Powering down the economy Record natural gas prices yield widespread effects

By Myra P. Saefong, CBS.MarketWatch.com Last Update: 5:05 AM ET Dec 9, 2000 NewsWatch Latest headlines Get Alerted

NEW YORK (CBS.MW) - This year's quadrupling in natural-gas prices to record levels, already posing a severe threat to businesses in the western United States, also threatens to have a wider impact on the nation's earnings and economic growth, analysts say.

Natural gas for delivery in January, which is used primarily to heat homes and businesses, peaked at $9 per million British thermal unit on Thursday -- a first for futures trading on the New York Mercantile Exchange. A year ago, the futures contract traded around $2.70.

While the stunning gains will hit consumers and businesses nationwide, economists say California may take the brunt of it because it's already facing an inventory shortage ahead of the rest of the country.

California's prices are twice as high as in other regions, which up to now have only faced initial effects of tight supplies and cold weather, according to Allan Brady, an economist at West Chester, Pa.-based Economy.com. "We've got greater demand for natural gas coming from utilities, largely because a greater percentage of electricity is generated using natural gas in the West than in other parts of the nation," he said.

Tight natural gas supply will only get worse as electric utilities increasingly depend on it because it's the cleanest way to produce electricity, Brady added.

Big manufacturers

Big consumers like chemical and steel makers will be hit hard by the effects of the price jump in natural gas, according to John Kilduff, senior vice president of energy risk management at Fimat, an arm of Societe Generale Group.

In September, Dupont (DD: news, msgs) issued an earnings warning, citing in part higher-than-expected energy costs. In 1999, the chemicals giant spent about $10 billion on raw materials, and this year it expects to spend $1 billion more because of the price for oil, natural gas an other raw materials, said Dupont spokesman Clif Webb. See related story.

"In places like New York and other cities where real estate is already tight these high energy prices are being built into lease rates as an add on ..."

VP John Kilduff, Fimat And companies that are just starting out are also considered vulnerable.

"In places like New York and other cities where real estate is already tight, these high energy prices are being built into lease rates as an add on, making already high-priced real estate even further out of reach particularly for a start-up type company," Kilduff said.

Even retail stores -- already operating on thin profit margins -- have to deal with the energy costs associated with their business, he added. "That's a significant operating increase for them."

Consumer concern

Soaring natural-gas prices are also causing concern among residential customers, especially those who have little to spare for the increased cost to heat their homes. "The problem is more on the marginal consumer - the lower-income households," said David Ingram, a senior economist at Economy.com.

But Staci Homrig, a spokeswoman for Pacific Gas & Electric, the unit of PG&E (PCG: news, msgs) serving 3.8 million natural-gas customers in California, said her company's customers are "largely sheltered" from the spikes of natural-gas prices on the spot market.

Only 10 percent of the gas used by Pacific Gas & Electric customers is purchased on the spot market, she said, while another 20 percent come from purchases made ahead of time at a lower price. The rest is attained on the futures market or under fixed contracts.

If all of the utility customers' gas were purchased on the spot market, that would amount to about $4 per therm, according to Homrig. Instead, they're paying about 75 cents per therm on their December bills.

PG&E expects the average December heating bill to rise to $77 from $50 last year, Homrig said.

Unnecessary spending

The economic effects of consumers diverting money from unnecessary expenses because higher heating bills could be widespread.

If high natural gas prices persist, it could "put upward pressure on wage costs and ultimately could affect monetary policy etc."

Senior Economist David Ingram, Economy.com Although most U.S. consumers have enough budget wiggle room to absorb price swings, they might be forced to hold back on overall spending, Ingram said. But the prospect of spending more to heat their homes is "going to have a deleterious effect on their consumption of luxury goods," he said.

A colder-than-normal winter could keep prices at their current high level or pull them higher, prompting worries that the high energy costs may indirectly push up the core rate of inflation, Ingram said.

If unions decide that energy prices will increase or remain high over an extended period of time, they push harder for higher pay, Ingram said. That would "put upward pressure on wage costs and ultimately could affect monetary policy etc.," he said.

While that's unlikely at this point, it's still a possibility depending on the "energy shock persistence" and whether or not forecasts for natural gas prices to moderate in the late spring to early summer come true, Ingram said.

Cause and effect

Even if natural gas prices are expected to ease once the winter heating season ends, people shouldn't count on prices dropping back to the year-ago level of $2 anytime soon, Ingram said. "Supply is going to be difficult to find, and it's going to require a couple of years to build it up," he said.

The price increase in natural gas, "which actually represents a quadrupling of price in a year's time, will work its way into the system."

John Kilduff The price increase in natural gas, "which actually represents a quadrupling of price in a year's time, will work its way into the system," Kilduff warned, and could be in place by the spring or summer.

"The average price over the past year has equaled about $3.90 (per million BTU) so this price spike we're experiencing is a small part of a longer term equation," he said, forecasting that prices won't fall much lower than $4.

Ingram may have put it best: For now, "We just have to pay through the nose and cut back expenditures in other ways."

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-- Martin Thompson (mthom1927@aol.com), December 10, 2000