I thank Corrado Clini, veteran climate negotiator, former Minister for Environment of Italy and Member of the Advisory Committee of GEIDCO for his advice in writing this article on the post-oil energy matrix. His comments and critical inputs were a great contribution.
GAME OVER FOR OIL
U.S. oil consumption is at its lowest level since 1971 when production was only about 78% of what it was in 2019. Worse yet, oil futures are for the first time in history below zero, revealing the surging cost of storing oil. With the demand for oil sinking by 20 million barrels a day, the fossil fuel industry is facing an existential crisis. More importantly, the change – and oversupply – is structural. As the experience of the European Union shows, the world energy system is going through a transition as it decouples from carbon, population and economic growth. Are we witnessing the decarbonization of the global economy?
RETREAT FROM FOSSIL FUELS?
More than half (29% nuclear and 27% renewables) of the EU-28’s electricity production was accounted in 2017 by zero/carbon neutral sources, while coal was about 19%, natural gas 14 % and crude oil 10%. Over the last 10 years the production from renewables increased by 71.0%, by partially replacing the production of fossil fuels-based sources of energy. The development and promotion of new technologies and best practices improved significantly the energy efficiency, and today the EU energy consumption is below the 1990 levels.
A NEW ERA FOR THE GLOBAL ENERGY MARKET
Even prior to COVID19, most analysts forecast that the global peak in oil demand would be reached between 2030 and 2035 followed by a steady demand reduction. Also the International Energy Agency CIE(IEA) projections point in this direction foreseeing oil demand to plateau in the 2030s. This process has weighed negatively on investment decisions, both in the oil & gas industry and in the renewables sector. The energy transition needs money. The International Energy Agency estimates that by 2050 the global energy system will require an additional $29tn of capital to be invested — over and above the growth capital required to meet the expanding demand for energy globally.
Until the COVID19 crisis, it was expected that most of that investment would have to come from capital markets in a volatile environment with little policy certainty relative to the future of oil. The 2015 climate agreement in Paris had not offered much help. A declaration of principles more than a framework of rules, it left the markets and the industry alike in the dark without clear policy signals on what the long-term price for carbon is going to be and, – most importantly - when there will be an effective mechanism to implement it.
BEYOND PARIS ELECTRIFICATION IS A COST-EFFICIENT, VIABLE WAY TO FIGHT CLIMATE CHANGE
The multimillion dollars recovery packaged for the post COVID19 recovery could be a game changer and inject new lifeblood into the new energy sector, propelling the accelerated build-up of the infrastructure of the energy transition. In primis electricity grids. If it is true that without policy certainty, pricing carbon risks and opportunities is going to remain highly complex, however, all decarbonisation scenarios show a decisive increase of electrification rates for all energy consuming sectors: industry, buildings and transport.
The “Global Energy and Climate Outlook 2019: Electrification for the Low-Carbon Transition The Role of Electrification in Low-Carbon Pathways, with a Global and Regional Focus on Eu and China” is a report published by the European Commission’s Joint Research Centre (JRC), the Chinese National Centre for Climate Change Strategy and International Cooperation (NCSC), and the Energy Foundation China (EFC). The Report presents a special insight into the role of electricity in regional GHG emission reduction pathways for the European Union and China.
The scenarios presented in this study show possible pathways to contain global warming to 2°C by the end of this century with different roles for electricity as a crucial energy carrier.
THE 2C TARGET IS TECHNICALLY POSSIBLE AT RELATIVELY LOW COST FOR THE OVERALL ECONOMY
The “Research Report on Global Energy Interconnection (GEI) for addressing Climate Change”, was also published in December 2019 by GEIDCO (Global Energy Interconnection Development and Organisztion) IIASA (International System for Applied System Analysis) and WMO (World Meteorological Organization). The report comprehensively analyses the energy system and mitigation technology of GEI in 2℃ and 1.5℃ scenarios. The results are remarkable. By 2050, the global intercontinental power trading volume will amount to 800TWh; the cross-region power flow will be 660GW; clean energy will account for 86% in primary energy; the cumulative global CO2 emissions will be kept under 510 billion tons; and the discharge of sulfur dioxide, nitric oxide and PM2.5 will drop by 86%, 98% and 93% respectively.
The reports show that the 2°C target is technically possible at relatively low cost for the overall economy: globally aggregated GDP reduction ranges between 0.2% and 1.0% across electrification scenarios in 2050, relative to a current policy reference. The range highlights that strong enabling conditions for electrification can play a significant role in lowering the macroeconomic costs of action. Importantly, these numbers do not account for the costs of inaction.
CLIMATE AND ENERGY SECURITY: IS BIG OIL READY FOR THE NEXT ENERGY MATRIX?
While agreeing on the fundamental analysis, most of the traditional energy industry, however, expected the shift to be slow. One of the critical areas was deemed to be road the transport sector and especially road transport which is vital also for tax revenues in many countries. In Europe fossil fuels still accounts for 94% (was 96% in 2011) of the EU transport energy demand (European Commission 2017). Additionally, the share of transportation GHG emission even increases to 21.7% of the total (EEA 2018), higher than the 20% in 2011. In a recently published Outlook on the EU road fuel consumption through 2035, Aramco anticipate that fossil fuels will continue to govern the road fuel demand, which will be dominated by diesel through the end of the forecast period, in 2035, in spite of the substitution effect of the EVs, whose mass uptake and market penetration is anticipated to happen in 2023. This, unless more regulations that were foreseen to be implemented would accelerate the substitution trend.
The role of policies and public opinions world-wide are threatening the prospects of the oil industry. A case in point is the plastic crisis. Many in the oil industry expected that lower demand in the primary energy and transport sector could be replaced by the petrochemical and plastics industry. The recent public repudiation of disposable plastics, a trend that see the alignment of legislative measures in the EU and China, is likely to have a negative impact on oil demand growth in that sector.
INVESTORS PULL OUT
What is sure is that oil production and price are unlikely to regain late 2018 levels. The world has been engaged in a profound transformation in the way we use energy and the oil industry would do well to brace for long-term decline. The prospects of oversupply weighs heavily over price levels and represent a structural challenge. Fighting for a shrinking market share in a declining market may not be the smartest approach to financial viability, particularly in the US, where the shale industry faces particularly high production costs.
“In 2019, the five largest integrated oil and gas companies—ExxonMobil, Shell, Chevron, Total and BP—spent a total of $88.7 billion on capital projects, down nearly 50 percent from the $165.9 billion they spent in 2013,” a report from the Institute for Energy Economics and Financial Analysis writes. “Not since 2007 have the capital expenditures, or capex, among the five companies been so low.” Even without the coronavirus, the majors were struggling with energy transition. The bankability of oil projects is at stake while investors look at divesting from the sector.
RENEWABLE ENERGIES – ALSO A MATTER OF ENERGY SECURITY AND GEOPOLITCS
The price shock caused by the coronavirus confirms the vulnerability of a singularly fossil-fuel dependent economy and increases the pressure towards securing a foothold in the energy industry of the future, based on renewables, the digital revolution and gas leading to different patterns of consumption. In a not so distant future, the world economy will be powered mostly by renewables: this is a matter of energy security as well as of climate security, of environmental protection as well as geopolitical concerns.
A CO2 PRICE DRIVES INNOVATION AND SECURE INVESTMENTS
Global common energy fiscal measures and price signals have long been necessary to dispel the uncertainties that hamper investments and address the concerns behind the oil disinvestment movement recently voiced, among others, by BlackRock CEO Larry Fink’s. The best of all being a tax “penalising” the Global Warming Power (GWP) -compounded power of fossil fuels to account for rising scientific concerns and alarming data on the impact of methane on climate change, a point recently raised also by EU Commission experts in private positions.
EFFECTIVE CO2 PRICING COULD COME FASTER THAN EXPECTED
Due to the coronavirus and the steep oil prices plunge that is slashing the oil industry,
effective carbon pricing may materialise faster than you think. US companies are particularly affected. An Italian economist and energy expert who worked long for the energy regulatory authority in Rome, Valeria Termini, recently observed that only “giants like Chevron and Exxon mobil have managed to bring their breakeven below $30 but pay very high costs to the market in terms of capitalisation and investment capacity. Over the course of just a few months, Occidental Petroleum saw its share price drop from $40 to $14, whilst having to service liabilities to the tune of $40 billion. There is only a dozen out of several hundred American companies that are able to bear a price of less than $40; others risk losing control to banks and lenders, because of very high debt and low operating margins”.
“If it is true”, she continues “that breakeven cost of oil production stands at $15 in Russia – and it is even lower in Saudi Arabia – it is equally true that economic and social stability in both countries necessitate a much higher price of about $80”. The implications are clear.
WILL THE MARKET BREAK THE GORDIAN KNOT OF CLIMATE NEGOTIATIONS?
Under these conditions, the market could help untie the Gordian knot of climate negotiations. For over 20 years, a lack of multilateral alignment on energy, industrial and trade policies led to the failure of the COP mechanisms. After the brief, illusory compromise reached in Paris, where President Obama clearly forced his hand and signed without the support of the US Senate, the COP25 in Madrid failed spectacularly. The negotiation and policy cleavage between emerging and developed economies revolves over who will pay the price of cutting carbon emissions. Whilst more and more voices are calling for a green recovery, however, some are taking steps to defend the fossil status quo and move decisively in the opposite direction. The Trump administration is using the Coronavirus to accelerate the overhaul and overturn of environmental regulation and step in to sustain the national oil industries threatened by the incipient recession. Whether Trump’s playbook for the energy sector is fit for the future remains debatable and the coal sector is a point in case.
ALSO COAL IS IN DECLINE IN THE UNITED STATES
Up to now, the administration’s pledges to revive the US coal industry and boost so-called clean coal technology have in fact been disproved. Structural economic rationales driven by the evolution of technologies and processes are key to understand what is happening. Over the past three years, competition from lower-cost natural gas and renewables has led to a wave of bankruptcies and layoffs as coal production declines in the rust-belt states. Government forecasts from the U.S. Energy Information Administration call for a 10% drop in coal production nationwide year-over-year in 2019, with further declines expected next year. Output has been declining 27% in the past. While power companies drastically reduce their coal use a string of power-plants are converted to natural gas. In 2019 alone, utilities retired 13GW of coal-fired capacity — the equivalent of about 25 power plants — according to the EIA. That is the second-highest annual figure on record. The agency projects another 17 gigawatts to go offline by 2025. Coal stockpiles at U.S. power plants are at their lowest level in a decade. Like in the case of the automotive industry, conservative measures may endanger the competitiveness of industry sectors, leaving space for foreign industries. Quite the opposite of what Trump wishes. The case of Diesel proves that forward-looking policy decisions play a role to discriminate between winners and losers in the innovation race.
BUSA vs EUROPE: THE DIESEL CASE AND THE ROLE OF INNOVATION
Lawmakers have a role in supporting industry trends and sustainable growth. Unsurprisingly, California, leader both in green-tech and green schools, recently passed sweeping auto emission standards that include a mandate to have 1.4 million electric and hybrid vehicles on state roads by 2025. Gasoline, however, has been king of the road in the US since the advent of the automotive era. The federal government, staying to form, has done its part to keep it that way by taxing diesel at a consistently higher rate than gasoline. Over in Europe the opposite is true, where governments and automakers ramped up diesel engine production, in a supposed attempt to curb CO2 emissions. Diesel, once a niche market in Europe, was significantly incentivised and went mainstream on the continent. However, there was a trade-off: less CO2 versus more nitrogen dioxide pollution (NO2) and particulates. Japanese and American carmakers backed instead research into direct injection gasoline, hybrid and electric cars to find viable solutions.
SHORT-LIVED VICTORY FOR THE CARMAKERS’ LOBBY IN BRUSSELS
It is impossible to deny that the proximity of politics and the auto industry in Germany, as well as in Brussels, operated on a “shorter-term” perspective. Car analysts and regulators have long been aware that the trade-off between reducing climate emissions and increasing health problems was not enough debated, let alone dealt with. As a major switch to diesel was seen as a fast and cost-effective way to reduce CO2 emissions, Brussels readily embraced the position of the car lobbies.
Diesel has never taken root in the United States while European carmakers have invested massively in it. Yet this is more a choice by automakers and the product of their lobbying to influence a different set of regulations on either side of the Atlantic.
The follow up of diesel case is the new competition in hybrid and electric solutions, fuel cells and hydrogen. Ultimately, the diesel case shows that clean technologies, while addressing environmental protection and high-quality growth, can drive the competitiveness of the economies. According to a new survey led by Nobel laureate Joseph Stiglitz which appeared on May 5 in the Oxford Review of Economic Policy, the most effective solutions to tackle the post COVID19 economic disruption are those that reduce carbon emissions.
This should be the direction of the energy transition as well as of the global agreements to tackle climate change
GLOBAL CLIMATE PROTECTION
“WHEN OPPORTUNITY APPEARS, DON’T PULL THE SHADES”
To succeed in the fight against the climate and environmental crises, the hollow liturgy of the COPs must end. As things stand, no Climate Change Conference can hope for positive outcomes unless the developed and emerging economies commit to a new framework of international relations based on mutual commitments and “competitive cooperation”.
CLIMATE CHANGE RUNS MUCH FASTER THAN POLITICAL DECISIONS ARE MADE
Much like the EU precedent, setting the national emissions reduction target should be based on fairness, solidarity, cost-effectiveness and environmental integrity. Concretely, any Global Warming Power (GWP) and/or carbon tax should be pondered and adjusted to the economic and social conditions of each single country, and ideally based on a compound account values of variables that may include carbon intensity, per capita carbon emissions, existence and management of natural carbon sinks. Common but differentiated responsibilities (CBDR), should become the effective cornerstone of the system.
With climate change running much faster than the political decision-making process, the international community needs to adopt fast-tracked negotiation paths and ask the largest economies to commit to binding, measurable targets and objectives, mainstreaming decarbonisation and sustainability into all main sectoral policies. The price of inaction is much greater than the cost of action.
BEYOND PARIS: EUROPE SHOWS THE WAY TOWARDS GLOBAL DECARBONISATION
In this sense, positive signals have come last week from the Petersberg Climate Dialogue. During this years’ session of the Germany led informal intergovernmental exchange on climate policy, which took place virtually on 27-28 March, the tone was set by the plans for a “green recovery” agenda for the post-COVID economy. In her speech, the German Chancellor and her Minister for Environment called for climate friendly coronavirus response and a green recovery, while affirming support for the ambitious objective of the EU Green New Deal. Faced with the existential threat of climate change, the leaders of the largest economies of the planet, are called to embrace responsibility for pushing ahead with negotiations, setting binding targets and turning “the crisis of this pandemic into an opportunity to rebuild our economies differently and make them more resilient, so that we also leave a better place for our children”, in the words of the President of the EU Commission von der Leyen.
In concrete terms, on April 29 the EU Energy Ministers have reaffirmed their intention to place renewables and the Green Deal at the heart of the post-COVID recovery plan, linked to a revised proposal for the Multiannual Financial Framework. Energy will have a major role to play. I expect similar signals will come when the 13th National People’s Congress (NPC) of China, the country’s top legislature, will open its third annual session in Beijing on May 22.
THE EU DECOUPLES ENERGY CONSUMPTION FROM GDP
Europe has already accomplished much. Greenhouse gas (GHG) emissions in the EU are at 9% of the global total, with per capita emissions below those of China and the US. This has been possible thanks to the progressive decoupling of energy consumption from GDP and the greater role played by renewables, nuclear power and low-carbon energy sources in the energy mix. The EU needs now to show the way on climate change, building a platform for the global decarbonisation starting to strengthen the existing EU-China Partnership, in collaboration with the G20 Group and the World Trade Organization. The fundamental pillars and preconditions for such an infrastructure exist and are very solid. While the Green Deal has been tailored to the European context, it can still offer a framework for coordinated policies with other developed economies such as US, Canada and Japan.
At the same time, the Green New Deal is also consistent with the Chinese policies addressing the energy transition and the establishment of an “ecological civilisation”, as well as with the plan for a Global Energy Interconnection presented by President XI, to support the electrification of the global economy and optimise the use of renewables worldwide. The EU-China Climate Summit in Leipzig this coming September will be the opportunity to assess the feasibility of a common platform aimed at establishing forms of mutual and “competitive cooperation” in order to decarbonise the global economy.