Monday, July 10, 2006

Practical Limitations

Only a couple of years ago, Canada put itself near the top of the petroleum world by adding 174 billion barrels of oil sands to its proved oil reserves. This was accompanied by a deft PR initiative that included front-page articles in impressive media such as the Wall St. Journal and New York Times, touting Canada as second only to Saudi Arabia. There's no question that Canadian and international energy companies are investing billions of dollars to boost oil sands production dramatically, from roughly one million barrels per day to three or four in the next decade. Now, however, we're starting to see signs that the expectations surrounding this expansion may have been overly optimistic, as practical limitations set in. This has implications for how we look at all forms of alternative energy.

Extracting oil from oil sands is more difficult and expensive than producing the same quantities from conventional oil reservoirs, even those is deep water, far offshore. The oil in oil sands must be mined like coal, separated from its source minerals, and upgraded in refinery-like plants to turn the heavy "bitumen" into something roughly comparable to a medium-grade crude oil. As a result of all this extra effort, oil sands are inherently more capital-, labor-, and energy-intensive than conventional oil. So it shouldn't be surprising that as production ramps up, bottlenecks are showing up in all these areas: Shell is reporting inflation in the cost of the capital equipment necessary to expand its oil sands operation, and Fort McMurray, the hub of the Alberta oil sands infrastructure, is experiencing labor and housing shortages. There are also environmental limitations, which I've commented on previously. When we factor in all these real-world problems, Canadian oil sands look less like another Saudi Arabia--which has its own untapped heavy oil--and more like a second Venezuela, with comparable technical challenges but much lower political risk.

My purpose here isn't to denigrate the potential of oil sands. They're going to be tremendously important, particularly in helping to forestall a peak in oil production. But they also provide a classic illustration of what happens when we attempt to expand a new energy source to a multiple of its former output in a very short time. For oil sands, the bottlenecks are in labor and hardware; for ethanol they may well be in land use and railroad tank car capacity. Other new sources exhibit other limitations, including electric transmission line congestion, wind turbine production capacity, and shortages of raw materials for solar panels. That means that in addition to investing in the new energy sources themselves, we must expand the means to build them and connect them to markets, adding extra costs and delays.

Many of us are walking around with a false, "revolutionary" model of how energy will change in our lifetimes. It's been put there by the media, politicians and activists, many of whom were advancing an agenda or simply lacked the technical knowledge to appreciate the enormity of the task at hand. Watching the expansion Canada's oil sands provides the real-world challenge to this model of sudden, dramatic energy shifts. We need to understand this instead as an inexorable but gradual process, with revolutionary changes in technology--hybrid cars, for example--feeding into its margins at periodic intervals. That will challenge our patience with high prices, and it makes the aggregation of our personal choices about energy consumption as important as any new technology or project.

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