We often speak of oil and natural gas in one phrase, as if it is one commodity, but, in reality, they are two separate commodities. Their different characteristics may very well lead to different answers to the central question of this article. Before we dive into the specific answer to our main question, let us look at what constitutes a world market.
I am going to define a world market as one where the commodity has the same general availability worldwide at relatively the same price. Most of the variation in prices is explained by quality differences and differences in transportation costs. The quality differentials in oil generally revolve around density and sulfur content. The quality difference in natural gas typically relates to differences in BTU content, wetness or dryness, and amounts of sulfur and other impurities in the gas stream. The major factors that impact transportation costs are methods of transportation, the distance of transportation, and the terrain over which it is transported. Widely dispersed geographical locations and large numbers of producers and consumers certainly help make transportation costs more even across the globe.
Government action such as import and export restrictions and price controls can have major effects in the short run and intermediate-term. In the long run, I believe that markets prices ultimately prevail. The U.S. government, the Texas Railroad Commission and OPEC have all at various times and for various periods of time controlled (or at least had major effects on) the price of oil. However, if you have a diffusion of demand and/or supply when you have an artificial price, over time supply or demand or both will adjust to the point where the market price will reassert itself.
I think the facts will show that crude oil has been priced in a world market for at least the last 50 years. Certainly not a perfect world market, we only have to look back to the middle of the last decade before the repeal of the U.S. export ban when the gap between WTI and Brent (prices for certain grades of oil) was running $10 per BBL or higher — which is the exception, which I would argue proves the rule. Most of the time, oil prices around the world were close enough that we can say oil had a world market price. I would argue that natural gas has not been priced like it is part of a unitary world market. Transportation ease and cost are the major differences between the two commodities.
Crude oil can be transported by tanker, pipeline, truck and train. It is a liquid, high-value product with a well-established, widely spread transportation infrastructure spreading to most parts of the world where there is demand for and the ability to pay for the product. Crude oil is an important product of many different countries. On the other hand, natural gas is a gas (unless you incur substantial cost turning it into a liquid) lower valued than oil, without as extensive infrastructure for transportation as oil. Natural gas is widely produced as associated gas but is not as widely used all over the world as oil due to infrastructure problems. Pipelines transport gas efficiently and cheaply once they are built. However, it takes time and lots of money to build a pipeline, and it only makes sense to build pipelines from a place where there is a lot of production to a place where there is a lot of demand for the product.
Because of the cost of transportation and lack of infrastructure, I would consider that, unlike crude oil, natural gas had been sold in mainly regional markets. A decade ago, the cost of natural gas in the USA, or say for example Qatar, was quite a bit less than in South Korea or Japan. However, in my opinion, we are in the midst of a transformation that will probably take another decade or two to fully complete that will see natural gas being sold in a world market at a world price rather than a regional market at a regional price.
This transformation is being sparked by LNG. While the infrastructure to produce LNG is certainly expensive to build, it does reduce the volume of gas that would need to be moved into a much smaller volume of liquid that is easier to deliver to more areas than natural gas. The only thing I can foresee stopping this trend is if a number of governments continue their wars on fossil fuels and continue to throw legal and regulatory hurdles in the way of building the natural gas infrastructure. To close this article and answer the question we asked in the opening, I believe crude oil is truly sold and bought in a world market. Natural gas has been more of a regional market commodity, but because of LNG, we are in the midst of natural gas transitioning from being sold in a regional market to becoming a world market commodity.
About the author: David Porter has served as a Railroad Commissioner (2011–17) and Chairman (2015–16), as well as Vice Chairman of the Interstate Oil and Gas Compact Commission (2016). Prior to service on the Commission, Porter spent 30 years in Midland, Texas, as a CPA working with oil and gas producers, service companies and royalty owners. Since leaving the Commission, Porter works as a consultant for oil and gas companies. He also serves as Chairman of the 98th Meridian Foundation, a nonprofit concerned with water, energy and land issues.