Archive for June, 2010

Economy Wide or Utilities Only

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In his speech to the nation last week, President Obama raised the prospect of energy legislation being delivered by the Congress in this session, building on the work of the House of Representatives in 2009. The President said:

 “. . . . . Last year, the House of Representatives acted on these principles by passing a strong and comprehensive energy and climate bill – a bill that finally makes clean energy the profitable kind of energy for America’s businesses. . . . “

But most observers have commented that the 60 votes needed in the Senate to deliver an economy wide cap-and-trade approach are not there. As a result, various other energy only bills are being discussed, but with some that include cap-and-trade limited to utilities only. Whilst the preferred solution is the economy wide cap-and-trade approach, the question that really needs to be discussed is whether a more limited implementation can do the job?

 Today in the EU, where cap-and-trade has been running for five years now, the limited approach is a reality and will continue to be so for the rest of this decade. The EU Emissions Trading System (EU-ETS) covers all large point sources, i.e. those in power generation and major industry (refineries, cement plants, chemical plants etc.), with the power sector making up nearly 70% of the system in terms of emissions. To date, all sectors have received the majority of allowances for free, but for the period 2013-2020 the power sector will need to purchase allowances through auctioning. For much of the industrial sector, some 75% of allowances will continue to be granted for free, with a distribution ranging between 50% and 90+% depending on performance against benchmarks. This is being done to offset competitiveness concerns.

The reality is that through to 2020 the EU system is power generation dominated, with industry able to capitalize on the opportunity value offered by the CO2 price but with only modest direct financial exposure to the market. This approach is managing nearly 50% of the emissions across the economy, with the balance targeted by a number of efficiency standards and in the case of transport fuels, a renewable fuel obligation that requires a certain bio content of the fuel. It is also working, with the EU on track to meet its 2020 target.

Looking at the USA, significant opportunity exists to reduce emissions in the power generation sector. Natural gas supply is increasing thanks to new discoveries and the availability of shale gas and there is surplus natural gas generation capacity within the economy. With lower natural gas prices as a result, this has played a role in the downward trend in US emissions in 2009, although the continuation of this trend will be very dependent on the gas price relative to coal. The emergence of a carbon price in the utilities sector could do much to sustain this trend, allowing the full potential of natural gas as a lower emissions fuel to be realized within the US economy.

A recent EIA report shows the chart below, with the following analysis:

The fuel mix and associated carbon intensity of most sectors have tended to be very stable over time.  However, in 2009, the carbon intensity of the electric power sector decreased by nearly 4.3 percent, primarily due to fuel switching as the price of coal rose 6.8 percent from 2008 to 2009 while the comparable price of natural gas fell 48 percent on a per Btu basis.  The carbon content of natural gas is about 45 percent lower than the carbon content of coal and modern natural gas generation plants that can compete to supply base load electricity often use significantly less energy input to produce a kilowatt-hour of electricity than a typical coal-fired generation plant.  For both of these reasons, increased use of natural gas in place of coal caused the sector’s carbon intensity to decrease.

Even without direct involvement in a limited cap-and-trade system, industry could still reduce emissions through a domestic offset approach. The opportunity value of carbon in the utility sector would drive the reductions. This wouldn’t be so different to the situation in the EU between 2013 and 2020.

Neither the transport or buildings sector are very responsive to a modest change in energy price (i.e. through the addition of a carbon price), which means that even in an economy wide cap-and-trade there would be limited impact seen in these areas through to 2020. Reductions would more likely be driven by the existing efficiency standards and fuel mandates that are already in place or are under consideration within an energy bill. In fact, if these mandates are too strong relative to a given 2020 goal [i.e. not properly calibrated to the goal], their effect in an economy wide cap-and-trade could be to undermine the reduction opportunities in the power sector.

So despite some observer gloom that a limited climate bill might be the best that can be done today, such an approach could potentially deliver the same outcome anyway, at least through to 2020. Beyond that it will be important to have the economy wide approach.

Liberty Turbines

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In his speech to the nation this week, President Obama referred to the huge level of resource that the United States was able to muster as it turned its industrial capacity to the production of military equipment during World War II.

The one answer I will not settle for is the idea that this challenge is too big and too difficult to meet.  You see, the same thing was said about our ability to produce enough planes and tanks in World War II.

One of the best examples of this transformation and a symbol of US wartime industrial output was the production of “Liberty Ships”. These were cargo ships built for the dangerous trans-Atlantic run when U-Boats were an ever-present hazard. During the period 1941 to 1945 eighteen American shipyards built 2,751 vessels, easily the largest number of ships produced to a single design. The ships were constructed in sections, built in assembly line style, that were then welded together. This in itself was a new technique requiring new skills. Early on the ships took the best part of a year to build, but the average eventually dropped to 42 days (with a much heralded record of 4 days and 15½ hours for the Robert E. Peary).


In 1943, three new Liberty ships were being completed every day. Production of Liberty ships saw both step gains in productivity and step gains in capacity as new shipyards opened. In 1941 production was at about 100-150 ships per annum (but real production didn’t start until the second part of the year), 300-400 per annum in 1942 and 1100 per annum in 1943 and beyond (until production pretty much ended in 1945). In less than three years Liberty ship capacity in the USA increased by nearly a factor of ten.

A modern day clean-energy comparison for the United States might be the production of wind turbines. Today, US installed wind capacity is some 40 GW, growing at a rate of over 10 GW per annum, more than triple the rate seen just five years ago. Manufacturing capacity is growing rapidly as well due to both foreign and domestic investment. The number of manufacturers assembling nacelles in the U.S. increased from one in 2004 (GE) to five in 2008. There are at least 11 blade manufacturers and 16 tower manufacturers with plants open or planned in the United States [Source: American Wind Energy Association]. Although nacelles, towers, blades and other components are not all made by the same manufacturers or even in the same country, on balance US manufacturing capacity has increased several fold, but not yet at the rate of Liberty ships.

Given current aspirations for clean energy deployment and therefore the potential for some 150-200 GW of installed wind capacity by 2020, further opportunity exists. A step change on the scale of Liberty ship capacity could see the USA not only meeting its own demand for turbines, but also becoming an exporter of equipment. If a Liberty ship could be equated to, say, 10 MW of installed wind capacity (2 large turbines over 100 metres high vs. 4,000 tons of steel in a 135 metre length Liberty ship), then maximum wartime capacity of Liberty ships might be similar to manufacturing 2500+ turbines per annum, enough to reach the installed capacity demand through to 2020. Of course the USA manufactured much more than just Liberty ships during the war, so arguably even more industrial capacity could be directed to clean energy projects.

The war provided a powerful central policy driver for Liberty ship development and deployment. Today, energy policy is, by comparison, fragmented and uncertain so the full potential of the economy to deliver is probably not being realised. A single economy wide approach, such as putting a price on carbon [e.g. via a cap-and-trade construction] could provide the necessary drive and certaintly to allow a further rapid scale-up of US capacity to deliver change.

Green Bonds

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As the current round of UNFCCC talks continue this week in Bonn, albeit with little real chance of an immediate or even medium term breakthrough, progressive industry groups are picking up the pieces left behind after Copenhagen and seeking ways to move the debate forward. One particular challenge is to find a substantive mechanism to drive investment into developing countries, given the Copenhagen Accord pledge to channel $100 billion per annum in that direction by 2020. The reality of a post-recession developed world is debt, less government spending and general belt tightening all around which means that such funding is unlikely to come from the public purse. Although the Clean Development Mechanism will have issued some 1.8 billion CERs by the end of 2012, which in turn equates to about $25 billion in carbon income and probably more in overall project investment, the finance flow is naturally limited by the project by project approach of the CDM and the uncertainty related to CER issuance.

Recently the International Emissions Trading Association (IETA) floated a concept paper that addresses this issue head on. The paper scopes out the design of a sectoral Green Bond, which delivers financing to developing countries through the sale of bonds that return both interest payments and a flow of carbon credits. Although the interest payment is relatively low, the bond becomes attractive thanks to the potential value of the credits. One of the important design elements is a mechanism within the overall structure that limits total bond issuance by a given economy, effectively capping the flow of credits and therefore ensuring their value in the longer term. An international organisation such as the UNFCCC or World Bank would be charged with overall management of the approach, particularly given the need for sectoral benchmarking, issuance approval and monitoring, reporting and verification(MRV).

The Green Bond is sectoral based, or potentially linked to a NAMA (Nationally Appropriate Mitigation Action). Should the green sectoral bond’s underlying sector fail to deliver an agreed-upon level of reductions, carbon credits would not be issued to bondholders; as a result, the interest rate payable by the host country would increase. If reductions failed to materialize for a pre-defined number of subsequent years – post-issuance of the sectoral bond – the host country would be obligated to make an early pay-back of the bond. In the case of default by the host country, the guarantor(s) would stand behind the issued sectoral bond and repay investors accordingly, either on pre-determined higher interest rates or principal payments. These guarantee mechanisms supporting the bond will facilitate the financing of projects.

But at the core of the bond is the carbon credit. The Green Bond relies on there being demand for these, which in turn means cap-and-trade systems running in developed countries. Although there are other approaches that may also create demand for credits, sustainable demand is only likely to come from these systems. Therein lies the challenge – recently we have seen the demise of the CPRS in Australia and a broadly based cap-and-trade approach in the USA is looking unlikely, although still not impossible. If the latter happens, then the potential for instruments such as Green Bonds becomes huge, particularly as other countries follow the US lead and move back to cap-and-trade (e.g. Canada). Widespread uptake of cap-and-trade in tandem with a revised target in the EU-ETS could lead to demand for bond-linked credits of some 5+ billion by 2020 (on a cumulative basis). That means some $100-150 billion in carbon income and perhaps as much as $500 billion to 1 trillion in project investment during the period (NB: much of that investment will see its income generated in the period 2020-2030). This means that the bond mechanism can operate on a scale that is commensurate with the finance pledges made and the potential demand for credits.

Sustainable Mobility: Walking before running is always best

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Recently I referred back to the 2004 World Business Council for Sustainable Development (WBCSD) document entitled Mobility 2030 as I recalled that it had an excellent table listing the well-to-wheels CO2 footprint of a variety of vehicle and fuel types. When I found the table in question what surprised me most of all was the complete lack of any information on electric mobility. But this was 2004 and hydrogen was all the rage. Remember when Iceland was due to become the world’s first hydrogen economy on the back of its vast geothermal energy potential and GM were investing heavily in hydrogen fuel cells?

Roll on three to four years and there was deep global concern about the impact of biofuels on food production. With food prices rising and the US Congress, European Union and others passing legislation requiring more and more biofuel blending it was hardly surprising that alarm bells were ringing.

Today, the focus is on electrification of the transport system. A number of vehicle models are nearing production and cities are contemplating the vast infrastructure requirement to recharge them all. Others are concerned about the environmental impact of the batteries when we start disposing of them and grid experts concern themselves with the impacts on base load and dispatch. Meanwhile, the consumer is contemplating how far 100 miles actually is and whether it will be enough to visit those friends who live out of town!

The reality is that we just don’t know what our transport system is going to look like and it may be some while before we actually do. But progress is being made on many fronts.

  • In a recent Nature article, the progress being made in the field of hydrogen powered mobility is highlighted. Fuel cell costs are coming down as less and less platinum is required, compressed hydrogen storage in lightweight containers is now possible thanks to carbon fibre technology, driving distance between refills is nearing that of gasoline vehicles and the chicken-or-egg problem of cars first or a filling network first is being cracked with industry agreements to do both in a coordinated approach. Nobody is claiming that hydrogen is completely ready to roll, but some sense of the future is beginning to crystallize. Plans are even in development in Germany to produce hydrogen from surplus wind capacity.
  • Similarly, the biofuel industry moves forward. A recent blog on The Energy Collective noted that the industry in the USA is nearing the current 10% blending limit of E10 but equally pointed out that there is little uptake for E85. Food prices have eased significantly from their 2008 highs (see chart below) even though biofuel production continues to increase globally. But concerns remain about the sustainability impacts of the industry, although much work is being done to address this issue.

  • Returning to electricity, progress is both impressive and disappointing at the same time. The Nisan Leaf I discussed in my last post looks like a “must have” for the urban dweller of 2010, but at least in terms of range it is no better than a 1908 Fritchle Model A Victoria Phaeton. Interestingly, by 1912 there were 30,000 electric cars on the road in the USA and 4,000 in Europe.

  • Meanwhile, internal combustion engine vehicles continue to show some impressive improvements in efficiency.

So what to make of all this? Arguably, society is jumping to conclusions about the future of the transport sector. The die is far from cast and neither industry or government have the answer yet. The reality may be a more diverse system than the one we see today, or at least the one that the consumer sees today (with hundreds of different crudes coming from all parts of the globe, diversity is an unseen feature of mobility). Hydrogen, electric, bio and ICE could all feature.

One thing is certain, like it or not we won’t see a significant and highly visible change until well into the 2020 decade. There may be urban pockets that look different in less time, but the total changeover of the transport system is probably a forty year journey.