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Address to the Gas Industry Reform Conference 2004
This has been a year of great change for the gas industry.
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30 August 2004, Crowne Plaza, Auckland
Thank you for the invitation to address you at this conference today.
This has been a year of great change for the gas industry. Firstly, the redetermination of Maui contracts has been concluded, and I'd like to once again thank all those involved. Pohokura has been marketed and contracts are in place for Kupe. We've also announced incentives to further stimulate petroleum exploration. I'm delighted to see that the current year to date figures for currently operational exploration permits are the highest for several years. As the indicated 13 metre oil column discovery off Taranaki suggests, we can be optimistic that this increased level of activity will bear fruit.
This activity is already beginning to result in improved confidence in gas on the demand side. The biggest example of this is Genesis' decision to go ahead with e3p, and Dr Cullen's and my decision to support that with a risk sharing agreement.
I will come back to some of these topics later, as well as mentioning the newly developed governance arrangements and how the global economy is changing to reflect the cost of carbon.
But firstly I'd like to talk about the importance of gas in promoting sustainable economic growth.
This government is well aware of the role gas will continue to play in fuelling our economy. That is why we put the exploration incentives package in place, and took a lead in the redetermination of the Maui contracts.
Gas, Maui gas in particular, has played a significant role in the New Zealand economy over the past thirty years. It fuelled decades of economic growth at an initial price of about 35 cents per Gigajoule (GJ). This was then escalated at a rate lower than inflation. Great news for the beneficiaries of the cheap gas, but terrible news for encouraging new gas exploration. But the gas is now gone, or nearly gone, and so to are the prices that meant no meaningful exploration for replacement gas was taking place. The era of artificially cheap gas is behind us, and so is the era of artificially low electricity prices that went with it.
While no consumer likes to see power prices go up, it has been a necessity in terms of ensuring a reliable electricity supply to underpin economic growth and keep the lights on.
Today, before e3p is built, New Zealand is dependent on gas for over 20 per cent of its electricity. Some will say that given the exploration risks associated with gas, we should jettison our dependency on gas, in favour of increased coal or renewables. It's just not that simple. All generation types have associated uncertainties, lead-times and environmental impacts of their own. Gas has a lot going for it as part of a nationally diverse energy portfolio. We've already got the infrastructure and generating plant in place. That plant has high levels of reliability and flexibility, and gas is relatively efficient and clean compared to other thermal generation options. In short, while we are moving towards a greater diversity of generation sources, gas will continue to play a leading role for many years to come and on balance that is no bad thing.
The rundown of Maui poses a number of challenges for our economy. The government is addressing these. The renegotiation of the Maui gas contract will ensure that as much gas as is economically viable will be recovered from the field. It also removes the Maui price overhang from the market, giving a clear price signal to producers and consumers alike.
Gas exploration in New Zealand has been increasing. This had not though been happening at a level that gave government sufficient comfort, despite the fact that New Zealand is considered to be highly prospective for hydrocarbons.
Increasing the level of gas exploration over the next few years will reduce much of the uncertainty currently affecting the energy market. If successful, it will also substantially contribute to the government's sustainable development goals for energy.
These are the reasons why we developed the gas exploration incentives package at this time. They allow for accelerated exploration so that we will know what our options are before Maui is exhausted, and in sufficient time to make alternative choices should further gas not be found.
The package includes the following measures:
· Reducing the royalty rates for gas from fields discovered before 31 December 2009. Changes to the royalty rates have already been included in the draft Minerals Programme for Petroleum. This draft went out for consultation in June, and submissions have recently closed.
· The acquisition of petroleum data to increase the knowledge of the prospectivity of our petroleum basins. Work is currently underway on this initiative. Officials have met with a number of industry stakeholders to gain their perspective on where data acquisition should be focused. A work programme for data acquisition is being developed as we speak, and is expected to be completed by the end of next month.
· Increased funding for the promotion of New Zealand overseas as a petroleum prospecting destination.
· And finally, last week we announced changes to the so called 183 day tax rule to help remove what has been viewed by many as an unnecessary barrier to exploration.
It is exciting to see the level of drilling activity occurring in New Zealand at the moment. A number of new wells will be drilled over the next year or so. Let's hope that some of these are successful. We have grounds to be optimistic that they will be.
In the short to medium term at least, our gas system will be characterised by a move to supplies coming from a number of smaller fields. In this transitory period investors will have to adjust to different risk settings to reflect the changing characteristics of the gas sector. Gas supply contracts will likely be for shorter periods and the terms within those contracts will change markedly compared to those for Maui.
In the meantime we are in transition, and that has its challenges. Recently the government agreed to share a limited amount of the gas supply risk with Genesis to assist it with the development of the e3p power station. The company advised that without a risk sharing agreement with the government the project would not have proceeded at this time.
Although as a nation we can be confident that further gas discoveries will be made, the timing of the transition from Maui gas to replacement fields meant that Genesis was not able to secure sufficient certainty about its gas supplies at this time to allow it to proceed within normal commercial parameters.
As New Zealand moves to gas production from several smaller fields, access to infrastructure will also be key to enabling gas to be brought to market. Surety of access will help stimulate investment in upstream exploration and development.
In the March 2003 policy statement, the Government invited Maui Development Limited and the Maui downstream parties to develop a proposal for the implementation of open access arrangements.
Development of these arrangements has taken longer than I had hoped. However, I appreciate that the details of implementing the regime are more complex than first thought and in reality could not proceed at any real rate until the renegotiation of the Maui contracts were concluded.
I understand that development of an open access regime is now proceeding at some pace and that Maui Development Limited is targeting implementation by the first quarter of next year. The Crown is watching progress very closely.
The series of measures that have been described above are all to do with managing the transition to a post-Maui era.
In the longer term, there is a need to better define New Zealand's energy future and in particular how we might shape it for the benefit of present and future generations of New Zealanders. Our goal is to shift thinking toward a more sustainable view of energy - one that, where possible, advances economic, social and environmental outcomes together, and has its eye firmly on the long-term consequences of our decisions. Work currently underway by officials on this topic, which I expect to release for discussion later in the year.
Looking out to the long term, two key energy challenges loom for New Zealand, as for the rest of the world, in the coming decades. Gas could play a key role in helping smooth the path of each of these.
The first challenge is peak oil. If current growth in demand for oil continues, and the rate of new discoveries continues to decline, production of oil will peak some time this century and more likely in the first half than the second half. To be honest, we just don't know when the peak will occur and the forecasts vary considerably from just around the corner, to much later in the century. It depends on a range of assumptions, many of which are guesses.
What we do know though is that it's in New Zealand's interests to be ready for it. Beginning a transition now away from oil dependence, through enhanced public transport, alternative fuels, travel demand management, and a carbon charge, will set our economy up well for the future. We need to carefully consider what role gas might play in that transition, and how.
The second challenge is climate change. The global economy is moving, inexorably, into a carbon constrained future. Restrictions on emissions globally will become stricter, and therefore more expensive, with time. This is necessary if the world is to avoid the more disastrous potential impacts of climate change. Kyoto or not, this transition is coming, and it is in New Zealand's strategic interests to be ready for it. In the future, being clean and green will be a competitive advantage not just from a branding perspective, but also directly in terms of costs.
New Zealand businesses are already leading the field in preparing for this. At the same time, they are helping to slow the rate of growth in emissions, bringing the day when we start to see a gross fall in emissions a little closer.
Gas has a part to play in this. It is less carbon-intensive than other hydrocarbons including coal and petroleum. So, as emissions restrictions tighten, it will increasingly provide a competitive advantage. Gas is widely seen internationally as a key transition fuel in the shift from fossil fuels to renewables over the next century.
As with the transition from oil, we do not have certainty on the exact magnitude of the adjustment that will be required. Some use this uncertainty to argue we should do nothing, and continue increasing emissions unconstrained for another five, ten or fifteen years.
But delay will only put our economy and the international competitiveness of New Zealand businesses at risk. We know the changes needed will be significant, and the sooner we get started, the easier the transition path will be. Nor can we afford to use our forest sinks as an excuse for not beginning to make the adjustment. This will only be delaying the inevitable and leave us with a mountain to climb in a short period of time, seriously damaging New Zealand's competitiveness in the future.
The sooner we gradually build a price for carbon into our economy, the more time we will have to adjust. That is one reason why the Government intends to introduce a carbon charge after 2007 - assuming the Kyoto Protocol comes into force, which we have every reason to believe it will. Money raised from the charge will be recycled directly back into the economy, for example through the tax system. Transition measures, such as negotiated greenhouse agreements for industry, policies for small and medium enterprises, and measures to help low-income householders are a necessary part of the carbon charge package.
This government is committed to protecting the economy, environment and lifestyle, and preparing for the future. It will do this on New Zealand's terms in the way that best suits the structure and size of our economy, and positions New Zealand well for the long term.
The prospects for emissions trading, which could replace a carbon charge, look good but it is still early days. Markets are not yet developed to a point that gives business a clear idea of what the price of carbon will be. In short, relying on these markets in the short term is a gamble. The sensible thing to do is to put in place a carbon charging mechanism that is right for New Zealand while keeping a close eye on how traded markets develop.
Now a few words about governance.
Firstly, I'd like to thank the Rt Hon Jim Bolger for his leadership with the Gas Industry Steering Group in drawing up a co-regulatory framework for sector governance that has, I believe, a high probability of delivering what is needed.
The primary principle in developing the co-regulatory approach for the gas industry has been to seek a balance between the industry's desire to manage its own arrangements with enforcement backed up by regulation, and the government's need for a governance framework that is constitutionally sound and able to deliver on the government's objectives for the gas sector.
The government and the industry have worked collaboratively on the development of the co-regulatory model. Industry stakeholders have been extensively consulted with respect to both policy and the legislation that underpins the co-regulatory model.
The essential feature of the co-regulatory approach are:
· The establishment of an industry body. The body will be provided with the power to make recommendations on an array of industry arrangements including the making of recommendations on rules and regulations for non-consumer market issues.
· With respect to consumer and retail issues, the Government will retain regulatory powers without the need for recommendations from the industry body, although on some issues it will have to allow the industry body a reasonable opportunity to make recommendations.
· The industry body will be able to recommend a levy rate to be imposed by way of regulation on all industry participants to cover its costs.
· The industry body will be required to account to the Minister by way of an annual Industry Body Strategic Plan, annual report and an auditor's report.
· A backstop power exists that will enable an Energy Commission to be established if co-regulation is not successful.
I would like to stress however, that it is my preference for co-regulation to be a success, and I would only reach for backstop regulation if the industry process fails. In electricity it did fail and the result is the Electricity Commission. Please don't make me do it twice.
The replacement Government Policy Statement on Gas Governance, released in July 2004 for comment, articulates the government's policy for the gas industry in the areas of wholesaling, transmission, distribution and retailing - all in accordance with the co-regulatory approach.
The first substantive requirement is to have an industry body up and running.
This is where industry plays a crucial part. I await with interest the industry's recommendation on its governance body, and am open to suggestions on the appropriate form, provided that the criteria set out by the Government are met. The date by when the industry must form an industry body and submit it to me for approval is the end of October.
I urge the industry to work collaboratively to meet the Government's objectives articulated in the GPS, and put in place the co-regulatory approach.
I have cause to hope that the gas industry will succeed and we will not need to resort to the creation of a government regulatory agency. Industry progress on open access to the Maui Pipeline is proceeding well with MDL targeting open access commencing in the first quarter of next year. Moreover, I understand that progress on the constitution and governance of the industry body is well progressed.
That is not to say that there are not tensions among the industry players in both these processes. It is only natural that tensions will arise. However, I urge you to work constructively to find solutions.
In closing, the New Zealand energy sector is entering a new era. Changes are required to ensure that the industry and government can meet the challenges presented to advance the security of supply, energy market, social and environmental objectives that we all hold to be important.
Existing gas resources must be used effectively and there must be a new phase of petroleum exploration and development to ensure that security of supply is maintained.
The challenge for you is to make the most of the opportunities that are out there, for new exploration, for co-regulation, to opening new areas of business in a carbon constrained world, and to continue to play a leading role in powering our economy. I am very confident that you are up to the challenge.
Thank you once again, and enjoy the rest of the conference.
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