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UK energy review is a danger to us all

Image: Rich

The UK government review of energy costs is unlikely to result in pleasant reading for anyone.  This is because the chosen reviewer, Oxford University professor Dieter Helm, has a long track record of telling unpleasant energy truths about the cost of renewable electricity while overlooking the equivalent problems with gas.

Consumer groups are already angry because the review will do nothing to curb the predatory behaviour of the Big Six energy supply companies.  Meanwhile environmental campaigners and green electricity lobbyists are up in arms over Helm’s well known pro-fracking/anti-wind views.

These views will no doubt harden come October, when the review is complete.  However, even these criticisms of the review are superficial, since the real issue at stake is the long-term future of UK energy in a post-Brexit, post-fossil fuels age.  Get it wrong, and Britain really will be left shivering in the dark.

Full cost of renewables

While we cannot know for certain what conclusions the review will arrive at, we can get a good idea of the likely recommendations from a paper written by Helm following the election of a majority Tory government in May 2015; The first 100 days of Conservative energy policy.

The reference to “the first 100 days” concerns the political myth that governments enjoy a short period of grace in the immediate aftermath of an election, when they can railroad through whatever necessary but unpopular decisions they want to make.  Helm congratulates the then energy minister, Amber Rudd, for such things as scrapping subsidies for onshore wind, rolling back the so-called “green deal” and paving the way for fracking.

While some in the green energy lobby may seek to portray Helm as anti-and renewable climate change denier, the characterisation would be unfair.  Helm is both pro-renewables (in theory) and pro-carbon reduction.  His objection to the current renewable energy lobby is that they remain an ineffective solution to the wrong problem:

“On carbon, the problem is global warming, not British warming, and hence what matters is carbon consumption, not carbon production. Ever-higher prices and taxes reduce the carbon-intensive production of Britain, but not the carbon-intensity of the shopping basket.”

This is a point that the affluent western green lobbyists deliberately overlook.  The reason that Chinese cities are shrouded in smog is because affluent westerners insist on consuming vast amounts of carbon-intensive consumer goods.  Most of the energy that we consume is embodied in all of that stuff.  Adding token wind turbines or fitting solar panels on roofs may help to salve liberal consciences, but they simply do not solve climate change:

“Wind and current generation solar present little challenge [to fossil fuels]: they cannot generate enough useable energy in a dense enough form at a low enough cost to make much impact. But new technologies might do the trick, and if they did then demand for oil may gradually decline, leaving a lot of the deposits in the ground.”

Helm’s preferred solution to both climate change and future energy provision is to do away with the various hidden subsidies and replace them with a straightforward carbon tax.  In this way, affluent westerners would be less able to evade the true climate cost of the energy embodied in imported goods.  Indeed, Helm posits a future in which manufacturing goods on one side of the world and consuming them on the other is replaced by a hi-tech future in which goods are created where they are needed using 3-D printing technologies.

As with electric cars, this future technology will require additional electricity generating capacity in Britain.  According to Helm:

“In such a world, new capacity would be determined by a single unified auction. Bidders would be required to quote for firm power, so that intermittent generators would have to sub-contract for back-up when the wind does not blow (and in the process, create a secondary market in back-up generation).”

This is unpleasant reading for uncritical renewable energy fans who all too often overlook the voltage/frequency issues that come with current renewable technologies.  If renewables require back-up storage and gas power plants for moments, hours or days when the sun isn’t shining and the wind isn’t blowing, then these should properly be regarded as a part of the cost of renewables, not as something bill-payers or tax-payers are obliged to subsidise the generating company for.  The alternative – as we have stressed many times before – is that we create an energy death spiral that will sooner or later undermine the energy network.  The trouble is that once the full costs of current renewable technologies are included, any illusion that they can out-compete fossil fuels disappears.

A world awash with gas

This is where Helm is at his most controversial.  He sits comfortably in the ‘gas as transition fuel’ camp, arguing that the main priority is to do away with coal use:

“Coal is terrible stuff. Coal mines emit methane, they pollute the water table, they impair the health of anyone who goes in a mine, Coal is heavy to transport, and when it is burned it emits a cocktail of pollutants, water is needed for cooling, and then there is the waste to get rid of. It makes fracking gas look benign. There are therefore multiple environmental reasons for getting out of coal as a first priority.”

Since the need is to do away with coal immediately, the question is what technology available today will allow us to replace it:

 “This can be done at low cost – by replacing coal with gas. Carbon emissions would fall by roughly half. CCGTs are cheap to build, and can pay back in less than a decade – by which time credible alternatives might start to appear. Gas is secure – the world is awash with gas, and LNG as well as interconnected pipelines offer a high level of portfolio diversity. It is a no-brainer…

“For [future] electricity generation, low carbon options include: next generation solar; nuclear; geothermal; and gravity (such as hydro).  Given that nuclear is being pursued at a global level and Britain has largely opted out of the involvement of British firms in this area, and given the scale of resources required, this is probably less attractive than solar, where Britain has many opportunities. Geothermal and gravity have similar global dimensions, and again it is not clear that these are areas of comparative advantage for Britain.  CCS has an obvious British context – there are lots of empty gas fields in shallow water with pipes already attached, and coal power stations on the east coast. If there is anywhere in the world to try out CCS, it is in the North Sea.”

As Helm well knows, Britain’s offshore gas output has collapsed by more than 60 percent since peak output in 1999.  Since then the UK has become increasingly dependent upon imported gas from Norway, Russia and Qatar.  US shale gas promoters argue that there is sufficient shale gas to supply domestic needs and to export.  UK fracking firm Ineos has already gambled on this by building a liquid natural gas (LNG) import terminal at its Grangemouth chemical plant (where the gas will be used as a chemical feedstock).  However, oil geologist Art Berman (and others) point out that US fracking is a bubble not a technological revolution; and that far from the promised ‘century of shale gas’ there may be as little as 8 years’ worth at current rates of US consumption, provided that none of it is exported.

Since energy security concerns are a part of Helm’s review, this leads to the inevitable conclusion that while Britain will need to use gas as a transition fuel, it simply cannot rely on dwindling Norwegian supplies; still less supplies from Russia and Qatar or hypothetical supplies of US shale gas.  This takes us down the UK fracking route.  In theory at least, there are several decades’ worth of shale gas beneath the UK; and if technological advances in the US have made it economically viable there, there is no reason why it shouldn’t be economically viable here either.

Given his previous work, it is impossible to imagine that Helm will not recommend a full-speed ahead dash for UK shale gas as the best means of lowering carbon emissions, securing supply and keeping costs down.

Electricity too cheap to meter

Central to Helm’s thinking is a kind of techno-utopianism based on the belief that a combination of free markets and technological innovation will drive the price of any commodity to zero in the longer term.  Hydraulically fractured shale gas may be expensive (to say the least) today, but – for economists like Helm – as the technology improves, so the costs will come down to the point where fracking out-competes conventional gas and oil.

It is essential, therefore, that renewable energy technology is similarly improved if Britain is to have any chance of meeting its climate targets.  Helm argues that:

“What could possibly solve the climate change problem is the next generation of renewables technologies. Solar is the obvious candidate. The light spectrum could be opened up, and new materials in the context of solar film might be applied not just rooftops but whole buildings, and even cars and clothes too. Britain excels at R&D, despite being starved of monies. These R&D projects are, by definition, genuinely immature – unlike wind turbines and current rooftop solar PV panels. Britain invented 3D Printing (Bath), graphene (Manchester) and has substantive robotic research. It has the capacity to take solar forward. Instead of spending tens of billions on North Sea offshore wind farms which cannot solve the problem, the government could redirect some of these billions to targeted energy research – directed towards places like the Northern Powerhouse energy nexus, and more generally. The remarkable thing about R&D is that it is cheap. One billion goes a very long way. The remarkable thing about offshore wind is that it is expensive.”

Again, fracking is supposed to provide the ever-cheapening transition fuel that will see us through this research and development period in which the energy-efficient next generation of renewables are invented and scaled-up.  But the sunny uplands that Helm believes we will eventually reach will see electricity too cheap to meter.  So much so that future energy costs will be almost entirely limited to the construction and maintenance of the infrastructure that will have to be provided if we are to wean ourselves off fossil fuels entirely.

Peak oil demand?

Helm believes that fracking is already ushering in this brave new world.  Once again, it is technology that is leading the way:

“The reasons for the recent price falls are not hard to find. Prices work. It is all about supply and demand. The gradual rise in prices since the low of $10 in 1999 to over $100 a barrel has worked its way through the market. As the oil price goes up, more and more energy efficiency measures become economic. A rise in price raises the net present value of energy efficiency investments. Other things being equal, a rise in price reduces demand. That is precisely what has happened: demand in Europe and the US has fallen.”

For Helm, this totally destroys the theory of peak oil – which was based on the peculiar circumstances of the US oil industry in the 1970s:

“[C]ontrary to all the predictions of the peak oil advocates whose theory was based on claims about US peaks and declines, the US has had the fastest growing oil production in the world, and the fossil fuel revolution in the US has as a result transformed world energy markets. Even the Saudis are feeling the pain.”

By providing a technological response to the price spike in oil the US fracking industry – according to Helm – has ushered in a new era of cheap oil that will see global oil and gas prices pushed down even further in future:

“New supplies are not confined to the US. Around the world high prices triggered the search for new supplies. It has turned out that the earth’s crust has plenty of oil and gas left, that R&D is not confined to non-fossil fuels, and that there are physically abundant supplies for decades to come. The problem is not an imminent shortage of oil and gas, but rather a super-abundance – enough to fry the planet many times over.”

All is not lost for our attempts to ward of climate change, however, because once again technology – in the form of energy efficiency – is going to save us.  Even as cheap shale oil and gas drive the traditional energy companies to the wall, Helm believes that we are approaching “peak oil demand.”  This is not simply to do with renewable energy technologies; the next generation of which may finally wean us off fossil fuels entirely.  Rather, it is the result of the so-called “knowledge economy” or “fourth industrial revolution.”  This is the supposed new economy in which everything is digitised and electrified.  We no longer mine resources in one part of the world, turn them into manufactured goods in another, and then consume them in yet another.  Instead, we simply print the goods we need, when we need them, using enhanced 3-D printing technology.  The end result is that our economy no longer needs fossil fuels, and so the price of oil and gas falls to zero; rendering the current energy companies unprofitable.

An alternative view of falling demand

Like most economists, Helm believes that the reason the Titanic sunk was that the captain didn’t offer a high enough reward to anyone who could fix the hole in the hull.  That is, the possibility that there can be situations for which there is no solution is not admissible in economics.  Price determines everything.  Technology and free markets are to economists what totems are to primitive religions.  They are to be evoked – without any evidential basis – as the solution to all irresolvable predicaments.

World Oil and gas demand is, in fact, continuing to grow.  The problem is that production has grown faster; causing prices to crash.  In the first quarter of 2017, world production was 96.45 million barrels per day; up from 95.49 mb/d in the first quarter of 2016.  And although this is a drop on the 97.62 mb/d in the last quarter of 2016, the general trend in demand remains upward.  In this, Helm is correct to highlight the weakness of Saudi Arabia and OPEC’s attempt to raise prices by cutting supply, since Libya, Iran and Iraq have the ability to ramp up supply faster than the Saudis can cut it.  Helm is also correct to point to the rapidity (albeit at a cost) with which US shale oil can be ramped up in response to any gap between supply and demand.

What Helm totally fails to raise is the cost of producing additional oil and gas.  Shale is regarded as being economical simply because it is happening.  By this measure, we should celebrate such scientifically illiterate projects as solar roadways; simply because investors have proved foolish enough to stump up millions of dollars to make them happen.  US shale gas costs more to get out of the ground than it can be sold for.  As Berman notes:

“Marcellus leaders Cabot, Range and Antero spent an average of $1.43 for every dollar they earned in 2016; Chesapeake had negative earnings for the year—it couldn’t even pay for operating expenses out of revenues before capital expenditures and other costs.”

The reason that the shale industry is still going is the same as why solar roadways are finally generating a few kilowatt hours of electricity – because investors have been stupid enough to provide billions of dollars in the vain hope that they will one day get their money back.  Indeed, in the shale industry, investors are now in that stage where they throw increasing volumes of good money after bad because it is less psychologically damaging than admitting that the actual capital (rather than the interest) is never going to be paid back.

On the demand side, Helm is correct to point out that it is in the Western countries that demand has dropped.  But his reasoning is speculative.  Electric cars have barely dented the market, while energy efficiency measures were mainly realised decades ago.  This is because technology suffers from diminishing returns.  To begin with there are big savings at small cost.  As we go forward, however, the costs increase but the benefits disappear; which is why car companies like Volkswagen end up rigging their emissions readings when the likely cost of the fine is less than the cost of improving the technology.

There is no evidence that British consumers have suddenly become energy efficient.  There is, however, considerably evidence that British consumers have become poorer, overly-indebted, and increasingly unable to afford the price of energy.  Around 3 million households are now living in fuel poverty – forced to choose between food and fuel.  Energy efficiency for this part of the population simply amounts to self-disconnection; as, to some extent, is also true of the increasingly squeezed middle.  At the other end of the income scale are those (companies and households) whose energy-efficiency involves generating their own, and thereby lowering the amount they need to buy in.

This is in line with the analysis of “peak oil demand” set out by Gail Tverberg (who is also critical of classical peak oil theory); not the consequence of new technology, but of increasing downward pressure on real wages even as the cost of extracting fuels and generating electricity spirals upward.  In this new world, Goldilocks is dead – there is no longer a comfortable price band that western consumers can afford at which energy is profitable.  Financialisation and debt have papered over the cracks for the time being.  But once the debt bubble bursts, the energy industry will be unsustainable.

This presents a major problem for the fledgling UK shale gas industry, which is struggling to attract the kind of investment needed to replace coal.  Without the big influx of Wall Street capital expenditure, and lacking the advantages enjoyed by the US frackers, it is doubtful that UK fracking will ever be profitable.  Indeed, given the advantages conferred on fracking by the government since 2010, we might reasonably ask of the industry, where are you?  After all, if the industry really was capable of generating the riches that its investment brochures claimed, there is no good reason why the British countryside shouldn’t have already become a patchwork of drill pads in the seven years since the Tories returned to power.

No Plan-B

Given his past work, we can expect Helm to offer up review findings that are broadly in line with what the government was going to do anyway (which, no doubt, was why he was chosen).

Helm is very likely to recommend restructuring capacity markets to remove the hidden subsidies that currently benefit wind and solar, by ensuring that intermittency costs fall on the generator rather than the wider industry.

One result of this is that the case in favour of developing the UK shale gas (fracking) industry becomes even more pressing.  The failure of Toshiba’s nuclear division last year, together with the financial stress experienced by Hitachi and EDF gives the lie to the belief that nuclear power is going to provide the electricity baseload when coal is done.  As with renewables, some future technology may allow nuclear to be a part of the future energy mix but we are not there yet.  That leaves gas; which already provides more than half of Britain’s electricity and almost all of its home heating.

At present Britain gets its gas from the North Sea (both its own and Norwegian) with smaller volumes from Russia (via Europe) and compressed LNG from Qatar.  Over time, the volumes from the North Sea will diminish even as competition for the remaining world supply heats up.  In energy security terms, this makes UK shale gas highly desirable – especially to a UK government that also views it as a lucrative money making scheme (scam?).

The unspoken Titanic question that economists dare not ask – and so Helm will not contemplate – is; what if this is as good as it gets?  That is, what if the cost of extracting fossil fuels will continue to rise even as most working people’s ability to pay for it continues to fall?  What if the current generation of (actually very efficient) wind and solar technologies are as efficient as we can make them without adding hugely to the cost?  What if fourth generation fission and nuclear fusion reactors fail to materialise?  What if the current generation of lithium ion batteries are the best we can make without breaking the bank? What if – as is very likely – UK shale gas cannot be extracted profitably?  What if, that is, the ship is sinking and the only question left to be answered is who gets the places in the lifeboats?

The real problem with the Helm review is that it will fix UK energy policy for decades.  Despite the current government’s lack of a minority, there is no reason to believe that they will risk another general election this side of 2022; and at least until Brexit has happened, it is doubtful that the opposition will be able to topple them.  What Helm comes up with in October (or at least that part the government agrees with) is very likely to be implemented before the British people have an opportunity to elect a different government.  That means that even if a different government came to power in future, the reforms will have already been made.  The failed fracking well of 2022 will be the wind, solar, tidal or wave technology that never got deployed or the fourth generation nuclear project that never got funded.

Even before the review was announced, I argued that Britain was already committed to an energy system based around hydraulically fractured shale gas.  This, I believe, is the future that Helm will recommend.  My conclusion now is the same as it was then:

“The very real risk that Britain now faces is a worst of all possible energy outcomes:  The absence of storage and alternative baseload capacity limits the amount of additional renewable capacity that can be deployed; the nuclear industry fails to deliver the intended 20 percent baseload; coal capacity disappears; dependence upon gas increases just as we discover – as they have in the USA – that fracking is little more than a Ponzi scheme that never had any serious prospect of powering our economy.  While we might all hope that this proves pessimistic, at the very least, we need a serious (and engineering/physics-based) discussion of the options available to us before it is too late.”

The real problem with the Helm review is that Britain’s energy future is simply too important to be left in the hands of any one man… especially a single economist!

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