Energy Realpolitik

As nations prepare for a possible health emergency, world leaders are realizing that the new coronavirus is going to be harder to contain than previously hoped. Mobilization is continuing, and concerns are mounting about both health and economic consequences. Washington, like other global capitals, is starting to worry about the economic effects of the coronavirus. Today’s reports that the city of Milan, Italy’s financial hub and its second largest city, was close to lockdown as a result of hints of a spread of the coronavirus in northern Italy was further evidence that the disease, and its economic consequences, are not under containment. Italy’s largest bank, UniCredit SpA, is among Italian firms encouraging its employees to work from home. South Korea has also been hit with the coronavirus outbreak as well as declining imports and exports to and from China. Automobiles are one of South Korea’s major export sectors and car manufacturing has been struck by the economic disruption in China. In both South Korea and Japan, major financial institutions are asking employees to work remotely from home. A telling economic indicator that the coronavirus is starting to take a global economic toll and not just a toll on China is falling prices in global oil and gas markets. Prices for liquefied natural gas (LNG) were already on a downturn from rising supplies and mild winter weather, but now have fallen to near rock bottom levels, with a few U.S. producers willing to pay potential users to take their surplus domestic natural gas away. Oil also started dropping again on Monday as it became clear that disruptions to global shipping and trade could go beyond China. Eighty percent of the world’s goods move by ship, and demand for shipping is starting to slip noticeably. To name one example, in the Persian Gulf, February loadings of large crude carriers dropped dramatically to single digits, down from the usual thirty tankers or more. A Citi update on the coronavirus this week noted that overall Korean exports are down by almost ten percent so far this month while imports are lower by fifteen percent. The bank predicts worsening trade effects on South Korea for March. The Port of Long Beach is also reporting a significant drop in container ship volumes by as much as forty percent. Demand for marine fuel globally was expected to average around 4.2 million b/d, according to statistics from the Organization of Petroleum Exporting Countries (OPEC). Aviation oil use is another 6.6 million b/d. Total transportation oil use averages around 58 million b/d, of which thirty nine percent reflects usage related to freight including twenty three percent from trucking, OPEC estimates. So far, analysts are only projecting a loss of 135,000 b/d of jet fuel demand in Asia. That could prove optimistic if travelers globally lose confidence in the safety of air travel as locations with coronavirus outbreaks continue to proliferate. In sum, the full influence of coronavirus disruptions on oil markets is likely yet to come. But perhaps, more important and lasting than the instantaneous loss of the economic value of trade and tourism, is the realization by leaders from around the world of how vulnerable their economies are to global supply chains. The Donald J. Trump administration was already focused on reducing the dependence of the U.S. defense industry on Chinese magnets, rare earth minerals, and other metals processing inputs and manufacturing. Now, some conservative voices are getting louder, including President Trump’s trade advisor Peter Navarro, who recently called on the U.S. pharmaceutical and medical supply industry to reduce its dependence on imports. In an unrelated move, Congressional Republican Senator Marco Rubio and Democratic Senator Chris Murphy sent a letter to the U.S. Food and Drug administration asking if it is prepared to screen the safety of pharmaceutical, food and medical supply imports from China. On the flip side, China could not be in a position, or willing, to export any vital medical equipment. Gordon Chang, a professor of American studies at Stanford with a focus on American-Chinese relations including the history of Chinese railroad workers in America in the nineteenth century, published a blog today warning that the economic chaos from China could make itself felt to American consumers by April. A possible unintended consequence of the coronavirus could be a tightening of supply chains back to a national economic champions policy in major economies. Since China’s vast population has served as an economic engine to the entire global economy in general, and oil, in particular, such a change would be dramatic. Already, the United States and Europe have focused on the risks of relying too heavily on Chinese equipment to establish Fifth Generation (5G) telecommunications networks. Earlier this month, U.S. Attorney General William Barr floated the idea that the U.S. and its allies should take a “controlling” stake in European telecom firms Nokia and Ericsson as a way to prevent Chinese firm Huawei from dominate 5G wireless markets. The Europe Commission has also approved $3.5 billion in state aid towards the European Battery Alliance aimed at making the continent independent in raw materials, processing facilities, battery manufacturing plants, and recycling facilities needed for the electric car industry. If the economic after-effects of the spread of the coronavirus cripple major economic supply chains of more crucial industries, expect to see an acceleration of such trends.

The first priority in addressing the coronavirus is preserving global health. Lessons from the past show that the herculean task requires timely and credible action by governments, coordinating leadership from the World Health Organization, and constructive cooperation among nations. But as containment of the respiratory illness continues to face uncertainties, the fallout of the coronavirus is spreading beyond national and global health systems into the economic sphere. The coronavirus has also taken center stage as a black swan in global oil and gas markets, and first signs are that its influence could be dramatic. Depending how long the health crisis lasts, it is worth considering whether there could be larger ramifications than just a few weeks of market volatility. Many analysts are referencing the Severe Acute Respiratory Syndrome (SARS) epidemic of 2003 in thinking about how long and how extensive the outbreak could be on international travel. Studying similar past events can often provide clues for how a new black swan event can accelerate or decelerate existing trends. One unexpected outcome of the SARS epidemic was that it accelerated the surge in car buying in China in 2003 as urban populations began to shun public transit. Car culture was definitely on the upswing in China at the time. But car sales in China rose by over 30 percent in 2003 compared to a year earlier, as anxiety about being in crowded places elevated. With over 46 million people in China under a temporary quarantine order due to the coronavirus, it is worth considering what unexpected consequences could result this time around. For example, telecommuting could become more accepted and widely practiced post-coronavirus, not because people remain afraid to go to work, but because working or holding meetings remotely could be found to offer productivity gains to businesses, especially where employees are in different locations or time zones. Several Wall Street banks have lowered their oil price expectations for the first half of 2020 based on the coronavirus. Barclays is suggesting the effects could be transitory, with a loss in oil demand from China in the range of 600,000 to 800,000 b/d in the first quarter of 2020, resulting in about a $2 a barrel lower price expectation over the year. Citi’s projections are more dramatic, suggesting current freight and passenger traffic could be down substantially for several weeks, totaling a loss of about 1 million b/d of oil demand off China’s norm of 13.1 million b/d for oil use. Citi estimates freight is running 40 percent lower than usual, with consumer use even more substantially affected. As a result, Citi is lowering their oil price forecast for the first quarter of 2020 from $69 a barrel for benchmark Brent crude to $54 a barrel, warning that a dip to $40 could be possible, especially when combined with current warm winter temperatures. The fall in the volume of global tourism is also hitting jet fuel demand. Chinese tourists made over 150 million overseas trips in 2018, double the rate of the next largest nation of travelers, and were expected to account for a quarter of all tourism by 2030. Beyond flagging oil use, China is currently turning away cargoes of liquefied natural gas (LNG). China’s temporary exit from the LNG market has worsened oversupply in the LNG market already hit hard by ample new production and weaker than usual winter demand. Asian LNG prices hit an all-time record low last week. These projections raise the question of how transitory the weakness in China’s energy importing will be in the coming weeks and whether there will be any long run ramifications for energy use that are not yet anticipated. The U.S.-China trade deal had targeted $50 billion in energy purchases by China of U.S. oil, natural gas, and coal. That figure already looked like a stretch and could be even harder to reach now. Even before the coronavirus outbreak, falling global spot prices for LNG had prompted Chinese state firm Sinopec to delay signing a $16 billion multi-year supply arrangement with American firm Cheniere to purchase U.S. LNG. Trade volumes in global goods, in general, had already taken a hit in 2019 as companies looked to reorganize supply chains to reduce geopolitical risk. That trend is unlikely to be reversed this year, with ramifications for projections that global freight demand would support greater oil use and offset any losses in oil demand that could come from an upsurge in sales of electric automobiles and other inroads for energy efficient technology adoption. For the time being, supply disruptions from Libya and a possible new round of cuts from the Organization of Petroleum Exporting Countries (OPEC) could bail out U.S. independent producers whose revenues, and to some extent, production rates are highly sensitive to oil price trends. But the boost expected to come to the U.S. energy sector from new trade deals could evaporate quickly if China is unable to get its economy back on its feet quickly as a result of the coronavirus outbreak.

This is a guest post by Zoe Dawson, a recent graduate of The Center for Global Affairs at New York University. She was previously an intern for Energy and Climate Policy at the Council on Foreign Relations. Approximately thirty-nine U.S. states have renewable or alternative portfolio standards (RPS), mandating a certain share of renewable power generation within a particular time frame. A small yet increasing number of states have set targets for 100 percent renewable generation. Eight states, including Washington DC and Puerto Rico, have committed to 100 percent clean generation by 2050 or earlier. The most ambitious target, recently set out by Rhode Island seeks to achieve 100 percent by 2030. In comparison to the European Union’s most recent announcement aiming to reach carbon neutrality by 2050, the overall percentage of US states pushing for 100 percent is still low. As we enter the 2020 election year+, it will be interesting to see whether support for renewable energy targets could play a role in the election campaigns. According to the Pew Research Center, a majority of Americans support a range of energy policy priorities; 71 percent in favor of increasing reliance on renewable energy sources and 69 percent who are in support of reducing dependence on foreign energy sources. Not surprisingly, democrats and democratic leaning independents give priority to protecting the environment as well as increasing reliance on renewable energy sources, while a larger share of Republicans put priority on reducing U.S. dependence on foreign energy sources. The midterm elections in 2016, highlighted greater concern for promoting more ambitious renewable energy targets. This was evident in Nevada, with Governor Steve Sisolak calling to increase Nevada’s 50 percent renewable generation by 2030 target to 100 percent by 2050. In Colorado, Jarded Polis is calling for 100 percent renewable energy by 2040. Even more notable, in Michigan, the state’s RPS became a selling point in the campaign. Gretchen Whitmer defeated the states Republican attorney general, Bill Schuette, renowned for his lawsuits against the Environmental Protection Agency (EPA) and opposition to clean energy and energy efficiency. Reflective of Schuette’s electoral defeat, Michigan’s two largest utilities committed in 2016 to boost the fuel mix to 50 percent renewables by 2030. Subsequently, in Illinois, Connecticut, Minnesota. Wisconsin, and New Mexico, elected officials are calling for the increase and establishment of 100 percent RPS targets. Since the midterm elections of 2016, a wave of state level clean energy policies are moving ahead through the eleven new Democratic governors that were elected, seven of which flipped previously from Republican seats. Wisconsin’s governor-elect, Democrat Tony Evers, defeated Scott Walker through a campaign that included pledging to join seventeen other governors committed to the goals of the Paris climate agreement. As more politicians and elected officials in the U.S. push to attain 100 percent renewable power generation, the next big question is around how this can be achieved? Over the last decade, the price of renewables has fallen dramatically. Wind energy has reduced in cost by some 70 percent since 2009 and solar has reduced by an extraordinary 88 percent. This has improved the economic viability of transforming the power sector, allowing the levelized cost of energy for wind and solar to become competitive with that of coal, natural gas and nuclear. However, the biggest challenge with increasing dependency on renewable energy sources such as wind and solar is their variability. Solar energy is only available during sunny daylight hours while wind supply can be intermittent at times. Currently, the state closest to meeting its renewable goals is Vermont, with in state electricity generation coming almost entirely (99.7 percent) from renewable sources, 60 percent of which comes from hydroelectric power. Vermont relies primarily on electricity imports, with the largest share of electricity consumed coming from hydroelectric generators in Canada. Behind Vermont follows Idaho, Washington, and Maine, similarly these states have cleaner power systems as a result of access to hydroelectric generating capacity. Hydropower differs from variable renewable energy resources such as wind and solar, given that is more consistently available with stable output and production. Excess hydro-capacity can be called upon at times of day or seasonally to supplement renewables, though its turbines, like natural gas peaking plants, have technical limitations and adjustments are not instantaneous. Thus, hydro is often used to help balance the grid, as a complimentary source to faster responding energy storage, solar or other power electronic based generator systems. Beyond extra capacity at existing hydroelectric plants, water sources can provide the possibility of pumped hydro storage. Pumped hydro operates through the use electricity-powered turbines, potentially solar for example, to pump water uphill in order to fill a reservoir. Then when electricity is needed, the water is released to flow through downhill turbines to generate electricity. To back up solar power, water is pumped uphill during the day using solar energy and then released when solar energy is no longer available. To the extent that water can be pumped uphill at nighttime --for example, using excess wind power--it can shift the availability of power from overnight generation to serve daytime loads, which adds significant value. Pumped storage hydroelectric power plants are the largest source of electricity storage technology used in the United States. This is both in terms of capacity and number of plants. While there are local variations of hydro inflow as a result of weather patterns, a large share of production capacity is flexible. The usage factor each month for pumped storage usually follows the pattern of electricity demand, a large peak during the summer, smaller peak in winter and the lowest use throughout the rest of the year. Hydropower in the United States currently makes up 7 percent of power generation and 52 percent of current renewable power generation. Roughly half of U.S. hydroelectric generation capacity is concentrated in Washington, California and Oregon. Across the U.S.–Canadian border, 37 major two-way transmission connections between Canada and New England, and Canada and the Pacific Northwest imported and exported 82.4 million mega watt-hours of U.S. and Canadian electricity in 2016. New England and New York accounted for 60 percent of total electricity imported to the U.S. from Canada in 2014, representing 12-16 percent of the regions retail sales of electricity, according to the U.S. Energy Information Administration (EIA). The Pacific Northwest is a net exporter to Canada due to its hydroelectric capacity generating electricity in excess of the region’s needs during high water periods. In 2017, Professor and Director of the Atmosphere/Energy Program at Stanford University, Mark Jacobson released a report which suggested that all U.S. electricity generation could be met with mainly hydropower, wind, solar and storage to achieve 100 percent renewable generation. The study noted that hydropower, in addition to other storage systems like batteries, can be used to balance the variability of other renewable energy sources such as solar, which is not available in the nighttime, and wind that is sporadically intermittent. Battery storage is more cost effective and valuable at providing small amounts of stored energy over a short time at high power levels, while pumped hydro storage is more cost effective at storing and releasing larger amounts of stored energy over longer periods of time. A subsequent study questioned whether stationary energy storage solutions like batteries and the addition of turbines to existing and new hydroelectric dams or storing excess energy in water, ice and rocks could be sufficient to deliver a 100 percent renewables U.S. energy system.  The second study noted that multi-week battery storage systems have yet to be developed and suggested that the ability to develop swing hydroelectric electricity supply could be difficult since addition of turbines could require major reconstruction at existing facilities and the addition of additional supporting infrastructure. In some cases, competing uses for water and environmental constraints might prevent such expansion in hydroelectric capacity, according to the second study authors.   Another challenge to hydroelectric capacity is the possibility that dam removal is sometimes needed for ecological reasons. Given the geographical concentration of U.S. and Canadian hydropower, a decarbonized grid in many locations in the United States will have to rely heavily on wind and solar generation paired with energy storage including batteries. While the declining costs and technology maturation of lithium ion batteries is contributing to energy storage becoming a viable option throughout the United States, unresolved challenges persist for balancing solar power on a seasonal basis in some northern states where hours of sunshine are reduced in wintertime. Other grid organizational models are under study to solve this problem including conversion of renewable energy to hydrogen fuel that can be stored for later use and small-scale distributed energy models that allow smaller batteries to be deployed widely to individual users with diverse usage needs to enhance flexibility to the system. Australia has utilized such a system to stabilize electricity shortages in the Western part of the country. In the case of hydrogen conversion from renewable energy, the technology is still nascent, and some applications remain commercially too expensive to be competitive in today’s markets. Hydrogen fuel also requires special infrastructure given its chemical properties. The Nord Pool, which is a market based power exchange made up of nine Northern European countries is a good example of how increasing interconnectivity can serve as a way to integrate greater amounts of variable renewable energy on the power grid. Most notably, Denmark, which has nearly twice as much wind capacity per capita than any other nation (making up 43 percent of electricity generation) has been extremely successful in facilitating such a high penetration of weather dependent generation through enhancing grid flexibility and interconnectivity. Growing interconnectivity has allowed Denmark to increase its wind energy build. When Denmark is overproducing, it can sell excess power to neighboring countries including Norway, and when the wind is not blowing it can purchase power from its neighbors. The trading of wind and hydropower between Denmark and Norway, above all else, presents a good business case. On average, Norway usually has about a 10 percent hydro surplus every year. When Denmark is experiencing strong winds and/or Danish power demand is low, the price of Danish wind drops, providing profitable arbitrage opportunities for Norway. The planning for scale and encouragement of healthy competition has been critical to the growth of renewables in Europe. As individual states in the United States seek to advance their renewable energy targets, lessons should be drawn from cross-border coordination taking place in Europe and the leveraging of planned transmission infrastructure to provide resource flexibility and take advantage of economies of scale. In comparison, existing interconnectivity between United States and Canadian power markets has seen similar benefits; includes contributing to economic growth through delivering low cost power to formerly underserved regions in the Pacific Northwest. In New England, electricity imports from Quebec and New Brunswick have lowered wholesale power costs and deliver annual economic benefits in the range of $103 million to $471 million. As the U.S. presidential election approaches, election outcomes could be critical to the future pace of deployment of renewable energy in the United States. GOP efforts on carbon emissions have mainly been focusing on carbon sequestration rather than incentives for clean energy. Carbon Sequestration is favored by the fossil fuel industry but yet to be widely commercially deployable at scale. In addition, most Republican plans focus on free market solutions to the climate crisis as opposed to strictly regulating carbon emitters. Recent details on Republican climate plans places emphasis on planting trees, a natural method to sequester carbon. By contrast, the leading democratic Presidential candidates including Bernie Sanders, Joe Biden, Elizabeth Warren, and Amy Klobuchar have all pledged to achieve 100 percent renewable electricity by 2050 or earlier. Democratic contender Michael Bloomberg, a long-time climate activist, released his plan for 100 percent clean energy. Bloomberg’s plan includes extending and expanding solar and wind tax credits and creating new tax incentives for private companies to improve clean energy technology, including battery storage and green hydrogen. No matter the result of the 2020 election, federal policy may not be the leading indicator in the United States where climate and energy policy has been propelled by states and cities. Given the popularity of renewable energy among U.S. constituencies and the falling cost of deployment, renewable energy expansion is likely to remain a major feature of the U.S. energy system in the coming years, catalyzed by state and local policies.