Creating Tomorrow: Energy

Human living is in the early stages of huge change that will take us well beyond historical experience. In this, the first of a five-part series, business professor and sustainability expert Dr Wayne Cartwright explains what this will mean for energy use, the weather, food, finance - and life in general as we know it.

The future of energy - in New Zealand and the world - needs to go beyond business-as-usual. Photo / Getty Images

OPINION: The rising cost of energy will transform the global economy, probably within the next seven to ten years. What's happening, why and what does it mean for the world and for New Zealand?

In its current form, the industrialised global economy is utterly dependent on cheap energy. Without it, virtually nothing can happen. The great bulk of this energy comes from non-renewable fossil fuels. Transportation and manufacturing depend on oil and gas, and a high proportion of electricity generation processes burn coal, oil or gas.

So, in creating tomorrow, it is obvious that we need to be very well informed about the future for energy, and especially fossil fuels.

Unfortunately, published information about the global outlook for energy is riddled with contradictions and confusion.

Most of this is due to deliberate manipulation and spin, as producers of oil, natural gas, and coal work continually to maintain investor confidence and to reinforce their very strong political networks. Politicians, economic advisers, investment houses, and banks all welcome continual reassurance that the outlook is for reliable supplies at affordable prices.

This position is actually false, irresponsible and dangerous. Some of the confusion also arises from interpreting short-term variations in energy prices as medium and long-term trends. We have a current example - oil and gas prices dropped during the 'financial crisis' recession - but the medium-term trend is still sharply upwards.

Another current example of misleading interpretation has arisen from the recognition of large shale gas reserves that can be accessed by fracking. In the United States, the rush to exploit these resources - stimulated by pre-recession high prices - resulted in a short-term oversupply of gas into a recessionary market. Prices plunged, leading to public and political perceptions that large supplies of gas could be supplied for many years at moderate prices.

These beliefs are false because shale gas can be extracted profitably only at much higher prices. Despite huge reserves of gas being potentially available through fracking, all are accessible only at relatively high cost. Hence, these reserves are not sources of low-cost future energy.

A harsh reality

Just three straightforward truths emerge when the confusions and cynical misinformation are cleared away. First, the low cost oil and gas fields that have been an essential foundation to economic growth over many decades are already exhausted or are nearing depletion. There are still large reserves of both oil and gas, and more are being discovered, but these are all sources such as deep ocean wells, tar sands, and tight deposits that require fracking.

Compared to the sources that are nearing depletion, these sources all require greater investment in development, extraction costs are much higher, and the amount of energy inputs required to extract energy is also higher.

Hence, the prices necessary for profitable extraction from these sources are considerably higher than our 'living-as-usual' and 'business-as-usual' expectations.

Prices equivalent to at least US$100 per barrel for crude oil are required. Some of the large shale gas fields accessible by fracking are profitable at a lower price but they require entirely new and costly infrastructure for the necessary water supply and for transporting the gas and, in any case, cannot substitute for a major proportion of oil supplies.

Second, it is well established that the global economy moves towards recession whenever oil and gas prices are above the equivalent of around US$100 per barrel for crude oil.

The shock and slow-down intensify if the price rises further. The most recent example was in 2008 when the recession was triggered by oil prices that peaked at US$147. This situation became worse when the US property bubble burst and revealed a great amount of poorly secured debt.

Third, considering the first two truths together, it is clear that the prices necessary to make it financially viable to extract oil and gas from most of the sources that will be available in the near future, are also the prices which trigger recessionary moves in the global economy - both are around US$100!

The harsh reality is that when oil and gas production reaches the point where a high proportion comes from high-cost sources, global supplies will be available only at prices that cause contraction in the global economy.

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Fossil fuel prices have a heavy impact on the global economy. Photo / Getty Images

Spikes and drops

This situation will start a roller-coaster. A somewhat simplified scenario begins with high oil and gas prices triggering a recession. Due to this recession, demand for oil and gas will drop, causing prices to fall temporarily. These lower energy prices will stimulate the economy but oil and gas extraction cannot continue for long at these reduced prices.

Hence, energy supply is unable to respond to the rising demand. The resulting shortages will soon cause prices to rise again, probably to levels higher than before. This price lift will reinforce the original recession, and the roller-coaster will head downwards again.

These cycles will continue, resulting in a succession of abrupt spikes and drops in prices. The shocks of this will extend throughout the economy, broadening the recessionary conditions. Even before the roller-coaster eventually slows down, it will become clear that energy prices have risen permanently to levels that prevent the global economy from returning to the types and levels of activity allowed previously by cheap oil and gas.

Those will be the primary effects. Alongside them, rising oil and gas prices will make it increasingly attractive to invest in alternative forms of energy, especially the capture of solar, wind and tidal sources, and some types of biofuels. Nuclear electricity generation could also grow significantly despite its inherent risks. These innovative non-fossil sources will undoubtedly account for increasing proportions of total energy usage, although scaling-up non-fossil fuel production will itself absorb large amounts of fossil fuels.

The time and investment needed to scale non-fossil fuel production to significant commercial levels means that in practice they will substitute for only a small proportion of oil and gas supplies. In any case, on the basis of known technologies, their costs of production will lie well above historical oil and gas levels.

Thus, even spectacular advances in supply of energy from non-fossil sources will not support continuation of life-as-usual.

The conclusion is very clear and stark: a future global economy based on high energy costs and reduced energy usage per capita is inevitable even assuming a highly optimistic outlook for non-fossil energy production.

Time to show leadership

It is astonishing that the certainty of this outlook for severely rising costs of energy has not been recognized widely. To the contrary, apparently prestigious institutions continue to ignore it. For example, recent publications by the National Intelligence Council and The Economist newspaper - both looking out to 2050 - make no provision for the recessionary effects of energy costs. Presumably, both have been captured by the same false assurances that are providing spurious comfort to political leaders.

The global economy will necessarily adjust to permanently high average prices and use of much less energy. When this happens, LAU and BAU will no longer be feasible. It will be essential for countries and communities to adapt and innovate human ways of living creatively so that they have much lower energy requirements, while also striving to provide greater wellbeing, satisfaction and happiness for citizens.

It is obvious that the sensible time to get on with this challenge is now so that the worst aspects of disruption can be avoided. This requires a calibre of leadership that we are not currently seeing. Such leadership will include encouragement of alternative energy systems, which will flourish after countries and communities have accepted the logic of transitioning to low-energy ways of living.

Climate change is not the only motivation

These conclusions are valid without any reference to either climate change or the further effects of oil and gas on environmental degradation. Although increasing numbers of people are very sensibly calling for far more active approaches to curbing greenhouse gas emissions, the conclusion that our present ways of life will become insupportable within a few years does not rest on environmental concerns or policies - the straight economics of energy costs alone will do it.

The compounding effects of more extreme climate change and wider ecological degradation come after that. Of course, if governments do summon up the courage to ensure that the full environmental and social costs of emissions are paid by emitters, this will further increase the costs of fossil fuels, and accelerate our passage towards a low-energy future.

My best guess is that this will happen as soon as a sequence of major weather events makes climate change undeniable. The forthcoming low-energy economy will emit less carbon, but this change will be too late and too little to avert very severe climate change.

Urgent action to reduce carbon emissions further remains as crucial as ever.

The Waikato River - shown here at the Huka Falls in Taupo - plays a vital role in the country's energy mix. Photo / Getty Images

What does this mean for New Zealand?

Global recessions and disruptions driven by energy costs will have direct effects on New Zealand's export markets, its sources of imported goods and services, and the international financial markets that New Zealand relies upon.

The risks to New Zealand's international economy should be analysed thoroughly and managed with great care. There will also be new opportunities, especially for specialised exports, and these should also be thoroughly understood and acted upon with creative vigour.

The whole globalised corporate scene will change dramatically as the sectors and companies most exposed to oil and gas prices decline, while others that are less affected step forward.

It would be foolish for New Zealanders to assume that oil and gas produced from the future deep ocean wells and fracking sources that have been proposed will supply a buoyant global market. This will not be the case because when prices are high enough to justify this production, global market demand will be severely depressed by the same prices.

It is clear that current government policy has not recognised this fundamental point. New Zealand has a very distinctive energy endowment because such a high proportion of its total energy, including nearly all of its electricity, comes from renewable sources. This is primarily hydro electricity generation but also includes significant geothermal and wind generation.

In view of the global energy scenario presented here, this endowment has the huge benefit of already providing the high proportion of renewable energy sources that most other countries will struggle to achieve.

It is true that almost all of New Zealand's transportation system is dependent on imported petroleum but this level of dependency could be reduced by vigorous introduction of electric vehicles charged from renewable sources. In this connection, the freeing of Manapouri hydro generation from contractual obligations would provide the needed capacity.

New Zealand cannot escape the global shift to a higher energy cost economy, but it is less dependent on oil and gas than most other developed countries due to the hydro and geothermal resources that already power a high proportion of our electricity generation.

Unless these resources are sold in the meantime - as the government has started doing - New Zealand will have an extremely valuable buffer during the times of change.

It is clear that New Zealand's hydro and geothermal endowments are truly strategic assets that should be regarded as sovereign investments. It would seem that this has not been understood by either the generating companies or by the government and its advisers. This is because mainstream traditional commercial valuation techniques do not consider the strategic holding opportunities for assets and so greatly underestimate the value of these particular assets.

Established renewable energy sources are globally very rare. To sell some of these assets at values based on projections from short-term energy prices is to sell them at values that are ludicrously low relative to future values.

Such a decision is extraordinarily naïve and irresponsible and demonstrates both an alarming absence of strategic common sense and a lack of understanding of future economic realities.

Time for a change

It is inevitable that our global tomorrow will be changed hugely by rising energy costs. Countries and communities that accept this now have the opportunity to make necessary adjustments to maximize their wellbeing. If it is looked at in the right way, this process will be stimulating and rewarding over a lengthy period.

The current energy policy of the New Zealand government ignores the future global energy situation discussed here.

While it is already too late for some decisions, all further implementations of this policy should be stopped pending proper analysis and review of the implications for the wellbeing of future New Zealanders.

Check out the full series as featured in Element magazine from the NZ Herald:

• Creating Tomorrow: Energy
• Creating Tomorrow: Weather
• Creating Tomorrow: Food
• Creating Tomorrow: Finance
• Creating Tomorrow: Community and Economy

Dr Wayne Cartwright has postgraduate degrees in agricultural science and economics and has served 34 years in tertiary education - including 30 as a professor in the business schools at the Massey and Auckland Universities.

He has consulted widely in business management, international business and governance, and strategic responses to future insight. He has served on several corporate boards of directors.

He is a past chair of Sustainable Aotearoa New Zealand (SANZ) and has been on the Council for Socially Responsible Investment. He co-wrote and edited the 2009 SANZ publication Strong Sustainability for New Zealand: Principles and Scenarios.

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