Non-Renewable Energy Resources

Lecture 15

eDMP: 14.43 / 15.031 / 21A.341/ 11.161

Non-Renewable Resources: 92% of US Primary Energy

Lawrence Livermore National Laboratory. All rights reserved. This content is excluded from our Creative Commons license. For more information, see http://ocw.mit.edu/fairuse.

Also 92% of World Marketed Primary Energy

World consumption
Million tonnes oil equivalent

Coal Renewables Hydroelectricity Nuclear energy Natural gas Oil

13000 12000 11000 10000 9000 8000 7000 6000 5000 4000 3000 2000 1000

86

87

88

89

90

91

92

93

94

95

96

97

98

99

00

01

02

03

04

05

06

07

08

09

10

11

World primary energy consumption grew by 2.5% in 2011, less than half the growth rate experienced in 2010 but close to the historical average. Growth decelerated for all regions and for all fuels. Oil remains the worlds leading fuel, accounting for 33.1% of global energy consumption, but this figure is the lowest share on record. Coals market share of 30.3% was the highest since 1969.

Courtesy of BP Statistical Review of World Energy June 2012. Used with permission.

Non-Renewables Likely Dominant for Many More Decades

Source: Koonin, Steven. E. Whats Next in Energy? U.S. Energy Information Administration.

Topics
Economic theory of non-renewable resources

Classic Hotelling theory Recent advances & implications

Some basic facts about the markets for

Petroleum Coal Uranium Natural gas, Part 1

Classic Hotelling Theory: The Timing Decision

Suppose you own a well containing exactly 1,000 barrels of oil. Each barrel can be produced for $30. You have complete flexibility as to when to produce the oil. Currently the price of oil is $80 per barrel. If you knew future oil prices, how would you decide when to produce your oil?

Pick t (or ts) to max discounted net revenue: (Pt MC)/(1 + R)t

If all the oil in the world is produced from oil wells exactly like yours, what will happen to the price of oil?

(Pt MC)/(1 + R)t = (P0 MC) > 0; (P MC) rises at interest rate If LHS < RHS, raise output today, which lowers todays price Note: P > MC despite competition; todays output lowers later revenue; there is an opportunity cost of producing today
6

Classic (Hotelling) Theory II

PT PT Demand

Price

P0 C

P-c

Price P0 C Marginal Extraction Cost Quantity (b)

Image by MIT OpenCourseWare.

Time (a)

Q0

Under those assumptions, when should you produce your oil? Doesnt matter

What if a monopoly has 99.5% of all oil, MC = $30?

(MR MC) rises at rate R; P typically rises more slowly, so produce NOW
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But Prices of Non-Renewables Dont Rise Smoothly!

Crude oil prices 1861-2011
US dollars per barrel World events
Yom Kippur war Fears of shortage in US Growth of Venezuelan production Post-war reconstruction Loss of Iranian supplies Suez crisis Iranian revolution Netback pricing introduced Iraq invaded Kuwait Asian financial crisis Invasion of Iraq Arab Spring

Pennsylvanian oil boom

Russian oil exports began

Discovery of Sumatra production Spindletop, Texas began

East Texas field discovered

120 110 100 90 80 70 60 50 40 30 20 10 1861-69 1870-79 1880-89 1890-99 1900-09 1910-19 1920-29 1930-39 1940-49 1950-59 1960-69 1970-79 1980-89 1990-99 2000-09 2010-19 0

$ 2011 $ money of the day

1861-1944 US average. 1945-1983 Arabian Light posted at Ras Tanura. 1984-2011 Brent dated.

Courtesy of BP Statistical Review of World Energy June 2012. Used with permission.

Whats Missing from the Classic Theory?

Exploration: Reserves are an inventory; decisions to search, to prove, & to drill are intertemporal choices, like classic model.

End 1976 to end 2009, US proved reserves 10.26 B bbl.; production? Production during that period was 78.45 B bbl.

Depletion: Costs of finding, extracting likely to rise as more is produced from any given area (e.g., US).

Innovation: Technologies for finding, extracting improve over time a race with depletion.
Uncertainty: Future demand, supply are not known.

SR Inflexibility: Simple model over-states flexibility in output choice little SR supply flex for oil + inelastic demand SR P volatility.
Cartel Behavior: OPEC behavior is complicated Politics: Why else drill miles deep, miles offshore when it is much cheaper to produce in the Middle East?
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Basic Market Facts: Oil

Transport (pipelines, ships) relatively cheap; market has been global (single pool) since at least 1970s

Active spot and futures markets, with good data; the latter used for hedging and speculation

Production is concentrated geographically, reserves even more so; much of both in unstable nations
OPEC is a cartel of the big (national) oil firms, power has varied; Saudi Arabia has historically been the main holder of excess capacity As we have seen, price has been volatile since the 1973-74 embargo
10

International Oil Trade: 65% of Production

Major trade movements 2011
Trade ows worldwide (million tonnes)

23.7 29.5

2 298.2 48.6

133.8 133 3 27.1 59.8

35.5 57.6 68.3 18.4 95.5 41.1 111.2 26. .0 .0 49 5 49.5 28.4 28 28.4 4 13 1 137 137.8 37 61.1 110. 0. 0.7 226.6 34.3 61.5 28.4 22.1 12 26.0 175.1 51 5.1

US Canada Mexico S. & Cent. America Europe & Eurasia Middle East Africa Asia Pacic

15.6

29.5 42.2 27.1

Courtesy of BP Statistical Review of World Energy June 2012. Used with permission.

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Middle East: 30% of World Production

Production by region
Million barrels daily

Asia Pacific Africa Middle East Europe & Eurasia S. & Cent. America North America

100

90

80

70

60

50

40

30

20

10

86

91

96

01

06

11

Courtesy of BP Statistical Review of World Energy June 2012. Used with permission.

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Middle East: Over Half of Proved Reserves

Distribution of proved reserves in 1991, 2001 and 2011
Percentage

Middle East Europe & Eurasia Asia Pacic Africa North America S. & Cent. America

3.6 5.2

38.4

4.2

42.1

7.0

4.6
7.8 8.0

4.0 7.2 7.2

32.6

7.7

7.1

1991 Total 131.2 trillion cubic metres

41.8

2001 Total 168.5 trillion cubic metres

2011 Total 208.4 trillion cubic metres

37.8 33.7

Courtesy of BP Statistical Review of World Energy June 2012. Used with permission.

13

OPECs Share of World Output Has Varied

14

The Big Oil/Gas Companies are National

Companies ranked in order of 2007 worldwide oil equivalent oil/gas reserves as reported in "OGJ 200/100", Oil & Gas Journal, September 15, 2008.
Courtesy of Oil & Gas Journal. Used with permission.
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Basic Market Facts: Coal

Reserves, production concentrated in a few leading nations in several regions Mainly moved by rail and ship; high weight-to-value ratio limits trade Markets tend to be mainly national; US has abundant supplies, relatively low prices, regional differences

Long-term contracts dominate; spot and (since 2001) futures markets less important
Huge recent increase in Chinese use of coal
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Production, Reserves Fairly Concentrated

2010, Pct. of World Output Reserves China 48.3 13.3 United States 14.8 27.6 Australia 6.3 8.9 India 5.8 7.0 Russia 4.0 18.2 Total 79.2 75.0
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Coal Exports: 15% of Production

Leading Exporters, 2010 Country Share Australia 27.1 Indonesia 26.1 Russia 10.1 U.S. 6.9

Leading Importers, 2010 Country Share Japan 17.5 China 16.6 S. Korea 10.7 India 8.6

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Prices Differ; Not a Global Market

US dollars per tonne
1990 1991 1992 1993 1994 1995 1996 1997

Northwest Europe market price

43.48 42.80 38.53 33.68 37.18 44.50 41.25 38.92

US Central Appalachian coal spot price index

31.59 29.01 28.53 29.85 31.72 27.01 29.86 29.76

Japan coking coal import cif price

60.54 60.45 57.82 55.26 51.77 54.47 56.68 55.51

Japan steam coal import cif price

50.81 50.30 48.45 45.71 43.66 47.58 49.54 45.53

1998
1999 2000 2001 2002 2003 2004

32.00
28.79 35.99 39.03 31.65 43.60 72.08

31.00
31.29 29.90 50.15 33.20 38.52 64.90

50.76
42.83 39.69 41.33 42.01 41.57 60.96

40.51
35.74 34.58 37.96 36.90 34.74 51.34

2005
2006 2007 2008 2009 2010

60.54
64.11 88.79 147.67 70.66 92.50

70.12
62.96 51.16 118.79 68.08 71.63

89.33
93.46 88.24 179.03 167.82 158.95

62.91
63.04 69.86 122.81 110.11 105.19

*Source: McCloskey Coal Information Service. Prices fo 1990-2000 are the average of the monthly marker, 2001-2010 the average of weekly prices. **Source: Platts. Prices are for CAPP 12,500Btu, 1.2 SO2 coal, fob. Prices for 1990-2000 are by coal price publication date, 2001-2010 by coal price assessment date. Note: CAPP = Central Appalachian; cif = cost + insurance + freight (average prices); fob = free on board.

Source: BP plc. BP Statistical Review of World Energy June 2011.

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Large Increase in Chinese Coal Use

Consumption by region
Million tonnes oil equivalent

Asia Pacific Africa Middle East Europe & Eurasia S. & Cent. America North America

4000

3500

3000

2500

2000

1500

1000

500

86

91

96

01

06

11

0
20

Courtesy of BP Statistical Review of World Energy June 2012. Used with permission.

US: Production Concentrated, Usage Less So

Leading States' % Shares of Total US 2007 Coal Consumption* Production Wyoming 39.6 Texas 9.8 West Virginia 13.4 Ohio 6.6 Kentucky 10.1 Indiana 5.8 Pennsylvania 5.7 Illinois 5.4 Montana 3.8 Pennsylvania 5.3 Total 72.5 Total 33.0 *For electric power only, 93.3% of total consumption
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Basic Market Facts: Uranium

Market for uranium is global; economically recoverable reserves fairly dispersed: Low prices caused mine closures through the mid90s Subsequent tripling of prices then through 2010 induced new mining activity No organized market; Longterm contracts dominate; short-term volatility on (thin) spot market

Courtesy of World Nuclear Association. Used with permission.

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Global Market, Production Fairly Concentrated

EIA: 92% of uranium delivered in 2010 was imported:

44% from Australia and Canada 33% from Kazakhstan, Russia, & Uzbekistan

Production of U3O8 is more concentrated than reserves:

2010 Production Shares Country Share Kazakhstan 33.2 Canada 18.2 Australia 11.0 Namibia 8.4 Niger 7.8 Russia 6.6 Uzbekistan 4.5 U.S.A. 3.1 Total: 92.8
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Basic Market Facts: Natural Gas

Natural distinguishes from gas manufactured from coal, in US since 1816 (Baltimore)

Gas can be moved by pipeline, but must be liquified (expensive) to go by ship (LNG); market is not global
US supplies: 84% domestic, 12% Canadian

US prices < EU (Russian gas), << Asia (LNG).

Gas tends to occur with oil; historically gas reserves also concentrated in unstable regions, BUT Next class: recent advances in hydraulic fracturing (fracking) make shale gas cheap; lots in the US

If exploited, serious market & CO2 impacts, but also serious environmental issues.
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Gas Trade: 31% of Use (69% via pipelines)

Major trade movements 2011
Trade ows worldwide (billion cubic metres)

117.1

66.4 23.5 88.0 26.6 3.9 15.7 14.1 3.8 16.8 44.1 35.2 4.4 12.1 10.2 17.3 13.5

32.0 29.1 19.8 14.3 17.4 7.1 8.6 41.3 9.8

5.0

19.0

6.7 9.7

6.3

3.0

7.6

US Canada Mexico S. & Cent. America Europe & Eurasia Middle East Africa Asia Pacic

Pipeline gas LNG

Source: Includes data from Cedigaz, CISStat, GIIGNL, Poten, Waterborne.

Courtesy of BP Statistical Review of World Energy June 2012. Used with permission.

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Output: Russia 15%, Middle East 14%

Production by region
Billion cubic metres

Rest of World Asia Pacific Europe & Eurasia North America

3500

3000

2500

2000

1500

1000

500

86

91

96

01

06

11

86

Courtesy of BP Statistical Review of World Energy June 2012. Used with permission.

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Proved Reserves: Russia 24%, Middle East 40%, US 5% This picture will change
Distribution of proved reserves in 1991, 2001 and 2011
Percentage

Middle East Europe & Eurasia Asia Pacic Africa North America S. & Cent. America

3.6 5.2

38.4

4.2

42.1

7.0

4.6
7.8 8.0

4.0 7.2 7.2

32.6

7.7

7.1

1991 Total 131.2 trillion cubic metres

41.8

2001 Total 168.5 trillion cubic metres

2011 Total 208.4 trillion cubic metres

37.8 33.7

Courtesy of BP Statistical Review of World Energy June 2012. Used with permission.

27

The US Natural Gas Pipeline Network

The Henry Hub is in south-central Louisiana; a junction of 13 pipelines; 28 the pricing point for futures contracts.

Three Regional Markets, For Now?

Prices
$/Mmbtu 16

US Henry Hub Average German Import Price cif UK NBP Japan LNG cif

14

12

10

94

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Courtesy of BP Statistical Review of World Energy June 2012. Used with permission.

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US Prices Historically Volatile

Source: EIA. Weekly averages shown; most recent years omitted.

30

Source: U.S. Energy Information Administration. http://www.eia.gov/dnav/ng/hist/rngwhhdd.htm

MIT OpenCourseWare http://ocw.mit.edu

15.031J / 14.43J / 21A.341J / 11.161J Energy Decisions, Markets, and Policies

Spring 2012

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