From one perspective, the agreement struck by OPEC's members in Vienna yesterday marks the cartel's return to the business of managing the oil market, after a two-year experiment with the free market. Viewed another way, however, it represents what Bloomberg's Liam Denning termed a "capitulation of sorts"--an admission of defeat in the price war that OPEC effectively declared in late 2014. Yet while more than a few bottles of champagne were likely consumed around the US oil patch last night, this doesn't necessarily mean a return to the way things were just a few years ago, when oil prices seemed to cycle between high and higher.
We should look carefully to assess the real results of OPEC's attempt to squeeze higher-cost producers out of the market. On that criterion it was successful: hundreds of billions of dollars in oil exploration and production projects have been canceled or deferred, mainly by Western oil companies and other non-OPEC producers. If this was the 1990s, and oil still lacked viable competition, especially in transportation, and if demand could be relied on to continue growing steadily, the strategy OPEC has just ended would have set up many years of strong and rising prices for its members.
Yet OPEC miscalculated in at least two ways. First, as many experts have noted, it correctly identified US shale producers as the new marginal suppliers to the market but failed to anticipate how quickly these companies could respond to a dramatic price cut. Having squeezed their vendors and spread best drilling practices at warp speed, shale producers are now positioned to resume growing both output and profits as oil prices trend north of $50 per barrel--undermining the effect of OPEC's cuts as they go.
Its other miscalculation was in the capacity of the cartel's members--even some of the strongest--to endure the austerity that protracted low prices would bring. Although many of these countries have among the world's lowest-cost oil reserves to find and produce, it turned out that their effective cost structures, including transfers to their national budgets, were really no lower than those of the Western oil majors that have also struggled for the last two years.
A great deal of attention will now be focused on how OPEC implements its output cuts, and whether its non-OPEC partners like Russia live up to their end of the bargain. The history of OPEC deals suggests that is only prudent. However, a new factor is at work here that adds extra uncertainty to the outcome, even if OPEC miraculously achieved 100% compliance.
OPEC's formula for sustaining comfortably high (for them) oil prices has always relied on an economic paradox: They restrain their own, low-cost production and shift the marginal source of supply--the last barrel that sets the price--to make room for non-OPEC producers with much higher costs. That allows OPEC's members to collect outsize returns on their own production, what economists call "rent".
This time, though, at least until the looming gap in supply created by all that foregone investment in deepwater platforms and oil sands facilities starts to bite, the cost of the marginal barrel from shale won't be that much higher than OPEC's marginal cost. And all of this will be playing out in the context of historically high inventories. If that's not a recipe for volatility, I don't know what is.
Showing posts with label oil sands. Show all posts
Showing posts with label oil sands. Show all posts
Thursday, December 01, 2016
Monday, January 13, 2014
Canada: From Energy Supplier to Competitor?
- In addition to its impact on global oil and natural gas pricing and trade, the shale revolution is altering the energy relationship between the US and Canada.
- This long-standing supplier/customer relationship is becoming more complex as producers in both countries seek new markets outside North America.
Canada has long been an important supplier of crude oil to US refineries, since at least the 1950s. For much of the 1980s and '90s it was in a virtual three-way tie with Mexico and Venezuela for the #2 spot on the list of top oil exporters to the US, behind Saudi Arabia. Since 2004 Canada has claimed first place on that list as its production expanded, while Mexican and Venezuelan output declined and some Saudi oil went to other markets. From 2010 to 2012 exports of Canadian crude oil to the US, including oil sands crude, increased by 23% to over 2.4 million barrels per day (bpd). This has provided Canada with a reliable outlet for its production and the US with additional supplies not exposed--except for price--to ongoing instability in the Middle East and other regions.
However, with or without the Keystone XL Pipeline, the competition to feed US refineries is becoming more intense. Canada's growing crude exports, including significant quantities of heavy and/or sour crude oil, must displace similar crudes imported into the US from Latin America and the Middle East without losing ground to the expanded light oil production from US shale plays such as the Bakken and Eagle Ford, and the otherwise mature Permian Basin of Texas and New Mexico. Each of these areas now yields a million bpd. These dynamics are compounded by 1970s-vintage US oil-export rules that keep domestic crude bottled up in the Gulf Coast and weaken the economics of oil production throughout much of North America.
If it seems odd for a Canadian official to talk about competition within the US market in this way, consider that the main country exempted from current US oil export restrictions is Canada. US oil exports to eastern Canada by rail and by tanker have grown rapidly in the last two years and are likely to expand beyond the current 100,000 bpd level, if export license applications are any indication. US oil exports to Canada may be displacing non-North American crudes today, but they likely also have an adverse effect on the economics of projects intended to ship more western Canadian crude eastward. So Canada now understandably looks towards Asia, home to the world's fastest oil-demand growth, as the logical destination for at least some of its future oil production.
Natural gas creates another, perhaps more plausible arena for export competition between Canada and the US. Canada envisions a resurgence in gas production similar to what the US has experienced, based on a combination of conventional gas discoveries, such as in the Mackenzie Delta of the Northwest Territories, as well as the shales of Alberta and British Columbia. It also stands to gain additional gas reserves if it is successful in its bid to claim more of the Arctic. As Canadian gas is displaced from its long-standing export market in the US by the shale boom in the lower-48, LNG exports from B.C. are looking more attractive. The province lists five projects in different stages of development and highlights B.C.'s advantageous shipping route to Asia.
Many more LNG export projects have been proposed for the US, with at least four having received approval to sell to countries with which the US does not have free-trade agreements. A number of these are based on existing, or at least previously permitted, LNG import facilities, giving developers a head-start on construction. The US also has a big edge in proved natural gas reserves and technically recoverable gas resources, including shale gas.
Despite these US advantages, aspiring Canadian LNG exporters won't have to contend with an enormous domestic market for their gas, in which many industries are competing to use more gas in power generation, chemicals and other manufacturing, and different paths for displacing oil from transportation, including CNG, LNG, methanol, ethanol or gas-to-liquids fuels. As a result, I suspect that a Canadian LNG plant could count on a more stable long-term cost of gas than one on the US Gulf Coast.
The protracted controversy over the Keystone XL Pipeline project has focused a great deal of public attention on a single aspect of our energy relationship with Canada, while obscuring other aspects that are beginning to shift. Adding a new competitive overlay to our long-standing energy supply chains could ultimately increase North American leverage on OPEC's pricing power, while helping to develop a deeper and more flexible global market for LNG, with resulting environmental benefits. While this might result in winners and losers at the project and company level, the overall effect should be positive for both countries.
A different version of this posting was previously published on the website of Pacific Energy Development Corporation.
Thursday, September 26, 2013
Would An Emissions Deal Break the Keystone XL Deadlock?
- A Canadian proposal to facilitate US approval of the Keystone XL pipeline by committing to greenhouse gas reductions gets to the essence of principled objections to the project.
- The offer provides a chance for defined, quantifiable emissions reductions, instead of the highly uncertain emissions consequences of rejecting the permit for this pipeline.
You would never know it from protest slogans conflating all types of air pollution as if they were identical, but the characteristics and effects of greenhouse gases (GHGs) like CO2 are very different from the smog-forming emissions from automobile tailpipes or the sulfate pollution from coal power plants. For that matter, air containing 400 ppm of CO2 (0.04%) is no more harmful to breathe than pre-industrial air with 280 ppm of CO2. More importantly, the climate consequences of each ton of CO2 emitted to the atmosphere are effectively the same as for every other ton, regardless of where they are emitted or from what source. While scientists can distinguish CO2 from fossil fuel combustion from the CO2 you just exhaled, based on differences in the ratio of carbon isotopes they carry, their effect on global warming is essentially identical.
That sounds trivial, yet it has great value for expanding our options for managing the accumulation of these gases in earth’s atmosphere. Not only don’t we have to treat GHGs the way we do local air pollutants, but it can be more effective not to. In practical terms, that means that unlike the well-established approaches for mitigating smog, it isn’t necessary to tackle all GHG emissions at the source, particularly when it’s expensive or impractical to do so. Saving a ton of CO2 by preventing deforestation or improving vehicle fuel economy is exactly equivalent in its effect on the climate to reducing a ton of CO2 emitted from producing oil, which accounts for less than 20% of the emissions from the oil value chain.
Prime Minister Harper’s proposal has been greeted with skepticism by some environmental groups, including a representative of Sierra Club Canada who expressed doubt that Mr. Harper was serious. I am in no position to comment on that, other than to point out that entering into negotiations on a proposal such as this one would be an excellent test of his government’s seriousness about reducing emissions.
In fact, a proposal to approve Keystone in exchange for reducing emissions provides a test of the seriousness of all the parties involved. If the project is worth pursuing for the Canadian government and Canada’s oil sands producers, then it should be worth additional efforts on their part, over and above those already undertaken, to reduce emissions from oil sands production and to find suitable emissions offsets elsewhere. Of course it’s also a test of how serious President Obama was when he explicitly linked approval for KXL to “whether or not this is going to significantly contribute to carbon in our atmosphere.” And because the administration’s protracted delays in approving or rejecting the project can fairly be attributed to political considerations, the proposal also tests the seriousness of “movement” organizations like 350.org that influence the politics of Keystone within the President’s political base.
Opponents of the Keystone XL project who are genuinely concerned about addressing climate change ought to at least be willing to consider a framework that links approval of this project to quantifiable and verifiable reductions in greenhouse gas emissions on a comparable scale. Since the determination of such reductions depends on the assumptions governing the alternative state of the world against which these reductions would be compared, that would require a willingness to accept a reasonable set of baseline assumptions about what would happen if this pipeline were not permitted to cross the US border. While I don’t pretend that would be easy, I have trouble seeing how one could reject such a concept outright and still claim to adhere to sound science and consensus policies.
This strikes me as an opportunity to embrace the kind of constructive and responsible compromise, the absence of which in our government so many Americans have lamented. Or, to put it bluntly, is opposition to Keystone really about greenhouse gas emissions, or is it just about symbolism?
The beauty of this offer, if it has actually been made and depending on its details, is that it provides President Obama with a potential two-fer: a pathway for approving a project that would please a large majority of Americans, along with a way to obtain significant greenhouse gas reductions--also pleasing many Americans--without requiring the highly unlikely enactment by Congress of comprehensive climate legislation. If we can do a deal with Russia over Syrian chemical weapons, there should be no impediment to doing a deal with Canada over CO2 emissions.
A different version of this posting was previously published on Energy Trends Insider.
Thursday, February 21, 2013
The Keystone XL Pipeline: Pyrrhic Victory Ahead?
Last weekend thousands came to Washington, DC to protest against the Keystone XL pipeline project, just a few days after a smaller protest in front of the White House resulted in a batch of arrested celebrities. The State Department's decision on the cross-border permit is expected within a few months. However, unless the President devises an unexpectedly Solomonic solution, one side or the other will come up short. That much is obvious, but I'd suggest that it's also worth considering the possible unintended consequences for the winning side. Keystone could prove a Pyrrhic victory for either environmentalists or the energy industry.
That assessment starts with the fact that both sides have contributed to exaggerating the stakes out of all proportion, especially on the part of those concerned about the climate impacts of a new pipeline to carry crude derived from Canada's oil sands, or "tar sands." With Nebraska having signed off on a new route avoiding the Sand Hills, the entire question now hinges on its global greenhouse gas (GHG) emissions, which would be far less than some claim. Without belaboring this point--not the aim of this posting--you needn't take the word of Transcanada, the pipeline's owner on this. It's straightforward to demonstrate that any expansion of oil sands production would still account for a small share of Canada's GHG emissions, which are in turn a thin sliver of global emissions. Such facts are easily overshadowed by pronouncements such as the oft-cited "game over" assertion from NASA's James Hansen, reminding us that even Ph.D.'s should be cautious when straying so far beyond their expertise.
Likewise, supporters of the pipeline have made numerous expansive claims about its potential economic and employment benefits. Even if those are accurate, they're a lot less relevant at this stage of the debate than they were a year or two ago. This issue has grown far beyond an argument about the facts, or even about a pipeline. It has become a battle over a symbol, and the responsibility for that development rests with the administration, which declined multiple opportunities to issue a simple up-or-down decision, even when the Congress attempted to force the President's hand in late 2011. Blame it on the election cycle, or unwillingness to disappoint one or another important constituency. But extended this long, indecision turned the project into a giant version of Schrödinger's Cat, existing in a sort of limbo that compels attention.
When the pipeline's fate is finally revealed, the consequences could match its inflated, symbolic stature, rather than its actual importance as an energy project. The possible blowback is probably easier to imagine if the pipeline were approved. Outraged environmentalists would be unlikely simply to pack up their signs and go home. Aside from seeking new ways to impede the project, they might turn their attention to other energy projects that are currently uncontroversial, or at least less so than Keystone XL. They might also choose to vent their anger on an administration they were counting on to see this argument their way. The resulting fallout in lost voter enthusiasm might hinder Democratic candidates in the 2014 mid-term elections.
Now imagine what might happen if the pipeline were rejected. As I understand the process, that would require the new Secretary of State to rule that the project is not in the US national interest. That would constitute a serious snub to our largest trading partner and largest source of imported crude oil. Canada won't cut us off, but its government and industry would certainly intensify their efforts to diversify their oil export destinations, by means of other options headed either west or east, by pipeline or by rail. The oil would still get through, but the relationship between the US and Canada would suffer, and environmentalists would be seen as responsible. In any case, what won't happen is the shutdown of oil sands development. If anything, making this oil harder to bring to market could lend further support to high oil prices, and paradoxically preserve the incentive to produce more of it or gain access to these supplies.
The outcome that should worry environmentalists most about that scenario is the prospect of up to 800,000 barrels per day of crude oil loaded onto rail cars--roughly 1,000 a day of them--and moving all over North America. Aside from the increased emissions associated with that mode of transport, compared to pipelines, the risks of a serious accident or spill would multiply. If such an event occurred, it would attract significant attention from media that wouldn't be shy about reminding viewers why this oil was in rail cars in the first place. But even without an accident, opponents of the pipeline are placing an implicit bet that oil prices will stay flat or decline if the pipeline isn't built. If they go up instead, they stand to bear part of the blame, whether accurately or not.
Stopping the Keystone XL pipeline won't result in appreciably lower US or global oil consumption, or a material change in global GHG emissions. The key to oil's emissions lies on the consumption side, where most of them occur, and thus in focusing on the hundreds of billions of dollars per year spent by developing and transitional countries on sheltering their industries and consumers from the price of oil, along with countries that still generate significant amounts of electricity from oil. Nor would approving the pipeline restore the US economy to its pre-financial-crisis growth rate. The energy security benefits that it would bring, like the climate benefits opponents seek, are more about reducing risk. Yet whether or not you agree with the editors of Bloomberg that keeping "Canadian oil flowing to U.S. refineries in the most efficient way, within the bounds of safety" is the principle that should guide Secretary of State Kerry, no one has benefited from dragging the decision out this long. The winners might end up regretting that as much as the losers.
That assessment starts with the fact that both sides have contributed to exaggerating the stakes out of all proportion, especially on the part of those concerned about the climate impacts of a new pipeline to carry crude derived from Canada's oil sands, or "tar sands." With Nebraska having signed off on a new route avoiding the Sand Hills, the entire question now hinges on its global greenhouse gas (GHG) emissions, which would be far less than some claim. Without belaboring this point--not the aim of this posting--you needn't take the word of Transcanada, the pipeline's owner on this. It's straightforward to demonstrate that any expansion of oil sands production would still account for a small share of Canada's GHG emissions, which are in turn a thin sliver of global emissions. Such facts are easily overshadowed by pronouncements such as the oft-cited "game over" assertion from NASA's James Hansen, reminding us that even Ph.D.'s should be cautious when straying so far beyond their expertise.
Likewise, supporters of the pipeline have made numerous expansive claims about its potential economic and employment benefits. Even if those are accurate, they're a lot less relevant at this stage of the debate than they were a year or two ago. This issue has grown far beyond an argument about the facts, or even about a pipeline. It has become a battle over a symbol, and the responsibility for that development rests with the administration, which declined multiple opportunities to issue a simple up-or-down decision, even when the Congress attempted to force the President's hand in late 2011. Blame it on the election cycle, or unwillingness to disappoint one or another important constituency. But extended this long, indecision turned the project into a giant version of Schrödinger's Cat, existing in a sort of limbo that compels attention.
When the pipeline's fate is finally revealed, the consequences could match its inflated, symbolic stature, rather than its actual importance as an energy project. The possible blowback is probably easier to imagine if the pipeline were approved. Outraged environmentalists would be unlikely simply to pack up their signs and go home. Aside from seeking new ways to impede the project, they might turn their attention to other energy projects that are currently uncontroversial, or at least less so than Keystone XL. They might also choose to vent their anger on an administration they were counting on to see this argument their way. The resulting fallout in lost voter enthusiasm might hinder Democratic candidates in the 2014 mid-term elections.
Now imagine what might happen if the pipeline were rejected. As I understand the process, that would require the new Secretary of State to rule that the project is not in the US national interest. That would constitute a serious snub to our largest trading partner and largest source of imported crude oil. Canada won't cut us off, but its government and industry would certainly intensify their efforts to diversify their oil export destinations, by means of other options headed either west or east, by pipeline or by rail. The oil would still get through, but the relationship between the US and Canada would suffer, and environmentalists would be seen as responsible. In any case, what won't happen is the shutdown of oil sands development. If anything, making this oil harder to bring to market could lend further support to high oil prices, and paradoxically preserve the incentive to produce more of it or gain access to these supplies.
The outcome that should worry environmentalists most about that scenario is the prospect of up to 800,000 barrels per day of crude oil loaded onto rail cars--roughly 1,000 a day of them--and moving all over North America. Aside from the increased emissions associated with that mode of transport, compared to pipelines, the risks of a serious accident or spill would multiply. If such an event occurred, it would attract significant attention from media that wouldn't be shy about reminding viewers why this oil was in rail cars in the first place. But even without an accident, opponents of the pipeline are placing an implicit bet that oil prices will stay flat or decline if the pipeline isn't built. If they go up instead, they stand to bear part of the blame, whether accurately or not.
Stopping the Keystone XL pipeline won't result in appreciably lower US or global oil consumption, or a material change in global GHG emissions. The key to oil's emissions lies on the consumption side, where most of them occur, and thus in focusing on the hundreds of billions of dollars per year spent by developing and transitional countries on sheltering their industries and consumers from the price of oil, along with countries that still generate significant amounts of electricity from oil. Nor would approving the pipeline restore the US economy to its pre-financial-crisis growth rate. The energy security benefits that it would bring, like the climate benefits opponents seek, are more about reducing risk. Yet whether or not you agree with the editors of Bloomberg that keeping "Canadian oil flowing to U.S. refineries in the most efficient way, within the bounds of safety" is the principle that should guide Secretary of State Kerry, no one has benefited from dragging the decision out this long. The winners might end up regretting that as much as the losers.
Wednesday, January 18, 2012
Playing Games with US Energy Security
Well, that didn't take long. The administration issued its decision denying the Keystone XL Pipeline application today, rather than using the remaining 34 days in the Congressionally mandated timeline to attempt to find a better solution. This is a prime example of what frustrates so many Americans of all political affiliations about how the nation is being governed. If you read the carefully drafted press release from the State Department, which had been given responsibility for determining whether the pipeline was in the national interest, it explicitly states that today's decision was neither final nor on the merits of the project. Implicit in this document is that today's move is exactly that, the latest move in the game that the President and Congress have been playing with a project large enough to affect the energy security of this country for decades to come. It is unseemly, and it didn't have to be played this way, despite the White House's protests that the 60-day timeline was unrealistic--after three years of study.
Here's a different statement the President could have issued, which might not have satisfied either side of the argument but would have left his administration looking like one with a bias for action and answers, instead of delays and obstacles:
"Today I have instructed the State Department to issue a pro forma finding against the application for the Keystone XL Pipeline project, with the clear understanding that this decision is a temporary expedient to provide the time necessary to resolve the remaining outstanding issues, as quickly as humanly possible. I hereby commit that my administration will do everything in its power to work with the government of Canadian Prime Minister Harper and with Governor Heineman of Nebraska to reach a mutually satisfactory solution that will allow this critical project strengthening the energy bonds between our two nations to proceed, while finding meaningful ways to address the concerns that many Americans have about the project's potential local and global environmental impacts. With renewed tensions in the Persian Gulf and with millions of Americans still out of work, we can do nothing less, even as we remain committed to protecting the environment that benefits us all. I have directed Secretary Clinton to work closely with Energy Secretary Chu and EPA Administrator Jackson and with their counterparts in Canada to develop a solution that addresses these needs, and to report back to me within 90 days with its outline ."
I don't diminish the political challenges of issuing such a statement when key parts of the President's support base have been so vocal in opposing this project. All you have to do is look at the latest set of talking points against the project from the Natural Resources Defense Council (NRDC). As disappointingly illogical a mishmash as they may be, based on misinterpreted data and a bizarre defense of cheap oil for the Midwest, they still reflect heartfelt, even visceral, reactions to the Keystone project--or more accurately to the oil sands development that it was expected to enable. Fair enough. I respect their right to an opportunity to provide input and guidance toward an eventual compromise, but not to a veto over US energy policy.
Nor should the opponents of the Keystone XL project fool themselves. Today's decision was guided by expediency, just as the future, possibly quite different decision for which the door was left open would be, perhaps at a point in time when the political calculus has shifted in favor of the project due to some external event. A decision based on principle would have looked quite different. "The Department’s denial of the permit application does not preclude any subsequent permit application or applications for similar projects." Whose move is it now?
Here's a different statement the President could have issued, which might not have satisfied either side of the argument but would have left his administration looking like one with a bias for action and answers, instead of delays and obstacles:
"Today I have instructed the State Department to issue a pro forma finding against the application for the Keystone XL Pipeline project, with the clear understanding that this decision is a temporary expedient to provide the time necessary to resolve the remaining outstanding issues, as quickly as humanly possible. I hereby commit that my administration will do everything in its power to work with the government of Canadian Prime Minister Harper and with Governor Heineman of Nebraska to reach a mutually satisfactory solution that will allow this critical project strengthening the energy bonds between our two nations to proceed, while finding meaningful ways to address the concerns that many Americans have about the project's potential local and global environmental impacts. With renewed tensions in the Persian Gulf and with millions of Americans still out of work, we can do nothing less, even as we remain committed to protecting the environment that benefits us all. I have directed Secretary Clinton to work closely with Energy Secretary Chu and EPA Administrator Jackson and with their counterparts in Canada to develop a solution that addresses these needs, and to report back to me within 90 days with its outline ."
I don't diminish the political challenges of issuing such a statement when key parts of the President's support base have been so vocal in opposing this project. All you have to do is look at the latest set of talking points against the project from the Natural Resources Defense Council (NRDC). As disappointingly illogical a mishmash as they may be, based on misinterpreted data and a bizarre defense of cheap oil for the Midwest, they still reflect heartfelt, even visceral, reactions to the Keystone project--or more accurately to the oil sands development that it was expected to enable. Fair enough. I respect their right to an opportunity to provide input and guidance toward an eventual compromise, but not to a veto over US energy policy.
Nor should the opponents of the Keystone XL project fool themselves. Today's decision was guided by expediency, just as the future, possibly quite different decision for which the door was left open would be, perhaps at a point in time when the political calculus has shifted in favor of the project due to some external event. A decision based on principle would have looked quite different. "The Department’s denial of the permit application does not preclude any subsequent permit application or applications for similar projects." Whose move is it now?
Monday, December 26, 2011
2011 in Energy: The Year of...
At the start of 2011, I thought the hallmark of the year's energy events and trends might involve regulation, with the White House seeking to implement measures that couldn't garner enough support in Congress to become laws. But for every major new regulation issued, such as last week's release of the new Mercury and Air Toxics Standards for power plants, others were delayed or deferred, including the EPA's effort to regulate greenhouse gases under the Clean Air Act and the agency's proposed ozone standard. Outside of the utilities and other industry groups directly affected by these rules, it seems likely that 2011 will instead be remembered for big, unpredictable events like the Fukushima nuclear accident and the Solyndra bankruptcy scandal, along with several major trends that reached critical mass this year. Anyone attempting to pick the energy story of the year is spoiled for choice.
In my search for a catchy title for this year's final posting, I toyed with "The Year of Solyndra", "The Year of Shale", "The Year of Fukushima", "The Year of Exports", and various other combinations of the energy buzzwords that percolated into our consciousness this year. In some ways, they'd all be apt choices. Here's a quick rundown on why they might merit that kind of recognition, with links to previous postings providing more details on each:
It was a busy year for energy, and if my short list of top stories missed something crucial, please let me know. 2012 promises to be just as interesting, with a Presidential election, in which energy issues could feature prominently, added to the mix. In the meantime, I'd like to wish my readers in the UK and Commonwealth a happy Boxing Day, and to all a Happy New Year.
In my search for a catchy title for this year's final posting, I toyed with "The Year of Solyndra", "The Year of Shale", "The Year of Fukushima", "The Year of Exports", and various other combinations of the energy buzzwords that percolated into our consciousness this year. In some ways, they'd all be apt choices. Here's a quick rundown on why they might merit that kind of recognition, with links to previous postings providing more details on each:
- If 2011 is the year of Solyndra, it's not because of the possibility that the government's $535 million loan to the firm was the result of political influence (cue Major Renault), or even that the Department of Energy is unlikely to recover more than pennies on the dollar in the firm's bankruptcy. Instead, it's because Solyndra highlighted the much broader and deeper problems of a global solar industry that, despite continued demand growth that other industries would kill for, now faces overcapacity and the fallout from the winding down of unsustainable government support. Germany's Solar Millennium is just the latest victim of this trend. Along with BP's exit from the solar business after 40 years, it provides a further reminder that renewable energy firms must succeed not just as technology providers, but as businesses that can earn consistent profits and continue to attract investors.
- Shale gas was hardly new to the scene in 2011; it has been expanding rapidly for several years and now accounts for up to a third of US natural gas production. However, the controversy surrounding drilling techniques like hydraulic fracturing that make its exploitation possible became much more widespread this year, while some scientists raised questions about its contribution to greenhouse gas emissions. Shale gas has the potential to transform nearly every aspect of our energy economy, and probably sooner than renewable energy sources could. That has some folks nervous, while others are eager for shale gas to displace coal from electricity generation, compete with oil in transportation, and revive the domestic petrochemical industry. I suspect we'll see all of those to some extent, provided we don't regulate shale out of the running.
- The aftermath of Fukushima could prove equally transformational, though it remains to be seen whether the ultimate result is safer nuclear power or a global retreat from one of our largest sources of low-emission energy. All but 8 of Japan's 54 nuclear power plants are currently idle, and that nation must shortly decide whether it will eventually restart those units that weren't critically damaged, or shut down the rest and attempt to run its manufacturing-intense economy on a combination of renewables and much larger imports of fossil fuels. The German government's post-Fukushima decision to phase out nuclear energy entirely could provide an even quicker test of the same proposition.
- Another major shift that has been in the news recently involves exports. Although the US has long exported coal and various petroleum products, we could shortly become a bigger, more consistent exporter of many fuels, including liquefied natural gas (LNG), gasoline and diesel. As the reaction in a CBS news segment last week demonstrated, the US public doesn't know quite what to make of this, yet. Becoming a major energy exporter while still importing a net 9 million barrels per day of crude oil is very different than the picture of isolated self-sufficiency that four decades of "energy independence"rhetoric has evoked. We shouldn't be surprised that energy can provide a boost, and not just a drain on our trade balance. This topic requires more public discussion and education, before we see serious proposals to ban such exports--proposals that would make no more sense than banning exports of corn, tractors, or aircraft in an attempt to keep their US prices low.
- It's also tempting to call this the Year of Oil Price Confusion. The news media gradually woke up to the huge gap that had developed between global oil prices and the oil price that Americans tend to watch most closely, the one for West Texas Intermediate crude. Yet despite numerous stories on the storage and pipeline crunch and supply glut at Cushing, Oklahoma, few reporters and networks seemed able to follow through by breaking their old habit of treating the NYMEX WTI price and its gyrations as if it were still the best indicator of the overall oil market. Fortunately, the problem is in the process of being resolved, as pipelines are reversed and more tankage built.
- Finally, there was the administration's non-decision on the Keystone XL pipeline. Observers can read much into this, including the growing influence of citizen activists mobilized via social media. However, if it does nothing else, the Keystone controversy should put to rest the superficial fallacy that anything that improves greenhouse gas emissions is automatically good for energy security, instead of requiring difficult trade-offs. In that context, the prospect that the administration might ultimately turn down the permit for Keystone would be easier to stomach if the net greenhouse gas savings involved amounted to more than a paltry 0.3% of annual US emissions, based on the emissions from incremental oil sands production the pipeline might facilitate, compared to those from the conventional imported oil it would displace.
It was a busy year for energy, and if my short list of top stories missed something crucial, please let me know. 2012 promises to be just as interesting, with a Presidential election, in which energy issues could feature prominently, added to the mix. In the meantime, I'd like to wish my readers in the UK and Commonwealth a happy Boxing Day, and to all a Happy New Year.
Tuesday, October 18, 2011
Pipelines in the Spotlight
There aren't many parts of the energy value chain that normally receive less attention than pipelines. Energy production, whether from oil and gas fields, nuclear power plants, or rapidly growing renewable sources usually garners far more attention for the impressive technology and capital involved. By contrast pipelines are long-lived, relatively low-tech and low-return assets that often seem invisible to those outside the industry. Sunday's announcement of Kinder Morgan's bid for El Paso Corp., uniting two pipeline giants into a $94 billion enterprise, reminds us just how big this low-key infrastructure can be. This deal also signals important shifts underway within the fossil fuel industry. Just as the rise of wind and solar power requires an upgraded electricity grid, changes in the sources of our oil and gas have big implications for the networks required to bring these fuels to market.
As an article in today's Wall St. Journal states in its title, the Kinder Morgan-El Paso deal heralds the arrival of the Age of Shale. It simultaneously validates the potential of US shale gas resources and points to a new set of growth opportunities created by unconventional oil and gas resources that couldn't have been produced a decade ago, either economically or technically. This couldn't have come at a better time for the pipeline industry, when its bread-and-butter business of transporting refined products to distribution terminals is reaching a plateau, as developed-country markets exhibit Peak Demand and biofuels output grows. That's a big change from when I worked in the "mid-stream", which includes pipelines, distribution terminals and trading. Then, the challenge was keeping conventional crude pipelines full as domestic onshore oil fields depleted, while expanding capacity to transport gasoline, diesel and jet fuel to meet steadily rising demand. Today the advent of shale gas, shale oil and oil sands crude coincides with the development of a much more diverse energy market.
Recent changes in the economy also make pipelines, which used to be considered dull, more interesting as an investment. With interest rates historically low and equity markets weak and volatile, the modest but stable returns that midstream oil and gas assets offer must seem a lot more attractive than they did prior to the financial crisis, particularly when managed in tax-efficient structures such as the master limited partnerships that Mr. Kinder helped pioneer. And those same low interest rates make the capital required for new private-sector infrastructure projects more affordable. Such projects also look doubly beneficial in the current environment of high unemployment, providing both large numbers of jobs in the short term, during construction, and ensuring the reliable energy supplies needed for sustainable job growth once the economy hits its stride again.
Of course pipelines aren't always dull, particularly when they are the focus of controversies such as the current one concerning the proposed Keystone XL Pipeline. But what many of that project's critics, including celebrities who appear to know less about such facilities than most of my readers, have missed is that despite rare, unfortunate accidents, pipelines remain the best and most efficient means of transporting large volumes of fuel over long distances. Unless you honestly think we can do without these fuels entirely--a scenario that I am convinced will not be realistic for at least another few decades--then it makes little sense to shun pipelines and thus proportionally increase the quantity of fuel that will be carried by truck, rail and ocean-going tankers, all of which are also subject to accidents. Like all infrastructure pipelines require proper maintenance, but they are not inherently risky.
No bet on the scale of the one Kinder Morgan is making can ever be a sure thing, and I can think of several things that might go wrong, topped by a double-dip global recession that lasted for years and sapped both energy demand and gas drilling economics. However, this deal taps into a number of converging trends supporting a US natural gas boom that is part and parcel of the potential global Golden Age of Gas that the International Energy Agency recently described. I wouldn't be surprised to see more transactions along these lines.
As an article in today's Wall St. Journal states in its title, the Kinder Morgan-El Paso deal heralds the arrival of the Age of Shale. It simultaneously validates the potential of US shale gas resources and points to a new set of growth opportunities created by unconventional oil and gas resources that couldn't have been produced a decade ago, either economically or technically. This couldn't have come at a better time for the pipeline industry, when its bread-and-butter business of transporting refined products to distribution terminals is reaching a plateau, as developed-country markets exhibit Peak Demand and biofuels output grows. That's a big change from when I worked in the "mid-stream", which includes pipelines, distribution terminals and trading. Then, the challenge was keeping conventional crude pipelines full as domestic onshore oil fields depleted, while expanding capacity to transport gasoline, diesel and jet fuel to meet steadily rising demand. Today the advent of shale gas, shale oil and oil sands crude coincides with the development of a much more diverse energy market.
Recent changes in the economy also make pipelines, which used to be considered dull, more interesting as an investment. With interest rates historically low and equity markets weak and volatile, the modest but stable returns that midstream oil and gas assets offer must seem a lot more attractive than they did prior to the financial crisis, particularly when managed in tax-efficient structures such as the master limited partnerships that Mr. Kinder helped pioneer. And those same low interest rates make the capital required for new private-sector infrastructure projects more affordable. Such projects also look doubly beneficial in the current environment of high unemployment, providing both large numbers of jobs in the short term, during construction, and ensuring the reliable energy supplies needed for sustainable job growth once the economy hits its stride again.
Of course pipelines aren't always dull, particularly when they are the focus of controversies such as the current one concerning the proposed Keystone XL Pipeline. But what many of that project's critics, including celebrities who appear to know less about such facilities than most of my readers, have missed is that despite rare, unfortunate accidents, pipelines remain the best and most efficient means of transporting large volumes of fuel over long distances. Unless you honestly think we can do without these fuels entirely--a scenario that I am convinced will not be realistic for at least another few decades--then it makes little sense to shun pipelines and thus proportionally increase the quantity of fuel that will be carried by truck, rail and ocean-going tankers, all of which are also subject to accidents. Like all infrastructure pipelines require proper maintenance, but they are not inherently risky.
No bet on the scale of the one Kinder Morgan is making can ever be a sure thing, and I can think of several things that might go wrong, topped by a double-dip global recession that lasted for years and sapped both energy demand and gas drilling economics. However, this deal taps into a number of converging trends supporting a US natural gas boom that is part and parcel of the potential global Golden Age of Gas that the International Energy Agency recently described. I wouldn't be surprised to see more transactions along these lines.
Monday, August 22, 2011
Oil Sands Anxiety Is Overblown
As I was catching up on a two-week backlog of news after my vacation, I ran across a New York Times editorial with the promising title of "Tar Sands and the Carbon Numbers." Thinking that perhaps the Times might have woken up to the necessity of comparing the lifecycle emissions from oil sands to those from other crude oils, I was disappointed to find its editors perpetuating the common misunderstanding concerning these emissions when viewed only from an oil-production perspective. That's a shame, because it results in the scape-goating of Canadian producers and pipeline companies while conveniently avoiding the soul-searching that ought to accompany a clear understanding that, whether we're talking about oil sands or conventional oil imported from any other source, the vast majority of the lifecycle emissions will occur here, when the products into which these oils will be refined are consumed. It is also condescending toward the sovereign responsibility of our NAFTA neighbor for managing their national emissions under the Kyoto Protocol, which they ratified but we didn't.
The pending State Department review of the proposed Keystone XL pipeline project linking Alberta's oil and oil-sands projects to Gulf Coast refineries has become a hot-button issue for US environmental groups. Producing oil from oil sands, which were more commonly called tar sands until that became a term of disparagement, certainly involves more environmental consequences than most--though not all--conventional crude oils. Since US groups haven't been very successful targeting the oil sands projects in Alberta, where they contribute significantly to Canada's oil output and overall economy, the export pipeline has become a target of convenience. From my perspective, the angst about pipeline safety and acidic bitumen is mainly a red herring; the oil industry routinely handles other crude oils of similar sulfur levels and acidity, usually by adjusting the metallurgy of the pipes and vessels involved. The real issue here is greenhouse gas emissions, which the Times and most other critics of oil sands narrowly compare to those from producing conventional oils.
The Environment Canada report cited by the Times indicates that oil sands production and upgrading result in emissions about 70% higher per barrel than for the production of Canada's average conventional oil. That's in the range of other estimates I've seen. However, what the Times fails to mention is that such "upstream" emissions only account for a fraction of the total lifecycle emissions attributable to any oil. By far the biggest portion--even for oil sands--comes from the combustion of petroleum products by end-users.
So if at least 70% of the emissions from oil sands crude occur in the US, rather than Canada, and if the lifecycle (well-to-wheels) emissions from oil sands only average around 15% higher than for the average US refinery's crude slate, while emitting little or no more than some commonly imported crude oils from other countries, are the XL pipeline's opponents exaggerating its impact? I believe they are, unless they're also willing to take on imports of consumer goods and other products from higher-emitting countries like China. That would be difficult to justify to the World Trade Organization, considering that the US doesn't have a statutory limit on its own greenhouse gas emissions. It might also put us in an awkward position with regard to our exports to countries that have adopted strict emissions reduction targets.
Meanwhile we shouldn't forget that under UN agreements it is Canada that bears responsibility for the extra emissions that oil sands generate in Alberta. The Environment Canada report indicates that oil sands are likely to contribute 11.7% of Canada's GHG emissions by 2020, up from 6.7% in 2005, when Canada's share of global GHG emissions stood at less than 2%. The expected increase in oil sands output would account for essentially all of the projected 7% rise in Canada's emissions over that interval, an amount equivalent to 0.1% of current global emissions. The means by which Canada could address those incremental emissions include improved technology, offsetting cuts in other sectors, emissions trading and offsets purchased from other countries, or the Canadian government could simply choose to restrict oil sands output. Whatever path they choose, we have plenty of our own emissions to consider without going into a tizzy over a Canadian sector that currently emits roughly as much as US livestock waste management.
Trying to control the emissions from oil sands by blocking this pipeline is a perfect illustration of the difficulty of attempting to tackle a complex global environmental problem by focusing on isolated measures that only bear indirectly on the outcomes that matter. The weakness of the Times' argument is reflected in the following sentence, referring to Canada's policies: "The United States can't do much about that, but it can stop the Keystone XL pipeline." The implication seems to be that we would be better off if Canada exported its oil sands to developing Asia, their next best market, relieving us of any associated guilt, even if it made no actual difference in global emissions. I hope that when the State Department decides this matter, it gives appropriate weight to the fact that, other than fuel economy improvements in the US car fleet, our energy ties with Canada represent the single most effective energy security measure undertaken by this country since the oil crises of the 1970s.
The pending State Department review of the proposed Keystone XL pipeline project linking Alberta's oil and oil-sands projects to Gulf Coast refineries has become a hot-button issue for US environmental groups. Producing oil from oil sands, which were more commonly called tar sands until that became a term of disparagement, certainly involves more environmental consequences than most--though not all--conventional crude oils. Since US groups haven't been very successful targeting the oil sands projects in Alberta, where they contribute significantly to Canada's oil output and overall economy, the export pipeline has become a target of convenience. From my perspective, the angst about pipeline safety and acidic bitumen is mainly a red herring; the oil industry routinely handles other crude oils of similar sulfur levels and acidity, usually by adjusting the metallurgy of the pipes and vessels involved. The real issue here is greenhouse gas emissions, which the Times and most other critics of oil sands narrowly compare to those from producing conventional oils.
The Environment Canada report cited by the Times indicates that oil sands production and upgrading result in emissions about 70% higher per barrel than for the production of Canada's average conventional oil. That's in the range of other estimates I've seen. However, what the Times fails to mention is that such "upstream" emissions only account for a fraction of the total lifecycle emissions attributable to any oil. By far the biggest portion--even for oil sands--comes from the combustion of petroleum products by end-users.
So if at least 70% of the emissions from oil sands crude occur in the US, rather than Canada, and if the lifecycle (well-to-wheels) emissions from oil sands only average around 15% higher than for the average US refinery's crude slate, while emitting little or no more than some commonly imported crude oils from other countries, are the XL pipeline's opponents exaggerating its impact? I believe they are, unless they're also willing to take on imports of consumer goods and other products from higher-emitting countries like China. That would be difficult to justify to the World Trade Organization, considering that the US doesn't have a statutory limit on its own greenhouse gas emissions. It might also put us in an awkward position with regard to our exports to countries that have adopted strict emissions reduction targets.
Meanwhile we shouldn't forget that under UN agreements it is Canada that bears responsibility for the extra emissions that oil sands generate in Alberta. The Environment Canada report indicates that oil sands are likely to contribute 11.7% of Canada's GHG emissions by 2020, up from 6.7% in 2005, when Canada's share of global GHG emissions stood at less than 2%. The expected increase in oil sands output would account for essentially all of the projected 7% rise in Canada's emissions over that interval, an amount equivalent to 0.1% of current global emissions. The means by which Canada could address those incremental emissions include improved technology, offsetting cuts in other sectors, emissions trading and offsets purchased from other countries, or the Canadian government could simply choose to restrict oil sands output. Whatever path they choose, we have plenty of our own emissions to consider without going into a tizzy over a Canadian sector that currently emits roughly as much as US livestock waste management.
Trying to control the emissions from oil sands by blocking this pipeline is a perfect illustration of the difficulty of attempting to tackle a complex global environmental problem by focusing on isolated measures that only bear indirectly on the outcomes that matter. The weakness of the Times' argument is reflected in the following sentence, referring to Canada's policies: "The United States can't do much about that, but it can stop the Keystone XL pipeline." The implication seems to be that we would be better off if Canada exported its oil sands to developing Asia, their next best market, relieving us of any associated guilt, even if it made no actual difference in global emissions. I hope that when the State Department decides this matter, it gives appropriate weight to the fact that, other than fuel economy improvements in the US car fleet, our energy ties with Canada represent the single most effective energy security measure undertaken by this country since the oil crises of the 1970s.
Tuesday, April 12, 2011
What's the Alternative to Oil Sands?
I can recall when technologies like oil sands and coal gasification were commonly referred to as alternative energy, with the same high-tech aura now attached to solar power and advanced biofuels. Much has changed since then, not least our perspective on climate change and the greenhouse gases that contribute to it. It's no longer possible to consider Canada's oil sands production and the means of transporting it without a serious examination of the environmental consequences, both at the source and along its journey to market. However, while I understand that perspective, the reaction to the proposed Keystone XL pipeline seems disconnected from the reality that crucial supplies of Middle Eastern oil suddenly look much riskier than they did. We should certainly weigh the costs and benefits of oil sands carefully, but the missing element from this conversation is the question of what the alternative would be if we ruled out more oil sands imports.
This train of thought began with a sobering analysis of the energy implications of the unrest in the Middle East by Amy Myers Jaffe of the Baker Institute at Rice University in Houston. The challenge she highlights is much subtler than the risk of exports from countries like Libya being disrupted for a few months or even a few years. Existing spare capacity in other producing countries can cope with some of that, although a portion of that capacity is in other countries that could be just another domino or two down the road, while the rest is in Saudi Arabia, which might not be immune, either. Yet if the worst case is the disruption of exports, we have a substantial Strategic Petroleum Reserve to fall back on. Prices might rise significantly, but the prospect of no fuel at your local gas station at any price remains remote for now.
However, as Ms. Jaffe demonstrates, much of the incremental oil production capacity on which forecasters have been relying to meet additional oil demand over the next two decades, and to backstop declining production in non-OPEC countries, must come from the same region that is now in turmoil. And as the charts in her presentation show, revolutions--democratic or otherwise--rarely result in higher oil output. If new governments or chastened existing governments don't invest in developing that extra capacity, then Peak Oil won't just be a theoretical construct in geology; it will be a very real outcome in geopolitics, and one that strategic inventories like the SPR would be unable to mitigate.
We have had a tendency to view Canada as the Saudi Arabia of the north. Considering that we now receive more oil from there than from all the countries of the Persian Gulf combined, and that our NAFTA partner's proved reserves of 178 billion barrels are second only to those of the Kingdom, that's not unreasonable. As recently as 2002, though, Canada's oil reserves were under 6 billion barrels, before the oil sands could be booked as reserves in large quantities. Without its oil sands, Canada would be just another mature oil province with declining conventional output. The question of how rapidly to develop those resources, and whether to export their output outside North America to any significant degree, is currently a hot topic in Canadian politics. The pipeline to transport this oil to Kitimat, British Columbia for export to Asia seems to be subject to a similar debate to the one we're having in this country concerning the Keystone XL line from Alberta to the Gulf Coast. But what if these projects didn't go forward? A world without oil sands might have a little less in the way of greenhouse gas emissions, but it would also have much higher oil prices, and those prices would be more volatile.
So what are the alternatives to these "dirty tar sands", as environmentalists now invariably refer to them? Well, if you're been reading my blog for a while, you know that wind and solar power don't enter into this discussion, because very little electricity is used for transportation and very little oil is used for generating electricity, outside of the developing world and now post-Tohoku Quake Japan. If we don't have access to oil sands imports, then the only other near-to-medium term options for reducing our oil imports from less stable suppliers involve more domestic oil production, more efficient vehicles, and more biofuels production.
Unfortunately the latest Department of Energy forecast incorporating all of those options still leaves us importing nearly 9 million barrels per day of oil in 2025. Without a significant portion of it coming from Canadian oil sands, we will still be forced to rely on imports from places like Venezuela and the Middle East, some of which aren't much more environmentally sound than the oil sands production. And that assumes that all the domestic production in these plans actually materializes. Turning up our noses at both offshore drilling and oil sands is pretty much mutually exclusive. (Or for that matter, shale gas and oil sands, even though these are different forms of energy.)
As for biofuels, we've already got just about as much corn ethanol as we can handle for many reasons, and the more advanced variety has not been especially cooperative in turning up on schedule. Replacing the oil sands capacity that the proposed Keystone XL pipeline could deliver would require more than 23 billion additional gallons per year of ethanol, or 180% of last year's US ethanol output. That figure exceeds the entire 2022 cellulosic and advanced biofuel target under the federal Renewable Fuels Standard. Biofuels are an important part of our energy mix, but the time when they could make oil sands crude unnecessary is still a long way off.
Americans are conflicted. We complain about $4 gasoline, and we're uneasy about another military intervention in the oil patch of the Middle East and North Africa, but then we throw obstacle after obstacle in the path of one of the few options that can provide us with a larger supply of reliable fuel from North America. No matter how sympathetic I am with communities that don't want the new pipeline to pass through or near them, or with concerns about the 17% increase in lifecycle greenhouse gas emissions that oil sands represent, compared to conventional oil, closing our border to additional imports of oil sands crude can only undermine US energy security, at the worst possible time.
This train of thought began with a sobering analysis of the energy implications of the unrest in the Middle East by Amy Myers Jaffe of the Baker Institute at Rice University in Houston. The challenge she highlights is much subtler than the risk of exports from countries like Libya being disrupted for a few months or even a few years. Existing spare capacity in other producing countries can cope with some of that, although a portion of that capacity is in other countries that could be just another domino or two down the road, while the rest is in Saudi Arabia, which might not be immune, either. Yet if the worst case is the disruption of exports, we have a substantial Strategic Petroleum Reserve to fall back on. Prices might rise significantly, but the prospect of no fuel at your local gas station at any price remains remote for now.
However, as Ms. Jaffe demonstrates, much of the incremental oil production capacity on which forecasters have been relying to meet additional oil demand over the next two decades, and to backstop declining production in non-OPEC countries, must come from the same region that is now in turmoil. And as the charts in her presentation show, revolutions--democratic or otherwise--rarely result in higher oil output. If new governments or chastened existing governments don't invest in developing that extra capacity, then Peak Oil won't just be a theoretical construct in geology; it will be a very real outcome in geopolitics, and one that strategic inventories like the SPR would be unable to mitigate.
We have had a tendency to view Canada as the Saudi Arabia of the north. Considering that we now receive more oil from there than from all the countries of the Persian Gulf combined, and that our NAFTA partner's proved reserves of 178 billion barrels are second only to those of the Kingdom, that's not unreasonable. As recently as 2002, though, Canada's oil reserves were under 6 billion barrels, before the oil sands could be booked as reserves in large quantities. Without its oil sands, Canada would be just another mature oil province with declining conventional output. The question of how rapidly to develop those resources, and whether to export their output outside North America to any significant degree, is currently a hot topic in Canadian politics. The pipeline to transport this oil to Kitimat, British Columbia for export to Asia seems to be subject to a similar debate to the one we're having in this country concerning the Keystone XL line from Alberta to the Gulf Coast. But what if these projects didn't go forward? A world without oil sands might have a little less in the way of greenhouse gas emissions, but it would also have much higher oil prices, and those prices would be more volatile.
So what are the alternatives to these "dirty tar sands", as environmentalists now invariably refer to them? Well, if you're been reading my blog for a while, you know that wind and solar power don't enter into this discussion, because very little electricity is used for transportation and very little oil is used for generating electricity, outside of the developing world and now post-Tohoku Quake Japan. If we don't have access to oil sands imports, then the only other near-to-medium term options for reducing our oil imports from less stable suppliers involve more domestic oil production, more efficient vehicles, and more biofuels production.
Unfortunately the latest Department of Energy forecast incorporating all of those options still leaves us importing nearly 9 million barrels per day of oil in 2025. Without a significant portion of it coming from Canadian oil sands, we will still be forced to rely on imports from places like Venezuela and the Middle East, some of which aren't much more environmentally sound than the oil sands production. And that assumes that all the domestic production in these plans actually materializes. Turning up our noses at both offshore drilling and oil sands is pretty much mutually exclusive. (Or for that matter, shale gas and oil sands, even though these are different forms of energy.)
As for biofuels, we've already got just about as much corn ethanol as we can handle for many reasons, and the more advanced variety has not been especially cooperative in turning up on schedule. Replacing the oil sands capacity that the proposed Keystone XL pipeline could deliver would require more than 23 billion additional gallons per year of ethanol, or 180% of last year's US ethanol output. That figure exceeds the entire 2022 cellulosic and advanced biofuel target under the federal Renewable Fuels Standard. Biofuels are an important part of our energy mix, but the time when they could make oil sands crude unnecessary is still a long way off.
Americans are conflicted. We complain about $4 gasoline, and we're uneasy about another military intervention in the oil patch of the Middle East and North Africa, but then we throw obstacle after obstacle in the path of one of the few options that can provide us with a larger supply of reliable fuel from North America. No matter how sympathetic I am with communities that don't want the new pipeline to pass through or near them, or with concerns about the 17% increase in lifecycle greenhouse gas emissions that oil sands represent, compared to conventional oil, closing our border to additional imports of oil sands crude can only undermine US energy security, at the worst possible time.
Tuesday, July 06, 2010
Putting Energy Security At Risk
In catching up on a week's worth of news after my vacation, several stories caught my eye. The US Congress is apparently renewing its effort to cut tax breaks for the domestic oil & gas industry, while the administration intends to reinstate the offshore drilling moratorium that had been set aside by a federal judge in Louisiana. At the same time, 50 members of Congress have written to Secretary of State Clinton asking her to block a new pipeline to carry crude produced from Canadian oilsands to US refineries. However, even when you factor in the energy contribution of new initiatives such as the $2 billion in loan guarantees for solar power projects announced last week, the net result of all of this would be to undermine two of the central pillars of US energy security for the last several decades: producing more energy here at home and importing energy preferentially from stable and friendly neighbors like Canada and Mexico. For all the lip service about energy independence prompted by the Gulf Coast oil spill, these actions would ultimately make us more reliant on OPEC and unfriendly regimes.
Start with the industry subsidies, which Representative Blumenauer (D-OR) indicates are worth $6 billion per year. Setting aside the important context that these represent reductions in industry tax rates that even after these benefits are still higher than those most other US industries pay, this works out to an average of just $0.18 per million BTUs worth of domestic petroleum and natural gas production, or about $1.05/bbl. Compare that to $18.90/bbl in subsidies for corn ethanol and the equivalent of $2.60 per million BTU for electricity from wind and other renewable sources. As I've noted many times, oil & gas subsidies amount to a lot of money--though ethanol subsidies will come close to exceeding them in aggregate this year--not because they're overly generous, but because the scale of oil & gas still dwarfs all renewables combined.
I'm not a big fan of any of these subsidies, and I think it's high time that the ethanol subsidy, in particular, be brought more in line with its net energy contribution. At the same time, if we want a domestic energy industry that can make a meaningful contribution to covering our needs, then some level of tax breaks and other benefits appears necessary. And while the oil & gas industry is certainly mature and profitable, relative to biofuels and renewable electricity, it is also a global industry that competes with producers around the world, many of which are owned by the same OPEC members that have set the current oil price through effective constraints on their own production. And when drilling eventually resumes off the Gulf Coast, it is guaranteed to be much more costly. Adding higher taxes to these higher costs and tighter regulations must inevitably result in fewer wells being drilled and more oil imported--and from where?
Not from Canada, if the signers of the oilsands letter get their way. Oilsands production raises legitimate environmental concerns, both locally and globally. Producing oil from these deposits results in higher greenhouse gas emissions, though environmentalists usually fail to mention that tripling the emissions from production, compared to conventional oil, raises the total lifecycle emissions of the oil by just 17% compared to the average barrel refined in the US, because the vast majority of those emissions occur when the resulting petroleum products are burned, not when the oil is produced or processed. Now, a 17% increase in emissions is not nothing, but it must be weighed against two other factors. First, if oil prices are high enough, this oil will likely be produced anyway, even if we don't take it. Canadian companies have already signed deals to send oilsands crude to China, and they would do more of this if we turned up our noses at the stuff. Secondly, there's no guarantee that the oil we'd import from elsewhere would result in substantially lower emissions. That's particularly true for crude produced from heavy oil deposits in Venezuela and elsewhere, which average 14% higher lifecycle emissions.
Canada has been our largest foreign oil supplier for years, but with oilsands making up a steadily-growing share of Canadian output, restrictions on our oilsands intake would torpedo that relationship. With Mexican production going into steep decline, we would have to import more from Russia and the Middle East to make up the difference. That doesn't sound like a recipe for energy security to me.
Nor can greener sources close this gap any time soon. If you doubt that, take a look at Abengoa's Solana concentrated solar power project, which the Department of Energy just awarded a $1.45 billion loan guarantee. This technology uses the sun's energy to generate steam for electricity production, and its thermal storage allows it to do so more reliably, and over a longer portion of the day than photovoltaic cells. This is one of the most promising renewable energy technologies available, though at an effective cost of over $5,000 per kW of capacity it's hardly cheap. Yet when you convert its annual power output into equivalent barrels of oil (via the quantity of natural gas it would likely back out) it works out to less than 3,000 barrels per day. Replacing the energy contribution of Gulf Coast drilling or Canadian oilsands imports would require hundreds of such facilities, along with tens of millions of electric cars to enable their output to substitute for oil, very little of which is used to generate electricity in the US.
While renewable energy sources must inevitably meet a growing proportion of our energy needs in the years ahead, for the present US energy security still hinges on oil, which accounts for 92% of our net energy imports. If the Congress is serious about enhancing US energy security, then it should focus its efforts on reining in consumption, rather than erecting further barriers to oil produced here in the US or by our most reliable foreign supplier.
Start with the industry subsidies, which Representative Blumenauer (D-OR) indicates are worth $6 billion per year. Setting aside the important context that these represent reductions in industry tax rates that even after these benefits are still higher than those most other US industries pay, this works out to an average of just $0.18 per million BTUs worth of domestic petroleum and natural gas production, or about $1.05/bbl. Compare that to $18.90/bbl in subsidies for corn ethanol and the equivalent of $2.60 per million BTU for electricity from wind and other renewable sources. As I've noted many times, oil & gas subsidies amount to a lot of money--though ethanol subsidies will come close to exceeding them in aggregate this year--not because they're overly generous, but because the scale of oil & gas still dwarfs all renewables combined.
I'm not a big fan of any of these subsidies, and I think it's high time that the ethanol subsidy, in particular, be brought more in line with its net energy contribution. At the same time, if we want a domestic energy industry that can make a meaningful contribution to covering our needs, then some level of tax breaks and other benefits appears necessary. And while the oil & gas industry is certainly mature and profitable, relative to biofuels and renewable electricity, it is also a global industry that competes with producers around the world, many of which are owned by the same OPEC members that have set the current oil price through effective constraints on their own production. And when drilling eventually resumes off the Gulf Coast, it is guaranteed to be much more costly. Adding higher taxes to these higher costs and tighter regulations must inevitably result in fewer wells being drilled and more oil imported--and from where?
Not from Canada, if the signers of the oilsands letter get their way. Oilsands production raises legitimate environmental concerns, both locally and globally. Producing oil from these deposits results in higher greenhouse gas emissions, though environmentalists usually fail to mention that tripling the emissions from production, compared to conventional oil, raises the total lifecycle emissions of the oil by just 17% compared to the average barrel refined in the US, because the vast majority of those emissions occur when the resulting petroleum products are burned, not when the oil is produced or processed. Now, a 17% increase in emissions is not nothing, but it must be weighed against two other factors. First, if oil prices are high enough, this oil will likely be produced anyway, even if we don't take it. Canadian companies have already signed deals to send oilsands crude to China, and they would do more of this if we turned up our noses at the stuff. Secondly, there's no guarantee that the oil we'd import from elsewhere would result in substantially lower emissions. That's particularly true for crude produced from heavy oil deposits in Venezuela and elsewhere, which average 14% higher lifecycle emissions.
Canada has been our largest foreign oil supplier for years, but with oilsands making up a steadily-growing share of Canadian output, restrictions on our oilsands intake would torpedo that relationship. With Mexican production going into steep decline, we would have to import more from Russia and the Middle East to make up the difference. That doesn't sound like a recipe for energy security to me.
Nor can greener sources close this gap any time soon. If you doubt that, take a look at Abengoa's Solana concentrated solar power project, which the Department of Energy just awarded a $1.45 billion loan guarantee. This technology uses the sun's energy to generate steam for electricity production, and its thermal storage allows it to do so more reliably, and over a longer portion of the day than photovoltaic cells. This is one of the most promising renewable energy technologies available, though at an effective cost of over $5,000 per kW of capacity it's hardly cheap. Yet when you convert its annual power output into equivalent barrels of oil (via the quantity of natural gas it would likely back out) it works out to less than 3,000 barrels per day. Replacing the energy contribution of Gulf Coast drilling or Canadian oilsands imports would require hundreds of such facilities, along with tens of millions of electric cars to enable their output to substitute for oil, very little of which is used to generate electricity in the US.
While renewable energy sources must inevitably meet a growing proportion of our energy needs in the years ahead, for the present US energy security still hinges on oil, which accounts for 92% of our net energy imports. If the Congress is serious about enhancing US energy security, then it should focus its efforts on reining in consumption, rather than erecting further barriers to oil produced here in the US or by our most reliable foreign supplier.
Friday, August 21, 2009
Climate vs. Security?
In the last few years I've watched perceptions of US energy security and climate change, the two main drivers of energy policy, converge gradually toward a general sense that smart climate policy will be good for energy security, and vice versa. There's even a growing understanding that a stable climate contributes to national security, distinct from any energy considerations. However, there are still cases with strongly divergent energy security and climate change implications, and a new pipeline that will deliver crude extracted from Canadian oil sands is a prime example. The US State Department's approval of this project looks entirely appropriate and sensible, even if it conflicts with the administration's emphasis on reducing greenhouse gas emissions. Like it or not--and largely because of past decisions concerning our own off-limits oil resources--Canadian oil sands have become an essential pillar of US energy security.
The "Alberta Clipper" pipeline of Enbridge, Inc. could eventually bring up to 800,000 barrels per day of Canadian crude oil to refineries in the US Midwest, as oil sands production in Alberta Province continues to grow. This oil would displace imports from the Middle East and West Africa, which absent oil sands are likely to grow, in spite of increasing biofuel production and higher fuel economy standards for new cars. That's because output from Mexico, our other main local supplier, is dropping sharply, while higher production from Brazil may only offset declines in Venezuela, which has grossly mismanaged its oil sector. Oil sands are already compensating for the steady decline in conventional Canadian oil production, and without them our imports from our largest oil supplier couldn't be sustained at their current level of roughly 10% of US oil consumption--equating to about five times the energy content of current US ethanol production. There is simply no realistic energy scenario for the next 20 years in which we could forgo imports of Canadian crude produced from oil sands, without a corresponding increase in imports from the Middle East.
The main concern cited about oil sands relates to its higher emissions of greenhouse gases, compared to conventional oil production. This is indisputable, though it's important to put those higher emissions into perspective, while also recognizing that technology and an increased Canadian emphasis on these emissions should reduce this disparity over time. The most recent study I've seen on the subject indicates that although the processes for producing useful liquids from Canadian oil sands result in roughly three times the upstream greenhouse gas emissions of the average barrel of US supply, the well-to-wheels lifecycle emissions are only 17% higher than average. In either case, most of the emissions from oil occur when it is burned in vehicles or other end-uses, not during production. While not insignificant, the excess emissions from oil sands can be offset less expensively elsewhere in our energy economy, particularly if the ultimate US climate legislation gives the utility sector the right incentives to cut its CO2 emissions, which are roughly a fifth larger than those from oil consumed in transportation.
Greenhouse gas emissions aren't the only environmental impact associated with oil sands, but we lack any reasonable or consistent way to assess the trade-off between the others and the potential impacts--physical or aesthetic--of increasing our own oil production from the significant resources we have placed off-limits to exploitation, including the Arctic National Wildlife Refuge and the outer continental shelves of California and other states. In effect, American policy makers and consumers have implicitly chosen to ramp up oil output in Alberta to spare other areas of greater concern to American voters. Such decisions have left us reliant on this Canadian energy resource, the incremental greenhouse gas consequences of which can be offset elsewhere. The State Department appears to have reached a similar conclusion.
The "Alberta Clipper" pipeline of Enbridge, Inc. could eventually bring up to 800,000 barrels per day of Canadian crude oil to refineries in the US Midwest, as oil sands production in Alberta Province continues to grow. This oil would displace imports from the Middle East and West Africa, which absent oil sands are likely to grow, in spite of increasing biofuel production and higher fuel economy standards for new cars. That's because output from Mexico, our other main local supplier, is dropping sharply, while higher production from Brazil may only offset declines in Venezuela, which has grossly mismanaged its oil sector. Oil sands are already compensating for the steady decline in conventional Canadian oil production, and without them our imports from our largest oil supplier couldn't be sustained at their current level of roughly 10% of US oil consumption--equating to about five times the energy content of current US ethanol production. There is simply no realistic energy scenario for the next 20 years in which we could forgo imports of Canadian crude produced from oil sands, without a corresponding increase in imports from the Middle East.
The main concern cited about oil sands relates to its higher emissions of greenhouse gases, compared to conventional oil production. This is indisputable, though it's important to put those higher emissions into perspective, while also recognizing that technology and an increased Canadian emphasis on these emissions should reduce this disparity over time. The most recent study I've seen on the subject indicates that although the processes for producing useful liquids from Canadian oil sands result in roughly three times the upstream greenhouse gas emissions of the average barrel of US supply, the well-to-wheels lifecycle emissions are only 17% higher than average. In either case, most of the emissions from oil occur when it is burned in vehicles or other end-uses, not during production. While not insignificant, the excess emissions from oil sands can be offset less expensively elsewhere in our energy economy, particularly if the ultimate US climate legislation gives the utility sector the right incentives to cut its CO2 emissions, which are roughly a fifth larger than those from oil consumed in transportation.
Greenhouse gas emissions aren't the only environmental impact associated with oil sands, but we lack any reasonable or consistent way to assess the trade-off between the others and the potential impacts--physical or aesthetic--of increasing our own oil production from the significant resources we have placed off-limits to exploitation, including the Arctic National Wildlife Refuge and the outer continental shelves of California and other states. In effect, American policy makers and consumers have implicitly chosen to ramp up oil output in Alberta to spare other areas of greater concern to American voters. Such decisions have left us reliant on this Canadian energy resource, the incremental greenhouse gas consequences of which can be offset elsewhere. The State Department appears to have reached a similar conclusion.
Wednesday, December 17, 2008
Oil Shock II
As OPEC's members and friends meet in Algeria to agree on deeper cuts in oil output, the effectiveness of their actions will depend greatly on the nature of the demand slump to which they are responding. If it proves to be merely a dip in the long-term growth trend, similar to the one associated with the Asian Financial Crisis of the late 1990s, then their current decline in revenue will likely be short-lived. If, on the other hand, the response in consuming countries is similar to that following the energy crisis of the 1970s and early 1980s, then OPEC and indeed all oil producers face protracted problems. In that case, they might have to hope that the chief economist of the International Energy Agency is correct in his new assessment that the credit crisis will hasten an expected peak in global oil production, perhaps sending oil prices beyond their summer 2008 highs within a few years.
Although the narrative concerning the present financial crisis and global recession is bound up in the collapse of the US housing market and the vast global debt bubble that fueled it--a bubble that had to burst sooner or later--it seems remarkably coincidental that it would begin to deflate just as oil prices raced past their previous inflation-adjusted peak of around $90 per barrel. Because that price rise took place over several years and was driven as much by demand as by supply constraints, the resulting oil shock wasn't as sharp or obvious as the one triggered by the Arab Oil Embargo of 1973 or the Iranian Revolution of 1979. But between 2003 and 2007, the US net oil import bill rose from around $100 billion per year to $300 billion, based on refiner acquisition costs. It crested at an annualized rate of $500 B per year in July. This added significantly to the US trade deficit, and the resulting sustained double-digit inflation in consumer energy costs helped push the annualized consumer-price inflation rate past 5% this summer. With the energy spike having folded, the November 2008 annualized CPI rate has fallen to 1.1%.
If in retrospect these indicators describe a true oil price shock, then what might OPEC and other oil producers expect in the years ahead? Well, in the aftermath of the last oil crisis, from 1979-83 global oil demand fell by 10%, the current equivalent of over 8 million barrels per day (MBD), based on last year's global consumption of 85.8 MBD. It didn't reach its 1979 level again until 1989. The effect on OPEC was devastating. With demand lower and non-OPEC output expanding steadily, OPEC's oil was squeezed out, losing a third of its former market share. Oil prices remained low for another fifteen years, contributing to the growth of the exurbs and the SUV fad.
History rarely repeats exactly, and it would be simplistic to think that we're likely to replicate the oil price environment of the mid-to-late 1980s. There's no tidal wave of non-OPEC conventional oil coming from places like the North Slope and North Sea, which looked technically challenging at the time but seem relatively easy, compared to today's opportunities. Biofuels have added the equivalent of around 0.5 MBD in the last several years, and Canadian oilsands a similar amount, but production in most non-OPEC countries is peaking or in decline, notably in Mexico and Russia. And as the IEA's Dr. Birol notes, tight credit and low prices will slow additions to supply from all sources, while natural decline erodes today's base production. That makes demand the crucial factor, particularly the behavioral elements of demand. Although rarely discussed in these terms, vehicle fuel economy faces diminishing returns. Boosting US fleet average miles per gallon from 13 to 25 under the original CAFE standard in the 1970s and '80s saved three times more fuel per mile than the mandated increase to 35 mpg will--in fact more than moving the entire fleet to 100 mpg plug-in hybrids would. Vehicle miles traveled have recently declined in the US. Along with the appetite of Asian consumers for their first cars, this will have as much impact as fuel economy on total oil consumption, and thus on prices.
Although the oil price shock of the last several years can't be blamed for the full extent of the mess we're in, it is at least a plausible candidate for the trigger that caused the debt bubble to pop now, rather than a few years from now. That has important implications, because current conditions may be setting the stage for another, possibly sharper oil shock shortly after the economy begins to recover. Although we face a drastically altered set of energy concerns going into 2009, energy policies that promote both conservation and increased supply look just as essential as they did a year ago.
Although the narrative concerning the present financial crisis and global recession is bound up in the collapse of the US housing market and the vast global debt bubble that fueled it--a bubble that had to burst sooner or later--it seems remarkably coincidental that it would begin to deflate just as oil prices raced past their previous inflation-adjusted peak of around $90 per barrel. Because that price rise took place over several years and was driven as much by demand as by supply constraints, the resulting oil shock wasn't as sharp or obvious as the one triggered by the Arab Oil Embargo of 1973 or the Iranian Revolution of 1979. But between 2003 and 2007, the US net oil import bill rose from around $100 billion per year to $300 billion, based on refiner acquisition costs. It crested at an annualized rate of $500 B per year in July. This added significantly to the US trade deficit, and the resulting sustained double-digit inflation in consumer energy costs helped push the annualized consumer-price inflation rate past 5% this summer. With the energy spike having folded, the November 2008 annualized CPI rate has fallen to 1.1%.
If in retrospect these indicators describe a true oil price shock, then what might OPEC and other oil producers expect in the years ahead? Well, in the aftermath of the last oil crisis, from 1979-83 global oil demand fell by 10%, the current equivalent of over 8 million barrels per day (MBD), based on last year's global consumption of 85.8 MBD. It didn't reach its 1979 level again until 1989. The effect on OPEC was devastating. With demand lower and non-OPEC output expanding steadily, OPEC's oil was squeezed out, losing a third of its former market share. Oil prices remained low for another fifteen years, contributing to the growth of the exurbs and the SUV fad.
History rarely repeats exactly, and it would be simplistic to think that we're likely to replicate the oil price environment of the mid-to-late 1980s. There's no tidal wave of non-OPEC conventional oil coming from places like the North Slope and North Sea, which looked technically challenging at the time but seem relatively easy, compared to today's opportunities. Biofuels have added the equivalent of around 0.5 MBD in the last several years, and Canadian oilsands a similar amount, but production in most non-OPEC countries is peaking or in decline, notably in Mexico and Russia. And as the IEA's Dr. Birol notes, tight credit and low prices will slow additions to supply from all sources, while natural decline erodes today's base production. That makes demand the crucial factor, particularly the behavioral elements of demand. Although rarely discussed in these terms, vehicle fuel economy faces diminishing returns. Boosting US fleet average miles per gallon from 13 to 25 under the original CAFE standard in the 1970s and '80s saved three times more fuel per mile than the mandated increase to 35 mpg will--in fact more than moving the entire fleet to 100 mpg plug-in hybrids would. Vehicle miles traveled have recently declined in the US. Along with the appetite of Asian consumers for their first cars, this will have as much impact as fuel economy on total oil consumption, and thus on prices.
Although the oil price shock of the last several years can't be blamed for the full extent of the mess we're in, it is at least a plausible candidate for the trigger that caused the debt bubble to pop now, rather than a few years from now. That has important implications, because current conditions may be setting the stage for another, possibly sharper oil shock shortly after the economy begins to recover. Although we face a drastically altered set of energy concerns going into 2009, energy policies that promote both conservation and increased supply look just as essential as they did a year ago.
Monday, December 01, 2008
The Right Price
So OPEC has kicked the can down the road another two weeks, deferring further production cuts until at least their December 17th meeting in Algeria, when they can better assess the impact of the cuts they've already made--code for observing how badly its members have cheated on their earlier quota reductions. As usual, the cartel's control over prices is much stronger when demand is surging and production capacity strained, than when markets develop considerable slack. This is a much-rehearsed dance, and the market has apparently already discounted it, with the price of light, sweet crude poised to test the $50 mark again this week. The more interesting commentary out of Cairo concerned OPEC's desired price, which is apparently $75 per barrel: well above today's level but far below summer's peak. Wishing won't make it so, but there has been much discussion lately about the "right" price for the most liquid of energy commodities.
I can't help observing the irony that $50 oil, the prospect of which seemed nearly inconceivable to seasoned industry experts only a few years ago, now looks too cheap, not just to OPEC, but also to producers of unconventional oil, developers and supporters of alternative energy, and those concerned about climate change. When you dig a little deeper, however, the insight here seems to be that the absolute price matters less than its volatility, at least from a planning perspective. It's hard for producers of all kinds of energy to plan their business, if the monthly average price of their output--or the key commodity affecting it--can spike up by 150% and then drop by 60%, all within the course of two years. Oil remains a cyclical business, as anyone who's been around it for a while understands, but this is ridiculous.
That $75 per barrel figure from OPEC is interesting for many reasons. It probably represents the minimum level needed to balance the considerable budgetary expansions taken on by its most aggressive spenders, such as Venezuela and Iran, along with pseudo-member Russia. But it also looks like the level that is required to keep additions of new unconventional oil capacity, such as Canadian oil sands, on track. With typical refining margins, instead of the bizarrely-inverted pricing we've seen recently, it would translate into an average gasoline pump price in the US of around $2.50/gal. And because US ethanol distillers are producing well beyond the volumes required to satisfy the federal Renewable Fuel Standard, that would yield an ethanol price after subsidies in the neighborhood of $2/gal., enough to give ethanol producers a 75 cent per gallon "crush spread" over corn at $3.50 per bushel. That's a lot better than the 40 cents or so implied by the current ethanol and corn futures prices.
If the drop to $50 were short-lived, most of those energy producers would experience little lasting impact, other than ethanol firms that have been pushed to the brink by the combination of overly-rapid expansion, tightening credit, and slumping prices. But looking ahead, no one can say with any certainty whether oil will remain here, test $40/bbl, or zoom past $100 again next summer. In this regard the futures market, which last week reflected prices above $70/bbl. beyond 2010, has been a very poor barometer. Nor have the forecasts of government departments or international agencies fared any better at anticipating the volatility that is so disruptive to economies and to the plans of energy companies and oil-exporting countries.
Consumers are in the best position of anyone affected by these developments. If you drive an average car an average amount, your fuel bills ought to be about $90 per month lower than they were in July, which is the equivalent of a $120 per month raise for anyone in the 33% combined federal income and social security tax bracket. Save it or spend it, but don't count on it lasting longer than a year. That means buying your next car with the prudent assumption that at some point in its life, you will be paying $4 or more per gallon, once again.
I can't help observing the irony that $50 oil, the prospect of which seemed nearly inconceivable to seasoned industry experts only a few years ago, now looks too cheap, not just to OPEC, but also to producers of unconventional oil, developers and supporters of alternative energy, and those concerned about climate change. When you dig a little deeper, however, the insight here seems to be that the absolute price matters less than its volatility, at least from a planning perspective. It's hard for producers of all kinds of energy to plan their business, if the monthly average price of their output--or the key commodity affecting it--can spike up by 150% and then drop by 60%, all within the course of two years. Oil remains a cyclical business, as anyone who's been around it for a while understands, but this is ridiculous.
That $75 per barrel figure from OPEC is interesting for many reasons. It probably represents the minimum level needed to balance the considerable budgetary expansions taken on by its most aggressive spenders, such as Venezuela and Iran, along with pseudo-member Russia. But it also looks like the level that is required to keep additions of new unconventional oil capacity, such as Canadian oil sands, on track. With typical refining margins, instead of the bizarrely-inverted pricing we've seen recently, it would translate into an average gasoline pump price in the US of around $2.50/gal. And because US ethanol distillers are producing well beyond the volumes required to satisfy the federal Renewable Fuel Standard, that would yield an ethanol price after subsidies in the neighborhood of $2/gal., enough to give ethanol producers a 75 cent per gallon "crush spread" over corn at $3.50 per bushel. That's a lot better than the 40 cents or so implied by the current ethanol and corn futures prices.
If the drop to $50 were short-lived, most of those energy producers would experience little lasting impact, other than ethanol firms that have been pushed to the brink by the combination of overly-rapid expansion, tightening credit, and slumping prices. But looking ahead, no one can say with any certainty whether oil will remain here, test $40/bbl, or zoom past $100 again next summer. In this regard the futures market, which last week reflected prices above $70/bbl. beyond 2010, has been a very poor barometer. Nor have the forecasts of government departments or international agencies fared any better at anticipating the volatility that is so disruptive to economies and to the plans of energy companies and oil-exporting countries.
Consumers are in the best position of anyone affected by these developments. If you drive an average car an average amount, your fuel bills ought to be about $90 per month lower than they were in July, which is the equivalent of a $120 per month raise for anyone in the 33% combined federal income and social security tax bracket. Save it or spend it, but don't count on it lasting longer than a year. That means buying your next car with the prudent assumption that at some point in its life, you will be paying $4 or more per gallon, once again.
Friday, October 17, 2008
The New Oil Cycle
As of yesterday's close on the New York Mercantile Exchange, the price of crude oil has fallen 50% from its July high-water mark. The membership of OPEC must be experiencing an uncomfortable sense of déjà vu, recalling a similar drop between August 1997 and December 1998, when West Texas Intermediate (WTI) bottomed out at $10.72 per barrel, and the OPEC average price fell into single digits. The cost of production is much higher today than in the 1990s, so $10 oil is hardly in prospect, but even an extended period below $50 per barrel would cause severe pain to the oil industry and to anyone investing in alternative energy that competes with oil. However, while a return to $140 oil probably lies on the other side of a global recession, other structural changes could shorten the down-cycle, or at least put a relatively high floor under it, once the customary market overshoot has passed.
Previous oil-price cycles hold some useful insights into the likely bottom of the current cycle, but important differences are also apparent. The 1997-98 collapse was caused by a conjunction of events with strong parallels to today's situation. A wave of new oil projects collided with a sudden drop in global demand triggered by the Asian Financial Crisis. Producers faced a choice between cutting output and bearing unsustainable losses on every barrel sold, but their obvious response was complicated by two serious problems. Operators of mature oil fields employing secondary and tertiary recovery methods knew that once shut in, production might not return to previous levels, later. My former employer, Texaco, saw that happen at its century-old Kern River Field in California. Meanwhile, OPEC's members worried about a long-term loss of market share, similar to what occurred when demand for OPEC's crude fell by 44% between 1979 and 1985, requiring two decades to recover. It took an unprecedented coordination of production cuts between OPEC and Mexico, Russia and Norway--countries that might have otherwise capitalized on OPEC's unilateral cuts--to stabilize the market and nudge prices back into the $20s by mid-1999.
What's different today? Well, for starters, OPEC already has a working relationship with Russia, and the latter's output has stalled, while Norway and Mexico are both in decline. Meanwhile, OPEC has expanded to include Angola, formerly an important source of non-OPEC production growth. If OPEC cuts now, it's hard to see who would step in to steal their market share. The cartel has also enjoyed a better-than-normal degree of cohesion recently--always easier when you are producing essentially flat-out. Key producers such as Venezuela and Iran have seen first-hand the benefits of cutting a little to boost revenue a lot, and their economies depend on prices remaining near $100 per barrel.
Another important change since the late 1990s is the dramatic growth of Canadian oil sands output. The current production of 1.3 million barrels per day now constitutes a large fraction of the world's high-cost marginal supply. More than half of it comes from mining operations that could be slowed or temporarily halted with minimal impact on future output or ultimate reserve recovery. In other words, a drop in crude oil prices below the variable cost of producing synthetic crude from oil sands could be at least partly self-correcting, and fairly quickly.
Biofuels might end up in a similar position. With corn prices back down to around $4 per bushel and ethanol selling for an average of $2.22 per gallon at racks on Wednesday, the "crush spread", or gross margin for producers is around $0.80/gal, similar to where it has been for much of the year. But although ethanol had for most of the year been priced well under Gulf Coast gasoline, the sudden collapse of gas prices has inverted that relationship. With wholesale gasoline--specifically the RBOB mix designed for blending with ethanol--trading on the NYMEX at under $1.70/gal, and the ethanol blenders' credit falling from $0.51/gal to $0.45/gal on January 1, the incentive for refiners to blend more ethanol into gasoline than legally mandated is evaporating.
How quickly these factors could establish a hard floor under oil prices is anyone's guess, and I wouldn't be surprised to see WTI go well below $70/bbl before it corrects. This year's highs might have been helped along by a froth of speculation, but they were also what was required to destroy enough demand to bring a commodity with a low price-elasticity of demand back into balance with supplies that were straining at their near-term limits. That interpretation is also consistent with the dramatic fall in prices accompanying the current collapse of demand. But we can't forget that even if demand in the US and EU continue to shrink, thanks to conservation, efficiency, and alternative energy, the potential demand in Asia remains sufficient to outstrip global oil production capacity, once strong global economic growth resumes. Consumers should enjoy the relief from sub-$3.00 per gallon while it lasts, but they should not assume it will persist beyond the recession.
Previous oil-price cycles hold some useful insights into the likely bottom of the current cycle, but important differences are also apparent. The 1997-98 collapse was caused by a conjunction of events with strong parallels to today's situation. A wave of new oil projects collided with a sudden drop in global demand triggered by the Asian Financial Crisis. Producers faced a choice between cutting output and bearing unsustainable losses on every barrel sold, but their obvious response was complicated by two serious problems. Operators of mature oil fields employing secondary and tertiary recovery methods knew that once shut in, production might not return to previous levels, later. My former employer, Texaco, saw that happen at its century-old Kern River Field in California. Meanwhile, OPEC's members worried about a long-term loss of market share, similar to what occurred when demand for OPEC's crude fell by 44% between 1979 and 1985, requiring two decades to recover. It took an unprecedented coordination of production cuts between OPEC and Mexico, Russia and Norway--countries that might have otherwise capitalized on OPEC's unilateral cuts--to stabilize the market and nudge prices back into the $20s by mid-1999.
What's different today? Well, for starters, OPEC already has a working relationship with Russia, and the latter's output has stalled, while Norway and Mexico are both in decline. Meanwhile, OPEC has expanded to include Angola, formerly an important source of non-OPEC production growth. If OPEC cuts now, it's hard to see who would step in to steal their market share. The cartel has also enjoyed a better-than-normal degree of cohesion recently--always easier when you are producing essentially flat-out. Key producers such as Venezuela and Iran have seen first-hand the benefits of cutting a little to boost revenue a lot, and their economies depend on prices remaining near $100 per barrel.
Another important change since the late 1990s is the dramatic growth of Canadian oil sands output. The current production of 1.3 million barrels per day now constitutes a large fraction of the world's high-cost marginal supply. More than half of it comes from mining operations that could be slowed or temporarily halted with minimal impact on future output or ultimate reserve recovery. In other words, a drop in crude oil prices below the variable cost of producing synthetic crude from oil sands could be at least partly self-correcting, and fairly quickly.
Biofuels might end up in a similar position. With corn prices back down to around $4 per bushel and ethanol selling for an average of $2.22 per gallon at racks on Wednesday, the "crush spread", or gross margin for producers is around $0.80/gal, similar to where it has been for much of the year. But although ethanol had for most of the year been priced well under Gulf Coast gasoline, the sudden collapse of gas prices has inverted that relationship. With wholesale gasoline--specifically the RBOB mix designed for blending with ethanol--trading on the NYMEX at under $1.70/gal, and the ethanol blenders' credit falling from $0.51/gal to $0.45/gal on January 1, the incentive for refiners to blend more ethanol into gasoline than legally mandated is evaporating.
How quickly these factors could establish a hard floor under oil prices is anyone's guess, and I wouldn't be surprised to see WTI go well below $70/bbl before it corrects. This year's highs might have been helped along by a froth of speculation, but they were also what was required to destroy enough demand to bring a commodity with a low price-elasticity of demand back into balance with supplies that were straining at their near-term limits. That interpretation is also consistent with the dramatic fall in prices accompanying the current collapse of demand. But we can't forget that even if demand in the US and EU continue to shrink, thanks to conservation, efficiency, and alternative energy, the potential demand in Asia remains sufficient to outstrip global oil production capacity, once strong global economic growth resumes. Consumers should enjoy the relief from sub-$3.00 per gallon while it lasts, but they should not assume it will persist beyond the recession.
Tuesday, September 16, 2008
Climate Change and Unconventional Oil
While Americans are focused on the debate over expanded oil drilling, which might eventually add up to a million barrels per day of incremental oil production, a much larger expansion is underway north of the border, tapping Canada's oil sands reserves. Today's Financial Times (subscription required for full access) reports that environmentalists and socially-responsible investment funds are meeting today with Shell and BP, concerning the environmental and financial risks of the greenhouse gas emissions inherent in oil sands production. This has important implications for future oil supplies, particularly with oil prices falling to a level that might threaten further investment in oil sands, even without considering the cost of mitigating or offsetting the sector's CO2 emissions.
Worries about the greenhouse gas (GHG) emissions from oil sands operations are not new. Ten years ago my former company approached one of the large Canadian producers about employing Texaco's (now GE's) gasification technology to turn byproduct petroleum coke into gas to fuel the oil sands extraction process, incidentally creating an option for the CO2 to be sequestered in depleted oil and gas reservoirs. Neither the economics nor the consensus for action on climate change was sufficient to move ahead, at the time. But with Canada imposing stricter rules for industrial sources of CO2, and with a new global agreement on climate change in prospect at the end of 2009, that perspective may be shifting.
According to the FT, the groups in today's meeting in London are focused on the financial risks associated with emissions from oil sands--emissions that are several times larger than those from conventional oil production. Some are calling for a moratorium on new oil sands and oil shale projects. If oil were still over $120/bbl, that argument would carry little weight. Even if the most extreme estimate provided by Greenpeace were correct, suggesting that oil sands extraction emits 100kg more CO2 per barrel than conventional oil production, that would equate to under $4/bbl of extra cost, based on the price of 2012 emissions credits on the European Climate Exchange at current exchange rates.
Two factors render that figure more significant than it might appear. Falling oil prices are pushing new oil sands projects close to their breakeven point, according to Total, hampering the industry's ability to mitigate emissions. At the same time, the sheer magnitude of the oil sands expansion makes these emissions too large to ignore. The latest forecast from the Canadian Association of Petroleum Producers indicates that oil sands output should increase from 1.2 million barrels per day (MBD) last year to 2.8 MBD in 2015 and 3.5 MBD in 2020. Without making expensive changes in operations to reduce emissions and capture and store CO2, or buying emissions offsets, oil sands operations could increase Canada's current GHG emissions by as much as 10%. As a signatory to the Kyoto Protocol, the Canadian government cannot just look the other way, while these emissions mount.
There are many areas in which the goal of improving energy security aligns with reducing GHG emissions, including improved efficiency and more use of renewable energy. But oil sands--and by extension oil shale--represents a clear conflict between our desire to reduce our dependence on Middle Eastern oil and the need to halt the accumulation of greenhouse gases in the atmosphere. And with oil nearing $90/bbl, a $4 increase in production costs to manage CO2 could stall new development and reduce future oil output by enough to tip the global supply and demand balance even further in favor of OPEC and Russia. Unless the next administration is willing to sit down with our NAFTA partners to discuss a comprehensive North American approach to both energy and emissions, this matter will ultimately be settled in Ottowa, where neither the US Congress nor President can offer more than friendly advice.
Worries about the greenhouse gas (GHG) emissions from oil sands operations are not new. Ten years ago my former company approached one of the large Canadian producers about employing Texaco's (now GE's) gasification technology to turn byproduct petroleum coke into gas to fuel the oil sands extraction process, incidentally creating an option for the CO2 to be sequestered in depleted oil and gas reservoirs. Neither the economics nor the consensus for action on climate change was sufficient to move ahead, at the time. But with Canada imposing stricter rules for industrial sources of CO2, and with a new global agreement on climate change in prospect at the end of 2009, that perspective may be shifting.
According to the FT, the groups in today's meeting in London are focused on the financial risks associated with emissions from oil sands--emissions that are several times larger than those from conventional oil production. Some are calling for a moratorium on new oil sands and oil shale projects. If oil were still over $120/bbl, that argument would carry little weight. Even if the most extreme estimate provided by Greenpeace were correct, suggesting that oil sands extraction emits 100kg more CO2 per barrel than conventional oil production, that would equate to under $4/bbl of extra cost, based on the price of 2012 emissions credits on the European Climate Exchange at current exchange rates.
Two factors render that figure more significant than it might appear. Falling oil prices are pushing new oil sands projects close to their breakeven point, according to Total, hampering the industry's ability to mitigate emissions. At the same time, the sheer magnitude of the oil sands expansion makes these emissions too large to ignore. The latest forecast from the Canadian Association of Petroleum Producers indicates that oil sands output should increase from 1.2 million barrels per day (MBD) last year to 2.8 MBD in 2015 and 3.5 MBD in 2020. Without making expensive changes in operations to reduce emissions and capture and store CO2, or buying emissions offsets, oil sands operations could increase Canada's current GHG emissions by as much as 10%. As a signatory to the Kyoto Protocol, the Canadian government cannot just look the other way, while these emissions mount.
There are many areas in which the goal of improving energy security aligns with reducing GHG emissions, including improved efficiency and more use of renewable energy. But oil sands--and by extension oil shale--represents a clear conflict between our desire to reduce our dependence on Middle Eastern oil and the need to halt the accumulation of greenhouse gases in the atmosphere. And with oil nearing $90/bbl, a $4 increase in production costs to manage CO2 could stall new development and reduce future oil output by enough to tip the global supply and demand balance even further in favor of OPEC and Russia. Unless the next administration is willing to sit down with our NAFTA partners to discuss a comprehensive North American approach to both energy and emissions, this matter will ultimately be settled in Ottowa, where neither the US Congress nor President can offer more than friendly advice.
Thursday, March 20, 2008
Friendly Fire
When it first came to light that an obscure provision of the 2007 Energy Bill would bar imports of synthetic oil that entailed higher emissions than conventional domestic crude, and that this might apply to purchases by the Defense Department of fuels sourced from Canadian oil sands, one might naturally have assumed that this was an unintended consequence of the law, as Canada's ambassador to the US has suggested. It now appears this consequence was quite intentional. In light of our concerns about energy security, this looks like an unfortunate case of "friendly fire" against our largest trading partner and our largest oil supplier. While the theory behind this facet of climate change regulation is sound, its application in this case is unwarranted and unwise.
As I noted last week, Canada has a growing problem with the greenhouse gas emissions from oil sands production. I've been concerned about this since the 1990s and have written about it here, going back at least to 2005. The Canadian government has finally recognized this problem and taken strong steps to address it, within the context of their own commitments under the Kyoto Protocol--which they have ratified but we have not--and a recent, stricter national goal. Oil sands emissions can be brought in line through a combination of efficiency and sequestration technology, though this will take time. In the meantime, the extra emissions can be offset either through the official Kyoto Clean Development Mechanism (CDM), or with offsets bought on the Chicago Climate Exchange or the new NYMEX Green Exchange.
This is not to say that the oil sands emissions are not a serious concern, or the tip of the iceberg in terms of the "outsourced carbon" in which we share responsibility, as importers and ultimate consumers. However, the logic behind this provision of the Energy Bill deals with two specific aspects of climate change policy, neither of which applies to Canada's oil sands. First, it is intended to prevent emitters from going offshore to avoid emissions regulations. In this case, the incentive results more from the cumulative effect of decades of federal and state restrictions on drilling for the same lower-emissions domestic oil against which we are comparing Canadian syncrude, thus pushing energy companies to look north of the border, where the oil sands comprise a world-class resource. At the same time, this sort of measure is designed to impose external pressure on countries that are not addressing their emissions, with China as the most frequently-cited example. Canada does not fall into that category. They are tackling this problem head on, and they have the motivation and technical and financial wherewithal to manage their own emissions without prodding from us. Frankly, we are lucky that we have not been on the receiving end of such restrictions by EU countries that have been reducing emissions with almost religious fervor. This situation conjures up the unpleasant image of the US government, which has led the world in foot-dragging on climate change, going after Canada with the zeal of a brand-new ex-smoker who sees someone else light up.
As to the practical consequences of restricting our use of Canadian syncrude, this would harm US industry and consumers at least as much as Canadians, without materially reducing the emissions associated with a product that could be exported to eager customers in Asia. To understand why, look at the market and infrastructure for Canadian crude imports into in the US. The syncrude is blended into the main Canadian export stream coming down the Enbridge Pipeline system into Chicago, and ultimately into the US Mid-Continent. This system provides the primary crude supply for many Midwestern oil refineries. If the DOD is barred from buying fuels containing oil sands components, then any refinery selling to the military would have to certify that it either runs no Canadian crude oil, or that it can segregate its output from other crude oil sources. That's not impossible, but with most refineries operating at much higher rates than their present tankage was built to accommodate, that would be awkward and expensive. The net result would be to reduce the number of refineries willing to bid for DOD business and drive up the price the military--and thus taxpayers--pays for fuel. It would also reduce US imports of Canadian crude and force us to buy more from other, less secure suppliers. That's hardly in sync with our concern about relying on Middle East oil.
Sooner or later, we'll all be paying more for energy, in order to deal with climate change. Some will see no problem with starting here, forcing the government to walk the same talk it wants the rest of us to follow. From my perspective, though, in the absence of any comprehensive US policy on greenhouse gases--the 2007 Energy Bill doesn't qualify as either comprehensive or policy--this seems like a particularly counter-productive and hostile way to begin enforcing new and untested standards. I hope the experts who are crafting the cap and trade legislation that will likely be enacted in the next year or two are paying very close attention to this negative example.
Energy Outlook will observe tomorrow's market holiday for Good Friday.
As I noted last week, Canada has a growing problem with the greenhouse gas emissions from oil sands production. I've been concerned about this since the 1990s and have written about it here, going back at least to 2005. The Canadian government has finally recognized this problem and taken strong steps to address it, within the context of their own commitments under the Kyoto Protocol--which they have ratified but we have not--and a recent, stricter national goal. Oil sands emissions can be brought in line through a combination of efficiency and sequestration technology, though this will take time. In the meantime, the extra emissions can be offset either through the official Kyoto Clean Development Mechanism (CDM), or with offsets bought on the Chicago Climate Exchange or the new NYMEX Green Exchange.
This is not to say that the oil sands emissions are not a serious concern, or the tip of the iceberg in terms of the "outsourced carbon" in which we share responsibility, as importers and ultimate consumers. However, the logic behind this provision of the Energy Bill deals with two specific aspects of climate change policy, neither of which applies to Canada's oil sands. First, it is intended to prevent emitters from going offshore to avoid emissions regulations. In this case, the incentive results more from the cumulative effect of decades of federal and state restrictions on drilling for the same lower-emissions domestic oil against which we are comparing Canadian syncrude, thus pushing energy companies to look north of the border, where the oil sands comprise a world-class resource. At the same time, this sort of measure is designed to impose external pressure on countries that are not addressing their emissions, with China as the most frequently-cited example. Canada does not fall into that category. They are tackling this problem head on, and they have the motivation and technical and financial wherewithal to manage their own emissions without prodding from us. Frankly, we are lucky that we have not been on the receiving end of such restrictions by EU countries that have been reducing emissions with almost religious fervor. This situation conjures up the unpleasant image of the US government, which has led the world in foot-dragging on climate change, going after Canada with the zeal of a brand-new ex-smoker who sees someone else light up.
As to the practical consequences of restricting our use of Canadian syncrude, this would harm US industry and consumers at least as much as Canadians, without materially reducing the emissions associated with a product that could be exported to eager customers in Asia. To understand why, look at the market and infrastructure for Canadian crude imports into in the US. The syncrude is blended into the main Canadian export stream coming down the Enbridge Pipeline system into Chicago, and ultimately into the US Mid-Continent. This system provides the primary crude supply for many Midwestern oil refineries. If the DOD is barred from buying fuels containing oil sands components, then any refinery selling to the military would have to certify that it either runs no Canadian crude oil, or that it can segregate its output from other crude oil sources. That's not impossible, but with most refineries operating at much higher rates than their present tankage was built to accommodate, that would be awkward and expensive. The net result would be to reduce the number of refineries willing to bid for DOD business and drive up the price the military--and thus taxpayers--pays for fuel. It would also reduce US imports of Canadian crude and force us to buy more from other, less secure suppliers. That's hardly in sync with our concern about relying on Middle East oil.
Sooner or later, we'll all be paying more for energy, in order to deal with climate change. Some will see no problem with starting here, forcing the government to walk the same talk it wants the rest of us to follow. From my perspective, though, in the absence of any comprehensive US policy on greenhouse gases--the 2007 Energy Bill doesn't qualify as either comprehensive or policy--this seems like a particularly counter-productive and hostile way to begin enforcing new and untested standards. I hope the experts who are crafting the cap and trade legislation that will likely be enacted in the next year or two are paying very close attention to this negative example.
Energy Outlook will observe tomorrow's market holiday for Good Friday.
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