The ambiguities of energy transition

Photo Philippe Chalmin / Professor of Economic History, Paris-Dauphine University, PSL Research University / December 30th, 2014

Achieving an energy transition is obviously necessary in the long run, but the situation is much more confusing in the short and mid-term perspectives, for several reasons. Firstly, the experiments conducted to date are far from convincing and it is apparently difficult to agree on a model. Secondly, we have not yet exited the petroleum-based economy. The pace of the transition will depend to a large extent on world markets for fossil fuels, with unstable prices and where the dynamics call for reassessment because of the way petroleum products are produced in North America. Lastly, we have the mid-term evolutions which, between technological breakthroughs and geopolitical changes, are difficult to predict. The energy transition has begun and will continue. But if we wish to draw up an overall picture, it is the ambiguities and uncertainties that prevail.

ParisTech Review – The question of energy transition has become an issue of great importance in politics, especially in Europe, to the point that it occasionally appears to have replaced economic policy. The theme is credited with a capacity to improve our daily lives, reduce greenhouse gas (GHG) emissions, guarantee our energy procurement independence, stimulate innovation, improve competitiveness, create jobs, and so on. Could all this be a myth?

Philippe Chalmin – Everybody is pursuing the same objective: to see a future planet Earth with ten billion inhabitants who have abandoned fossil fuels and where environment and global warming problems have been resolved. The aim is to move on from the oil and coal era to a new age with new energies, hopefully renewable and non-polluting. To achieve this goal, the commanding watchword will be energy transition. But beyond appearances, what we have here is a highly ambiguous concept which is being implemented with four very distinct dimensions.

The first, well-defined, dimension, relates to the reduction of GHG emissions, notably that of CO2. This constitutes a legitimate challenge, based on the almost undisputed conclusions of the IPCC on global warming.

The second dimension is tied to the development of clean energy sources, those that will have least negative impact on the environment. This covers all forms of pollution, from fine particles released into the atmosphere to pollution of water tables and even integrates the preservation of biodiversity. This thrust may call into question certain renewable energies, for example hydroelectric power plants, given that installing a dam will destroy some biodiversity.

Third dimension relates to how we shall adapt to abandoning fossil fuels. Even if we were to increase the volumes of known reserves, there will probably be no more oil at the end of the 21st Century, likewise for gas and coal by the end of the 22nd Century. We should also appreciate freeing ourselves from a dependency on certain oil producing countries, those associated with geopolitical risk, as for example, certain States in the Middle East or in the ex-Soviet bloc.

Lastly there is an irrational, fear-driven, dimension, notably where nuclear energy is concerned.

Energy transition is a concept standing at the crossroads of culture, psychology, economics and history. Europe is one of the rare, large regions of the world where this energy transition has already begun. However, we should bear in mind that it only represents a small fraction of the world’s energy scene. Europe can serve as an example, but the real challenges lie in the emerging countries.

An efficient way to reduce the incoherencies in GHG reduction policies would be to adopt a price for CO2 such that the most cost-effective investments would be favoured. But the European experiment to set up a CO2 coupon market, known as the European Union Emission Trading Scheme (based on a price setting and exchange of CO2 emission quotas) suffered considerably under the global economic crisis. Other European experiences are closely watched. Germany for instance has begun a radical transition, backing out the nuclear option after the Fukushima catastrophe. How do you analyze these initiatives?

The German experience has turned out to be a failure, both in economic and environmental terms. If we consider the resulting energy mix, the results do not reflect the investments. A comparison with the French figures tells us a lot. The French nuclear power programme represents a total capacity of 63 gigawatts, installed over a 20 year period, between 1970 and 1990. Renewable energies in Germany represent 60 gigawatts over 20 years, since 1993. On paper, these figures are comparable; total costs are also close: 96 billion euros for France (but we can consider that France did not invest sufficiently towards the end of the period) and 120 billion euros for Germany. The major difference lies in production: in 2013, French nuclear facilities produced 410 terawatt-hours contributing some 75% total electricity generation in France, while German renewables, in the same year, produced 75 terawatt-hours and contributed 15% total German electricity production, i.e., 3 to 4% of their national energy mix. Germany’s decision to opt out of nuclear power production is not very rational, and is better explained by the political context rather than by any economic reasoning or rationality.

So the intrepid German initiative could not serve a basis for development of a general model for energy transition?

Not at all. The German decision can be largely disputed inasmuch as Germany, in order to replace its nuclear capacity, had to increase its dependency on natural gas imported from Russia and also to re-open numerous mothballed coal and lignite power stations. More than one quarter of Germany’s power production comes from burning lignite (the most polluting form of coal) and the fraction is growing, rising from 23% in 2010 to 25.8% in 2013. If we refer to some modelling studies done by the University of Stuttgart, pollution due to coal burning power stations, mostly in Germany and Poland, causes the deaths of 5,000 persons each year in Poland, 3,000 in Germany and 1,000 in France. Today, given the upsurge of use of shale gas production in the USA – which has seriously lowered the market price of coal – the latter has now become the least expensive source of energy. The Energiewende [energy transition policy] in Germany has led to an increase of CO2 emissions, but also of sulphur and other fine mineral particles that result from coal burning.

Moreover, even if coal burning is not expensive, the electricity produced by renewables carries a cost and this is mainly borne by households. The price of electricity in Germany is the highest in Europe, excepting Denmark, Europe’s champion for CO2 emission levels and wind-farming electricity production. Germany no doubt was convinced that the energy transition would generate new industrial sectors, notably in solar power production, but it simply scuttled its competitive edge, even if the industrialists and notably the electro-intensive sectors are largely exempted from paying the reallocation costs (Umlage) associated with the Energiewende programme.

Lastly, in the framework of a partly integrated European electricity market, the increase in intermittent (viz., renewable) energy in Germany has led to collateral damage for its neighbors. A date to be remembered is May 11, 2014. On that particular day, Germany attained 75% renewable power in its total electric production, even if this electricity was being exported at negative prices! The reason – and not many people are aware of this – is that with a priority, regulatory access to the grid for renewable power production, the other source operators are legally required to adjust their own production downwards, knowing that they cannot totally stop their generators: consequently, even if the machines are turning at minimum rate, they are willing to pay to inject electricity into the grid.

All told, the German experiment leads to question the relevance of political determination when it comes to deciding about energy transition. First of all, an isolated decision is not very meaningful and its scope is very limited: negative effects are numerous, including for the environment. This is all the more regretful that the first ingredients of a European energy policy exist already. Secondly, as for the factors that help shape a decision (e.g., future, global prices for gas or coal, or managing grids with a high percentage of renewables, or long-range photovoltaic efficiency, etc.), we are playing the score by ear and it seems a risky affair to force any decisions whatsoever.

Nevertheless, the German experiment has enabled us to better measure the economic relevance of a large scale deployment of renewables. So, what conclusions can you draw here?

Today, only one renewable energy source, apart from classic hydro-electricity plant, is economically viable: inland wind-turbines. It is the only source with a ROI rate (return on investment, the number of energy units generated per unit invested) comparable with that found for hydro-electric plant or nuclear power stations (knowing moreover that kilowatt hours are not all equivalent, depending on whether they are guaranteed or not). Offshore wind turbines and solar energy installations are not reasonable choices, or let me reframe that: the latter is only conceivable in very sunny countries. The Germans are very paradoxical. Wind farms in Germany are mainly located in the Northern regions, but the inhabitants do not want to see any high voltage lines – especially in Bavaria – to transport the wind-generated power to the South where the major electricity consumers are located. This provides a sort of anti-model for countries like France or the United Kingdom which, with their nuclear power option, possess a decisive comparative edge.

In reverse – and this is true for the rest of Europe – we must put more efforts into reforming the transport mix, notably by way of taxes or via development of smart forms of transportation, both in the urban areas and in the rest of the country. Two reasons in favor of this: transportation generates huge amounts of CO2 and could emit far less; road haulage is almost exclusively dependent on petroleum products and, consequently, is very sensitive to variations in global prices. Those two objective points can justify making these efforts.

Electricity has a key role to play for both public transports and freight, as well as private cars tomorrow. In more general terms, the main axis of energy transition is to produce electricity. However, if we take the example of a country where nuclear power is well-controlled, such as France or the UK and China tomorrow, and given the present state of the art in electricity storage, the alternative for producing electricity is not a choice between nuclear and renewables (wind turbines or photovoltaic arrays) but between nuclear and a renewables/thermal electric production mix, in which the latter will increasingly be represented by burning coal. Before 2016, it is estimated that coal will become the most consumed energy in the world, as is already the case in China and in Germany.

Transitioelec

The main energy challenges lie in the emerging countries. As you see it, have China and India reached the point where they can become involved in a transition process?

China pollutes a lot but its CO2 emissions per capita are considerably lower than the figures for Europe; economic development in China is currently at the same level as the Western world was towards the end of the 19th Century, with an industry-based economy (50% of the Chinese economy for 2014) and a model to catch up with the developed countries through using the main energy source available, coal. The Chinese do not possess oil fields of sufficient capacity; they could exploit shale hydrocarbons (gas, oil) but a national shortfall of water is a discouraging factor here. China has chosen this industry-based model leading to a pollution level in Beijing that recalls smog over London towards the end of the 19th Century, aggravated by use of gas lighting in the streets and for home heating. The atmosphere of the capital city is unbreathable. We should recall, before we accuse China and by way of drawing a comparison, the state of so-called “advanced” Western Europe before WW1, e.g., France with its life expectancy at 50 years – which alone obviates any debate about retirement and paid holidays – a working week of 70 hours given that Sundays only became a public holiday in 1908, and lastly a per capita wealth production five times lower in real value as it is today.

Notwithstanding, comparison is not a proof. The case of China is unique in human history. Never before has an entire continent-country, with its 1.4 billion human beings, undertaken such an effort in terms of the economy: a growth rate close to 10% annually since Mao died in 1976. Yes, there has been a considerable environmental cost to this, but it has been deemed worthwhile. The Chinese themselves are aware of the damage caused, far more than India, now ranking as 4th country in the world for primary energy consumption. India’s development model, based on activities with a low labour input but with a high intellectual capital outlay, in areas such as computer sciences and software or biotechnologies, does not lead to sufficient job creations. Consequently, India is now building up a powerful industrial sector (iron and steel-making, automobile assembly), consuming a lot of energy. India imports 75% of the petroleum products needed and environmental protection and preservation are not yet national priorities.

We can hope that China and India will engage in an energy transition more rapidly than England did in the 19th Century …

In China, President Xi Jinping is insisting a lot on the environmental issues. His aides describe the chairmanship of Hu Jintao as a “lost decade,” inasmuch as the former leader had not taken the right decisions to fight pollution. The patent sign of this failure are the crowds in Beijing constantly checking the air pollution index on their smartphones. In Paris, we start to get seriously worried when the index reaches level 80; in Beijing, the level is more often at 250 and sometimes reaches 400, because of the steel-making foundries in nearby Hebei Province and numerous iron-ore mines. Beijing has closed numerous factories close to Tangshan, a city with 7 million inhabitants, but this is not enough. A lot more would be needed to stop the air pollution phenomenon.

The Chinese today are the world’s first renewable energy producers and they are progressing faster than we do in Europe. Having said that, if their growth rate remains vigorous, they will continue to increase their CO2 emissions faster than the environmental protection measures have a cancellation effect. The Chinese are also investing massively in nuclear power production. The chances are that the world’s first Evolutionary Power Reactor (EPR) in operation will be Chinese. But nuclear is a long term vision. In the meantime, the three major Chinese petroleum groups are developing fossil resources exploitation throughout the world, to attain a sort of energy autonomy. The Chinese authorities also place their faith in the advent of “clean coal,” a legacy for older German patents for liquefying coal, a process improved upon by South Africa.

Calling for an energy transition is all the more fashionable when oil is expensive. But the signals here are ambiguous. End 2014, the price of a barrel of oil dropped significantly, despite the numerous crises raging in the oil producing regions, which suggests that the offer is overabundant. Simultaneously, the newly explored reserves are often disappointing whereas, according to the International Energy Agency, the demand for oil will rise from 87 to 101 million barrels/day up to 2035. Are we in a position to predict future oil barrel prices?

The price for Brent Oil went under 60 $US/bbl. in autumn 2014, a long way from the 147 $US high in 2008. But we should not forget that a barrel cost somewhere between 10 to 15$ at the beginning of the century. We are, in fact, still undergoing an oil crisis. The oil market is a paradox: it is a free market albeit rather well controlled by a Riyadh-Washington axis. On one hand, the considerable upsurge of shale oil extraction in the US has created a glut. The question, on the other hand, is whether OPEP will return to its role as a market stabilizer generally via modulations of the Saudi Arabia production.

In the long run, we have always been wrong with our estimates since we still do not know how to anticipate technological change, for example, oil extraction technologies. With today’s technologies, a large quantity of brute oil remains at the bottom of the oil fields through lack of means to empty them completely. But the necessary means will be developed sooner or later. It is already the case for coal: in 2014, using hydrocracking rupture technologies, we are now exploiting old slag heaps which were simply not exploitable a century ago.

We often hear that the shale oil explosion in the US has severed the dependency of America on Middle East crude oil and even damaged the geopolitical link. It can be seen that OPEP pricing strategy today consists of attempting to limit US shale oil production by attacking the profitability of the American producers. How do you analyze this?

The argument of a US-Saudi Arabia scission is based on an exact observation, but the conclusion drawn here is wrong. For its domestic consumption, the US – who has become a large-scale oil producer – is indubitably less dependent on Middle East (and particularly Saudi Arabian) oil. But OPEP, even to counterbalance the new American competition, has no interest to lower its selling price too far. The financial balance of the US shale oil producers also depends on the world price for a barrel, set by OPEP. So this link still exists.

The costs for exploration-production of oil in the US have dropped to 70 $US /bbl. OPEP would like to keep the price in the range 90-100 $US/bbl. This price satisfies the geopolitical objectives of two crucial countries. The US preserves the profitability of its domestic production but does not make any concessions to Russia, the new strategic competitor, who is hardly balancing its budget. Likewise, Saudi Arabia is preserving the balance of its national budget but is making no concession to Iran.

In general terms, it is considered that the Russian budget requires a price level at 95 $US/bbl. and that Saudi Arabia with its rapidly increasing population, prefers not to leave the bracket 90-98$US/bbl. Kuwait, with a far lower population, would be satisfied with a barrel at 45$US/bbl.

All things considered and, taking market practice and political uncertainty factors into account, can we nonetheless foresee what the global energy mix will look like in 2050?

We can work on various scenarios, as IEA does, but it does seem extremely difficult to progress along any precise avenue: between technological innovations, political arbitration in the major emerging countries (economic development versus preserving the environment, for example) and the high uncertainty that surrounds the evolution of oil and gas prices 25 to 50 years ahead – a set of factors which, moreover are inter-independent – we simply do not possess the means today to know what lies ahead.

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