Triple Crunch Log Jeremy Leggett

Oil producers’ state funds are growing fast, and they are using them to buy power in the west. As the oil price soars, oil producers are putting huge sums into their sovereign wealth funds. A sovereign wealth fund is a government-owned investment vehicle aimed at overseas assets and not run by the central bank. They are valued at nearly £2.9 trillion, and on current trends will be more than $10 trillion by 2015. UAE has the biggest, at $985 bn. Norway’s is second at $380 bn. Saudi Arabia’s is third $300 bn. Russia set one up last month. It is “only” $24 bn, but as it grows the EC fears it will be used like a latter-day Red Army. A big fear of the EC and the US Treasury Larry Summers is that they aren’t transparent, most of them not revealing objectives or performance. Abu Dhabi has taken a $7.5 bn stake in Citigroup. China’s ($200 bn) has taken a $5 bn stake in Merrill Lynch.²³⁶

Jim Lovelock rages against renewable energy as the emptiest false promise of all. In a Guardian profile, he says “you’ll never get enough energy from wind to run a society like ours.” But he does believe we need more technology, not less. In energy, he believes, nuclear can solve the problem. At the same time, he believes in market forces, and is hostile to subsidies. (So whither nuclear then?) Lovelock became convinced that global warming was irreversible in 2004. “There have been seven disasters since humans came on the earth, very similar to the one that’s just about to happen. I think these events keep separating the wheat from the chaff. And eventually we’ll have a human on the planet that really does understand it and can live with it properly. That’s the source of my optimism.” His advice to the confused? “Enjoy life while you can. Because if you’re lucky it’s going to be 20 years before it hits the fan.”²³⁷

Google, impressed by advances in lithium batteries, will soon convert its entire hybrid fleet to use lithium ion batteries to operate alongside their normal NiMH ones. Previously, lithium ion batteries had a relatively short life due to a decrease in efficiency at the cathode over multiple recharges. In extreme circumstances, this could even cause the battery to catch fire. But a Massachusetts company, A123, has found a way to make the cathode more durable, using nanostructures. A Toronto company, Hymotion, has developed a kit that allows a Prius to run on an additional lithium ion battery. Using both makes the car more fuel efficient, because the lithium ion batteries can be charged by mains electricity, whereas the NiMH batteries are charged by the engine. More details in the article, including on the Tesla, in file.²³⁸

As food prices go up, so too does Amazon deforestation. The price of soya increases the rate. The worst damage is done when trees are dragged down to clear land for cattle ranching.²³⁹

1 in 99 US adults are in jail: 5 times the per capita rate in the UK. That is 23.m out of 229.8 m. One in 9 black males aged 20-34 are in jail. The US has the most jail-happy culture in the world. Only 1.5 m are incarcerated in China and 0.9m in Russia. The cost? $44 bn last year.²⁴⁰

2
“We are on the brink of a new energy order…. We should not cling to crude down to the last drop – we should leave oil before it leaves us.”

Fathi Birol

Chief Economist, IEA

February 2008

.3.08. IEA Chief Economist warns “we are running out of time” on oil supply. “….Oil production by public companies is reaching its peak,” syas Fathi Birol. “They will have to find new ways to conduct business. Increasingly, output levels will be set by a very few countries in the Middle East. ….Tar sands are attractive, but like biofuels, they will never replace Middle East oil. In the long term, we must come up with an alternative form of transport, possibly electric cars, with the electricity being provided by nuclear power stations. The really important thing is that even though we are not yet running out of oil, we are running out of time.”²⁴¹

3.3.08. Big oil groups increasingly turning to gas for growth. A PFC report shows rising shares for all except BP since 2003. Gas-centred acquisition’s reflect this too, e.g the 2005 Chevron takeover of Unocal, and 2006 ConocoPhillips takeover of Burlington Resources. Gas has expanded in the big oil reserves mix from 39.5% in 2003 to 44% in 2006. NOCs, at 80% of oil reserves, tend to have the skills for oil, but not always for gas, e.g Venezuela’s reliance on Chevron and ConocoPhillips for gas export.²⁴²

2.3.08. Ministers want the power firms to hand over their windfall billions to help the elderly. Energy Minister Malcolm Wicks and chief secretary to the Treasury, Yvette Cooper, are meeting with the CEOs of all the big six, asking them to cough up some of their £9m carbon trading windfall (so Ofgem says) to help out on fuel poverty. The government’s goal is to phase out fuel poverty by 2010.²⁴³

Sellafield Mox plant has produced almost nothing since opening c 6 years ago, government admits. The plant, costing £470 m, was supposed to produce 120 tonnes a year of reprocessed mixed oxide fuel for overseas reactors. It managed at most 2.6 tonnes in any one 12-month period, and mostly much less. The reprocessing was done at the nearby Thorp plant, which has been shut for the last three years due to problems, according to the renamed operator, British Nuclear Group. The problems at the two plants are unrelated. The Mox plant opening in 1998, but was soon hit by a scandal involving falsification of quality control documents which forced the resignation of the then CEO of BNFL. BNG has been meeting customer needs by buying Mox from France and Belgium.²⁴⁴

3.3.08. Oil breaks all time inflation-adjusted record on fears that OPEC will not lift production. (And no front page headlines). Yesterday the price hit $103, 95, beating the $103.76 of April 1980 at the height of the second oil shock. As ministers convene, OPEC is arguing the high price is due to the falling dollar.²⁴⁵

Auto makers hedge their bets on alternatives as even Formula One enters the biofuel race. The auto companies cannot seem to decide which will win – hybrids, electric cars, biofuels – and most are making spread bets. Meanwhile, the regulatory writing on the wall is becoming clearer to them, with Congress recently having mandated a 40% improvement on fuel efficiency by 2020, and an EU draft proposal for 25% lower auto CO2 by 2012. Also, as they say based on their market research, very few customers will want to pay a premium for CO2 cuts.²⁴⁶ Also: the regulators of Formula One, the FIA, have ruled that at least 5.75% of oxygenates must come from biological sources, in line with the EU target for transportation fuel year end. The oil companies are going for second generation fuels. Shell for instance is developing a high-performance synthetic fuel from wood residue.²⁴⁷

Former Saudi Aramco head of reservoir management predicts peak oil as late as 2067. Nansen Saleri, writing in the Wall Street Journal: “My view, subjective and imprecise, points to a period between 2045 and 2067 as the most likely outcome.” He sees a multi-decade long plateau around 100 mbd. “Sufficient liquid crude supplies do exist to sustain production rates at or near 100 million barrels per day almost to the end of this century.” He lays much emphasis on unconventional and EOR.²⁴⁸

Bentley says it will deliver only cars running 100% on renewable fuel. Laying out ambitious plans to hit EU targets on CO2 and second-generation biofuels, the premium carmaker – owned by VW - promises to be one of the first in the world to go zero on fossil fuels.²⁴⁹

4.5.08. UK energy firms tell Treasury a windfall tax will harm their investment in green projects. They fear the Chancellor in his budget next week will try to repeat the 1997 winfdfall tax that raised £5.2bn. Centrica whines that low carbon technologies are “very expensive, costing around three times as much as traditional gas-fired power generation.” The CEO of Drax has the nerve to infer that a windfall tax might cause them to cut their investment in burning 10% biomass in the coal.²⁵⁰

Bush warns OPEC on oil price. It was “a mistake to have its biggest customer’s economy slow down as a result of high energy prices.” OPEC ministers seem unimpressed, and say they are more likely to cut production than lift it.²⁵¹

Exxon presses ahead with legal action against Venezuela and replaces reserves. Rex Tillerson, CEO, tells the annual analysts meeting that reserves replacement in 2007 was 101%. He will spend >$125bn in the next five years ($25 bn pa) to develop major projects, compared to $95bn in the previous five.²⁵²

BP CEO Tony Hayward paid a £1.26 m bonus despite BP’s performance being worst among majors. His salary is £950 k, less than two thirds of Browne’s, so his bonus is 133%. Since he has taken over BP’s shares have fallen 5%. Shell’s are unchanged, and Exxon’s up 8 percent.²⁵³ $8.3bn has been set aside for decomissioning all platforms and pipelines and $2 bn for Texas City litigation costs alone. Browne retired with a pension pot of £21m.²⁵⁴

Russia halves gas to Ukraine and Ukraine threatens Europe with cuts. A very similar situation to 2006, with Russia threatening Ukraine and Ukraine threatening to cut the pipeline supply to Europe (most of the 25% of Europe’s gas that comes from Russia passes through the Ukraine pipeline system)). A spokesman for Natfogaz , the state energy monopoly: “If we are being treated in such a way with ultimatums and Europe is not reacting, then we have no choice.” This just hours after Gazprom Chairman Dmitry Medvedev won the presidential election.²⁵⁵

5.3.08. Ukraine pays up and Gazprom resumes supplies. The problem was PM Yulia Tymoshenko disagreeing with the deal president Viktor Yushenko had signed with Putin. However, the question of how much Ukraine will pay in future is still unagreed, as is the precise delivery mechanism. Europe can breathe again for a while.²⁵⁶

Oil jumps $5 to record $104.56 as OPEC leaves production unchanged. Bush says he is “disappointed.” “It should be obvious to all,” he adds, “that demand is outstripping supply and it’s making the price go up.” OPEC says that the current price “does not reflect market fundamentals”: they blame it on speculation around the weak price of the dollar. Also: OPEC backs Caracas in it’s fight with Exxon.²⁵⁷

UK business secretary sets out plans for UK’s dependence on nuclear to increase “significantly” above the current 19% in the next two decades. The first plant could be operational by 2017. Hutton says investors are “queuing up” on the proviso that the regulatory decks will be cleared. He drops government commitment to keep a minimum stake of 29.9% in British Energy. The process begins today with auctioning of land near 19 existing nuclear sites to energy companies. All but one of the ten current nuclear stations are due to close by 2023. Note: The FT article also says “Ministers have also pledged the state will meet new plants’ decommissioning and waste disposal liabilities in ‘extreme circumstances’ such as accidents.” ²⁵⁸

CSR budgets are squeezed as hard times drive focus to the bottom line. Sustainability reports a fall in CSR budgets and expects to see more, but believes the movement will spring back as companies see the leaders on CSR doing better then others. The Economist has recently conducted a survey showing only 4% think CSR is a “waste of time and money.”²⁵⁹

6.3.08. Oil breaks record again, reaching almost $106. $105.97 to be precise. As one investment banker puts it, “if we were to look at this market from an overall fundamental basis, it does not make sense for crude prices to be at $105 but the market is about financial flows not oil flows.”²⁶⁰

OPEC is terrified of massive over-capacity, remembering the big investments of the 1980s which left the world with around 14mbd of spare production capacity, all of it in OPEC countries. According to the lead letter, OPEC Ministers “have been quite clear in stating that Opec will not invest to meet the high-growth forecasts, while the western world’s venture capitalists invest aggressively to create alternative forms of energy.” OPEC estimates that the difference in investing in high growth versus low growth scenarios is some $250bn.²⁶¹

UK nuclear assets on sale to raise cash for clean up. Seeking £72bn to cover the costs to 2010, the NDA puts stockpiled uranium and fuel manufacturing plants on sale, including Thorp and the Sellafield Mox plant. Eon says it is keen.²⁶²

Eon UK boss says it is a “myth” that customers are being overcharged. Paul Golby, CEO, says the company lost money in its UK retail business in 2007. Eon releases financial information on the coutry performance for the first time in an effort head off criticism. Eon UK contributed 18% of Eon revenues in 2007, but only 12% of earnings. It invested £933m in the UK, more than the earnings, i.e. the group is subsidising the UK, which is probably Europe’s most competitive market. It expects to invest at £1bn pa going forward (Kingsnorth will cost £1bn). One problem is the optics of the Centrica profits: they declared a 50% rise in pre-tax profits and a sixfold rise in residential profits weeks after raising prices 15%. But they benefited, as a leading gas supplier, from the weakness of the wholesale gas price in the first half of 2007.²⁶³

4.5 million now in fuel poverty in UK and struggling to pay their bills. An extra half a million are spending more than 10% of their disposable income on gas and electricity.²⁶⁴

Ofgem embarks on two year review of gas and electricity transmission and distribution, the first regulatory review for 20 years.²⁶⁵

7.3.08. Oil breaks $106 as dollar reaches new low and analysts talk of US being in recession. Oil prices normally go down during recessions. Surprisingly high jobless figures in the US, down for the third quarter in a row, spark the talk of recession. The construction sector has shed a third of a million jobs since peaking in autumn 2006.²⁶⁶

Fed extends a $200bn cash loan to banks and bond market traders, in a further effort to calm markets unsettled by the deterioration credit situation.

2007 was a tough year for ethical investment funds, a situation likely to continue in 2008. They tend to screen out large companies, and oil and gas, mining and tobacco have been the highest-returning sectors in 2007. Some funds have also had high exposure to property-related stocks, which fell sharply.²⁶⁷

8.3.08. Chinese silicon supplier for Suntech found to be dumping highly toxic silicon tetrachloride. Luoyang Zhonggui High-Technology Co simply dumps buckets of bubbling white liquid onto the ground outside its plant in Henan Province, the Washington Post reports, and has been doing so nearly every day for 9 months. In the developed world, the offending by-product is recycled back into the manufacturing process, but this requires very high temperatures and major energy supply. For each ton of polysilicon, at least four tons of silicon tetrachloride is generated as liquid waste.²⁶⁸

9.3.08. Climate change may spark conflict with Russia, two top EU officials say. Javier Solana, secretary-general of the Council of the EU, and Benita Ferrero-Waldner, commissioner for external relations, predict in a report that the rush for oil and gas below the melting Arctic will cause potential for conflict. GW will also cause conflict via mass migration and political radicalisation, they say. A summit of NATO leaders will discuss all this for the first time next month, including a manifesto for reform that would see NATO used “as an instrument of energy security,” fuelling speculation – for example - that NATO troops could be used as pipeline police in the Caucasus.²⁶⁹

Housebuilders watch unemployment figures with fear as credit crunch leaves them in worst shape for 15 years. If unemployment tips, they are going to be in big trouble. Many of the, facing commitments to build costly schemes with no guarantee of sales, are offering costly incentives to attract buyers. Taylor Wimpey reckons to build 15% fewer houses this year, and is suffering in Spain as well as UK. Crest Nicholson, bought by Scottish billionaire Tom Hunter and HBOS for £715m, is struggling under huge debt obligations and is not selling enough homes. Good news though is that HBOS have deep pockets and are apparently in for the long ride. They have worked with Hunter on several deals. Many firms are having to consider liquidation land banks to cover cash-flow shortfalls. A City source says many medium sized builders are in difficulties. Meanwhile the private equity sector is stalking builders, prepared to inject their cash as debt markets shrivel. As lenders pull mortgage deals by the day, the CE of the FSA hector Sant says: “I don’t think the markets will ever return to the way they were. The new normal will be different.” Note: The average house price hit an astounding nine times average annual incomes before the fall. One firm estimates that if lenders hadn’t loosened their credit standards, house prices would have risen “only” 19% since end 2003, not the 37% that actually happened.²⁷⁰

Henry Porter tells Parliament that it has failed the people on liberty. The state, in the form of a united executive and the civil service, began an assault on the liberty and rights of the British people – coincidentally - just around the time the European Human Rights Convention entered British law as the Human Rights Act in 1998. Since then they have rolled back frontiers and set in place an apparatus that any who aspire to a police state must love to behold. A snapshot. Our communications are not private. Government agencies make half a million secret interceptions of internet, e-mail aand snail-mail under the 2002 Regulation of Investigatory Powers Act. We have no control or say in our multi-dimensional appearance on government databases. Without statutory basis, the Home Office plans to take 19 pieces of information for every person traveling abroad. Our freedom of expression is under assault. Terror and public-order laws are routinely used to suppress demonstrations. Our courts are being undermined. The jury syatem itself has come under attack in the 2003 Criminal Justice Act. Citizens can be detained without charge for 28 days under terro laws, and government seeks 58. Porter bemoans the lack of a civil “liberty reflex.” Collectively, we are docile in the face of this assault. Parliament has rolled over as the executive has ceased all their power. Parliament should be sovereign but has become nothing of the sort. A new Bill of Rights is imperative, he believes. One with teeth.²⁷¹

10.3.08. Canada rules tar sands operations and power plants must capture carbon from 2012 onwards. John Baird, environment minister, announces the new rules in Ottawa, “which will apply to all big industry.” The Conservative administration announced last April that its target was 20% GHG emissions cuts by 2020.²⁷²

Few countries seem to have gas exports high on their priority lists, Oxford University study finds. Jonathan Stern observes that when the current crop of pipeline and LNG projects are finished, international gas trading faces an uncertain future. In Indonesia, Pertamina has already failed to meet its long-term LNG contract commitments. Domestic gas prices tend to be way below export prices, but politics demands producers keep their domestic users happy. Russia has said it will bring domestic industrial pricing up to export levels by 2011. That will make domestic markets profitable and even more of a priority. Stern believes only a handful of countries can be expected to lift exports appreciably (by > 30 bcm p.a. [c.1,000 bcf p.a., 500,000 bdoe]) above current commitments by 2020: Australia, Turkenistan, Libya and Russia. (Plus, possibly, Azerbaijan, Kazakhstan and Nigeria). Special issueof FT in library with more details and other articles.²⁷³

Pipeline politics will have much to say about whether Europe can meet its growing gas demand. By 2030, on current trends the EU will be importing half its gas, up from a quarter today. Pipelines are important chess pieces in the great game. Russia would seem to be ahead. Its planned South Stream pipeline (across the Black Sea to Bulgaria, and then via two branches to Austria and Italy) looks a good bet. The EU’s planned c. €5bn Nabucco project looks less so. The idea is to build 3,300 km across the Caucasus and through Turkey eventually to Austria’s gas hub at Baumgarten, eventually carrying – so it is hoped – 30 bcm a year. But only Azerbaijan has committed to put gas in it, and Putin has been dismissive of its prospects. Meanwhile, in the east, presidents Vladimir Putin and Hu Jindtao announced a pipeline to China in 2006. And in the north, Russia and Germany plan a North Stream pipeline under the Baltic between their two countries.²⁷⁴

US and Russian experts question whether Gazprom has invested enough to meet commitments. Gazprom’s market cap may have ballooned almost tenfold in the past 8 years (now $350 bn), but the Russian gas giant hasn’t been investing in a long time in replacing the gas from the supergiant Soviet-era gas fields it has been relying on. Two new developments will be vital: one on the Yamal Peninsula, and the other Shtokman, 500 km offshore. Gazprom needs production for these challenging prospects by end 2011 and 2013 respectively. Thane Gustafson of CERA says: “Everything depends on the Yamal peninsula. It is hard to see how they are going to meet demand without bringing it onstream.” Vladimir Milov, a former deputy energy minister, thinks the deficit could be as big as 100 bcm. He fears Gazprom is sidetracked, too busy seeking early profit, expanding into electricity and coal, and seeking overseas acquisitions. “Gazprom is the classic lazy monopoly,” he says. “There could be a deficit as soon as next winter.”²⁷⁵

Dash for gas runs out of steam as generators seek to hedge with coal and nuclear. Alstom SVP of power sales Denis Crochet sees a hedging trend. In not much more than 15 years, the world has seen around 13,000 gas turbines of more than 40 MW installed, some 880GW of capacity that makes up 19% of the world total. In Italy, 50% of the power is gas. CCGT markets are down from the peak in 1999-2000, now running at c. 30 GW pa driven by demand in ME, Africa and Asia.²⁷⁶

Shell’s head of gas, Linda Cook, is bullish about the future. Shell is second in gas production, after ExxonMobil, and the biggest LNG producer. LNG is the focus of Shell’s c, $29bn investment programme this year, because of the profitability. Five LNG liquefaction plants, or “trains”, are currently under construction.²⁷⁷