The End of Oil?

By Paolo von Schirach –

WASHINGTON – The Wall Street Journal reported on December 4th that “Denmark is to end all new oil and gas exploration with immediate effect as part of a plan to phase out fossil fuels by 2050, one of the most drastic moves by a crude-producing nation to curb carbon emissions.” Of course, given the small size of the Danish economy, and Denmark’s modest role as a crude producer, (about 100,000 barrel per day), this news will not move markets.

Symbolically important

Still, this announcement is symbolically very significant. It is yet another signal of a shifting mood. Denmark, a modern, rich, innovative European country, says officially that oil is essentially dead. We know that in terms of public sentiment fossil fuels are somewhat or very unpopular in Europe and beyond. But we are now entering new territory. We are now shifting from “green righteousness” as a posture embraced by those who want to signal some kind of moral superiority to the formulation of workable alternative energy policies. Mostly because of increased global warming concerns, many governments are actively planning –today– for a world in which carbon will play a smaller and smaller role. Granted, we are not quite there yet. But getting there is looking a bit more feasible every day.

Not just posturing

From this perspective this Danish announcement cannot be dismissed as mere green posturing. It is about having turned a corner. Fossil fuels, with all their accompanying emissions contributing to global warming, are the past. Renewable energy is the future. Indeed, increasingly the present.

Of course, easy to argue that while a such a shift away from oil may be realistic for Denmark, it is just a dream for heavily oil dependent America. True. However, while a non-oil, green energy future is still a dream in the US, it is not an impossible dream.

Electric cars have a future

Take electric cars. Until just a few years ago they were the subject of jokes. Today, Tesla –the US leader in this space– has an astronomic market capitalization, (around $ 500 billion), increasing sales, and –guess what– sustained profits. Realistically, if we remove the hype Tesla and electric cars in general are at best work in progress. The batteries that power these vehicles, while now cheaper and lighter, are still too costly. Compared to old-fashioned internal combustion engines, EVs are not very efficient, and comparatively more expensive. To date, Tesla cars are still a luxury or high end product lacking mass appeal.

However, we know that practically all car makers around the world, having looked at Tesla’s rise, have pledged to invest billions of dollars in electric vehicle technologies. Major breakthroughs that will improve battery efficiency this way driving overall production costs down are not guaranteed. But they are entirely possible.

We will still rely on oil

The skeptics are ready to point out that even if there will be fantastic transformative innovations that will make EVs more affordable and therefore appealing to tens of millions of consumers it will take many years before we shall have a large national fleet made out of EVs. We start from an extremely low base. EVs barely made 2% of overall US car sales in 2019.

Which is to say that even assuming a fast conversion rate from gasoline to electricity millions of Americans will continue using cars powered by gasoline burning internal combustion engines for many more years. And this means continuing reliance on oil derived gasoline. Furthermore, oil will still be needed to make jet fuel for civilian as well as military planes, in addition to oil for diesel fuel to power trucks, locomotives and ships. Not to mention oil for plastics, and for other oil derived products we still depend on. All true.

Not a promising future

And yet, I still believe that oil is doomed. Consider this. Oil companies executives must look at very long time horizons when contemplating investment in costly new exploration and production projects. It makes sense to invest billions of dollars in new exploration and production today only if we are reasonably sure that future oil prices will be high enough to repay the initial heavy investments, and then generate pure profits for several years.

Well, if I were an oil corporate manager trying to predict the profitability of the oil sector 20 years from now, I would not be too sanguine about sinking –today– billions of dollars in new exploration. Looking ahead, and especially at the emerging anti-fossil fuel consensus in most developed countries, I would probably conclude that, with many other countries following Denmark’s example, overall demand for oil will shrink, or at least it will not grow. Without buoyant new demand, crude prices will stay low or depressed.

Many energy companies will go bankrupt

The main consequence of this incremental shift away from fossil fuels will be the exit, disappearance or bankruptcy of the weaker players: the high cost producers who could thrive only in a buoyant market with sustained high crude prices.

Looking ahead, I cannot see a bright future for many Canadian companies specialized in extracting heavy crude from oil sands in the Alberta Province. The whole process is not cost-effective, assuming crude below $ 50 per barrel. Likewise, there are too many small and medium producers in the US shale oil business. Many of them could barely stay afloat when oil went below $ 60 per barrel. Now it is at $ 45. Hence a slew of bankruptcies.

Covid impact

Of course, right now the global oil business is hit particularly hard by the fuels consumption freeze caused by the global covid pandemic. Millions of people all over the world drive less, while they practically stopped flying. Going forward, as covid will progressively disappear by the middle of 2021 on account of the forthcoming wide vaccines distribution, for millions of people in America and around the world life will progressively revert to normal. Therefore, we can expect higher oil demand, and higher crude prices in the second half of 2021. All true.

Bleak future ahead for oil

Still, even in a post-covid environment the headwind caused by growing global warming concerns will continue to discourage fossil fuels consumption. At the same time, more and more financial resources will be devoted to investments in alternative forms of energy and energy efficiency.

Trying to imagine the oil industry twenty years from now I see a severely shrunken sectors, with a much smaller number of players. And who will they be? Very simple. The low cost producers who can survive even with historically low oil prices. Think Saudi Arabia, the other smaller Gulf countries, and may be Russia. Most of the other producers will be gone or tottering because they will be unable to survive with low oil prices, given their high extraction costs. The US shale oil boom –arguably the most amazing oil renaissance story of the last twenty years– will be gone.

But even for the survivors prospects will be grim. For sure, Saudi Aramco will be able to extract and sell oil at a profit. But its margins will be much lower, given depressed crude prices. Unless the Saudis manage to create, out of nothing, a non oil economy, the future of the kingdom does not look bright. Oil revenues are used to finance practically everything in Saudi Arabia. A substantially reduced oil revenue stream means an impoverished country. Same story for Russia, a small unimpressive economy whose only strength is energy exports.

Overall, it is hard to say if and when renewable energy will become a genuinely money-making sector (I mean unsubsidized) in the US and other advanced economies. At the moment, renewable energy is still plagued by huge unresolved technical problems –first and foremost the inability to store excess energy to be used when the sun does not shine and wind does not blow.

That said, even without perfect alternatives in place, most advanced societies have decided that they want out of fossil fuels. Denmark’s announcement is an example of the new mood. Expect many more countries to follow suit. My hunch is that there is no coming back. If you have money invested in the conventional energy sector, the time to get out and at least cut your losses was yesterday.

Paolo von Schirach is the Editor of the Schirach Report He is also the President of the Global Policy Institute, a Washington DC think tank, and Chair of Political Sciencand International Relations at Bay Atlantic University, also in Washington, DC.