Oil’s Tightening Spiral

February 6, 2016

Any impact or non impact of a carbon tax may be trivial compared to the growing geo-political and technological challenges to the Oil industry.

Amory Lovins for Rocky Mountain Institute:

Those who claimed low oil prices would crash renewables (other than biofuels) were wrong. The reason is simple. Wind and solar power make electricity. Oil makes less than four percent of world and under one percent of U.S. electricity, so oil has almost nothing to do with electricity. Thus in 2015, as oil prices kept skidding, global additions of renewable power set a new record, adding about 121 GW of wind and solar power alone. Renewables’ $329 billion investment was up 4% from 2014, says Bloomberg New Energy Finance (which tracks each transaction), but it added 30 percent more capacity because renewables got much cheaper. Solar power is booming even in the Persian Gulf, where it beats $20 oil.

Natural gas does compete with solar and windpower, and its price tends to move with oil’s, but cheaper gas doesn’t much affect renewable power either. That’s because new wind and solar power often beat even the operating costs of the most efficient gas-fired power plants anyway, even without counting the market value of gas’s price volatility.

Yet as oil prices gyrate, it’s important to understand that underlying trends are shifting too, to oil’s disadvantage. It’s happened before. In the 1850s, whalers—America’s fifth-largest industry—were astounded to run out of customers before they ran out of whales. Over five-sixths of their dominant market (lighting) vanished to competitors—oil and gas both synthesized from coal—in the nine years before Drake struck “rock oil” (petroleum) in Pennsylvania in 1859. Two decades later, Edison’s electric lamp beat whale oil, coal oil, town gas, and John D. Rockefeller’s lighting kerosene. Today in turn, most  traditional lighting is being displaced by white LEDs, which each decade get 30x more efficient, 20x brighter, and 10x cheaper. By 2020 they should own about two-thirds of the world’s general lighting market.

LEDs inside-out are PVs—photovoltaics, turning light into electricity. PVs often, and very soon generally, beat just the fossil-fuel cost of running traditional power plants. PVs are now less capital-intensive than Arctic oil, not counting the ability to use electrons more effectively than molecules. Costly frontier hydrocarbons like Arctic oil can’t sell for a high enough price to repay their costs. Their revenue model has been upside-down for years. Had Shell persevered instead of abandoning its $7-billion Arctic investment, and had it found oil, it wouldn’t have won durable profits.

Oil companies since 1860 and electric utilities since 1892 have sold energy commodities—molecules or electrons—rather than the services customers want, such as illumination, mobility, hot showers, and cold beer. This business model means that when customers use the energy commodity more efficiently to produce the service they want, the provider loses revenue, not cost. That’s bad for both electric utilities and hydrocarbon companies, because most (and for oil, ultimately all) of the commodity they sell can be displaced by far cheaper energy productivity.

That displacement is already well underway. Renewable electricity merits and gets lots of headlines, but in 2014 it raised U.S. energy supplies only a third as much as the energy saved in the same year by greater efficiency. Over the past 40 years, Americans have saved 31 times as much energy as renewables added. Those cumulative savings are equivalent to 21 years’ current energy use. They’re simply invisible: you can’t see the energy you don’t use. But globally, it’s a bigger “supply” than oil, and inexorably, it’s going to get much, much bigger.

Oil companies worry about climate regulation, but they’re even more at risk from market competition. The oil that’ll be unburnable for climate reasons is probably less than the oil that’ll be unsellable because efficiency and renewables can do the same job cheaper. An oil business that sputters when oil’s at $90 a barrel, swoons at $50, and dies at $30 will not do well against the $25 cost of getting U.S. mobility—or anyone else’s, since the technologies are fungible—completely off oil by 2050. That cost, like the $18 per saved barrel to make U.S. automobiles uncompromised, attractive, cost-effective, and oil-free, is a 2010–11 analytic result; today’s costs are even lower and continue to fall.

In short, like whale oil in the 1850s, oil is becoming uncompetitive even at low prices before it became unavailable even at high prices. Today’s oil glut, we hear, is caused by fracking, a bit by Canadian tar sands, and most of all by the Saudis’ awkward (though impeccably logical) unwillingness to give up their market share to higher-cost competitors. But less noticed, and equally important, is that demand has not lived up to irrationally exuberant forecasts.

Gasoline demand has trended down in the U.S. for the past eight years and in Europe for the past ten, for fundamental and durable reasons of technology, urban form, shifting values, and superior ways to get mobility and access. Suppliers have invested to supply more oil than customers want to buy. Had crimped budgets not curtailed investment budgets, oil companies would still be building pre-stranded production assets as fast as they could.

As frontier oil becomes costlier while accelerating demand-side innovations spread from rich to developing countries, led by China, oil companies face discouraging fundamentals. They’re stuck with the least attractive 6% of global reserves while parastatals keep the rest, and even that last 6% can be confiscated or taxed away at any time. Oil companies are price takers in a volatile market. They’re extraordinarily capital-intensive. They have decadal lead times. They have high technical, geological, and political risks. They’re politically fraught and interfered with; some firms have also suffered self-inflicted reputational damage that sullies the rest. Oil companies’ shrinking reserves and geographies force them into riskier and costlier projects while investors demand lower risk and higher return. Their service companies have turned into formidable competitors. Their permanent subsidies are coming under scrutiny and pressure. Most of the reserves underpinning their balance sheets are unburnable or unsellable or both—far costlier than demand-side competitors, even at today’s oil prices, and increasingly challenged even on the supply side—so financial regulators are sniffing around mark-to-market.

What a recipe for headaches! Why be in a business like that? With mature provinces in decline and fiercely contested, prices volatile, ingenuity strained, exploration pushed to the ends of the earth at spiraling cost and risk, and unforeseen competitors inexorably taking away demand, should hydrocarbon companies ignore, deny, resist, diversify, hedge, finance, transform, or decline? That strategic choice is stark, tough, and increasingly urgent.

And that’s before we add oil’s volatile geopolitics—focused chiefly on the world’s most unstable and dangerous region where a Rubik’s Cube of ancient feuds ensures that, as one expert famously taught, “However bad things are in the Middle East, they can always get worse.”

One troubling scenario concerns the brittleness of Saudi Arabia’s vital 10 million barrels of oil per day—5–10 times the world oil market’s surplus. Most Saudi oil flows through terminals at Ras Tanura and Ju‘aymah and through the Abqaiq processing plant (which al Qa‘eda tried to attack a decade ago and then planned to fly hijacked planes into). These highly concentrated facilities have also been attacked, so far ineffectually. It could take decades to fix damaged key components.

Who might want to do that? Da‘ish or al Qa‘eda would win a twofer: damaging Western economies and toppling the Saudi monarchy (whose export of intolerant Wahhabist ideology, ironically, inspired jihadism in the first place). Oil exporters severely damaged by low oil prices, such as bystanders Nigeria and Venezuela, lack capability to limit Saudi output. But two very interested neighbors might not.

Iran is right across the Gulf, with two big airbases a quarter-hour’s flight from the Saudi oil chokepoints. Iran is a bitter rival, the opposite pole of the tense Shi‘a-Sunni axis, and influential with the disaffected Shi‘a population that predominates in the eastern Saudi region around the main oilfields. Iran is currently in a tiff with the Saudi leadership. Its versatile and creative military and paramilitary forces and proxies don’t not always seem under full political control. Reentering the oil market with the lifting of nuclear sanctions, Iran would like to earn more money per barrel.

Also now active in the neighborhood is militarily formidable Russia—the world leader in secret, disguised, and proxy warfare. President Putin’s impressive ability to retain power by seeming to protect the Russian people from crises he manufactures cannot work without a viable domestic economy. At today’s oil price, Russia is likely to deplete its stability funds this year and its foreign reserves by about next year, so Mr. Putin may see a much higher oil price (plus lifted Ukraine sanctions) as an existential necessity.

Ras Tanura and Saudi Aramco have weathered cyberattacks. (Both Iran and Russia have lately cyberattacked their neighbors—Turkey and Ukraine respectively.) There are also many options for physical attack, some hard to forestall. So far, Saudi forces have defeated both cyber- and physical attacks on key oil facilities. But attackers need succeed only once, and they could be highly motivated.

A successful attack, strangling Saudi oil output for years (and then repeatable), could make oil prices soar more than they’ve plunged. Massive global inventories could help cushion the blow, efficiency and renewables could be surged, behaviors would change, but most of 10 million at-risk barrels per day lack ready replacements. Now, that could justify a skittish Dow.

All the more reason to buy efficiency and renewables instead of oil. We’ll profit more and sleep better.

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10 Responses to “Oil’s Tightening Spiral”

  1. Bobaspergersr2@aol.com Says:

    Amory Lovins is a national treasure for his knowledge of energy, energy production and trends, history, and future introductions of technology and efficiencies. He has not yet spoken about LENR, although I am sure he is fully updated on the work status of this new power source as he is a consultant to the USA and China energy agencies. I met him after his lecture at the Rice University’s, Baker Institute’s Energy Forum about 5 years ago. He signed has then just released tome on the world energy situation.

  2. Gingerbaker Says:

    Petroleum products do one thing a lot better than electricity – making heat.

    We have to have a tough conversation about how we are going to heat homes without fossil fuels. We are either going to have to mandate low electricity prices with a publicly-owned nonprofit utility system, or pay for higher prices and profit margins for private companies with our tax dollars, or just let millions of Americans suffer or die.

    Make no mistake about it – we will all be paying for other peoples heat. We can do it at cost – with a public utility, or we can do it for the same cost PLUS a lot more money for the profit for corporations and shareholders.

    • rabiddoomsayer Says:

      Reverse cycle air conditioning is much more efficient at heating than oil. Better insulation makes for much lower heating bills. Thermal storage plus super insulation can come close to avoiding the need for heating altogether.

      A new built house constructed energy efficiently need not cost more than a traditional design. But people are stupid, even the no cost options are ignored. (I live in a very mild winter, hot summer climate; but so much new construction has black roofs. Just dumb.)

      • uknowiss Says:

        You’re 100% correct. There is now NO excuse for new dwellings to not be as efficient as possible as the materials and construction costs of incorporating passive heating/cooling/lighting and insulation is minimal and in many cases cheaper than going down the traditional road. I guess the issue is for those in already existing dwellings and those too poor to make changes. Transition is always slow on the individual level.

        • j4zonian Says:

          There’s not even any excuse for the buildings built since 1973 being inefficient, fossil fuel0-wasting monstrosities. We should have not only been putting in more insulation, but designing houses better and more appropriately to their location, the way houses have been since ancient times. Passive solar and ACES pre-heating and pre-cooling systems, massive construction to provide a thermal flywheel and other methods of reducing energy use by buildings. There’s no reason any building put up since 1975 should be using any net energy at all.

          For buildings in very cold climates heating oil can be replaced by electricity, powered by wind (which tends to peak at those peak demand times in those places) as well as hydro and other renewables.

          That we’ve ignored our knowledge and all sense and wisdom on avoiding the ongoing catastrophe is inexcusable.

          • uknowiss Says:

            Indeed but putting toothpaste back in the tube is difficult and its obvious nobody in the future has invented a time machine. The key now is to move forward and fast.

          • Gingerbaker Says:

            Remember that conversation I said we all need to have? You all just did NOT have it.

            You all gave great advice about what we should be doing – but you all skipped the part about what 100 million Americans – who have zero money to spend on superinsulation or heat pumps or new construction or passive solar or thermal flywheels or whatever – can actually do.

            They heat their homes or their apartments with oil or gas. If you want them to stop burning fossil fuels, you are going to have to come up with a real-world answer, not blithely spout green energy new age-isms.


  3. Reblogged this on A Green Road Daily News and commented:
    And then there are all of the externalities that are not measured or included in the price of carbon fuel products. These externalities mean global suicide long term.

    How many people want to commit suicide?

    Raise your hand… come on, don’t be shy…


  4. […] the day after President Obama proposed a limited tax on Carbon, conservatives Art Laffer and Bob Inglis explain why it would be better to tax that way than to get […]

  5. webej Says:

    Interesting article but marred by gratuitous political postures towards the end.
    It is disingenuous to mention Russia and Iran as sources of industrial sabotage on the heels of the fact that the stuxnet worm was launched by the west (Israel/America).

    Also now active in the neighborhood is the militarily formidable USA (>50% of global military spending with bases/activities in 143 countries around the globe) —the world leader in secret, disguised, and proxy warfare. The military industrial complex’s impressive ability to increase its power by seeming to protect the American people from crises it manufactures: Iran, Iraq, Afghanistan, Libya, Syria, Yemen, Egypt, taliban, Homeland security, TSA …


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