Tag Archives: Oil

Internalizing Externalities: How to clean up the BP oil spill the right way

The Environmental Economics blog has been covering the oil spill really well, so I suggest heading to their blog and keeping up with it. They just posted a video on a way to help soak up the oil in the gulf:

How cost effective would this be?

Just from eyeballing the video, let’s say a pound of hay and can soak up a pound of oil.   How many pounds of oil is being spewed by BP’s mishap?  According to the NYtimes, 5,000 barrels per day seems to be the rate.  At 5,000 barrels per day, that amounts to 210,000 gallons of oil.  At 7 pounds of crude per gallon, (give or take) your looking at  1.47 million pounds of oil being dumped per day.  Now, price of hay varies depending on amount, type and time of year.  Given some googling on the internet, hay can run from $0.02 to $0.10 dollars per pound.    Let’s say it can get as a bad as $0.50 per pound.  In that case, it would cost around $29,400 to $147,000 to $735,000 pounds, given the price of hay.  Add in the labor that would be needed to disperse the hay and then clean it up plus the equipment and manufacturing and you would have a pretty pricey cleanup.  But compared to the alternative, some say the clean-up will total $12.5 billion for BP.  In addition, using hay is more enviromentally friendly than the alternative AND it can be implemented now.

So, what would be the total cost if the hay solution was implemented? Assume it would take a month tops to absorb all the oil. Note once the oil is absorbed in the hay, environmental damage is limited – basically because oil doesn’t have to be cleaned from anything else.  Note that the alternative chemical dispersant not being used won’t have to harm the environment.  Note that the oily hay can be retrieved and then either burned for energy or maybe even refined so that the oil is turned back into a usable source.  Not counting capital and labor, the input prices would cost: $882,000 to $4.41 million to $22 million per month. That’s it.

Worst case for the year: $264 million < $12.5 billion

How much more could the thousands of shrimp boats cost to implement it and the seaweed rakes to clean the stuff up on the beach? Certainly not more than what many have projected, even if a traditional, yet smaller clean-up will be implemented.   Even if the $12.5 billion figure is taking into account ALL costs such as the lost product and actual equipment cleanup, variably hay would be cheaper and much easier to implement given community wide mobilization.

Yes, I know this analysis is too generalized and is not taking into consideration many factors such as… blah, blah, blah.  The point is this: If BP or the government won’t stand up, then the local community will, dat’s who!*

*Apologies for the very terrible impression of how Cajun people act.  For more information, please visit stuffcajunpeoplelike.com.

Breakthrough Spotlight: Biofuel from microbial organisms

Unlike cellulosic ethanol made from foodstuffs and grasses, bio-fuel makers are on their way to creating a commercially viable bio-fuel made from microbial organisms. From Techpulse 360:

Now a third-generation of biofuel makers is showing progress with novel laboratory work. This new wave is a sharp departure from the ways of the past and has interesting potential. It hopes to simplify manufacturing by avoiding the fermentation step of first and second generation companies and convert organisms directly into fuel using just carbon dioxide and sometimes sunlight.

It is an exciting prospect. Not only could these new ventures remake an industry, they could open the door to new ways to store solar energy (in a fuel!) and help remove CO2 from the atmosphere.

Why is this a breakthrough relative to other bio-fuels? Most of it has to do with the ease of implementation within our existing infrastructure and limited burden on current resources.

Renewable sources of energy such as solar are geographically specific and currently, are unable to effectively store the energy on a large scale for that energy to be transported elsewhere.  While bio-fuels capture that energy from the sun and transforms into an effective storage vehicle that can be easily implemented with our current infrastructure, bio-fuels created from foodstuffs and grasses put a strain on available land and resources, usually translating into higher prices for food. Combine that with several production steps to create it, and you can see where bio-fuels become economically disadvantaged.

With microbial organisms such as these, the combined inputs of solar power and carbon dioxide add the benefit of reversing our carbon emissions. Add the fact that bio-fuel can already be easily implemented within our infrastructure and you can see why commercially viable bio-fuels from microbial organisms are a breakthrough.

The Capacity for Fuel Economy Already Exists

According to James Hamilton’s post in Econbrowser, research done by U.C. Davis economics professor Christopher Knittel found that given today’s production techniques for cars, fuel efficiency can already be gained at an amount of 50%.   Most of this was a consequence of a rising correlation between a cars horsepower, torque and weight, all of which continued to increase while fuel economy remained around the same levels.  The fact that the capacity already exists to make fuel efficient cars puts the burden on car companies design teams and the consumers who would demand them.  Europe already forces certain fuel economy standards, while the U.S. does not.  The rise of eco-conscious consumers should help a little, but a jump in gas prices past a consistent $4.00 a gallon may help consumers start making decisions towards more fuel efficient cars when they see money begin drying up in their wallets.

The End of Cheap Coal

One of the reasons why the push for Cap and Trade was a good idea was it would not only internalize the cost of carbon emissions, but it would also raise the price of energy created from coal.   With higher prices for kilowatt per hour from coal energy, cleaner energy sources would become competitive.  Currently, cleaner energy sources can barely compete with coal, with exceptions of course.  But if legislation wasn’t going to push up the price of burning coal, then in the long-term, rising international demand would.  That time is now.

In 2009, China has ceased to export coal and has now began to import it.  According to the financial times, in 1993 the same happened to oil.  China’s oil imports exceeded what was being imported and the consequence was a climb in the average oil price, all too well known thanks to oil spiking at $150 a barrel in 2008.  China had been using more oil than it could produce in order to fuel its large amount of economic growth, and oil wasn’t the only commodity.

China isn’t the only player.  India as well as the emerging markets have offered its heavy share of the demand, tipping trade balances toward imports and helping to drive up commodity prices for oil and building materials.   The same is expected for coal.

This is good news for America, which contains the largest coal reserves in the world.  This is also good news for the coal industry, as it will be able to profit from an uptick in prices.

This is not so good for the coal power industry, especially in America.  While the coal industry will benefit in developing nations who have already increased the capacity to burn coal for energy and produce steel from coke, the developed world already faces pressures for pursuing greener technologies instead of burning coal.  And the coal power industry should be scared: the only thing keeping them from not succumbing to the powers of green energy is price, which is now soon to change.  With coal prices higher translating into higher per kilowatt hour energy costs that begin to be on par with greener technologies, the coal power industry will have a tough fight.

Green technologies already have the leg up of being green and renewable.  Obama’s recent moves to push for nuclear energy, which would already be competitive given Obama’s plan, and the ARRA’s subsidizing of renewable resources like wind and solar significantly put the government against the coal power industry.

The government’s backing of renewable energy certainly distorts what the market wants when providing energy, but a needed distortion nonetheless.  The only hope for the coal industry is to level the playing field by either removing green energy subsidies (not likely) or becoming green it self.  The industry’s only hope is going for clean coal. And now, it doesn’t have the luxury of waiting anymore.

Before one says that clean coal isn’t viable, I disagree.  It is possible, given recent developments in innvoation.  I blogged recently about Thomas Friedman’s catch about clean coal:

If you combine CO2 with seawater, or any kind of briny water, you produce CaCO3, calcium carbonate. That is not only the stuff of corals. It is also the same white, pasty goop that appears on your shower head from hard (calcium-rich) water. At its demonstration plant near Santa Cruz, Calif., Calera has developed a process that takes CO2 emissions from a coal- or gas-fired power plant and sprays seawater into it and naturally converts most of the CO2 into calcium carbonate, which is then spray-dried into cement or shaped into little pellets that can be used as concrete aggregates for building walls or highways — instead of letting the CO2 emissions go into the atmosphere and produce climate change.

If this can scale, it would eliminate the need for expensive carbon-sequestration facilities planned to be built alongside coal-fired power plants — and it might actually make the heretofore specious notion of “clean coal” a possibility.

With coal prices expected to rise, you can bet this will scale. With clean coal on the horizon, subsidizing greener technologies won’t be needed anymore or vice versa, coal won’t be dirty anymore. Either way, whether a Cap and Trade bill , favorable legislation towards green technologies or the sheer power of the market was going to force it, switching towards less CO2 intensive energy was inevitable. Now, about those mountain tops…

Don’t dismiss the average oil price

From Environmental Economics:

Globalisation and the Environment: Peak Oil Man discovers economics!

“Peak Oil” and the peak oilers associated with this idea are a strange bunch. It is interesting to note that the daddy of peak oil has suddenly realised that “economics” might have something to say on this matter.

Economics is sometimes a little more subtle than supply and demand. Behaviour is the key.

Peak Oil Man Shifts Focus To Peak Price, Demand [World Environment News]

The economic shock of global recession has led a prime exponent of the theory conventional oil output has peaked to shift his view of the consequences, but he still thinks the world has to go green.

Retired petroleum geologist Colin Campbell, who worked for major oil companies as well as smaller firms, has long been associated with the belief the world’s oil supplies are dwindling.

He does not waver from that and dismisses the argument of the so-called optimists that technology will manage to keep eking out more and more oil to keep pace with rising demand.

What has changed is his opinion of the price impact and implications for fuel consumption after the spike of July 2008 to nearly $150 a barrel was followed by world economic recession, a deep drop in fuel use and a crash in oil futures to just above $30 in December 2008.

“I have changed my point of view about future prices,” said Campbell, who used to think the peak in conventional oil production, which he believes happened in 2005, would lead to a relentless price surge.

Oil prices may get too high to the point where it puts a strain on the economy and may push it towards recession, depressing prices of oil towards decade lows, but one shouldn’t dismiss the average price of oil over the last century, which has significantly increased. If there was something that Campbell underestimated about peak oil it is that as the average price of oil rises, the allocation of consumption towards cost effective substitutes helps depress average oil prices lower. Campbell is underestimating capitalism’s flexibility. But, he is right that the average price will still continue to rise. We will know when oil has reached it’s highest price when the market mechanism allocates more consumers toward cheaper alternatives.

Do commodity futures accurately predict commodity prices?

From Econbrowser’s Menzie Chinn:

This paper examines the relationship between spot and futures prices for a broad range of commodities, including energy, precious and base metals, and agricultural commodities. In particular, we examine whether futures prices are (1) an unbiased and/or (2) accurate predictor of subsequent spot prices. While energy futures prices are generally unbiased predictors of future spot prices, there is much stronger evidence against the null for other commodity markets. This difference appears to be driven in part by the depth of each market. We find that over the last five years, it is much harder to reject the null of futures prices being unbiased predictors of future spot prices than in earlier periods for almost all commodities. In addition, futures prices do approximately as well as a random walk in forecasting future spot prices, and vastly outperform a reduced form empirical model.

Hit the link if you want to see the specifics. To paraphrase, this doesn’t mean that futures prices are guaranteed to predict actual commodity prices, but on average they are right. For financial analysts, that may be all that they need to hear. If on average, I could hedge my bet that the commodity price will reflect the futures prices, why wouldn’t traders use the forward momentum to drive prices upward? More so, when a major buyer like an oil refiner (in the case of oil) was squeezed and makes a major sell off in order to keep from paying a higher price on oil, would the momentum generated in the other direction drive prices drastically lower until a major player decided to cover their bets and drive the price up again?

This graph (from the paper) shows the average t-stats against the trade volume:

What I take from this is that the greater the variability, the less accurate futures are in predicting prices. Seeing that oil is at the highest trading volume but the least t-stat lets me assume that the oil market isn’t where a strategy could take advantage of the statistical phenomena. What could happen though is that as trading volume increases as traders try to capture the predicted commodity prices from future prices, (a la driving up the futures price) you end up with greater variability in price over all.

That’s doesn’t sound too good for price stability. If it is actively known that such a statistical relationship exists, and trader’s can’t exploit it, then one would conclude that commodity prices are accurately priced. However, if such a statistical relationship exists, trader’s knowingly exploit it, and variability in pricing occurs greater than its historical variation, then one can conclude that commodity prices are derived from speculation.

I want to believe him…

From Krugman:

Oil prices did spike to triple-digit levels in early 2008, then drop sharply. But think about the fact that right now, with the world economy still seriously depressed, oil is at $80 a barrel. This suggests to me that high oil prices are largely caused by fundamentals.

And it also suggests that resource constraints will be an issue if and when we do get a full recovery.

I want to believe him but why then… From MR:

This graph doesn’t bode well for my “rising commodity prices in the future theory.” However, Tyler Cowen would back me up as he had written about it in his previous post. (here) Rising incomes lead to a rising demand for these resources that will soon outpace the economies of scale and innovation that has depressed commodity prices so much over the years. Oil is obviously the leading indicator of this…we use it so much, it is quite precious, easy substitutes are not easily available, and our demand for it is highly inelastic.  While food or other organic materials will help keep the overall index down, I believe metals, especially heavy metals, should be next on the list.  They exhibit the same traits as oil however demand for them isn’t as high right now.  When incomes in the developing world rise to a point where they are able to build resource intensive buildings and demand high tech products and infrastructure, I can assure you they will exhibit the same traits that oil is experiencing now.