The Coming Energy Evolution

By Rachel Ehrenfeld
Sunday, June 2nd, 2013 @ 1:19PM

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The energy resources of the global market are evolving rapidly. Technological innovations allowing for the rise ofshale oil production (fracking), exploitation of undersea methane and development of alternative energy resources. All this is leading the fundamental changes, some already in place, in the broader geopolitical chessboard.

Where will the balance of power end up when all is said and done?

Before long the Saudi formula of “reasonable price”, keeping the benchmark at $100 a barrel, will be rejected.  A principal effect of this change will be the diminishing political and economic influence of Saudi Arabia-led OPEC in dictating energy prices thus hindering economic growth.

When that happens, Saudi Arabia’s influence on a whole host of things, including its ability to buy-off its Islamist enemies while supporting the spread of radical Islam and jihad as means of regional and international influence will decline. So would Iran’s, whose oil revenues have been funding the training and arming of large international terrorist groups. Iran’s oil production was already cut by half because of international sanctions.

Given the movement towards new energy sources, the West and the rest of the free world could stop its addiction to Saudi, Gulf, and Iranian oil, thus starve their treasuries, diminish their ability to fund terrorism, and end their disproportionate geopolitical influence.

If and when the U.S. political leadership allows this to happen, it could regain its waning global influence. Alas, moving, as the U.S. should have done a long ago, towards energy independence is unlikely to occur during this administration.

Gal Luft and Sol Sanders detail the latest developments:

To Drill or Not to Drill

BY Gal Luft*

The coming American oil boom is bad news for Saudi Arabia. How the kingdom responds could very well determine if it survives.

Current trends in the global energy market don’t look good for Saudi Arabia. First, the International Energy Agencyprojected in November 2012 that the United States will surpass the Gulf petrogiant as the world’s top energy producer by 2020. Then, last week, it revealed that North America, buoyed by the rapid development of its unconventional oil industry, is set to dominate global oil production over the next five years. These unforeseen developments not only represent a blow to Saudi Arabia’s prestige but also a potential threat to the country’s long term economic well-being — particularly in the post-Arab Spring era of elevated per-capita government spending.

But if the kingdom’s outlook is decidedly bleak, its official response has been muddled. Within a period of just five days last month, two senior Saudi Arabian officials laid out starkly different versions of their country’s oil production plan. In an April 25 speech at Harvard University, Prince Turki al-Faisal, a former head of Saudi Arabia’s top intelligence agency and the current chairman of the King Faisal Center for Research and Islamic Studies, announced that the kingdom is set to increase its total production capacity from 12.5 million barrels per day (mbd) today to 15 mbd by 2020, an amount that would easily make it the world’s top oil producer once again. But five days later, in a speech at the Center for Strategic and International Studies in Washington, DC, Saudi Arabian Minister of Petroleum and Mineral Resources Ali al-Naimiconveyed an entirely different message, rejecting Turki’s statement out of hand. “We don’t see anything like that, even by 2030 or 2040,” he said. “We really don’t need to even think about 15 million.”

So what are we to make of this 2.5 mbd discrepancy? Considering the world’s dependency on petroleum and the projected growth in global demand for oil, it’s certainly not chump change. In fact, 2.5 mbd is roughly equivalent to the entire production capacity of major oil producers like Mexico, Kuwait, Iraq, Venezuela, and Nigeria. Whether or not Saudi Arabia plans to ramp up its production, in other words, is relevant to virtually every household on the planet.

One might be tempted to dismiss Turki’s grandiose projection on grounds of technical ignorance and defer to the man who is actually in charge of the country’s oil industry. That is certainly one way to read the official inconsistency. But in Saudi Arabia, how much oil to produce is first and foremost a political decision. Unlike Naimi, a petroleum engineer who climbed up the ladder of Saudi Aramco, Turki is a member of the royal House of Saud, and when it comes to politics, his views are not less important. The dispute between the two boils down to a major strategic decision Saudi Arabia will have to make in the coming years: whether to drill more or to drill less.

With no revenues from personal income tax and 40 percent of its 28 million citizens under the age of 15 — not to mention a male population that is mostly employed in the bloated public sector — Saudi Arabia is heavily dependent on oil revenues to provide cradle-to-grave social services to its people. And the financial liability has only gotten heavier since the Arab Spring forced the regime to fight public discontent with ever more gifts and subsidies. To make things worse, Saudi Arabia is the world’s sixth — sixth! — largest oil-consuming country, guzzling more crude than major industrialized countries such as Germany, South Korea, and Canada. With so much of its oil consumed at home, the kingdom has only 7 mbd to export — even as government expenditures are on the rise.

All this is to say that in order for Saudi Arabia to guarantee its economic viability, it must ensure that the breakeven price of oil — the price per barrel it needs to balance its budget — matches the country’s fiscal needs. This breakeven price — the “reasonable price” or, as the Saudi Arabian euphemism has it, the “fair price” — has risen sharply in recent years. “In 1997, I thought 20 dollars was reasonable. In 2006, I thought 27 dollars was reasonable,” Naimi explained in March. “Now, it is around $100 … and I say again ‘it is reasonable.'”

According to the Arab Petroleum Investments Corporation, the breakeven price is currently $94 per barrel, less than the current spot price for Brent crude. (Iran needs oil to be at $125 per barrel to break even, which explains the feud between Iran and Saudi Arabia within OPEC.)  But absent deep political reforms that create new sources of income, the breakeven price will surely grow. According to Riyadh-based Jadwa Investment, one of the world’s most important knowledge bases on Saudi Arabia’s economy, by 2020 the breakeven price will reach $118 per barrel. At this point, the Saudi Arabia Monetary Agency’s cash reserves will begin to drain rapidly and the breakeven price will soar to $175 a barrel by 2025 and to over $300 by 2030. And this cuts to the heart of the dilemma: In order to balance its budget in the future, Saudi Arabia will need to either drill more barrels and sell them for lower prices or drill fewer barrels — actively reducing global supply — and sell each at a higher price.

This is the crux of the Turki-Naimi debate. Both officials understand the centrality of oil revenues to the survival of the House of Saud, but they differ on how best to come up with the money. Turki believes that Saudi Arabia should grow its production capacity in sync with the growth of the global economy. But Naimi, the person who will actually be charged with meeting this goal, prefers to keep capacity as it is and, if needed, even let it slide. If history is our guide, Naimi’s way will prevail. Since 1980, as the world economy grew by leaps and bounds, oil prices more than quadrupled in real terms. Yet Saudi Arabia, which sits atop of one fifth of the world’s economically recoverable reserves, has barely increased its production capacity.

Another potential explanation for Naimi’s reluctance to grow capacity is that he knows what Sadad al-Husseini, the former head of exploration at Saudi Aramco, allegedly told the U.S. consul general in Riyadh in 2007. According to a leaked cable published by WikiLeaks, Husseini said that Saudi Arabia may have overstated its oil reserves by as much as 40 percent, meaning that production at current levels is unsustainable.

If Husseini’s claim is true, it means there is only one way for the kingdom to make ends meet: Keep prices high by stalling the development of new capacity while adjusting the production of oil downward to offset any growth in supply emanating from the American oil boom. It also means, contrary to popular belief, that the current rise in U.S. domestic production will have minimal impact on global crude prices, and hence on the price we pay for gasoline at the pump. Oil is a fungible commodity and its prices are determined in the global market. If the United States drills more, Saudi Arabia will simply drill less, keeping the supply/demand relationship tight and prices high.

The Turki-Naimi dispute is not an academic one but one with potentially serious implications for the future of the world economy. Whether or not Saudi Arabia likes it — and it almost certainly does not — the global energy market is about to get more competitive. In a competitive market, oil should be supplied by all producers roughly in accordance with their geological reserves and marginal costs. There is something profoundly wrong when the United States, which sits atop barely two percent of global conventional oil reserves, produces more barrels per day than Saudi Arabia, a country with reserves ten times bigger.

Saudi Arabia presents itself as a responsible producer sensitive to the needs of consuming countries. These needs are surely growing. It would only be appropriate for the kingdom to grow its capacity in kind by making additional investments. Should Saudi Arabia decide not to do so, the United States should use its vast reserves of cheap natural gas as a trump card. Once cars and trucks sold in the United States are capable of running on fuels made from natural gas and its products — whether compressed natural gas itself, liquid fuels such as methanol, or natural-gas derived electricity — the price of transportation fuel will be determined by free and diversified commodity markets, not decisions made in Riyadh.

A system in which oil consumers are forced to pay a rising “reasonable price” per barrel in order to fund Saudi Arabia’s ever-growing fiscal obligations is unsustainable, especially in a time when most cash-strapped countries are looking for ways to reduce their own fiscal obligations. As the world moves gradually toward more reasonably priced methods of powering vehicles, the kingdom would do well to drill into the brains of its people — and that includes women — as vigorously as it drills into the ground.

*Gal Luft, a senior adviser to the United States Energy Security Council and co-author of Petropoly: The Collapse of America’s Energy Security Paradigm, is on the  Advisory Team of ACD/EWI.

Woe is not us:

From one new energy revolution (shale gas)

to another (fire ice) 

By Sol Sanders

As the shale gas revolution begins to ripple through reordering the world economy, another fossil fuel revolution is in the offing, which will again torpedo most conventional wisdom concerning energy. So-called “peak oil,” the end of petroleum exhausted by expanding consumption and diminishing discoveries, the love story of environmental fanatics, has now gone a glimmering.

Projections of petroleum and world energy have been notoriously inaccurate in the past, of course. But already the prospect of skyrocketing U.S. production and still expanding estimates of shale gas and oil around the world is leading to dramatic changes not only in calculating fossil fuel and energy economics but in geopolitics:

* The U.S. with its monopoly on shale technology is likely to become not only self-sufficient in energy before the end of the decade–current estimates are that within five years it will be producing more than half of the world’s additional fossil fuel–but it will become a net gas exporter.

* Short term, and possibly even longer, world real energy prices are likely to decline under the impact of these additional fuel resources due to a slow U.S. recovery and a world economy now beset by a wilting China and India and a Europe still unable to cope with its crisis.

* The Middle East producers, especially Saudi Arabia, but also Iraq, straining to significantly boost production from the world’s second or third largest reserves and the partially sanctioned huge resources of Iran are increasingly loosing their grip on world oil and gas prices.

* Indeed, the Persian Gulf producers may make a concomitant contribution to a dramatic decrease in real energy prices because of their mismanaged economies, with even the threat of financial disaster on Western markets through highly leveraged investments based on earlier export price assumptions.

* Individual countries–that could include China, Germany, France, Israel–will see their economies restructured through the development of shale gas and oil resources, despite the noisy campaign by environmentalists to restrain exploitation with horror stories of water contamination–an impediment still to be proved in any current production.

* Old established trade relationships, often problematical, may be dramatically impacted; e.g., the U.S.’s continued trade imbalance with Japan–and perhaps with China–could be dramatically readjusted by exports of LNG (liquid natural gas) from the continental U.S. and even larger prospects for gas in Alaska.

You get some idea of the complexities of the new worldwide energy picture and its ramifications not only from these broad developments, but also from tangential political repercussions. Israel, already turning to gas exports from its conventional deep water strike just a few miles offshore from Haifa, is welcoming new shale gas prospecting by an American-Israeli company including investors Rupert Murdoch, Dick Cheney and the Rothschilds in–of all places–the Golan Heights fronting on Syria. Qatar’s eccentric royal dictator Sheikh Khalid bin Khalifa al-Thani–who has thrown $30 billion from the world’s largest LNG exports at al Jazeera, the international radio network once the voice of supreme terrorist Osama bin Laden, and who still funds Moslem Brotherhood jihadists in Egypt and among Syria’s armed opposition–might just have to pull in his horns.

Yet even as the world begins to digest these economic developments with their unforeseen political consequences, another cataclysmic energy development is coming on stage.

Commercial development of “fire ice”–the vast quantities of what is so new to the layman’s energy lexicon that it is variously  known as methane clathrate, methane hydrate, hydromethane, etc.–is now foreseeable. These are huge deposits of methane gas outcroppings on the ocean floor trapped at great depths in ice crystals. In some areas gas bubbling up from the earth’s interior produces a carpet of slush-containing gas. Already located by intrepid prospectors in a number of environments around the world, fire ice not only has the advantage of producing less carbon emissions when burned, but methane hydrate contains a higher caloric value than other forms of fossil fuel.

The big news is that this spring Japanese researchers successfully extracted and burned natural gas from methane hydrate drawn from a depth of a thousand feet 30 miles from central Japan in the Nankai Trough, a 600-mile-long trench lying off Honshu Island. This gash in the ocean’s surface is produced by the colliding geological plates which make Japan so earthquake prone. It’s estimated that in that deep gulley alone there is enough methane to meet Tokyo’s needs for more than ten years. In addition, there are other deposits in the seas surrounding Japan.

The Japanese gambit has not gone unnoticed. U.S. Department of Energy researchers have also been working at methane hydrate research, and, in fact, earlier on suggested the possibility of commercial exploitation within 15 years. Despite the fact timid bureaucrats in the now highly politicized Obama Energy Department refuse to respond to enquiries about what Tokyo’s sponsorship has done for fire ice commercial development prospects, they were on the scene to observe the Japanese. There are hints their present reluctance to talk about commercialization may have to do with the Administration’s policy of attempting to boost energy costs to force the economy into what have been its disastrous and often corrupt “green energy” investments.

Still, the Obama war on fossil fuels has been highly unsuccessful because of the shale technological breakthrough, luckily for the country and the world, mostly on private U.S. land. The Administration has virtually shut down new development on government land, granting new exploratory rights only reluctantly under great pressure from state governments that desperately need the tax revenues.

American scientists last year did experiments on the North Slope of Alaska with injecting a mixture of carbon dioxide and nitrogen into underwater gas crystals to promote release of natural gas. This follows on estimates of enormous deposits of fire ice in the Arctic region. Furthermore, a U.S. expedition in 2009 estimated there was around 6,700 trillion cubic feet of gas trapped in gas hydrates in two sites in the northern end of the Gulf of Mexico. (A measure: the U.S consumed 25 million cubic feet of natural gas in 2012.) In fact, an estimate of 700,000 trillion cubic feet of methane trapped in methane hydrates worldwide is staggering since it would top all the combined estimates of all worldwide fossil fuel reserves–including coal.

The busy and as always methodical Japanese now believe they can bring fire ice into commercial production in six years. That promises the same sort of technological and economic breakthrough which was largely unanticipated by even the most astute energy observers about shale gas only a decade ago. Tokyo’s government-backed research and production team has every reason to push the fire ice development: Japan’s reliance on foreign gas imports has peaked since the 2011 Fukushima Daiichi tsunami nuclear disaster producing an ambiguous strategy concerning its 54 nuclear power plants that once provided 30 percent of Japan’s energy.

It remains to be seen how fast the major oil producers will move on the fire ice development. They are obviously going to get no help from an Obama Administration, which is still diddling on the issue of transporting Canadian tar sands (and incidentally picking up enroute North Dakota and Montana shale) oil to Texas refineries. The economics would produce, in part, new exports to now energy-hungry East Asia. Private industry is moving ahead to invert former liquefied petroleum and LNG terminals only a few years ago destined for imports into exporting operations.

Although local resistance from environmentally conscious state governments has virtually disappeared on the tar sands route and Obama is feeling the heat from his own trade union supporters over loss of jobs, the White House is still resisting Congressional pressure–including from some leading Democratic senators–to okay the Keystone XL Pipeline down from Canada. But as the U.S. resumes its former traditional role as an energy exporter, it will become more and more difficult willy-nilly to make any economic or political argument for the Obama policies.

In the end, common sense tells us that investments for expensive environmental considerations–if they are to be implemented–are going to require a healthy, growing economy to foot the enormous and growing bill. And that now, as in the American past, depends on cheap energy which the Obama Administration is ideologically dead set against. It remains to be seen how long it will take for logic to carry the day in the U.S. political process. Ironically, as is their custom, Obama Administration spokesmen are already claiming credit for the shale gas revolution even though their policies would have blocked it had the irony of fate not put the ball in the private sector’s court.

Meanwhile, melting fire ice is likely to again blow apart all the conventional wisdom on energy as it unplugs a new avenue for eventual additional resources to re-energize the world economy.

Further Reading:

Daniel Yergin: The New Prometheus.  Review of Comeback by Charles Morris

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