Shale gas could change the balance of economic power

WHAT PASSES for political debate between the coalition and the Labour opposition these days has focused heavily on the ‘cost of living’ argument, with soaring energy prices at the centre of the issue. The UK does not have a general inflation problem but is seeing a change in relative prices. The annual rate of CPI inflation is less than 3%, but with gas and electricity prices increasing by more than 8% – when earnings growth is subdued – energy prices are a hot political issue.

On top of this, many authoritative bodies have been voicing concerns about energy supplies. The output of North Sea oil and gas is in decline, and there will be a loss of capacity during the next decade as coal-fired capacity closes around 2015 and most nuclear power stations reach the end of their productive lives. Couple this with the objective of moving to a low-carbon economy and the potential for shortfalls is obvious.

As the UK’s self-sufficiency in energy diminishes and dependence on imports increases, the coalition intends to develop supplies that are secure, diverse, affordable and low-carbon. An interesting new entrant into this mix has been shale gas, or fracking, which is having a significant impact on the US energy sector and economy.

Shale gas has transformed America’s energy outlook. It is set to become self-sufficient in natural gas and could even become an exporter, and it has reduced carbon emissions. Shale gas production soared to ten billion cubic feet per day in 2010, with the potential to quadruple by 2040. Shale gas could account for more than 50% of US natural gas production over the next two decades. As well as balance of payments benefits, fracking will reduce the country’s dependence on Middle East oil, which could have implications for the balance of global political and economic power.

Substantial deposits of shale gas are thought to exist in the UK. According to the Department of Energy and Climate Change, the best shale gas potential lies across swathes of southern England, and recent explorations in Sussex led to local protests. There have been concerns about fracking, such as earthquakes, water pollution and risks to public health from gas emissions. Various independent and academic bodies have made re-assuring comments on the risks, although these are unlikely to stop the protesters. This time, as southern England is the affected area, there is an additional political dimension. But all energy sources come with risks and most people accept a modern economy cannot be powered by wind farms alone. Regulation is in place to ensure the dangers from the fracking process are minimised, although there is a risk that the EU will go too far down the regulatory road. The commission is concerned that cheap shale gas could put suppliers of renewable energies out of business.

There seems little doubt that unless it is over-regulated, shale gas should make a significant contribution to the UK’s energy supply at a time when other sources are less reliable. The impact on prices is less clear. The government hopes that shale gas will help contain household energy bills, now averaging £1,300 a year – twice what they were ten years ago. While the abundance of shale gas will reduce the pressure on oil prices, it is not certain this will mean lower prices. But guaranteed supply should be a higher priority than lower prices for the economy as a whole.

Given the uncertainties of North Sea oil and gas, the timescales of cranking up nuclear reactors, the unreliability of wind farms and a reluctance to depend on imports, the government is right to encourage shale gas. In terms of jobs, taxes and the balance of trade, fracking has an important part to play in the economy. The environmentalists’ case has been weakened by analyses from non-political, non-commercial bodies and just as North Sea oil replaced coal in the 1980s, so the UK can move to the next energy source as the North Sea declines.

Dennis Turner is the former chief economist at HSBC