Long-term energy scenarios for the most part come in three variants: business as usual, which de-emphasises the possible impacts of technological and regulatory change; a central case like the International Energy Agency’s New Policies Scenario, based on planned changes in regulation and linear development of new technologies; and a radical change version, which assumes much greater regulatory push and exponential rates of new technology adoption.
The key shifts in these models over the last decade has been the growth opportunity offered by natural gas, and LNG in particular; a gradual acceptance of peak oil demand sometime around 2030 as the central rather than radical case, and the possibility of substantial oil demand decline in the low probability, aggressive-change scenario.
The central case outlines the immediate business opportunities; the radical change scenario represents potential threats to the current business model.
New energy investment
Long-term energy forecasts outline three key trends: natural gas demand growth outpacing both oil and coal; oil demand plateauing as a result of rising numbers of electric vehicles and a potential moderation of strong petrochemicals demand growth, owing to growing concerns over plastics pollution; while electrification becomes ever more important.
BP, for example, sees about three-quarters of the increase in primary energy out to 2040 being absorbed by the power sector. For ExxonMobil, global electricity demand rises by 60% between 2016 and 2040, led by a near doubling of power demand in non-OECD countries. Shell expects electricity’s share of end-use energy consumption to grow from around 20% to 50% by the 2070s.
Electrification is both a threat and an opportunity for the oil majors and is most pronounced in the radical-change scenarios. This is why the European oil majors in particular are building floating wind farms and have been on a buying spree for electricity retailers, hydrogen companies, storage companies, distributed generation firms and electric vehicle recharging networks.
However, rather than represent wholesale company transformation, this shift in oil major investment is exploratory positioning.
There is nothing new in oil companies making technology acquisitions. As many oil companies became more explicitly upstream or refiners and petrochemicals companies, broad-based energy technology research moved away to start-ups and research institutions. The oil companies now swoop in later, using their financial muscle to gain footholds in promising developments, which can later be abandoned at relatively low cost, if early promise is not fulfilled.
As in the biofuels sector, particularly advanced biofuels, acquisitions were made as a hedge against the potential commercial risk posed by these new technologies. They provided a salutary experience in that advanced biofuels have not so far met expectations. The difference in the current trend is not the act of acquisition but the new area of focus – electrification and low carbon forms of energy generation or delivery, such as renewables and ‘green’ hydrogen.
Yet the oil majors remain principally focused on their core business, where they are grappling with the implications of faltering oil demand growth over the long-term and a consequent gradual re-estimation of the value of oil reserves, some of which may never be produced.
Shell, BP and Equinor see peak oil demand arriving sometime around 2030, heralded not by a substantial decline in consumption, but by a plateau accompanied by increasingly competitive conditions. This will still be a huge market of around 100 million b/d, with the challenge becoming not how to meet ever-rising oil demand, but how to sustain production profitably.
In its Energy Outlook 2019, BP argued that, in an era of abundant rather than scarce oil, producers should increasingly pursue a low-price strategy designed to gain market share. However, BP argues the price of oil will not fall quickly towards the long-run marginal cost of production.
The slow speed of economic diversification amongst the petro-economies means the oil price will continue to be determined not by its production cost but by its ‘social cost’ – that required to maintain petro-economies’ state spending.
In effect, BP is arguing that OPEC, and possibly OPEC+, cannot escape its restrictive output policies and grow its market share while fiscal (and social) stability depends on oil revenues.
This implies a static or declining level of OPEC production over the long-term, providing two opportunities for non-OPEC growth – taking market share from OPEC, if it sustains policies which keep the oil price above non-OPEC long-run marginal costs, and replacing barrels lost to natural decline from existing and future oil fields.
BP also sees a third possibility, which is a demand rebound from a more competitive lower-priced oil market. As such, peak oil demand will not trigger “a sharp discontinuity in either oil demand or investment spending.”
However, there are major uncertainties with this (as with all long-term energy outlooks):
First is the ability of OPEC to hold together in what will be fiscally and potentially politically challenging times. If significant quantities of oil in the age of abundance are left in the ground, there is a declining incentive to husband resources in support of higher short-term prices.
Second is that the scale of the opportunity offered by decline rates is uncertain. The sharp decline in capex since the collapse of oil prices in 2015 appears to have reduced rather than accelerated decline. Digital technologies are playing a major role in this by allowing much better reservoir management, making it cheaper to get more out of existing assets than invest in frontier exploration and production.
Third is the nature of the slowdown in oil demand, which cannot bounce back if the infrastructure to use it no longer exists, has been sharply curtailed or is no longer allowed by regulation.
Fourth is that just as peak oil demand has moved from a radical to a central scenario, the base case will continue to shift towards the more aggressive change outlook.
What also remains largely unchallenged is the rough doubling of world GDP by 2040. Even small changes in the average annual rate of energy demand growth add up to large differences come 2040. A smaller pie overall intensifies the competition between energy sources and today’s trade climate is significantly worse than even a year ago, putting GDP forecasts on the back foot.