Category: Low carbon economy

The cost of cap and trade?

dchone June 10, 2009

As Waxman-Markey starts to bed into the consciousness of the US, there has been a rush to calculate the “cost” of climate legislation – some with the view of destroying the bill and others to reassure us that it won’t impact us at all.

So it seems that this might be a useful subject to do some basic thinking about. But beware, I am not an economist, so I will be probably get roundly dumped on by those that are – but I am an engineer and engineers are quite good with envelopes and the back of them – or in my case this evening a pad of Post-It notes.

There is no doubt that reducing emissions in the USA will cost some money. But there will be benefits as well. For starters, have a look at the McKinsey abatement curve for the USA.

An abatement curve for the USA

There are two parts to this curve, the left hand side where no carbon price is actually necessary to deliver the reductions, and the right hand side where a carbon price is needed.

On the left hand side there are actions such as improved lighting, better domestic appliances and building insulation. All these actions improve energy efficiency and lower our costs – so we should just do them. But we don’t as a matter of practice (bad housekeeping really), so improved standards and building codes should be employed to force these changes into the marketplace and as a result the economy benefits.

On the right hand side we are using technologies such as Carbon Capture and Storage which will cost money. If CO2 didn’t have the impact that it does in the atmosphere we would never do this. Equally, we wouldn’t force offshore wind, certain solar technologies and perhaps new nuclear into the market quite as quickly. Earlier take-up of these technologies could cost us money overall.

Simply eyeballing the abatement curve, shows that the two blue areas are about equal, which means through to 2030 this is a zero sum game. What we gain on efficiency in the economy we spend on early technologies and CCS. But that doesn’t mean that cap-and-trade doesn’t cost anything, because it does. Cap-and-trade is only needed on the right hand side of the abatement curve, so let’s just focus on that bit alone.

First of all it shows that the CO2 price needed for these technologies ranges from a few dollars to about $50 per tonne, so lets say the average is $40 per tonne in the big industry and power sectors which is where the CO2 price is really needed. We run with this from 2012-2030 during which time emissions in the power and industrial sectors of the US economy are reduced by about 35% or 1.2 billion tonnes per annum. So the total emission reduction is 1.2*18/2 = 11 billion tonnes (rounded up). At $40 per tonne, the total cost of abatement is $440 billion. There are about 90 million families in the USA (340 million people by 2030), so this means a cost to each family for much of the right hand side of the abatement curve of under a dollar a day (actually 75 cents).

This isn’t nothing, but it is hardly going to break the economy either (between 1945 and 1996 the USA spent at about double this rate just manufacturing and deploying nuclear weapons). In addition, Waxman-Markey skews the distribution of allowance value to low income families, so compensation is there for those who rightly need it.

There are other reductions on the right hand side of the curve as well, but much is in the agricultural and forestry sector and seems to come in at around $15 per tonne. So overall, I will go with the $1 per day per family from 2012 to 2030 for the real “cap-and-trade” bit. Don’t forget though that these same families also get the benefit of the left hand side of the abatement curve as well, because of improved appliances, home insulation programmes, new lighting standards and so on.

But what is the benefit of doing all this? That’s easy – Nick Stern did the calculations for us and put the social cost of CO2 at about $80 per tonne – i.e. the cost we leave to future generations if we just keep on emitting.

What next for Canada??

dchone June 4, 2009

This week I have been in Canada, talking with people in both Provincial and Federal government about Canada’s policy plans to reduce greenhouse gas emissions. There is a feeling of deja vu doing this, because it seems that Canada has been talking about such policy for years now – but almost nothing substantive has been implemented.

But now very substantive action is going to be needed – and needed fast. Its largest tading partner is on the move and will implement either an emissions trading system or succumb to the rigours of the Clean Air Act. As a developed country in a leadership position with G8 status, Canada will almost certainly have to sign up to something like a 20% reduction in emissions (or more) from 2005 to 2020 when it faces other nations across the negotiating table in Copenhagen.

But Canada has been here before, signing up to the Kyoto Protocol and agreeing to reduce emissions by 6% from their 1990 level of about 600 million tones. In 2006 GHG emissions were at 721 million tonnes, nearly 30% above the Kyoto target. However, emissions have fallen from a high of 743 million tonnes in 2004, perhaps driven by a variety of policy efforts at provincial level and some from the Feds.

Putting to one side the issue of how Canada will finesse complance with its Kyoto obligations (and these are real obligations irrespective of what happens to the Protocol), a formidable task remains to reduce emissions between now and 2020 (remember, that’s 4000 days). This is all the more challenging for Canada because the resources boom in Alberta is also putting upward pressure on emissions.

Getting back to my mission this week, it is clear that the political appetite for action has changed and that a cap-and-trade system is now the preferred way forward. But there are many hurdles to cross. Whatever is put in place has to be compatible with the expected US system. Waxman-Markey allows unrestricted flow of allowances from “equivalent systems”, but therein lies the first issue – what will be deemed equivalent. Whilst the idea of a trading approach is alive and well in Canada, so too is the idea of a buy-out option by putting money in the collection tin (the “Technology Fund”). Unfortunately this means it isn’t a cap-and-trade system any longer and it is hard to imagine any such construction being deemed equivalent.

Two other obstacles confront Canada in the design of a national trading system.

The first involves the concerns that wealth transfer may result between provinces arising from the flow of allowances between those needing to buy allowances due to substantial growth from those with a flatter emissions profile. This is a real issue, but it has been addressed in the EU and the approach adopted there may be applicable in Canada. In the EU a large New Entrant Reserve has been set aside from within the cap. Member states can draw on this as necessary, using the allowances for auction or grant to the new facilities in question. This helps countries like Poland experiencing rapid growth in that it limits the flow of funds leaving the country for compliance pruposes.

The second issue is also a wealth transfer one, but between Canada and the rest of the world. It is almost certain that Canada will have to buy international offsets or US / EU allowances to meet a potential 20% by 2020 reduction target. With the resources boom in Alberta, the best that Canada can probably achieve domestically is a 10% reduction by 2020. This means Canada / Canadian industry could need to purchase some 250 million tonnes of external compliance units between 2013 and 2020, perhaps costing as much as $10 billion. There really is no getting around this – it is the nature of an emissions trading approach built on environmental targets and strict compliance. It is also because there is no getting around the issue of climate change other than reducing emissions – the atmosphere doesn’t really have much use for our money, only our ability to manage what we emit to it.

So there is much to do to push Canada across the line and get cap-and-trade implemented. But there is also a great deal of willingness and drive to finally make something happen – hopefully enough to overcome some tricky obstacles along the way.

Politics at play in Australia

dchone May 5, 2009

This week we have seen the announcement by the Australian Government that the emissions trading scheme (CPRS) will be delayed by 12 months, along with some other changes in the policy framework. This comes as the government finds itself with the challenge of building the necessary political support in the Australian Parliament, particularly the Senate, where it does not have a majority.

Many others will write about the politics, so I will stay out of this and focus on the implications of this delay. To do that, it is helpful to look at the Shell Energy Scenarios, which were released about a year ago.

Of the two futures set out, Blueprints (the other scenario being Scramble) showed a pathway forward that results in real and substantive global action on climate change. Despite this, the scenario falls short of the reductions that scientists now tell us are needed by 2050 – a 50% reduction against 1990. This is largely because of the time it takes to bring global emissions under control, resulting in an emissions peak some ten years too late (~2028 vs. 2018). Once the peak is passed though, Blueprints sees very rapid reductions.

The message from Blueprints is that what happens over the next few years is critical. A great deal of analysis went into the early years of the scenarios, the societal trends that would underpin change and of course the legacy emissions base that continues to be expanded upon every day – and that is a 30-50 year legacy. Delay now has serious impacts later – to the extent that we end up needing an infeasible reduction pathway post the peak, should that peak drift out. This finding was backed up by the McKinsey work on global abatement, which came to the conclusion that it is still just techncally feasible to deliver the 50% reduction, but with no scope for slippage.

Whilst it should be noted that the Australian Government has proposed a more challenging target for 2020, it is the delay that is problematic. Delays have a habit of compounding, as others see that the urgency is reduced.

To add to the issue, Australia is setting out as a leader in Carbon Capture and Storage – probably a must for its future given the abundance of coal. If this should also suffer a year or more delay as a result of a slower start to the development of the CO2 price that it needs, that may also lead to delay globally. A calculation that came from the model behind the Shell Scenarios indicated that for every year we delay the global roll-out of CCS, so we commit ourselves to a 1 ppm higher CO2 stablilization by the end of this century.

Come on Aussies, come on

dchone April 20, 2009

From a standing position some distance behind the start line, Australia has made remarkable progress in the “race” to implement a price for CO2 within the economy, driven by emissions trading as the principal policy instrument. Australia may well come in a creditable 2nd, given that New Zealand has seemingly slipped on the last obstacle and the US is just powering out of the blocks.

In the space of 18 months, we have seen the Garnaut Report, a Green paper, a White paper and now the Exposure Draft of the proposed legislation. But now the going is getting tough. The Australian Senate, in which the government does not command a majority, is holding an inquiry into the legislation and reviewing the very concepts on which it is built. What should Australia commit to? Should it use emissions trading? . . . . and so on.

No climate change legislation will ever be perfect, but what has been proposed in Australia looks pretty good. Like the EU-ETS it is bound to need revision at some point, but what is on the table today will set the ball rolling and most importantly will institutionalise carbon management across the economy. That is the first and most important step and it will never happen through voluntary action or mandatory reporting alone. Rather, a real target that creates a scarcity (of allowances versus emissions) must come into play, such that market forces and competition begin to do their job.

The Senate Committee has called for submissions from the public and Shell has responded, as it has at each stage of the process when given the opportunity. I have been working with colleagues in Shell Australia on drafting our response, which you can access here (shell-australia-april-2009-senate-submission).

The submission covers three main areas;

The benefits and advantages of an emissions trading approach
The need for a comprehensive policy framework which goes beyond emissions trading.
The need to protect emissions intensive trade exposed industries until such time as CO2 management has become a more global undertaking.

If you have followed this blog over recent months you may even recognise some of my text that now appears in the submission – particularly with regards the advantages of an emissions trading approach.

For business, the last point is an important one and inevitably is key to the political trade-offs that help build support for carbon management legislation. That has certainly been the case in the EU. From the perspective of an oil and gas company operating in Australia, two key areas are of concern;

Australia has a number of relatively small refineries that compete with world-scale refineries in Singapore. When Australia was in the happy position of having all these refineries tied to pipelines with indigenous crude, the status quo was relatively easy to defend. Without the refineries crude would be exported and product would be imported, so costs all around. But crude production near the refineries has fallen, so an alternative route forward could be to just import more product and shut some refining capacity, rather than importing the crude. The refining industry in Australia doesn’t want that, so maintaining current capacity means watching the local costs against those in Singapore. The need to purchase CO2 allowances could tip that balance if implemented in one location but not the other.
In the LNG business, Australia will be the only exporter in the region with the prospect of an economy wide CO2 price requiring additional cost to be added to each tonne of LNG against the purchase of allowances. But this cost is largely unrecoverable in the Pacific market as the principal competitors (Brunei, Qatar, Oman, Indonesia) don’t incur it. Whilst this won’t put Australian LNG out of business or anything dire like that, it does tip the playing field in the other direction, at least until CO2 management becomes more widespread in the region.

Unfortunately criticism of the Australian system is coming from all sides. Many say it lacks ambition, with the government target through to 2020 somewhere in the range 5 to 15% relative to 2000. So we are back to the tricky issue of targets and baselines, which I have written much on in recent weeks. If we assume Australia settles on 10%, at least from an energy CO2 perspective, this is about the same as a 20% reduction from recent (2006 IEA) levels. So that puts it on a par with the USA and the EU, but that issue is far from settled with the EU still on its 1990 high horse.

Could Australia reduce emissions by 20% in just 11 years? If we assume that the rest of the economy can keep emissions in check over that period (i.e. no rises, so not hugely ambitious), then within the energy sector this could be achieved by fitting out 10 big coal fired power stations with carbon capture and storage. This means converting most of the coal fired power stations in New South Wales, or alternatively all of the stations in Victoria and South Australia and still coming up a bit short. This would be a very big undertaking, but perhaps not impossible as many of these stations power Melbourne or Sydney and operate in clusters – so there is a potential economy of scale in terms of CO2 transport, storage and monitoring.

On the other hand, 10 big CCS projects in just a few years is about the same as the entire EU CCS Demonstration Programme – and that has an economy of nearly 500 million people to pay for it. So once again we are left with a hugely challenging undertaking coupled with a dose of realism in terms of what might come to pass.

Do oil and wind mix?

dchone April 15, 2009

There has been quite some discussion in the press this week about the ability of the UK to meet its 2020 renewable energy targets, with a particular focus on the lack of progress in offshore wind. This highlights again the recent announcement by Shell that our main “low carbon” focus will be in the areas of biofuel and carbon capture and storage (CCS) and not in areas such as wind and solar.

That announcement (and our pullout from the London Array offshore wind project last year) resulted in quite a bit of criticism – and a subject I almost always get questioned on when I speak at an event. As you have read in my posts, there is no question that wind and solar will be important in our global energy future, as will nuclear, biofuels and carbon capture and storage. We will need all the energy we can get to meet growing demand. In the energy space, there are in fact only four things the world can do to manage CO2:

Use nuclear for electricity.
Use renewable energy (winds, solar, bio, hydro, geotherrmal, wave, tidal).
Use CCS in conjunction with fossil fuels.
Use less energy for a given GDP output.

The flip side of this is that society has to do all of them, in very large doses, starting now, not just to manage CO2 but also to deliver sufficient energy at reasonable cost to meet the needs of a growing global economy.

Oil companies are already big players in the global energy market, but they don’t typically sell electricity. They do supply gas and oil to the electricity sector, but their focus is much more on transport and chemical feedstock. Yet there is an expectation by many that oil companies such as Shell should rapidly transition to technologies like wind and solar. But both are outside their core competencies in terms of technology, which means the companies may struggle to add value and compete against others that can bring significant expertise to the table (e.g. Japanese electronics companies in solar).

Yet Shell and others must move forward as the new low CO2 emission economies are created. This then brings us back to areas where the oil industry may be more successful at adding value. Collectively, we are good at geology, drilling, gas handling, gas separation and compression, gas treatment, large scale chemistry and the distribution of flammable liquid and gas products. These are all technologies that sit behind CCS and bio as an energy source – important components in the short list of options we actually have.

In particular, CCS needs gasification (i.e. large scale chemistry that turns the energy feedstock into synthesis gas – carbon monoxide plus hydrogen), gas handling (both carbon dioxide and hydrogen), gas separation, gas compression, geology, drilling and well monitoring. The use of bio matter for energy may also utilise gasification, but also a range of other chemical processes and of course large scale flammable liquid distribution.

Perhaps the irony in all this is that as society moves to a more electricity based low CO2 emissions world, the oil and gas industry could end up, at least in my view, competing with the electricity sector anyway, but I don’t think solar and wind will be the pathway that takes us there. As gasification of coal and other energy feedstocks becomes more commonplace in power generation with CCS, the power companies will find themsleves handling synthesis gas and hydrogen. Synthesis gas can be a primary feedstock for all manner of chemical products, including synthetic transport fuels and hydrogen will almost certainly play a role as an energy carrier somewhere in the economy. The power generators will also be selling electricity directly to transport consumers for their plug-in hybrid cars. But the oil and gas industry won’t be just sitting on its hands whilst this happens (well I hope not). Not only will many of the technologies needed in the power sector come from the oil and gas industry, but the refinery of the future might look very much like a power station, taking in a range of energy feedstocks, gasifying them, using the syngas to produce certain liquid products such as synthetic fuels, storing CO2 underground, producing hydrogen . . . . and generating electricity. Need I say more.