Wednesday, June 18, 2008

Europe does indeed need a single market for natural gas

Pierre Noël recently wrote in Financial Times about the need for a single market in natural gas in Europe. In fact, it’s already been a month since, but I was too busy to respond to it then. I liked his piece, but I feel compelled to emphasize some points which he doesn’t bring up at all. At the same time, I see his claim about Europe already enjoying a diversified gas supply as extremely misleading. The only country in Europe that has a diversified gas supply is Spain. While the country gets 40 % of its gas from Algeria, it also imports LNG from Qatar, Nigeria, Libya, Oman and Trinidad and Tobago. The rest of Europe gets their imports mainly from Russia and some from Algeria. Moreover, Algeria’s Sonatrach and Gazprom have signed a “memorandum of understanding” that will potentially see the two companies engage in joint ventures and asset swaps in third countries. This trend is bad news for Europe’s attempts to diversify its gas sources to new independent producers.

Dr. Noël is right to point out that the political debate is too much focused on Nabucco. The pipeline is not only unlikely to be built and supplied with gas, but even if built, it’s relatively little of comfort on a larger scale. One estimate of future gas demand calls for additional imports of 250 bcm/y by 2020, while Nabucco could only bring in 30 bcm/y of new capacity. On the other hand, I see much more potential for new LNG imports. Although countries such as Iran might be out of scope for investment for a long time, there should be room for additional imports from Qatar which has the fourth largest proven gas reserves in the world. The country already exports over 5 bcm of LNG to Spain.

As Dr. Noël points out, the main reason why there’s no competition in Europe’s gas markets is not because of Russia’s domination by its market share, per say. However, he doesn’t exactly say why there is no competition. More importantly, he doesn’t say how the “integrated and flexible” gas market should be created. Policymakers will need detailed instructions.

To my understanding, there’s no competition because most of the supply (by some estimate over 90 %) is based on long-term agreements. As long as this is the case, no other producers will be seriously interested in the European gas market. Ignoring opportunities in the spot pricing market is the reason why Europe doesn’t have a flexible gas market. European policy makers defend their state-owned national champions and long-term agreements with the argument that unbundling the market into small players would lead to less negotiating power with the large gas producers, particularly Gazprom. But as long as the long-term agreements cover over 90 % of the total procurement, there will be neither competition nor diversification of supply.

Gas markets, like electricity markets should be technically much easier to liberalize in Europe than in the U.S., because the market has a small number of large state-owned companies. In the U.S., the market structure was much more complex prior to liberalization. The European market structure and the regulatory framework needs urgent revision to encourage third party access, if future demand for gas is going to be satisfied in a reliable and efficient manner.

Friday, June 13, 2008

A primer – my view on some of the most pressing issues in energy - Part 1

I’ll start my blog by commenting briefly on currently the most disputed issues in energy, because it’s only fair for you to know where I stand on these issues. These are my beliefs based on the knowledge I currently have, and I’m not afraid to admit I was wrong at a later stage. As the most debated issues in energy, I see 1) the future energy technology portfolio and the key energy sources, 2) future pricing mechanisms for carbon emissions, 3) energy and equity, 4) and optimal electricity market design. The debates around these issues may seem to be stuck because of differences in people’s motives or intellect, but there are also genuine differences in people’s perspectives and frameworks. For many of these issues, optimal solutions are local, meaning there is no universal solution. Moreover, all of these issues carry institutional dimensions, and social and economic institutions vary by country and culture. These institutional differences must be respected when higher principles are applied in local contexts.

Let’s start first with the technology debate. In the SIPA magazine in 2007, Steven Cohen, the director of the Environmental Science and Policy program at Columbia University called nuclear power “a discredited, mid-20th-century mistake”. The statement bears some truth in it. The technology is no doubt dangerous and involves the use and production of toxic fuels and waste. However, I’m afraid it’s a mistake we’ve already made. First of all, proliferation of nuclear technology and arms is not an issue of the future, but one of past and present. One can easily argue that the technology is already in the wrong hands – whatever that means! Secondly, the currently operating nuclear plants are much more tempting targets for terrorist attacks than potential new plants, which can be made much safer. The waste issue must also be solved whether we stop using nuclear power today or not. In other words, the construction of long-term repositories can be considered de facto sunk costs. The building and decommissioning costs of nuclear power are extremely high, but nuclear power is the only proven energy technology which can provide reliable base load power on large scale without emitting greenhouse gases. After internalizing the cost of CO2 emissions, the cost of nuclear power seems relatively modest. Even if the price of CO2 was as low as $ 20 U.S., compared to a coal plant, the avoided CO2 emissions over the lifetime of the plant almost fully cover its building cost. Am I a fan of nuclear power? No, I’m not, but we’d no doubt be in much worse trouble in terms of climate change, if we had used coal power in the place of nuclear power for the last 50 years.

What about fossil fuels then? China is building something between one and two coal plants every week, and the country has coal reserves for hundreds of years, as do the USA, Russia, India and Australia. These countries rely heavily on coal powered generation, especially China which generates over seventy percent of its electricity from coal. Coal is so important, abundant and cheap that it would be naïve to believe that these countries will stop using it as an energy source. The only relevant question is at what cost we can capture the carbon emissions from these plants. At the end, it’s the price if CO2 that dictates whether carbon capture and sequestration (CCS) technologies will be used in these plants. I will deal with carbon prices and pricing mechanisms later. However, since CCS technologies are still quite inmature, we should focus on building more combined cycle gas generation instead of coal plants, because gas powered plants have much lower CO2 emissions than coal plants. For example, a modern CCGT with an efficiency of 51 % results in CO2 emissions that are only 38 % of those of a modern coal plant with an efficiency of 34 % (if the carbon contents are 14.5 and 25.7 kgC/MBtu, respectively). The second major benefit of modern CCGTs, and one that is much less thought about in energy policy, is the shorter start-up time of a CCGT compared to a conventional steam turbine. The start-up time for a conventional ST is approximately 4 times longer (12 hours vs. 3 hours) than for CCGT. This means that when new wind power (with a capacity factor of say 22 %) is backed up with coal plants (78 % of the time), these coal plants aren’t shut down at all, but the output is only ramped up and down, depending on the wind speed.

Another trendy topic is peak oil. The term was coined by Marion King Hubbert who in 1956 estimated that the US oil production would peak (normally distributed) around 1970. He was right. He then made a similar estimate for the world oil production with an estimated peak in 1995. However, the global oil production has not peaked yet, although the production in OECD Europe is starting to decline. It’s quite possible that we’ll run out of conventional and cheap sources of oil in the following decades (except for Saudi Arabia), but I dare to argue it’s not a very relevant issue. Different hydrocarbons can be converted into various forms (coal into oil and gas, etc.), and at current oil prices these conversions are very profitable. In fact, it’s been estimated that coal liquefaction projects can offer positive returns even when the price of oil is as low as $ 30-35 US/barrel. Globally, the total reserves of various fossil fuels amount to almost 1700 gigatons of oil equivalent (Gtoe), and the estimate for unproven resources is around 3400 Gtoe. To put this figure into perspective, we consumed 291 Gtoe during 1860-1994. In other words, we’re not running out of oil in some time. The more relevant question is whether we’ll really engage ourselves on a large scale in such foolishness as coal liquefaction or the conversion of tar sands into oil. These conversions require energy and/or fresh water, and they release greenhouse gases, leading to a double-whammy to the environment.

I often find peoples’ opinions about science and technological progress solving all our problems amusing. It’s amusing (and sad), because we already have the technological solutions to many global problems, and yet we don’t solve them. One of such issues is famine, as Jeffrey Sachs keeps pointing out. It’s clear that the challenge with famine lies to larger extent in institutional and political issues, not in technical or economic challenges. Although the mitigation of climate change also faces political challenges, I’m more optimistic about the power of technological solutions here. The development of carbon capture and sequestration (CCS) technologies from air seems very promising. James Hansen, the director of the NASA Goddard Institute at Columbia University and one of the world’s leading experts on climate change thinks that we’ve already crossed the dangerous threshold of CO2 concentration in the atmosphere. We’re now at 380 part per million, whereas we should be below 350 ppm in order to avoid dangerous anthropogenic effects of climate change. This means that we should not only stop emitting CO2, but we should in fact be able to suck out the excess CO2 out of the atmosphere. Klaus Lackner, the director of the Lenfest Center for Sustainable Energy at Columbia University has been involved in the research for carbon capture from air and his team also studies ways to safely store the CO2. A small prototype of the carbon capture device has already been built, but apparently a large scale demonstration still requires more research and cost reductions. His team has also studied the storage of CO2 in magnesium silicate. The mineral seems to bind CO2 spontaneously, without requiring an external source of energy. The only problem is that the natural reaction takes hundreds of thousands of years. Lackner and his team are trying to make it happen in thirty minutes.

What is the role of renewable energy in the future energy portfolio? Of all the different alternatives, I see (direct) solar energy as having the biggest potential. The earth receives more energy as solar radiation in one hour than what we humans consume in a year. Approximately half of this radiation is reflected back into space from the atmosphere, clouds and the earth’s surface. Solar energy can be captured for electricity and heat production through various techniques. Direct ways include photovoltaics, concentrating solar power (CSP) and other solar thermal technologies. Indirect forms include wind energy, wave energy, biomass, and hydro. So far, the most popular and cheapest technology is wind power, but I believe that the decreasing costs of solar panels and increasing efficiencies will eventually lead to direct solar power becoming the dominant renewable energy technology. Moreover, solar panels don’t have the aesthetic issues of wind turbines. I believe that other renewable energy technologies will remain marginal. However, I still believe they’re all needed in the fight against climate change.

To be continued.

Introduction to my blog: Energy & Society.

Welcome to my blog, Energy & Society. I started this blog, because I often find the discussion in energy, especially in energy policy, being derailed to issues of little significance, while more important issues are being completely ignored. This couldn’t be truer now when we’re facing the challenge of decarbonizing our current energy system in order to mitigate climate change. At the same time, the global energy demand is estimated to grow by 50 % in the next twenty years (IEA).

This blog will deal with topics such as energy and climate change (especially pricing mechanisms for CO2), electricity market design, energy and development, and various other economic and social issues relating to energy. I will try to keep the blog casual in style, but I don’t want to just share my personal opinions, knowing that everybody has them. Instead, I want to lay out the facts, look at different perspectives to the issues, ask relevant questions, and then form rational conclusions. I know this sounds like an outline for an academic paper, but academic papers attempt to give you answers - I don’t.

At the time of starting this blog, I’m finishing my studies in the world’s best interdisciplinary energy program (PEPM-IEMP) at Columbia University in New York City. It’s an intensive one year master’s program that combines economics, policy and business perspectives to the energy markets. My previous working background is in financial consulting (M&A, valuations, risk analysis), and I also hold a master’s degree in business from Helsinki School of Economics. As that may indicate, I’m a Finn by nationality. One of the reasons I’m starting this blog, is because I need to reflect back on this year at Columbia to see what I’ve learned and how the year has shaped my thinking about energy markets.

In my view, it’s the responsibility of every person to contribute to the solving of local and global problems in the ways everyone can: in spoken and written words, in actions and in choices. These issues may just be the personal problems of your friends or neighbors. The everyday challenge in one’s life is to live a life that makes a difference, and does so for the better. While actions are important, words have often much more power in influencing your neighbors, and in a broader context, the public and the coalitions that hold political power. Some say that talk is cheap, but it’s really the most valuable asset we’ve been granted. In fact for some people, words are the only thing they possess. Some problems may be solved through one man’s actions, but most global problems require the building of new coalitions or changing the current ones. This can be only achieved through words and fruitful discussion. There’s no easier way to get one’s voice out than starting a blog.

I’ve named my blog Energy & Society not only because of the vast linkages between the energy markets and the society, but also because it allows me to write articles once in a while that may in fact only deal with society in general. I welcome everybody’s comments to my writings.

Yours truly,

AVS