Evaluation Of Potential Actions

Based on my interviews and other sources, I have identified seven general types of actions Louisiana might take to alleviate the problems of the intrastate market. Each of these general approaches raises a different cluster of legal and policy considerations.

A. Senate Bill 332

During the last session of the legislature, Senate Bill 332 was proposed as a possible response to the problems of the gas market. it illustrates one possible combination of actions.

Section 204C(1) of SB 332 would authorize the assistant secretary of the office of conservation to condition any drilling permit on the producer's agreement to provide notice to intrastate users and transporters of gas when gas becomes available. In the case of state leases, the assistant secretary must attach such a condition. The required notice must state that a supply is available and that the supply is available to all purchasers on equivalent terms.

I have serious doubt that section 204C(1) would be constitutional. First, it is vulnerable under the Commerce Clause because it prefers intrastate users by requiring notice only to them. Second, it is vulnerable as a burden on interstate commerce because the notice requirement may delay sales to the interstate market. It is somewhat less vulnerable under the Commerce Clause to the extent it applies to gas produced from state lands, since the Reeves exception to Commerce Clause limits on state action might be held to apply to gas produced from state lands. However, Section 204C(1) could also be attacked under the Supremacy Clause based on its arguable inconsistency with the congressional goals underlying NGA and NGPA. I cannot confidently predict either that section 204C(1) would withstand constitutional scrutiny or that it would be held invalid. In any event, I doubt that Section 204C(1) would have any significant beneficial impact on the intrastate market. Potential intrastate purchasers keep a close eye on all drilling in their area, and producers tend to sell to the purchaser that offers the best combination of price and other terms.

Section 204C(2) of SB 332 would authorize the assistant secretary to condition drilling permits on the producer's sale of the gas to a curtailed user of gas or to a pipeline (interstate or intrastate) that is curtailing users of gas. The assistant secretary must impose such a condition on permits for drilling of gas on state lands. Significantly, user of gas is defined to include only Louisiana users.

There is no doubt that section 204C(2) is unconstitutional as it applies to privately owned gas. It discriminates blatantly against interstate commerce. The constitutionality of its application to gas produced from state lands is less clear. If the Reeves exception applies to gas produced from state lands, section 204C(2) would withstand attack under the Commerce Clause to the extent it applies to gas produced from state lands. Even in that context, however, it would also be vulnerable to an attack under the Supremacy Clause based on the argument that it frustrates the congressional purposes of NGA and NGPA.

In short, all provisions of SB 332 are subject to serious constitutional attack, and Section 204C(2) is clearly unconstitutional in its application to privately owned gas.

B. Actions that Prefer Intrastate Pipelines and Consumers

1. Application to Privately Owned Gas

As applied to privately owned gas, no facially discriminatory statute or regulation has a chance of surviving constitutional attack. Any statute that distinguishes between interstate and intrastate consumers or pipelines will be enjoined immediately and ultimately held invalid under the Commerce Clause.

2. Application to State Owned Gas

State actions giving intrastate pipelines and consumers preferential access to gas produced from state lands have some chance of surviving a constitutional challenge. I do not have a great deal of confidence, however, that such actions (including present state lease provisions) ultimately will survive. The bare majority of the Supreme Court that upheld South Dakota's preferential sales of state produced cement to in state residents in Reeves may not be willing to extend the Reeves principle to a situation where (1) the subject of the preferential sales is a natural resource, (2) the state's status is only that of original owner rather than manufacturer, and (3) the preferential treatment applies to sales by the owner / producer of the gas rather than a buyer with whom the state is dealing directly. The Court would be even less likely to extend Reeves to cover gas received by the state as an in kind payment of severance taxes.

It is possible to increase the state's ability to defend its program of preferential access to new gas supplies produced from state lands by changing the state's method of developing such gas. The changes required to accomplish this would be radical departures from present practice, however. For instance, the state could produce the gas itself, or it could take title to the gas and pay the producer a share of the revenues, selling all the gas itself. I doubt that the resulting marginal improvement in the state's ability to defend preferential access to gas produced from state lands would justify the many problems associated with such major changes in the state's method of developing its natural resources. Moreover, as Interviewee D emphasized, a program of state ownership and sale of gas would have to involve substantial discounts to intrastate buyers to be effective. Thus, such a program would require substantial financial sacrifice by the state.

Assuming that the state can lawfully provide the intrastate market preferential access to gas produced from state lands, it can do so without FERC permission only with respect to gas supplies that were not dedicated to interstate commerce on November 8, 1978. Previously dedicated supplies, with few exceptions, are governed by section 7(b) of NGA. That section prohibits abandonment of service without prior FERC permission. Of course, the state could file a petition with FERC requesting permission to abandon service to the present interstate purchasers of the state's royalty gas so that the state could take that gas in kind and provide it to the intrastate market. There is no assurance FERC would grant such a petition, but if the state proposed to use the gas for a particularly worthwhile purpose (say, to meet the fuel needs of state agencies and schools), FERC would be required at least to give the petition serious consideration.

C. Price Controls on Old Intrastate Gas

NGPA specifically authorizes states to set ceiling prices on intrastate gas lower than the federal ceiling prices. Kansas, Oklahoma, New Mexico, West Virginia, and Alabama have exercised this authority in some form; in most cases, by limiting the amount of price escalation that can occur as a result of indefinite escalation clauses in contracts covering old gas supplies. The constitutionality of the Kansas statute was upheld recently by the Supreme Court.²⁶

Price ceilings on old intrastate gas imposed by Louisiana several years ago would have provided some short term benefits to Louisiana intrastate pipelines and consumers. The average price of intrastate gas would have gone down. Oklahoma's statute is reported to have reduced the total cost of intrastate gas by one billion dollars. The reduction in average price also would have helped intrastate pipelines compete more effectively for new supplies by increasing their old gas price cushion.

There are several disadvantages to this option, however. First, the short-term benefits of such price controls could be offset by long-term detriments. Second, the political implications of Louisiana's imposition of any price controls on gas producers could be adverse because some federal legislators would cite Louisiana's decision to regulate producer prices to support the need for increased federal price controls. Third, to be effective, price controls of this type would have to have been imposed several years ago. I am not sure how helpful they would be today.

D. Notice of Supply Availability

The state probably could devise a notice of supply availability system that would withstand constitutional attack if either: (1) the producers were required to give notice to the state and the state informed intrastate purchasers, or (2) the producers were required to give notice to all potential purchasers (interstate and intrastate). I doubt that such a notice program would provide much benefit to intrastate purchasers, however, because they monitor availability of new gas supplies carefully.

E. Assistance in Obtaining Access to Gas Supplies

Frequently, an intrastate purchaser is able to negotiate for the purchase of a gas supply physically remote from its system or plant. Often it requires the cooperation of a pipeline to transport the supply to the purchaser. Most pipelines cooperate in these circumstances, but occassionally a pipeline refuses to transport the gas. In such circumstances, the potential intrastate purchaser usually loses the opportunity to purchase the supply because FERC does not have the power to compel such transportation.

Louisiana could assist intrastate purchasers by putting pressure on pipelines to transport gas for intrastate purchasers. That pressure could take one of two forms - formal regulation or ad hoc jawboning.

Louisiana clearly can compel intrastate pipelines to transport gas to other intrastate purchasers. It is conceivable that Louisiana has the power, consistent with the Supremacy Clause, to regulate purely intrastate gas transportation by interstate pipelines as well. Ohio is currently taking such a position in a proceeding pending before FERC. ²⁷ 1 do not expect Ohio to prevail on that issue, however. Ultimately, I expect the courts to hold that any state regulation of interstate pipeline gas transportation is pre-empted under the Supremacy Clause, NGA and NGPA. ²⁸ Thus, I do not recommend that Louisiana use the formal regulation approach on interstate pipelines.

In my experience, interstate pipelines usually respond favorably to ad hoc jawboning by state authorities in circumstances of this type. Usually, a phone call from a senior state official to the pipeline's chief executive officer produces the desired results as long as the pipeline has sufficient capacity and the intrastate purchaser is willing to accept reasonable terms.

As Interviewee G emphasized, the state can also assist intrastate purchasers by providing them information concerning the location, capacity, and throughput of pipelines located between a gas supply and the purchaser's facility. Information of this type could be particularly helpful to industrial consumers whose knowledge of such facilities is limited.

F. Off System Sales

Several interviewees mentioned off system sales. Interviewees D and G discussed off system sales as part of the solution to the problem, while Interviewees F and J mentioned off system sales as part of the problem.

Off system sales refer to sales made by interstate pipelines to parties other than their traditional customers when the pipelines unexpectedly discover that their gas supply substantially exceeds the demand from their traditional customers. Most interstate pipelines have a large gas surplus. Until recently, when the surplus became virtually universal, many interstate pipelines attempted to reduce their surplus by making off system sales to the intrastate market.

Many characteristics of off system sales are within FERC's exclusive jurisdiction. Off system sales have produced intense controversy at FERC.²⁹ FERC recently adopted a set of general policy guidelines on offsystem sales.³⁰

Off system sales can be made either to an intrastate pipeline or to an intrastate consumer. Many intrastate pipelines are benefiting from off system sales. Some intrastate pipelines are strongly opposed, however, to off system sales to intrastate consumers. They argue that interstate pipelines are trying to steal their customers unfairly by taking advantage of the large gas price cushion NGPA provides interstate pipelines. This cushion can enable an interstate pipeline to undercut the price charged by an intrastate pipeline.

Interviewee J referred to this "market raiding" problem and asked the state to stop it. The state can, in effect, halt off system sales by interstate pipelines to intrastate consumers. Such sales qualify as direct industrial sales. While the volume of gas provided in a direct industrial sale is subject to FERC jurisdiction, the price at which the sale is made is subject only to state jurisdiction. ³¹ Thus, the state could effectively stop such sales by limiting them to a price that would be unattractive to potential sellers. This proposal raises significant policy issues, since it appears to benefit one group of participants in the intrastate market (pipelines), while disadvantaging another group (industrial consumers).

G. Requirement of Prior Permission Before Abandoning Service To an Intrastate Purchaser

Interviewee J suggested that Louisiana pass a statute requiring producers who sell to intrastate pipelines to obtain prior state approval before abandoning service to an intrastate purchaser.

Such a statutory provision would give intrastate purchasers a right analogous to a right provided interstate purchasers in NGA. The abandonment requirement would guarantee intrastate purchasers continued access to supplies they now receive. If the abandonment requirement were coupled with price controls on such intrastate sales, it would assure intrastate purchasers continued access to present gas supplies at whatever price ceilings the state chose to impose.

I doubt that the abandonment requirement would survive a constitutional attack. It would impair the sale of gas to the interstate market, thereby raising serious concerns under both the Commerce Clause and the Supremacy Clause. The proponent of this statutory measures believes that the state has the power to enact it because it is analogous to the right Congress gave intrastate purchasers and it merely redresses an existing imbalance in the competitive positions of intrastate and interstate purchasers. This is an appealing equitable argument, but I would not expect it to be sufficient to overcome the obvious Commerce Clause and Supremacy Clause problems raised by the proposed statutory provisions. Congress can choose a method of regulating an industry that is designed in part to favor some regions over others. This is exactly what Congress did when it passed NGA and NGPA. Once Congress takes such an action, the disadvantaged states are powerless to pass legislation inconsistent with the regulatory method chosen by Congress.

Apart from the serious constitutional problems with this legislative proposal, it raises serious policy questions. A statutory abandonment requirement coupled with price controls on some intrastate gas could benefit intrastate pipelines and consumers, at least in the short term, but such regulatory controls would hurt producers. In addition, as the federal government's past experience with this type of regulatory program demonstrates, the short term benefits to pipelines and consumers may be more than offset by serious long term problems.

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