Friday, November 30, 2007

Another Castro, With Oil?

Roger Cohen’s column in yesterday’s New York Times called attention to Venezuela’s impending constitutional referendum, which is expected to cement Hugo Chavez’s aspirations as President-for-Life, giving him effective control of the few levers of government that he had not yet consolidated. The following is excerpted from a posting I wrote in August 2006, examining some of the implications for Venezuela and the US:

As Fidel Castro fades from view and Venezuelan President Chavez accretes ever more power to himself, the speculation about Sr. Chavez’s ability to assume the mantle of Castro's revolutionary leadership grows. That would be worrying enough, geopolitically, if Venezuela weren't also our fourth largest oil supplier. Oil is the only thing that makes Chavez's "Bolivarian Revolution" economically feasible, though it's worth recalling that Chavez's own actions had previously put Venezuela's future oil revenues into a death spiral, by breaking the 3-month strike of the national oil company, PdVSA, and firing 18,000 managers and workers. By a quirk of fate or good luck, this was just about when oil began its long march to $75/barrel, with the US invasion of Iraq. So even though Venezuela's oil production has never entirely recovered from the strike, its oil revenue has risen dramatically.

According to the Oxford Institute for Energy Studies, Venezuela's oil export revenues in 2000 were $27 billion, but their net from that was only about $11.3 billion, after accounting for tax and royalty rates that were intended to make the country's challenging oil reserves more attractive to international investors. At current (2006) prices, gross revenue on today's lower volumes should be roughly $50 billion, but their net take has probably tripled, after factoring in the recent changes in terms. That's quite a track record, but where does it go from here? While oil may yet hit $100, that won't necessarily add another $25/barrel to the price of the heavy oil Venezuela specializes in. We are into diminishing returns, here. Venezuela has only a few more levers to pull on oil revenues:
  • Completing the recent partial nationalizations. However, if companies like Chevron actually do know more about running these complex facilities than PdVSA's downsized staff, production would fall again.

  • Expanding production via more international investment, presumably with a different group of companies, since the political risk models of the folks who've already been semi-nationalized must be flashing all sorts of warnings. Unfortunately, those same companies are the ones that best understand the intricacies of Venezuela's Orinoco Belt geology and the necessary upgrading technology. There's also a significant time lag involved in bringing new upgraders on-line.

  • Cutting off oil exports to the US. They'd have to hope that the resulting rise in world oil prices would more than offset the much higher freight costs to Venezuela's alternate markets in Asia or Europe, and that this could be done without triggering a direct response from us. This looks like a fool's bet.

So, unless the adherents of the Peak Oil theory are correct and global production will never again outpace demand growth, Mr. Chavez could just be looking at the high-water mark of his oil revenues, at the same time that he has committed himself to foreign activities and transactions that will tie up an increasing share of them, on top of an ambitious domestic social agenda. There's no better antidote to good luck than hubris, and an extra $20 billion or so of oil money only goes so far in a region with an aggregate GDP of $2-4 trillion.

Thursday, November 29, 2007

Energy Politics

This week I'm enjoying being the "accompanying spouse" at a professional conference that my wife is attending. Once my table-mates at the spouse's breakfast found out what I do, I could hardly finish my meal, because I was bombarded by questions. I've had a lot of practice explaining why oil and gasoline are so expensive, and whether one energy technology is more attractive than another. The toughest questions to answer are those that address the apparent absence of national political will to solve our energy problems. There has been a lot of talk about energy policy in the last few years, but far too little about energy politics.

When I started this blog, I made a conscious decision to maintain a non-partisan tone. I firmly believe that any effective national energy policy must be bi-partisan, and that the divergence of approach of the two major parties on energy has been a great hindrance to creating the kind of consistent, long-term environment that is essential for attracting the hundreds of billions of dollars of additional private-sector investments in technology and infrastructure that will be necessary. Energy investments require some stability over multiple election cycles.

As we get closer to next year's presidential election, I'll devote more time to the specific energy proposals of the candidates on both sides. In the meantime, what I keep hoping to hear one of them say--and I am not holding my breath, here--is that setting clear, consistent goals and strategies for energy is a necessary prerequisite to enacting the tactics. I also want to hear that, if we want to solve the immense, intertwined challenges of energy and climate change, all of the options need to be on the table. That includes standard energy issues such as fuel economy, nuclear power, energy taxes, offshore drilling, ANWR, and renewables, but it should also extend to some of the fundamental drivers of energy demand, including the growth of long-distance commuting, McMansion-style homes, electricity-guzzling appliances such as plasma televisions, and all of the other things that have helped increase total US energy consumption by roughly 25% since the early 1980s. In this context, even immigration is an energy issue.

The candidate who is willing to tackle all of the above would almost certainly get my vote, but I suspect he or she would become instantly unelectable, by virtue of losing the support of the many advocacy groups that are working overtime to take many of these same options off the table, or to prevent them from being considered in the first place. Simply recognizing that our energy and environmental problems lack quick and easy fixes, and that "energy independence" is exactly the wrong way to think about these issues, would go a long way. It might even be possible to articulate that without alienating all of the groups that actually get candidates elected.

Wednesday, November 28, 2007

Googling Renewable Energy

I see that Google has announced a new effort to make renewable energy as cheap as power from coal--a worthy goal, but one that I think reflects a misunderstanding of the barriers to the outcome they seek. If the cost of delivered electricity is being used as the catch-all for the competitive challenges faced by renewables such as wind and solar power, then it obscures fundamental issues that have less to do with the cost of generating power, and more to do with the infrastructure required to deliver clean energy reliably and consistently, around the clock.

There are plenty of people promoting renewable energy who understand the intermittent or cyclic nature of the highest-profile forms of "new" renewable energy, wind and solar power, and the difficulties involved in transmitting that energy from where the wind blows hardest and the sun shines strongest, and then leveling that output to match the diurnal and seasonal patterns of power demand. Coal wins in today's market not just because of cost--in fact its capacity cost is higher than that for natural gas turbines--but because of the combination of low-cost fuel, high reliability, and consistent output, plus the energy storage inherent in the coal itself.. That's why coal power plants, along with large-scale hydroelectric dams and nuclear plants, supply most of the baseload power dispatched in electric grids around the world.

Even if the cost of generating electricity from wind or sun fell to the same level as that from coal, those renewables could not substitute for coal in its baseload role today. I saw a good example of that yesterday afternoon, driving into the Los Angeles Basin from Phoenix. I-10 near Palm Springs is surrounded by hundreds of wind turbines, but more than half of them weren't spinning yesterday, including most of the smaller, older models. What is urgently needed for renewables to compete head to head with coal is not just lower capacity costs--since their fuel is free--but a low-cost way to store up their output and deliver it to the grid when it's needed.

The cost of generating power from wind, in particular, has fallen so much in recent years that it is only a penny or two higher than coal generation. That gap is being filled by the federal renewable generation credit and other state and federal incentives. But without cheap energy storage, wind will max out well before it reaches the scale of coal or natural gas-fired generation. Advanced grid technology can help, though we are many years away from a practical version of the "vehicle-to-grid" (VTG) scheme that would leverage the storage in electric cars to buffer the output of wind and solar power. If Google wants to make electricity from coal obsolete, they should focus their efforts not on bringing down the cost of solar panels or wind turbines, but in allowing large portions of their output to be stored at a cost below one cent per kilowatt-hour. That would truly change the world.

Tuesday, November 27, 2007

Equalizing the Cost of Emissions

One of the few benefits of air travel these days is the opportunity to catch up on one's reading. This trip I took along a few back issues of the Economist, the most recent of which included an article criticizing a key aspect of pending US climate change legislation as "Green protectionism." While I often agree with its editorial positions, I think the Economist misses the mark on the Lieberman-Warner Bill, which I examined here a couple of weeks ago. If viewed purely as trade policy, they might be correct about its provision to assess an emissions charge on imports into the US. However, they assign too little importance to its role in neutralizing US critics of climate agreements. This could prove to be the key to enabling a more aggressive US response to climate change.

The Economist strongly supports the idea of pricing carbon emissions by means of cap & trade mechanisms, but they raise two reasonable arguments--one stronger than the other--against the imposition of a trade barrier along the lines contemplated in the Lieberman-Warner climate bill. They see little incentive over the long-term for emissions-intensive industries to flee a cap & trade system, on the basis that environmental regulation has not been bad for economic growth in the past. Fair enough, though regulating the primary byproduct of combustion works on a vastly different scale than dealing with fuel or exhaust impurities. They also appear to doubt the necessity of external financial pressures to compel China and India, among others, to regulate their emissions, arguing that the US is not now approaching emissions regulations because of such pressure from Europe.

However, it is precisely the need to break the who-goes-first deadlock between the US and developing Asia with regard to binding commitments on emissions reductions that the trade element of Lieberman-Warner seems both pragmatic and sensible, even as a short-term measure that could be phased out once all major emitting countries are on board. And by denying domestic climate change critics the cover of rapidly growing emissions from China and India, it could finally clear the way for a federal emissions policy as tough as that of some of the states, and also for full US participation in the follow-on agreement to the Kyoto Protocol.

The Economist is right to be concerned about the protectionist rhetoric emanating from several of the presidential campaigns and from influential groups such as labor unions, but I believe they err in attributing this aspect of Lieberman-Warner to the populist-protectionist camp. The cap & trade mechanism is aimed squarely at a major unpriced externality in our market system, and emissions-equalizing import assessments would merely globalize the treatment of that externality, closing an obvious loophole. And while some believe that China and India would bow to the moral authority of a US government that has joined with other developed countries to regulate our own emissions, the more pragmatic path to their necessary participation lies in helping to monetize that same externality for them.

Monday, November 26, 2007

Lessons from the First Energy Crisis

Periodically, it's good to reflect on what we learned from the energy crisis of the 1970s and assess the continued relevance of these lessons for our current situation. While some of the insights gained during that turbulent decade have held up well, the world has also changed in important ways, and hanging onto outdated assumptions and solutions won't help us cope with the steady rise of energy prices. Because high oil prices have come on more gradually than in the dual supply shocks of three decades ago, there's not even a consensus on whether today's conditions qualify as an energy crisis. If not, it wouldn't take much to propel us into one.

The energy problems that began with the Arab Oil Embargo in October 1973 and peaked after the Iranian Revolution in 1979 were resolved through a combination of responses, including energy efficiency improvements, fuel switching, diversification of suppliers, and a wave of non-OPEC oil production from places like the North Slope and North Sea. However, despite large public and private investments at the time, the contribution of alternative energy sources to bringing oil prices back to earth was essentially nil.

Some of these strategies look as useful today as they did then, while others are either unavailable or were essentially one-time plays. For example, in 1973 US refineries produced 2.8 million barrels per day (bpd) of residual fuel, much of which was consumed in power plants. Since then, refinery upgrades have turned most of that output into additional gasoline and diesel fuel, while a combination of coal, natural gas and nuclear power assumed oil's place in electricity generation. With current resid production running below 700,000 bpd, and most of that used as marine fuel or road asphalt, that trick can't easily be repeated. Nor is there a groundswell of new crude oil production waiting in the wings. As a result of federal and state drilling bans and limits on access to foreign reserves, combined with rising drilling costs and shortages of key personnel, it's unlikely that we could swamp today's high prices with higher volumes.

The good news lies elsewhere. Efficiency and conservation still offer tremendous scope opportunities, and diversification of supply looks as useful now as it did then, though we need to update our definition of supply to encompass a wider array of liquid fuels and sources. Efficient, low-cost ethanol from Brazil and the Caribbean looks like a helpful counterweight to obstreperous or unreliable oil suppliers. In fact, the current geographical distribution of our energy imports is in need of rebalancing, as political risk in Venezuela--one of our supply anchors for two decades--increases, and production from Mexico's largest oil field, Cantarell, falters. Brazil may be able to help there, too, as its output expands.

That brings us to alternative energy, a.k.a. "cleantech." Despite skepticism about how rapidly it can scale up to displace meaningful quantities of traditional energy--an issue I think has been under-appreciated within the growing cleantech community--alternatives are in a much better position to contribute now than they were in the '70s. What we really need is clear policy guidance on where these alternatives would best fit in a shifting energy diet: covering incremental energy demand, displacing coal and its high greenhouse gas emissions, backing out imported oil, or substituting for nuclear power that might otherwise be expanding at the same time. Whether this is done explicitly, or implicitly through an emissions cap & trade mechanism or "renewable energy standards" that allocate a share of a specific market to renewables, we should understand that alternatives are decades away from being able to substitute for all of these other energy sources at once. Setting priorities will help us maximize the benefits from renewable energy and other alternatives.

Because the roots of our current energy circumstances are different from those of the 1970s' energy crisis, we shouldn't expect the solutions to be identical. Some of the old winning strategies still work, while others face new constraints, the largest of these being the need to reduce greenhouse gas emissions. As daunting as all this sounds, I'm optimistic about the end result, given adequate supplies of stamina, focus and innovation.

Wednesday, November 21, 2007

Energy Paragon

Today's Wall St. Journal profiles Japan's efforts to reduce its reliance on imported oil over the years. It's a compelling story, and the accompanying figures show remarkable progress between 1975 and 2004, presumably the last year for which all the comparable data was available. The author concludes that, as a result of these changes, Japan is better positioned to weather the economic impact of sustained high oil prices than other countries. The only problem with this analysis is that by many of the same criteria, the US is in even better shape than Japan.

I wouldn't want to take anything away from what Japan has done to reduce its vulnerability to oil shocks, and to make its economy more energy-efficient. It reduced its oil imports by about 4% in the last 15 years, while US oil imports were growing by an average of 4% per year. This is all the more remarkable, considering that Japan produces less oil than Wyoming. In the process, Japan has achieved one of the lowest levels of greenhouse gas emissions per unit of economic output, though because of the size of its economy, it ranks 5th highest among emitting nations.

Two of the factors contributing to this excellent energy performance might not be worth emulating, however. First, the period of comparison coincides with the flattening of population growth in Japan, resulting in one of the world's most rapidly aging populations and all the economic worries that brings. It also overlaps with the protracted recession that followed the collapse of the "bubble economy." Over the same period, US economic growth was robust, while our population increased by nearly half.

Nor does the US look so bad, in energy terms. The Journal extols Japan's 40% improvement in energy use per GDP, compared with 1975, yet in the same interval, the US reduced its BTUs/$GDP(real) by 44%. And while Japan imports 82% of its total energy needs, with oil making up 46% of the total, the US is still 71% self-reliant in energy, with oil making up 40% of the mix, down from 45% in 1975. For all of our problems, I wouldn't trade our position for theirs.

All of these comparisons are superficial, because the US and Japan are very different countries, with important economic, social and historical distinctions. Rather than touting the energy improvements of one against the other, the more useful conclusion is that both of these large industrial economies--and most others, by extension--became a lot more efficient after the energy crisis of the 1970s and are thus in a better position to absorb high energy prices without falling into severe recession. That helps explain why the virtual doubling of oil prices this year hasn't been catastrophic for the world economy, thus far. The longer oil prices remain high, the more these countries will invest in efficiency, making them even less vulnerable in the future, with accompanying benefits for the fight against climate change. Japan isn't alone in knowing how to do this.

I'd like to wish my US readers an enjoyable Thanksgiving. Postings will resume on Monday, November 26th.

Tuesday, November 20, 2007

Oil and Water

There is no such thing as a good oil spill. Nevertheless, some spills are much worse than others, though that bit of perspective would not be particularly welcome in my former home state of California, just now. Anyone following the coverage of the Cosco Busan spill, for with legislators are now seeking a federal investigation of the response, might naturally conclude that it ranks among the larger spills in recent years. Seeing the volume cited in gallons--58,000 of them--certainly reinforces that impression. While the environmental damage to the shoreline and marine life of San Francisco Bay saddens me, this spill from a container vessel was relatively modest, as such things go, and until we can replace oil's 150 quadrillion BTU annual contribution to global energy consumption, an attitude of zero tolerance to spills is bound to be disappointed.

Contrary to widely-held perceptions, the number of large oil spills--defined as exceeding 700 metric tons--around the world has declined in each decade since the 1970s, even though oil shipments and seaborne cargo trade have both grown significantly since then. More importantly, the volume of oil spilled in such incidents has also fallen dramatically, particularly over the last dozen years. In 2006, there were 14 spills between 7 and 700 tons and only 4 spills over 700. Statistics from the US Coast Guard reflect similar trends to those of the International Tanker Owners Pollution Federation (ITOPF). For comparison purposes, the Busan spill tallies at about 212 tonnes, a far cry from the Exxon Valdez at 37,000 tonnes, or a monster like the Amoco Cadiz at 223,000 tonnes (69 million gallons.)

That doesn't mean that, since this wasn't a giant spill, we should make light of it, or overlook negligence on the part of anyone involved. It doesn't take very much oil to foul beaches and harm wildlife. But what stands out here is the diminishing tolerance for spills, in spite of the evidence that their frequency and severity are declining. In the post-Katrina US, it is not hard to imagine the outcry that would accompany a truly major oil spill in our coastal waters or a harbor. That has implications for offshore drilling, pipelines, barge and tanker operations, and cargo lines. The number of places from which oil could spill is increasing, and the industry's success at bringing down its spill statistics, while reflecting a lot of hard work, won't win accolades in a world that regards any spill as one too many.

Monday, November 19, 2007

The 5% Solution

Two news items from the last week stand out, energy-wise. First, the OPEC summit in Riyadh ended without any consensus on the need to ramp up production dramatically, to provide consuming countries with price relief. Meanwhile, the IPCC, which recently shared the Nobel Peace Prize with Mr. Gore, has advised that global warming is worse than we thought, and global emissions must begin falling within 15 years to avert serious consequences. Taken together, these events suggest that we face a future in which oil production is likely to fall short of demand, with high-carbon alternatives such as coal liquefaction, oil sands, and shale constrained by emissions limits. Conservation remains one of the few solutions to both problems that could be both quick and cost-effective, though it is probably our least politically-appealing option.

When we think about energy conservation, we naturally tend to jump to efficiency, which is an important subset of conservation. Raising CAFE standards is a good example of this kind of thinking. But even if efficiency looks cheaper than many of the alternatives, it still doesn't always offer quick payouts on the required investments, even with oil at $95/bbl and gasoline over $3/gallon. And whatever else it is, it's not quick, because of the time required to turn over fleets and installed capital equipment. There's another side of conservation that could be both quick and cheap, though addressing it is unpopular, because it goes to the heart of how Americans live now: residing farther from work to afford a nicer home or earn a bit more, driving the kids all over town so they can participate in every activity that interests them, and so on. I'd argue that we focus on CAFE precisely because no one dares to take on the deeper issues.

As the chart below illustrates, Americans do respond to higher gasoline prices, up to a point. The rate of growth of gasoline consumption has fallen from 1.5-2.5% per year to less than 1%, which is roughly equal to the rate of population growth.

Reduced growth, however, does not yield an absolute decline in consumption. We haven't experienced that since the recession of 1990-91.

What if we could reduce demand by 5% within one year, without a higher gas tax and without having to wait for carmakers and consumers to respond to a new 35 mile-per-gallon CAFE Standard that entails either switching to much smaller existing car models or opting for hybrids and European-style diesels in large numbers? We could eliminate almost a half-million barrels per day of oil imports--roughly the production-quota increase that OPEC will discuss at their December meeting. The chart above suggests that price alone won't get us there, at least not without doubling again.

The only practical way to achieve such an outcome quickly would be voluntary conservation, asking the average American to drive about 12 miles less per week. It would be truly refreshing to hear the presidential candidates suggesting such a simple--and politically risky--measure, instead of competing to propose the highest future CAFE standard. It would also confront the reality that the responsibility for consuming 142 billion gallons of gasoline per year rests not only in product-line decisions made in Detroit, Japan and Germany, but chiefly in the daily choices of hundreds of millions of our fellow citizens. If we're seriously concerned about the impact of high oil prices and impending climate change, that's where the discussion must focus. I think politicians underestimate us, by shielding us from that particular truth.

Friday, November 16, 2007

Closing the SUV Loophole

We've had several reminders this year that, when it comes to energy and environmental policy, the executive and legislative branches of government aren't the only ones that matter. First it was the Supreme Court ruling that carbon dioxide could be regulated as a pollutant--defying a common-sense definition of the term--and now the 9th Circuit Court of Appeals is telling the administration that its 2006 update to fuel economy standards for SUVs and light trucks didn't adequately justify treating them differently from passenger cars--in which role most of them are actually used. Even though this ruling is bound to be appealed, it seems likely to influence Congressional thinking on the form that stricter CAFE standards ought to take. If it turns out to be illegal to treat cars and SUVs differently, then the debate over a new 35 mile per gallon standard could get even tougher.

Although the arguments with which the 9th Circuit justified its ruling seem a bit strained, the so-called SUV loophole should have been addressed years ago. It is a classic example of unintended consequences overwhelming the good intentions behind a regulation. While it may have initially benefited businesses that used such vehicles for truly commercial purposes, holding light trucks to a lower standard--even as sales of this class exploded--has increased total US gasoline consumption by approximately 440,000 barrels per day , or about 5% more than would have been the case, had the SUV fad never taken off. The cumulative fuel impact of the SUV loophole exceeds the entire contribution of our costly corn ethanol strategy over the same period.

Closing the SUV loophole might not be as dire as it sounds for auto makers, however, because the average fuel economy of new passenger cars in 2007 is running well ahead of its current target of 27.5 mpg, even though "light trucks", including SUVs, come in very close to their required minimum of 22.2. As of the latest posted report, the entire new car fleet was averaging 26.4 mpg. Achieving 27.5 for all vehicles would only require SUVs to improve by 1.8 mpg, or the sales mix to shift by 7 points of market share toward passenger cars averaging 31 mpg. And if they don't get there right away, the fines to which carmakers would be subject aren't severe.

Ratcheting the entire new vehicle fleet up to a uniform 35 mpg standard would be a very different proposition. Getting another 4 mpg out of passenger cars wouldn't be difficult, using a variety of affordable technologies. Boosting the average for SUVs by more than 50%, on the other hand, would require wide application of the best available technology, which still might not be sufficient. Compare the hybrid and non-hybrid versions of Ford's Escape small SUV, and you only get a 33% uplift. Closing the gap across the entire new vehicle fleet would thus require pushing passenger cars well beyond 35 mpg, boosting SUV efficiency as much as possible, and reducing SUVs' share of the sales mix significantly. In this light, the 40 and 50 mpg CAFE standards that some presidential candidates are espousing could legitimately be characterized as plans for the virtual elimination of SUVs, unless they are only counting the petroleum consumption per mile and banking on biofuels and plug-in hybrids. If so, that could create even more unintended consequences than the SUV loophole did.

Thursday, November 15, 2007

Market Psychology

It's an understatement to say that this is the strangest oil market that anyone could have imagined a few years ago. It is poised on the verge of the psychologically important, but otherwise essentially meaningless $100/barrel mark, and every retreat toward $90 is greeted with a sigh of relief--never mind that $90/barrel is an extraordinarily high price in the absence of a major supply disruption. And that's what worries me most about approaching $100 on the basis of perceptions of a tight supply/demand balance this winter and a bit of speculative momentum. In the event of a truly serious supply problem, the launch pad from which prices would rocket upward would be higher than at any point in history, after adjusting for inflation.

There are many different ways to look at the price of oil. Economists tend to see it as the level at which supply and demand are balanced, moment by moment, but that can't really be true, except in a "long run" that we never seem to reach. As a result of government price controls, fuel taxes, and the buffering effect of refining margins, few of the world's consumers are exposed directly to the price of oil. And even where they are, as in the US, fuel demand is affected more by the value we derive from its use, and by structural limitations of lifestyles that can't be altered quickly, if at all. That has been made abundantly clear over a four-year period in which the retail price of gasoline in the US has doubled.

Others look at patterns of global demand growth and shifts in production capabilities, particularly the flattening of non-OPEC output, and conclude that today's price has largely been set by OPEC, through a combination of its capacity decisions and the periodic revisions to its output quotas. The recent rhetoric coming out of OPEC can be interpreted either as an effort to shift blame for this, or the response of a group of producers who are honestly as surprised as anyone else by the current price level. Perhaps it's some of both. Delegates at the OPEC summit in Saudi Arabia are suggesting that prices could reach $150/barrel and apparently discussing whether an alternative mechanism for pricing oil is required. And while they seem to have conveniently forgotten that much of the path leading to this position was determined by their own investment and capacity decisions over the past decade, they aren't wrong to worry about what could happen in a real squeeze, if mere tightness has brought us this far. In his column in yesterday's Washington Post, Robert Samuelson provided as clear a description of these circumstances and their implications as I have seen in a long time.

Then there's the view that the price is built up from a combination of supply and demand fundamentals plus a consensus on geopolitical risks. This has more credibility, particularly for those who follow the market's day-by-day gyrations, many of which do not reflect any actual change in production and consumption, but are responding to the news-driven perceptions and expectations of various players. But even if part of today's price reflects the potential of a collapse in Iraqi output, conflict with Iran, or sabotage elsewhere, the actual manifestation of such an event would take us much higher.

Whichever theory best explains the current situation, though, the consequences of an unexpected event removing two million barrels per day from an already tightly balanced market look equally disastrous, and that's what ought to concern us most, since $95 West Texas Intermediate--yielding average crude oil acquisition prices between $85-90/barrel--hasn't brought the global economy to a halt. As a speaker at this fall's Herold Pacesetter Conference noted, the price increase that would be required to "crush demand" by a couple of million barrels per day would not be just a few dollars; it might be truly astronomical.

Wednesday, November 14, 2007

Smarter Ethanol

I've been writing about fuel ethanol since I started this blog in 2004, and I've been following it for just shy of 25 years. If there was ever a time for a critical reexamination of our national ethanol policy, it is now. Despite a broad array of federal and state agricultural and blending price supports, ethanol derived from grains is approaching a stall point, even as the Congress debates a nearly five-fold expansion of the federal Renewable Fuel Standard (RFS,) which mandates biofuel use in gasoline. At the same time, the means of producing ethanol from inedible plant material are on the verge of commercial-scale production. As questions about the sustainability of corn-based ethanol grow, it's becoming clear that we need a wiser ethanol strategy.

Ethanol production has grown enormously over the last five years. At the current production rate of around 6.6 billion gallons per year, cumulative production for 2007 should have eclipsed last year's 4.8 billion gallon record during the last two weeks. This impressive expansion has been driven by several key factors, including the phase-out of MTBE for oxygenate blending and the continued provision of the 51 cent-per-gallon blenders credit, along with an import barrier in the form of a 54 cent-per-gallon tariff.

While ethanol displaces some imported oil, most cars in the US cannot tolerate fuel blends containing more than 10% ethanol. Once it attains that share of total gasoline sales, ethanol will have reached a natural limit, at least until flexible fuel vehicles capable of burning 85% blends (E-85) become the norm, rather than a niche. That limit works out to around 14.5 billion gallons per year, after adjusting for ethanol's lower energy content, and it applies equally to ethanol derived from cellulose or corn. Note that this is much lower than the proposed 36 billion gallon RFS, which would require E-85 to capture about 13% of the gasoline market.

That means that new ethanol plants aren't being cancelled because the market is saturated, but because the economics of producing corn ethanol, even after the blenders' credit and tariff protection, are becoming marginal. High corn prices account for much of this, but high energy prices are contributing, as well, and this could get worse. The typical 6:1 ratio of oil price to gas price has increased to nearly 12:1 as crude marched past $90/bbl, and that can't last. If oil prices remain high, gas prices must eventually follow, as more gas is substituted for oil wherever possible. Because ethanol production is so energy-intensive, returning only 1.3 BTUs for every BTU invested, higher natural gas prices will make corn ethanol even more expensive to produce. Now factor in the long-term impact of the inevitable higher prices for water and the logistical challenges associated with getting larger volumes of ethanol to market. In this light, the proposed RFS, or at least the 15 billion gallons carved out for corn ethanol, looks unrealistic and unwise.

A quarter century of subsidies has not made ethanol from corn economically viable. Within a few years, corn ethanol will face new competition from ethanol derived from non-food plants and requiring significantly less energy, water, and other inputs in its production. These facts create a strong case for shifting the focus of the ethanol portion of US energy policy--and agricultural policy. Considering all the above factors, I believe a wiser ethanol policy would consist of the following:
  1. Freezing the federal RFS at the current level of 7.5 billion gallons per year.

  2. Phasing out all subsidies for ethanol derived from food sources within five years.

  3. Phasing out the tariff on imported ethanol within two years.

  4. Shifting the point of subsidy from the blender to the ethanol plant, to ensure that future subsidies go to US producers, rather than offshore.

  5. Increasing the subsidy on cellulosic ethanol to $1.00/gallon until 2010, falling by 10 cents per gallon per year thereafter.

Such a program would focus federal incentives where they will do the most good, promoting the commercialization of cellulosic ethanol, which offers much larger energy and emissions-reduction benefits than corn ethanol and entails fewer concerns about sustainability. Since cellulosic ethanol is expected to be cheaper to produce, once it achieves economies of scale, it should not require permanent subsidies or tariff protection, as corn ethanol has. The result would be a very tough market for current ethanol producers, but it would ensure that the ethanol we use as an oil substitute is produced as efficiently as possible, without merely substituting LNG imports for oil imports. Whether or not something like this could ever be enacted by the US Congress, this is where the debate should focus, rather than on arguing about expanding an inefficient program by a factor of five.

Tuesday, November 13, 2007

SPR Temptations

Today's Wall Street Journal includes an op-ed advocating the sale of oil from the US Strategic Petroleum Reserve, based on a clever twist on the usual argument about the need to drive down global oil prices. Rather than worrying about the economic burden on low-income Americans, the author sees an opportunity for the federal government to earn an arbitrage profit on the SPR inventory, possibly creating an attractive way to plug the budget gap that will be created by reforming the Alternative Minimum Tax. The problem is not with the author's math, which seems generally correct, but with his assumptions about the nature of the futures market and how it would respond to such a scheme. Nor is his idea of depleting the SPR and ceding its function entirely to the market prudent, given the kind of world we in which we live. This is a classic half-baked idea: it contains the seeds of something interesting, but in its present form it would likely prove disastrous.

Mr. Henderson's idea depends on the shape of the "forward curve", the relationship between the futures market's price for oil delivered promptly, compared with the price for delivery in subsequent months. The market is currently in steep "backwardation," with yesterday's contract for delivery in December 2007 closing at a price $8.59/barrel higher than that for delivery one year later. Mr. Henderson looks at all that oil in the SPR and sees a chance to sell now and buy back later, earning the "front-to-back spread" on every barrel. If you look at the open interest and the daily volume in the Dec'08 contract, you might conclude that a million barrels per day (MBD) would disappear into that vast pool with scarcely a ripple. But with relatively few of those futures contracts ultimately resulting in a physical delivery, an extra MBD or two would change the entire market, not just via arbitrage, but by altering the expectations that set its current shape. In fact, a large portion of the arbitrage opportunity would probably disappear the moment the government announced its decision to sell SPR oil, and before the first SPR barrel was sold. The front-to-back spread would shrink quickly, and the total profit captured by the government might only be a few tens of millions of dollars.

The key to Mr. Henderson's strategy is how large a difference in supply or demand is necessary to flip the market from backwardation to "contango," in which oil for later delivery is worth more than prompt supply, and what would happen next. As the first SPR deliveries eased the current competition for prompt barrels, the market would more towards oversupply, and the basis of his whole proposition would be stood on its head. As long as the government continued to sell, the market would shift towards contango, and Mr. Henderson's front-to-back play would turn negative, with the Dec'08 repurchase costing more than the revenue from Dec'07 sales. The moment the SPR sale stopped, the market would revert to its former shape, though not quite as far, because participants would expect the government to intervene again.

The result of this scheme would be a game driven by expectations of future government intent, and that seems like a very undesirable sort of meddling in a complex market that underpins so much economic activity, globally. Nor is it clear that driving down the global price of oil by this means--the author's larger goal--would create more than a short-lived price holiday, during which demand growth here and in developing countries might accelerate. That would compress the gap between demand and actual global production capacity still further, rendering the market more volatile once the SPR ran out, and leaving us no way to replace the lost inventory without driving prices even higher.

I have long regarded the SPR as an outmoded holdover from a highly-regulated era. Its existence deters companies from holding larger inventories, and it offers minimal protection west of the Rocky Mountains. But simply abolishing the SPR without providing a practical alternative would be irresponsible, given the geopolitical risks we face; an unregulated market won't perform this function without a mandate or carefully-targeted incentives. The goal of any prudent proposal to privatize these stocks must be to position them closer to where they would be needed in an emergency, and to put them in more responsive, market-savvy hands, rather than using them all up in an unsustainable binge.

Monday, November 12, 2007

Brave New World

While lobbyists and other Congress-watchers await the reconciliation of the conflicting energy bills passed earlier this year in the US House and Senate, a piece of legislation with the prosaic title of "America's Climate Security Act" (S.2191) has begun the long process of committee review and revision. If passed by both houses in its present form--an unlikely proposition--it would trump many of the hotly-debated energy bill provisions, such as the renewable electricity standard, biofuels mandates, and higher fuel economy. The greenhouse gas "cap and trade" restrictions of "Lieberman-Warner", as the bill is also known, would mandate reducing US emissions by roughly 70% from current levels by mid-century. On a scale well beyond that of the cap-and-trade system introduced by the EU in pursuit of its commitments under the Kyoto Protocol, Lieberman-Warner would reorganize large segments of the US economy, along with those of some countries with which we trade. We stand at the threshold of a new world.

I don't have space here to provide a line by line analysis of the bill. If you're interested, the full text is available at, entering S.2191 in the search box. (I apologize for many past broken links to, before I discovered that it doesn't retain search criteria.) For now, I'll cover the bill's key provisions and expand on them in later postings, as appropriate.

Since critics of emissions trading frequently cite the shortcomings of the EU Emissions Trading Scheme (ETS), it's important to state up front that Lieberman-Warner diverges from the former in scope, intent, and execution, sharing little more than the basic notion of a cap on covered emissions and the issuance of tradable allowances to enable those facing high costs of reduction to benefit from cheaper excess reductions by others. Most significantly, unlike the EU's focus on large industries and utilities, this bill covers the majority of US greenhouse gas emissions, whether from stationary sources or motor vehicles. The ETS also relied heavily on "grandfathering," furnishing free allowances for most of a firm's current emissions. That created a windfall for some companies and undermined the after-market for these permits, which has been highly volatile.

Lieberman-Warner limits grandfathering to 20% of emissions and then gradually phases it out entirely. In particular, oil companies would receive no free allowances, from day one. (More on this in a moment.) Instead, most allowances would be auctioned, with the proceeds allocated to fund a variety of activities, including alternative energy, carbon sequestration, and low-income energy cost relief. These benefits would be augmented by handing out some of the allowances themselves to states and a variety of other organizations. While this would ensure broad participation in the emissions market, it also appears vulnerable to criticisms of patronage.

One of the key arguments against US participation in efforts to reduce GHG emissions has been that it would result in the offshoring of our emitting industries, with Americans simply importing products and effectively exporting the associated emissions. Lieberman-Warner tackles this directly by requiring importers to purchase allowances for the intrinsic emissions of most products--effectively a GHG-equalizing tariff. We would presumably discover later whether that is permissible under the WTO.

So what would this mean for energy consumers? By requiring producers of fuel and electricity to obtain allowances or offsets for their direct emissions and for the downstream emissions of their products, and by severely limiting grandfathered emissions--to zero for petroleum products--it would drive up the price of fuel and electricity, as surely as if the price of oil, gas or coal had gone up. In other words, because Lieberman-Warner covers petroleum products at the wholesale, rather than retail level, it spares consumers the need to get involved in emissions trading, but does not spare them from the financial consequences. Now, an economist would point out that market conditions will determine whether 100% of the cost of allowances would be passed on, or something less. I think it's prudent, given the tightness of these markets today, to assume 100%. If an emissions allowance costs $10/ton of CO20-equivalent, then we should expect gasoline prices to rise by 10 cents per gallon, and coal-fired electricity by about 1 cent per kWh (less, initially, due to 20% grandfathering.)

This isn't the first such bill to be introduced in the Congress, and its prospects are uncertain. Lieberman-Warner is a bit more aggressive than the antecedent "Lieberman-McCain" (S.280), while somewhat less so--and decidedly more market-friendly--than "Sanders-Boxer" (S.309.) None of the previous cap-and-trade bills passed, but then none enjoyed centrist, bi-partisan support going into an election year in which climate change could emerge as a major campaign issue. For planning purposes, anyone potentially affected by this legislation--and that is effectively everyone except small businesses--ought to assume that something similar will be enacted within the next 2-3 years. And if a Democrat or Senator McCain wins the Presidency next year, it would stand a good chance of being signed into law. In the meantime, we can choose between taking voluntarily steps in this direction, or enjoying the final years of the no-cost emissions era.

Friday, November 09, 2007

An Elephant in Perspective

Enthusiasm about Brazil's new giant oilfield, Tupi, has sharply boosted the stock price of Petrobras, which owns 65% of the offshore block in which the field is located. If the estimates of its total reserves prove accurate, in the range of 5-8 billion barrels of oil equivalent, then it would be one of the largest finds in recent years. While this one discovery might not change our perspective on the long-term capability of global oil supplies to keep up with demand, or our proximity to a peak in global production, it has all sorts of interesting implications. As such, it probably deserves even wider coverage than it is getting.

Using the skewed math of the industry's critics, Tupi's reserves amount to only a three-month supply of oil for a world that consumes 85 million barrels per day. A drop in the bucket, right? But of course the world's supply of oil is made up of the output of thousands of oilfields, most much smaller than Tupi and only a relative handful larger. And it's those few, large fields, which can sustain a high output for decades, that are the bedrock upon which our entire oil edifice rests. Tupi's prospective reserves would put it in that top league and, together with possible extensions and adjacent fields, make Brazil a much bigger factor in oil markets. It also raises questions about how many more such "elephants" are waiting to be discovered, as technology extends our reach into ever deeper waters offshore.

As things stand now, Brazil is a modest net importer of oil, on the order of 200,000 barrels per day (bpd,) but with a steadily rising production profile. Even without Tupi, it has another million bpd of new production coming onstream in the next several years. That should vault it past Venezuela's stagnating output and make Brazil the largest oil producer in South America and a key oil exporter. Add Tupi into the mix, and Brazil begins to look like the next Norway, or at least another Mexico: an important new factor in non-OPEC supply.

Guessing at Tupi's ultimate production is beyond my technical skills. Alaska's Prudhoe Bay and associated smaller fields, which contained about twice as much oil, peaked at 2 million bpd and produced over one million for 19 straight years. Well into decline, it still accounts for more than 10% of US oil production. Viewed in that light, one oil field--it it's big enough--can affect the fortunes of an entire country. Together with Brazil's potential to become a much bigger exporter of ethanol from sugar cane, the country's net contribution to global liquid fuels markets over the next decade or two might be on a par with that of Canada's oil sands, with a corresponding influence on world oil prices.

Thursday, November 08, 2007

A Muted Response

Yesterday afternoon I was interviewed by a reporter researching a story on why the response to high oil prices hasn't been more pronounced, especially on Capitol Hill. To the degree that Congress reacts when consumers complain, however, the current muted response is understandable. While the crude oil price has risen by 29% since Labor Day, the average pump price of unleaded regular has only gone up by 8%, so far. Nor is $3.00/gallon startling, any more, no matter how much it stretches the average person's budget. That kind of price fatigue is unlikely to last, though, if refining margins recover sufficiently to push gasoline to $3.50.

There are many reasons why the current oil price shouldn't be as worrying as the price spikes of the 1970s, and you've heard most of them before. The US uses only half as much energy per dollar of real GDP as it did then, and oil's share of those BTUs is 10% lower, today. At the same time, as I pointed out to the reporter, the price of crude oil is a pretty abstract concept to most people, compared to the price of gasoline or heating oil. I don't know how many other folks have actually bought or sold a barrel of petroleum, but I would guess it's fewer than 1 in 1,000, even counting those who receive royalty payments on their mineral rights.

Contrast that with gasoline. When we fill up at the self-service pump, we can hear it and smell it going into our cars, and most of us experience this at least once a week. How many times a day do Americans see a gas price on a pole-sign? I'd bet more people know the price of a gallon of gasoline than know the price of a loaf of bread. It doesn't get more concrete than that. So when the average retail gasoline price broke $3.00/gallon for the first time after Hurricane Katrina, the public's shock and outrage were palpable, and political consequences followed promptly. And when it breached $3 last summer and again this spring, it was hard for many people to understand, because it was being driven more by tight refining capacity than rising oil prices. With oil company profits soaring on higher refining margins, that didn't seem fair, even if it was a natural consequence of supply and demand.

The current situation is different. This spring, when gasoline peaked at $3.22/gallon, crude oil accounted for less than half of its cost; today, that ratio is over 70%. Oil company profits are being squeezed, as a larger share of the higher oil revenue is going to producers in Venezuela, West Africa and Russia. These shifts may not evoke much sympathy for Big Oil, but they undermine claims that the companies are gouging consumers.

The public's apathy about high oil prices can't last. If oil remains above $90 for very long, sooner or later gasoline prices will spike higher, as heating oil prices are starting to do now. It could happen because demand strengthens, or after some accident or other event shuts down a key refinery or pipeline. Then gasoline will push toward the next major price threshold, the complaints will sharpen, and a torrent of angry emails to Congress will follow, with unpredictable consequences in an election year.

Wednesday, November 07, 2007

Don't Panic

A few weeks ago we were facing the prospect of $100 oil by Christmas. Now it appears we might get there this week. As we wrestle with appropriate responses, it's important to remember that we didn't get into this pickle overnight. It has been coming on since at least 2003, when oil prices began the steady climb that has brought them to this level. On a deeper level, however, we've been headed for this juncture since 1991, the last year in which US oil production increased and our imports of crude oil and petroleum products fell. And just as it took more than a decade to reach this point, it's going to take longer to work our way out of it than anyone might wish.

The graph below shows how US demand for liquid fuels has been met, going back to 1975. The steady decline of US oil production since the mid-1980s is clearly visible, as is the steady rise in demand and the resulting growth of imports, which increased in every year from 1992 to 2005, dipping slightly in 2006--though not because of any drop in the demand for refined products.

Data from US Department of Energy, Energy Information Agency website

The thin yellow slice between oil production and imports reflects the impact of biofuels on an energy-equivalent basis. It's mostly ethanol, and even at last year's record production of 4.86 billion gallons, it barely registers at this scale. Expanding the current ethanol mandate from 7.5 billion gallons per year in 2012 to 36 billion gallons, as the President and the Senate have proposed, would reduce our oil imports--at the expense of higher imports of natural gas--but won't close the enormous gap we've created over the last 15 years. Nor is it clear how much further corn ethanol output can expand in the near term, or when next-generation cellulosic ethanol will be available at a competitive cost.

I'm not suggesting this is purely a US problem. Oil trades in a global market, and the rapid economic expansion in Asia has been a big contributor to global demand growth. However, we are still by far the world's largest oil importer, taking more than Japan, China and Germany combined. Trends here have a disproportionate effect on the whole market, not least through the influence of US oil futures on the price of physical oil.

If we look at the next few years, the only strategy that could make a meaningful dent in the problem is conservation, and in that timeframe it wouldn't come from improvements in fuel efficiency, but from changes in our daily consumption patterns. And that's why this problem appears so intractable. The short-term elasticity, or price response, of petroleum products isn't just low because of structural limitations around commuting to work and taking the kids to their activities, but because even at $3.00/gallon the economic benefits we derive from motor fuels far exceed their cost. The trick will be finding ways to bring down petroleum consumption without destroying the economic value its use has created. Achieving that is going to require more efficient cars and more effective biofuels than what we have today, and neither of these will arrive in time to affect the price of oil in 2007 or 2008.

Tuesday, November 06, 2007

Fuel Cell Test Drive - Part II

In a posting at the start of this year, I described the competition among various advanced technology vehicle options as a race that still had many laps to go. Moreover, it's a race in which the finish line keeps moving, as the technology of conventional cars improves--nudged along by a stricter CAFE standard, or by consumers placing a higher priority on fuel economy and emissions. Yesterday I described my experience test driving a hydrogen-powered Chevrolet. The Equinox Fuel Cell affirms that it's possible to build a fuel cell vehicle (FCV) that consumers might want to buy, although its future retail price remains highly speculative. Today I want to tackle the larger and more complex question of whether anyone should build such a car.

As I mentioned yesterday, the GM team that came to Washington to brief the media on the Chevrolet Equinox Fuel Cell didn't just bring a half-dozen or so of the cars; they also brought detailed presentations on their advanced vehicle strategy and the experts to answer our questions. They painted a picture of the progressive electrification of personal mobility, ranging from the kind of hybrid systems featured in some of their new SUVs to cars that are powered entirely by electricity, generated either onboard or externally: by a fuel cell, as on the Equinox FC, or by an internal combustion engine and the electric grid, as in the much-anticipated Chevrolet Volt plug-in hybrid (PHEV) car. That view of electric drive as the next big step in transportation is consistent with what I saw in Texaco's long-term scenarios, going back a decade.

Good strategy isn't just about having a sound and compelling vision; you must be able to implement it. As I discussed last month, the implementation of a successful fuel cell car must overcome a number of parallel obstacles dealing with hydrogen generation, storage and distribution, while also driving the cost of both the vehicle and its fuel down to a level at which the system becomes competitive with other options, or the status quo. GM's plans cover all of these bases, though I wonder whether they can achieve the simultaneous convergence of all of the factors necessary to go from a 100-car demo to full production. Let's look at the elements:
  • Production - GM anticipates capitalizing on spare hydrogen production capacity from existing industrial operations--refineries, fertilizer plants, industrial gas facilities--to supply the H2 for the first large increment of fuel cell cars. That means relying on H2 made mostly from natural gas, at least initially, with its associated costs and emissions. In this regard, the "zero emissions/zero petroleum" label on the Equinox I drove only accounted for the vehicle's inputs and outputs, not a "well-to-wheels" lifecycle energy and emissions profile. While GM's figures on total US hydrogen production looked accurate, all of that output is currently spoken for, making cleaner gasoline, ultra-low-sulfur diesel, and other products. GM and its partners are apparently still working on an estimate of how much incremental H2 might be available from these sources. The energy and environmental benefits are likely to vary regionally and locally, depending on the source of H2, though all should be an improvement over the internal combustion engine (ICE).
  • Storage - The Equinox Fuel Cell has three high-pressure H2 tanks. H2 at 10,000 psi is dense enough to give the car a 150-mile range, and it is manageable enough to allow the car to be refueled in 5-7 minutes, a bit longer than your typical gasoline fill-up, but far quicker than recharging any existing electric vehicle. Compressed H2 entails some trade-offs, however. While not subject to the venting concerns and boil-off losses that have plagued liquid H2--BMW's chosen mode--it is still not dense enough to provide as much range as gasoline, even after the 2X efficiency improvement from the fuel cell. And while the tanks are carbon-fiber-wrapped and the safety systems include sensors that close all the H2 valves in a collision, I will never be thrilled with a storage system that bottles up that much mechanical energy, even if it were compressed air, rather than H2. In the long run, metal hydrides or carbon nanotubes may provide a welcome upgrade, but I can appreciate that compressed H2 is what was doable now.
  • Distribution - GM has mapped out how many refueling facilities would be necessary in each of their target markets. For example, in L.A. they foresee 30 local stations, supplemented by another 10 along the routes to Santa Barbara, Palm Springs, etc., handling up to 40,000 FCVs. The logistics of that seem a little snug to me, but that aspect has presumably been vetted by GM's fuel partners, including Shell. The economics of the required investment, cited at up to $3 million/station, look daunting, however. Absent government subsidies, the margin on retail H2 would have to be commensurately high, approaching $2/kg, to ensure positive returns on these facilities. Will GM's fuel partners have the stamina to put down in excess of $100 million against what could easily prove to be a negative NPV? But how many cars can GM sell, without pre-positioning enough stations to refuel them conveniently?

Many experts have written off hydrogen as a bad idea. As I mentioned in last Thursday's webinar (here, in case you missed it) I believe that view ignores the substantial well-to-wheels efficiency and emissions benefits that hydrogen fuel cells offer, and which the GM team highlighted in their presentation. It also presumes that we already know what will induce consumers to trade in their reliable-but-inefficient conventional cars. I give GM a lot of credit for getting the FCV to the point at which they can put it in the hands of real consumers, as Toyota is currently doing with a similar demonstration fleet of Priuses modified into plug-ins. Such market tests are essential to establish the viability of these concepts, though in neither case is consumer acceptance the only hurdle on the path to commercial viability. Manufacturers must still cut the cost of these cars to a level justified by their energy and emissions savings, and complex infrastructure issues--technical and economic--must be solved. For now, the race proceeds, but the finish line remains distant.

Monday, November 05, 2007

Fuel Cell Test Drive - Part I

Last Friday, along with several members of the press and a few other bloggers, I had an opportunity to drive GM's latest hydrogen vehicle, the Chevrolet Equinox Fuel Cell. This took place as part of GM's Project Driveway rollout, which will put 100 fuel cell cars in the hands of selected consumers (apply here.) The session in D.C. included an extensive briefing by GM's fuel cell team on the corporation's advanced technology vehicle strategy, the safety and design aspects of the Equinox FC, and its associated hydrogen refueling infrastructure. I couldn't possibly do justice to all this in a single posting, so today I'll focus on the fun part--driving a fuel cell car--and return to the larger strategic and policy implications tomorrow.

(Photos courtesy of GM.)

Even though I've been following the development of advanced technology vehicles pretty closely for ten years, as part of my broader focus on alternative energy and its environmental implications, I must admit that I was surprised at how normal the Equinox FC seemed. Nothing about it suggests a limited-production prototype. In appearance, trim and handling it looks and feels like a real car, rather than a test-bed for a highly efficient but very costly new propulsion system. Other than the animated fuel cell schematic on the dash and a power output gauge where you'd expect to find a tachometer--and the absence of a tailpipe--you'd be forgiven for not noticing that it isn't just another well-appointed example of the car-based SUVs that have become increasingly popular in the last few years.

How did it drive? Well, anyone who has never driven an electric car or a hybrid--which the Equinox FC is, too--might think that the equivalent 125 horsepower of the Equinox's 93 kW fuel cell stack wouldn't be adequate to deliver acceptable acceleration. After experiencing the EV-1 a decade ago, I knew to expect the electric motor's kick, with its instant torque. The car performed well on our loop around downtown Washington, DC, including a short hop onto I-395 towards Crystal City. It wasn't as eerily quiet as the EV-1; between the air compressor and H2 injectors, I might have guessed the car was powered by a big, refined V-6.

Naturally, there were a few other reminders that this wasn't a regular car. Because the Equinox FC employs regenerative braking, like other hybrids its brakes feel a bit stiff and unresponsive. Hybrid owners tell me they get used to this very quickly. Even when compressed at 10,000 psi, H2 takes up more room than its equivalent in gasoline or diesel. The hump in the cargo area behind the back seat--which would certainly complicate loading the car up for a family trip--isn't the only reminder of this fact. Even at an effective 43 miles per gallon, the maximum H2 capacity of 4.2 kg on board is only enough for about 150 miles, and H2 refueling stations are as rare as hen's teeth. (More on that subject tomorrow.)

I don't test drive cars very often, and the Equinox--fuel cell or otherwise--is quite different from my normal ride. I've never owned an SUV or mini-van, and the standard Equinox and its competitors weren't on my short list the last time I went car-shopping. So while my test drive didn't impart a desperate urge to own an Equinox FC, that's more of a knock on a car class that doesn't hold much appeal for me, than on this particular vehicle. At the same time, I think GM made a wise choice of the Equinox as a fuel cell platform, leveraging the standard model's 5-star crash rating to allay some of the safety concerns that hydrogen still raises, and put this technology in a package that most Americans would find similar enough to the cars they own to make them immediately comfortable.

So, on balance, count me as favorably impressed with the Equinox Fuel Cell. What's under the hood may be rocket science, but the car itself isn't. While that might disappoint some of us alternative energy "gear-heads", it's a useful reminder that no advanced technology vehicle will ever become a mass-market success, unless it incorporates the best marketing--as well as engineering--thinking. Tomorrow's posting will look at the energy and environmental implications of mass-producing a fuel cell vehicle such as this one.

Friday, November 02, 2007

Expecting Uncharacteristic Patience

The politics of climate change are awful. I'm not referring to the domestic or international politics surrounding the Kyoto Protocol, but to the inherent problem of responding to a complex global phenomenon that spans many election cycles, with a long, indirect feedback loop. Even if there were no remaining controversy over the contribution of anthropogenic greenhouse gas emissions, altering the warming trend will involve deep and permanent cuts in our emissions, with no guarantee of how soon we would see any change in the indicators that worry us. That is a risky proposition for any elected leader to espouse. It relies on an uncharacteristic degree of patience on the part of the electorate. Considering the long-term implications of this problem, we might need some alternative strategies for combating climate change that wouldn't take a decade to implement and another to produce noticeable results.

A necessary component of scenario planning is following implications to their logical conclusions, no matter how controversial. With regard to climate change, we are all now scenario planners. On that basis, climate intervention along the lines contemplated in a recent New York Times op-ed by a Carnegie Institution scientist, begins to look like a nearly inevitable outcome of the current trends and the political framework for addressing them. That doesn't mean we can ignore our growing emissions or wait for technology to transform them painlessly. There's a strong case for working hard to make the problem more manageable, rather than letting it grow out of control until we can put mirrors in orbit or simulate the heat-reflecting effects of a volcanic eruption. As Dr. Caldeira suggests, we will need a reasonable allocation of effort, with the emphasis on reducing emissions.

Reducing emissions rapidly enough to avoid the need for direct climate intervention is going to be hard. Consider the California wildfires that dislocated hundreds of thousands of residents and captured national attention last week. Few reports missed the opportunity to highlight the possible role of climate change in stimulating or amplifying the fires. At the same time, however, the controllable factors contributing to the damage are very clear, particularly to this former Los Angeleno. In the last 20 years, exurban development has encroached much farther into terrain that has always been prone to such fires. In fact, the life-cycle of the indigenous vegetation, the chaparral, has been shaped over millennia by periodic fires. If we can't overcome the obstacles impeding appropriate zoning, building standards and insurance practices to minimize our exposure by limiting development in such areas, how readily will we undertake the costly conversion to a low-emissions energy economy to enjoy the deferred rewards of a more benevolent future climate?

It's hard to turn on the TV or open a newspaper without being confronted with the evidence of an impending global climate crisis. By its nature, climate change is going to be unevenly distributed and mainly discernible from underlying random climate variation by statistical means that lack intuitive appeal. It is in the nature and market dynamics of the media, however, to select the most extreme and telegenic evidence, reinforcing our impression of accelerating climate change--noticeable from year to year, rather than just from decade to decade. In the process, this may inadvertently create a parallel expectation for a quickly discernible impact from any response we undertake. As a friend recently observed to me, we have been conditioned to seek solutions on the timescale of a "CSI" episode. Given the inertia of the systems involved, both natural and industrial, that expectation is likely to result in disappointment, which could either foster cynicism or spur calls for more extreme action.

That's why I think that if the current climate trends persist as we expect, there will be increasing pressure on governments to intervene in the climate directly, at the same time they attempt to remodel the ways in which our civilization produces and consumes energy and makes all those other products we need or crave. Unless we're lucky enough to see the implementation of emissions cuts coincide with a random dip in the temperature trend, our patience will only last so long, particularly if we experience more extreme fires, droughts and hurricanes in the interim.

Thursday, November 01, 2007

Replacing Human Reserves

If I had a quarter for every time someone at my former company said, "People are our most important resource," I could retire now. And when confronted with the unsavory nature of many of the governments with which oil companies must routinely deal, how many of us have replied, "You have to go where the resources are"? An article in Monday's Wall Street Journal section on the environment describes the human resource challenges of the oil industry in a way that puts those two clich├ęs into an entirely different context, in terms of how potential employees view the future prospects for alternative energy and a transition away from oil. This issue ought to prompt oil companies that have resisted investments in renewables and other new energy technologies to rethink their "cleantech" strategy.

Oil and gas companies are enjoying a run of extraordinary profitability. The mounting attacks from the Congress on "windfall profits" are as good an indication as any that these are truly boom times for oil firms. But many of these same companies contain within them a sort of demographic I.E.D., as the big bulge of employees in their 40s and 50s moves ever closer to retirement. Replacing those reserves might be even more important than replacing the hydrocarbon reserves they consume annually, if these companies are to continue serving the energy needs of their customers, and the financial needs of their shareholders. As the Journal describes, the ability to hire enough first-class talent to tackle the technological, environmental and economic challenges ahead may depend less on corporate salary and benefit policies than on the public's perception of the business in which these companies engage.

In the late 1990s, my former employer, Texaco, rolled out a new advertising campaign called, "A World of Energy." It was built on the premise that we were transforming from an oil company into a broader "energy company." BP has endeavored to convey the same message in its "Beyond Petroleum" rebranding. Such efforts have been criticized as being either cynical or entirely aspirational, rather than reflecting a serious portfolio realignment. I've seen BP advertising touting their revenues from non-traditional energy, but noted that they include natural gas--generally not regarded as a form of alternative energy--to make the numbers sufficiently impressive. However, they might doing this for reasons having little to do with boosting sales or the current bottom line.

Now, you could view the efforts of companies like BP, Shell, Chevron and ConocoPhillips to branch out into wind, solar and biofuels as the early stages of diversification into the types of energy that must someday replace oil & gas, or you may regard these steps as having a large PR component. Both views are probably correct, today. But I would argue that these companies are also beginning to react to the feedback from their college recruiting efforts. Several former colleagues that still do this have told me that new engineering graduates mainly want to hear what the company is doing in renewables or new energy technology, rather than deepwater drilling or enhanced recovery. The thinner the new energy story, the less likely you are to attract the top graduates.

One of the largest oil companies in the world, ExxonMobil, has stated that it won't invest in alternative energy project until it is profitable to do so. If you're the biggest and most profitable publicly-traded firm in the sector, you can probably follow that strategy without drying up your sources of new technical talent, or having your experienced scientists and engineers lured away by cleantech startups. Or perhaps Exxon's partnership with Stanford University sends the necessary signal to new graduates interested in cleantech, but desiring the stability and benefits that Exxon can offer. While these attributes may carry Exxon through this looming HR challenge, there's no other company in the industry that can be assured of winning the same bet. Rapidly growing renewable energy companies could alter the market for the industry's human resources faster and more profoundly than they affect the market for its products. That's an implication that many of these firms haven't anticipated.

Don't forget today's webinar on "Fuels for Now and the Future", hosted by Cleantech Collective. For more information and to register for the webcast, which is scheduled for 2:00 PM EDT, please follow this link.