Energy Economics in the
st
21 Century
Bill Pike
21 April 2010
Points to Remember as We Discuss Energy Economics
• The global oil and gas industry is the world’s largest private
sector enterprise, generating approximately $4.5 - $5 trillion in
gross revenue yearly.
• Oil and gas are commodities. Oil is a global commodity but gas
remains, mostly, a regional commodity subject to local economic
factors.
• Simple supply and demand economics should explain supply,
demand and pricing of oil and gas, but most often do not.
• Despite the rising level of political rhetoric, carbon-based
energy sources (oil, gas and coal) will remain our primary energy
sources through 2035, at the very least.
The Basics
Bill Pike
21 April 2010
Supply and Demand Economics
(Groan)
• Demand – The Law of Demand holds that, other
things being equal, as the price of a good rises,
demand for that good will fall, and vice versa.
Unit Price
The Demand Curve
Equilibrium Point
Quantity in the Market
Supply and Demand Economics
Few of us have experience with the supply side of the
market. Supply is derived from producer’s desire to
maximize profits.
• Supply – The Law of Supply holds that, other things
being equal, as the price of a good rises, its quantity
supplied will rise, and vice versa.
The Supply Curve
Supply Curve
Unit Price
Demand Curve
Equilibrium Point
Quantity in the Market
The Supply/Demand Model
Unit Price
Price and Supply at Equilibrium
Equilibrium Point
Quantity in the Market
World Demand for Energy
Will Continue to Grow
700
Energy Consumption
Quad. BTU
600
500
400
300
200
100
0
70 973 976 979 982 985 988 991 994 997 000 010 025
9
1
1
1
1
1
1
1
1
1
1
2
2
2
Oil
Natural Gas
Coal
Nuclear
Renewables
Source: EIA, International Energy Outlook
By The Numbers
Primary Energy Demand (1015 btu)
2010 2015 2020 2025
• Petroleum
185
204
224
245
• Natural Gas
108
122
139
156
• Coal
108
117
127
140
• Nuclear
30
31
32
30
• Other
39
43
47
50
Source: Energy Information Administration, U.S. Department of Energy
Petroleum Consumption in Developing Nations Will
Exceed Developed Countries by 2025
120
100
80
60
40
20
0
19
70
19
75
19
80
19
85
19
90
19
95
20
00
20
03
20
10
20
15
20
20
20
25
Million Barrels of Oil/Day
140
Developed Countries
Rest of World
Global Energy
Demand
by sector, billions
barrels of oil equivalent
Energy Demand and GDP (1980 – 2002)
Primary energy demand per capita (Gigajoules)
Energy and Well Being
United Nations Human Development Index versus per
Capita Electricity Consumption
1
0.9
Canada
Norway
Iceland
HDI (2003 data)
0.8
United States
0.7
Qatar
0.6
0.5
0.4
0.3
0.2
0.1
0
0
5,000
10,000
15,000
20,000
Electricity, kWh (2002 data)
25,000
30,000
But What About Supply?
• We Know Where There is Enough Oil
– Mature Fields
– Unconventional Assets
– Ultra-Deepwater
– Arctic Regions
But What About Supply?
• We Know Where There is Enough Gas
– Shale Gas
– Tight Gas
– CBM
– Methane Hydrates
to Fuel the World’s Economy and Society for Many
Decades.
So, We Should Be Set to Let Supply and Demand
Economics End This Global Price Roller Coaster Ride?
If You Believe This, See Me
Later for a Really Good
Deal on a Bridge.
Factors Skewing Supply and Demand Fundamentals
• Political and/or economic instability in major
producing areas
War – The Ultimate Instability
Factors Skewing Supply and Demand Fundamentals
• Political and/or economic instability in major
producing areas
• Speculation in the market place
Instability and Worldwide Oil & Gas Reserves
Nationalizing
Unstable
Unstable
OPERATED BY:
NOC
Unstable
Unstable
NonNOC
Oil & Gas Reserves combined
Source: BP Statistical Review
of World Energy 2004
Unstable
Speculation in the Market Place
• Hedging: The spot and futures markets
• Fear that wars, political maneuvering and/or
nationalizations will disrupt oil and gas
supplies leads market traders to buy and
hedge upwards to guarantee supply
• This probably accounts for as much as $15 of
the price of a barrel of oil today
• Most producers would be happy with an oil
price of $75 to $85 per barrel
Factors Skewing Supply and Demand Fundamentals
• Political and/or economic instability in major
producing areas
• Speculation in the market place
• Artificial pricing through subsidies and taxes
Artificial Pricing Through Subsidies
2007 U.S. Energy Subsidies:
• Coal
• Refined Coal
• Natural Gas/Petroleum Liquids
• Nuclear
• Renewables
• Total
$ millions
932
2,370
2,149
1,267
4,875
11,593
Types of Subsidies/Market Intervention
• Direct
Subsidies
• Royalty Relief
• Tax Credits
• Investment Credits
• Depletion Allowance
• Research and Development Funding
• Grants
• Accelerated Depreciation
• Import/Export Restrictions
• Price Controls
Linkage – Subsidies and Prices
In the aggregate, subsidies throughout the world to
any particular form of energy will tend to depress
prices and encourage consumption, and
overconsumption, of the resource.
However, that does not always apply. Many
subsidies to domestic producers, and many import
restrictions, for example, keep these producers
competitive with less expensive imports and/or
options.
Removal of subsidies will save taxpayers billion of
dollars.
Factors Skewing Supply and Demand Fundamentals
• Political and/or economic instability in major
producing areas
• Speculation in the market place
• Artificial pricing through subsidies
• Cost variations – reserve types and recovery
costs
Cost Variations: Price Sensitivity for Development
Source: Martin Wolf, “Coal and open markets are the best hope for energy security,” The Financial Times, 5 July 2006, p 13.
Cost Variations: Processing Costs
• Cost to process a barrel of oil for the refinery
gate
– 160 various types of crude produced worldwide
– a price differential of $15 barrel, or higher
– depending on the composition of the oil,
processing cost can vary widely
The Role of Taxes
Company profit
on a $3 per
gallon gasoline
at the pump is
about
10 cents a
gallon.
Factors Skewing Supply and Demand Fundamentals
• Political and/or economic instability in major
producing areas
• Speculation in the market place
• Artificial pricing through subsidies
• Cost variations – reserve types and recovery
costs
• Regulatory restrictions - Macondo
Regulation and Prices
• Macondo
– Delays due to moratoria and complex permitting
and development regulations will result in the loss
of 82,000 barrels of oil per day in the Gulf of
Mexico next year
– Moratoria in other areas, such as the Arctic, will
forestall or prevent development of incremental
production
What is the story for the U.S.?
• We have significant amounts of mature and
unconventional resources to moderate
declines in domestic oil production.
• However, they won’t be enough to end our
dependency on imported oil.
U.S. Primary Energy Consumption by Fuel, 1980-2035
(quadrillion Btu)
Annual Energy Outlook 2011
“Let us set as our national
goal, in the spirit of Apollo,
with the determination of the
Manhattan Project, that by the
end of this decade we will have
developed the potential to
meet our own energy needs
without depending on any
foreign energy source.”
- President Richard Nixon
(November 7, 1973)
“I am recommending a plan to
make us invulnerable to cutoffs of
foreign oil. … [a] new stand-by
emergency programs to achieve
the independence we want…”
- President Gerald Ford (January
15, 1975)
“This intolerable dependence
on foreign oil threatens our
economic independence and
the very security of our
nation.”
- President Jimmy Carter
(July 15, 1979)
“We will continue supportive
research leading to
development of new
technologies and more
independence from foreign
oil.”
- President Ronald Reagan
(February 18, 1981)
“There is no security for the
United States in further
dependence on foreign oil.”
- President George H. Bush
(August 18, 1988)
“We need a long-term energy
strategy to maximize
conservation and maximize the
development of alternative
sources of energy.”
- President Bill Clinton (June
28, 2000)
“This country can
dramatically improve our
environment, move beyond a
petroleum-based economy, and
make our dependence on
Middle Eastern oil a thing of
the past.”
- President George W. Bush
(January 31, 2006)
“For decades, we have known
the days of cheap and
accessible oil were
numbered…. Now is the
moment for this generation to
embark on a national mission
to unleash America’s
innovation and seize control of
our own destiny.”
- President Barack Obama
(June 15, 2010)
U.S. Petroleum Supply, Consumption, and Net Imports,
1960-2030 (million barrels per day)
History
30
Projections
25
20
Consumption
Net Imports
62%
58%
15
10
Domestic Supply
5
0
1960
1970
Annual Energy Outlook
1980
1990
2000
2010
2020
2030
Instability and Worldwide Oil & Gas Reserves
Nationalizing
Unstable
Unstable
OPERATED BY:
NOC
Unstable
Unstable
NonNOC
Oil & Gas Reserves combined
Source: BP Statistical Review
of World Energy 2004
Unstable
What is the story for the U.S.?
• We have more gas than we know what to do
with.
• We are set to become a net exporter of
natural gas at current resource development
rates.
• However, basic economics may hinder
development of these resources in the near
and mid term.
U.S. Natural Gas Production, Consumption, and Net Imports,
1960-2030 (trillion cubic feet)
History
Projections
30
Consumption
20
Cancelled
15
Natural Gas Net Imports, 2004, 2025,
and 2030 (trillion cubic feet)
25
Net Imports
21%
15%
Production
7
5
10
4
3
2
5
6.4
2004
AEO2005
AEO2006 - 2025
AEO2006 - 2030
6
4.1
4.4
2.8
2.3
1.2 1.2
0.6
1
0
Pipeline
Liquefied Natural Gas
0
1960
1970
1980
Annual Energy Outlook 2005 and 2006
1990
2000
2010
2020
2030
Unconventional Gas to the Rescue
Energy Economics in the
21st Century
Renewable Energies
Renewable Energy Consumption in the Nation’s Energy Supply,
2008
Source: http://www.eia.doe.gov/cneaf/alternate/page/renew_energy_consump/rea_prereport.html
The British thermal unit (BTU or Btu) is a traditional unit of energy. It is approximately
the amount of energy needed to heat one pound of water one degree Fahrenheit.
Renewables Gain Electricity Market Share; Coal Share Declines
billion kilowatt-hours and percent
shares
History
6,000
Projections
5,000
17.0
Renewable
4,000
9.1
Natural gas
21.4
3,000
2,000
1,000
0
1990
20.8
1995
Richard Newell, SAIS,
December 14, 2009
2000
2005
48.5
Coal
43.8
1.5
Oil and other
1.4
19.6
Nuclear
17.1
2010
2015
2020
2025
2030
Source: Annual Energy Outlook 2010
2035
Comparative Electrical Generation Costs
Resource:
Wind
Geothermal
Biomass (direct)
Natural Gas (combined cycle)
Coal
Fuel Cell
Solar (thermal)
Solar (photo voltaic
Source: www.sourcewatch.org
Cents per kwh (2008)
5.7 – 11.3
5.8 – 9.3
6.5 – 11.3
7.4 – 10.2
11.0 – 14.1
12.7 -- 15.0
12.9 – 20.6
16.0 – 19.6
Comparative Electrical Generation Costs
With Federal Tax Subsidies Removed
Resource:
Natural Gas (combined cycle)
Biomass (direct)
Wind
Geothermal
Coal
Fuel Cell
Solar (thermal)
Solar (photo voltaic)
Cents per kwh (2008)
7.4 – 10.2
7.8 – 13.6
8.2 – 16.1
8.3 – 13.3
11.0 – 14.1
15.2 – 18.0
20.6 – 33.0
25.6 – 31.4
Source: Lazard, Levelized Cost of Energy Analysis – Version 3.0, 2009
And, That Is Just With Federal Tax Subsidies
Removed
• It does not take into account state, regional and local
tax breaks
• Direct subsidies
• Land donations
• And myriad other concessions that can and are made
An Additional Cost: Infrastructure Retooling
• How many of you think that all Americans will be
driving totally electric cars in 10 years?
• How many of you think that all your goods will be
moved in totally electric vehicles?
• How many of you think you will have a
photovoltaic array in your backyard?
• Or a geothermal well in your neighborhood?
• How many of you think we have resources or the
intent to totally replace our energy provision and
transportation systems – at today’s usage levels –
in the next 10 years?
Conclusions
• The economics of oil and gas are subject to external forces and
respond to altered supply and demand models.
• Despite assurances to the contrary, we will not end our
dependency on foreign oil nor our vulnerability to fluctuating oil
prices.
• We have massive reserves of clean, inexpensive natural gas.
• The sheer volume of increased gas production may suppress gas
prices and slow future reserves development.
• Wide spread adoption of renewable energy is, at present, a pipe
dream.
• Alternative energy is too expensive, especially in today’s strained
economy, and can currently only be made competitive with generous
subsidies. And the economic limitations are only part of the reason
that renewable energy is not now viable.
• Renewable energy must be developed and made economic. We
must, however, be realistic about how and when this will happen.
Macondo – The 800 lb. gorilla in the room
What we know:
• The accident occurred
because of a combination
of mistakes
• The U.S. offshore oil and
gas industry will never be
the same
• The resultant impact on
the Gulf Coast economy is
severe
Macondo Fallout – Direct Loss of Revenue
• EIA estimates a daily production shortfall in the Gulf of Mexico
of 200,000 bbl in 2011, primarily as a result of moratoria and
new regulations arising from Macondo.
• The estimated development and production cost of a
deepwater GOM project is $65/bbl.
• The multiplier for local and regional economies contacted by
deepwater development is calculated at 2.7.
Using these figures, the revenue shortfall for the
Gulf Coast economies affected by the Macondo
incident in 2011 alone will be:
$35,100,000/day
$12,812,100,000/year
But There May Be Wider Consequences
U.S. Oil Supply Projections – Production VS Imports
12
10
8
U.S. Production
Imports
6
4
2
2011
2012
0
1
2
3
4
5
6
7
8
Will Economic Recovery Be Killed By Higher Oil Prices?
EIA Short Term Energy Outlook 2011
Thanks for
Your Attention.
Questions?