Economics – Page 125 – a sibilant intake of breath

Peak coal

The common account of ‘peak oil‘ is straightforward enough. Oil is a non-renewable resource; as such, every barrel taken from the ground means one less for the future. The depletion of current reserves is temporarily offset by the discovery of new reserves and the development of better technology to extract more oil from the reserves we know about. A higher price for oil stimulates both exploration and technological development, creating a negative feedback loop that, to some extent, moderates scarcity and long-run prices. Given the finite nature of oil, it is a logical necessity that extraction will eventually exceed new discoveries and technological improvement, provided we continue to extract oil. The controversial question is when this will occur. Some people argue it already has, others that it will not take place for decades. You have to be a real optimist to think we can continue to expand or maintain present levels of oil extraction for a century.

In the conventional story, the next fossil fuel in line is coal. This is bad for a lot of reasons, including the damaging nature of coal mining and the high pollution and greenhouse gas emissions associated with burning coal. At least, the conventional wisdom says, coal is plentiful. The American Energy Information Administration estimates that 905 billion tonnes exist in recoverable reserves: enough to satisfy the present level of usage for 164 years. The World Energy Council estimates reserves at a somewhat more modest 847 billion tonnes. Combining the idea of peak oil with the reality of dirty coal has led many environmentalists to fear a world where cheap oil runs out and people switch to coal, with disastrous climatic consequences.

An article in the January issue of New Scientist challenges this orthodoxy. The article argues that official reserves have fallen over the last 20 years to an extent far greater than usage, suggesting that the estimates were over-generous. It asserts further that the ratio of official reserves to annual coal extraction worsened by 1/3 between 2000 and 2005. This is attributed primarily to increased demand in the developing world.

The article predicts that the combination of higher rates of usage and smaller than stated reserves may cause oil to “peak as early as 2025 and then fall into terminal decline.” If this is true, it massively changes the logic of coal power and carbon capture and storage. The only reason anybody wants to use coal is because they perceive it to be a relatively inexpensive and amply provisioned fossil fuel that can be obtained from stable and friendly countries. If coal plants being built today with a fifty year lifespan are going to face sharply increased feedstock prices in a few decades, their economic competitiveness compared to renewable energy may be non-existent. This is especially true of plants with carbon capture and storage (CCS) technology, since they require about 20 to 40% more fuel per unit of electricity, in order to power the separation and sequestration equipment.

One article does not make for a compelling case, especially given the poor overall record people have had of predicting energy trends and prices across decades. The article acknowledges the scepticism surrounding the idea of peak coal:

The idea of an imminent coal peak is very new and has so far made little impact on mainstream coal geology or economics, and it could be wrong. Most academics and officials reject the idea out of hand. Yet in doing so they tend to fall back on the traditional argument that higher coal prices will transform resources into reserves – something that is clearly not happening this time.

Regardless of whether this particular analysis proves to be accurate or not, it does a service in questioning an important assumption behind a fair bit of energy policy planning. The idea of peak coal has a complex relationship with climate change. On one hand, it might reduce the incentive to develop CCS, making whatever coal is burned more climatically harmful. On the other hand, awareness that coal reserves are more limited than assumed might prompt more investment in renewable energy, the only option that is sustainable in the long term.

Even if world coal reserves are significantly smaller than the official estimates above, there is a good chance that burning all that is available will have extremely adverse climatic consequences. We know the approximate level of emissions that would maintain stable atmospheric concentrations of greenhouse gasses and we know that we are way above it. What we don’t know is the shape of the damage curve associated with increased concentrations, increased radiative forcing, and further increased mean temperatures. Even if there aren’t sharp transitions within the next 150 ppm or so, it is inevitable that extensive further use of coal will push us further into unknown and potentially dangerous territory.

Bans, taxes, or nothing

A former chairman of Shell has argued that the European Union should ban cars that get fewer than 35 miles per gallon. The basic idea is that there is no reason for cars to be less efficient than that and the new ones that do more poorly are intolerable luxury items. Forcing all cars to meet the standard is presented as a way of making the rich “do their share” when it comes to climate change.

Similar arguments exist about lightbulbs. Should governments ban incandescent bulbs, impose extra taxes on them, or do nothing? The last option won’t help with climate change mitigation. The middle option risks dividing the world between an upper class nicely lit in flattering yellow hues and an underclass rendered corpselike by flickering green compact fluorescent bulbs. Banning the bulbs outright could prevent their use in the few situations in which they are genuinely highly valuable, as evidenced by the willingness of their owners to cut emissions in other areas in order to not have to give them up.

The ideal solution is sustainable, tradeable carbon allowances. Everyone on earth gets about 750kg a year, and are free to trade it between them. Yes, the poor will sell to the rich, but they will do so voluntarily because the money is worth more to them than their emissions are. This certainly isn’t perfect (people may sell under duress or still lack sufficient means for a decent life), but it’s better than the ‘grab what you can’ approach that dominates presently. Of course, this allowance approach is hopelessly unrealistic. The emissions of people in the rich world are so far above what’s sustainable, they would never sign on to a system that required them to cut back as far as is appropriate.

Another big question has to do with induced technological change. Automakers will howl to the moon if you demand that they make 35mpg cars across the board. Sputtering, they will swear that it is impossible and even trying will bankrupt them. Actually forced to do so, however, it is probable they would squeak over the line. The question is whether such a policy would have benefits that outweigh the associated costs – including the perceived loss of liberty on the part of car makers and car owners.

How then do policymakers reconcile the possible with the fair, the risks associated with climate change and the reality of other social and equitable issues? The idea of forcing manufacturers of luxury cars to turn out models that get 50mpg does have appeal, but it is probably a mistake to conflate the fighting of climate change with the desire to reduce the profligacy of the wealthy. Excessive emissions are the behaviour properly targeted by climate policies: not pompous displays of extravagance. Mandated standards do have a role to play in situations where elasticity of demand is weak and there are possibilities for structural change. Those, in combination with carbon pricing, do have the capacity to help us move to a low-carbon economy. The devil of that transition, as ever, is in the details.

Some figures on the economics of corn ethanol

Trustworthy numbers on some climate-related things are virtually impossible to find. Key examples are nuclear power and biofuels.

All the more reason, then, to be thankful that some numbers have been crunched over at R^2. Conclusions:

The corn for one gallon of ethanol costs about US$1.30.
Energy for processing costs another $0.33
Enzymes, yeast, and chemicals are $0.14
Labour and other expenses are $0.23
Capital depreciation costs are estimated at $0.40

He thus concludes that corn ethanol costs about $2.00 per gallon, not including return on investment. This is also after you subtract the revenue from selling the distiller’s dried grains with solubles (DDGS) grown with the corn but not used for ethanol production. Due to the lower energy density of ethanol, this is equivalent to gasoline for $3 a gallon.

While I certainly wouldn’t bet the farm on the accuracy of those figures, I think there is reason to put more stock in them than in estimates from journalists (who lack expertise) or governments (who often have conflicts of interest). Of course, the issue of whether corn ethanol is cheap or expensive doesn’t bear upon some other vital questions: Does it actually reduce fossil fuel usage? Does it produce fewer greenhouse gas emissions on a lifecycle basis? Does making it raise food prices and starve the poor?

Taskforce calls for $2 billion for CCS

In March 2007, the Canadian federal government and the Government of Alberta formed a task force to investigate carbon capture and storage (CCS) as a climate mitigation technology. Now, the report of that task force has been released: Canada’s Fossil Energy Future: The Way Forward on Carbon Capture and Storage. The report for $2 billion to be spent by federal and provincial governments in order to get five CCS facilities online by 2015. These five facilities would collectively sequester 5 Mt of CO2 per year. This is equivalent to about 0.6% of Canadian emissions.

Supporters of the plan argue that initial governmental support is essential for learning how to scale up the technology, making much larger (and presumably unsubsidized) reductions possible in the future. The report projects that as many as 600 megatonnes (Mt) of CO2 could be sequestered by 2050: a figure equivalent to about 85% of current Canadian emissions. Sequestration at this kind of scale is a key element of the climate plan recently announced by the Government of Alberta.

The announcement raises both practical and ethical questions. The first centre around the overall expense of the plan, the second around who is paying it. The report acknowledges that building CCS into facilities increases the cost substantially:

The financial gap associated with most commercial-scale CCS projects (ones with one megatonne or more of CO2 emission reductions per year) is on the order of hundreds of millions of dollars.

Businesses will only do this when either (a) the cost of emitting carbon justifies mitigation efforts of this expense or (b) they can convince someone else to foot the bill. The idea that federal and provincial governments should spend $2 billion to help the oil sector continue behaving as usual can be seen as objectionable. It certainly contradicts the Polluter Pays Principle. If carbon capture and storage is to rescue certain industries from the climate change externalities they are creating, it will have to be possible for them to pay for it themselves and remain profitable; otherwise, either public finances or the global environment will need to suffer to sustain their profits.

FutureGen and the cost of CCS

The American Department of Energy (DOE) has announced that it is cancelling funding for the $1.8 billion FutureGen project: a demonstration ‘clean coal‘ power plant to be built in Illinois. The reason cited for the change of position is “ballooning costs.” This makes it pretty unlikely the 275 megawatt plant will be built. Previously, the utilities involved would have been paying less than the cost of an ordinary coal plant, with the DOE paying the rest. Now, they would be paying more than three times as much for a carbon capture ready plant that would not, from the outset, actually capture any carbon.

This raises some serious questions about carbon capture and storage (CCS). A lot of climate plans depend on it, including those as diverse as George Monbiot’s and that of the Government of Alberta. The big question is whether this is evidence that all CCS is ruinously expensive, or simply evidence that this particular project was badly planned.

Some environmentalists are cheering this development, which might make sense if it’s just an example of a big taxpayer handout to industry being averted. Others, however, seem keen to see CCS undermined completely. It is true that it is an untested technology; only four installations in the world use anything like it. It is also true that it could perpetuate fossil fuel usage and slow the development of renewables. At the same time, it must be recognized that building renewables isn’t a purpose in its own right. It is a means to low-carbon and reliable energy. If that can be achieved through a combination of coal and CCS, we should probably be happy – especially given the strong likelihood that many coal rich countries (the United States, China, etc) are likely to burn as much of the stuff as they can get out of the ground for the foreseable future, with potentially ruinous climatic effects.

[Update: 12 June 2009] It seems that the Obama administration has decided to revive the project.

Australia’s geothermal potential

For a country using 83% coal to power an economy that produces 25.9 tonnes of carbon dioxide equivalent per person, Australia’s Innamincka desert could prove a blessing. This is not because of the sunshine hitting it, but because of the way geothermal energy has suffused the granite under it.

Initial tests have found that the granite is at approximately 250˚C, meaning that each cubic kilometre can yield as much energy as 40 million barrels of oil. If it proves viable to use this heat to boil water and drive turbines, the share of Australian power derived from renewables could increase considerably. According to Emeritus Professor John Veevers of Macquarie University’s Department of Earth and Planetary Sciences, the rocks could “supply, without emissions, the baseload electrical power at current levels of all consumers in Australia for 70 years.”

Naturally, it is not sufficient to just have hot stones within a drillable distance. It will have to be economical to construct the power generation equipment. There will be a need for water to use as a heat carrier. Finally, it will be necessary to build transmission capacity to link new facilities with Australian cities.

In a sense, a geological formation like this is like the oil sands in reverse. Both exist in large countries with economies that depend to a considerable degree on primary commodities. Likewise, both exist in states with shockingly high per-capita greenhouse gas emissions. There are questions about commercial viability and water usage of both projects, but the broader issue with Innamincka is how many megatonnes of carbon dioxide can be kept out of the atmosphere, rather than how much will be produced through a bituminous bonanza.

Commodities are a relatively poor investment

For a collection of reasons, the world is experiencing a commodity boom. Oil is hovering around $100 a barrel, while gold and platinum are setting new records. That said, it is still questionable whether commodities are a good long-term investment. While they boom sometimes, there will also be times when a glut or changes in demand cause prices to plummet.

Looking at the trends from 1985 to present, you can see a sharp divergence in asset performance between different classes of investment. The average dollar invested in global real estate in 1985 would be about $7.50 today. An investment in stocks would have yielded about $6.50, while bond growth would have left you with about $4. Investing in a basket containing all traded commodities would have yielded a return of about $2.60, while investing in just oil would have yielded less than $2.00 (oil having seen sustained growth in price only since 1998 or 1999).

None of this is to say you can’t make a fortune trading commodities. It just suggests that if you want to put money away for a few decades, not think about it much, and live well off it later, investing in equities is the way to go. Given the costs of management versus the extra returns, it is probably best to invest in index tracking funds, but that’s an issue to comment on another time.

Hurricanes, insurance, and the Everglades

After being endorsed by Charlie Crist – the governor of Florida – John McCain said something rather unintelligent today:

We’ve got to provide home insurance for every person who lives in the path of a hurricane. We are going to have to work together to save the Everglades and other great environmental treasures of this state.

The first huge problem with this is the transfer of wealth that is being proposed here. People who live on the coast in hurricane territory have every expectation of getting hit by hurricanes again and again. Having the taxes of people sensible enough to live elsewhere used to subsidize insurance for those in the risky area is quite unfair. It is also rather imprudent, as it encourages the continued occupation of hurricane-prone areas, with all the implications for death and property destruction that implies.

I could see some justification for a one-off relocation fee for people living in hurricane areas – especially if weather patterns have changed and made a previously safe area dangerous. I cannot see the logic behind using taxes to encourage people to live in dangerous areas, at a time when extreme weather seems to be getting ever-more-potent.

As for saving the Everglades, it is not at all clear that the people living nearby are helping them. The oil companies are most certainly not doing so. Indeed, the canals cut through the Everglades to allow ships passage to the oil rigs in the Gulf of Mexico may well have exacerbated the storm surges that breached the levees in New Orleans.

Improving energy efficiency through very smart metering

With existing technology, it is entirely possible to build houses that allow their owners to be dramatically more energy aware. For instance, it would be relatively easy to build electrical sockets connected to a house network. It could then be possible to see graphically or numerically how much power is being drawn by each socket. It would also be easy to isolate the energy use of major appliances – furnaces, dish washers, refrigerators – thus allowing people to make more intelligent choices about the use and possible replacement of such devices. In an extreme case, you could have a constantly updating spreadsheet identifying every use of power, the level being drawn, the cost associated, and historical patterns of usage.

Being able to manage electrical usage through a web interface could also be very helpful. People could transfer some of their use of power to low-demand times of the day. They could also lower the temperature in houses and have it rise in time to be comfortable by the time they got home. Such controls would also be very useful to people who have some sort of home generating capacity, such as an array of solar panels. A web interface could provide real-time information on the level of energy being produced and the quantity stored.

While all of these things are entirely possible, there do seem to be two big barriers to implementation. The first is in convincing people to install such systems in new houses or while retrofitting houses. The second is to make the systems intuitive enough that non-technical people can use them pretty well. The first of those obstacles would be partially overcome through building codes and carbon pricing. The second is mostly a matter of designing good interfaces. Perhaps an Apple iHome is in order.

European expansion and energy policy

The European Union is in the midst of a big internal fight about how to divide climate change mitigation obligations between members. The poorer states that joined recently say they should have easier targets so their economies will be able to grow more rapidly. States that have already made big investments in renewable technology think they should be called upon to improve by a lesser margin. France wants credit for its determined use of nuclear power. In many ways, the arguments are global disagreements writ small – an excellent illustration of which is Poland.

Poland has by far the biggest coal reserves in the EU – about fourteen billion tonnes worth. Germany is in second place with about six billion. The German GDP per capita is also US$39,650 at market exchange rates, compared to US$10,858 for Poland. Thankfully, the European Union has much more robust mechanisms for dealing with these distributional questions than exist in the world at large. There are European courts and European laws; there are also funds for regional development. Perhaps equally important is the recognition that interaction between EU states will be relatively intense for the indefinite future. This creates a stronger incentive to come to an acceptable settlement.

As such, the EU is an interesting test case for broader ideas. Given the lack of global institutions with similar strength, it is far from certain whether EU approaches could be applied worldwide. What does seem fair to say is that if Europe – with its relative wealth and strong institutions – cannot devise a system of burden-sharing for climate change mitigation, it will probably prove impossibly difficult on a global scale.