Hogsback compares crystal balls with Wood Mackenzie

IT’S a brave or foolish man who disputes the analysis of a top energy consulting firm such as Wood Mackenzie and since Hogsback is definitely not brave, he must be a fool to say there’s a large hole in WoodMac’s latest report on coal.

Tim Treadgold

What’s even more interesting is the hole has a name – the United States of America, one that should be well known even at WoodMac’s head office in Scotland.

The problem, which might be the result of blinkered vision on the part of the coal team at the consulting firm, is the US is surfing on a glut of natural gas, a fact which caused The Hog to indulge in a game of join-the-dots.

First dot to consider is what WoodMac said about the changing economics of coal mining in China.

The second dot is to consider the claim that this will benefit Australian coal producers.

The third dot – and the one which does not seem to have been taken in the WoodMac coal report – is to consider what effect changing energy economics in the US will have on its coal industry.

To understand, let’s start at the beginning with reports carried in the financial media on the original WoodMac coal analysis because it was a story in the Wall Street Journal which caused The Hog to think there’s more at work than simple Chinese coal mining costs.

The WSJ reported the consultancy told clients China’s rising internal coal production costs would be good news for Australian miners.

WoodMac reportedly believes it will be cheaper for Chinese provinces close to the coast to “source 90% of their coal from overseas by 2015”

Factors at work in changing Chinese coal production economics include long internal haulage charges, rising labour costs and the rising value of the Chinese currency which will make it cheaper to buy coal (and foreign coal mining companies).

“By 2015, our modelled scenario shows that 857 million tonnes of coal could be imported into China below the 90th percentile of domestic Chinese coastal supply costs,” WoodMac is quoted as saying.

That does not mean 90% of coastal coal consumption will be imported but it highlights the point most imported coal will be cheaper than the local product and that means opportunity for Australian miners.

But – and this is where The Hog’ bristles twitched – why just Australia, why will other big coal producing countries not enjoy the same potential benefit of being able to land coal in China and undercut the local mines?

The answer seems to be that no one is considering the changing energy economics of the US where the sudden boom in gas production is encouraging power station owners to switch from coal to gas, for exactly the same reason affecting China but with a twist – energy costs are falling in the US, not rising.

What’s happened is production of gas from hard rock units, such as shale – once considered uneconomic, has become economic thanks to modern drilling and gas extraction technology, such as the controversial fracturing of deeply buried rock to release the gas.

While the shale gas revolution has been 20 years in the making, it arrived with a vengeance about three years ago, with a gas glut driving the price of gas down from a peak of close to $US13 per million British Thermal Units to less than $US4/MMBtu and around Christmas to less than $US3/MMBtu.

Gas gluts have occurred before and power companies have been burned by investing in gas turbines rather than coal or nuclear power stations, only to discover the glut dissipates and the price rises.

This time it might be different and while we’ve all heard that before, the shale gas boom in the US is being seen as a 100-year event because the volumes of gas trapped in shales are enormous and gas explorers now know how to get it out.

And this time there really is a big gas-fired power station boom underway in the US, thanks to the combination of the lower gas price and encouragement from the government to make the switch from coal as part of an environmental clean-up.

What has this got to do with the Australia-China coal relationship?

Not much, yet.

But, what seems likely to happen is as gas use rises in the US power sector, the temptation will be for US coal miners to look across the Pacific and make a move to snatch a slice of the lucrative China market which WoodMac says will be even more lucrative by 2015.

All of this scenario-painting falls into a category known as crystal-ball gazing but, if it’s good enough for the boys and girls at WoodMac, it’s good enough for an old Hog.