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Energy Security and the Energy Transition: a Classic Framework for a New Challenge

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Energy Security and the Energy Transition: a Classic Framework for a New Challenge REPORT 11.25.19 Energy Security and the Energy Transition: A Classic Framework for a New Challenge Mark Finley, Fellow in Energy and Global Oil their political leaders during the oil shocks of SUMMARY the 1970s. While these considerations have Policymakers in the US and around the world historically been motivated by consumers are grappling with how to understand the worried about access to uninterrupted security implications of an energy system supplies of oil, producing countries can in transition—and if they aren’t, they equally raise concerns about shocks to— should be. Recent attacks on Saudi facilities and the security of—demand. show that oil supply remains vulnerable In addition to geopolitical risk, the to disruption. New energy forms can help reliability of energy supplies has recently reduce vulnerability to oil supply outages, been threatened by factors ranging from but they also have the potential to introduce weather events (the frequency and intensity new vulnerabilities and risks. The US and its of which are exacerbated by climate allies have spent the past 50 years building a change) to terrorist activities, industrial robust domestic and international response accidents, and cyberattacks. The recent system to mitigate risks to oil supplies, but attack on Saudi oil facilities and resulting disruption of oil supplies,1 hurricanes on similar arrangements for other energy forms Policymakers are remain limited. This paper offers a framework the Gulf Coast (which disrupted oil and gas for assessing energy security based on an production and distribution, as well as the grappling with the evaluation of vulnerability, risk, and offsets; electrical grid), and high winds in California security implications this approach has been a useful tool for that caused widespread power outages of an energy system in assessing oil security for the past 50 years, have brought energy security once again transition—and if they into the global headlines. and it can be relevant for assessing energy aren't, they should be. security in an energy system in transition. Even with the US now on a trajectory to achieve the long-sought goal of energy self- sufficiency, global energy security remains INTRODUCTION a strategic and economic challenge. While self-sufficiency would alleviate some of the Energy security considerations are not traditional concerns about global supply new phenomena. More than a century ago, disruptions, the fact that many energy addressing the risks in switching the Royal forms remain traded commodities means Navy’s main source of fuel from coal to oil, that foreign disturbances will continue to Winston Churchill famously argued that impact domestic markets. Rapid growth in “safety and certainty in oil lie in variety the use of renewable energy (and use of and variety alone.” Access to oil supplies batteries for electric vehicles and power was a major strategic consideration for all grid management) may help mitigate the major actors during World War II, and conventional security concerns with regard it became a focus of individual citizens and BAKER INSTITUTE REPORT // 11.25.19 to fossil fuels, although these changes may In addition, risk assesses the chances also reveal new risks. Moreover, the US of a shock. Considerations must include not and its allies have a cooperative system only the probability of a disruption but also for dealing with oil supply disruptions— an assessment of the potential magnitude including both commercial and strategic oil and duration. A large but brief shock (such stockpiles—but the framework for dealing as the one seen recently in Saudi Arabia) with risks arising from the growing use of may be less disruptive than a small but other fuels is very limited. long-lasting one. There are many approaches to appraising Finally, offsets include the capacity energy security. As a young energy security and timeline to counter a shock. This could specialist in the US government in the 1980s, include the ability to increase production I learned an approach based on assessing elsewhere, draw supply from inventories, vulnerability, risk, and offsets that I’ve found switch to other energy sources, and/or useful in evaluating oil security. In this paper, reduce demand by conserving energy. I argue that this framework can be useful for The purpose of these interventions is to assessing the security of an energy system cushion the impact of the shock while giving in transition—in particular, a transition away markets—both producers and consumers—a from coal and oil toward natural gas and chance to respond in a more orderly fashion. renewables in part due to climate change. Energy security policy can aim to I will apply this framework of vulnerability, address any of these dimensions. For risk, and offsets to the current oil market and example, vulnerability can be reduced a potential future energy system in transition by diversifying the fuel mix, risk can be to renewable energy and natural gas. This managed via diplomacy or military power, discussion is not intended to be an exhaustive and a strategic stockpile can be used to review of all potential facets of the issue, offset lost supply. but as an illustration of the framework’s application. I primarily focus on the US, but with some consideration of other key energy APPLYING THE FRAMEWORK TO OIL players and the world as a whole. Vulnerability Global—and US—vulnerability to oil shocks THE FRAMEWORK has improved significantly in recent years, but it still remains a significant concern. The The first element of the framework is shale revolution has put the longstanding vulnerability, which is how exposed the US goal of energy self-sufficiency within US and global energy systems are to a reach. The US recorded the world’s largest shock. This could include the size of the ever increases in production of both oil and energy input to the economy (in absolute natural gas in 2018, and it is the world’s terms and especially in financial value), largest producer of both fuels. In addition, the degree of substitutability, and the the country is now a net exporter of natural concentration in key sectors, such as the gas and has seen net oil imports as a share importance of oil in transport. Vulnerability of domestic consumption fall from a high of has loomed in public perceptions as an 60% in 2005 to just 11% last year.2 The US economic consideration, experienced Department of Energy’s Energy Information as either price spikes and/or physical Administration (EIA) projects that the US shortages. Other vectors of vulnerability could become a net oil exporter as soon as can include potential adverse effects from 2020.3 Rising oil and gas production have a disruption for diplomatic, strategic, boosted the US economy via higher levels or military objectives. In recent years, of investment, employment, and corporate/ environmental objectives—especially climate individual taxes, as well as the resulting change—have emerged as increasingly decline in energy prices for consumers important to assessing vulnerability. and businesses.4 2 ENERGY SECURITY AND THE ENERGY TRANSITION: A CLASSIC FRAMEWORK FOR A NEW CHALLENGE Broader changes in the US energy consumption). China is also an increasingly system have also impacted US vulnerability. large importer of natural gas (over 40% On the demand side, growing energy of its 2018 energy consumption), and the diversity and significant improvements in country even imports coal. Furthermore, the efficiency of energy use have reduced Europe depended on imports of oil and America’s vulnerability to supply disruptions. natural gas in 2018 to meet roughly three- Oil’s share of the US energy mix has declined quarters and 55% of its consumption, from a peak of 48% in 1977 to just 36% last respectively. Japan is almost entirely reliant year; the share of oil in the global oil mix on imported oil and natural gas, while India has also declined.5 In addition, the amount imports about 80% of the oil consumed and of energy needed to produce a (real) dollar half of the natural gas used.11 of GDP has fallen by more than 50% since While the impact of higher oil prices 1980. As a result of greater efficiency and on the US economy is now more balanced, lower prices, spending on energy as a with producing regions benefiting even share of GDP has fallen from 13% in 1980 as consumers are adversely impacted, to roughly 5%.6 The shale revolution potential price spikes—and increased price and growing use of renewables have also volatility—stemming from global oil outages contributed to reduced US CO2 emissions still pose risks to both households and from energy use by allowing natural gas to industry. Oil remains the dominant energy displace coal in power generation; emissions source for the global economy, accounting have fallen by 12% since 2007 (although for 36% and 34% of US and global energy they increased in 2018).7 consumption, respectively. Moreover, oil The US shale revolution has also (and increasingly other energy forms) impacted global energy markets and energy are global commodities, meaning that US Vulnerability, risk, security beyond the nation’s borders.8 markets remain vulnerable to the price and offsets can be a Rising US oil production (and OPEC’s desire effects of supply disruptions abroad, even useful framework for to maintain market share) led to a sharp as domestic production increases. decline in oil prices in recent years: crude While net oil imports have fallen sharply, assessing the security prices averaged above $100 per barrel the US remains a significant importer due to of an energy system during 2011-14 but now stand near $60.9 a mismatch between the configuration of US in transition. While benefiting consumers, lower prices refineries favoring heavy imported crudes have created large budget deficits in oil- and the light quality of domestic crude oil exporting countries and have prompted production.
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