Alberta’s deregulated gas markets mark 25 years
The so-called Halloween Agreement was a case of short-term pain paying off in long-term gain
Smiles brightened every face when the federal, Alberta, British Columbia and Saskatchewan energy ministers laid the cornerstone of today’s natural gas industry 25 years ago this month. “This is a win-win deal – everyone got something,” said the national Conservative cabinet’s Pat Carney. “We feel very good,” said her Alberta Tory counterpart, John Zaozirny. But within weeks the pact had a joke nickname in energy business circles – the Halloween Agreement, after its date of Oct. 31, 1985. The new deal for gas, made in an obscure meeting room near Parliament Hill as Ottawa children went trick-or-treating in a snowstorm, got off to a scary start.
The new course coincided with a regime change in Alberta. Endorsing the results of marathon negotiations by the ministerial quartet was the last major official act as premier by Peter Lougheed, who in his final hours before retiring from politics as of Nov. 1 made sure that successor Don Getty went along too.
In principle the policy was simple. Create a gas version of deregulated free trade in oil that began as of June 1, 1985, under the Western Accord, which the same ministers had negotiated as a replacement for the former national Liberal government’s universally reviled National Energy Program (NEP).
By win-win, Carney meant that gas consumers and suppliers alike gained rights to shop around. The free-market policy included trade with the United States, where Washington’s Federal Energy Regulatory Commission was making deregulation enactments that pressured Ottawa and the provinces to get in step by cutting American prices and rendering controlled Canadian exports uncompetitive.
But in practice the Halloween Agreement did not just scrap the NEP. The new deal entailed dismantling a generations-old legacy of managed markets, prices and revenues. The process of unraveling tradition – which was upheld by business structures and contracts, as well as provincial and federal policies – took years and so many decisions that it too acquired a disparaging nickname: “re-regulation.”
Under the old regime, for instance, pipelines had dual monopolies. They owned the gas that they transported as public-utility middlemen. The consumer side of the market was a network of exclusive regional service franchises. On the supply side, exploration and production companies were grouped into pipeline pools. Sales by each firm were set by “area contracts” based on long-range reserves and output forecasts. The arrangements had terms measured in decades.
Alberta controlled out-of-province sales, which were all officially known as exports even if the buyers were other Canadians, with a “surplus test.” Since the 1950s gas had been deemed – in response to popular demand, supported by formal public inquiries – to be an essential service for heating, cooking and economic development.
The industry was required to maintain a stockpile equal to up to 35 years of forecast future Alberta needs. Only surpluses exceeding the mandatory inventory could be put on markets outside the province’s borders.
The National Energy Board (NEB) adopted the surplus-test regime for all of Canada soon after its creation in 1959, with veteran Alberta regulator Ian McKinnon as its first chairman. Additional layers of regulation ranged from a provincial arbitration law that enabled intervention to prop up supply-pool revenues to an agreed federal-provincial formula for setting prices on exports to the U.S.
Within three weeks of the Halloween Agreement, battles erupted before the NEB over implementing its numerous wrinkles, such as open access to pipelines. Among pillars of the old regime that refused to die easily, an “incrementality test” protected established suppliers. The rule denied pipeline service to upstarts, operating outside the supply pools, unless they could prove that they would increase total deliveries instead of using new price cuts to steal old customers. Canadian banks leaped to the defense of the old order, demanding a 10-year transition period for replacing credit arrangements built on regulated markets.
Much of the heat resulted from abolishing the old surplus tests. Inevitable effects on prices and revenues of taking sales brakes off huge inventories were well understood.
But after nearly two years of reviews and regulatory wrangles, the NEB replaced the national surplus requirement in mid-1987 with the modern “market-sensitive” regime. It limits interference with the gas trade to cases where Canadian consumers prove they are denied supplies as a result of exports to the U.S. No such emergency has happened yet. Alberta retained vestiges of the old regime into the 1990s, as Getty fought rearguard actions to defend prices and provincial royalties.
In tandem with limited pipeline capacity, the new regime turned the old mandatory stockpiles into gluts that dragged down prices for more than a decade. The pent-up surpluses became notorious as “the bubble that stretched into a sausage.” Gas fell by 80 per cent from NEP-era highs near $5 per thousand cubic feet into the $1 range.
But no responsible energy business leaders, ministers or regulators called on Ottawa and the provinces to turn back the clock by reviving the old managed gas markets. The Halloween Agreement has gone down in history as a case of short-term pain paying off in long-term gain.
Forced to become creative and helped by the disappearance of U.S. surpluses until the recent burst of shale gas development, the Canadian industry reinvented itself. Starting in the late 1980s, new marketing and financing structures supported serial construction of multibillion-dollar pipeline projects that increased sales to California, the middle-western states and the Atlantic seaboard.
Annual Canadian gas exports to the U.S. grew five-fold from 750 billion cubic feet in 1986 to a peak of 3.8 trillion cubic feet in 2002 and remain in the 3.3-trillion range. National production, with 80 per cent of supplies coming from Alberta, more than doubled from 3.3 trillion cubic feet in 1986 to a 2001 peak of 7.4 trillion and is holding up at about 6.4 trillion.
Total Canadian gas production revenues since the Halloween Agreement have been about $500 billion. No wonder industry leaders, from Alberta-born top supplier Encana Corp. to the international corporations behind the Mackenzie Gas Project, refuse to let current market lulls discourage long-range growth ambitions.