Navigant Research Blog

With Cheap Oil Flowing, U.S. Looks to Next Energy Revolution

— January 26, 2015

With oil prices continuing to languish and Saudi Arabia moving through a royal succession upon the death of King Abdullah, the idea that the “OPEC era is over” has gained credence among government officials and industry analysts. “Did the United States kill OPEC?” asks New York Times economics reporter Eduardo Porter. The answer, he argues, is essentially yes: “The Nixon administration and Congress laid the foundation of an industrial policy that over the span of four decades developed the technologies needed to unleash American shale oil and natural gas onto world markets,” thus loosening OPEC’s grip.

The reality is a bit more complicated than that: OPEC still produces nearly 40% of the world’s oil; the United States produces less than 18%. And oil at $50 a barrel could actually increase OPEC’s power as producers of unconventional reserves, which are more costly to produce, are driven from the market. Like the coal industry, OPEC is not going anywhere anytime soon.

The Big Opportunity

The shale revolution does, however, offer some other welcome knock-on effects, if policymakers are alert and astute enough to take advantage of them.  “Cheaper oil and gas will contribute an estimated $2,000 per American household this year, and $74 billion to state and federal governments coffers,” note Ted Nordhaus and Michael Shellenberger of the Breakthrough Institute, a San Francisco-based energy and climate think tank. The Breakthrough Institute has done extensive research on the role of public-private partnerships in the development of the seismic and drilling technology advances that underlie the shale revolution. Should the government choose to take advantage of it, this windfall could fund a multi-decade R&D program for renewable energy similar to the one that led to the shale boom.

“We can afford to spend a tiny fraction of the benefits of the bounty that cheap oil and gas have brought so that our children and grandchildren can similarly benefit from cheap and clean energy in the future,” declare Nordhaus and Shellenberger.

The Gas Tax Solution

That’s an inspiring concept. The execution is likely to be messy, though. Any such spending would probably need congressional support, or at least consent – and the U.S. Senate only last week finally reached agreement that “climate change is real and not a hoax.” That’s a long way from dedicating billions to develop alternative energy sources.

One suggestion put forth by clean energy activists is an increase in the U.S. gas tax. A few cents extra per gallon (on gas that’s about half the price it was a year ago) could help fund a massive crash program to develop inexpensive, clean energy technology (not to mention shore up the failing U.S. Highway Trust Fund).

But raising the gas tax is like the National Popular Vote – a terrific idea that’s unlikely to happen in our lifetimes. Even though polls consistently indicate that consumers are willing to spend slightly more for the energy they consume in order to limit climate change, actually slapping extra taxes on motorists at the pump is unlikely to be a winning move in Washington – which explains why President Obama left it out of his call for a “bipartisan infrastructure plan” in his State of the Union address.


What It Will Take To Transform Buildings in Large Cities

— January 22, 2015

From New York to Los Angeles, a growing number of the largest U.S. cities are recognizing that tackling building efficiency translates into progress toward climate resilience.  The underlying assumption is that better information leads to action.  As these cities compile baselines on commercial building energy use and educate the public on the cost-effective opportunities for energy reductions, the next question that arises is whether building owners will take action.

New York State of Mind

New York City was the first to launch a comprehensive strategy to tackle energy waste in commercial buildings through four local laws under the Greener, Greater Buildings Plan.  The complementary laws not only mandate energy benchmarking, but also require performance upgrades to meet local energy codes for citywide renovations, major retrofits in buildings over 50,000 SF to meet lighting efficiency standards, and the installation of submeters by 2025.  Mayor Bill de Blasio has continued the commitment to improving the city’s climate readiness and, in September, announced a new goal for a citywide 80% reduction in greenhouse gas emissions by 2050.   According to a recent article in The New York Times, the mayor’s office estimates that the energy efficiency advances in buildings deliver tremendous economic benefits.  According to the director of the Mayor’s Office of Recovery and Resiliency, the city spends $800 million a year to run its facilities, and energy efficiency retrofits could generate $180 million in annual savings by 2025.

Best Practices

The City Energy Project (CEP), a national initiative directed by the Institute for Market Transformation (IMT) and the Natural Resources Defense Council (NRDC), aims to help 10 cities design energy efficiency plans and share best practices for promoting change in their largest commercial buildings.   Atlanta, Boston, Chicago, Denver, Houston, Kansas City (Missouri), Los Angeles, Orlando, Philadelphia, and Salt Lake City have each joined the project, according to the CEP fact sheet. As outlined on the CEP website, in 3 to 5 years, the initiative will create transparency on building energy use and create financial vehicles for investment in energy efficiency.

New financing channels are a critical element in the mission to tackle commercial building energy efficiency.  While many of the most attainable energy efficiency improvements can be low-cost or no-cost improvements through scheduling and procedures, transformational changes require capital investment.  The challenge is how to engage building owners with financing mechanisms that enable those investments.

Opening the Purse

At the 2014 World Energy Engineering Conference, held in October in Washington, D.C., several sessions honed in on the challenge of financing energy efficiency.  The market recognizes the opportunity and benefits associated with energy efficiency, but the reality is that capital budgets are tight.  Former President Bill Clinton, the keynote speaker, declared, “Financing is holding back the energy revolution.”

In Navigant Research’s view, the challenge is two-fold.  On one hand, there is the opportunity to adjust perspectives on energy efficiency investment.  Advocacy efforts, such as the CEP, could help building owners broaden their views from a focus on payback to a longer-term view of how energy efficiency and intelligent building investments enhance the value of their facilities.  On the other hand, our research suggests that a change is underway in the performance contracting and shared savings models that have helped fuel investment in energy efficiency historically.   Watch for a new report on energy service companies and the transformation of intelligent buildings financing in 2015 as a part of our Building Innovations Service.


The Future of Energy: Open or Closed?

— January 20, 2015

Among technology giants, two predominant business models dictate the way in which consumers connect (and interact) with the broader Internet and the way in which innovation unfolds: open and closed.  This tug-of-war between open versus closed has been going on ever since the Internet first started to hit the mainstream.  As described by GigaOM, “It’s a battle that has been at the heart of the technology industry for most of its modern history.”

Open models seek to facilitate universal access and maximize creativity, but potentially breed chaos, error, and design catered to the lowest common denominator.  Closed systems limit the number of participants and exert more control over the flow of information, but can make it easier to roll out dynamic products while minimizing the potential for error.  In more specific terms, it’s a battle between the Google, Android, and Adobe business models and those of Facebook, Apple, and Microsoft.  Each carries with it specific advantages and disadvantages.

Advent of the Cloud

Although still in its infancy, in the emerging Energy Cloud, the battleground is divided similarly, with advocates of open and closed models both beginning to stake claims.

The Energy Cloud – the end result of an evolutionary shift away from a financial and engineering model that relies on large centralized power plants owned by utilities to one that is more diverse, in terms of sources of generation and ownership of assets, and enables the integration of new, distributed energy resources in addition to traditional generation – provides a rich ecosystem for breeding innovation as energy becomes increasingly democratized.  As depicted in the graphic below, the hallmark of the Energy Cloud is a shift away from one-way power flows to bidirectional flows in which consumers become both consumers and producers of power:

The Energy Cloud

(Source: Navigant Research)

Lessons from the Revolution

There are many lessons from the Internet revolution that can be applied to the Energy Cloud.  Open and closed Energy Cloud models alike must balance the need for access, reliability, safety, and ultimately, innovation.

The question comes down to this: will the Energy Cloud take the form of a walled garden, as CompuServe and America Online attempted in the early days of the Internet and Facebook is doing today, or will it remain an open landscape?  Or, perhaps of more relevance to stakeholders, which model best serves the goal of fostering a thriving, ubiquitous Energy Cloud?

Likely, both open and closed models will play key roles, as the Energy Cloud will serve multiple objectives simultaneously.  According to an essay on the topic from PricewaterhouseCoopers, innovation is almost never an either/or choice.  As most companies have discovered, their innovation goals involve a complex mix of closed and open models that is uniquely tailored to their specific innovation objectives.

Customers and Providers

For the incumbent utility, for example, objectives remain focused on preserving market share and maintaining safety and reliability while also growing profitability.  For the consumer, access to inexpensive and reliable power around the clock and choice in how and by whom their energy is produced remain key objectives.  Some stakeholders will seek to maximize either one of these positions, while others will seek to bridge the two.

In either case, the emergence of the Energy Cloud will require a rethinking of standards, protocols, and relationships among stakeholders.  With a slew of innovative technologies gaining market share – solar PV, distributed storage, home energy management systems – the integration of these assets into an efficient and resilient system remains among the greatest challenges ahead for all Energy Cloud stakeholders, and will likely be where the greatest emphasis on innovation will occur.


How Oversupply Could Benefit the World Oil Market

— January 19, 2015

For economists, it has been fascinating to watch what’s been happening in the oil & gas market since OPEC’s meeting in November, when it decided (driven by Saudi Arabia) to maintain production of 30 million barrels of oil per day.  This decision, combined with the sharp rise in U.S. production and a decrease in demand driven from China’s slowing economy, has sent oil prices to their lowest levels since May 2009.  Saudi Oil Minister Ali al-Naimi has explained that OPEC’s reason for maintaining the production level is to recoup market share lost to what he considers high-cost or inefficient non-OPEC oil producers, such as Russia, Brazil, and Canadian tar sands producers.  Of course, there’s also a geopolitical side to the story, but let’s take a deeper look at the situation in economic terms.

The demand for oil is fairly inelastic to price; that is, as the price changes, demand stays relatively consistent, especially in developed countries.  As such, OPEC has been able to essentially set the price of oil by choosing how much to produce.  Over the past 5 years, however, non-OPEC oil production has exploded, especially in the United States.  The country, which was OPEC’s biggest customer only 10 years ago, is now the world’s largest producer of total oil (crude and natural gas liquids) and moving toward self-sufficiency.

Consumers’ Delight

OPEC has typically responded to increases in non-OPEC oil supply by cutting its own production in order to keep the price of oil above $80 per barrel.  Now it appears the oil market and OPEC have reached a turning point as the huge influx of supply and a slowing of demand growth from China and Europe (among other reasons) have sent the price of oil on a steady decline since June.

At the meeting in November, OPEC ministers faced unenviable choices.  They could cut production in order to raise the price of oil and increase their margins in the short term, but this would not have served them in the long run.  If only OPEC cuts production, not only do their competitors share the benefit of higher margins, but also OPEC concedes more market share.  Instead, OPEC decided to forgo profits in order to thin out the herd.  By declining to cut production, the Saudis hopes to drive higher cost producers out of business while giving oil-consuming economies a shot in the arm.

Thinning the Herd

As my colleague Richard Martin has pointed out, the stronger members of OPEC (i.e., Saudi Arabia and Kuwait) can likely withstand drastic price declines, while the weaker members (Venezuela, Iran, Nigeria, and Algeria) could face economic disaster.

The current market trajectory will end up benefiting those countries that have a comparative advantage in oil production, as it should, and it’s likely that the market will be left more efficient and better off in 2 to 5 years as a result.  According to some, the U.S. might actually be better positioned for a price war than Saudi Arabia, which as a society has grown accustomed to the benefits of $100/barrel oil.  According to Naimi, we may never see $100/barrel oil again.  As far as he’s concerned, Saudi Arabia and OPEC will see this price war through, regardless of how low it goes: “Whether it goes down to $20, $40, $50, $60, it is irrelevant.”

As for the effects of all this on the natural gas market and renewables, that’s for another blog.  The December issue of Navigant’s NG Market Notes includes a great infographic about the breakeven prices of oil for producers around the world.


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