Supply versus Demand

March 13th, 2008

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Posted by ChrisG at 5:05 pm

The Times last Sunday demonstrated another reason why the kind of confidence with which government representatives typically present the conclusions of their latest piece of futurology should be replaced with thoroughgoing scepticism.

When the South Wales gas pipeline was being touted as an absolute necessity for keeping sweet li’l old ladies right across the UK from freezing to death, one of the key arguments supporting this view was a long-term forecast (provided by National Grid, the Government’s key source of information on gas markets and also of course one of the main beneficiaries of any rise in gas demand) of rising gas demand over the next decade and a half. The demand forecasting methodology employed by National Grid is, like the methodology used by the Government experts who forecasted a continuing growth in air traffic, based on the assumption that, all things being equal, future trends can be unproblematically extrapolated from previous data. However, the danger of such forecasts is the ‘all things being equal’ bit, given that unforeseen events beyond the controlled ‘environment’ one is modelling have a habit of intruding on the simplifications built into the forecast model.

Just as political action over climate change, and the rising cost of fuel, might be about to severely dent the reliability of the air traffic forecasts, changes in worldwide gas prices are about to wreck National Grid’s assurances about the upward trends in UK gas demand. What is not going to remain equal, it seems, is supply. Some analysts saw the Grid’s analysis as seriously flawed, viewing the medium term picture in relation to political and other developments and judging that it was likely that the UK would suffer from overcapacity, rather than from a need for massive new infrastructure to meet demand. It seems that these analysts are about to be proved right. Global gas demand is increasing to the point where higher prices elsewhere are beginning to divert LNG from the UK market.

“We saw UK gas prices come under pressure a bit last year,” said Frank Harris, head of LNG at Wood Mackenzie, the energy consultancy. “There was a view that as the terminals in Wales come on stream and the capacity at Grain increases that prices would crash. That was based on the simple economics of supply and demand. But the way the global fundamentals are moving mean that nothing like the volumes of LNG that could potentially flow through the UK are actually going to arrive.”

In trying to justify the continuing building of more LNG infrastructure regardless of the many arguments that have been marshalled against it, the Grid and the Government will now have to demonstrate how one can maintain that demand is going to increase linearly, mutatis mutandis, alongside the huge rise in gas prices that would be necessary in order to get hold of the gas in the first place. In such an environment, it may begin to look more and more like the confident forecast of increased demand is based on a simplification and selection of variables that serves the interests of the Government’s chief advisor on gas markets at the expense of everyone else’s.