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Analysts: Consumer Demand Impact Could Linger

The recession has been impacting gas demand among residential and commercial consumers to a degree not seen in previous downturns, according to analysts at Barclays Capital. What type of recovery can be expected depends upon whether decline stems from structural changes or a temporary consumer pullback "that may wash out in the year ahead," they said.

"Typically, a growing population means growing [gas] demand, offset by efficiency savings from consumer adoption of more efficient heating, appliances, windows and more energy-efficient new homes," Barclays analysts said in a research note. "Previous recessions have not materially shifted demand from trend growth. However, with the focus of the current recession on the housing sector and knock-on effects to consumption, perhaps another variable has been introduced in the determination of demand."

Residential demand this year has lagged last year by about 2%, while commercial demand has lagged by about 1.7%, Barclays said. The analysts wrote that they think structural and behavioral effects are causing the demand pullback. The former is caused by lower home sales and rising commercial vacancies, while the latter is the result of consumers dialing down thermostats. "As the economy pulls out of recession, we will get a glimpse at whether recent consumption is symptomatic of a temporary, recession-driven pullback in demand or whether this consumption drop is more permanent," they wrote.

The consumer reaction to the recession with respect to natural gas demand has been larger than expected, Barclays analyst Michael Zenker told NGI.

Whether the downturn's effects are temporary or lasting, right now state regulators are hearing more from the utilities they regulate about revenue decoupling ratemaking mechanisms, which serve to insulate utility revenues from declines in system throughput, Zenker said. "I think revenue decoupling is probably viewed by investors as ultimately a good thing if done properly, and this recession is probably driving that a little faster than otherwise," he said.

Another conversation taking place between state regulators and the utilities they mind is about natural gas procurement, given the commodity's currently depressed price.

"What I've heard is that gas is still viewed as quite volatile, but there's been more push for utilities to take advantage opportunistically of low prices," Zenker said. "I think there's a general view that gas prices are temporarily low, that they're unsustainably low, and there have been some jurisdictions that have pushed utilities to revisit the tenor of their contracting terms to try to lock in some of this lower-priced gas and power, for that matter, since it's linked very tightly."

At a recent conference of the National Association of Regulatory Utility Commissioners Zenker said he asked regulators if they were more receptive to long-term gas supply contracting by utilities. "I was impressed that almost everybody said they were more favorably disposed to look at longer-term contracts," he said. "We're not talking 10 years here. In the case of natural gas we might be talking two or three."

Because of low prices natural gas has been able to capture some power generation market share from coal-fired plants, at least for the time being. This scenario has some thinking that coal supply contracts, which have largely been take-or-pay deals, might be less rigid in the future.

"There's a lot of debate in the industry as to whether this particular round of low gas prices is going to chip away at the durability of some of the term coal contracts," Zenker said. "Utilities have done quite a bit this year to run gas instead of coal, more than frankly we expected just from our understanding of the flexibility of those contracts. One would expect to see some new flexibility in coal contracts going forward."

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