The new administration submitted its first federal budget to Congress yesterday. It projects a cumulative deficit of $8 trillion from 2009-18, even after the inclusion of two substantial new revenue sources: It increases taxes on the top quintile of income-earners, who already account for 86% of the revenue collected by the personal income tax, and for the first time it includes revenue from the auctioning of permits for greenhouse gas emissions under a cap and trade system, the enabling legislation for which has yet to be drafted, let alone introduced. Since this is an energy blog, not a tax policy blog, I will focus on cap & trade, the full implications of which for the economy hinge on the details of its implementation and the disposition of funds it collects.
Seeing that cap & trade has become sufficiently imminent for it to be included in the federal government's income and expense budget evokes an odd feeling. I've been thinking about cap & trade for more than a decade, and I've been writing about it for at least the last five years. Yet as convinced as I am of the necessity of setting a price for carbon dioxide and other GHGs emitted to the atmosphere, and of a market as the best means of determining that price, I can't avoid the sense that the timing is off. We had all better hope that the economy will be recovering strongly by 2012, when the President's budget assumes auctioning of emissions permits will begin. Yet if that were truly certain, the significant expenditures beyond the 2009-10 period in the recently-passed economic stimulus bill would have been unnecessary. The degree of risk posed by this new tax--which it surely is, no matter how it is labeled--depends on how its revenues are recycled into the economy.
The President's budget contemplates spending $15 billion per year of the proceeds from cap & trade on energy research, development and deployment, with the lion's share going to renewable energy and the so-called smart electricity grid. (The assumption of higher taxes on oil and gas production reinforces my concern that the administration misunderstands the importance of new hydrocarbon sources in enabling the transition to a greener energy economy.) The budget proposal also indicates that much of the balance will be returned to taxpayers and to lower-income Americans who would be most affected by the energy price increases that cap & trade will cause. Congress may have other ideas, however, as evidenced by the debate over last year's Boxer-Lieberman-Warner cap & trade bill. And therein lies the problem.
In a perfect world, the sole purpose of cap & trade would be to monetize the environmental externality cost associated with GHG emissions, and then to refund 100% of the revenue to taxpayers, resulting in no net drain on the private sector. Advocates of this approach call it "cap and dividend." In the context of trillion-dollar deficits and expanded social programs, I am skeptical that consumers, who will ultimately pay the new levy on carbon in higher prices for energy and a wide variety of goods and services, will get much of it back in tax cuts or rebates. The political dynamic now in place makes that unlikely; the need to fund new programs and the urgency of reducing the budget shortfall will probably prove irresistible to the diverse coalition within the majority party, including a key swing group of deficit hawks.
If cap & trade will not be implemented as cap & dividend, but as a new source of funding for government programs, the timing of its onset looks crucial for ensuring the sustained recovery of the US economy. I understand the urgency behind enacting cap & trade. Concerns about the risks of climate change are increasing, and the administration would like to be able to demonstrate tangible US leadership at December's Copenhagen climate summit. Yet if our economy continues to shrink, we may not need cap & trade to meet the President's near-term climate goals, and if cap & trade is seen as harming the economic recovery, it would be less likely to be preserved by subsequent administrations. Better to delay the auctioning of permits for a year or two, or make it contingent on a threshold level of economic growth--with negligible incremental impact on the environment--than to wager the sustainability of tough climate policy on a premature start date.
Friday, February 27, 2009
Wednesday, February 25, 2009
Energy Omission
When President Obama spoke about energy in last night's address to a joint session of Congress, his focus was on renewable energy. There was no mention of last year's hot-button issue of drilling for more oil off the coast of the US, and I doubt that this struck many listeners as odd. After a 72% drop from last July's peak oil price and the onset of a global recession and financial crisis, offshore drilling must seem like yesterday's news. The world is now awash in oil for which the expected demand has receded, and many Americans are convinced that the passage of an economic stimulus package that included $77 billion for energy--mostly renewables and efficiency--has put us on a path to achieving energy independence. But while the conditions that gave rise to last summer's mantra of "Drill, Baby, Drill" have altered beyond recognition, the continued development of the nation's oil endowment turns out to be as important to our economic future as the infrastructure investments that were included in the stimulus, or the wind, solar power and biofuels that the President cited in his remarks. That's because renewable electricity doesn't displace oil; our output of biofuels is still relatively small; and before the high-mileage vehicles we've been promised are on the road in large enough numbers to matter, natural decline will have pared the output of the oil fields upon which we rely today by at least a third--more than the energy contribution of all these new programs combined.
Start with non-hydroelectric renewable power--wind, solar, geothermal, and the other means of tapping natural, perpetual energy flows. They are essential contributors to the lower-emission energy economy we must have in the future, and they enhance our energy security, but aside from supplying only a small fraction of our current energy needs, they have next to no effect on oil demand, at least in the US. Last year only 1.1% of the electricity we used was generated from oil, so there's not much left to displace from the power sector. That work was done in the 1970s and '80s by nuclear power and natural gas turbines. Instead, intermittent or cyclical renewables such as wind and solar power will largely displace natural gas, while geothermal can take the place of some baseload coal power.
Biofuels are a different story. Liquid biofuels compete directly with oil, and the Congress has committed us to using an increasing volume of them every year through at least 2022. However, even ignoring the substantial quantities of fossil energy required to produce them, their contribution is still on a small scale, compared to current US petroleum consumption. For example, last year's record output of approximately 9.2 billion gallons of ethanol, the energy equivalent of 6.1 billion gallons of gasoline, made up only 4.4% of our 2008 gasoline consumption on a BTU basis. By comparison, the nation's oil wells produced roughly 76 billion gallons last year, despite significant disruptions from Hurricane Ike. And because of its lower energy content, every gallon of ethanol blended into gasoline increases our overall fuel demand. In a recent study, the Oak Ridge Laboratory of the Department of Energy found that cars running on a blend containing 20% ethanol--a level currently under consideration for reasons I could devote an entire posting to explaining--required an average of 7.7% more fuel to travel the same distance as on a gallon of petroleum gasoline.
That brings us to improved fuel economy and vehicle electrification, which together probably constitute our best hope for reducing oil consumption by large quantities in the long run. Unfortunately, the median age of US cars has been rising for the last decade, even before the car industry suffered an 18% drop in sales last year. So while the total fleet of 235 million cars and light trucks is likely to grow more slowly than in the past, it will also turn over at a lower rate than previously. Even if the fuel economy of new cars improved by 1 mpg per year--four times the recent rate--the whole fleet might still only be about 10% more efficient than today's within eight years. Do that and double ethanol output over the same interval, and we'll still need a lot of oil to fuel our transportation sector.
Where will that oil come from? Well, few Americans want to increase our reliance on the Middle East, which holds roughly 60% of the world's oil reserves. And our safe, reliable suppliers close to home are going to be challenged just to continue to supply what they already do. Canadian output depends heavily on oil sands production, which is highly capital-intensive and does not compete well at current prices. Production in Mexico is falling off a cliff, with the sharp decline of the super-giant Cantarell field. These two countries together accounted for 33% of our net oil imports in 2007. It's not all bad news; Brazil has discovered vast new oil deposits--in deep water offshore--and plans to ramp up production in the next few years. However, the global oil industry needs to bring on between 3 and 5 million barrels per day of new production every year, just to keep pace with the inexorable depletion of existing fields. When investment slows, decline wins out, and last week the CEO of Total, the French oil super-major, indicated that this effect could cap global output at 89 million barrels per day, providing scant headroom once the global recession ends.
There's no doubt that the US oil sector is the world's most mature, having produced a cumulative 200 billion barrels since Col. Drake's first well in 1859. But that doesn't mean that there aren't significant quantities of oil left to extract, both in the large untapped deposits onshore and offshore, and in oil fields abandoned under earlier extraction methods. Even if pessimistic estimates that accessing the former would only add 200,000 bbl/day of new oil are correct--defying logic, experience, and any reasonable assessment of likely reserves-to-production ratios--the increment would still contribute as much net energy as our entire recent ethanol expansion, while creating many jobs when they're most needed. And instead of requiring subsidies, tax incentives, and federal grants to get this effort going, it could begin with a signature and ultimately contribute many billions of dollars in royalties and income tax toward paying down the crippling debt we are taking on to ease the recession.
Although offshore drilling seems unlikely to become a cause célèbre again, until oil prices spike on the other side of the recession, it has an important role to play in a balanced energy strategy for the country. Domestic oil and renewable energy aren't mutually exclusive; bridging our oil supplies will be essential for a smooth transition to the cleaner and greener energy and transportation mix we all want. Nor have low gas prices sapped the public's interest in proceeding with development. A new poll indicates that 61% of those who voted in last November's election still support more drilling. The administration should take note, and clear the way for responsible access to the billions of barrels of oil that were kept off limits for decades.
Start with non-hydroelectric renewable power--wind, solar, geothermal, and the other means of tapping natural, perpetual energy flows. They are essential contributors to the lower-emission energy economy we must have in the future, and they enhance our energy security, but aside from supplying only a small fraction of our current energy needs, they have next to no effect on oil demand, at least in the US. Last year only 1.1% of the electricity we used was generated from oil, so there's not much left to displace from the power sector. That work was done in the 1970s and '80s by nuclear power and natural gas turbines. Instead, intermittent or cyclical renewables such as wind and solar power will largely displace natural gas, while geothermal can take the place of some baseload coal power.
Biofuels are a different story. Liquid biofuels compete directly with oil, and the Congress has committed us to using an increasing volume of them every year through at least 2022. However, even ignoring the substantial quantities of fossil energy required to produce them, their contribution is still on a small scale, compared to current US petroleum consumption. For example, last year's record output of approximately 9.2 billion gallons of ethanol, the energy equivalent of 6.1 billion gallons of gasoline, made up only 4.4% of our 2008 gasoline consumption on a BTU basis. By comparison, the nation's oil wells produced roughly 76 billion gallons last year, despite significant disruptions from Hurricane Ike. And because of its lower energy content, every gallon of ethanol blended into gasoline increases our overall fuel demand. In a recent study, the Oak Ridge Laboratory of the Department of Energy found that cars running on a blend containing 20% ethanol--a level currently under consideration for reasons I could devote an entire posting to explaining--required an average of 7.7% more fuel to travel the same distance as on a gallon of petroleum gasoline.
That brings us to improved fuel economy and vehicle electrification, which together probably constitute our best hope for reducing oil consumption by large quantities in the long run. Unfortunately, the median age of US cars has been rising for the last decade, even before the car industry suffered an 18% drop in sales last year. So while the total fleet of 235 million cars and light trucks is likely to grow more slowly than in the past, it will also turn over at a lower rate than previously. Even if the fuel economy of new cars improved by 1 mpg per year--four times the recent rate--the whole fleet might still only be about 10% more efficient than today's within eight years. Do that and double ethanol output over the same interval, and we'll still need a lot of oil to fuel our transportation sector.
Where will that oil come from? Well, few Americans want to increase our reliance on the Middle East, which holds roughly 60% of the world's oil reserves. And our safe, reliable suppliers close to home are going to be challenged just to continue to supply what they already do. Canadian output depends heavily on oil sands production, which is highly capital-intensive and does not compete well at current prices. Production in Mexico is falling off a cliff, with the sharp decline of the super-giant Cantarell field. These two countries together accounted for 33% of our net oil imports in 2007. It's not all bad news; Brazil has discovered vast new oil deposits--in deep water offshore--and plans to ramp up production in the next few years. However, the global oil industry needs to bring on between 3 and 5 million barrels per day of new production every year, just to keep pace with the inexorable depletion of existing fields. When investment slows, decline wins out, and last week the CEO of Total, the French oil super-major, indicated that this effect could cap global output at 89 million barrels per day, providing scant headroom once the global recession ends.
There's no doubt that the US oil sector is the world's most mature, having produced a cumulative 200 billion barrels since Col. Drake's first well in 1859. But that doesn't mean that there aren't significant quantities of oil left to extract, both in the large untapped deposits onshore and offshore, and in oil fields abandoned under earlier extraction methods. Even if pessimistic estimates that accessing the former would only add 200,000 bbl/day of new oil are correct--defying logic, experience, and any reasonable assessment of likely reserves-to-production ratios--the increment would still contribute as much net energy as our entire recent ethanol expansion, while creating many jobs when they're most needed. And instead of requiring subsidies, tax incentives, and federal grants to get this effort going, it could begin with a signature and ultimately contribute many billions of dollars in royalties and income tax toward paying down the crippling debt we are taking on to ease the recession.
Although offshore drilling seems unlikely to become a cause célèbre again, until oil prices spike on the other side of the recession, it has an important role to play in a balanced energy strategy for the country. Domestic oil and renewable energy aren't mutually exclusive; bridging our oil supplies will be essential for a smooth transition to the cleaner and greener energy and transportation mix we all want. Nor have low gas prices sapped the public's interest in proceeding with development. A new poll indicates that 61% of those who voted in last November's election still support more drilling. The administration should take note, and clear the way for responsible access to the billions of barrels of oil that were kept off limits for decades.
Monday, February 23, 2009
Logical Disconnect
According to a story in Saturday's Washington Post, the new Secretary of Transportation stepped out of line when he suggested that collecting the road tax based on miles traveled might be preferable to taxing sales of motor fuel. This is a complex issue, and I hope that Secretary LaHood won't let the matter drop, there. More importantly, the curt response from the White House signals a potential logical disconnect at the heart of the new administration's energy and transportation policies, which are aimed squarely at reducing oil imports and greenhouse gas emissions from the transportation sector by making cars much more efficient and shifting large numbers of them to electricity. If these measures succeed, they will surely dry up revenue for the Federal Highway Fund and leave our infrastructure in an even worse state than the "D" grade it recently received from the American Society of Civil Engineers. On the other hand, if the White House believes this funding source remains sound, they implicitly acknowledge that the vehicle efficiency and electrification transition will take a lot longer than Americans have been led to expect.
At first glance, this disconnect seems quite minor in the context of arresting a recession we are constantly told is without precedent in the post-World War II era, and of the equally daunting project of getting the country's greenhouse gas emissions and "oil addiction" under control. After all, the current federal excise tax on gasoline is only 18.4 cents per gallon, and it wouldn't take a very large increase to offset the revenue lost from annual sales declines on the order of the 3% or so the US experienced last year, which equated to about a $1 B drop in tax receipts. The problem, however, is that the energy and environmental policies on which President Obama campaigned envisioned reducing oil consumption not by a few hundred thousand barrels per day, but by millions, with most of that coming out of gasoline demand.
I don't underestimate the difficulties involved in rethinking the present system. We can't tax fuel efficiency without making it less attractive than it already is, when gasoline sells for $2 per gallon. Nor do I think consumers would be as welcoming of new "smart" electricity meters, if they thought they were opening the door to paying a tax on the power used to recharge the plug-in hybrid or electric cars they might hope someday to own. I also got a small taste of the privacy concerns entailed in taxing actual miles driven by means of GPS-based technology, in the form of some very pointed comments when I wrote favorably concerning that option several years ago. But even a purely mileage-based system might not be sufficient to avert a decline in road tax revenues, if last year's reversal of the trend in Vehicle Miles Traveled turns out to have been a true inflection point in the long-term trend.
However difficult it might ultimately be to resolve this emerging challenge, dismissing it out of hand is a mistake. Such a response risks undermining the image of an administration meant to be filled will serious people who carefully think through all the consequences of their actions. Whatever the White House thought about Secretary LaHood's comments about the road tax, it would have been far better to have acknowledged that this is something that must eventually be approached with prudence and creativity. There is still time for that, even if this issue must wait on the back burner while the nation deals with bigger, more urgent problems. If the response to low gas prices that I highlighted in last Thursday's posting persists, federal highway tax receipts might actually rise this year, though I wouldn't bank on that trend lasting long enough to negate Mr. LaHood's worries.
At first glance, this disconnect seems quite minor in the context of arresting a recession we are constantly told is without precedent in the post-World War II era, and of the equally daunting project of getting the country's greenhouse gas emissions and "oil addiction" under control. After all, the current federal excise tax on gasoline is only 18.4 cents per gallon, and it wouldn't take a very large increase to offset the revenue lost from annual sales declines on the order of the 3% or so the US experienced last year, which equated to about a $1 B drop in tax receipts. The problem, however, is that the energy and environmental policies on which President Obama campaigned envisioned reducing oil consumption not by a few hundred thousand barrels per day, but by millions, with most of that coming out of gasoline demand.
I don't underestimate the difficulties involved in rethinking the present system. We can't tax fuel efficiency without making it less attractive than it already is, when gasoline sells for $2 per gallon. Nor do I think consumers would be as welcoming of new "smart" electricity meters, if they thought they were opening the door to paying a tax on the power used to recharge the plug-in hybrid or electric cars they might hope someday to own. I also got a small taste of the privacy concerns entailed in taxing actual miles driven by means of GPS-based technology, in the form of some very pointed comments when I wrote favorably concerning that option several years ago. But even a purely mileage-based system might not be sufficient to avert a decline in road tax revenues, if last year's reversal of the trend in Vehicle Miles Traveled turns out to have been a true inflection point in the long-term trend.
However difficult it might ultimately be to resolve this emerging challenge, dismissing it out of hand is a mistake. Such a response risks undermining the image of an administration meant to be filled will serious people who carefully think through all the consequences of their actions. Whatever the White House thought about Secretary LaHood's comments about the road tax, it would have been far better to have acknowledged that this is something that must eventually be approached with prudence and creativity. There is still time for that, even if this issue must wait on the back burner while the nation deals with bigger, more urgent problems. If the response to low gas prices that I highlighted in last Thursday's posting persists, federal highway tax receipts might actually rise this year, though I wouldn't bank on that trend lasting long enough to negate Mr. LaHood's worries.
Thursday, February 19, 2009
Demand Rebound
For a long time, it appeared as though US gasoline consumption was impervious to increasing prices. Last year we learned again that the price elasticity of gasoline demand, while low, is not zero, as the combination of $4 prices and a weakening economy triggered a change in America's driving habits, turning the vehicle miles traveled and fuel use trends negative for the first time in years. However, price elasticity works in both directions. Gas prices are now not only lower than their average for all of 2008; despite recent increases this week's average pump price of $1.96 per gallon remains cheaper than the same-month comparisons for 2006 and 2007, as well. This was bound to have an effect on demand, and the API statistics for January reflect the first year-on-year increase in monthly gasoline consumption since 2007. Even if this reversal is ultimately overwhelmed by the contraction of the economy, it provides one piece of evidence that structural demand might not have changed as much as some might like to believe. That has implications for future oil demand and prices, once the hoped-for economic recovery begins, and for what consumers should be factoring into their decisions.
Other than for gasoline, the API stats contained few surprises. Total petroleum product demand was down 3.1% from last January, on the back of big declines in diesel, heating oil, and jet fuel consumption--sure signs of the weakness of the economy. US oil production ticked up slightly, reflecting the lagged benefits of all the investment that has gone into the sector since prices started rising. Nor should the gasoline figures have startled anyone, since the Department of Energy's weekly estimates have been pointing in this direction for some time, as noted recently in the excellent R-Squared Energy Blog. Surprising or not, January's demand blip should put an end to wishful thinking about permanently altered lifestyles and consumption patterns.
What does this mean for government policy and for consumers? It points to a return to higher oil prices within a relatively short time after the economy resumes growing, and everything that goes with them, including high gas prices that will strain household budgets, just as they would be getting back into balance, and a bigger oil-import bill for the country, putting pressure on the trade deficit, the dollar, and our ability to finance the vast debt we are accumulating to combat the recession and financial crisis. Nor can we rely on big improvements in vehicle fuel economy to keep demand low. New cars built to meet higher corporate average fuel economy standards will feed into our fleet of 245 million cars and light trucks slowly, at best, particularly if Chrysler's pessimistic forecast of sales at the 10 million car/year level for the next four years proves correct.
That doesn't mean we should wait passively for the next oil price spike. If we want to keep oil imports as low as they are now, we'll need to produce more of it ourselves, because until there are millions of plug-in cars on the road, all those renewable energy projects that the stimulus bill should help advance will have no effect on our oil use. That means offshore drilling, like it or not. On a personal level, if you're buying a car, factor in the likelihood that gas won't remain at $2/gal. for more than a year or two. If you're taking advantage of the slump in housing prices to buy a home, minimize its distance from your workplace, rather than trading more miles for more square feet, as many Americans did for the last decade--and remember that every extra square foot will cost more to heat and cool in the future, too. In short, enjoy the near-term benefit of today's low prices, but act on the assumption they will go back up, again.
Other than for gasoline, the API stats contained few surprises. Total petroleum product demand was down 3.1% from last January, on the back of big declines in diesel, heating oil, and jet fuel consumption--sure signs of the weakness of the economy. US oil production ticked up slightly, reflecting the lagged benefits of all the investment that has gone into the sector since prices started rising. Nor should the gasoline figures have startled anyone, since the Department of Energy's weekly estimates have been pointing in this direction for some time, as noted recently in the excellent R-Squared Energy Blog. Surprising or not, January's demand blip should put an end to wishful thinking about permanently altered lifestyles and consumption patterns.
What does this mean for government policy and for consumers? It points to a return to higher oil prices within a relatively short time after the economy resumes growing, and everything that goes with them, including high gas prices that will strain household budgets, just as they would be getting back into balance, and a bigger oil-import bill for the country, putting pressure on the trade deficit, the dollar, and our ability to finance the vast debt we are accumulating to combat the recession and financial crisis. Nor can we rely on big improvements in vehicle fuel economy to keep demand low. New cars built to meet higher corporate average fuel economy standards will feed into our fleet of 245 million cars and light trucks slowly, at best, particularly if Chrysler's pessimistic forecast of sales at the 10 million car/year level for the next four years proves correct.
That doesn't mean we should wait passively for the next oil price spike. If we want to keep oil imports as low as they are now, we'll need to produce more of it ourselves, because until there are millions of plug-in cars on the road, all those renewable energy projects that the stimulus bill should help advance will have no effect on our oil use. That means offshore drilling, like it or not. On a personal level, if you're buying a car, factor in the likelihood that gas won't remain at $2/gal. for more than a year or two. If you're taking advantage of the slump in housing prices to buy a home, minimize its distance from your workplace, rather than trading more miles for more square feet, as many Americans did for the last decade--and remember that every extra square foot will cost more to heat and cool in the future, too. In short, enjoy the near-term benefit of today's low prices, but act on the assumption they will go back up, again.
Tuesday, February 17, 2009
Energy Cornucopia
I've just spent the last several hours scanning through the conference version of the American Recovery and Reinvestment Act of 2009, a.k.a. the "stimulus bill." This is the final version of the bill that President Obama will sign into law in Denver, Colorado, later today. Anyone who was fretting that the stimulus would not place sufficient emphasis on energy should be reassured--unless they include nuclear power within their definition of energy. Among its many other features, the bill provides a cornucopia for renewable energy and efficiency. Merely summarizing all of the energy provisions of the bill would take up a week's worth of my blogging. After skimming it, however--all that could be done in the time available--I can't help wondering how much of it can actually be spent rapidly enough to have a noticeable effect on the recession in which we find ourselves.
Perhaps as a result of the urgency surrounding its passage, the Congress's stimulus bill process was hardly a model of constituent transparency. As of this writing, neither of the sites upon which I usually rely for legislative text, http://www.govtrack.us/ and the Library of Congress's http://www.thomas.gov/ site, displays the final conference version of the stimulus bill. The White House website has links to the bill at the US Government Printing Office, split up into 5 separate downloadable files. It's not clear whether Members of Congress or their staffs had machine-readable versions of the final bill prior to the House vote on Friday. As it is, I was starting to worry about repetitive strain injury of my index finger, simply clicking through a document search on "energy" in these files.
The highlights include $16.8 billion under the heading of "Energy Efficiency and Renewable Energy", with $3.2 B for energy efficiency & conservation Block Grants, $5 B for the Weatherization Assistance Program, $3.1 B for state energy programs, $2 B for grants to advanced battery manufacturers in the US, $2.5 B for applied research, development and deployment, along with another billion split among alternative fuel vehicle pilot projects, transportation electrification, and energy efficient appliance rebates and Energy Star. And this is only a fraction of the money for energy. There's $4.5 B for Electricity Delivery and Energy Reliability, $3.4 B for Fossil Energy R&D (including clean coal and carbon capture and sequestration), $6 B for loan guarantees for renewable and transmission technologies, and another $1.6 B for energy-related "science"--not further described. I also saw money for the federal government to buy energy efficient motor vehicles, for energy efficiency and renewable energy career training, and more references to "energy and green retrofits" of buildings and facilities than I could count, with significant dollars attached.
As I noted in a recent posting on wind power, the Production Tax Credit (PTC) for wind and other renewable energy was extended by three years beyond its slated expiration at the end of 2009. By itself this provision guarantees that "stimulus" spending--or in this case revenue reduction--will continue through at least 2023. As expected, developers of projects eligible for the PTC were also given two other valuable options. They can either make a one-time election to receive a 30% energy investment tax credit (ITC) in lieu of the PTC, shifting the tax benefit from future actual generation once a project is up and running to the year of construction, or they can apply to the Treasury Department for a tax-free "Section 1603" grant equivalent to either the PTC or the ITC amounts, during 2009 or 2010. There's also a new 20% tax credit for energy research. The big loser here was nuclear power, with the Conference striking $50 B in loan guarantees for new plants.
You don't have to be a big believer in the merits of a fiscal stimulus to see that if all this money hit the ground this year and next, it would certainly have a big impact on the energy industry in general, and on renewable energy, in particular, including investors in the sector. But if the above sums conjure up images of new electric power transmission lines to carry all that new renewable power to where it's needed, an article in today's Washington Post ought to impart some caution. Among other projects, it looks at the Sunrise Powerlink of the San Diego Gas & Electric Co., which was proposed in 2005 and might be finished in 2012. And the Wall Street Journal recently examined the track record of the Department of Energy, which will have authority over large portions of these appropriations, in distributing loan guarantees under a 2007 program. Setting up the approval and accountability systems to manage and monitor additional billions of dollars will be a huge undertaking in its own right, entailing the twin risks of creating impassable bottlenecks or funding scams and scoundrels.
I encourage my readers to browse the bill, if you have the time. You'll find plenty of language in there about oversight and periodic reports to Congress, and I'm sure your Congressman and Senators would be delighted to receive an email from you, emphasizing the need for them to follow through on these requirements. They might also want to think about granting fast-track permitting authority and immunity from frivolous lawsuits for any projects funded under the stimulus, to prevent this from becoming the American Recovery and Reinvestment Act of 2016, instead of 2009.
Perhaps as a result of the urgency surrounding its passage, the Congress's stimulus bill process was hardly a model of constituent transparency. As of this writing, neither of the sites upon which I usually rely for legislative text, http://www.govtrack.us/ and the Library of Congress's http://www.thomas.gov/ site, displays the final conference version of the stimulus bill. The White House website has links to the bill at the US Government Printing Office, split up into 5 separate downloadable files. It's not clear whether Members of Congress or their staffs had machine-readable versions of the final bill prior to the House vote on Friday. As it is, I was starting to worry about repetitive strain injury of my index finger, simply clicking through a document search on "energy" in these files.
The highlights include $16.8 billion under the heading of "Energy Efficiency and Renewable Energy", with $3.2 B for energy efficiency & conservation Block Grants, $5 B for the Weatherization Assistance Program, $3.1 B for state energy programs, $2 B for grants to advanced battery manufacturers in the US, $2.5 B for applied research, development and deployment, along with another billion split among alternative fuel vehicle pilot projects, transportation electrification, and energy efficient appliance rebates and Energy Star. And this is only a fraction of the money for energy. There's $4.5 B for Electricity Delivery and Energy Reliability, $3.4 B for Fossil Energy R&D (including clean coal and carbon capture and sequestration), $6 B for loan guarantees for renewable and transmission technologies, and another $1.6 B for energy-related "science"--not further described. I also saw money for the federal government to buy energy efficient motor vehicles, for energy efficiency and renewable energy career training, and more references to "energy and green retrofits" of buildings and facilities than I could count, with significant dollars attached.
As I noted in a recent posting on wind power, the Production Tax Credit (PTC) for wind and other renewable energy was extended by three years beyond its slated expiration at the end of 2009. By itself this provision guarantees that "stimulus" spending--or in this case revenue reduction--will continue through at least 2023. As expected, developers of projects eligible for the PTC were also given two other valuable options. They can either make a one-time election to receive a 30% energy investment tax credit (ITC) in lieu of the PTC, shifting the tax benefit from future actual generation once a project is up and running to the year of construction, or they can apply to the Treasury Department for a tax-free "Section 1603" grant equivalent to either the PTC or the ITC amounts, during 2009 or 2010. There's also a new 20% tax credit for energy research. The big loser here was nuclear power, with the Conference striking $50 B in loan guarantees for new plants.
You don't have to be a big believer in the merits of a fiscal stimulus to see that if all this money hit the ground this year and next, it would certainly have a big impact on the energy industry in general, and on renewable energy, in particular, including investors in the sector. But if the above sums conjure up images of new electric power transmission lines to carry all that new renewable power to where it's needed, an article in today's Washington Post ought to impart some caution. Among other projects, it looks at the Sunrise Powerlink of the San Diego Gas & Electric Co., which was proposed in 2005 and might be finished in 2012. And the Wall Street Journal recently examined the track record of the Department of Energy, which will have authority over large portions of these appropriations, in distributing loan guarantees under a 2007 program. Setting up the approval and accountability systems to manage and monitor additional billions of dollars will be a huge undertaking in its own right, entailing the twin risks of creating impassable bottlenecks or funding scams and scoundrels.
I encourage my readers to browse the bill, if you have the time. You'll find plenty of language in there about oversight and periodic reports to Congress, and I'm sure your Congressman and Senators would be delighted to receive an email from you, emphasizing the need for them to follow through on these requirements. They might also want to think about granting fast-track permitting authority and immunity from frivolous lawsuits for any projects funded under the stimulus, to prevent this from becoming the American Recovery and Reinvestment Act of 2016, instead of 2009.
Thursday, February 12, 2009
The Other Stimulus
A short item on gasoline prices in today's Wall Street Journal had me scratching my head this morning. It suggested that the recent modest recovery of gasoline prices has essentially ended the economic stimulus that cheaper gas has provided to the economy. The article's author, Mark Gongloff, has covered energy for some time. He ran the Journal's "Energy Blog", before it morphed into the current "Environmental Capital" blog, and he did it well and with insight. However, in this case, he's off by a country mile, because the stimulative effect of gas prices doesn't depend on their continuing to drop, but rather on the comparison with prices last year. Moreover, when average pump prices bottomed out at $1.61 per gallon a few weeks ago, wholesale gasoline futures were cheaper than crude oil. That wasn't sustainable, and we're now seeing the correction. The real end of the cheap gas stimulus is probably at least a year or two off, when the resumption of economic growth sends demand higher, just as global oil supplies start shrinking due to the accumulation of unchecked decline rates.
Although at this week's national average for unleaded regular of $1.93 per gallon, gasoline is up by a quarter a gallon since the first week of January, it is still a buck cheaper than this time last year--when it was just beginning a run-up that peaked at $4.11 after the Fourth of July. That translates to a current year-on-year savings of $40 per month for the average motorist--about equal to the "Making Work Pay" tax credit that most Americans will receive as part of the stimulus package. And unless gas prices spike much higher in the weeks ahead, the scale of the savings vs. the prior year should keep growing throughout the first half of 2009. We all know this can't last, but it's been a nice bridge, while we waited for Congress and the new administration to decide how to take on the recession.
The reasons why the stimulus from cheap gas won't endure are starting to pile up. Although demand has fallen faster than OPEC can cut current output, resulting in a big accumulation of oil in storage tanks and oil tankers, OPEC has announced that it would delay 35 new oil projects. We've also seen a few major oil companies and many large independents cut their capital programs--some because the projects don't make economic sense at $40 per barrel, and others simply because their cash flow is down and they can't borrow easily in today's market. At the same time, the new US Secretary of the Interior has announced a six-month delay in plans to allow drilling in previously-banned areas of the Outer Continental Shelf. All of this will have a delayed effect on production, because of the time involved in planning and executing big oil projects. We might even see output grow for another year or two, thanks to the lagged effect of projects that were initiated when oil prices were on the way up. But fairly soon reduced drilling will be unable to hold back the steady depletion of existing reservoirs, and an underlying decline rate estimated at least 4.5% per year will assert control. At a current global production rate of 85 million barrels per day (MBD), that's nearly 4 MBD per year of new oil production that must come on every year, just to maintain present capacity, and it won't happen if drilling falls off a cliff.
Meanwhile, the benefits of cheap gas should last at least long enough for the economic effects of the stimulus bill to kick in. I'll take a closer look at those, once I get the text of the version that came out of the House/Senate conference committee and should be voted on in the next few days.
Although at this week's national average for unleaded regular of $1.93 per gallon, gasoline is up by a quarter a gallon since the first week of January, it is still a buck cheaper than this time last year--when it was just beginning a run-up that peaked at $4.11 after the Fourth of July. That translates to a current year-on-year savings of $40 per month for the average motorist--about equal to the "Making Work Pay" tax credit that most Americans will receive as part of the stimulus package. And unless gas prices spike much higher in the weeks ahead, the scale of the savings vs. the prior year should keep growing throughout the first half of 2009. We all know this can't last, but it's been a nice bridge, while we waited for Congress and the new administration to decide how to take on the recession.
The reasons why the stimulus from cheap gas won't endure are starting to pile up. Although demand has fallen faster than OPEC can cut current output, resulting in a big accumulation of oil in storage tanks and oil tankers, OPEC has announced that it would delay 35 new oil projects. We've also seen a few major oil companies and many large independents cut their capital programs--some because the projects don't make economic sense at $40 per barrel, and others simply because their cash flow is down and they can't borrow easily in today's market. At the same time, the new US Secretary of the Interior has announced a six-month delay in plans to allow drilling in previously-banned areas of the Outer Continental Shelf. All of this will have a delayed effect on production, because of the time involved in planning and executing big oil projects. We might even see output grow for another year or two, thanks to the lagged effect of projects that were initiated when oil prices were on the way up. But fairly soon reduced drilling will be unable to hold back the steady depletion of existing reservoirs, and an underlying decline rate estimated at least 4.5% per year will assert control. At a current global production rate of 85 million barrels per day (MBD), that's nearly 4 MBD per year of new oil production that must come on every year, just to maintain present capacity, and it won't happen if drilling falls off a cliff.
Meanwhile, the benefits of cheap gas should last at least long enough for the economic effects of the stimulus bill to kick in. I'll take a closer look at those, once I get the text of the version that came out of the House/Senate conference committee and should be voted on in the next few days.
Tuesday, February 10, 2009
Tell California No
One of the most eagerly-awaited environmental decisions of the year is currently in the hands of the new Administrator of the Environmental Protection Agency. California has requested a waiver under the Clean Air Act to regulate CO2 as a pollutant from cars, based on the Supreme Court decision in Massachusetts v. EPA that confirmed that the EPA had the authority to regulate greenhouse gases. When I examined this issue in late 2007, I expected California to prevail in its request, and I still do. That doesn't mean, however, that there are not compelling reasons why it shouldn't. I can't think of a better signal the Obama Administration could send concerning the new federal direction on climate change than telling California, "Thanks for keeping the torch burning, but we'll take it from here."
There are two good reasons to turn down California's request to regulate tailpipe emissions, which would result in a de facto standard for Corporate Average Fuel Economy (CAFE) much more aggressive than the federal standard enacted by the Energy Independence and Security Act of 2007. The first reason is unlikely to gain traction, because frankly this boat has already sailed. I mention it only because I still believe it has merit. Simply put, based on engineering principles, the Supreme Court was wrong to designate CO2 as a pollutant, and any extension of the Clean Air Act (CAA) to cover it is based on a misunderstanding of the origins of this greenhouse gas.
Although it's widely accepted that CO2 emissions are a primary cause of climate change, that doesn't make CO2 a pollutant. Too much CO2 is bad, but then so is too much water, if you are drowning or standing downstream of an approaching flood. That doesn't make water a pollutant. CO2 emissions are not the result of a fuel impurity or a byproduct of combustion in engines and boilers, like the smog-forming pollutants the CAA was designed to regulate. It is a fundamental, inescapable consequence of all combustion and many natural processes, and the vast majority of it is recycled into plants and rocks, or dissolved in the oceans. The steady accumulation of the small remaining excess in the atmosphere creates the central problem in global warming. Unfortunately, we can't eliminate CO2 from car exhaust with filters, catalytic converters, additives, or more intensive fuel refining, but only by changing the way cars use energy, and by changing the way we use cars. That goes well beyond any reasonable interpretation of the intent of the CAA, though I suspect this point is no longer of any concern to policy makers.
What ought to be of great concern to policy makers is another, more pragmatic reason to turn down California's request, and by extension that of the thirteen states that wish to opt in to the California standard. Climate change is a global problem, and the science of predicting its local consequences is still in its infancy. Managing our greenhouse gas emissions must ultimately be addressed globally. Until that happens, they need to be tackled at the largest level of aggregation available, because the consequences of climate change will affect us all, directly or indirectly, and because the industries and consumption patterns involved in reducing emissions are so fundamental to the economy. Changing them will require resources and innovation on a national scale. I know that California is larger than many countries--I used to trot this point out regularly when I lived there--but that does not alter the nature of its connection to and interdependence with the rest of the country. In particular, while California has a few bits and pieces of the US car industry, in the form of an assembly plant or two, some parts suppliers, and design centers, the primary impact of its regulation of CO2 would be felt not in the Golden State, but in states such as Michigan, Ohio, Kentucky, Alabama and North Carolina. The effect on interstate commerce and the absence of overridingly unique local impacts should put regulation of CO2 explicitly within the purview of the federal government, not the various states.
A little more than a year ago I reluctantly conceded that California's desire to regulate CO2 from cars was justified by application of the notion of "lead, follow, or get out of the way," in the absence of any immediate prospect of the federal government's taking that lead with respect to climate change. The election has drastically altered those circumstances. It is inconceivable that the Obama Administration, with strong majorities in the Congress, will fail to enact sweeping federal measures to address climate change urgently and aggressively. It looks very likely that we'll have cap & trade within the next year or two, and if tighter CAFE standards are part of the solution--though I remain skeptical of their efficacy without a strong price signal to drive consumer behavior--they should cover the whole country, not just a few states. If we want Detroit to invest in emissions-reducing technologies, then it must have a national market for them. It ought to be instructive that Europe has done precisely that with a tailpipe emissions standard for the whole EU, not member by member.
Administrator Jackson has promised an "impartial review" of California's request, complete with public hearings. Her decision should follow the public comment period that will apparently end April 6. I hope that her finding will signal the end of a long period in which states were forced to blaze the trail on climate change, but can now yield leadership back to the federal government that must speak with one voice in the negotiations toward a global climate agreement in Copenhagen, this December.
There are two good reasons to turn down California's request to regulate tailpipe emissions, which would result in a de facto standard for Corporate Average Fuel Economy (CAFE) much more aggressive than the federal standard enacted by the Energy Independence and Security Act of 2007. The first reason is unlikely to gain traction, because frankly this boat has already sailed. I mention it only because I still believe it has merit. Simply put, based on engineering principles, the Supreme Court was wrong to designate CO2 as a pollutant, and any extension of the Clean Air Act (CAA) to cover it is based on a misunderstanding of the origins of this greenhouse gas.
Although it's widely accepted that CO2 emissions are a primary cause of climate change, that doesn't make CO2 a pollutant. Too much CO2 is bad, but then so is too much water, if you are drowning or standing downstream of an approaching flood. That doesn't make water a pollutant. CO2 emissions are not the result of a fuel impurity or a byproduct of combustion in engines and boilers, like the smog-forming pollutants the CAA was designed to regulate. It is a fundamental, inescapable consequence of all combustion and many natural processes, and the vast majority of it is recycled into plants and rocks, or dissolved in the oceans. The steady accumulation of the small remaining excess in the atmosphere creates the central problem in global warming. Unfortunately, we can't eliminate CO2 from car exhaust with filters, catalytic converters, additives, or more intensive fuel refining, but only by changing the way cars use energy, and by changing the way we use cars. That goes well beyond any reasonable interpretation of the intent of the CAA, though I suspect this point is no longer of any concern to policy makers.
What ought to be of great concern to policy makers is another, more pragmatic reason to turn down California's request, and by extension that of the thirteen states that wish to opt in to the California standard. Climate change is a global problem, and the science of predicting its local consequences is still in its infancy. Managing our greenhouse gas emissions must ultimately be addressed globally. Until that happens, they need to be tackled at the largest level of aggregation available, because the consequences of climate change will affect us all, directly or indirectly, and because the industries and consumption patterns involved in reducing emissions are so fundamental to the economy. Changing them will require resources and innovation on a national scale. I know that California is larger than many countries--I used to trot this point out regularly when I lived there--but that does not alter the nature of its connection to and interdependence with the rest of the country. In particular, while California has a few bits and pieces of the US car industry, in the form of an assembly plant or two, some parts suppliers, and design centers, the primary impact of its regulation of CO2 would be felt not in the Golden State, but in states such as Michigan, Ohio, Kentucky, Alabama and North Carolina. The effect on interstate commerce and the absence of overridingly unique local impacts should put regulation of CO2 explicitly within the purview of the federal government, not the various states.
A little more than a year ago I reluctantly conceded that California's desire to regulate CO2 from cars was justified by application of the notion of "lead, follow, or get out of the way," in the absence of any immediate prospect of the federal government's taking that lead with respect to climate change. The election has drastically altered those circumstances. It is inconceivable that the Obama Administration, with strong majorities in the Congress, will fail to enact sweeping federal measures to address climate change urgently and aggressively. It looks very likely that we'll have cap & trade within the next year or two, and if tighter CAFE standards are part of the solution--though I remain skeptical of their efficacy without a strong price signal to drive consumer behavior--they should cover the whole country, not just a few states. If we want Detroit to invest in emissions-reducing technologies, then it must have a national market for them. It ought to be instructive that Europe has done precisely that with a tailpipe emissions standard for the whole EU, not member by member.
Administrator Jackson has promised an "impartial review" of California's request, complete with public hearings. Her decision should follow the public comment period that will apparently end April 6. I hope that her finding will signal the end of a long period in which states were forced to blaze the trail on climate change, but can now yield leadership back to the federal government that must speak with one voice in the negotiations toward a global climate agreement in Copenhagen, this December.
Monday, February 09, 2009
Diesel Economics
Over the weekend I was thinking more about the diesel cars I test drove at the Washington, DC Auto Show last week. They certainly performed at least as well as their non-diesel counterparts--better if you count the big boost in torque from a diesel, compared to a gasoline engine of comparable size. The economic advantages of owning one weren't quite so obvious, particularly in light of the persistent price premium for diesel fuel over gasoline. While many see diesels as a less-expensive alternative to hybrid cars, I think it's more accurate to view them as offering an entirely different value proposition that must be evaluated on its own merits.
Diesel cars provide significantly better fuel economy than their gasoline-powered peers, but as with a hybrid, this comes along with a somewhat higher purchase price. Anyone contemplating buying one must go through a similar assessment of likely economic return, including the complicating factor of tax credits. I chose to make this comparison for the VW Jetta TDI diesel that I drove, which is conveniently available in a similar non-diesel version. According to the EPA's fuel economy website, and using a standard 55% highway, 45% city driving mix, the Jetta TDI averages 35 mpg, compared to 25 mpg for the standard 2.5 liter gasoline engine version, when both are equipped with automatic transmissions. Based on these figures, and despite diesel fuel currently costing nearly 20% more than gasoline, on average, this translates to 15.6 miles per dollar for the diesel model, compared to 13.2 mp$ on gasoline. At 12,000 miles per year of driving, the TDI would save around $140/year. VW's website indicates a base price for the TDI of $22,270, or $2,175 more than the most comparable non-diesel model, the Jetta SE. While that premium is about half as big as the typical hybrid/non-hybrid premium, the simple payout is a disappointing 15 years. Factor in the $1,300 tax credit for clean diesels, and it shrinks to about six years.
So much for the basic economics. Where the discussion gets more interesting is in the uncertainties involved. Someone buying a hybrid car today would be unlikely to cite current gasoline prices as a key influence. Hybrid sales fell dramatically at the end of last year, as gas prices plummeted. However, few people expect gas prices to remain this low indefinitely. Either they will rise in tandem with a recovering economy, or they will increasingly reflect the environmental and energy security externalities of oil, in the form of a higher gas tax, a carbon tax, or the pass-through of emissions costs under cap & trade. In effect, a hybrid car is a bet on future gas prices, combined with an assessment of the value of its reduced CO2 emissions. Diesels offer a similar bet on CO2; dieselization has been the EU's main CO2 reduction strategy for transportation for the last decade, facilitated by tax incentives at the pump in many countries. They represent a somewhat different bet on fuel prices, however.
As with gasoline, the price of diesel fuel varies with the price of crude oil. Since the phase-in to Ultra-Low Sulfur Diesel (15 ppm S, max) in mid-2006, the wholesale price of diesel fuel in the US has averaged about 120% of the price of light, sweet crude oil, based on futures prices on the New York Mercantile Exchange. Pump prices for diesel over the last two years have averaged around 170% of crude oil, but with a wider variation than for wholesale prices, ranging from a low of 150% at last summer's peak of oil prices to around 220% today. As oil prices go up, diesel prices go up, too, though not quite as fast. When oil prices fall, diesel prices fall, but not as fast or as far. Buying a diesel car thus provides a partial hedge against oil prices through improved fuel economy, though the diesel buyer is making another bet that the hybrid buyer isn't: that the gap between diesel fuel and gasoline won't expand and erode the cost benefit of diesel's fuel economy edge. On average, diesel sold for 17% more than gasoline last year, on par with the current premium. It's hard to gauge the prospects for that relationship in the current economy, when demand for everything looks weak. But with Europe still shifting its passenger car fleet toward diesel, and diesel becoming the fuel of choice globally--if not yet in the US--I certainly wouldn't bet on that differential narrowing appreciably any time soon, even if some big refinery expansions on the Gulf Coast are focused on improving diesel yields.
I continue to regard clean diesels as an attractive alternative, and I wish more of them were available in the US, including from GM and Ford, which offer some very nice diesel models in Europe. If I were considering buying one, I would make sure to look beyond its fuel economy benefits, which might end up little better than a wash, to consider its other pros and cons. That includes well-to-wheels CO2 emissions that are roughly 20% lower than from a comparable gasoline-based vehicle, improved range, which translates into fewer trips to the gas station, and demonstrated durability and resale value. Depending on where you live, diesel might be a bit harder to find than gasoline, though not nearly as hard as finding E-85. Rather than seeing diesels as a direct competitor to hybrids, I think they broaden the market for highly fuel-efficient cars, by appealing to a different segment that is more focused on value and perhaps less worried about a return to $140 oil.
Diesel cars provide significantly better fuel economy than their gasoline-powered peers, but as with a hybrid, this comes along with a somewhat higher purchase price. Anyone contemplating buying one must go through a similar assessment of likely economic return, including the complicating factor of tax credits. I chose to make this comparison for the VW Jetta TDI diesel that I drove, which is conveniently available in a similar non-diesel version. According to the EPA's fuel economy website, and using a standard 55% highway, 45% city driving mix, the Jetta TDI averages 35 mpg, compared to 25 mpg for the standard 2.5 liter gasoline engine version, when both are equipped with automatic transmissions. Based on these figures, and despite diesel fuel currently costing nearly 20% more than gasoline, on average, this translates to 15.6 miles per dollar for the diesel model, compared to 13.2 mp$ on gasoline. At 12,000 miles per year of driving, the TDI would save around $140/year. VW's website indicates a base price for the TDI of $22,270, or $2,175 more than the most comparable non-diesel model, the Jetta SE. While that premium is about half as big as the typical hybrid/non-hybrid premium, the simple payout is a disappointing 15 years. Factor in the $1,300 tax credit for clean diesels, and it shrinks to about six years.
So much for the basic economics. Where the discussion gets more interesting is in the uncertainties involved. Someone buying a hybrid car today would be unlikely to cite current gasoline prices as a key influence. Hybrid sales fell dramatically at the end of last year, as gas prices plummeted. However, few people expect gas prices to remain this low indefinitely. Either they will rise in tandem with a recovering economy, or they will increasingly reflect the environmental and energy security externalities of oil, in the form of a higher gas tax, a carbon tax, or the pass-through of emissions costs under cap & trade. In effect, a hybrid car is a bet on future gas prices, combined with an assessment of the value of its reduced CO2 emissions. Diesels offer a similar bet on CO2; dieselization has been the EU's main CO2 reduction strategy for transportation for the last decade, facilitated by tax incentives at the pump in many countries. They represent a somewhat different bet on fuel prices, however.
As with gasoline, the price of diesel fuel varies with the price of crude oil. Since the phase-in to Ultra-Low Sulfur Diesel (15 ppm S, max) in mid-2006, the wholesale price of diesel fuel in the US has averaged about 120% of the price of light, sweet crude oil, based on futures prices on the New York Mercantile Exchange. Pump prices for diesel over the last two years have averaged around 170% of crude oil, but with a wider variation than for wholesale prices, ranging from a low of 150% at last summer's peak of oil prices to around 220% today. As oil prices go up, diesel prices go up, too, though not quite as fast. When oil prices fall, diesel prices fall, but not as fast or as far. Buying a diesel car thus provides a partial hedge against oil prices through improved fuel economy, though the diesel buyer is making another bet that the hybrid buyer isn't: that the gap between diesel fuel and gasoline won't expand and erode the cost benefit of diesel's fuel economy edge. On average, diesel sold for 17% more than gasoline last year, on par with the current premium. It's hard to gauge the prospects for that relationship in the current economy, when demand for everything looks weak. But with Europe still shifting its passenger car fleet toward diesel, and diesel becoming the fuel of choice globally--if not yet in the US--I certainly wouldn't bet on that differential narrowing appreciably any time soon, even if some big refinery expansions on the Gulf Coast are focused on improving diesel yields.
I continue to regard clean diesels as an attractive alternative, and I wish more of them were available in the US, including from GM and Ford, which offer some very nice diesel models in Europe. If I were considering buying one, I would make sure to look beyond its fuel economy benefits, which might end up little better than a wash, to consider its other pros and cons. That includes well-to-wheels CO2 emissions that are roughly 20% lower than from a comparable gasoline-based vehicle, improved range, which translates into fewer trips to the gas station, and demonstrated durability and resale value. Depending on where you live, diesel might be a bit harder to find than gasoline, though not nearly as hard as finding E-85. Rather than seeing diesels as a direct competitor to hybrids, I think they broaden the market for highly fuel-efficient cars, by appealing to a different segment that is more focused on value and perhaps less worried about a return to $140 oil.
Friday, February 06, 2009
Wind Power Stimulus
As reported by the American Wind Energy Association, the US added 8,358 MW of new wind power capacity last year, beating the previous year's record additions by 60%. Some of that surge in capacity likely resulted from developers racing to get their projects on-line before December 31, 2008, when the Production Tax Credit (PTC) for wind was due to expire, before it was extended in October for another year. Either way, it's a remarkable effort, and it would be tough to beat, even if the problems in the financial markets weren't undermining the ability of developers to obtain loans and attract investors looking for a stake in the tax credits that wind and other renewable energy projects generate. AWEA and the industry it represents are looking to the pending federal stimulus bill for help. However, because of the way the tax credits for renewable energy are structured, assistance for the wind industry is a microcosm of the issues surrounding the entire stimulus and its speed of delivery.
The US wind power sector faces two key challenges during this recession. First, the PTC for wind power, which after adjustment for inflation is worth 2.1 cents for each kilowatt-hour of electricity generated, is again due to expire at year end. And if that weren't bad enough, it has become much harder to capture the full value of that 2.1 cents, because it is not a cash payment, but rather a non-refundable tax credit against income taxes. If a wind generation company isn't making a big enough profit, some or all of the tax credit could be left on the table. Wind developers have historically gotten around this limitation by transferring their future tax credits to investment banks and other profitable companies with big tax liabilities, in exchange for cash or a stake in the project known as "tax equity." Lehman was a big player in this market, prior to its demise, and the financial crisis and recession have dried up many other sources. That's why the industry has been asking for Congress to make the PTC "refundable"--payable even to firms without any tax liability.
The problem with this is that the PTC lasts for 10 years, once a project that qualifies for it starts up. The current stimulus package, both the House bill that passed last week and the Senate's version, as best I can tell, would confer the PTC on wind projects put into service through the end of 2012--and even longer in the case of other renewable power technologies, such as geothermal, biomass power, and tidal and incremental hydropower. While extending the PTC would certainly increase the amount of new wind capacity added in the next several years, only a small fraction of the federal funds involved would be parceled out this year and next. However, it will reduce federal tax revenue each year until 2022. Even if wind capacity only increased at its 2007 rate of 5,000 MW per year for the next four years, and the PTC was allowed to expire in 2013, this would add around $1 billion to the annual federal budget deficit for up to a decade after the recession ends. As numbing as the long strings of zeroes in the current stimulus figures might be, we will eventually be back in a world in which every billion counts. The justification for taking on such a lasting burden for wind power looks especially shaky, in light of a recent study indicating that up to two-thirds of the "green jobs" associated with new US wind projects would be created offshore.
Instead of making the PTC refundable, the current version of the stimulus bill would allow developers to make an "irrevocable election" to receive a 30% "Section 48" energy investment tax credit (ITC) in lieu of the "Section 45" PTC, for the life of the project. Although the Section 48 credits aren't refundable, either, allowing wind and other technologies to opt for the ITC front loads their tax benefits, compensating for the shrinkage of the tax equity market. They also appear to qualify for the bill's generous "carry-back" provisions. In the process, this front loads the crucial stimulus spending without affecting future federal budgets, other than by the interest payments on the larger debt. I would be even more comfortable with this solution, if the only extension offered for wind power were for projects electing the ITC conversion, with no hangover of lost tax revenue beyond the recession. After all, the purpose of assisting wind power within the stimulus is to create "green jobs" now, and to keep the industry going through a rough patch, not to contribute to the enormous post-recovery budget deficits we must expect. If the Congress wishes to extend the regular PTC, it should do so outside the stimulus and under the "pay-go" rules that would require the cost to be offset elsewhere.
The US wind power sector faces two key challenges during this recession. First, the PTC for wind power, which after adjustment for inflation is worth 2.1 cents for each kilowatt-hour of electricity generated, is again due to expire at year end. And if that weren't bad enough, it has become much harder to capture the full value of that 2.1 cents, because it is not a cash payment, but rather a non-refundable tax credit against income taxes. If a wind generation company isn't making a big enough profit, some or all of the tax credit could be left on the table. Wind developers have historically gotten around this limitation by transferring their future tax credits to investment banks and other profitable companies with big tax liabilities, in exchange for cash or a stake in the project known as "tax equity." Lehman was a big player in this market, prior to its demise, and the financial crisis and recession have dried up many other sources. That's why the industry has been asking for Congress to make the PTC "refundable"--payable even to firms without any tax liability.
The problem with this is that the PTC lasts for 10 years, once a project that qualifies for it starts up. The current stimulus package, both the House bill that passed last week and the Senate's version, as best I can tell, would confer the PTC on wind projects put into service through the end of 2012--and even longer in the case of other renewable power technologies, such as geothermal, biomass power, and tidal and incremental hydropower. While extending the PTC would certainly increase the amount of new wind capacity added in the next several years, only a small fraction of the federal funds involved would be parceled out this year and next. However, it will reduce federal tax revenue each year until 2022. Even if wind capacity only increased at its 2007 rate of 5,000 MW per year for the next four years, and the PTC was allowed to expire in 2013, this would add around $1 billion to the annual federal budget deficit for up to a decade after the recession ends. As numbing as the long strings of zeroes in the current stimulus figures might be, we will eventually be back in a world in which every billion counts. The justification for taking on such a lasting burden for wind power looks especially shaky, in light of a recent study indicating that up to two-thirds of the "green jobs" associated with new US wind projects would be created offshore.
Instead of making the PTC refundable, the current version of the stimulus bill would allow developers to make an "irrevocable election" to receive a 30% "Section 48" energy investment tax credit (ITC) in lieu of the "Section 45" PTC, for the life of the project. Although the Section 48 credits aren't refundable, either, allowing wind and other technologies to opt for the ITC front loads their tax benefits, compensating for the shrinkage of the tax equity market. They also appear to qualify for the bill's generous "carry-back" provisions. In the process, this front loads the crucial stimulus spending without affecting future federal budgets, other than by the interest payments on the larger debt. I would be even more comfortable with this solution, if the only extension offered for wind power were for projects electing the ITC conversion, with no hangover of lost tax revenue beyond the recession. After all, the purpose of assisting wind power within the stimulus is to create "green jobs" now, and to keep the industry going through a rough patch, not to contribute to the enormous post-recovery budget deficits we must expect. If the Congress wishes to extend the regular PTC, it should do so outside the stimulus and under the "pay-go" rules that would require the cost to be offset elsewhere.
Wednesday, February 04, 2009
Building Bridges to Greener Wheels
It's a heck of a time to hold a car show, when new figures indicate car sales last month were off 37% compared to the prior January, and with a brand new administration for which cars must surely seem to be a much bigger problem than opportunity. But then the 2009 Washington Auto Show, with its theme of "The Automotive Seat of Power", had a very different feel from most of the car shows I've attended in the past. While there was no shortage of glitzy new models and concept cars, the emphasis was squarely on making cars much more efficient and environmentally-friendly. Visiting dignitaries included the new Administrator of the Environmental Protection Agency. In remarks at a presentation on the new EcoCar competition--the follow-on from the Challenge X competition I described last year--one of her deputies emphasized three overarching imperatives for the industry: economic stability, energy security, and emissions reduction. The auto company officials I spoke with were already on board with that message.
I can't fit all my experiences and a proper assessment of the issues involved into a single posting, so instead I'll just recount the highlights of attending the media-only preview of the show, and a dinner for a small group of bloggers organized by General Motors the previous evening. I hope to expand on much of this in subsequent postings.
The GM dinner was certainly a highlight. I met the head of the Chevrolet division and had a lengthy conversation with Tony Posawatz, who leads the design team for the Chevrolet Volt plug-in hybrid, the latest prototype of which was on display at the show. I had a chance to ask all of my questions about the Volt's configuration and how it will perform once its approximately 40 mile electric-only range is exhausted. I was particularly impressed with the Chevy team's underlying philosophy on the eventual electrification of most vehicles, which would greatly diversify the sources of transportation energy, and by their understanding of the complexity of the larger energy and environmental challenges involved. Cost remains a crucial hurdle for EVs and plug-ins, with battery packs still tremendously expensive and fuel so cheap, just now. I was assured that the Volt is on-track for its launch in the latter part of 2010.
A brief conversation at the Honda display underlined that cost concern, in the context of Honda's redesigned Insight hybrid, which is aimed at reducing the price premium of hybrids over non-hybrids and making them more affordable for a mass market. The new Insight has more than a few styling similarities to the Prius--"The same equations have the same solutions", as the great physicist Richard Feynman once said--and has no non-hybrid version to compare with. Both are probably smart moves on Honda's part. I also saw the new, third-generation Prius, which will apparently get even better fuel economy than the current model. If you liked the look of the old one, you will probably find this version sleeker and more graceful. Otherwise, it's yet another jellybean.
The other big highlight for me was the opportunity to drive three different European-style diesel cars, courtesy of the folks at Bosch, which makes the components that transform today's diesel engine from the smoky, noisy, balky device that Americans normally associate with this fuel into a smooth, clean and relatively quiet powerplant. The Mercedes ML320 and VW Tuareg and the 41 mpg (highway) Jetta TDI were all fun to drive, and their advanced particulate control systems meet the air-pollution requirements of all 50 states. I was also impressed with the Jetta's "double clutch" electronic transmission, which shifts almost imperceptibly. This model, which qualifies for a $1,300 fuel economy tax credit, will certainly be on my short list when I next go car-shopping. The other treat provided by Bosch was a ride in a test car that integrates advanced safety features with radar-based adaptive cruise control. If you haven't experienced it before, it's a bit eerie watching the cruise control handle city traffic, coming to a full stop without driver intervention. We are rapidly approaching the point at which computers can drive our cars better than we can, or at least make better use of their capabilities, including achieving the car's maximum fuel economy potential.
The emphasis on fuel economy and green credentials yesterday was pervasive, if not necessarily in all the models filling the DC Convention Center's halls, then at least in the ones that the companies emphasized. I found it remarkable that Chevrolet's new Camaro was touted for the 27 mpg (highway) fuel economy of its standard V-6--an engine unlikely to have been of much interest to the car's target demographic prior to last year's fuel price roller coaster--rather than its acceleration. And the new 40 mpg Cruze non-hybrid compact, already on sale in Europe, garnered as much attention. The proximity of so many cars delivering appreciably better mileage than most of those on the road in the US today to the really high-tech cars such as the Volt, Fisker Karma, Tesla Roadster, and Mini-E kept reminding me of a phrase I heard several times from the engineers from Bosch, in the context of their diesel technology: a bridge to the future, in the form of cars built with the best of today's technology, at an affordable cost, while the engineers and early adopters drive down the cost of the next generation everyone wishes we could all have now, but can't.
I can't fit all my experiences and a proper assessment of the issues involved into a single posting, so instead I'll just recount the highlights of attending the media-only preview of the show, and a dinner for a small group of bloggers organized by General Motors the previous evening. I hope to expand on much of this in subsequent postings.
The GM dinner was certainly a highlight. I met the head of the Chevrolet division and had a lengthy conversation with Tony Posawatz, who leads the design team for the Chevrolet Volt plug-in hybrid, the latest prototype of which was on display at the show. I had a chance to ask all of my questions about the Volt's configuration and how it will perform once its approximately 40 mile electric-only range is exhausted. I was particularly impressed with the Chevy team's underlying philosophy on the eventual electrification of most vehicles, which would greatly diversify the sources of transportation energy, and by their understanding of the complexity of the larger energy and environmental challenges involved. Cost remains a crucial hurdle for EVs and plug-ins, with battery packs still tremendously expensive and fuel so cheap, just now. I was assured that the Volt is on-track for its launch in the latter part of 2010.
A brief conversation at the Honda display underlined that cost concern, in the context of Honda's redesigned Insight hybrid, which is aimed at reducing the price premium of hybrids over non-hybrids and making them more affordable for a mass market. The new Insight has more than a few styling similarities to the Prius--"The same equations have the same solutions", as the great physicist Richard Feynman once said--and has no non-hybrid version to compare with. Both are probably smart moves on Honda's part. I also saw the new, third-generation Prius, which will apparently get even better fuel economy than the current model. If you liked the look of the old one, you will probably find this version sleeker and more graceful. Otherwise, it's yet another jellybean.
The other big highlight for me was the opportunity to drive three different European-style diesel cars, courtesy of the folks at Bosch, which makes the components that transform today's diesel engine from the smoky, noisy, balky device that Americans normally associate with this fuel into a smooth, clean and relatively quiet powerplant. The Mercedes ML320 and VW Tuareg and the 41 mpg (highway) Jetta TDI were all fun to drive, and their advanced particulate control systems meet the air-pollution requirements of all 50 states. I was also impressed with the Jetta's "double clutch" electronic transmission, which shifts almost imperceptibly. This model, which qualifies for a $1,300 fuel economy tax credit, will certainly be on my short list when I next go car-shopping. The other treat provided by Bosch was a ride in a test car that integrates advanced safety features with radar-based adaptive cruise control. If you haven't experienced it before, it's a bit eerie watching the cruise control handle city traffic, coming to a full stop without driver intervention. We are rapidly approaching the point at which computers can drive our cars better than we can, or at least make better use of their capabilities, including achieving the car's maximum fuel economy potential.
The emphasis on fuel economy and green credentials yesterday was pervasive, if not necessarily in all the models filling the DC Convention Center's halls, then at least in the ones that the companies emphasized. I found it remarkable that Chevrolet's new Camaro was touted for the 27 mpg (highway) fuel economy of its standard V-6--an engine unlikely to have been of much interest to the car's target demographic prior to last year's fuel price roller coaster--rather than its acceleration. And the new 40 mpg Cruze non-hybrid compact, already on sale in Europe, garnered as much attention. The proximity of so many cars delivering appreciably better mileage than most of those on the road in the US today to the really high-tech cars such as the Volt, Fisker Karma, Tesla Roadster, and Mini-E kept reminding me of a phrase I heard several times from the engineers from Bosch, in the context of their diesel technology: a bridge to the future, in the form of cars built with the best of today's technology, at an affordable cost, while the engineers and early adopters drive down the cost of the next generation everyone wishes we could all have now, but can't.
Monday, February 02, 2009
Cooler Is Relative
Well, it's official; the average global temperature for 2008 was 14.44° C (57.99° F.) That's 0.13° C (0.23° F) cooler than 2007's 14.57° (58.23° F.) In fact, according to NASA's Goddard Institute for Space Studies (GISS), 2008 was the coolest year since 2000. However, it was also the 9th warmest year since at least 1880, and warmer than any year on record prior to the mid-1990s. The average temperature for the current decade is running 0.2° C warmer than the decade of the 1990s, and 0.3° C warmer than the 1980s. Being as objective as possible, I have a hard time interpreting last year's slight dip as providing much support for the notions of "global cooling" that I began noticing on the Internet a year ago. That's a pity, considering last week's sobering report from the National Oceanic and Atmospheric Administration (NOAA) on the likely duration of the effects of global warming on the climate, even after we eventually get greenhouse gas emissions under control.
As I noted in my posting on the subject last February, the global cooling hypothesis rests not just on the observed slight decline of average temperatures since the peak year of 2005--including a sharp monthly drop last January, compared to January 2007--but also on concerns about tardy sunspots and the recent decline in solar output. NASA's graph of "solar irradiance", the energy in sunlight reaching the earth's orbit, confirms that the sun's activity is at a periodic low point within the approximately 11-year sunspot cycle. It also indicates that this cyclical low is somewhat lower than recent lows, and that it seems a bit overdue for a cyclical uptick. (To put this in perspective, we are currently receiving about 0.02% less solar energy than average.) However, unless the scientists at a recent conference on solar activity were wrong in concluding that were are not headed into a sustained solar minimum of the kind associated with the Little Ice Age, then the implications of this graph and of GISS's commentary on solar irradiance look ominous in the other direction: We could be in for some sharply warmer temperatures in the next decade, a few years after sunspot cycle #24 reaches its peak, when the "non-negligible effect on global temperature" of variability in solar irradiance would reinforce, rather than partially canceling out the effects of greenhouse warming and the Southern Oscillation (El Nino/La Nina.) As a result, my money is still on warming, not cooling.
That makes the NOAA findings worrisome, even if one doesn't expect to be around to see whether their assessment that the adverse consequences of global warming could persist for as long as 1,000 years after our emissions have completely ceased proves correct. On a more personally-relevant timescale, however, it suggests that we shouldn't expect the climate to return smoothly to the previous "normal" after we stop nudging it, whenever that might be. That kind of systemic irreversibility is distinct from the idea that plant and animal species that become extinct along the way won't be retrievable; it speaks to the basic hospitableness of the earth to the levels of human population we're asking it to carry. (If you think that sounds extreme, you should read James Lovelock's recent thoughts on the subject.)
If the aim of policy makers is to create a sufficiently robust public consensus to support a cap on carbon emissions and a big investment in low-carbon energy over the span of time necessary for them to have the desired results, then their explanation of the problem must encompass the variability inherent in the interaction between greenhouse gas emissions and the complex cycles and systems that governed the climate long before the first factory began burning coal, or the first Model T was built. "Global warming" implies a steadier process than we are likely to experience. Some years will be cooler than others, as we've just seen, but the decade-by-decade trend still points higher. Our growing understanding of the consequences of that ought to make this harder to shrug off, even if we assign it a probability lower than 100%. I don't know if we'll end up burying biomass-derived charcoal as Mr. Lovelock suggests, in order to suck CO2 out of the atmosphere, but the longer we delay action, the more dramatic the options we may be forced to consider.
As I noted in my posting on the subject last February, the global cooling hypothesis rests not just on the observed slight decline of average temperatures since the peak year of 2005--including a sharp monthly drop last January, compared to January 2007--but also on concerns about tardy sunspots and the recent decline in solar output. NASA's graph of "solar irradiance", the energy in sunlight reaching the earth's orbit, confirms that the sun's activity is at a periodic low point within the approximately 11-year sunspot cycle. It also indicates that this cyclical low is somewhat lower than recent lows, and that it seems a bit overdue for a cyclical uptick. (To put this in perspective, we are currently receiving about 0.02% less solar energy than average.) However, unless the scientists at a recent conference on solar activity were wrong in concluding that were are not headed into a sustained solar minimum of the kind associated with the Little Ice Age, then the implications of this graph and of GISS's commentary on solar irradiance look ominous in the other direction: We could be in for some sharply warmer temperatures in the next decade, a few years after sunspot cycle #24 reaches its peak, when the "non-negligible effect on global temperature" of variability in solar irradiance would reinforce, rather than partially canceling out the effects of greenhouse warming and the Southern Oscillation (El Nino/La Nina.) As a result, my money is still on warming, not cooling.
That makes the NOAA findings worrisome, even if one doesn't expect to be around to see whether their assessment that the adverse consequences of global warming could persist for as long as 1,000 years after our emissions have completely ceased proves correct. On a more personally-relevant timescale, however, it suggests that we shouldn't expect the climate to return smoothly to the previous "normal" after we stop nudging it, whenever that might be. That kind of systemic irreversibility is distinct from the idea that plant and animal species that become extinct along the way won't be retrievable; it speaks to the basic hospitableness of the earth to the levels of human population we're asking it to carry. (If you think that sounds extreme, you should read James Lovelock's recent thoughts on the subject.)
If the aim of policy makers is to create a sufficiently robust public consensus to support a cap on carbon emissions and a big investment in low-carbon energy over the span of time necessary for them to have the desired results, then their explanation of the problem must encompass the variability inherent in the interaction between greenhouse gas emissions and the complex cycles and systems that governed the climate long before the first factory began burning coal, or the first Model T was built. "Global warming" implies a steadier process than we are likely to experience. Some years will be cooler than others, as we've just seen, but the decade-by-decade trend still points higher. Our growing understanding of the consequences of that ought to make this harder to shrug off, even if we assign it a probability lower than 100%. I don't know if we'll end up burying biomass-derived charcoal as Mr. Lovelock suggests, in order to suck CO2 out of the atmosphere, but the longer we delay action, the more dramatic the options we may be forced to consider.
Friday, January 30, 2009
Smarter Stimulus
As the US Senate debates its version of the $819 billion economic stimulus bill passed by the House on Wednesday, I hope they will give consideration to a smarter alternative to sweeping income tax cuts, the stimulative effect of which seems questionable. An op-ed in yesterday's Washington Post by economist Martin Feldstein offers a better idea: "a temporary refundable tax credit to households that purchase cars or other major consumer durables." In fact, I'd like to modify Professor Feldstein's idea for a car rebate to ensure that it not only boosts sales, but moves us in the direction of higher fuel economy. Let's offer consumers a one-year, $2,000 per car refundable tax credit, but only for vehicles that exceed the Corporate Average Fuel Economy of the 2008 model new car fleet: 31.4 mpg for passenger cars and 23.6 mpg for the light truck segment that includes SUVs.
Although this criterion stops short of pushing large numbers of Americans into hybrid vehicles, there are good reasons to keep the bar broad, low and technology-neutral, here. In a recession and with gas as cheap as it is, fuel economy is unlikely to be the paramount concern of potential car-buyers, even if memories of $4 gasoline are seared in their brains. Despite high gas prices for much of the year, hybrids only accounted for 2.4% of sales in 2008. Carmakers can't possibly ramp up hybrid production by enough this year for them to affect overall car sales by a meaningful percentage, relative to the crippling industry sales decline of 18% last year. Moreover, there are already tax credits in place for both hybrids and plug-in hybrids, though subsidies for the former are now phasing out. By contrast, roughly half the cars sold last year already beat last year's CAFE performance, and I'll bet Detroit and the imports would be very happy to sell more of those models, even if they didn't generate as much profit per car.
Shifting the average fuel economy of a whole year's sales up by an mpg or two doesn't nearly sound as "green" as doubling the sales of 50 mpg hybrids, but in fact it would save a lot more oil and reduce emissions by a larger proportion, as well. Recall that the biggest, juiciest target for fuel savings is not the shift from 35 mpg subcompacts to 100 mpg plug-in hybrids, but getting drivers out of 15 mpg SUVs and into 25 mpg crossovers and minivans. And if Detroit is going to get back on its feet sufficiently to repay those government loans any time soon, it must quickly resume selling large numbers of the cars it already makes, even as it infuses more energy-saving technology into future models.
We want our stimulus dollars to boost the flagging economy as effectively as possible, without making other problems worse in the future--beyond the unfortunate but unavoidable consequence of larger deficits. Targeted tax credits for efficient cars and appliances make more sense in this context than stuffing $500 into the pockets of every American, who might prudently save it or use it to pay down debt. Those are worthy outcomes in the long run, but not what an urgent fiscal stimulus is intended to accomplish.
Although this criterion stops short of pushing large numbers of Americans into hybrid vehicles, there are good reasons to keep the bar broad, low and technology-neutral, here. In a recession and with gas as cheap as it is, fuel economy is unlikely to be the paramount concern of potential car-buyers, even if memories of $4 gasoline are seared in their brains. Despite high gas prices for much of the year, hybrids only accounted for 2.4% of sales in 2008. Carmakers can't possibly ramp up hybrid production by enough this year for them to affect overall car sales by a meaningful percentage, relative to the crippling industry sales decline of 18% last year. Moreover, there are already tax credits in place for both hybrids and plug-in hybrids, though subsidies for the former are now phasing out. By contrast, roughly half the cars sold last year already beat last year's CAFE performance, and I'll bet Detroit and the imports would be very happy to sell more of those models, even if they didn't generate as much profit per car.
Shifting the average fuel economy of a whole year's sales up by an mpg or two doesn't nearly sound as "green" as doubling the sales of 50 mpg hybrids, but in fact it would save a lot more oil and reduce emissions by a larger proportion, as well. Recall that the biggest, juiciest target for fuel savings is not the shift from 35 mpg subcompacts to 100 mpg plug-in hybrids, but getting drivers out of 15 mpg SUVs and into 25 mpg crossovers and minivans. And if Detroit is going to get back on its feet sufficiently to repay those government loans any time soon, it must quickly resume selling large numbers of the cars it already makes, even as it infuses more energy-saving technology into future models.
We want our stimulus dollars to boost the flagging economy as effectively as possible, without making other problems worse in the future--beyond the unfortunate but unavoidable consequence of larger deficits. Targeted tax credits for efficient cars and appliances make more sense in this context than stuffing $500 into the pockets of every American, who might prudently save it or use it to pay down debt. Those are worthy outcomes in the long run, but not what an urgent fiscal stimulus is intended to accomplish.
Thursday, January 29, 2009
The Ripple Effect
The fallout from the collapse of oil prices in the last quarter of 2008 is still rippling through the economy. Yesterday's announcement of a $34 billion write-off by ConocoPhillips, the third-largest US oil company, is the latest signpost of this phenomenon. It's not confined to the oil exploration and production segment, either. We've seen the earnings of non-integrated refining companies drop, along with the announcement by Valero, the largest US refiner, that it would idle its 225,000 barrel per day Texas City refinery for several weeks. At the same time, ethanol producers continue to struggle with low margins and financing problems. In short, only a quarter after fuel companies were reporting record earnings, the tables have turned and consumers are in the catbird seat, still paying less than half of last summer's pump prices.
Conoco's losses didn't surprise Wall Street, and they shouldn't have surprised my readers, either. In late December I examined the impact of low year-end prices on the oil and gas reserves carried on the books of the oil companies. The reasonable change in SEC regulations for calculating their value, which goes into effect next January, came a year too late to prevent massive accounting losses in the oil patch. However, I missed the impact on the value of acquisitions, to which ConocoPhillips may have been particularly vulnerable, having been assembled not just from one big merger, but from a long string of deals. The bones of Burlington Resources, Tosco, and Unocal's refining and marketing business are all buried in there, somewhere. Tomorrow we'll see whether ExxonMobil and Chevron report similar losses, though it's notable that Shell, which reports earnings under UK accounting standards, saw only a 28% drop in fourth quarter earnings, compared to 4Q07.
Meanwhile, the refining business has returned to a more normal situation, compared to the boom years of a few years ago and the dire straits of last month, when spot gasoline was selling for less than light sweet crude oil. The recent bounce in gasoline prices has put refiners back in the black. Since December, the calculated futures market "crack" spread, a simple estimate of the margin on making gasoline, has improved from a average loss for the month of $1.40/bbl to a profit of around $5.75/bbl, while the "3-2-1 crack", which includes the benefit of higher diesel fuel prices, has improved from about $5/bbl to roughly $10/bbl. Although this is a healthy margin, it won't result in banner profits, when US refineries are running at an average utilization of 82%. That's a lot of idle capacity, whether in the form of entire plant shutdowns, as at Texas City, or of reduced run rates at most plants. It's a reflection of just how far US gasoline demand has fallen that until this week, gasoline inventories continued to build, in spite of such low output.
Ethanol producers aren't faring much better. The operating margin, or "crush spread", that I calculate from today's Chicago Board of Trade corn and ethanol quotes is only $0.25/gal. That's a far cry from crush spreads over $1.00/gal that were routine in 2006 and 2007, and that helped fuel an ethanol plant construction boom that has now gone bust, at least temporarily. A growing number of ethanol producers have filed for Chapter 11 protection, and the largest of these, VeraSun Energy, has been forced by market conditions to idle 12 of its 16 "biorefineries." If it emerges from bankruptcy at all, VeraSun, which had been one of the most aggressive consolidators of the industry, will be much smaller. These are hardly the signs of a thriving biofuels industry, upon which a core strategy of US energy policy rests.
Any temptation to find morbid satisfaction in the diminished fortunes of the transportation fuels industry should be tempered by a clear understanding that its dips carry consequences that reverberate for years, because of the planning and construction lags inherent in its big projects. The oil platforms deferred or canceled this year will squeeze output in the mid-2010's, while the gas wells not drilled in 2009 and 2010 will tighten supplies much sooner. And even on the presumably greener side of the industry, an ethanol sector rocked by corporate bankruptcies and distilleries abandoned before they ever started up will be poorly positioned to deliver on the highly-ambitious renewable fuels targets set by the Congress in late 2007, and mooted for further expansion during last year's presidential campaign. The days of profits some regarded as unearned windfalls have clearly ended; however, if the fuels industry doesn't make "normal" profits this year and next, we will all pay for it down the road.
Conoco's losses didn't surprise Wall Street, and they shouldn't have surprised my readers, either. In late December I examined the impact of low year-end prices on the oil and gas reserves carried on the books of the oil companies. The reasonable change in SEC regulations for calculating their value, which goes into effect next January, came a year too late to prevent massive accounting losses in the oil patch. However, I missed the impact on the value of acquisitions, to which ConocoPhillips may have been particularly vulnerable, having been assembled not just from one big merger, but from a long string of deals. The bones of Burlington Resources, Tosco, and Unocal's refining and marketing business are all buried in there, somewhere. Tomorrow we'll see whether ExxonMobil and Chevron report similar losses, though it's notable that Shell, which reports earnings under UK accounting standards, saw only a 28% drop in fourth quarter earnings, compared to 4Q07.
Meanwhile, the refining business has returned to a more normal situation, compared to the boom years of a few years ago and the dire straits of last month, when spot gasoline was selling for less than light sweet crude oil. The recent bounce in gasoline prices has put refiners back in the black. Since December, the calculated futures market "crack" spread, a simple estimate of the margin on making gasoline, has improved from a average loss for the month of $1.40/bbl to a profit of around $5.75/bbl, while the "3-2-1 crack", which includes the benefit of higher diesel fuel prices, has improved from about $5/bbl to roughly $10/bbl. Although this is a healthy margin, it won't result in banner profits, when US refineries are running at an average utilization of 82%. That's a lot of idle capacity, whether in the form of entire plant shutdowns, as at Texas City, or of reduced run rates at most plants. It's a reflection of just how far US gasoline demand has fallen that until this week, gasoline inventories continued to build, in spite of such low output.
Ethanol producers aren't faring much better. The operating margin, or "crush spread", that I calculate from today's Chicago Board of Trade corn and ethanol quotes is only $0.25/gal. That's a far cry from crush spreads over $1.00/gal that were routine in 2006 and 2007, and that helped fuel an ethanol plant construction boom that has now gone bust, at least temporarily. A growing number of ethanol producers have filed for Chapter 11 protection, and the largest of these, VeraSun Energy, has been forced by market conditions to idle 12 of its 16 "biorefineries." If it emerges from bankruptcy at all, VeraSun, which had been one of the most aggressive consolidators of the industry, will be much smaller. These are hardly the signs of a thriving biofuels industry, upon which a core strategy of US energy policy rests.
Any temptation to find morbid satisfaction in the diminished fortunes of the transportation fuels industry should be tempered by a clear understanding that its dips carry consequences that reverberate for years, because of the planning and construction lags inherent in its big projects. The oil platforms deferred or canceled this year will squeeze output in the mid-2010's, while the gas wells not drilled in 2009 and 2010 will tighten supplies much sooner. And even on the presumably greener side of the industry, an ethanol sector rocked by corporate bankruptcies and distilleries abandoned before they ever started up will be poorly positioned to deliver on the highly-ambitious renewable fuels targets set by the Congress in late 2007, and mooted for further expansion during last year's presidential campaign. The days of profits some regarded as unearned windfalls have clearly ended; however, if the fuels industry doesn't make "normal" profits this year and next, we will all pay for it down the road.
Monday, January 26, 2009
The Big Chunks
In my first posting of the year, I suggested that the new administration faced a big decision about our national energy policy, between making either energy security or our response to climate change its top priority. Whichever they choose, President Obama's team needs a framework for implementing that selection, and I'd like to suggest one that appears to go distinctly against the grain of their current thinking. Rather than focusing mainly on renewable energy, a successful US energy strategy must come at this problem from the perspective of its largest elements--the fuels and technologies that account for more than 90% of our current energy supply--not the smallest current pieces, no matter how rapidly they are growing. Renewables are important and destined to become much more so, but we should assess them in terms of their usefulness in displacing those conventional energy sources that are in most urgent need of substitution, as we proceed to reduce emissions or improve energy security.
Oil is still by far our largest energy source, comprised of two main components, domestic production and oil imports. Together they accounted for 39% of the 101.6 quadrillion BTUs (quads) of energy that the US consumed in 2007, split 28%/11% between imports and US production, respectively, though the latter understates the contribution of domestic oil drilling, which also provides around one quarter of our natural gas output. As shown in the pie chart below, natural gas comes next, followed by coal and nuclear power. These five "big chunks" together make up 93% of the total energy we consume, 91% of our electricity generation, and roughly 99% of the energy used for transportation.
Next consider how large renewable energy is likely to grow over the next two decades. The latest forecast from the US Department of Energy anticipates the contribution of wind, solar, geothermal and biomass, including biofuels and biomass-power, to grow from 3.5% of US energy consumption in 2007 to 7.7% by 2030. This estimate still seems fairly conservative, so let's be generous and assume it could reach 15-20%. I know that won't seem aggressive to the most ardent advocates of renewables, but considering the obstacles that would need to be overcome, including making cellulosic biofuel cost-competitively on an industrial scale and expanding non-dispatchable forms of renewable electricity production such as wind and solar into market segments currently dominated by on-demand power from gas turbines and coal plants, it's plenty ambitious. Thus with hard work, dedication and ample investment in the sector, we just might be able to grow renewable energy large enough in 20 years to replace one of those five big blocks I mentioned earlier. Which one to choose depends on the priority of emissions reductions vs. energy security.
The most popular target today would probably be imported oil, widely regarded as the major source of energy insecurity. While obtaining 20% of our future energy from renewables doesn't quite match up with the current 28% from imported oil, with some help from efficiency improvements it just might do the trick. Of course, that would mean that the energy from wind, solar and other electricity-producing technologies would have to displace petroleum products by means of the mass marketing of plug-in electric vehicles. 21 years is not a tremendously long time for that to happen, given the decade that it has taken non-plug-in hybrids to reach a 2.4% market share, but if we're dreaming, let's dream big. So by 2030 we've displaced foreign oil, captured all that money we used to send overseas, and presumably beggared the Middle East. Unfortunately, we have only made a medium-sized dent in our greenhouse gas emissions in the process. Transportation was the number two source of those, and cutting its contribution roughly in half--which is probably optimistic, given the emissions associated with current biofuels--would reduce our 2006 emissions by 15%.
Another popular alternative would be to go after coal's market share. In theory getting 20% of our energy from renewables ought to be sufficient to cut coal use by about 85%--or perhaps only 70% if we allow that we'd be unlikely to burn liquid biofuels such as ethanol and biodiesel to make electricity. Still, cutting 70% of the emissions from coal would reduce US GHG emissions by nearly 25% (very large file), which would put us well on the way to cutting them by 80% by 2050, as envisioned by the administration and Congress. Unfortunately, the fastest-growing renewable energy technologies, wind and solar power, do not compete very well with coal-fired power plants. The latter can run 24/7, providing baseload and mid-load dispatchable power, electricity that is there whenever someone flips the switch, while wind is intermittent, producing power less than a third of the time--often when demand is low--and solar is cyclical and seasonal, making its best contribution into the afternoon demand peak.
When we take these factors into account, wind and solar turn out to be most interchangeable with our least objectionable fossil fuel, natural gas. In this regard, at least, Mr. Pickens' Plan is built on solid ground. But would we really want to displace a large portion of the 23% of our energy we get from natural gas with renewables, or back out the 32% of US natural gas used for electricity, in order to substitute it for petroleum products in cars or elsewhere? At a glance, the energy security and greenhouse gas benefits of this seem less compelling than the direct substitution of renewables for imported oil noted above. And I haven't even mentioned the possibility of using renewables to displace nuclear power, because that would at best net us zero in terms of either energy security or greenhouse gas benefits.
What this framework does, then, is to translate our competing energy priorities into their resultant choices about how best to employ the limited quantities of renewable energy we are likely to have within the next two decades, relative to the major elements of our current energy supply and demand balance. In addition, our preferences for which big chunk of conventional energy on which to focus our efforts will determine which particular renewable energy technologies look most advantageous and deserving of government help in the form of R&D, investment and deployment incentives. From where I sit, this looks like a much more sensible approach than the status quo one that assumes all renewables are equally beneficial in our complex energy economy and that supports them all, indiscriminately.
Oil is still by far our largest energy source, comprised of two main components, domestic production and oil imports. Together they accounted for 39% of the 101.6 quadrillion BTUs (quads) of energy that the US consumed in 2007, split 28%/11% between imports and US production, respectively, though the latter understates the contribution of domestic oil drilling, which also provides around one quarter of our natural gas output. As shown in the pie chart below, natural gas comes next, followed by coal and nuclear power. These five "big chunks" together make up 93% of the total energy we consume, 91% of our electricity generation, and roughly 99% of the energy used for transportation.
Next consider how large renewable energy is likely to grow over the next two decades. The latest forecast from the US Department of Energy anticipates the contribution of wind, solar, geothermal and biomass, including biofuels and biomass-power, to grow from 3.5% of US energy consumption in 2007 to 7.7% by 2030. This estimate still seems fairly conservative, so let's be generous and assume it could reach 15-20%. I know that won't seem aggressive to the most ardent advocates of renewables, but considering the obstacles that would need to be overcome, including making cellulosic biofuel cost-competitively on an industrial scale and expanding non-dispatchable forms of renewable electricity production such as wind and solar into market segments currently dominated by on-demand power from gas turbines and coal plants, it's plenty ambitious. Thus with hard work, dedication and ample investment in the sector, we just might be able to grow renewable energy large enough in 20 years to replace one of those five big blocks I mentioned earlier. Which one to choose depends on the priority of emissions reductions vs. energy security.
The most popular target today would probably be imported oil, widely regarded as the major source of energy insecurity. While obtaining 20% of our future energy from renewables doesn't quite match up with the current 28% from imported oil, with some help from efficiency improvements it just might do the trick. Of course, that would mean that the energy from wind, solar and other electricity-producing technologies would have to displace petroleum products by means of the mass marketing of plug-in electric vehicles. 21 years is not a tremendously long time for that to happen, given the decade that it has taken non-plug-in hybrids to reach a 2.4% market share, but if we're dreaming, let's dream big. So by 2030 we've displaced foreign oil, captured all that money we used to send overseas, and presumably beggared the Middle East. Unfortunately, we have only made a medium-sized dent in our greenhouse gas emissions in the process. Transportation was the number two source of those, and cutting its contribution roughly in half--which is probably optimistic, given the emissions associated with current biofuels--would reduce our 2006 emissions by 15%.
Another popular alternative would be to go after coal's market share. In theory getting 20% of our energy from renewables ought to be sufficient to cut coal use by about 85%--or perhaps only 70% if we allow that we'd be unlikely to burn liquid biofuels such as ethanol and biodiesel to make electricity. Still, cutting 70% of the emissions from coal would reduce US GHG emissions by nearly 25% (very large file), which would put us well on the way to cutting them by 80% by 2050, as envisioned by the administration and Congress. Unfortunately, the fastest-growing renewable energy technologies, wind and solar power, do not compete very well with coal-fired power plants. The latter can run 24/7, providing baseload and mid-load dispatchable power, electricity that is there whenever someone flips the switch, while wind is intermittent, producing power less than a third of the time--often when demand is low--and solar is cyclical and seasonal, making its best contribution into the afternoon demand peak.
When we take these factors into account, wind and solar turn out to be most interchangeable with our least objectionable fossil fuel, natural gas. In this regard, at least, Mr. Pickens' Plan is built on solid ground. But would we really want to displace a large portion of the 23% of our energy we get from natural gas with renewables, or back out the 32% of US natural gas used for electricity, in order to substitute it for petroleum products in cars or elsewhere? At a glance, the energy security and greenhouse gas benefits of this seem less compelling than the direct substitution of renewables for imported oil noted above. And I haven't even mentioned the possibility of using renewables to displace nuclear power, because that would at best net us zero in terms of either energy security or greenhouse gas benefits.
What this framework does, then, is to translate our competing energy priorities into their resultant choices about how best to employ the limited quantities of renewable energy we are likely to have within the next two decades, relative to the major elements of our current energy supply and demand balance. In addition, our preferences for which big chunk of conventional energy on which to focus our efforts will determine which particular renewable energy technologies look most advantageous and deserving of government help in the form of R&D, investment and deployment incentives. From where I sit, this looks like a much more sensible approach than the status quo one that assumes all renewables are equally beneficial in our complex energy economy and that supports them all, indiscriminately.
Friday, January 23, 2009
A Painful Adjustment
A quick read through the morning paper reminded me just how much the future path of energy prices and energy sector investment depend on the economy, and on the measures intended to speed its recovery. It doesn't seem like so long ago that the situation was exactly reversed, with the economy faltering in part due to a massive oil price shock. Now, the very things that energy strategists and planners most took for granted--the steady pace of demand growth driven by an expanding global economy and unimpeded access to financing for projects large and small--have become the biggest uncertainties affecting the industry. A random selection of articles and op-eds in today's Wall Street Journal seems to confirm that these uncertainties won't be resolved quickly. Indeed, they cannot be, until the recession has done its unpleasant work of re-directing employment and investment away from sectors that grew unsustainably large during the parallel housing and consumer debt bubbles, and towards new and better uses.
In the Money & Investing section we read, "Oil Rallies on Stimulus Hopes." With the volatile expiration of the February crude oil contract behind us, March West Texas Intermediate settled at $43.67 yesterday. But the rally in question, of four days duration, doesn't change the fact that this same March contract has declined by about 70% since its high last July, and by 10% since last December 31. No one expects a return to last year's peaks, but the hopes for a quick agreement on an economic stimulus package ought to be tempered by the enormity of the task that package is intended to accomplish, and by our questionable ability to sustain the requisite deficits long enough to see its programs through.
The challenge is illustrated by an article that provides the kind of good news/bad news mix typical of a deep recession: "Home Construction at Record Slow Pace." At December's seasonally-adjusted annual rate of 550,000 units, new home construction is apparently at the lowest level since at least 1959, and half its rate of a year earlier. This is clearly bad news for anyone working in home construction and all the businesses that supply it. However, it's good news for current homeowners, since less supply will eventually lead to higher prices. It also reflects the reality that the home construction sector cannot be maintained at the scale it reached during the housing bubble. Too many of the country's resources were devoted to building new and bigger homes, fueled by unrealistically high levels of debt. Finding more productive and sustainable employment for the people and businesses affected is just one task of the stimulus, and of the recession itself. The same is true for a consumer-goods sector, including retail, that also grew unsustainably large, driven by massive home-equity and credit card debt.
For all the hopes pinned on the stimulus, its Achilles heel is the scale of the deficits involved, on top of a preexisting budget deficit and the enormous loans made to the banking sector. While the projected US deficits in 2009 and 2010 might look manageable as a share of GDP, their absolute magnitude raises serious, unanswered questions about funding. "The World Won't Buy Unlimited U.S. Debt," points out one op-ed in the Opinion section. I understand the risks of doing too little and the worries about a liquidity trap, in which monetary policy loses its effectiveness, or entering a deflationary spiral; however, the stimulus carries risks of its own. Nor can we forget that ours is not the only government taking on more debt to fund an urgent stimulus. "Expect the World Economy to Suffer Through 2009," conclude Ian Bremmer and Nouriel Roubini, of the Eurasia Group and NYU, respectively.
We need to keep all of this in mind, as we assess the stimulus package that the Congress and new administration are designing. Every assertion that it should be as big as possible should be balanced by a reminder that, because we will go deep into debt to fund it--with unpredictable consequences--it should not be one dollar larger than truly necessary. In particular, that means that provisions that can't be shown to have a high likelihood of putting people and businesses to work productively in the next 18 months should be deferred until we have a clearer sense of the receptiveness of global lenders for the mountain of Treasury bonds and T-bills the government must issue to pay for them. I'm glad I don't have to make those choices, and I wish our elected leaders the greatest success in this endeavor. Much more than just energy markets hinges on it.
In the Money & Investing section we read, "Oil Rallies on Stimulus Hopes." With the volatile expiration of the February crude oil contract behind us, March West Texas Intermediate settled at $43.67 yesterday. But the rally in question, of four days duration, doesn't change the fact that this same March contract has declined by about 70% since its high last July, and by 10% since last December 31. No one expects a return to last year's peaks, but the hopes for a quick agreement on an economic stimulus package ought to be tempered by the enormity of the task that package is intended to accomplish, and by our questionable ability to sustain the requisite deficits long enough to see its programs through.
The challenge is illustrated by an article that provides the kind of good news/bad news mix typical of a deep recession: "Home Construction at Record Slow Pace." At December's seasonally-adjusted annual rate of 550,000 units, new home construction is apparently at the lowest level since at least 1959, and half its rate of a year earlier. This is clearly bad news for anyone working in home construction and all the businesses that supply it. However, it's good news for current homeowners, since less supply will eventually lead to higher prices. It also reflects the reality that the home construction sector cannot be maintained at the scale it reached during the housing bubble. Too many of the country's resources were devoted to building new and bigger homes, fueled by unrealistically high levels of debt. Finding more productive and sustainable employment for the people and businesses affected is just one task of the stimulus, and of the recession itself. The same is true for a consumer-goods sector, including retail, that also grew unsustainably large, driven by massive home-equity and credit card debt.
For all the hopes pinned on the stimulus, its Achilles heel is the scale of the deficits involved, on top of a preexisting budget deficit and the enormous loans made to the banking sector. While the projected US deficits in 2009 and 2010 might look manageable as a share of GDP, their absolute magnitude raises serious, unanswered questions about funding. "The World Won't Buy Unlimited U.S. Debt," points out one op-ed in the Opinion section. I understand the risks of doing too little and the worries about a liquidity trap, in which monetary policy loses its effectiveness, or entering a deflationary spiral; however, the stimulus carries risks of its own. Nor can we forget that ours is not the only government taking on more debt to fund an urgent stimulus. "Expect the World Economy to Suffer Through 2009," conclude Ian Bremmer and Nouriel Roubini, of the Eurasia Group and NYU, respectively.
We need to keep all of this in mind, as we assess the stimulus package that the Congress and new administration are designing. Every assertion that it should be as big as possible should be balanced by a reminder that, because we will go deep into debt to fund it--with unpredictable consequences--it should not be one dollar larger than truly necessary. In particular, that means that provisions that can't be shown to have a high likelihood of putting people and businesses to work productively in the next 18 months should be deferred until we have a clearer sense of the receptiveness of global lenders for the mountain of Treasury bonds and T-bills the government must issue to pay for them. I'm glad I don't have to make those choices, and I wish our elected leaders the greatest success in this endeavor. Much more than just energy markets hinges on it.
Wednesday, January 21, 2009
Taxing Carbon
While many observers were focused on the most obvious first represented by yesterday's presidential inauguration, I was thinking about another one: Barack Obama is the first US President elected on a platform that included putting a price on our emissions of carbon dioxide and other greenhouse gases to the atmosphere. Although the likelihood of that happening this year has receded somewhat, due to the weak economy, it would be just as momentous in a year or two. Either way, it's not a long interval in which to decide the best way to go about altering a practice that humanity has taken for granted since the discovery of fire. There are some very strong views on each side of the carbon tax vs. cap & trade dilemma.
Last week, the CEO of ExxonMobil made news when he came out in favor of a carbon tax, though in fairness, while Mr. Tillerson's remarks at the Woodrow Wilson Center in Washington, DC reflected a clear preference for a carbon tax over cap & trade, they fell short of advocating the immediate implementation of either. But however one chooses to parse his comments, the concerns he raised about cap and trade are entirely legitimate and must be addressed forthrightly in the political debate on limiting emissions of greenhouse gases (GHGs). One concern in particular seems likely to carry much more weight now than it would have a year or two ago:
"It is important to remember that a cap-and-trade system requires a new market infrastructure for traders to trade emissions allowances. This new 'Wall Street' of emissions brokers will take the emphasis away from the goal of reducing carbon emissions and focus its attention on trading on price volatility. For businesses and consumers, these market gatekeepers and resultant price swings add cost and they create uncertainty."
The idea of setting up a new market that will benefit traders and speculators is bound to raise some hackles, when these are widely viewed as having contributed to last summer's oil-price spike and to the larger financial crisis. If it weren't for one crucial shortcoming of a carbon tax, I would find Mr. Tillerson's arguments for its simplicity and predictability quite compelling, and the other justifications for cap & trade might be reduced to mere quibbles. To see why, let's consider the practical aspects of implementing either approach.
The ultimate goal of either cap & trade or a carbon tax is to reduce GHG emissions, in order to limit the extent of global warming and consequent changes in the earth's environment. These cuts are intended to begin gradually but quickly gather momentum to deliver substantial cumulative reductions in emissions within a few decades. Both cap & trade and a carbon tax would lend themselves to being carefully phased in, and either one could be rendered revenue-neutral, to minimize the undesired economic effects of a policy designed to alter our consumption patterns in fundamental ways, at least with regard to energy-intensive goods and services. In either system, vulnerable consumers and industries with few alternatives could be protected or given more time to adapt. And while cap & trade creates a strong incentive for companies and sectors with the lowest costs for reducing emissions to maximize their cuts and trade the resulting surplus with others who face higher costs, a carbon tax could be modified to allow some trading around the edges, capturing at least part of that benefit for the economy. The biggest distinction may also be the most basic: how is the price of emissions set in the first place?
In effect, the choice between a carbon tax and cap & trade boils down to a choice between the cost of CO2 being set by committee, or by markets. Whatever else disappointed investors might think about them, markets excel at price discovery. While I have little doubt that a blue-ribbon panel of economists, scientists and engineers could come up with a reasonable estimate of the level of carbon taxation required to reduce emissions by the desired amount, I have much more confidence in the logic of setting the desired level of emissions reduction in each year, and then allowing the price to emerge from the interaction of those whose livelihoods depend on meeting these limits, in real time. That preference is rooted in the risks of each approach.
If our hypothetical Carbon Price Committee sets the carbon tax too low, emissions will exceed the goal and they can ratchet the tax higher in the next period. However, if they set it too high, we'll beat the emissions targets, but the economy will shift too rapidly, and jobs and output in energy-intensive sectors will be shed faster than new, "green" jobs and products can be created. The result might look a lot like what we're experiencing today. Cap & trade has its own risks, though they tend to focus more on the effectiveness and efficiency of the program than on its consequences for the economy. Mr. Tillerson is right to identify problems of "verification and accountability," though there is already a large and growing body of experience in managing these issues, from the EU Emissions Trading System and from voluntary emissions trading--and the statutory SOx and NOx trading--that has been going on in the US for more than a decade.
In the final analysis, the decision to put a price on greenhouse gas emissions matters more than how it is implemented. At the same time, the latter choice will determine how effectively those reductions are achieved, and at what cost to the rest of the economy, where most of us will continue to earn our livelihoods and save for our future needs. I hope that the new administration will weigh these considerations carefully, in consultation with the Congress and all affected stakeholders, including our international trading partners, who could be affected in many ways by the result. The idea of a carbon tax deserves a fair hearing alongside cap & trade, once our leaders agree on the timing of limiting our emissions.
Last week, the CEO of ExxonMobil made news when he came out in favor of a carbon tax, though in fairness, while Mr. Tillerson's remarks at the Woodrow Wilson Center in Washington, DC reflected a clear preference for a carbon tax over cap & trade, they fell short of advocating the immediate implementation of either. But however one chooses to parse his comments, the concerns he raised about cap and trade are entirely legitimate and must be addressed forthrightly in the political debate on limiting emissions of greenhouse gases (GHGs). One concern in particular seems likely to carry much more weight now than it would have a year or two ago:
"It is important to remember that a cap-and-trade system requires a new market infrastructure for traders to trade emissions allowances. This new 'Wall Street' of emissions brokers will take the emphasis away from the goal of reducing carbon emissions and focus its attention on trading on price volatility. For businesses and consumers, these market gatekeepers and resultant price swings add cost and they create uncertainty."
The idea of setting up a new market that will benefit traders and speculators is bound to raise some hackles, when these are widely viewed as having contributed to last summer's oil-price spike and to the larger financial crisis. If it weren't for one crucial shortcoming of a carbon tax, I would find Mr. Tillerson's arguments for its simplicity and predictability quite compelling, and the other justifications for cap & trade might be reduced to mere quibbles. To see why, let's consider the practical aspects of implementing either approach.
The ultimate goal of either cap & trade or a carbon tax is to reduce GHG emissions, in order to limit the extent of global warming and consequent changes in the earth's environment. These cuts are intended to begin gradually but quickly gather momentum to deliver substantial cumulative reductions in emissions within a few decades. Both cap & trade and a carbon tax would lend themselves to being carefully phased in, and either one could be rendered revenue-neutral, to minimize the undesired economic effects of a policy designed to alter our consumption patterns in fundamental ways, at least with regard to energy-intensive goods and services. In either system, vulnerable consumers and industries with few alternatives could be protected or given more time to adapt. And while cap & trade creates a strong incentive for companies and sectors with the lowest costs for reducing emissions to maximize their cuts and trade the resulting surplus with others who face higher costs, a carbon tax could be modified to allow some trading around the edges, capturing at least part of that benefit for the economy. The biggest distinction may also be the most basic: how is the price of emissions set in the first place?
In effect, the choice between a carbon tax and cap & trade boils down to a choice between the cost of CO2 being set by committee, or by markets. Whatever else disappointed investors might think about them, markets excel at price discovery. While I have little doubt that a blue-ribbon panel of economists, scientists and engineers could come up with a reasonable estimate of the level of carbon taxation required to reduce emissions by the desired amount, I have much more confidence in the logic of setting the desired level of emissions reduction in each year, and then allowing the price to emerge from the interaction of those whose livelihoods depend on meeting these limits, in real time. That preference is rooted in the risks of each approach.
If our hypothetical Carbon Price Committee sets the carbon tax too low, emissions will exceed the goal and they can ratchet the tax higher in the next period. However, if they set it too high, we'll beat the emissions targets, but the economy will shift too rapidly, and jobs and output in energy-intensive sectors will be shed faster than new, "green" jobs and products can be created. The result might look a lot like what we're experiencing today. Cap & trade has its own risks, though they tend to focus more on the effectiveness and efficiency of the program than on its consequences for the economy. Mr. Tillerson is right to identify problems of "verification and accountability," though there is already a large and growing body of experience in managing these issues, from the EU Emissions Trading System and from voluntary emissions trading--and the statutory SOx and NOx trading--that has been going on in the US for more than a decade.
In the final analysis, the decision to put a price on greenhouse gas emissions matters more than how it is implemented. At the same time, the latter choice will determine how effectively those reductions are achieved, and at what cost to the rest of the economy, where most of us will continue to earn our livelihoods and save for our future needs. I hope that the new administration will weigh these considerations carefully, in consultation with the Congress and all affected stakeholders, including our international trading partners, who could be affected in many ways by the result. The idea of a carbon tax deserves a fair hearing alongside cap & trade, once our leaders agree on the timing of limiting our emissions.
Monday, January 19, 2009
Tempering Optimism with Patience
We've all heard the President-elect mention the need for patience in confronting our economic problems, echoed by countless commentators elaborating on the scale of the challenge involved. If I could offer him one piece of advice on Inauguration Day, it would be to ask the American public for the same degree of patience in transforming our energy economy. It took a century to evolve into its present shape, and its major hardware has lifetimes ranging from ten to sixty years. Despite the great progress and truly impressive growth of alternative energy over the last few years, displacing our reliance on conventional energy is not the task of a few months or years, no matter how much of the planned stimulus package is ultimately devoted to making a down payment on this transformation.
Along with that advice, I would point out two related facts to our new President. First, while doubling our renewable energy production in three years is an appropriately bold initial goal, it would be next to impossible if it included the hydropower dams that make up the largest current component of our renewable energy supplies. Wind and solar power have been growing at rates that should make it quite feasible to deliver a further doubling of their output in three years, if the new administration can find smart ways to restore the flow of financing that is so crucial for these projects. Yet wind, solar and geothermal power still accounted for less than 1.5% of the electricity generated in the US for the first nine months of 2008, while hydro provided 6.7%. Since I don't hear anyone calling for a slew of big, new hydroelectric dams--the trend seems rather in the opposite direction--we would need to double wind, solar and geothermal roughly five successive times to equal the 1.5 trillion kilowatt-hours of electricity generated from coal in the same period. Efficiency and conservation might conceivably reduce the required number of doublings to four; however, each doubling will get progressively harder, as wind and solar grow out of the niches within which their cyclical and intermittent output has been relatively manageable.
The other fact concerns oil and the fuels we derive from it. President Obama might consider asking Dr. Chu a few questions on the subject of why hydrocarbon fuels have been so successful for the last hundred years. The answers have at least as much to do with chemistry and physics as they do with economics and domestic and geopolitics. Each gallon of gasoline delivers 115,000 BTUs, the equivalent of 33.7 kWh. It takes 1.5 gallons of ethanol or roughly 740 pounds of lithium ion batteries to deliver the same amount of energy to a car. The only reason it is even possible to conceive of an electric vehicle with comparable range to a gasoline-powered car is that current internal combustion engines waste about 80% of the energy in gasoline, while electric motors are more than 90% efficient. Petroleum products constitute a remarkable energy source and storage system, albeit a finite one, and replacing both attributes of oil at once will be exceedingly difficult. If we weren't so concerned about the energy security and environmental consequences of their use, it would be hard to justify such an uphill battle at all.
Attaining our energy goals will require healthy doses of both optimism and patience: optimism to remind us that none of the obstacles along the way looks insurmountable in the long run, and patience because those obstacles will not be conquered in four years or likely even eight. I still subscribe to the old notion that "a goal without a plan is just a wish." We need tangible plans to manage the transition from the old energy to the new, and to manage our expectations along the way. That's the best recipe I can offer for avoiding disappointing voters and consumers, when the promised energy transformation isn't complete by the end of President Obama's first term in office.
Along with that advice, I would point out two related facts to our new President. First, while doubling our renewable energy production in three years is an appropriately bold initial goal, it would be next to impossible if it included the hydropower dams that make up the largest current component of our renewable energy supplies. Wind and solar power have been growing at rates that should make it quite feasible to deliver a further doubling of their output in three years, if the new administration can find smart ways to restore the flow of financing that is so crucial for these projects. Yet wind, solar and geothermal power still accounted for less than 1.5% of the electricity generated in the US for the first nine months of 2008, while hydro provided 6.7%. Since I don't hear anyone calling for a slew of big, new hydroelectric dams--the trend seems rather in the opposite direction--we would need to double wind, solar and geothermal roughly five successive times to equal the 1.5 trillion kilowatt-hours of electricity generated from coal in the same period. Efficiency and conservation might conceivably reduce the required number of doublings to four; however, each doubling will get progressively harder, as wind and solar grow out of the niches within which their cyclical and intermittent output has been relatively manageable.
The other fact concerns oil and the fuels we derive from it. President Obama might consider asking Dr. Chu a few questions on the subject of why hydrocarbon fuels have been so successful for the last hundred years. The answers have at least as much to do with chemistry and physics as they do with economics and domestic and geopolitics. Each gallon of gasoline delivers 115,000 BTUs, the equivalent of 33.7 kWh. It takes 1.5 gallons of ethanol or roughly 740 pounds of lithium ion batteries to deliver the same amount of energy to a car. The only reason it is even possible to conceive of an electric vehicle with comparable range to a gasoline-powered car is that current internal combustion engines waste about 80% of the energy in gasoline, while electric motors are more than 90% efficient. Petroleum products constitute a remarkable energy source and storage system, albeit a finite one, and replacing both attributes of oil at once will be exceedingly difficult. If we weren't so concerned about the energy security and environmental consequences of their use, it would be hard to justify such an uphill battle at all.
Attaining our energy goals will require healthy doses of both optimism and patience: optimism to remind us that none of the obstacles along the way looks insurmountable in the long run, and patience because those obstacles will not be conquered in four years or likely even eight. I still subscribe to the old notion that "a goal without a plan is just a wish." We need tangible plans to manage the transition from the old energy to the new, and to manage our expectations along the way. That's the best recipe I can offer for avoiding disappointing voters and consumers, when the promised energy transformation isn't complete by the end of President Obama's first term in office.
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