Friday, June 30, 2006
The problem seems to be low sales for hybrid models other than the Prius. With a Ford Escape Hybrid (small SUV, 4WD) carrying a sticker price of $27,845, roughly $3,000 over the comparably equipped 6-cylinder gas model, it would take nearly 7 years for the hybrid's 8 mpg gas mileage improvement to pay out, on an undiscounted basis and ignoring tax credits. That's a tough sell, even with gasoline prices around $3.00/gallon. The Washington Post article linked above cites a JD Power survey indicating hybrids account for only 1% of all US car sales today.
So does it mean anything that Ford has backed off their earlier estimate of how many hybrids they'd sell? If they cancel plans to add hybrid options on future models, then the answer is clearly yes. And if, as they Post suggests, they shift their emphasis to flexible-fuel models, then not only will the growth of hybrids be compromised, but the whole push for reducing petroleum product consumption through quantum-leap technology. That doesn't mean that better transmissions, direct injection and other less costly fixes won't eke out a few more mpg, but these could easily be overwhelmed by persistent consumer preferences for larger, faster, heavier vehicles. The only other technology we can be deploy today that yields fuel savings in the class of hybrids is the diesel.
It's too early to write off hybrids, just as it's too early to conclude they will be the ultimate winner in the brisk competition to determine what will be under the hood of the average car in 2020. The next generation of hybrids is likely to be cheaper and may include the much-touted "plug-in" feature that would allow limited all-electric usage, with zero gasoline consumption. Or consumers may suddenly decide that the trendsetters who've been buying hybrids for the last several years are the folks to emulate, rather than those who've been buying ever-larger SUVs. But Ford's move at least dims the prospects that the next big trend in US cars will be led by a US auto maker.
Thursday, June 29, 2006
Most of us who remember the first oil crisis also recall extravagant spending by "oil sheikhs" on Rolls Royce cars, private jets, and Beverly Hills mansions. This time, the picture is more complicated, with at least some of the money supporting terrorists. But that's clearly not the whole picture. The sums in question are large enough to finance nearly anything we can imagine, and possibly large enough to begin addressing the serious problem of un- and under-employed youth in Saudi Arabia and elsewhere around the Gulf.
At the current OPEC "basket price" and with regional production running at 23.4 million barrels per day, the flow amounts to over a half trillion dollars per year. But even if oil prices fell to $20 per barrel, a figure that seems hard to imagine today but that is much closer to the long-term average oil price, the Persian Gulf would still be drawing in $170 billion per year, which seems more than adequate to finance the other side of the War on Terror. The losers from that scenario probably wouldn't be Al Qaeda, but rather average Arabs.
Skeptics would be right to point out that we've been down this road before. The 1970s-1980s modernization slowed dramatically when oil prices fell back, and it created tremendous wealth disparities within and between the Gulf countries. Nor did it prevent the rise of the anti-American and anti-Western sentiment that blossomed into the present terrorist campaign. But at least two circumstances are different today, offering some hope for a better outcome. The enormous transfer of wealth to oil producers is occurring within the context of rapid globalization and the development of a world-class economy next door: India. It is also able to build on the investments in education and training that have been made in the last several decades, a condition that didn't exist to nearly this degree in the '70s.
None of this means I'm happy with the current state of affairs or prefer $70 oil to, say, $30 oil. I can think of lots of good reasons to reverse the present trends of rising demand and falling production that I discussed yesterday, but I don't include in that the impoverishment of the Arab world. Even if we succeed in reducing our oil imports--a worthy goal, though not at the expense of US economic growth--we all must hope for the success of this round of oil-financed Arab modernization. A prosperous Persian Gulf, with a more diversified economy, may just be our best strategy for an ultimate victory in this protracted conflict.
Wednesday, June 28, 2006
Consider demand management. Over the last year or so, I've commented on endless proposals for gasoline taxes, taxes on engine displacement, taxes on road usage, and tax incentives for efficient cars. The huge size and low turnover rate of the fleet limit the impact of efficiency, and new net taxes would be extremely difficult to pass in a Congress of either party. Nevertheless, only higher fuel prices have been proved to restrain demand, and it's clear from the experience of this year that $3.00/gallon, however painful for many, isn't high enough to reverse our growth trend.
I've really struggled with the idea of higher gas taxes, as regular readers may recall, but I'm not sure there's a better option than to impose a gas tax that is roughly neutral for the average driver, and skip everything else, including all the expensive incentives. $1.50 per gallon, offset by a rebate of $700 per licensed driver/vehicle combination, ought to be enough to do the trick. Under this scheme, someone driving a Chevy Impala 12,000 miles per year would roughly break even. A Hummer owner with the same usage would be out about $900 per year, while a Prius owner would net $375, on top of the inherent economic benefit of driving a 55 mpg vehicle, which already amounts to roughly $800 vs. the average car at $3.00/gallon. If we wanted to make the net impact more positive or more negative, we need only tweak size of the gallon tax and rebate.
But slowing the growth of demand isn't enough; without some prudent deregulation, US oil production will continue to slide, and imports will grow inexorably. In the past, I've characterized the US as the most heavily explored and exploited petroleum province in the world, and that's certainly true, but it applies primarily to the lower 48 states and the near offshore waters. Alaska and the protected segments of the outer continental shelf offer the prospect of another Texas, in aggregate. We can't afford to pass up on that, because almost everything else we have is either in deep decline or headed there. We are simply not going to reduce our imports if we allow domestic production to decline from 6 million barrels per day to 3 or 4 in 20 years' time.
As to funding more energy R&D, I'm all for it, but we need to understand technology development cycles and fleet-turnover and infrastructure-replacement dynamics. Technology alone can't solve this problem--by which I mean deliver actual reduction in consumption in the millions of barrels per day--within this decade, and will just begin to contribute in the next. That means the near-term solutions must come largely from within our current energy suite. So, like it or not, we're stuck with producing more oil where we can, and providing strong encouragement to use less of it. That's not the popular answer, but it's the one with the best chance of making progress towards an independence goal that is roughly 30 years old at this point.
Tuesday, June 27, 2006
I know this probably sounds like more oil-mentality obstructionism, but it goes to the heart of whether we can actually reduce emissions by enough to avert irreversible and deleterious global warming. Reducing emissions at their source, i.e. from automobile tailpipes and factory and power plant smokestacks, will have to be done to some degree, but these reductions are among the costliest available to us. That's because carbon dioxide is not the result of fuel impurities, as are most of the pollutants we've spent the last three decades bringing under control. Rather, it--along with water--is the principal combustion product of all hydrocarbons. So we're not dealing with the consequences of something that is only present at the level of parts per million or even a few percent, but of 100% of the fuel involved. And that doesn't even get into the chemistry involved in separating and capturing CO2, and disposing of it somewhere other than the atmosphere.
Unfortunately, this is exactly where a victory by the states in this case will take us, down the path of trying to reduce CO2 emissions in the same way we've reduced sulfur dioxide and other true pollutants. If they are successful and CO2 becomes a pollutant, it won't just mean higher fuel prices. It will mean much higher prices for everying that includes energy in its manufacture or provision, up to and including the cable- and phone-based ISPs that enable you to read my comments. We'd be infinitely better off setting a cap on emissions and letting the market allocate where to achieve the reductions, particularly given the relative abundance of reductions available from agriculture, forestry and other non-industrial, or at least non-combustion-process, offsets.
So why are the states even going down this path? I can't be the only one who sees the pitfalls of this approach. It all comes back to the reticence of the federal government to address climate change on more than a voluntary basis. If the US had instituted something like the emissions trading scheme that our negotiators persuaded the EU to accept as part of Kyoto, we wouldn't now face the prospect of a Supreme Court ruling that could either dramatically increase the cost of cutting emissions, or set back the cause of US action on climate change by years.
Monday, June 26, 2006
Although I believe there's much scope for improved energy efficiency and alternative energy development, particularly at today's high prices, we must continue to develop new oil and gas reserves to replace those that are declining. This isn't about "drilling our way to independence," as the New York Times suggests, but about prudently managing our remaining resources in order to maximize their leverage on global market conditions, to our advantage. Simply put, we need to enlarge the box in which we've placed the offshore oil and gas industry, in order to slow the decline of US production and spread the risk of disruption from events such as Katrina over a much wider area, preferably including areas that are less hurricane-prone. Representative Pombo's bill to lift the federal ban on offshore drilling appears to be a good starting point.
The title of today's posting also applies to my own post-relocation situation. My office in our new Virginia home is piled high with boxes, and my fax/printer remains MIA. I hope to post on a more regular schedule this week, but I'll appreciate your patience if my comments seem briefer than usual.
Friday, June 16, 2006
Please also note that my email address has changed.
A remarkably (dangerously?) optimistic view of where the balance of oil power lies in the confrontation over Iran's nuclear program:
Over a Barrel, WSJ, 6/2/06
A novel alternative to higher gasoline taxes from a noted economist. This sounds excessively complicated, but it may contain useful elements:
Tradeable Gasoline Rights, WSJ, 6/5/06
Does America need a third party to address comprehensive energy and environmental policies?
Seeds for a Geo-Green Party, Tom Friedman, NYT, 6/16/06 (Times Select may be required to access.)
"Classic Postings" from Energy Outlook:
China is more than a competitor for energy, jobs and markets. It's a large, complex country, the future course of which remains highly uncertain:
The Other Face of China
The media tends to focus on the supply of raw petroleum, but for the last several years the absence of spare refining capacity, particularly in the US, has had as much influence on the prices we pay at the pump. Despite strong commitments in the wake of last year's hurricanes to redress this, little has changed. US refining growth will be largely incremental, while new international capacity will focus predominately on Asia, not us:
Shining a Light in the Corner
Our future demand for oil and gas will depend heavily on some fundamental choices concerning how we will provide motive power for transportation:
Protons vs. Electrons
Electrons vs. Molecules
Thursday, June 15, 2006
Compare gasoline and diesel engines. Although diesel fuel actually has a slightly higher energy content than gasoline, the bigger reason diesel cars go farther on a gallon is that their engines operate at pressures that would have a gasoline engine tearing itself apart from pre-detonation (a.k.a "knocking.") That extra pressure translates into higher thermal efficiency. The MIT engine apparently delivers the best of both worlds: diesel-like efficiency from cleaner gasoline fuel. The trick is injecting separately stored ethanol into the engine cylinders at key times, allowing much higher compression ratios from turbocharging, and smaller cylinders--and thus smaller, lighter and thriftier engines for the same output.
The author considers this system's requirement for delivering and storing ethanol separately as a big hurdle to overcome, and it could be, but part of that problem has already been solved. One of the biggest issues refiners have with adding ethanol to gasoline is that it forces them to ship sub-par gasoline through the long-distance pipelines, and then blend in the ethanol at distribution terminals close to the final point of sale. That's because ethanol creates serious problems in petroleum product pipelines, including corrosion and product contamination. This is the main reason most refiners opted for MTBE when they could, because it had none of these drawbacks. Instead, ethanol is shipped via rail and road, meeting up with gasoline only at the terminal.
So by the time MTBE phaseout is complete, most gas stations will have neat ethanol as close as the distribution terminal that supplies their gasoline and diesel. They'd still need to add an extra tank and pump--and protect it all from water contamination, but this is no different than the problems faced by dealers wishing to sell E85. Refiners, meanwhile, would save by eliminating the RBOB, as the pre-ethanol gasoline blend is called. That would relieve some of the inventory congestion that has contributed to higher prices and sporadic product outages.
What I find so appealing about this notion is that we're already blending ethanol into gasoline in large volumes, for environmental and political reasons. But if we can maximize the benefit from each component by separating them, this could simplify distribution and go a long way toward offsetting the high costs and meager energy benefits of our current grain-based fuel ethanol program. This idea will have to compete with many others, before it can reach the market, but it has a kind of engineering elegance you don't see every day.
Wednesday, June 14, 2006
As I've mentioned several times over the course of my blogging, I had a chance to drive GM's EV-1 battery powered car. It was wonderful; not quite the flying car I'd been promised for the 21st century, but still very high-tech, sleek, powerful and quiet. I can fully appreciate the almost fanatical devotion of EV-1 owners--lessees, really, since none was ever sold outright--and their sense of outrage when GM took the cars back at the end of their 3-year leases. So what went wrong, and why didn't these cars take off and thrive?
There were two fundamental problems, one of which has been done to death in the media: the limited range of battery cars. The first EV-1's were equipped with 26 conventional lead-acid batteries and could go 50-60 miles in real-world driving. The second generation, which came out a year or two later, had nickel metal-hydride batteries and could go about twice as far before needing to be recharged. Now, we can argue about how much of our actual driving would fit nicely within this range, and how terrific these cars would be for urban lifestyles, but only a tiny handful of consumers seemed willing to look past this limitation.
The bigger issue, which went hand-in-hand with the range problem, was the challenge of developing a recharging infrastructure, and this is where my own small contribution came in. I worked with Texaco's marketing department in Southern California to set up EV-1 recharging at a few selected service stations, in order to gain experience with the technology. The cost of buying and installing one "quick" recharger, which would give an EV-1 about a 1/3 charge in 15 or 20 minutes, was around $30,000. Service station owners weren't interested in paying for this, since they didn't expect enough battery car traffic to recoup their investment, so the corporation had to pick up the tab. Even worse, the rules under which the electric car was launched prohibited charging customers a fee to recharge them. So the economic incentive for the service station business to adopt this new technology was nil.
As if that weren't bad enough, fire codes prohibited putting a high-voltage charging facility near the gas pumps. So even if a retail site was willing to host a recharger as a public service, it had to be large enough to provide enormous separation between the gasoline and electric operations. We only found a couple of sites in our network that would have been suitable.
Meanwhile, a competing network of recharging stations was springing up--mostly paid for by the state or city--with rechargers at parking garages, Saturn dealers, libraries, and even a few restaurants. I think there were a hundred or so by the time the program ended. They never reached a sufficient extent to assure consumers that their battery car wouldn't strand them somewhere on the way to work or home. This was the deal-killer, as far as I could tell. Total EV-1 "sales" on a cumulative basis were about 1100, much worse than that of the Edsel that is synonymous with auto industry failures.
Finally, I'd like to report on attitudes within a large oil company about this threatening innovation. Texaco's Chief Technology Officer at the time was fascinated by the EV-1 and was the one who got me involved in the project. The response of our marketing people to our plan to help recharge them ranged from moderate interest--largely as a PR initiative--to cold skepticism. The reaction at corporate headquarters was indifference. I want to stress that I didn't encounter a single manager who saw battery cars as a threat to the core business of finding oil and gas and selling their products to customers.
As to GM, although the documentary makes much of the company's half-hearted efforts to sell the EV-1, every GM official I met at the time was quite gung ho on the technology. And while they might now regret their decision to kill the EV-1 after investing hundreds of millions in it, what corporation in any line of business could afford to sustain such an expensive but remarkably unsuccessful effort? Conspiracy titilates us, but the truth is often more mundane. The EV-1 failed as a product launch, not as an idea that threatened vested interests.
Tuesday, June 13, 2006
Sunday, June 11, 2006
Ah, Those Subsidies (November 5, 2004)
Periodically I'll run across an article on renewable energy, whether solar, or wind, or something more exotic, in which the author will downplay the importance of government subsidies in making them more competitive with traditional energy by citing the "hidden subsidies" that fossil fuels enjoy. They then go on to assert that if fossil fuels had to carry the full burden of those hidden subsidies, renewables would either compete now, or be on the verge of being fully competitive. This kind of thinking holds back the development of renewable energy, rather than advancing it.
Let's start by considering what might be included in such subsidies. Given current events, some sort of security subsidy seems like an obvious and important component. A lot of oil comes from a part of the world where the US has to maintain a big military presence to ensure continued access, the Middle East. By comparison, renewables are mostly homegrown, so they impose no such burden.
The other major category of subsidy usually cited is environmental. The use of fossil fuels emits oxides of sulfur and nitrogen into the atmosphere, along with a bit of heavy metals and gobs of carbon dioxide. In addition to the high cost of mitigating these at the source, which is paid directly by the producer or user, this pollution imposes costs on society via effects such as smog, acid rain, and their consequences.
All of this can be estimated and quantified, and a number of academic studies have done so. The resulting value of the "hidden subsidies" for fossil fuels ranges from fractions of a cent to roughly 12 cents per gallon. (This figure could be even higher, depending on how much of the annual defense budget you want to attribute to oil security.) Even if you quibble with some of the methodologies in question, it's pretty obvious that the figure isn't zero, and that economic decisions about our energy systems ought to take this into account.
But if we're going to look at the full economic cost of using fossil fuels, we should also consider the offsetting penalties built into the current system. Most of these penalties come in the form of taxes, and they are significant.
Consider the taxes on road fuels. In the US these include both federal and state excise taxes, and state sales taxes. In theory the revenue from these taxes is meant to fund highways and roads, though in reality it often disappears into general funds. Federal tax collections from road fuels totaled $32.4 billion in 2001. States collect anywhere from 8 cents to 26 cents per gallon (yielding another $30.3 billion in 2001), plus sales taxes, which go up with rising fuel prices. So even in the US, with much lower fuel taxes than Europe, we're in roughly the same ballpark as some aggressive estimates of the hidden subsidies.
So what is the point of all this? I assure you it's not just another argument for the status quo, although I suppose some might see it that way. After all, gasoline is cheaper than bottled water, and it will be a while before any practical alternative can make the same claim. My point is that the whole argument about hidden subsidies is a red herring, because the case is highly debatable, at best.
If we decide that it is worthwhile to subsidize alternative and renewable energy, then we should just get on with it, rather than rationalizing that the competitive bar is kept higher than it might otherwise be, because of some sneaky subsidy for fossil fuels. You're not going to displace fossil fuels on economics alone, no matter how many "externalities" you include; what is needed is something that is at least as practical and convenient, but that also supports our other, non-economic values.
Thursday, June 08, 2006
The Indian Point situation exemplifies several trends that I've focused on since the inception of this blog two-and-a-half years ago. First, there's the inherent incompatibility of economic growth facilitated by increasing energy consumption with regulatory policies that make it extremely difficult to build new energy facilities near population centers. This is compounded by the sort of NIMBY-ism that takes no account of the economic benefits of the facility in question. Add to this the current strain of unprioritized environmental concern, and you have a recipe for disaster. While nuclear power is a mixed bag, environmentally, it is undeniably the largest source of greenhouse-gas-free electricity that we have. Climate change poses a much bigger problem than nuclear power, as many people are starting to realize, including some notable environmentalists.
It's also important to remember that opposition to Indian Point didn't begin on September 12, 2001. Although the current campaign to shut down the facility focuses on the risks of a radiation release resulting from terrorism, opponents have been working to shut down the plant for much longer. Their campaign has polling data that suggests most local residents want the facility shut down, and I don't doubt that. How many of us actually worry about where the current comes from, when we flip a switch?
The federal report on Indian Point suggests it would be very difficult to replace the 2,000 MW capacity of these plants, and I don't doubt that either, because alternative generation (and its fuel sources) won't get permits, and the mooted efficiency projects-- which certainly have the potential to displace the load being served by Indian Point--have a way of never materializing or being swamped by new demand.
Sadly, I continue to believe that we are headed for a national train wreck on energy, and there's every indication that this part of the country will experience it before many others. That's not why I'm moving my family south, but it's a nice side benefit.
My next new posting probably won't happen until next Tuesday or Wednesday.
Wednesday, June 07, 2006
In order to accelerate a shift to fuel efficiency, the buyback program would have to result in the destruction of a large number of the least economical cars on the road. Simply trading them in wouldn't be sufficient, because a used car gets sold on to someone else and could easily remain on the road another decade or more. That means that the program would have to purchase cars for more than they would be worth as trade-ins, probably by at least 10%, though even offering straight Kelley Blue Book could bring in a lot of cars in worse-than-average condition.
The program would also have to include restrictions on the kind of replacement vehicle toward which the buyback voucher could be used--I'm not advocating handing out cash. A good starting point would be to require that the new vehicle--and it ought to be new, not used--must get at least the automobile CAFE average for the year, currently 27.5 mpg. Upgrading a million 15 mpg SUVs this way would increase average fleet fuel economy by 0.25 mpg and save 375 million gallons of gas a year, or about 25,000 barrels per day. That doesn't sound like much, but our total production of ethanol is only 10 times larger than this volume. If this were done every year, the benefits would compound.
Clearly, this wouldn't be cheap, if it were done on a large enough scale to matter. Keeping the costs down probably requires targeting cars older than 5 years. There's probably a "sweet spot" in terms of maximizing the number of gas-guzzling cars junked at the lowest cost. That would have to be determined. We can make a rough guess by looking at the Blue Book values of 7-year-old SUVs. A 1998 Ford Explorer 4x4 in good condition with 72000 miles on it would fetch between $4-6,000. Junking a million such SUVs would thus cost more than $5 billion. That's not small, but it could be covered by increasing the federal gasoline tax by just 3.5 cents per gallon.
Aside from the obvious gas mileage benefits, this program would be a bonanza for struggling US car manufacturers. Even if GM, Ford and Chrysler weren't able to increase their market share against imports, they would still sell nearly 600,000 more cars than otherwise, with accompanying benefits for profitability, employment, and pension contributions. The combination of an expanded market for efficient cars and higher gas taxes would give carmakers greater incentive to develop more efficient models.
I admit that this idea is still in the half-baked stage, and I'd welcome suggestions for improving it. However, with all the ideas floating around for what to do with the proceeds of higher gasoline taxes--for which there's more support than there has been for at least a decade--this approach could prove as practical and effective an energy conservation measure as anything else under consideration.
Tuesday, June 06, 2006
One of the major uncertainties in the analysis of climate change relates to the degree of response by the climate to the inputs that influence it, including our greenhouse gas emissions. Over how broad a range of greenhouse gas concentrations is that response proportional, and at what point do the "reinforcing loops"--mechanisms such as methane emissions from melting Siberian permafrost, which results from past warming but could accelerate future warming--kick in and lead to disproportionate responses? The evidence of past conditions falling well outside the bounds of what climate models would predict ought to ring alarm bells.
While some will see this as invalidating--or at least undermining--existing models, it at least suggests that the models haven't nailed down these reinforcing loops fully. I.e., future warming might be much greater--or much less--than the couple of degrees predicted by the end of the century. In layman's terms, the scale of climate risk just got bigger.
The other part of this finding, the possibility of large oil reserves under the Arctic, could raise quite a ruckus. One of the researchers commented about the negative reaction among his colleagues, because of the large source of atmospheric carbon these potential oil reserves represent. The presence of valuable resources under the Arctic could also put more urgency into the resolution of conflicting sovereignty claims. It might take decades to produce any oil found in the deep Arctic Ocean, but a review of the rapid development of deepwater drilling technology favors an optimistic outlook. For those who think that running out of oil is our best insurance against climate change, this won't be good news.
It will take some time for climatologists and geologists to digest the findings of this report and subject it to the usual peer review. If it proves out, then climate change should be viewed as even more serious than we suspected, requiring more emphasis on both mitigation and adaptation. At the same time, finding another North Sea or Gulf of Mexico under a warming Arctic could change the global oil balance, pushing Peak Oil out another decade.
Monday, June 05, 2006
Consider the challenge faced by the people of Reynolds. Not only must they grow enough crops to produce about 250,000 gallons per year of fuel, based on average per capita consumption in the US, and convert enough manure to displace the natural gas used by all their homes and businesses, but if they want to do this right, they also have to generate enough excess gas to run their ethanol and biodiesel plants and to replace the natural gas that went into making all the fertilizer this operation is going to require. This is a useful experiment, because it would finally settle a question that has dogged the fuel ethanol industry since its inception: how large is the energy surplus it creates? The latest estimate is 20%, but if skeptics are right, there's a net deficit and any attempt to "close the loops"--at least using traditional, rather than cellulosic ethanol--will fail.
There's another way to look at this endeavor, though. The scale of the challenge for the self-proclaimed "BioTown" is enormous, not because energy companies have gotten us addicted to cheap energy and then squeezed us to maximize their profits, as some suggest, but rather because the energy surplus created by fossil fuels is so large. BioTown, which the governor of Indiana apparently sees as "a stunt," might just succeed at becoming self-sufficient in energy, but scaling this up across the entire country would stand the whole economy on its head.
In our worries about the stability and cost of imported oil, we can't afford to lose sight of the fact that energy isn't an end-result for a country like ours; its very importance derives from its key position near the beginning of so many value chains, as a key input in much of our economic activity. In order to be cost-effective, our sources of energy much be highly leveraged. In other words, they need to return large quantities of energy for modest energy inputs, to provide the energy surplus to fuel our GDP. That's not an argument against renewable energy, per se, but it does provide a tough criterion that some of our current alternative energy efforts could not pass. If every town in America followed Reynolds in becoming energy self-sufficient, we'd have all the energy we need for our homes and cars, but nothing to sell to the countries that make our computers, TVs, iPods, and all the other goods we import.
Friday, June 02, 2006
Mr. Koch knows more than a thing or two about energy projects. Aside from being a member of the family that founded Koch Industries, one of the largest privately-owned energy companies in America, he has been a major energy investor in his own right for decades. The fact that he was personally invited to invest in Cape Wind and apparently owns property in the area lends added spice to the story.
If you can access the article, you'll read a detailed economic breakdown of the projected costs, returns and risks of Cape Wind. Mr. Koch concludes his analysis with a firm rejection of the project on its merits. The issues he addresses must be factored into any serious long-term energy policy for this country. First, he identifies the financial exposure created by the failure of the Congress and states to provide alternative energy incentives of a duration matching the investments. A major capital project such as an offshore wind farm requires many years to pay out; a wind tax credit that is renewed on a year-by-year basis just doesn't meet the investors' and developers' needs. (The same is true of a solar credit in California, under which PG&E is already approaching the 0.5% of capacity cap on solar power purchases.)
We also see the impact of the protracted delays this project has experienced, due to local opposition. Slipping 2 or 3 years would severely impair the returns of a conventional energy project, such as an offshore oil platform, because the first revenues arrive so long after the first investment is made. Cape Wind may be even worse off, as its construction costs skyrocket in the midst of a global boom in construction materials, while the approval process drags out. According to Mr. Koch, a project that could have been built a couple of years ago for well under a billion dollars would now cost roughly 100% more. Moreover, he suggests that the local grid is awash in excess capacity, indicating that power from Cape Wind might not even be dispatched at the prices it would have to charge to make a profit. This is a truly devastating critique.
I'm sure the developers of Cape Wind will respond with their own figures. Things may not be quite so bleak, and I suspect they would not regard Mr. Koch's comparison to a coal-fired alternative as truly equivalent to offshore wind power. The price of natural gas has also more than doubled in the four year interval that Mr. Koch considered, raising the costs of wind's nearest real competitor. But the message here is clear: if we want the private sector to step up the pace on alternative energy, these projects must pass the same sort of business criteria as conventional energy projects. So if they depend on government incentives, then those incentives must last at least as long as it takes to generate a return on investment that exeeds government bonds. They should also be approved or rejected promptly, to keep attractive up-front economics from being drained away by opposition groups, rather than through exposure to the market risks that any energy project must withstand.
Thursday, June 01, 2006
Consider some of the assumptions implicit in US energy and environmental policies and consumer behavior of the last couple of decades. Few of these were ever articulated this way, but I think they're all defensible as being logically consistent with our actions. If some of them seem mutually contradictory, that's because they are. In general, we have behaved as if:
- Oil and gas, and their resulting products, would be as plentiful as we might wish, regardless of the restrictions we place on the industry that finds and produces them.
- If sufficient oil can't be produced in this country, someone else would sell it to us at a price we would be happy to pay.
- If sufficient natural gas can't be produced in this country, someone somewhere else (not here) would import it for us.
- If oil prices got high enough, environmentally beneficial substitutes would flourish and displace petroleum.
- If energy prices got high enough, consumers would conserve by changing their behavior and investing in more efficient devices.
Oil sands production is one of the most important "alternative energy" technologies on the planet today, in terms of its economic and net energy contribution over the next decade. In it we see the simultaneous breakdown of several of the above assumptions:
- The production of conventional oil has failed to keep up with demand, in part because we've fenced off places like the Arctic National Wildlife Refuge (ANWR,) and because the foreign owners of most of the world's remaining oil reserves have chosen to restrict access for developing more production capacity, and thus limited supply and driven up prices.
- High energy prices have not throttled back demand very much, because of the time lags inherent in turning over fleets and capital stock--including homes far from jobs--and because oil at $75 still generates significant economic value when it is consumed.
- High energy prices have helped advance some clean alternatives, such as wind power, but they have lit a rocket under oil sands production.
As regular readers of this blog have probably discerned, I regard oil sands as a vital component of the supply buildup necessary for avoiding an imminent peak in oil production. But I also find it ironic that the technology that could have the biggest impact on reducing the price Americans pay at the pump combines the worst elements of oil drilling and strip mining. We've effectively traded off the petroleum development of selected parts of the US--ANWR and the outer continental shelf outside the western Gulf of Mexico--in favor of the much larger environmental footprint of developing the unconventional oil reserves in our northern neighbor. Canadians and Canadian companies will make a mint off our choice.
I'm still optimistic about the pace of development of alternatives to oil and other fossil fuels, but I'm also realistic about the quantity of oil we're going to burn before things like biofuels, hydrogen from wind and solar power, and other clean technologies can grow large enough to capture even the annual growth in transportation fuel demand, let alone eat into oil's current 97% market share. In that light it ought to matter to us where and how that oil is produced, and that means realizing that our past assumptions about the likely alternatives to ANWR and offshore drilling have been naive, at best.