Coal Price & Availability Study

Transcription

1 Coal Price & Availability Study Report for the Electricity Commission SEPTEMBER 2009 Prepared By:

2 DISCLAIMER NOTICE Report for the Benefit of the Electricity commission This report has been prepared exclusively for the benefit of the Electricity Commission. PB New Zealand Ltd (PB) will not be liable to any other persons or organisation and assumes no responsibility to any other person or organisation for or in relation to any matter dealt with or conclusions expressed in the Report, or for any loss or damage suffered by any other persons or organisations arising from matters dealt with or conclusions expressed in the report (including without limitation matters arising from any negligent act or omission of PB or for any loss or damage suffered by any other party relying upon the matters dealt with or conclusions expressed in the Report). No person or organisation other then the Electricity commission is entitled to rely upon the Report or the accuracy or completeness of any conclusion and such other parties should make their own enquiries and obtain independent advice in relation to such matters. Reliance on Data In preparing this Report, PB has relied on information supplied by and gathered from a number of sources including public domain and proprietary data services, internet sites, news services as well as parties involved in the industry. Any projections are estimates only and may not be realised in the future. No blame or responsibility should be attached to any of these sources for any factual errors or misinterpretation of data in the Report. PB has not independently verified the accuracy of this information and has not audited any financial information presented in this Report. Limitations This Report covers technical data relating to coal prices and availability and is based on the facts known to PB at the time of preparation. This report does not purport to contain all relevant information on coal reserves and prices. PB has made a number of assumptive statements throughout the Report, and the Report is accordingly subject to and qualified by those assumptions. The uncertainties necessarily inherent in relying on assumptions and projections mean that it should be anticipated that certain circumstances and events may differ from those assumed and described herein and that such will affect the results. PB Quality System: Document Reference : Report Revision : 006 Report Status : Prepared by : Reviewed by : Approved by : A Coal Study Report v006 final.doc Final Neil Wembridge, Dave Burbidge, Ross Wildes Nick Barneveld Nick Barneveld Date Issued : 10 September 2009 Over a Century of Engineering Excellence Quality Management System Certified to ISO 9001: 2000 PARSONS BRINCKERHOFF

3 Coal price and availability PB Report for the Electricity Commission Contents Page Number 1 Introduction Background Tasks 1 2 Key drivers of coal price Introduction Global coal demand and supply Availability and prices of substitute fuels Technology developments International policy settings Carbon Emissions Trading Scheme (ETS) effects Australia s Carbon Pollution Reduction Scheme (CPRS) The international coal market Domestic coal demand Domestic reserves and production Domestic costs and prices Net result: Domestic production, imports, exports and prices 24 3 Coal and oil price relationship Introduction Historic price trends Current price trends Substitution value 30 4 New Zealand coal price and availability projections Introduction Modelling Base case results Scenario analysis Lignite modelling Summary 41 5 Glossary Definitions 42 List of tables Table 2-1 Domestic reserves by rank and region, PJ, Table 2-2 Production by rank and region, PJ, Table 2-3 Determinants of domestic coal prices 24 Table 4-1 Base case assumptions 34 Table 4-2 Increased coal demand case assumptions 36 Table 4-3 Reduced coal demand case assumptions 37 Table 4-4 Demand shift up: Case assumptions 38 Table 4-5 Demand shift down: Case assumptions 39 Table 4-6 Lignite modelling assumptions 40 PARSONS BRINCKERHOFF Page i

4 Coal price and availability PB Report for the Electricity Commission List of figures Figure 2-1 World coal demand figures (2002 to 2030) 4 Figure 2-2 NZ quarterly gas production 6 Figure 2-3 World recoverable Coal Reserves as of January 1, 2009, billion short tonnes 16 Figure 2-4 Coal consumption by sector, Gross PJ, Figure 2-5 Coal consumption shares by sector, Figure 2-6 Net electricity generation by plant type, GWh, Figure 2-7 Net electricity generation by plant type, GWh, Figure 2-8 Coal consumption by the other transformation sector, gross PJ, Figure 2-9 Solid energy coal resources and costs, by region, Figure 2-10 Domestic coal production, exports, imports and consumption, Gross PJ, Figure 3-1 Coal, natural gas and oil price index changes, Figure 3-2 Coal conversion potential 30 Figure 4-1 Base Case: Price-availability supply curve 34 Figure 4-2 Base Case: Domestic supply and price 35 Figure 4-3 Increased coal demand case: Domestic supply and price 36 Figure 4-4 Reduced coal demand case: Domestic supply and price 37 Figure 4-5 Demand shift up: Domestic supply and price 38 Figure 4-6 Demand shift down: Domestic supply and price 39 Figure 4-7 Lignite: Domestic supply and price 40 Figure 4-8 Scenario supply quantities 41 Figure 4-9 Scenario price paths 41 List of appendices Appendix A Price and availability modelling data PARSONS BRINCKERHOFF Page ii

5 1 Introduction 1.1 Background The following paragraph is taken from the received from the Electricity Commission, dated Tuesday 9 th June 2009: The Electricity Commission's (Commission) Generation Expansion Model is capable of providing least cost build schedules of new power stations under various scenarios. To date, the cost and availability of coal has been fixed across the generation scenarios at $4/GJ. In addition, unlimited quantities are assumed to be available at this price over the entire modelled time horizon, which is usually 30 years. In view of refining the assumptions for the next grid planning assumptions, the Commission needs advice on coal availability and price 1.2 Tasks In order to provide the required information to the Commission, this study has been divided into three main tasks. Task 1 Describes the key drivers of the coal price. Task 2 Describes the relationship between coal and oil prices. Task 3 Provides New Zealand coal price and availability projections for the next 40 years. PARSONS BRINCKERHOFF Page 1

6 2 Key drivers of coal price 2.1 Introduction EC brief Describe key drivers of the coal price, e.g. demand and supply conditions, price of substitute fuels, emissions pricing, technology developments such as CCS PB approach PB has provided a review of the main drivers of the coal price including: Global coal demand Global coal supply conditions Availability and prices of substitute fuels Technology developments Regulatory settings such as carbon emissions charging The abundance of coal on the international market and the intensity of international demand for coal indicate that New Zealand s domestic coal market is heavily influenced by the behaviours of those that New Zealand exports to and imports from. The availability of coal supply into New Zealand and the prices at which it can be sourced is driven by a myriad of physical, economic and technical factors: the domestically available reserves 1, technologies involved in extraction, and associated costs, the potential for importing coal, import prices, and supporting supply chain infrastructure, the trade in substitute commodities will impact coal demand and prices, and wider economic conditions like terms of trade, inflation rates and movements in the business cycle. The complexity involved in understanding these drivers is compounded when the task at hand involves forecasting coal availability and prices in New Zealand for the next 40 years. 1 New Zealand has one of the highest per capita coal reserves in the world PARSONS BRINCKERHOFF Page 2

7 To understand the drivers of coal availability and prices in New Zealand, and the behaviours of these drivers into the future, we provide a description of coal demand and its composition. The end-uses of coal mainly in energy generation and steel making determine which types of coal is required and in what quantities. Then, with an understanding of coal demand and the international coal market, we then investigate domestic production, exports and imports. The review has been completed using PB in-house data and publicly available information. 2.2 Global coal demand and supply Global demand for coal Global coal demand is expected to grow at a rate of around 2% per year to Around 90% of the corresponding increase in global coal production from is expected to occur in non-oecd countries, with China set to almost double its coal output to help meet an average annual demand growth rate of 3%. Elsewhere, the US sees average annual demand growth of 0.6%, while Europe is projected to witness a reduction in demand of on average 0.5% per year. This is in contrast to regions such as South America with projected demand growth of 3.8% per year and India with 4.1% per year 2. From , global coal use rose 7% with China (15% rise nationally), Russia (7% rise nationally) and Japan (5% rise nationally) having the biggest contributions. Figure 2-1 shows the coal demand in 2002 compared to the projected 2030 demands and the percentage share of coal fuel in electricity generation The Coal Resource A Comprehensive Overview of Coal, World Coal Institute, PARSONS BRINCKERHOFF Page 3

8 Figure 2-1 World coal demand figures (2002 to 2030) Figure 2-1 highlights the trend of increasing demand for coal towards the developing nations, in line with projected increases in the energy demand per capita in these countries over the same period Global coal supply conditions The following information has been sourced from the US Energy Information Administration 4 : Total recoverable reserves of coal around the world are estimated at 929 billion tonnes. Although coal deposits are widely distributed, 80 percent of the world s recoverable reserves are located in five regions: the United States (28 percent), Russia (19 percent), China (14 percent), other non-oecd Europe and Eurasia (10 percent), and Australia/New Zealand (9 percent). In 2006 those five regions, taken together, produced 4.9 billion tonnes (95.8 quadrillion Btu) of coal, representing 71 percent (75 percent on a Btu basis) of total world coal production. By rank, anthracite and bituminous coal account for 51 percent of the world s estimated recoverable coal reserves on a tonnage basis, sub-bituminous coal accounts for 32 percent, and lignite accounts for 18 percent. Australia and Indonesia are well situated geographically to continue as the leading suppliers of internationally traded coal, especially to Asia. South America is projected to expand its role as an international supplier of coal, primarily as a result of increasing coal production in Colombia. 4 PARSONS BRINCKERHOFF Page 4

9 2.2.3 Coal quality Quality and geological characteristics of coal deposits are important parameters for coal reserves. Coal is a heterogeneous source of energy, with quality (for example, characteristics such as heat, sulphur, and ash content) varying significantly by region and even within individual coal seams. At the top end of the quality spectrum are premium-grade bituminous coals, or coking coals, used to manufacture coke for the steelmaking process. Coking coals produced in the United States have an estimated heat content of 27.7 GJ per tonne and relatively low sulphur content of approximately 0.8 percent by weight. At the other end of the spectrum are reserves of low-gj lignite. On a GJ basis, lignite reserves show considerable variation. Estimates published by the International Energy Agency for 2006 indicate that the average heat content of lignite in major producing countries varies from a low of 4.7 GJ per tonne in Greece to a high of 13.1 GJ per tonne in Canada. 2.3 Availability and prices of substitute fuels Recent trends in power generation in OECD countries have seen shifts towards higher efficiency gas fuelled thermal generation and increased demand for renewable generation such as geothermal, hydro and wind. With the advent of a carbon emissions charge, the unit cost of electricity generated from competing forms of generating plant will be comparable and potentially less than that from traditional coal fuelled subcritical steam plant. Carbon charging is acting as a driver for higher efficiency in existing thermal plant and increasing the demand for viable carbon capture and sequestration solutions. The US Energy Information Administration predicts that coal and gas will fuel two-thirds of global electricity generation in The largest country shares of the demand for thermal fuels will originate from China and India, accounting for around 50% of the increase in thermal fuel demand. Consistent high prices for both natural gas and oil will keep coal fuelled generation a more attractive economic option for nations that are rich in coal resources, which include China, India, and the United States Natural Gas As at 2007, proved global reserves of natural gas was equivalent to between 50 to 60 years of global annual consumption 6. With the recent developments in global LNG capacity and infrastructure, both demand for and supply of natural gas has been increasing. Demand for gas from non-oecd countries is currently rising twice as fast as the OECD countries. Since there is currently no import or export of natural gas in New Zealand, the price of gas is primarily determined by domestic supply and demand. There are a number of uncertainties in the estimates of gas resources: Geological and operations PARSONS BRINCKERHOFF Page 5

10 Reserve estimates over time The amount of gas remaining in the Maui field Probability that there will be gas from new fields in the near future Potential future resources coal gasification, lignites, Methane hydrates etc. The current price of gas in NZ is approximately $7/GJ and is subject to change on new discoveries of gas reserves. Market prices will be capped by parity with imported LNG and competition from coal and a $15/t of CO 2 carbon tax will add another $0.80/GJ to the gas price if it is fully passed through. Figure 2-2 shows the NZ quarterly gas production from December 2000-May Figure 2-2 NZ quarterly gas production At current rates of gas production, PB estimates that 50% of the known producing and planned gas reserves will be depleted within twenty years. In the absence of significant new fields being found which can provide long term and bankable gas supplies for electricity generation it is likely that at some point around this time LNG will be imported to fulfil domestic demand 7. This will raise the domestic price to the imported LNG price. Section 3 discusses the relationship between coal, oil and gas prices Nuclear Demand for electricity generation from nuclear power is increasing rapidly amidst concerns about rising thermal fuel prices, energy security, and a desire to curb CO 2 emissions. Higher coal and natural gas prices improve the economics for nuclear plant despite the high capital and maintenance costs incurred for nuclear electricity generation technologies. Nuclear energy is seen as a way to increase the electricity supply diversity, improve security of supply, and reduce CO 2 emissions by displacing fossil fuel plant options. A key issue with nuclear is that 7 Gasbridge notes that importing LNG is not currently economic and that the need for importing LNG will be revisited by PARSONS BRINCKERHOFF Page 6

11 the demand could easily outstrip supply due to the very low production base for nuclear equipment and limited technical resources for design and construction. 2.4 Technology developments The predominant coal combustion technology worldwide is sub-critical pulverised fuel, which is well proven technology with over 40 year s operational experience. The technology has progressively matured and scaled up to large, reliable and low cost units of up to 1,400 MW. By restricting the steam cycle to subcritical conditions (below 221 bar), boiler design and operation is simplified, but overall efficiency is limited to about 35% (net generation, and HHV (Higher Heating Value)). New coal-fired electricity generation is increasingly making use of one or more of the Clean Coal Technology options that are available. Clean coal technology refers to a range of coal-fired generation technologies that are current state of the art, or are under development, and are strongly focused on reducing pollutant discharge and increasing plant efficiency in a cost-effective manner. Another approach to reducing greenhouse gases caused from coal-fired electricity generation is Carbon Sequestration which involves capturing CO 2 and other types of carbon by biological, chemical and physical processes and storing it. Because of the very large coal resource still available, the development and deployment of coal fuelled electricity generation technologies is very strongly motivated and is the subject of very large investments by a wide range of stakeholders. There is potential for currently uneconomic technology applications (discussed in Section 2.4) to reduce CO 2 emissions from coal fuelled generation to become economic, and facilitate the continued use of coal as an energy source Clean Coal Technology Super-critical Pulverised Fuel. Supercritical pulverised fuel technology has now supplanted subcritical plant as the leading coal-fired plant technology for new coalfired plant. The cost, availability and reliability of supercritical plant is now on a par with subcritical plant, but the 10% to 15% efficiency gain leads to significant reductions in emissions and fuel cost savings for the supercritical plant. For example, improving plant efficiency from 35% to 41% HHV, results in a 14% reduction in specific fuel consumption and a similar reduction in emissions level. Atmospheric Fluidised Bed Combustion. Atmospheric fluidised bed combustion is expected to further develop and exploit a niche market dealing with difficult fuels and the disposal of waste materials. Unit size is currently limited to around 300 ~ 400 MW but the technology is not proven at this size. Efficiency is good and likely to improve as supercritical steam conditions are used. Pressurised Fluidised Bed Combustion, and Integrated Gasification Combined Cycle. Pressurised Fluidised Bed, and Integrated Gasification Combined Cycle, both utilise gas turbine technology to improve generation efficiency. IGCC also offers potential advantages of H 2 production for fuel cell or other applications. These technologies are still at the development stage and PARSONS BRINCKERHOFF Page 7

12 have yet to demonstrate the high reliability at reasonable cost that is required to proceed to wide scale commercial application Carbon Sequestration Carbon Sequestration is a method for the long-term storage of CO 2 to reduce the amount of greenhouse gas produced from coal-fired electricity generation. The method involves capturing the carbon emissions either pre-combustion or postcombustion and storing the captured gas using a variety of storage methods. If the costs prove attractive and the required support is present then sequestration may be an option for the Huntly Power Station. Pre-Combustion Pre-combustion capture involves removal of CO 2 prior to combustion to produce hydrogen. The combustion of hydrogen produces zero CO 2 emissions with the main by-product being water vapour. Once the hydrocarbon fuel (in this case, gasified coal) has been converted into hydrogen and carbon monoxide (CO) to form a synthetic gas, it is reacted with water then the conversion is shifted. The CO 2 is then separated from the hydrogen for clean combustion and compressed into a liquid for transportation and storage. Post-Combustion Post-Combustion capture involves removing the dilute CO 2 flue gases after hydrocarbon combustion. The most common method is passing the CO 2 through a solvent and adsorbing it and then being released by changing the temperature and/or pressure. Another process currently under development is calcium cycle capture that uses quicklime to capture the CO 2 which is then produces limestone. This limestone can be heated and the CO 2 removed with the quicklime left over being recyclable. Post-Combustion methods require additional energy input to successfully remove CO 2 from the solvent and may increase energy costs by up to 30% (compared to plants without capture). This may be reduced to 10% with more efficient solvents currently being developed. Research and development is currently being done to create more postcombustion methods including cryogenically solidifying CO 2 from flue gas, passing CO 2 through a membrane and using adsorbent solids CO 2 Storage Underground storage. Underground storage of CO 2 involves injecting CO 2 directly into underground geological formations (oil fields, gas fields, unwinnable coal seams, saline formations etc). Oil fields have been used for injecting CO 2 into declining oil fields to increase oil recovery and is an attractive option in a number of locations. This is due to the geology of hydrocarbon reservoirs usually being well known and the additional sale of oil can offset part of the storage costs. There are arguments that question the net CO 2 reduction of this strategy however; The big question is how to account for the emissions arising from the upstream operations of extra oil production, downstream refining and finally combustion of the fuel. It is my belief that any PARSONS BRINCKERHOFF Page 8

13 emissions trading benefits which arise from CO 2 sequestration as part of a CO 2 enhanced oil recovery project should be discounted according to a detailed analysis of the full cycle carbon balance using the principal of additionality. 8 Unminable coal seams have been used for CO 2 storage due to CO 2 absorption by the surface of coal but this relies heavily on the chemical structure of the coal bed. During this absorption the coal releases previously absorbed methane which can be recovered and sold to offset part of the CO 2 storage costs. The disadvantage is that the burning of the methane gas produces CO 2 which negates part of the CO 2 stored. A similar argument to the enhanced oil recovery above. Ocean storage. Another proposed form of carbon storage is in the oceans. Several concepts have been proposed: 'dissolution' injects CO 2 by ship or pipeline into the water column at depths of 1,000 m or more, and the CO 2 subsequently dissolves. 'lake' deposits CO 2 directly onto the sea floor at depths greater than 3,000m, where CO 2 is denser than water and is expected to form a 'lake' that would delay dissolution of CO 2 into the environment. convert the CO 2 to bicarbonates (using limestone) Store the CO 2 in solid clathrate hydrates already existing on the ocean floor, or growing more solid clathrate. The environmental effects of oceanic storage are generally negative, but poorly understood. Large concentrations of CO 2 kills ocean organisms, but another problem is that dissolved CO 2 would eventually equilibrate with the atmosphere, so the storage would not be permanent. Mineral sequestration. In this process, CO 2 is exothermically reacted with abundantly available metal oxides which produces stable carbonates. This process occurs naturally over geological timescales and is responsible for much of the surface limestone. The reaction rate can be made faster, for example by reacting at higher temperatures and/or pressures, or by pre-treatment of the minerals, although this method can require additional energy. The additional energy required to achieve mineral sequestration to a conventional power plant is between % with the by-product created being able to be sold to offset part of the additional costs. The advantages of mineral sequestration are: The carbonates formed are thermodynamically stable and the disposal is therefore permanent. There is no chance of the carbon dioxide escaping into the atmosphere. The mineral resources on earth far exceed need. Carbonate is the lowest energy state of carbon, not carbon dioxide. 8 Will the wheels of CCS be oiled? Sam Gomersall, carbon capture journal Issue 9, May June 2009 PARSONS BRINCKERHOFF Page 9

14 "Mineral carbonation occurs naturally on a geological time scales and would eventually absorb all the additional carbon dioxide." The process is just speeding up one that occurs in nature. The minerals are readily accessible in locations near high-density power generation centres. There is potential to produce value-added by-products. The process is compatible with both technologies under development and current power systems. Predicted cost is not unreasonable. Implementation without an external supply of heat is possible because the reaction is exothermic. The disadvantages of mineral sequestration are: Carbonation plant must be at the site of the mine due to the large volumes of the raw minerals required. Volumes increase upon carbonation; in order to store the newly formed carbonates back in the source mine some terrain alteration will be necessary. Extensive mining operations necessary, which will have environmental and CO 2 production impact. There is the potential for asbestos to be present in the mineral deposit. The mineral preparation or sequestration process must be able to deal with ore impurities. 2.5 International policy settings The future demand for coal-fired generation could be significantly reduced following consensus international agreement to reduce CO 2 emissions. However, globally, as coal is the largest source of energy for electricity generation, especially in developing nations, these agreements are unlikely to have any major effects in. Current global usage levels strongly motivates policy settings to still allow for coal fuelled electricity generation but technically, commercially and economically motivates the application of carbon capture and sequestration. There appears to be a growing consensus that while putting a cost on the emission of CO 2 by emissions trading will help reduce CO 2 emissions, this is not sufficient in itself to achieve the proposed global CO 2 emission reduction targets. To achieve the desired CO 2 emissions targets, many jurisdictions are regulating a minimum of the total electricity generation to be generated using renewable energy sources. PARSONS BRINCKERHOFF Page 10

15 2.5.1 NZ regulatory setting The New Zealand Government has been trying to define and implement a comprehensive greenhouse gas emissions policy since The 2007 NZ Energy strategy defined a target of 90% of generation should be from renewable sources by 2025, and introduced a ten year moratorium on new baseload thermal generation enacted with an Emissions Trading Scheme. The current New Zealand Government is reviewing the Emissions Trading Scheme legislation, and has repealed the moratorium on new thermal generation. Considerable uncertainty exists on the future format for regulations around greenhouse gas emissions in New Zealand Impact of carbon charging on energy cost If we assume 9 Huntly West No. 1 fuel contains 56.3% carbon (% mass), giving rise to a fuel specific CO 2 emission rate of 2.06 kg CO 2 per kg of coal. For an assumed Huntly Power Station plant efficiency of 35% (net, HHV), the electrical energy specific emission is 943 kg CO 2 /MWh. Because CO 2 emissions are derived directly from the carbon in the coal fuel, an emissions charge on CO 2 is effectively a surcharge on the cost of fuel. An emissions charge of $25/tonne of CO 2 will effectively add $52.53/t or $2.29/GJ to the cost of the assumed Huntly West No. 1 coal. An emissions charge of $25/tonne of CO 2 will add 2.36 cents/kwh to the energy cost, based on the use of Huntly West No. 1 coal and a 35% net, HHV plant efficiency. Thus, if the proposed maximum emissions charge of $25/tCO 2 were to be passed through at cost to an industrial customer on an energy component of the electricity tariff of 6 cents/kwh for all the electricity purchased, the energy tariff would be increased by 39%. This is substantially more than the 16% estimated in the Government s Climate Change paper referred to above, which we speculate was calculated on the basis of a mix of hydro and thermal generation. 2.6 Carbon Emissions Trading Scheme (ETS) effects ACIL Tasman has carried out a study for the Energy Supply Association of Australia to examine the effects on an Australian Emissions Trading Scheme (ETS) introduced from 2010 on Australia s stationary energy markets. ACIL created a simulated model based on the year The simulations indicate the forced retirement of about 6,700 MW of base load plant in the 10% 10 case to be replaced by 15,000 MW of new plant between about 2011 and The modelling produced an emission permit price of $45/tonne CO 2 -e in the 10% case and $55/tonne CO 2 -e in the 20% case. 9 NZ Energy Information Handbook, J.T. Haines, A case involving a 10% reduction in the 2000 emission levels by PARSONS BRINCKERHOFF Page 11

16 The major effects 11 of the ETS are: Prices With a 10% target emission prices reach $45/tonne CO 2 -e in real terms and $57.50/tonne CO 2 -e in nominal terms by With a 20% target emission prices reach $55/tonne CO 2 -e in real terms and $67/tonne CO 2 -e in nominal terms. Regional reference prices (in nominal prices) in the National Electricity Market (NEM) are $97 to $109/MWh in the 10% case while in the 20% case they are $98 to $122/MWh. In real terms the recommended retail prices (RRPs) range from $70 to $79/MWh in the 10% case and $71.50 to $88/MWh in the 20% case. Queensland, NSW, South Australian and Victorian prices are within a few dollars while Tasmanian prices are the lowest. Changes in capacity New generation capacity to replace retiring brown coal and some black coal plant will need a significant building effort. The modelling indicates that the 10% case will cause the retirement of 6,145MW of mostly brown and some black coal plant in the NEM. In the 10% case, retirements would be replaced by 13,672MW of gas fired and renewables plant in the NEM. The capacity of new plant in the NEM is about 205% of that being retired in the 10% case and approximately 160% in the 20% case. This is partly to cope with some level of growth in demand, although growth in energy demand in both cases is low given the effects of conservation measures, demand response to higher prices and the use of distributed renewables, but mainly because much of the new plant is renewable generation with a relatively low capacity factor (less than 35%) and more capacity is required to produce the same amount of energy. Sale of existing assets Using the net present value of returns per kw over the 10 years 2010 to 2020, the average of this indicator for Victorian and South Australian coal fired generation indicated a fall of over 80% in asset value in the 10% case and over 90% in the 20% case. For NSW coal generation the corresponding falls were under 80% and about 90% and Queensland coal fired generation assets also reduced by 80% and almost 95%. Gas fired CCGTs on average reduced in value by about 40% in the 10% case and about 45% in the 20% case, largely because of the increase in the costs of gas for generation. The average asset value of gas fired OCGTs reduced in value by 70% and about 80% respectively. 11 The Impact of an ETS on the energy Supply Industry, ACIL Tasman, July PARSONS BRINCKERHOFF Page 12

17 Capital expenditure In the 10% case it was estimated the cost of investment in generation in 2008 prices at $30.3 billion in the NEM. In the 20% case it was estimated the cost of investment in generation in 2008 prices at $33.5 billion in the NEM. These estimates of capital expenditure do not include the costs of expanding the electricity transmission network in order to connect geothermal and wind generation in remote locations or the cost of expanding the gas supply network. It is estimated that approximately $4 billion would be required to enhance the transmission network to include this new plant and at least $0.5 billion in the new pipeline investment to carry additional gas to power stations 2.7 Australia s Carbon Pollution Reduction Scheme (CPRS) With Australia being one of the biggest coal exporters in the world the CPRS is set to make a significant impact on the global market as well as any combined Emissions Trading Scheme that may be set between Australia and New Zealand. The following are components of the scheme that are relevant to coal. 12 Currently under review, the CPRS includes transport fuel, but mitigates the cost for 3 years, while excluding agriculture for at least 5 years. Coal-fired generators will be provided compensation and trade exposed emission intense industries will be given free permits up to 30% of the total. Businesses that emit more than 25,000 tonnes CO 2 -e will be obligated under the scheme Captured coal mines Several submissions from the coal-mining industry argued that captured coal mines should receive assistance as a strongly affected industry. Those stakeholders included the Australian Coal Association, the Minerals Council of Australia, the New South Wales Minerals Council, Centennial Coal, Xstrata Coal and Wesfarmers Limited. The Government acknowledges that the relative emissions intensity of coal-fired electricity generators has the potential to cause impacts in the generation sector that translate through to the mines that supply coal to those generators. However, the particular circumstances of those coal mines might not justify assistance measures. Even though coal-fired electricity generators profitability might reduce under the scheme, that loss will not affect coal mines supplying them unless the generators materially reduce the volume of coal they use. The Government s modelling of the electricity generation sector indicates that the majority of coal-fired electricity 12 Carbon Pollution Reduction Scheme, Australian Government, 2008 PARSONS BRINCKERHOFF Page 13

18 generators are able to maintain their market share during the first decade of the scheme. Those generators that might lose volume or close during the first decade of the scheme are generally those of relatively lower efficiency and therefore higher emissions intensity, and may be vulnerable to losing market share in the absence of the scheme. Offering assistance to a coal mine that supplies such a generator would require the Government to assess the likelihood that the generator would not have lost market share in the absence of the scheme. Furthermore, providing assistance on this basis requires the assumption that, in the event of the closure of a given generator, the coal mine would be physically unable to supply another generator in the domestic or export markets. This requires an assessment of the physical circumstances of a mine, such as access to railway or port facilities, as well as the likelihood that a new facility would be constructed to use the coal at that source, such as a generator using carbon capture and storage or coal gasification technologies. Because of these material uncertainties, the Government will not provide strongly affected industry assistance to captured coal mines. However, the Government recognises the significant exposure of particularly emissions-intensive underground coal mines under the scheme, and has proposed a transitional assistance package to this class of coal mines through the Climate Change Action Fund Coal-fired Generation For coal-fired generators, it has been determined that even though coal-fired electricity generators profitability might reduce under the scheme, coal mines will not be effected unless the generation capacity of the generator is reduced. As there will be no assistance given to generators and assistance only given to a certain class of coal mines, the Government is focusing on improved energy efficiency which may have to be achieved by: Upgrading current coal & gas fired generators to super-critical or ultra-supercritical boilers Further development in the production of clean coal electricity generation technology Carbon Capture and Storage Carbon capture and storage (CCS) is likely to be a key future component of the global solution to climate change. Coal is likely to continue to be a major energy source for the world over coming decades. For Australia, coal will be the main source of its electricity supply into the future and a major contributor to Australia s export revenue. All major Australia and international models of ways to achieve lower greenhouse gas emissions expect a significant part of the reduction to be achieved through the use of CCS. The Government has announced the Global Carbon Capture and Storage Initiative to accelerate the scaling up and deployment of CCS technology across the world. PARSONS BRINCKERHOFF Page 14

19 2.7.4 Coal Gasification Coal Gasification can be used to produce syngas, a mixture of carbon monoxide (CO) and hydrogen (H2) gas. This syngas can then be used for electricity generation or converted into transport fuels like gasoline and diesel through the Fischer-Tropsch process. This process has been successfully conducted in both underground coal mines and coal refineries. In Australia, CSIRO Energy has developed several collaborative initiatives into clean coal technologies, in particular coal gasification. At this current time there are several trial gasification plants being operated or under construction including the Bloodwood Creek Underground Coal Gasification site located in the Surat basin in south-east Queensland run by Carbon Energy Limited. The implementation of coal gasification for power generation would preserve a high level of coal demand for electricity generation Coal-to-Liquids (CTL) CTL technologies have the potential to increase additional future demand for coal. The production of liquids from coal requires the breakdown of the chemical structures present in coal through the simultaneous elimination of oxygen, nitrogen and sulphur in the introduction of hydrogen. The action produces a stable liquid product. Coal can be converted into a variety of products including petrol, diesel, jet fuel, plastics, gas, ammonia, synthetic rubber, tars, alcohol and methanol. 2.8 The international coal market Overseas reserves and production In 2006 there were about 137 years of recoverable coal reserves available worldwide. This important fact suggests that worldwide coal reserves are unlikely to be a constraint on the availability of coal to New Zealand over the 40 year forecast period for this project. The following chart shows 2006 reserves and levels of production by country Source: US Energy Information Authority PARSONS BRINCKERHOFF Page 15

20 Figure 2-3 World recoverable Coal Reserves as of January 1, 2009, billion short tonnes Australia and Indonesia are the two major exporters of coal in the Asia-Pacific region, and the likely sources of coal imports into New Zealand. Australia exports 100 million tonnes of thermal or steaming coal per year (99.86 Mt in 2002) and is the largest exporter of steaming coals in the world. The main ports for export of coal are Newcastle, Gladstone and Dalrymple Bay. Almost all of the Australian exported steaming coal is bituminous. Indonesian sub bituminous coals are low in ash (1%) and sulphur (0.1%). They are classified as sub-bituminous B the same as the better coals in the Waikato and appear to be similar in character. The low sulphur characteristic is important for Huntly power station because it relies on this low sulphur content to comply with the SOx emission limits imposed by its resource consent Overseas costs and prices (historically, now, and in the future) International prices outside of the US vary depending on the coal quality and source. Between 1991 and 1998 the market price for steaming coals, with heat content around 27 GJ/t, delivered to northwest European ports has ranged from US$31.8 to US$45.8 per tonne (cost, insurance, freight or CIF). The Japanese have traditionally used a benchmark system which is still functioning effectively, however Japanese utilities are undertaking some purchases on the spot market, to obtain coal at discounts to the bench mark price. The benchmark price for steaming coal in 1997 was US$45.5 per tonne (CIF), having ranged between US$41.3 and US$50.8 per tonne over the previous decade. The competitive pricing and the relatively short distance to transport the coal from Australia to New Zealand makes steaming coal sourced from Australia cost PARSONS BRINCKERHOFF Page 16

21 effective. Steady decline in costs of extraction in Australia due to increase in coal sector productivity. 14 The other potential source is Indonesia which exports both bituminous and sub-bituminous coals. The cheapest coals are the sub-bituminous types, with PT Adaro and PT Kideco being the major exporters of this type. These sub-bituminous coals are very similar to the Waikato Coals and have low sulphur content. Indonesian coal would be expected to be priced around US$25 CIF at the Port of Tauranga, making an allowance for the extra shipping distance to New Zealand. Sea freight charges are heavily dependent upon quantities and the size of the vessel and are thus difficult to estimate with any degree of certainty. The international traded coal fob prices, plus sea freight and inland delivery costs, including amortised costs of the importing facilities, provide an indicative price cap for locally sourced coal. Imported coal will be invariably priced in US dollars with the consequent exposure to the $US:$NZ exchange rate. Long term protection against exchange rate fluctuations in the $US:$NZ is difficult to achieve and the economics of coal importing will need to cater for expected changes in the exchange rate. It may be possible to purchase Australian coal in $AUS which may provide a better foreign exchange hedge for New Zealand than $US. In the past, in the Asia-Pacific region, trade in steaming coal was largely via long-term supply contracts and much pricing was referenced to the Japanese Benchmark. In recent years, however, this system has been breaking down, and a much greater proportion has been purchased under short-term contracts or on spot prices. As a result, there is much greater price volatility, reflecting global supply/demand imbalances, which superimpose on longer term cyclicity in coal prices. The factors that limit the impact of international coal prices on local prices are: Sufficient indigenous resources and production capacity to meet local demand, most local suppliers do not export, the high per GJ transport costs to import relatively small amounts of coal, and the limited availability of coal importing port infrastructure. A very large coal consumer may find it economic to import coal in large shipments through dedicated facilities at the point of consumption. In a press statement in March 2002, Todd Energy, in announcing its impending sale of its interest in the West Coast Rapahoe mine, offered the opinion that: There was plenty of coal mined around the world that could be mined easily and it could be shipped to New Zealand for power generation. So there was no guarantee New Zealand coal would be cost effective, especially if it had to be moved to the North Island for sale. If New Zealand moved to coal-fired power stations they would be north of Auckland, close to its big market, near a deep water port like Whangarei where big volumes of coal could be brought in. 14 ABARE, Energy Outlook 2011 PARSONS BRINCKERHOFF Page 17

22 This view would be contested by Solid Energy who would be very keen to supply local power generation market and to prevent coal imports affecting their local market presence. Since a significant number of competing suppliers supply the domestic market, and they supply from local reserves, the international prices obtainable for export coals is not a fundamental benchmark for local coal prices. Today, NZ import coal prices comprise a port and a transport component. The port price for coal is presently about $4/GJ, with transport costs to site an additional $0.25 to $0.5/GJ. 2.9 Domestic coal demand New Zealand consumed about 3.9 million tonnes of coal in 2008 (84.8 PJ). This represented a 25% increase over 2007, but a 10% drop from 2006 consumption levels. The left hand side figures in the following chart shows New Zealand s coal consumption since 2000: consumption has increased over the period, but has plateaued over the past 5 years. The right hand side shows sector shares of coal consumption in 2008, indicating that the electricity generation industry is the largest user of coal in New Zealand, by far. Electricity generation is also the sector that has the greatest impact on coal demand, with coal being used to provide the greatest proportion of the flexibility required to generate sufficient energy during dry years. Figure 2-4 Coal consumption by sector, Gross PJ, Other Commercial Industrial Other transformation Electricity generation Energy Data File 2008 Calendar Year Edition. Ministry of Economic Development, PARSONS BRINCKERHOFF Page 18

23 Figure 2-5 Coal consumption shares by sector, Commercial 5% Other use 3% Other transformation 19% Electricity generation 51% Industrial 22% Just over half the coal consumed in 2008 was used for electricity generation by large generators. Other transformation almost exclusively steel making accounted for 19%. Small scale energy generation in the industrial, commercial and residential sectors accounts for the remaining consumption. Major consumers of New Zealand s coal include: Genesis, Huntly power station (approximately 2-2.5m tonnes per year) Glenbrook steel mill (700,000 tonnes per year) Cogeneration plant at dairy factories e.g. Clandeboye. General industrial use and residential market Electricity generation Domestic coal consumption in New Zealand is dominated by the electricity generation industry. However, as a proportion of fuels used in generating electricity, coal ranks third behind renewable sources and natural gas. Furthermore, as the following chart indicates, the use of coal in generating electricity has been variable since The minority status of coal used in electricity generation, and its variability over time, are important considerations in forecasting demand for coal into the future. 16 Energy Data File 2008 Calendar Year Edition. Ministry of Economic Development, PARSONS BRINCKERHOFF Page 19

24 Figure 2-6 Net electricity generation by plant type, GWh, Other Non-renewable Coal Gas Other renewable Wind Geothermal Hydro Figure 2-7 Net electricity generation by plant type, GWh, Gas 23.7% Other Non-renewable 0.4% Coal 10.5% Hydro 52.3% Other renewable 1.2% Wind 2.5% Geothermal 9.4% Other transformation Steel making represents historically the other significant use of coal in New Zealand, accounting for approximately 18% of coal consumption. New Zealand has two significant steel plants: Glenbrook and Pacific Steel. However, while Glenbrook sources coal from Waikato, much of the raw material input at the 17 Energy Data File 2008 Calendar Year Edition. Ministry of Economic Development, Energy Data File 2008 Calendar Year Edition. Ministry of Economic Development, PARSONS BRINCKERHOFF Page 20

25 Pacific Steel plant is scrap metal. To the extent that New Zealand s coal consumption is driven by the steel making industry, it will be driven by Glenbrook. The following figure shows that coal consumption categorised as other transformation the significant majority of which is steel making has remained relatively constant since 2000, and declined between 2006 and Figure 2-8 Coal consumption by the other transformation sector, gross PJ, The domination of fuel sources other than coal in the generation of electricity and the relatively constant consumption of coal by New Zealand s steel industry support the idea that, without substantial changes in both industries, domestic demand for coal in New Zealand into the future will not grow appreciably. Future demand for coal is addressed in the next two subsections Future demand trends electricity generation According to New Zealand s Ministry of Economic Development (MED) in 2005, domestic electricity supply was to grow by 40% or 1.5% year on year between 2005 and MED expected hydro-generated power to maintain its dominant share, but that costs of new development, environmental constraints on new plant development, and competition for water use would mean the amount of power generated from hydro sources would remain constant, indicating that its overall share would fall. In contrast, the share of wind, gas and geothermal in electricity generation would increase substantially, compensating for the proportionate reduction in hydro power, and displacing coal. MED forecast coal use in domestic electricity generation to increase by 15% only between 2005 and 2030, or 0.6% year-onyear Future demand trends steel Despite the recent downturn, MED expects worldwide steel demand to remain strong over the forecast period, supporting high steel prices. Of New Zealand s 19 Energy Data File 2008 Calendar Year Edition. Ministry of Economic Development, PARSONS BRINCKERHOFF Page 21

26 two significant steel plants Glenbrook and Pacific Steel this will benefit proportionately Glenbrook, which exports about half its output. However, the steel-making process at the Glenbrook plant is designed to accommodate the specific properties of coal sourced from Waikato, and (as discussed below) coal extraction at Waikato is expected to become increasingly more expensive. Absent unexpected shifts in the steel market, MED surmises that Glenbrook will not expand production and its consumption of coal appreciably Domestic reserves and production To this point it has been established that growth in New Zealand s domestic coal consumption is expected to be moderate, there is an abundance of coal available on the international market for import into New Zealand, and that import prices will be a binding constraint on the margins earned by domestic coal producers. In addition to these factors, domestic supply of coal for domestic consumption will be impacted by domestic coal reserves, the costs of extraction, and export opportunities. Table 2-1 shows domestic reserves by rank and by region. Huntly Power Station has traditionally burnt lower calorific value (CV) sub bituminous coals, which are typical of the coals in Waikato region, and Waikato in the north is by far the significant source of thermal coal; the West Coast deposits in the south supplies all bituminous, harder, coal. Table 2-1 Domestic reserves by rank and region, PJ, 2001 Table 2-2shows 2008 levels of production, and demonstrates that domestic reserve totals could sufficiently supply New Zealand for hundreds of years. As such, domestic reserves are not a binding constraint on availability. Table 2-2 Production by rank and region, PJ, 2008 Reserves Rank Bituminous Subbituminous Lignite North Island Waikato 15,601 South Island West Coast Canterbury 18.8 Otago Southland New Zealand , Production Rank Bituminous Subbituminous Lignite North Island Waikato 40.5 South Island West Coast Canterbury 0.4 Otago 1.2 Southland New Zealand PARSONS BRINCKERHOFF Page 22

27 South Island West coals are typical high CV bituminous coals. These are less volatile, making them safer to transport, and have higher energy content per tonne, making transport cheaper per unit of energy provided. Almost all of this coal is exported, and mostly for steelmaking and specialist uses Domestic costs and prices New Zealand coal commodity prices for domestic coal are determined by factors that include: extraction costs, including mine development and rehabilitation costs, competing coal suppliers for the specified coal quality, and annual and total quantities required, coal quality and impacts on capital, operating and maintenance costs for the most appropriate utilisation technology, location of the fuel relative to the place of consumption competing fuels, and competing utilisation technology Figure 2-9, sourced from MED, shows the costs of extraction of New Zealand s significant coal operations. Figure 2-9 Solid energy coal resources and costs, by region, It has been established previously in this report that the most relevant source of thermal coal for domestic consumption is the Waikato. Costs of extraction at Waikato begin at about $2.50/GJ, rising to $5.50 for the first 2,200 PJ extracted. Costs then increase steadily. As indicated previously, prices for domestic coal which is consumed domestically will be constrained by import prices. From current levels, import prices would have to rise substantially for coal reserves at Waikato to be exploited fully. 20 Source: New Zealand s Energy Outlook to 2030, September 2006, Ministry of Economic Development PARSONS BRINCKERHOFF Page 23

28 Table 2-3 summarises the remaining significant determinants of domestic coal prices. Table 2-3 Suppliers Determinants of domestic coal prices State-owned Solid Energy controls about 80% of national coal production, with the remainder mined by a number of smaller private mining companies. Given the high proportion of state ownership, market concentration leading to oligopoly pricing is unlikely. Domestic coal transportation Competing fuels: domestic gas prices Competing fuels: renewables The Waikato coal fields are in close proximity to the Huntly power station and, relative to unloading and transport costs associated with importing coal, advantage domestic suppliers. While coal prices are expected to remain very competitive with gas it is expected that there will be an upward pressure on the price of coal as the price of gas increases with the depletion of Maui and the development of new more expensive gas resources. The costs of power generation from renewable sources in New Zealand are especially competitive, and represent a constraint on the translation of coal extraction costs into coal prices. Cost supply curves for renewable power begin lower than those for coal: about 4,600 GWh can be produced with renewable power for a marginal cost of less than 6 cents/kwh, while North Island coal generation starts at 7 cents/kwh. 21 Capacity is the significant constraint on renewable production. While hydro is expected to be constrained in the future because of environmental concerns, significant capacity expansion is expected in wind and geothermal generation Net result: Domestic production, imports, exports and prices Preceding discussion has established that: New Zealand s thermal coal consumption is variable, but has decreased in recent times as renewable and gas fuelled electricity production has displaced coal. Historically, thermal coal consumption was met, mostly, by domestic production. Recently, competitive imports have displaced up to one third of domestic production. Domestic production of thermal coals is becoming increasingly more expensive with costs of extraction expected to increase at a faster rate than some international suppliers such as Indonesia and Australia. 21 Source: East Harbour Management Services, Availabilities and Costs of Renewable Sources of Energy for Generating Electricity and Heat, 2005 Edition, June 2005, and East Harbour Management Services, Fossil Fuel Electricity Generating Costs, June PARSONS BRINCKERHOFF Page 24

29 Over half of New Zealand s domestic production is exported for steel production overseas. The attractiveness of export prices for this harder variety of coal makes it unlikely that it will be consumed domestically. This effectively bifurcates the New Zealand coal market: most thermal coal produced domestically is consumed domestically, with imports making up the domestic shortfall; while harder coal is exported and not available for domestic consumption. Figure 2-10 reflects these market dynamics. Figure 2-10 Domestic coal production, exports, imports and consumption, Gross PJ, Exports Domestic production - exports Domestic production - domestic consumption Imports Looking forward In the report New Zealand Energy Outlook to 2020, dated February 2000, the Ministry of Economic Development states that: Currently around 80PJ of coal is extracted in New Zealand, including coal for export. The projected growth in domestic consumption to 2020 will therefore put very significant pressures on the New Zealand coal industry and its supporting infrastructure. It is unlikely that all this increased demand will be met by New Zealand production, given that significant new mine development would be required, potentially at a higher cost than imports. Thus a sizeable portion of future demand is likely to be sourced internationally. The same report also states: Projections of internationally traded coal prices act as a cap on the domestic price of coal allowing for transport costs. The baseline scenario assumes that New Zealand wholesale coal prices rise from around $2.60/GJ in 1998, to 22 Source: New Zealand Energy Data File, 2008 Calendar Year Edition, Ministry of Economic Development PARSONS BRINCKERHOFF Page 25

30 $3.00/GJ in 2010 in real terms, remaining flat thereafter. Significant new investment in mine capacity will be required to source all of New Zealand s projected coal demand domestically, given the growth in demand, and the decline in some of New Zealand s existing coal mines over the outlook period. It is expected that Solid Energy would make every effort to both exploit indigenous coal resources at competitive extraction costs and work with transport companies to minimise transport costs in order to maintain the cost of domestic coal below that of imported coal. While coal prices on an energy basis are presently, and will continue to be competitive with gas, future coal prices will not only depend on the mining costs but will be subject to external factors including: the future price for gas and its availability post Maui (restricted gas supplies will increase the opportunity cost of coal); the level of demand for coal within the Waikato region (including whether Glenbrook steel making plant closes, allowing the annual production of coal supplied under this contract to be made available to others); and whether an appropriate (long term) contract can be agreed between Solid Energy and the purchaser which allows for economic mine planning. During the drought of early 2003, Genesis announced plans for the importation of coal via Tauranga. A joint media release from Solid Energy and Genesis Power dated 4 June 2003 announced the supply of 11 Mt (and possibly up to 14 Mt) of coal to Huntly Power Station over eight years. After a period of ramping of deliveries, Solid Energy would increase coal supply to 1.7Mt per year out to In addition, Genesis indicated it could augment supplies, with 0.5Mt per year from other operators and 0.5Mt per year from Indonesia. Both South Island West Coast coals and internationally traded bituminous coals are higher CV coals. They are less volatile, making them safer to transport, and have a higher energy content per tonne, (making transport cheaper per unit of energy provided) but are generally not well matched to Huntly s design coal. Huntly is designed to operate on lower CV, sub-bituminous coals. If it was necessary to burn significant proportions of West Coast coal at Huntly Power Station, it is expected plant modifications may be required. Modifications to the precipitators may be required to ensure that particulate emissions remain at an acceptable level. Some West Coast coal has a high sulphur (2.1%) content compared to the Waikato coals. To ensure that sulphur emissions are within the consented limits, blending with low sulphur Waikato coal would be required. West Coast coal which is low in sulphur has a high value and is exported. Looking forward, this discussion supports the following conclusions: Absent extraordinary investment or concessions by Solid Energy, thermal coal reserves will be increasingly more expensive to extract for use at Huntly Development of new renewable sources of power generation will continue to restrict use of domestic coal for power generation PARSONS BRINCKERHOFF Page 26

31 The prices of coal on the international market will cap prices for domestic coal, and lead to greater domestic penetration of imports, most likely sourced from Australia and Indonesia. PARSONS BRINCKERHOFF Page 27

32 3 Coal and oil price relationship 3.1 Introduction Electricity Commission brief Describe the relationship between coal and oil prices PB approach To demonstrate the price relationship between coal and oil, PB has reviewed historic movements and current trends in the relevant prices for coal and oil. 3.2 Historic price trends Historical experience in fuel prices suggests that oil and gas demonstrate a stronger relationship than the diminishing link between coal and oil prices. This is exemplified by the fact that during oil price shocks, gas prices increase substantially due to the fact that that gas and oil are often in direct competition in industrial and power end-uses. During this time prices for coal rose less than that for gas. Demand for coal increased as generators substituted coal for heavy fuel oil where possible. The high prices for coal during the late 1970 s and early 80s reflected the ability of higher cost coal producers to increase supply accordingly. Following this increase in demand coal supply markets reacted and investments were made in mining and transport capacity which resulted in a decrease in the real cost of coal back to long term trend levels. The linkages between oil and coal prices may be increased by the commercialisation of economic technology to convert coal into oil and gas substitutes. The Capex of converting coal currently does not allow market pricing of coal to gas or oil. Demand shift in fuels for electricity generation have further weakened the price link between coal and oil. Since the oil shocks, fuel oil is rarely used for baseload generation, but may be kept as reserve generation or to provide peaking capacity e.g. Whirinaki. Fuel oil has become less of a substitute for coal and as such changes in the oil price have a reduced effect on the demand for power generation fuels and prices. PARSONS BRINCKERHOFF Page 28

33 3.3 Current price trends If oil and coal fuels were perfect substitutes, the price trends would be identical. To demonstrate the point that the fuels are not perfect substitutes we can examine historic price movements. At its maximum in 2008, the price of oil was about 4 times it's January 2000 value whereas the price for coal was approximately 1.8 times the January 2000 value. Figure 3-1 demonstrates the relevant movements in prices for coal, gas and oil from January 2000 to January Figure 3-1 Coal, natural gas and oil price index changes, Price index, Jan 2000 = Coal Gas Oil Year A primary reason for coal prices to have increased half the rate of oil is the coal market has a limited range of applications and low substitution value, as well as the delivery cost of coal. The transportation cost of coal is a substantial component of delivered cost while the transportation costs of oil are a relatively small proportion of the delivered costs. In the US, domestic coal use has declined recently due to the economic conditions. Coal price has increased marginally, however, due to higher transportation fuel costs and increased foreign demand for US coal. The increase in the price of oil, and hence transportation costs has indirectly contributed to an increase in delivered coal prices 23. Crude oil prices are more a function of world economic growth and supply restrictions. The growth rates of oil consumption in developing economies have been greater than the growth rate of the world crude oil supply. The current (2009) world economic recession has temporarily removed the consumption-supply upward price pressures on oil. 23 U.S. Coal Supply and Demand: 2008 Review," EIA, April 15, 2009 PARSONS BRINCKERHOFF Page 29

34 3.4 Substitution value As discussed in Section 2, the potential for coal as a substitution fuel is high but currently involves prohibitive Capex issues. As gas and oil prices rise, these coal based technologies will become economic and have the potential to increase the price linkage between the fuels. For example Solid Energy is investigating the conversion of Southland Lignite to transport fuels. Figure 3-2 demonstrates the potential for coal conversion technologies raising the potential for strengthening price links across fuels. Figure 3-2 Coal conversion potential Coal: Americas Energy Future, The National Coal Council. March PARSONS BRINCKERHOFF Page 30