Energy Policy. First Step: Admit You Have a Problem

I would like to propose two prerequisites for any political candidate:
#1) take at least one Economics Course
#2) Visit an AA meeting

As we continue to suffer the ridiculous rhetoric and glaring lack of economic understanding from our Presidential candidates on how to solve our energy issues, I am reminded that most alcoholics know how you start to fix an addiction. You first admit you have a problem. Our politicians haven't done so yet.

Instead, they want to blame everyone else: OPEC isn't producing enough; Big Oil is greedy, speculators are causing the problem; Detroit won't make the right cars; taxes are too low on energy producers (I love the stupidity of that one).

Back in the 1970's, my connection to the energy business was a modest one. I was a teenager working as a gas station attendant in California (before the days of "self-serve"). I have distinct memories of turning customers away during the days of gas rationing, which in California meant consumers could only buy gas every other day, based upon the last number (odd or even) of your license plate. I was 16 years old and I had the power to refuse service to people. Boy, did they hate that. People begged for just a gallon so they could get to work, school, etc. It was a terribly misguided energy policy, and it caused people to hoard gas, fill up more often, and even steal gas (people learned to siphon from other cars, and this led to the invention of something previously unseen: a locking gas cap).

That bad policy did nothing to help people during a shortage, and in fact probably exacerbated it, but what it did accomplish was that people started to admit they had a problem: an addiction to something with finite supply. At the same time, something very different than today was being discussed by our leaders... they actually said that oil would likely stay high in price and get worse over time. With oil at $30, they said it could go to $100! From our President (Jimmy Carter got on TV in his cardigan sweater and asked us to turn down our thermostats), to OPEC leaders, to academics, and everyone on the street, we heard a consistent song: Oil had spiked in price and was GOING HIGHER. This consistent message convinced us all we should change our behavior. We started buying smaller cars and paying attention to things like gas mileage. The Honda Civic had the most bland commercial on TV: it promised (and delivered) over 40 MPG.

Contrast this to today. Every day for the last 5 years you have been told that high oil prices are the fault of one group or another (but never the consumer). When oil hit $30/Bbl, you were told to just wait, because it would come back down. At $50, you were again told it was just speculators, that it would get better. At $70: same thing, and again at $100, and now at $118 or so. You are being fed the line that the politicians can fix it by calling Big Oil in front of Congress, by suspending gas taxes, by taxing oil companies for "excess profits". Not only is this ridiculous, but it allows the consumer to avoid coming to the conclusion that our HABITS MUST CHANGE. Instead....if you just wait one more week, one more month, one more year, they tell you it will all be fixed for you.

It won't. Certainly not by the proposals being floated by certain politicians.

In a commodity market where demand grows in linear fashion, but supply comes in discreet stair-step chunks (and only with massive investment over a long time), you get periods where PRICE is the only way the market finds balance. Price is the arbiter of who gets what, when. Price determines highest and best use.

In this type of market, there are two solutions to reduce price, an ONLY two solutions. One is to increase supply, and the other is to decrease demand. High price is the only signal to participants that causes them to either use less or produce more. If the price signal is not strong enough for either side of the equation, it continues to rise until one side finally moves. Right now, the oil companies are drilling at a historic pace, so they have responded to the price signals. But oil isn't discovered and brought to market the next day. It can take years. So, it is now the consumer who has not yet taken the price signal (both here and abroad). And instead of encouraging the consumer to do so, politicos are suggesting that we actually MUTE the signal by lowering gas taxes in the short run. And then they compound this by suggesting we increase taxes on producers of oil, which would lead to less drilling and production.

These misguided policies only serve to make the problem worse by decreasing supply and keeping demand high. Given that they have it exactly backwards (and I really don't think they are that stupid), I can only come to the conclusion that they don't really mean any of this, but it sells in an election year. The problem is that some people actually believe them, and I would hate to see us repeat the mistakes of the past on an even grander scale today.

So I say please to Ms. Clinton and Mr. McCain:
#1) take at least one Economics Course
#2) Visit an AA meeting

The Best Alternative Fuel

Whenever people ask me about the "best" alternative fuels, I always start by reminding them that the first distinction to be made is "alternative to WHAT"? Do you mean an alternative to crude oil and its derivatives in the transportation segment, or are you talking about alternatives to coal used for 50% of our power production? So, as a start to today's discussion, I will point out that I am discussing alternatives to crude oil, or more specifically to gasoline and petro-diesel. At the end of this post, I will tell you which alternative fuel I believe to be the "best".

The next thing we remind ourselves of are the reasons WHY we are seeking alternatives to crude oil. Depending on who you are talking to and what their goals are, the answer as to "best" alternatives may change. Unfortunately, none of these goals are mutually exclusive and I like to think about our four key goals as interconnected in this manner:


"Growth": to provide needed energy for growing economies around the world
"Price": to keep the growth in energy demand from increasing prices to the point where they hurt the economy
"Emissions": to reduce NOx, SOx, Mercury, Particulates, and CO2
"Dependence": to reduce our crude oil imports for reasons of security and geopolitics

Focusing on all goals in the aggregate helps in determining an optimal alternative strategy. So when we consider certain alternatives to crude oil and gasoline in light of each of these goals, here's how they stack up:

Ethanol is good on the dependence goal but fails to deliver the ability to grow beyond a certain level (unless we can overcome the significant barriers to cellulosic ethanol). Ethanol also may ultimately be difficult on the price issue, as cost of inputs (e.g.: corn) increases dramatically with scale. From an emissions standpoint, ethanol may be Co2 neutral, but it gets less mileage than gasoline and may increase other emissions on a per-mile-driven basis.

Biodiesel: Same issues as ethanol when you try to scale this larger, as there are not enough feedstocks (including used veggie oil, soy oil, palm oil, etc) to provide any meaningful amount of fuel relative to our usage. Algae may provide some help on feedstocks, but that is many years away. Biodiesel's advantage over ethanol is that is works better in existing infrastructure and it gets significantly better mileage than ethanol (diesel engines get better mileage as they run at higher compression rates, thereby better utilizing the fuel). Biodiesel also may get slightly better mileage than what it replaces (petroleum based diesel), unlike ethanol vs. gasoline. So compared to ethanol, it's a better fuel, and it's used in a better engine.

Fischer-Tropsch Diesel: Using syngas and a Fischer-Tropsch reactor to make diesel from coal, natural gas, or biomass is superior to ethanol and biodiesel because it scales very nicely - there is lots of coal for feedstock purposes. It is cheaper than oil at current prices, and it is wholly U.S. based, so it helps the dependency goal. From an emission standpoint, it is partly better than ethanol because, again, it is used in a diesel engine and therefore can get twice the mileage. So while each gallon may have greater emissions than ethanol, that impact is reduced by the way each gallon is efficiently used. F-T diesel is significantly lower than it's petro-diesel counterpart on most emissions, but both ethanol and F-T diesel emit CO2 at the tailpipe. Of course, ethanol has a lower CO2 footprint due to biomass feedstock, but both F-T diesel and ethanol emit lots of CO2 at the plant production level. Importantly, in both cases, the CO2 comes off the plants in a pure form that can be gathered and sent into a pipeline for sequestration or use in industrial applications or in enhanced oil recovery.

This is not an exhaustive list, but you get the idea. So which is the best alternative?...

EFFICIENCY!: By using less in the first place, we reduce dependency, put less upward pressure on price, allow room for growth, and reduce emissions. My view is that our energy policy should not be pushing new fuels, but looking for ways to use less of what fuels we have. The simplest way to do that right now is by deploying smaller, more efficient engines, using more high-efficiency diesel engines, and by electrifying the car to a greater degree. The best way to use electricity in a car is with a Plug-In Hybrid Electric car. This allows most efficient use of a battery along with the convenient and ubiquitous nature of a gasoline or diesel engine. Using battery power with electricity sourced from the grid allows us to move the energy generation to larger-scale, highly efficient power plants, using nuclear (20% of U.S. electricity), high efficiency combined-cycle natural gas plants (another 20% of our electric mix), solar, wind, and coal.

Some people argue that using coal-based electricity to power cars merely moves the tailpipe emissions to another location. This isn't the case, since the generation efficiency of large-scale plants is significantly better than in a car engine. Secondly, an electric engine in a car is more efficient at turning power into motion. This EPRI study: "Environmental Assessment of Plug-In Hybrid Electric Vehicles" shows that using a PHEV, even backed by the least efficient old coal plants for electric generation, results in better well-to-wheels efficiency and greenhouse gas emissions than our traditional auto fleet. And if we use lower Co2 electricity generation over time (nuclear, Combined Cycle gas plants, etc), it gets even better.

Efficiency via the use of diesel engines and PHEV's therefore satisfy all the goals we sought out to reach. This, in my humble opinion, represents our "best" alternative fuel.

If you want to know more about PHEVs, a very smart Analyst named Saurin Shah wrote some comprehensive research on the topic for Alliance Bernstein in 2006. The report is available online and is titled: "The Emergence of Hybrid Vehicles"

And since I am plugging publications, I will also note an interesting book by Judy and Curtis Anderson entitled "Electric and Hybrid Cars, A History".

Domestic, Clean, and Cost Competitive

Last week, at the invitation of the fine people at Think Equity Partners, I had the opportunity to join in a round-table discussion with the senior folks from the U.S. DOE's Office of Energy Efficiency and Renewable Energy and the NREL (National Renewables Energy Lab). I used the opportunity to pose my ongoing question regarding our sometimes conflicting national priorities. That is, as a nation we speak about trying to accomplish several key goals over time, each of which might drive us toward potentially different solutions. My question was basically this: how does the administration view our ability to reconcile the competing goals of: 1) emissions reduction; 2) price containment (i.e.: reducing economic impact); 3) growth and; 4) security of supply.

The answer, of course, was that all were important. Specifically, Assistant Energy Secretary Karsner was clear that he seeks solutions that are "Domestic, Clean, and Cost Competitive". We further discussed how those same goals could be pursued differently whether you were talking about the Power market (trying to displace coal) or the transportation market (trying to displace crude oil). It became clear that the power market was much less of a focus at the moment, and that the DOE will be putting a great deal of effort behind biofuels, primarily because that is where they believe we can have the most impact. Their goals are to displace a significant percentage of our transportation fuels (30% or more) in a fairly short period of time. They clearly have a mandate to chase cellulosic solutions, solar opportunities, and other biofuels and were out meeting people like our group in order to find out where private capital can help move the programs forward. It was all somewhat encouraging. Given all the entrepreneurs I've been meeting lately with cellulosic ethanol plans and algae-based biodiesel plans, it will help for me to get out to the NREL and see some of their best science up close. More on all that later...

BTW, I think the DOE definitely heard from the private sector that capital will more likely be invested in those areas that have stable and predictable policy regimes. That may be too much to hope for in U.S. political arena, but we can always hope, can't we?