Fracking has changed the energy outlook, with major geopolitical implications 

About a decade ago, there was much concern about ‘peak oil’ – that the production of oil would peak and then fall off quickly leaving the world’s transport system stranded. The idea is really an extension of the two hundred year old insight of Thomas Malthus that the demand from an increasing population would exhaust food production with resulting starvation  because land was limited. America had gone through a peak-oil experience with its production rapidly falling off about this time.

Economists were more cautious. After all, if as revered a member of the profession as Malthus got it wrong, who were we to be sure? In fact Malthus did not allow for the opening up of vast productive farmlands in North America and the Southern Hemisphere, together with the rising productivity of farming. Most economists probably have an assessment similar to mine; the Malthus logic was impeccable but various things have deferred the reversal; we cannot predict when it will happen.

The assumption that since peak oil happened in America it would happen everywhere else combined American isolationist chauvinism with colonial cringe among some non-Americans. The economic model accepted that at some time oil production would peak but there would not be a sudden collapse in production because rising prices would encourage reworking of old wells and drilling in deeper and more expensive ocean sites. Moreover, there were alternative sources of transport energy which, while costly, would be stimulated by higher oil prices; in any case, the costs of these new energy sources were falling.

I remember going through the list of possibilities, trying to assess what was available and their likely cost. I concluded that total energy was not a physical problem although it might be expensive. Transport fuels might be more problematic although there were options such as electric- and gas- propelled vehicles.. One thing I concluded was that infrastructure mattered and that we should be planning our cities to conserve transport energy; I was particularly keen on putting in public transport corridors (especially in Auckland and Wellington) which might run at a loss but would lead to a reconfiguration of housing along them over thirty years or so.

I did not predict the fracking of the shale reserves – I do not recall anyone mentioning it (tar sands were in my calculations). I am going to talk only about its economic and geopolitical implications but mention environmental concerns in a couple of end notes.

Fracking can apparently easily produce oil at $US60-70 a barrel, a higher price than in the past, but not an intolerable one. Moreover, it can produce – for practical purposes in the medium term – unlimited supplies at this price, in effect setting a medium-run ceiling for the oil price. There are various caveats such as that it takes a little time to get a production unit underway, so sometimes the oil price will temporarily go above the $60-70 a barrel.

One effect will be to inhibit alternative energy sources, although they will still steadily phase in as their costs come down to the medium-run cost of fracking. Plans for conventional drilling are being put off too. But yes, there is not an unlimited supply of oil from fracking, so one day it will phase out, although not soon.

The geopolitical implications are intriguing. For a short period while the world was learning to frack, the oil price rose up to around $US110 a barrel. Some countries’ budgets were geared to this price; now they are struggling.

One such country is Russia which is also suffering Western financial sanctions. Apparently hardship is rising there – perhaps more as Russia tries to roll over some large Western loans. There is the worry that Putin will try to divert the populace with military adventures, a long-run strategy which is more difficult if he is broke, but is already causing pain in the Ukraine.

Another country whose budget is badly compromised is Saudi Arabia, where they have used the largesse from oil to buy middle-class acceptance. They have substantial foreign reserves which are being run down, but budget tightening and related measures (some impact on immigrants) is also taking place.

There has also been a shift in OPEC, a cartel which brings together various oil producers. It seems to have accepted that it no longer has the muscle to have a major effect on the oil price and supply.

The geopolitical implications? America is importing less oil because of domestic supply from fracking. It is not so dependent on the Middle East and need not be so threatened by a rational Russia (which may require Putin to move on).

It is a very different energy world from the one that was troubling us a decade ago. No doubt there will be a different one in a decade’s time.

 

Endnotes on Environmental Implications

I am not convinced that the local environmental implications of fracking are fully worked out. My stance is that we should not frack in New Zealand until they are. But is that not to rule out fracking one day.

Many see fracking adding to climate warming. As I understand it, the biggest source is coal (not in New Zealand) which it is expected to be used less (although the reductions are not fast enough to prevent climate warming). It is not impossible that without fracking there would have been more greenhouse emissions because the world would have turned to coal-fired electricity for cars. Fracking or not, we need to keep up the pressure to reduce the emissions. I would prefer to do this by reining in demand rather than directly restricting some sources. But the analytic principles that bgan with Malthus, will continue to apply.