The Heritage Foundation

Executive Memorandum #38 on Energy and Environment

October 31, 1983

October 31, 1983 | Executive Memorandum on Energy and Environment

Time to Decontrol Natural Gas Prices

(Archived document, may contain errors)


When President Reagan lift federal price controls from crude oil and refined products 'in January 1981, critics claimed that sharp increases in the cost of home heating oil and gasoline would soon follow. Although. these increases failedto materialize, much the same group of critics now 'C l aims that the President's-plan to remove federal price ceilings on. natural gas will boost prices and hurt the consumer. The critics are just as wrong now as they were in 1981. When the Senate acts on the plan this week, it should ignore the-do6msayers an d look at the facts. The roots of' the current problem go back to the Supreme Court's 1954 decision in Phillips v. Wisconsin, which extended the Federal Power Commission's (FPC) regulatory jurlss-d-11-ction to include the wellhead 'rice p of natural gas so l d across state lines. 'As a result of Phillips, a dual market for natural gas was established: -gas sold between states ("inter- state gas") was subject to federal price ceilings, whilethat produced and consumed in a. single state ("intrastate gas";) was h ot. Not surpris- Ingly, gas supplies on the price-controlled interstate market dwindled over time, while a surplus appeared on the 'intrastate market. It became clear to Congress during the winter of 1976-1977.that controls were a bad mistake. Unusually c o ld weather led to an unexpected-. ly high demand in. the northeast and midwest statbs, which are supplied mainly from interstate pipelines. 'Because contrbls had stifled the interstate market, gas companies had to cut deliveries to business customers to m e et the demand for home heating. The plant closings that followed threw hundreds of.thousands of people out of work and imposed widespread economic hardship. To prevent the crisis from deepening, Congress passed a stopgap measure partially lifting controls so that intrastate gas could'be sold on the interstate market, and thereby gained a temporary respite-frbm the disruption. Congress finally began to addressthe long-@:erm problems resulting from controls with the Natural Gas Policy Act of'1978 (NGPA). Alt h ough called a "decontrol bill," the measure actually extended the scope of FPC authority to include the regulation of intrastate gas sales, in exchange for some limited relief from interstate,controls. A complex system of more than 30 classification categ o ries was established for gas wells. Every category except so-called deep gas was subjected to a price ceiling below market levels. The price of gas.from wells dis- covered after the enactment of the NGPA could be raised gradually until it reached rough eq uivalency with the world price of oil. In designing the mechanism by which the rise would take place, however, Congress chose to use a fictitious "target" price for the


e stimated cost of' a barrel of crude oi l'in 1985 rather than the actual market price at any given moment. 'The result: instead of narrowing the gap between the wellhead price of conventional natural gas and the world price of crude oi.1, the NGPA served to widen it, since partial decontrol all o wed producers. of deep gas to charge prices far above the level a fully decontrolled market would have allowed. This price disparity had predictable results: it encouraged over- development of the highly expensive deep gas, while retarding the develop- me n t of less costly conventional gas supplies. There is now widespread agreement among energy experts that the. removal of price controls would lowerprices to -the consumer by stimulat- ing the production of less expensive gas. In a Heritage Foundation study published earlier this year, it was calcul'ated'that retaining the current system of' pride controls would impose $157 billion in direct and indirect costs on. the U.S. gas consumer over the,next six years. Another study, just released by the Natural Gas S upply Absociation, indicates that within a year of decontrol consumers' gas bills would drop between 5 and 20 percent, realizing a saving of at least. $108.30 a year for an Average family using natural gas for heating. These and other similar studies echo the experience of oil decontrol. Since 1981, decontrol has coincided with a decline in'the pump price of gasoline of approximately 10 percent, despite the addition of between 10 and 14 cents-in new state and federal takes. Over the same period, "controlle d " gas prices rose by 31 percent. Removing natural gas price controls would unleash new supplies and drive down the price, just as decontrol did for oil. Although only :@ive years ago some observers argued that the U.S. was running.out of conven- tional ga s supplies, there is now general agreement that adequate supplies exist--if sufficient incentives are forthcoming to extract them. if controls remain in place, however,half of all conventionalgaB reserves may be left in the ground, according to a study by S hell Oil. Another study, undertakeh. at the Graduate School of Management of the University of Dallas, indicates that full decontrol would not merely reverse the trend over many decades toward declining U.S. reserves, but would bring about a substantial s u rplus of supply. In short, there is no rational argument for continuing the controls that have so long hindered America's ability to produce adequate supplies of natural gas. -only one conclusion can be drawn from the experience with oil decontrol and the projections for gas: decontrol of natural gas prices would bring enormous benefits to the American consumer. Milton R. Copulos Policy Analyst

For further information: Milton R. Copulos, "Natural Gas Deregulation, Giving the Consumer a Choice," Heritage Fou ndation Backgrounler No. 250, March 1, 1983. "Inflammatory Rhetoric," Reason Magazine, August 1983. Gas Price Reductions Under S. 1715, Natural Gas Supply Association, 1730 Rhode Island Avenue, N.W., Washington, D.C., 20036. Increase in United States "Old Gas" Reserves Due to Deregulation, by C. S. Matthews, Shell Oil Company.


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