from gas-based plants in the
U.S.
should displace some oil-based
plants in
Asia
and
Europe
. That, in turn, would be negative
for oil prices, since almost a 10th of global consumption is for petrochemicals
feedstock. For Exxon, though, it would fit with their latest long-term bet.
Overheard
The
Federal Reserve figures in plenty of nonfiction accounts of the financial
crisis. Now comes the fiction. "Union Atlantic" by Adam Haslett, to
be published in late January, revolves around a bank that figures it is
"too big to fail."
At one point, Union Atlantic's CEO comes face to face with Harry Graves,
president of the New York Fed, after bad trades put the Boston bank at risk.
"Let me start by saying,"
Graves
says,
"that if you or your board is under the impression that Union Atlantic is
too big to fail, you're mistaken. There's no question here of a bailout. If you
go under, the markets will take a substantial hit, but with enough liquidity in
the system we can cut you loose."
"This, of course, was a bluff," Haslett writes, in a novel finished
during Lehman's failure last fall. "Henry had already begun receiving
calls from the Treasury Department."