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Brooks Wilson's Economics Blog: An Energy Revolution?

Tuesday, January 24, 2012

An Energy Revolution?

Hydraulic fracturing, a process that allows drillers to extract natural gas from shale formations, is reshaping markets for energy.  The U.S. Energy Administration reports that natural gas production from hydraulic fracturing increased 48 percent in 2009 to 3,383,532 billion cubic feet from the previous year.  The EA does not report more recent data but producers claim that production continues to grow. 

The price of natural gas has fallen as the its supply increased and its the demand decreased due to the world wide recession and warm winter temperatures in the U.S., benefiting consumers of natural gas and products derived from it like electricity.

Electricity Production 2008-2011 megawatts

Natural gas fired power plants are an important consumer of natural gas and the consumers of the electricity derived from it are indirect consumers.  The supply of electricity from these plants can be stated as an equation without functional form, E=S(P, PI) where E is electricity production, P is the price of electricity and PI is the price of inputs, and as a graph.  As the price of inputs falls, the production of electricity increased from S08 to S11 and as incomes fell and winter temperatures rose demand fell from D08 to D11.  The combined increase in supply and decrease in demand caused prices to fall from $87 per megawatt hour to $39 (“Electricity Declines 50% as Shale Spurs Natural Gas Glut: Energy”). 

Natural gas plants are now the cheapest producers of electricity.  They are also the cheapest to build.  As might be expected, electricity producers have abandoned some plans to produce electricity with other fuels such as coal, nuclear and wind and are developing plans to build natural gas plants.

The switch to natural gas may have important environmental consequences.  As a fuel, it produces significantly less carbon per megawatt of electricity than coal but more than nuclear or wind.  Natural gas does not produce nuclear waste and uses much less surface land than wind, preserving the landscape. 

The Obama administration has not been a friend of natural gas production proposing many regulations that producers claim could halt new production but President Obama believes that greater reliance on natural gas production could be an area of compromise between Democrats and Republicans and will call for cooperation in promoting its production (“Obama to tout natural gas benefits in State of Union”).  For years, the federal government under both Democrats and Republicans has promoted the production of alternative fuels such as ethanol, wind, and solar.  Again, the wisdom of markets surpassed that of the wisest government planners.  Markets are usually the best way to organize economic activity.

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