Congratulations to the Ivory Terminal member who put another notch in the intellectual bedpost this weekend! We are all very proud of you!
Archive for May, 2008
Building upon Ryan’s Point 2, I think the actual marginal price of oil for fuel was revealed by our armed forces:
In a back page Wall Street Journal article, it was revealed that the military thinks it can contract for synthetic liquid fuel for about $6.00US/Gal (a 50% premium over current fuel prices). Reading this stopped me in my tracks.
The tests for this fuel were all run on aerial engines with tolerances that auto manufacturers can only dream about. This was not even mentioned in the article, but if they can make a petroleum replacement that will run in a plane, they can make a derivative that will run in a car. I found this so interesting because I believe that this coming synthetic will create an upper bound for the price of vehicle fuel in the United States much sooner than expected.
As of now, the synthetic fuel referenced is created largely by liquifying coal, which is a process I have viewed cautiously for power plant energy generation. I will be interested to see the debates intensify about using coal as a vehicle fuel if the price of oil moves high enough to be marginalized by synthetic fuel. The article mentions nothing of the environmental impact of creating or burning this fuel. However, I imagine that good or bad, the temptation of domestically reliable liquid fuel will be too much for our legislators to stand up against.
Look out for news about this when gas hits $5.00US/Gal and continues to climb…
Recently, it was announced that double-amputee sprinter, Oscar Pistorius, has won an appeal allowing him to compete with “able-bodied” athletes in sanctioned sporting events.
The summary can be read almost anywhere, but I would like to congratulate Oscar and his team for their enormous accomplishments in athleticism, sportsmanship, and engineering.
I believe technology, determination, and accompanying dissemination of knowledge can alleviate seemingly insurmountable obstacles, and this has become a prominent success story.
Point 2: “Develop domestic unconventional oil and gas resources.”
When we look at the current picture and see our diminishing conventional petroleum resources, we automatically think that this will be the end of oil. Time to switch to something else. The reality of the situation, however, is that oil can come from a number of resources, not just liquid petroleum. Instead of the price of oil simply increasing steadily until we are almost out of it, the price will likely hit a number of plateaus—some which will last for quite a while—as we move through the alternatives.
In this light, Point 2 is can easily be seen as a hedge against Point 1. Exploration of tar sands and oil shale will create these oil price plateaus. So, if Point 1 is either not realized or does not work out as planned, the price of oil will rise until it is cost effective to produce synthetic oil with unconventional methods using non-liquid resources.
This plateau is actually not so very high. In fact, much of the oil we import comes from Canada’s Alberta tar sands. At an estimated $25 per barrel, the cost of producing tar sands pales in comparison to current oil price of $120 per barrel. Compare that $25 cost with $5 for a barrel of Saudi crude and $15 for oil from the Gulf of Mexico. The cost differential between conventional and unconventional supplies begins to seem less significant relative to the high commodity price of oil.
These unconventional oil reserves derived from Utah tar sands and Colorado oil shale—prices for these are considerably higher than Alberta’s unconventional resources, but still quite feasible with the $120 per barrel price tag—will keep Shell in business as the price for a barrel of oil moves upward. Estimates of the resources in the Western U.S. are around 1 trillion barrels. Think of it as a safety valve at which Shell can continue to operate and we can stay in our cars, although there is little doubt that driving habits and technologies will shift at such high prices.
The one holdup is that this move towards unconventional oil has happened before. In the late 1970s there was a significant push to begin unconventional oil exploration in order to exploit the high oil prices of that era. However, it didn’t take long for the bottom to fall out as oil prices plummeted in the mid 1980s, leaving tar sand and oil shale explorers in a much compromised position. Shell would obviously, then, prefer to take the conventional step in Point 1 before risking a significant amount of money in Point 2 both through investment in exploration and to the consequences of the automotive attitude and technology shift that is certain to occur. Shell must tread carefully here.
It is interesting to ponder the shift in oil resource location as commodity prices increase. After the oil price hits a certain point, the amount of reserves from these unconventional sources increases dramatically and all of a sudden a great deal of power transfers to the Americas. The Western U.S., Western Canada, and the Orinoco River in Venezuela all have considerable unconventional resources, which represent a very large amount of global oil resources, both conventional and unconventional. Geopolitically, it may be beneficial for the U.S. to move to this next level of oil prices where it can get oil locally from within its borders and from its closest neighbor and ally instead of relying on volatile regions around the world.
Some conservationists may even agree with this logic as the efficiency of our automotive fleet improves and the fundamental technologies largely remain the same. This is certainly comforting. But as we move forward, we cannot lose sight of the fact that obtaining unconventional oil resources is a lot more like coal mining than conventional oil drilling. Environmental degradation from this type of exploration is horrendous and it is occurring in some of the most beautiful places in North America. Moreover, the amount of energy input required to process tar sands and oil shale is tremendous. This energy demand could very well put increased upward pressure on natural gas prices and expand the use of larger centralized power stations burning coal and splitting atoms.
Moving into the future, there will certainly be some experimenting with unconventional resources to supply our liquid fuel needs and act as a hedge against rapidly increasing oil prices. Again, the geopolitical and technological dynamics of a move to the next plateau is undeniably exciting; maybe even comforting as visions of highly efficient automobiles running on North American resources are conjured up. However, there must be an effort to balance what can be done within the status quo economic outlook and how we move forward in a sustainable manner. Just because we can get it out of the ground and make a profit doesn’t mean that we should.
You cannot glance at political news right now without hearing about the “gas-tax holidays” proposed by Senators McCain and Clinton, and berated by Obama. Economist’s have taken a lot of heat recently in their opposition to this idea. According to proponents of the holiday, they are out of touch with the needs of the American people.
I am simply in shock that there is support for this. McCain showed his true colors by pulling a pick straight out of the Neo-Con playbook:
1. Present a concept that will cost billions and benefit a corporate interest.
2. Explain to “tax payers” that this plan will benefit them, and increase GDP/Spending/etc.
3a. If this concept is stopped by the “enemy”, they are to blame.
3b. If this concept is written into a law, blame the “enemy” for dragging their feet when it turns out to be a catastrophe.
4. Move on to another concept and repeat 1 after consulting relevant lobby.
The gas-tax fiasco was on track to get booted out of committee at warp speed and let McCain bask in 3a until Clinton stepped in with her own version of that made the original plan look boring in comparison. If the McCain plan is Oil Price Manslaughter, the Clinton plan is Oil Price 1st Degree. McCain has only overlooked the demand issue associated with eliminating the gas-tax, and Clinton felt the need to one-up him by also overlooking the “supply-side” (that was too good to let go).
This pair of proposals are so horrible, I almost find it necessary to pass one of them, and then suffer the dire consequences as a nation between the repeal of the tax and election day and beyond. The demand shock, coupled with a supply pinch would almost instantly validate the forecasts of the world’s economists, and could possibly lead to better commodity and fiscal policy in the future. In this sense, the gas tax holiday would be the binge-drinking and sickness portion of an all-inclusive getaway in commodity-land, followed by careful eating and avoidance of the tiki-bar for the remainder of the vacation. All aboard!
Intro
Last night I had the privilege to be present for a talk by Shell Oil’s president John Hofmeister. He outlined a 12 point plan that seeks to create an energy supply roadmap for the United States. Shell’s main goal, of course, is to increase the amount of liquid fuels being burned while decreasing the amount of other fuels being burned. This is a bit clouded by the fact that the 12 points address other energy sources in a way that seems to favor diversity, but closer reading will show that the emphasis is on decreasing the consumption and increasing the efficiency of electricity while sticking to the conventional track with oil consumption.
Hofmeister made it very clear that Shell advocates the conservation of the American lifestyle rather than any effort to conserve energy by altering the American lifestyle. This is certainly a popular idea with all of us and most of us are eager to allow technology fill the gap between resources and desires. Over the next few weeks I will work to analyze these 12 points and provide some information as to what they really mean.
Point 1: “Allow more access to conventional oil and gas.”
Point 1 calls for opening up areas in the U.S. that are currently closed to oil exploration. These areas include places like the outer continental shelf and the Arctic National Wildlife Refuge, also known as ANWR. Hofmeister claims that 85% of the areas where oil reserves could be found within U.S. territory are closed for drilling. What was not discussed is the fact that many of these areas are closed for environmental protection reasons.
Hofmeister made the point that if we keep buying foreign oil, then we are simply shipping billions dollars overseas, thus weakening our own economy. This is a valid point and must be considered in balance with our own environmental initiatives. However, we don’t get as much oil from outside of North America as one would think. That being said, our non-North American imports are still significant. Summing domestic production and imports, the U.S. produces about 40% of this total, Canada contributes 13%, and Mexico contributes 8% for a total of a little over 60% of the oil available to U.S. coming from North America.
We could certainly do a little better by not shipping 40% of what we pay at the pump overseas, but if we open up drilling in currently closed areas, what is the real gain? For Shell, there is some gain in the short term as increased supply could decrease the price of oil. Shell claims that there are 100 billion barrels of recoverable oil in the U.S. Shell also claims that our daily consumption is 21 million barrels, giving us a maximum of 13 years until the recoverable oil in the U.S. is gone. No more oil. This is not a very long time, yet it could certainly make the difference to keep us all in our current cars for the next decade. If the switch away from the conventional automotive paradigm does not come now, it will be necessitated in the near future.
I am not sure if gasoline prices are approaching the point where marginal revenue becomes negative—despite higher prices—due to decreased sales volume, but the argument could easily be made that if prices stay high, people will begin to modify their driving habits. Hofmeister counters this argument by claiming that there has only been a 1% decrease in U.S. consumption despite a doubling in price. Whether this is true at present is not an issue because we have not been dealing with very high prices for very long. However, if the price of oil and gasoline stay high and continue to increase to levels previously unimaginable, there is sure to be a more significant decrease in consumption.
A major change to a more efficient fleet, investment in public transportation, and cultural shift away from driving decreases the potential for Shell to make lots of money both now and well into the future. I imagine Shell wants to avoid this type of technology switching at any cost. Increased hybrid sales and decreased SUV sales show that there is a trend to move away from technologies which consume large amounts of gasoline. Like other phenomena, the market consequences of this switch will be slow to arrive, but the decrease in consumption will be exponential going forward.
Jumping ahead for a moment, Point 9 places an emphasis on switching to a more efficient fleet in the long-term, i.e. to a fleet of hydrogen vehicles whose infrastructure Shell is poised to pioneer. Hydrogen for cars will be a boon for any current gasoline producer as these companies have the branding and the retail infrastructure to transition from gasoline to hydrogen when the time is right.
In summary, it seems that the true goal of Point 1 is to decrease the price of oil—thus gasoline—in the world’s largest market for the short term by opening up more drilling within the United States. This will keep us below the tipping point at which a true cultural shift away from liquid-fuelled automobiles occurs, ensuring Shell’s record profits will continue to pour in until a switch can be made to a non-petroleum substitute for our vehicles. It is plain to see that Shell’s business is our easy mobility under the current liquid-fuelled, automotive paradigm.
Recently, it was announced that the US experienced another quarter of modest growth, controlled inflation, and better than expected employment. This information is disseminated quickly and broadly, and in hours, everyone seems to “know” the results of this data. I was at a sushi bar for lunch, with a TV tuned to CNN as the most recent CPI data was taken in by our intrepid newscasters. The CPI and other data points were announced as instant dogma, with no questioning. In the same hour, there were unrelated stories about the striking rise in both food and fuel prices, and their crushing effect on the “Average American”. How can all of this be? If inflation is controlled, the growth rate of our economy is rising, and unemployment is contained, we should not be hearing about “crushing” prices and “unsustainable” job losses.
Let’s look at the lowest hanging fruit, the CPI. The CPI is an often adjusted “basket” of goods and services purchased by hypothetical average consumers, and the change in costs of these items are used to calculate inflation in the United States. In recent years, “fringe” items like food and fuel have been removed from the CPI-based inflation calculations to prevent excessive changes between measurement periods. What this means for consumers is that the inflation measurement is now based upon a collection of goods that most consumers could get by without in the short-term. The goods included in the calculations have relatively stable prices, as the prices of consumer goods are rarely adjusted to market demand, unlike commodities.
I believe that the CPI and its corresponding inflation statistics should be more volatile, and this should not always be treated as breaking news. Thanks to our 24-hour news networks and culture of fear, single data points are often treated with a significance unheard of in the academic or professional community. Something like the CPI Inflation should fluctuate with market prices, undergo measurement more frequently, and a campaign should be launched to focus on the trends in the data instead of the most recent point. I propose a measurement of something like the Necessary Price Index, compromised of frequently repriced goods and services like food, fuel, medicine and daycare. These are items that our hypothetical consumer normally cannot wait to purchase. This index would more effectively show the market effects of scarcity, consumption, inflation, and speculation. The individual data points would likely be terrifying and exciting to news networks, but the trends shown in the data would give much more clarity to the questions the CPI’s “core” inflation supposedly answers.
The statistics being created with tax dollars are now largely irrelevant to the people they were designed to help, and this should cause an uproar. Instead, we announce the supposed stability with a sense of relief, but privately wonder why our individual situation is so different from the image on the screen in front of us. It is our responsibility to validate these statistics, and question them when they do not measure up. Data can only be as bad as we allow it to be.
What would be in your CPI, and how stable has your “basket” been lately?