High, volatile oil prices are in the forefront of our minds in a way they haven’t been for many years. The latest issues survey which the World Economic Forum conducts every year with energy CEOs shows that supply uncertainties are now the chief preoccupation of our business and political leaders. That’s why so many consuming countries are now re-evaluating their energy policies.
Some prominent oilmen insist that oil at $60-$80 a barrel just means that history is repeating itself cyclically, and that after a comfortable decade we need new investment to upgrade our infrastructure. Others, including some prominent oil CEOs admit that we are running out of easy oil at the time that climate change will forever affect the way we must approach all future energy crises.
Two sides of the same coin are security of revenue and security of supply. The former is the main concern of hydrocarbon producing countries, and the latter of energy-consuming ones. The first one led to the 1960 foundation of OPEC (the Organisation of Petroleum Exporting Countries), the second to the 1973-74 creation of IEA (the International Energy Agency). But the world is very different today. The key changes can be grouped around the five main pillars of energy security: supply, demand, related geopolitics, the underlying market structure, as well as the relevant institutions. And on the supply side the key is increasing concentration. The first dimension of this is the “maturing” of many of the non-Middle Eastern oil fields. In 1970, roughly half of the oil reserves were located in the Middle East, while now it is over two thirds. The emergence of natural gas has added a second dimension, with roughly half of this resource concentrated in Russia, Iran and Qatar.
The demand side has seen steady growth, but also a continuous reduction of the energy density: in 2005, one unit of world GDP took four times less oil to produce than in 1970, although total demand had increased by 50%. Meanwhile, natural gas demand grew by over 150% during that period.
In terms of geopolitics, we have moved from the bi-polar cold war to a world with multiple poles and tendencies: capitalism, communism, political Islam, feminism, and so on. Power everywhere is moving from the centre to the periphery; within nations power is becoming dispersed and vertical command and control structures are eroding. It is also increasingly difficult for multilateral organisations to orchestrate powerful collective action. The global climate threat thus comes at a time when our systems for dealing with it are less and less effective.
Energy markets have also seen a good deal of change since the 1970s, and have undergone waves of liberalisation and globalisation. They have become more intertwined, even while comfortable reserve margins have dried out. We now face tight spare production and refining capacity in the oil sector and have experienced high-profile power blackouts in both the US and Europe. Energy prices have reached their highest levels since the oil shocks of 30 years ago, accentuated by painful levels of volatility. Uncertainty and high prices have exposed the global energy sector again to an awakening of economic nationalism and protectionism. For producing countries this has taken the form of re-nationalisation efforts or closer state control of oil and gas in, say, Russia, Venezuela and Bolivia. The tight markets have strengthened the negotiation positions of state-owned companies in resource-rich countries and are leading to a shift of power from the international oil companies, despite their strong project management skills and technological know-how, to the national oil companies. For consuming countries, energy security concerns translate into protection of domestic energy companies, and this has been particularly visible in the US and in France, Germany, Spain and Italy. The drift away from efficient and competitive markets is accentuated by the increasing concentration of power in the hands of few giant companies that have resulted from the wave of mergers.
What, then, is the link between energy security and climate change? How can we adjust our energy consumption to mitigate greenhouse gas emissions? The simple answer is to invest in low-carbon fuels and technologies and drive small, smart cars.
The electricity sector more than any other faces long-term investment decisions that are crucially affected by whether or not we are serious about climate change. The IEA says that over the next 30 years we will need $20,000bn to invest in energy infrastructure, but only a robust, transparent, fair and global climate framework beyond 2012 can provide a solid base for decisions on energy infrastructure investment. As matters stand, without such a framework the resulting uncertainty means investors will delay and our energy insecurity, will increase.
Is it efficient and politically feasible to set up such a global framework? The political weight of an issue is clearly not the same if it is associated with environment, economics, or security. The short history of climate change shows that the issue moved from the environmental agenda in the 1990s to the economic agenda today, in Europe at any rate. Shouldn’t policymakers now look at it as a security issue and ask how homeland security is prepared to deal with the consequences of accelerated migration, increased frequency of environmental disasters and so on? We are, after all, talking about risks that some say rank on a global scale just after nuclear war. During the Cold War we didn’t ask defence ministers to prepare for cleaning up after a nuclear war, we asked them to ensure war would not happen. So if the risks are comparable, the same precautionary principle should lead us to invest comparable amounts in preventing climate change. And only by setting up a global political framework can we ensure the necessary energy infrastructure investments.
As to improving energy security while also improving our climate footprint, energy security can reasonably be categorised a global public good as global society will benefit from it, but markets fail to provide it by themselves because there are always opportunities for windfall profits and free riding. Economic theory suggests that in such cases of public good, or the prevention of large risk, that the state should intervene. So logically a global public good would require the intervention of a global institution. Today, we have no institution equipped to address these related challenges; there is still no UN energy body in charge of these issues, nor has the WTO any proactive policy-setting role. OPEC and IEA were both set up with very specific objectives and were not even equipped to deal with many of the changes and challenges I’ve already outlined. The energy and related policy issues that need global coordination are also truly daunting: transparency in resources inventories, provision of spare capacity in production and refining, prevention of terrorist attacks in international waters and delivery of a robust climate framework are just the beginning of a long list of responsibilities one could envisage.
A determined international coordination effort on these issues is vitally important, but what can we do more immediately to deal with the issues at hand? An increasingly large proportion of the world population now lives in urban areas, so cities will become the actors and trendsetters of “localised” versions of energy security. They can play a key role when investing in public transport and in setting incentives for efficient cars and heating systems, in establishing local energy sources and raising public awareness. Learning from those cities that have already developed and implemented best practices is still a box that only a few have opened, but it’s an important first step.
Christoph Frei is Director of Energy Industries & Strategy at the World Economic Forum and Professor at the Energy Center of the Swiss Federal Institute of Technology in Lausanne.