Thursday, July 31, 2014

Lost Highway


The highway is for gamblers, better use your sense
     -Bob Dylan (Baby Blue)

Just another guy
on the lost highway
      -Hank Williams

Greetings

     Here's a great post by Steve Kopits addressing industry  criticism of Hamilton's paper (see below)  Hamilton argued that the " shale revolution" has not and, will not, lead to increased production and lower prices.

    Hamilton and Kopits show that the oil co's are having a hard time.  The costs for new developments are rising rapidly, but the price of oil isn't.  It's hard to make a profit on new projects.    As a result, the companies are taking a "wait and see" approach , and  cutting exploration and development funding, at least for the time being.

     Kopits describes this as "the grizzly unraveling of the economics underpinning oil production since 2005.  For the oil business as a whole, productivity has imploded, not improved."
     
     By 2106, the shale miracle will have run its course.  The major oil co's are stepping away.    Who will step in?  Iraq? Libya?    Russia?

       He concludes as follows

      "As we look to 2017, the prospects for oil supply growth look increasingly tentative.  US shales may be running their course, even as other countries’ potential remains untested.  Oil prices will not rise to fully offset swelling E&P costs, and the oil majors will trim their sails to right their financial ships.  Their oil production will continue to fall, and with reduced capex, the pace of decline could well accelerate, even in the face of stable oil prices.
In addition, international affairs are in a parlous state.  In less than a year, Iraq has transformed from embodying OPEC’s upside potential to being the greatest risk to current production levels.  Russia seems intent on provoking sanctions or embroiling itself in a European war.  Neither augurs well for its oil exports or expansion of its oil business.
The supply upside is ever harder to perceive, even as the downside risks are multiplying.  Instead of complacency, we should feel concern.  An oil shock is already visible on the horizon ahead of us."


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Guest blog: Hamilton has it right on oil

By Steven Kopits | July 30, 2014 11:57 AM COMMENTS (11)
Steven Kopits is the Managing Director of Princeton Energy Advisors, LLC.  He is currently writing a book on supply-constrained oil markets analysis.
Once again, we return to the debate over the direction of oil prices, this time led by the high price school.
In a recent article, Professor James Hamilton of the University of California argues that sluggish supply growth, coupled with sustained emerging market demand, will tend to keep oil prices elevated.  He writes, “the world of energy may have changed forever…hundred dollar oil is here to stay.”
This prompted a rebuttal from John Kemp, Senior Market Analyst for Commodities and Energy at Reuters.  In Forecasts for Higher Oil Prices Misjudge the Shale Boom, Kemp highlights perceived weaknesses in Hamilton’s argument, stating:
“The problem with Hamilton’s analysis is that it largely ignores the impact of the shale revolution on the economics of oil production and understates the tremendous variability in real oil prices in response to changes in technology.
So while Hamilton concludes that $100 oil is here to stay, in real terms, the outlook is far less certain. In fact, a betting man, looking at the price history, might conclude prices are currently abnormally high and due for a fall.”
Kemp seems to be arguing that shale oil is a game-changer which will materially change the supply outlook and catalyze a fall in oil prices.
To test this assertion, it is worth asking if shale production has actually led to the predicted fall in oil prices.  As is well known, the shale surge caused a divergence of the West Texas Intermediate (WTI) oil price, the US domestic standard, from Brent, the international standard.  Historically, these two prices rarely diverged by more than a dollar or two.  Notwithstanding, from late 2011, surging shale production depressed the WTI price as US supply outran domestic infrastructure capabilities, and government regulations prevented the export of US crude.
Have prices fallen since? Growth of field production in the lower 48 states has been impressive, increasing by 400,000 b/d in the 12 months ending in mid-2011, and rising to a gain of 1 million b/d by mid-2012, a pace it has held ever since.
How did prices react?  In the three months ending July 2011, WTI averaged $98, falling to $88/b a year later.  On the other hand, by July 2013, WTI was back to $98, and will close this July around $104. Has surging shale production caused the US oil price to collapse?  Not all at.  It has been accompanied by increasing oil prices, even in the US.
Nor has Brent collapsed.  True, Brent averaged $115/b in the three months to July 2011, and fell to $103 just a year later.  But it will close this July at about $111/b, not much different from three years ago, and higher than it was at the beginning of the “shale gale.” Shale oil has not led, as a statistical matter, to lower oil prices in the US—or globally—in the last two years.
How can this be, if the oil supply is in such fine fettle?  Has peak oil really been debunked?  Is Kemp right when he says: “Since 2008, the dramatic increase in oil and gas production from shale formations in North America, and the abundance of shale resources around the world, has discredited theories about peaking oil production.”
World Oil Supply
As the chart shows,  just as many analysts have contended, the oil supply hit an inflection point in 2005.  That year signals the high water mark of conventional crude and condensate production, which is 2.1 mbpd less than it was then.
Even if we include refinery processing gain, biofuels and NGLs (these latter two adjusted for energy content equaling about 70% of that of a barrel of crude), we find the oil supply is up only 0.4%, 300,000 b/d, compared to 2005.
Virtually all of the growth—92%, on an energy-adjusted basis—has come from unconventionals, specifically, Canadian oil sands and US shale (tight) oil.  Indeed, 70% of the net growth of the global oil supply from 2005 through 2013 came from US shales alone.  Shales are not the icing on the cake; they are the cake itself.
This matters, because shale production in turn depends overwhelmingly on only two plays, the Eagle Ford and the Bakken, where production is expected to peak in 2016 or 2017 or see much slower growth in production as the sweet spots there are exhausted.  The Permian Basin may pick up the slack, but to date has not done so in needle-moving quantities.
Meanwhile, lagging oil prices are calling into question a number of oil sands projects, particularly those slated to begin production after 2020.  Unconventional growth may well be approaching its high water mark.  If 1 million b/d growth has led to higher oil prices, what will happen when unconventional growth slows to 300,000 b/d in two or three years?
And there’s more.  Kemp states: “North American shale is currently the marginal source of supply in the world oil market, and most producers claim they can break even at $70 or even $60 per barrel.”
It is not clear that the US independents are profitable.  An industry can see a boom irrespective of profits or free cash flow if banks and investors are willing to underwrite the promises of future profits.  The internet bubble showed us that.
We do not yet know if shale oil and gas will be consistently profitable.  We do know, however, that US independents have been massively free cash flow negative in recent years.
Cash Flow
This does not mean the shale oil, or even shale gas, is unprofitable, even if Shell was unable to make Eagle Ford economics work.  It does mean, however, that the industry as a whole is not generating enough cash to cover its capex and the meager dividends these companies pay as a group.  It will take a while until truly underlying profitability becomes apparent.
Nor are the US independents the marginal producers.  This distinction falls to the international oil companies (IOCs), and the marginal projects are in deepwater, the Arctic and the Canadian oil sands.  Goldman Sachs has calculated the free cash flow breakeven for several of the majors above $100/b, and as high as $130/b.
Even at recent oil prices approaching $110 basis Brent, the majors find themselves compelled to reduce capex.  Reduced oil production may well follow reduced capex, just as it has at Hess, the most advanced of the oil companies in rationalization and capital discipline.
Now imagine that oil prices collapsed, as Kemp proposes.  Oil production has been falling at the majors at a 750,000-1 million b/d as it is.  A price collapse would accelerate this process dramatically, just as shale oil production is peaking.  How would such an eventuality promote lower oil prices?
Kemp closes with this admonition: “But productivity has also increased as companies have learned to target the highest yielding formations and drill faster and more accurately. Hamilton’s paper is silent on all these matters, and that is ultimately what makes it unconvincing.”
Hamilton is most emphatically not silent on this matter.  He writes, “Figure 12 [reproduced below] shows that combined production from the 11 largest publicly-traded oil companies has fallen by 2.5 mb/d since 2005, despite a tripling of their capital expenditures.”
Production and Capex
As the graph above shows, productivity of capital has deteriorated by a factor of four, from $5,300 capex b/d of oil production in 2004 to $21,400 in 2013.  This deterioration is net of technology improvements. Geology is not only winning, it is crushing technology.
Hamilton’s graph testifies to the grizzly unraveling of the economics underpinning oil production since 2005.  For the oil business as a whole, productivity has imploded, not improved.
Jim Hamilton closes with a necessary caveat, noting, “certainly a change in…fundamentals could shift the equation dramatically. If China were to face a financial crisis, or if peace and stability were suddenly to break out in the Middle East and North Africa, a sharp drop in oil prices would be expected.”
These are, in fact, the downside risks.  China is undoubtedly the medium to long term driver of oil prices.  If China implodes, it will drag other emerging markets down as well.  On the other hand, I may disagree about the likelihood that Middle East peace would lower oil prices durably.  But this much is not in question: We are heavily dependent on shales to provide incremental oil, not only in the US, but globally.
As we look to 2017, the prospects for oil supply growth look increasingly tentative.  US shales may be running their course, even as other countries’ potential remains untested.  Oil prices will not rise to fully offset swelling E&P costs, and the oil majors will trim their sails to right their financial ships.  Their oil production will continue to fall, and with reduced capex, the pace of decline could well accelerate, even in the face of stable oil prices.
In addition, international affairs are in a parlous state.  In less than a year, Iraq has transformed from embodying OPEC’s upside potential to being the greatest risk to current production levels.  Russia seems intent on provoking sanctions or embroiling itself in a European war.  Neither augurs well for its oil exports or expansion of its oil business.
The supply upside is ever harder to perceive, even as the downside risks are multiplying.  Instead of complacency, we should feel concern.  An oil shock is already visible on the horizon ahead of us.

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Wednesday, July 30, 2014

Methane Madness

Hold tight wait till the party's over
Hold tight We're in for nasty weather
There has got to be a way
Burning down the house

-Talking Heads



Where do bad folks go when they die?
They don't go to heaven where the angels fly
They go to the lake of fire and fry
Won't see them again 'till the fourth of July

-Nirvana

Greetings

     Well natural gas may not be perfect,  but it is a step in the right direction, right?    I mean its better than oil or coal, right?  Below Harvard professor Naomi Oreskes, takes apart the arguments strand by strand. ( see below)  Unfortunately gas is probably not much better than coal, when you consider the actual ( not the assumed ) leakage before it gets to the power plant.  And of course, it certainly is no improvement if the coal gets exported and burned elsewhere.   ( 20% of coal displaced by gas, is exported see here

     Basically, we want to believe it, because we are still in the bargaining stage, far away from acceptance.    We want to believe it, so we will.  For an interesting discussion of the psychological tricks we use to avoid dealing with the reality of  climate change see here.  (My favorite is the "moral license" - i.e. I'm a good person.   I drive a Prius, use cloth bags, recycle, therefore I can fly off for a vacation.)

     In other methane news -  It seems that the ocean warming is resulting in the release of methane bubbles from frozen methane at the bottom of the ocean.   Previously it had been thought that the methane would not make it to the surface, but would be broken down into less harmful CO2.  However it now appears the methane is bubbling up into the atmosphere.  Methane is 90 times as bad as CO2, at least in the short term.  And the short term is where the tipping points seem to be.  

    Jason  Box, glaciologist, takes a look at the methane  data, especially the outliers, which we would prefer to ignore.  Here is his conclusion.  see here

"The trajectory we’re on is to awaken a runaway climate heating that will ravage global agricultural systems leading to mass famine, conflict. Sea level rise will be a small problem by comparison."

   For a full discussion, of the issue see here

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From here

A "Green" Bridge to Hell
Albert Einstein is rumored to have said that one cannot solve a problem with the same thinking that led to it. Yet this is precisely what we are now trying to do with climate change policy.  The Obama administration, the Environmental Protection Agency, many environmental groups, and the oil and gas industry all tell us that the way to solve the problem created by fossil fuels is with more fossils fuels.  We can do this, they claim, by using more natural gas, which is touted as a “clean” fuel -- even a “green” fuel.
Like most misleading arguments, this one starts from a kernel of truth.

That truth is basic chemistry: when you burn natural gas, the amount of carbon dioxide (CO2) produced is, other things being equal, much less than when you burn an equivalent amount of coal or oil. It can be as much as 50% less compared with coal, and 20% to 30% less compared with diesel fuel, gasoline, or home heating oil. When it comes to a greenhouse gas (GHG) heading for the atmosphere, that’s a substantial difference.  It means that if you replace oil or coal with gas without otherwise increasing your energy usage, you can significantly reduce your short-term carbon footprint.
Replacing coal gives you other benefits as well, such as reducing the sulfate pollution that causes acid rain, particulate emissions that cause lung disease, and mercury that causes brain damage.  And if less coal is mined, then occupational death and disease can be reduced in coal miners and the destruction caused by damaging forms of mining, including the removal, in some parts of the country, of entire mountains can be reduced or halted.
Those are significant benefits.  In part for these reasons, the Obama administration has made natural gas development a centerpiece of its energy policy, and environmental groups, including the Environmental Defense Fund, have supported the increased use of gas. President Obama has gone as far as to endorse fracking -- the controversial method of extracting natural gas from low permeability shales -- on the grounds that the gas extracted can provide “a bridge” to a low carbon future and help fight climate change.
So if someone asks: "Is gas better than oil or coal?" the short answer seems to be yes.  And when it comes to complicated issues that have science at their core, often the short answer is the (basically) correct one.
As a historian of science who studies global warming, I’ve often stressed that anthropogenic climate change is a matter of basic physics: CO2 is a greenhouse gas, which means it traps heat in the Earth’s atmosphere. So if you put additional CO2 into that atmosphere, above and beyond what’s naturally there, you have to expect the planet to warm.  Basic physics.  
And guess what? We’ve added a substantial amount of CO2 to the atmosphere, and the planet has become hotter.  We can fuss about the details of natural variability, cloud feedbacks, ocean heat and CO2 uptake, El Niñocycles and the like, but the answer that you get from college-level physics -- more CO2 means a hotter planet -- has turned out to be correct.  The details may affect the timing and mode of climate warming, but they won’t stop it. 
In the case of gas, however, the short answer may not be the correct one.
 The often-touted decrease in greenhouse gas production applies when natural gas replaces other fuels -- particularly coal -- in electricity generation.  That’s important.  Electricity is about 40% of total U.S. energy use.  Traditionally, coal has been the dominant fuel used to generate electricity in this country and most of the world.  (And no one has any serious plan to live without electricity.)  Any measurable GHG reduction in the electricity sector is significant and gains achieved in that sector quickly add up.
But a good deal of the benefit of gas in electricity generation comes from the fact that it is used in modern combined-cycle gas turbine plants.  A combined-cycle plant is one in which waste heat is captured and redirected to drive a mechanical system that powers a generator that creates additional electricity. These plants can be nearly twice as efficient as conventional single-cycle plants.  In addition, if combined with cogeneration (the trapping of the last bits of heat for local home heating or other purposes), they can reach efficiencies of nearly 90%.  That means that nearly all the heat released by burning the fuel is captured and used -- an impressive accomplishment.
In theory, you could build a combined-cycle plant with coal (or other fuels), but it’s not often done. You can also increase coal efficiency by pulverizing it, and using a technique called “ultra super-critical black coal.” An expert report compiled by the Australian Council of Learned Societies in 2013 compared the efficiencies of a range of fuels, including conventional gas and shale gas, under a variety of conditions, and concluded that greenhouse gas emissions from electricity generation using efficient forms of coal burning were not that much more than from gas.
What this means is that most of the benefit natural gas offers comes not from the gas itself, but from how it is burnedand this is mostly because gas plants tend to be new and use more efficient burning technologies.  The lesson, not surprisingly: if you burn a fuel using twenty-first century technology, you get a better result than with late nineteenth or twentieth century technology.  This is not to defend coal, but to provide an important reality check on the discussion now taking place in this country.  There is a real benefit to burning gas in America, but it’s less than often claimed, and much of that benefit comes from using modern techniques and new equipment. (If the coal industry weren’t so busy denying the reality of climate change, they might publicize this fact.)
It’s Not Just Electricity
Replacing coal with gas in electricity generation is still probably a good idea -- at least in the near term -- but gas isn’t just used to generate electricity.  It’s also used in transportation, to heat homes and make hot water, and in gas appliances like stoves, driers, and fireplaces.  Here the situation is seriously worrisome.
It’s extremely difficult to estimate GHG emissions in these sectors because many of the variables are poorly measured. One important emission source is gas leakage from distribution and storage systems, which is hard to measure because it happens in so many different ways in so many different places.  Such leaks are sometimes called “downstream emissions,” because they occur after the gas has been drilled.
Certainly, gas does leak, and the more we transport, distribute, and use it, the more opportunities there are for such leakage.  Studies have tried to estimate the total emissions associated with gas using well-to-burner or “life-cycle” analysis. Different studies of this sort tend to yield quite different results with a high margin for error, but many conclude that when natural gas replaces petroleum in transportation or heating oil in homes, the greenhouse gas benefits are slim to none. (And since almost no one in America heats their home with coal any more, there are no ancillary benefits of decreased coal.) One study by researchers at Carnegie-Mellon University concluded that while the probability of reducing GHG emissions at least somewhat by replacing coal with gas in electricity generation was 100%, the substitution of natural gas as a transportation fuel actually carries a 10%-35% risk of increasing emissions.
In the Northeast, the northern Midwest, and the Great Plains, many builders are touting the “energy efficiency” of new homes supplied with gas heat and hot water systems, but it’s not clear that these homes are achieving substantial GHG reductions. In New England, where wood is plentiful, many people would do better to use high efficiency wood stoves (or burn other forms ofbiomass).
How Gas (CH4) Heats the Atmosphere Much More than CO2 
Isn’t gas still better than oil for heating homes? Perhaps, but oil doesn’t leak into the atmosphere, which brings us to a crucial point: natural gas is methane (CH4), which is a greenhouse gas far more potent than CO2.
As a result, gas leaks are a cause for enormous concern, because any methane that reaches the atmosphere unburned contributes to global warming more than the same amount of CO2.  How much more?  This is a question that has caused considerable angst in the climate science community, because it depends on how you calculate it.  Scientists have developed the concept of “Global Warming Potential” (GWP) to try to answer this question.
The argument is complicated because while CH4 warms the planet far more than CO2, it stays in the atmosphere for much less time.   A typical molecule of COremains in the atmosphere about 10 times longer than a molecule of CH4.  In their Fifth Assessment Report, the Intergovernmental Panel on Climate Change estimated that the GWP for methane is 34 times that of CO2 over the span of 100 years.  However, when the time frame is changed to 20 years, the GWP increases to 86!
Most calculations of the impact of methane leakage use the 100-year time frame, which makes sense if you are worried about the cumulative impact of greenhouse gas emissions on the world as a whole, but not -- many scientists have started to argue -- if you are worried about currently unfolding impacts on the biosphere.  After all, many species may go extinct well before we reach that 100-year mark.  It also does not make sense if you are worried that we are quickly approaching irreversible tipping points in the climate system, including rapid ice loss from the Greenland and Antarctic ice sheets.
It gets worse.  CHand COare not the only components of air pollution that can alter the climate.  Dust particles from pollution or volcanoes have the capacity to cool the climate.  As it happens, burning coal produces a lot of dust, leading some scientists to conclude that replacing coal with natural gas may actually increase global warming.  If they are right, then not only is natural gas not a bridge to a clean energy future, it’s a bridge to potential disaster.
Fracking
A great deal of recent public and media attention has been focused not on gas itself, but on the mechanism increasingly used to extract it.  Hydraulic fracturing -- better known as fracking -- is a technique that uses high-pressure fluids to “fracture” and extract gas from low permeability rocks where it would otherwise be trapped.  The technique itself has been around for a long time, but in the last decade, combined with innovations in drilling technology and the high cost of petroleum, it has become a profitable way to produce energy.
The somewhat surprising result of several recent studies (including one by anexpert panel from the Council of Canadian Academies on which I served) is that, from a climate-change perspective, fracking probably isn’t much worse than conventional gas extraction.  Life-cycle analyses of GHG emissions from the Marcellus and Bakken shales, for example, suggest that emissions are probably slightly but not significantly higher than from conventional gas drilling.  A good proportion of these emissions come from well leakage.
It turns out to be surprisingly hard to seal a well tightly. This is widely acknowledged even by industry representatives and shale gas advocates. They call it the problem of “well integrity.”  Wells may leak when they are being drilled, during production, and even when abandoned after production has ended.  The reason is primarily because the cement used to seal the well may shrink, crack, or simply fail to fill in all the gaps.
Interestingly, there’s little evidence that fracked wells leak more than conventional wells.  From a greenhouse gas perspective, the problem with fracking lies in the huge number of wells being drilled.  According to the U.S. Energy Information Administration, there were 342,000 gas wells in the United States in 2000; by 2010, there were over 510,000, and nearly all of this increase was driven by shale-gas development -- that is, by fracking.  This represents a huge increase in the potential pathways for methane leakage directly into the atmosphere.  (It also represents a huge increase in potential sources of groundwater contamination, but that’s a subject for another post.)
There have been enormous disagreements among scientists and industry representatives over methane leakage rates, but experts calculate that leakage must be kept below 3% for gas to represent an improvement over coal in electricity generation, and below 1% for gas to improve over diesel and gasoline in transportation.  The Environmental Protection Agency (EPA) currently estimates average leakage rates at 1.4%, but quite a few experts dispute that figure.  One study published in 2013, based on atmospheric measurements over gas fields in Utah, found leakage rates as high as 6%-11%.  The Environmental Defense Fund is currently sponsoring a large,collaborative project involving diverse industry, government, and academic scientists. One part of the study, measuring emissions over Colorado’s most active oil and gas drilling region, found methane emissions almost three times higher than the EPA’s 2012 numbers, corresponding to a well-leakage rate of 2.6%-5.6%.
Some of the differences in leakage estimates reflect differing measurement techniques, some may involve measurement error, and some probably reflect real differences in gas fields and industrial practices.  But the range of estimates indicates that the scientific jury is still out.  If, in the end, leakage rates prove to be higher than the EPA currently calculates, the promised benefits of gas begin to vaporize.  If leakage in storage and distribution is higher than currently estimated -- as one ongoing study by my own colleagues at Harvard suggests -- then the alleged benefits may evaporate entirely.
And we're not done yet.  There’s one more important pathway to consider when it comes to the release of greenhouse gases into the atmosphere: flaring.  In this practice, gas is burned off at the wellhead, sending carbon dioxide into the atmosphere. It’s most commonly done in oil fields.  There, natural gas is not a desirable product but a hazardous byproduct that companies flare to avoid gas explosions. (If you fly over the Persian Gulf at night and notice numerous points of light below, those are wellhead fires).
In our report for the Council of Canadian Academies, our panel relied on industry data that suggested flaring rates in gas fields were extremely low, typically less than 2% and "in all probability" less than 0.1%. This would make sense if gas producers were efficient, since they want to sell gas, not flare it.  But recently the Wall Street Journal reported that state officials in North Dakota would be pressing for new regulations because flaring rates there are running around 30%.  In the month of April alone, $50 million dollars of natural gas was burned off, completely wasted.  The article was discussing shale oil wells, not shale gas ones, but it suggests that, when it comes to controlling flaring, there’s evidence the store is not being adequately minded. (At present, there are no federal regulations at all on flaring.)  As long as gas is cheap, the economic incentives to avoid waste are obviously insufficient.
Why Gas is Unlikely To Be a Bridge to Renewables
In a perfect world, people would use gas to replace more polluting coal or oil.  Unfortunately, the argument for gas rests on just that assumption: that the world works perfectly.  You don’t need to be a scientist, however, to know just how flawed that assumption is.  In fact, economists have long argued that a paradox of energy efficiency is this: if people save energy through efficiency and their energy bills start to fall, they may begin to use more energy in other ways.  So while their bills stay the same, usage may actually rise. (It’s like going to a sale and instead of saving money, buying more things because of the lower price tags.) In this way, consumers can actually end up using more energy overall and so emissions continue to rise.
To ensure that natural gas use doesn’t follow such a path, you’ve got to do something. You could introduce a law, like AB32, the California emissions control law, or put in place the pending EPA carbon rule just introduced by the Obama administration that mandates emissions reductions. Or you could introduce a hefty carbon tax to create a strong financial incentive for people to choose non-carbon based fuels.  But laws like AB32 are at present few and far between, the fossil fuel industry and its political and ideological allies arefighting the EPA carbon rule tooth and nail, and only a handful of political leaders are prepared to stand up in public and argue for a new tax.
Meanwhile, global fossil fuel production and consumption are rising.  Arecent article by the business editor of the British Telegraph describes a frenzy of fossil fuel production that may be leading to a new financial bubble.  The huge increase in natural gas production is, in reality, helping to keep the price of such energy lower, discouraging efficiency and making it more difficult for renewables to compete.  And this raises the most worrisome issue of all.
Embedded in all positive claims for gas is an essential assumption: that it replaces other more polluting fuels.  But what if it also turns out to replace the panoply of alternative energies, including solar, wind, hydro, and nuclear?  In Canada, where shale-gas development is well advanced, only a small fraction of electricity is generated from coal; most comes from hydropower or nuclear power. In the U.S., competition from cheap gas was recently cited by the owners of the Vermont Yankee Nuclear power plant as a factor in their decision to close down.  And while the evidence may be somewhat anecdotal, various reports suggest that cheap gas has delayed or halted some renewable power projects. It stands to reason that if people believe natural gas is a “green” alternative, they will chose it over more expensive renewables.
Exports and Infrastructure: The Road to More Climate Change
We’ve all heard about the Keystone XL Pipeline through which Canada proposes to ship oil from the Alberta tar sands to the U.S. Gulf Coast, and from there to the rest of the world.  Few people, however, are aware that the U.S. has also become a net exporter of coal and is poised to become a gas exporter as well. Gas imports have fallen steadily since 2007, while exports have risen, and several U.S. gas companies are actively seeking federal and state approvals for the building of expanded gas export facilities.
Once coal leaves our borders, the argument for replacing it becomes moot because there’s no way for us to monitor how it’s used. If gas replaces coal in the U.S. and that coal is then exported and burned elsewhere, then there’s no greenhouse gas benefit at all.  Meanwhile, the negative effects of coal have been passed on to others.
All of the available scientific evidence suggests that greenhouse gas emissions must peak relatively soon and then fall dramatically over the next 50 years, if not sooner, if we are to avoid the most damaging and disruptive aspects of climate change. Yet we are building, or contemplating building, pipelines and export facilities that will contribute to increased fossil fuel use around the globe, ensuring further increases in emissions during the crucial period when they need to be dramatically decreasing.
We are also building new power plants that will be with us for a long time. (A typical power plant is expected to operate for at least 50 years.)  Once technologies are adopted and infrastructure built to support them, it becomes difficult and expensive to change course.  Historians of technology call this “technological momentum.”
Certain forms of infrastructure also effectively preclude others.  Once you have built a city, you can’t use the same land for agriculture.  Historians call this the “infrastructure trap.”  The aggressive development of natural gas, not to mention tar sands, and oil in the melting Arctic, threaten to trap us into a commitment to fossil fuels that may be impossible to escape before it is too late.  Animals are lured into traps by the promise of food.  Is the idea of short-term cuts in greenhouse gas emissions luring us into the trap of long-term failure?
The institution of rules or incentives in the U.S. and around the globe to ensure that gas actually replaces coal and that efficiency and renewables become our primary focus for energy development is at this point extremely unlikely.  Yet without them, increased natural gas development will simply increase the total amount of fossil fuel available in the world to burn, accelerating what is already beginning to look like a rush towards disaster.
Have U.S. Emissions Really Decreased?
Gas advocates say that while these worries might be legitimate, U.S. greenhouse gas emissions nonetheless fell between 2008 and 2012, partly because of the way gas is replacing coal in electricity generation.  This claim needs to be closely examined.  In fact, it seems as if the lion’s share of that decrease was simply the result of the near global economic meltdown of 2007-2008 and the Great Recession that followed.  When economic activity falls, energy use falls, so emissions fall, too.  Not surprisingly, preliminary data from 2013 suggest that emissions are on the rise again. Some of the rest of the 2008-2012 decline was due to tighter automobile fuel economy standards.
But how do we know what our emissions actually are? Most people would assume that we measure them, but they would be wrong.  Emissions are instead calculated based on energy data -- how much coal, oil, and gas was bought and sold in the U.S. that year -- multiplied by assumed rates of greenhouse gas production by those fuels. Here’s the rub: the gas calculation depends on the assumed leakage rate.  If we’ve been underestimating leakage, then we’ve underestimated the emissions. Though the converse is also true, few experts think that anyone is overestimating gas leakage rates. This is not to say that emissions didn’t fall in 2008-2012.  They almost certainly did, again because of the recession.  But the claim that there’s been a large decrease thanks to natural gas remains unproven.
So Why Are So Many People So Enthusiastic About Gas?
The reason for industry enthusiasm isn’t hard to discern: a lot of people are making a lot of money right now in shale gas.  Chalk up the enthusiasm of the Canadian government, politicians in gas-rich states like Texas, North Dakota, and Pennsylvania, and individuals who have made money leasing their properties for gas drilling to the same factor.  In those gas-rich states, employment, too, has benefited (even as the familiar social problemscharacteristic of boom towns have also increased).
On natural gas, the Obama administration seems to be looking for a compromise that Democrats and Republicans can support, and that does not invoke the wrath of the powerful and aggressive oil and gas industry or voters in states like Pennsylvania.  In the process, it’s surely tempting to demonize the coal industry, with its long history of abusive labor practices, its callous disregard for occupational health, and its catastrophic environmental record.  Since few of us ever see coal in our daily lives, a future without coal seems not only imaginable but overdue.
But when it comes to natural gas, what about the enthusiasm of some environmentalists? What about groups like the Environmental Defense Fund that have a long track record on climate change and no history of love for the oil and gas industry? What about scientists?
In such cases, I think the positive response to the exploitation of natural gas lies in a combination of wishful thinking and intimidation.
The fossil fuel industry and their allies have spent the past 20 years attacking environmentalists and climate scientists as extremists, alarmists, and hysterics.  Their publicists have portrayed them as hair-shirt wearing, socialist watermelons (green on the outside, red on the inside) who relish suffering, kill jobs, and want everyone to freeze in the dark.  Extremists do exist in the environmental movement as everywhere else, but they represent a tiny faction of the community of people concerned about climate change, and they are virtually nonexistent in the scientific community.  (Put it this way: if there is a hair-shirt wearing climate scientist, I have not met her.)
While the accusations may be false, that doesn’t mean they don’t affect our thinking.  Too often, environmentalists find ourselves trying to prove that we are not what they say we are: not irredeemable anti-business job-killers.  We bend over backwards to seek out acceptable compromises and work with business leaders, even to the point of finding a fossil fuel that we can love (or at least like).
And that leads to the wishful thinking.  We want to find solutions, or at least meaningful steps in the right direction, that command widespread support.  We want gas to be good.  (I know I did.)  Climate change is a gargantuan challenge, and it’s bloody hard to see how we are going to solve it and maintain our standard of living, much less extend that standard to billions more around the globe who want it and deserve it. If gas is good, or at least better than what we have now -- then that feels like a good thing.  If gas moved us substantially in the right direction, then that would be a good thing.
After all, can’t the leakage problem be fixed?  Our panel spent considerable time discussing this question. Industry representatives said, “Trust us, we’ve been drilling wells for 100 years.” But some of us wondered, “If they haven’t solved this problem in 100 years, why would they suddenly solve it now?”  A strong system of monitoring and compliance enforcement could help create incentives for industry to find a solution, but the odds of that developing any time soon seem as remote as the odds of a binding international treaty.
Sometimes you can fight fire with fire, but the evidence suggests that this isn’t one of those times.  Under current conditions, the increased availability and decreased price of natural gas are likely to lead to an increase in U.S. greenhouse gas emissions.  Preliminary data from 2013 suggest that that is already occurring. And global emissions are, of course, continuing to increase as well.
Insanity is sometimes defined as doing the same thing but expecting a different result. Psychologists define perseveration as repetitive behavior that interferes with learning. Whatever we call it, that seems to be what is happening. And whatever it is, it doesn’t make sense. Natural gas is not the bridge to clean energy; it’s the road to more climate change.

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Monday, July 28, 2014

Easy Money


A couple Jills with their eyes on a couple bills
Their eyes was statin'
They was waitin'
To get their hands on some easy money
    - Rickie Lee Jones


Greetings

   Anyone interested in the oil situation will want to take a look at Gail Tvbergs latest post.  (below)  She takes a tremendously complex situation and teases out good perspectives on many of the factors involved.   Oil production is affected by many factors besides geology , such a the stability of the country, access to markets, the ability of refiners to handle the product, cost of production, the cost of capital, and the price users can afford, among other factors.  She offers a glimpse into many of these.

      I was particularly interested in her analysis of the impact of the cost of money on US producers.  As we all know the federal reserve has lowered interest rates to historic lows.  This low cost money has help to finance the current drilling boom  No one knows when t interest rates will return to their normal levels, but they may start rising as early as October of this year.   If Gail is right, we could start to see a drop off in drilling as the cost of money rises.  Without an aggressive drilling program, these new wells go into a steep decline rapidly.  Of course, without the US boom, the world would already be at peak production.

   Also   Ron Peterson runs a nice blog on peak oil- probably the best site since the demise of the oil drum. Here is a nice article concerning our current situation.  He focuses mainly on shale, and Russia



Bonus Feature:  Professor  James Hamilton's latest paper.  "The Changing Face of World Oil Markets"
  Summary here.  paper here

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World Oil Production at 3/31/2014-Where are We Headed?

by Gail Tverberg, originally published by OurFiniteWorld.com  | TODAY
The standard way to make forecasts of almost anything is to look at recent trends and assume that this trend will continue, at least for the next several years. With world oil production, the trend in oil production looks fairly benign, with the trend slightly upward (Figure 1).
Figure 1. Quarterly crude and condensate oil production, based on EIA data.
Figure 1. Quarterly crude and condensate oil production, based on EIA data.
If we look at the situation more closely, however, we see that we are dealing with an unstable situation. The top ten crude oil producing countries have a variety of problems (Figure 2). Middle Eastern producers are particularly at risk of instability, thanks to the advances of ISIS and the large number of refugees moving from one country to another.
Figure 2. Top ten crude oil and condensate producers during first quarter of 2014, based on EIA data.
Figure 2. Top ten crude oil and condensate producers during first quarter of 2014, based on EIA data.
Relatively low oil prices are part of the problem as well. The cost of producing oil is rising much more rapidly than its selling price, as discussed in my post Beginning of the End? Oil Companies Cut Back on Spending. In fact, the selling price of oil hasn’t really risen since 2011 (Figure 3), because citizens can’t afford higher oil prices with their stagnating wages.
Figure 3. Average weekly oil prices, based on EIA data.
Figure 3. Average weekly oil prices, based on EIA data.
The fact that the selling price of oil remains flat tends to lead to political instability in oil exporters because they cannot collect the taxes required to provide programs needed to pacify their people (food and fuel subsidies, water provided by desalination, jobs programs, etc.) without very high oil prices. Low oil prices also make the plight of oil exporters with declining oil production worse, including Russia, Mexico, and Venezuela.
Many people when looking at future oil supply concern themselves with the amount of reserves (or resources) remaining, or perhaps Energy Return on Energy Invested (EROEI). None of these is really the right limit, however. The limiting factor is how long our current networked economic system can hold together. There are lots of oil reserves left, and the EROEI of Middle Eastern oil is generally quite high (that is, favorable). But instability could still bring the system down. So could popping of the US oil supply bubble through higher interest rates or more stringent lending rules.
The Top Two Crude Oil Producers: Russia and Saudi Arabia
When we look at quarterly crude oil production (including condensate, using EIA data), we see that Russia’s crude oil production tends to be a lot smoother than Saudi Arabia’s (Figure 4). We also see that since the third quarter of 2006, Russia’s crude oil production tends to be higher than Saudi Arabia’s.
Figure 4.  Comparison of quarterly oil production for Russia and Saudi Arabia, based on EIA data.
Figure 4. Comparison of quarterly oil production (crude + condensate) for Russia and Saudi Arabia, based on EIA data.
Both Russia and Saudi Arabia are headed toward problems now. Russia’s Finance Minister has recently announced that its oil production has hit and peak, and is expected to fall, causing financial difficulties. In fact, if we look at monthly EIA data, we see that November 2013 is the highest month of production, and that every month of production since that date has dropped from this level. So far, the drop in oil production has been relatively small, but when an oil exporter is depending on tax revenue from oil to fund government programs, even a small drop in production (without a higher oil price) is a financial problem.
We see in Figure 4 above that Saudi Arabia’s quarterly oil production is quite erratic, compared to oil production of Russia. Part of the reason Saudi Arabia’s oil production is so erratic is that it extends the life of its fields by periodically relaxing (reducing) production from them. It also reacts to oil price changes–if the oil price is too low, as in the latter part of 2008 and in 2009, Saudi oil production drops. The tendency to jerk oil production around gives the illusion that Saudi Arabia has spare production capacity. It is doubtful at this point that it has much true spare capacity. It makes a good story, though, which news media are willing to repeat endlessly.
Saudi Arabia has not been able to raise oil exports for years (Figure 5). It gained a reputation for its oil exports back in the late 1970s and early 1980s, and has been able to rest on its laurels. Its high “proven reserves” (which have never been audited, and are doubted by many) add to the illusion that it can produce any amount it wants.
Figure 5. Comparison of Russian and Saudi Arabian oil exports, based on BP Statistical Review of World Energy 2014 data. Pre-1985 Russian amounts estimated based on Former Soviet Union amounts.
Figure 5. Comparison of Russian and Saudi Arabian oil exports, based on BP Statistical Review of World Energy 2014 data (oil production minus oil consumption). Pre-1985 Russian amounts estimated based on Former Soviet Union amounts.
In 2013, oil exports from Russia were equal to 88% of Saudi Arabian oil exports. The world is very close to being as dependent on Russian oil exports as it is on Saudi Arabian oil exports. Most people don’t realize this relationship.
The current instability of the Middle East has not hit Saudi Arabia yet, but there is increased fighting all around. Saudi Arabia is not immune to the problems of the other countries. According to BBC, there is already a hidden uprising taking place in eastern Saudi Arabia.
US Oil Production is a Bubble of Very Light Oil
The US is the world’s third largest producer of crude and condensate. Recent US crude oil production shows a “spike” in tight oil productions–that is, production using hydraulic fracturing, generally in shale formations (Figure 6).
Figure 6. US crude oil production split between tight oil (from shale formations), Alaska, and all other, based on EIA data. Shale is from  AEO 2014 Early Release Overview.
Figure 6. US crude oil production split between tight oil (from shale formations), Alaska, and all other, based on EIA data. Shale is from AEO 2014 Early Release Overview.
If we look at recent data on a quarterly basis, the trend in production also looks very favorable.
Figure 7. US Crude and condensate production by quarter, based on EIA data.
Figure 7. US Crude and condensate production by quarter, based on EIA data.
The new crude is much lighter than traditional crude. According to the Wall Street Journal, the expected split of US crude is as follows:
Figure 8. Wall Street Journal image illustrating the expected mix of US crude oil.
Figure 8. Wall Street Journal image illustrating the expected mix of US crude oil.
There are many issues with the new “oil” production:
  • The new oil production is so “light” that a portion of it is not what we use to power our cars and trucks. The very light “condensate” portion (similar to natural gas liquids) is especially a problem.
  • Oil refineries are not necessarily set up to handle crude with so much volatile materials mixed in. Such crude tends to explode, if not handled properly.
  • These very light fuels are not very flexible, the way heavier fuels are. With the use of “cracking” facilities, it is possible to make heavy oil into medium oil (for gasoline and diesel). But using very light oil products to make heavier ones is a very expensive operation, requiring “gas-to-liquid” plants.
  • Because of the rising production of very light products, the price of condensate has fallen in the last three years. If more tight oil production takes place, available prices for condensate are likely to drop even further. Because of this, it may make sense toexport the “condensate” portion of tight oil to other parts of the world where prices are likely to be higher. Otherwise, it will be hard to keep the combined sales price of tight oil (crude oil + condensate) high enough to encourage more tight oil production.
The other issue with “tight oil” production (that is, production from shale formations) is that its production seems to be a “bubble.” The big increase in oil production (Figure 6) came since 2009 when oil prices were high and interest rates were very low. Cash flow from these operations tends to be negative. If interest rates should rise, or if oil prices should fall, the system is likely to hit a limit. Another potential problem is oil companies hitting borrowing limits, so that they cannot add more wells.
Without US oil production, world crude oil production would have been on a plateau since 2005.
Figure 9. World crude and condensate, excluding US  production, based on EIA data.
Figure 9. World crude and condensate, excluding US production, based on EIA data.
Canadian Oil Production
The other recent success story with respect to oil production is Canada, the world’s fifth largest producer of crude and condensate. Thanks to the oil sands, Canadian oil production has more than doubled since the beginning of 1994 (Figure 10).
Figure 10. Canadian quarterly crude oil (and condensate) production based on EIA data.
Figure 10. Canadian quarterly crude oil (and condensate) production based on EIA data.
Of course, there are environmental issues with respect to both oil from the oil sands and US tight oil. When we get to the “bottom of the barrel,” we end up with the less environmentally desirable types of oil. This is part of our current problem, and one reason why we are reaching limits.
Oil Production in China, Iraq, and Iran
In the first quarter of 2014, China was the fourth largest producer of crude oil. Iraq was sixth, and Iran was seventh (based on Figure 2 above). Let’s first look at the oil production of China and Iran.
Figure 11. China and Iran crude and condensate production by quarter based on EIA data.
Figure 11. China and Iran crude and condensate production by quarter based on EIA data.
As of 2010, Iran was the fourth largest producer of crude oil in the world. Iran has had so many sanctions against it that it is hard to figure out a base period, prior to sanctions. If we compare Iran’s first quarter 2014 oil production to its most recent high production in the second quarter of 2010, oil production is now down about 870,000 barrels a day. If sanctions are removed and warfare does not become too much of a problem, oil production could theoretically rise by about this amount.
China has relatively more stable oil production than Iran. One concern now is that China’s oil production is no longer rising very much. Oil production for the fourth quarter of 2013 is approximately tied with oil production for the fourth quarter of 2012. The most recent quarter of oil production is down a bit. It is not clear whether China will be able to maintain its current level of production, which is the reason I mention the possibility of a decline in oil production in Figure 2.
The lack of growth in China’s oil supplies may be behind its recent belligerence in dealing with Viet Nam and Japan. It is not only exporters that become disturbed when oil supplies are not to their liking. Oil importers also become disturbed, because oil supplies are vital to the economy of all nations.
Now let’s add Iraq to the oil production chart for Iran and China.
Figure 12. Quarterly crude oil and condensate production for Iran, China, and Iraq, based on EIA data.
Figure 12. Quarterly crude oil and condensate production for Iran, China, and Iraq, based on EIA data.
Thanks to improvements in oil production in Iraq, and sanctions against Iran, oil production for Iraq slightly exceeds that of Iran in the first quarter of 2014. However, given Iraq’s past instability in oil production, and its current problems with ISIS and with Kurdistan, it is hard to expect that Iraq will be a reliable oil producer in the future. In theory Iraq’s oil production can rise a few million barrels a day over the next 10 or 20 years, but we can hardly count on it.
The Oil Price Problem that Adds to Instability
Figure 13 shows my view of the mismatch between (1) the price oil producers need to extract their oil and (2) the price consumers can afford. The cost of extraction (broadly defined including taxes required by governments) keeps rising while “ability to pay” has remained flat since 2007. The inability of consumers to pay high prices for oil (because wages are not rising very much) explains why oil prices have remained relatively flat in Figure 3 (near the top of this post), even while there is fighting in the Middle East.
Figure 3. Comparison of oil price per barrel needed (Brent) with ability to pay. Amounts based on judgement of author.
Figure 13. Comparison of oil price per barrel needed by producers (Brent) with ability to pay. Amounts based on judgment of author.
When the selling price is lower than the full cost of production (including the cost of investing in new wells and paying dividends to shareholders), the tendency is to reduce production, one way or another. This reduction can be voluntarily, in the form of a publicly traded company buying back stock or selling off acreage.
Alternatively, the cutback can be involuntary, indirectly caused by political instability. This happens because oil production is typically heavily taxed in oil exporting nations. If the oil price remains too low, taxes collected tend to be too low, making it impossible to fund programs such as food and fuel subsidies, desalination plants, and jobs programs. Without adequate programs, there tend to be uprisings and civil disorder.
If a person looks closely at Figure 13, it is clear that in 2014, we are out in “Wile E. Coyote Territory.” The broadly defined cost of oil extraction (including required taxes by exporters) now exceeds the ability of consumers to pay for oil. As a result, oil prices barely spike at all, even when there are major Middle Eastern disruptions (Figure 3, above).
The reason why Wile E. Coyote situation can take place at all is because it takes a while for the mismatch between costs and prices to work its way through the system. Independent oil companies can decide to sell off acreage and buy back shares of stock but it takes a while for these actions to actually take place. Furthermore, the mismatch between needed oil prices and charged oil prices tends to get worse over time for oil exporters. This lays the groundwork for increasing dissent within these countries.
With oil prices remaining relatively flat, importers become complacent because they don’t understand what is happening. It looks like we have no problem when, in fact, there really is a fairly big problem, lurking behind the scenes.
To make matters worse, it is becoming more and more difficult to continue Quantitative Easing, a program that tends to hold down longer-term interest rates. The expectation is that the program will be discontinued by October 2014. The reason why the price of oil has stayed as high as it has in the last several years is because of the effects of quantitative easing and ultra low interest rates. If it weren’t for these, oil prices would fall, because consumers would need to pay much more for goods bought on credit, leaving less for the purchase of oil products. See my recent post, The Connection Between Oil Prices, Debt Levels, and Interest Rates.
Figure 4. Big credit related drop in oil prices that occurred in late 2008 is now being mitigated by Quantitative Easing and very low interest rates.
Figure 14. Big credit related drop in oil prices that occurred in late 2008 is now being mitigated by Quantitative Easing and very low interest rates.
Because of the expectation that Quantitative Easing will end by October 2014 and the pressure to tighten credit conditions, my expectation is that the affordable price of oil will start dropping in late 2014, as shown in Figure 13. The growing disparity between what consumers can afford and what producers need tends to make the Wile E. Coyote overshoot condition even worse. It is likely to lead to more problems with instability in the Middle East, and a collapse of the US oil production bubble.
Conclusion
I explained earlier that we live in a networked economy, and this fact changes the way economic models work. Many people have developed models of future oil production assuming that the appropriate model is a “bell curve,” based on oil depletion rates and the inability to geologically extract more oil. Unfortunately, this isn’t the right model.
The situation is far more complex than simple geological decline models assume. There are multiple limits involved–prices needed by oil producers, prices affordable by oil importers, and prices for other products, such as water and food. Interest rates are also important. There are time lags involved between the time the Wile E. Coyote situation begins, and the actions to fix this mismatch takes place. It is this time lag that tends to make drop-offs very steep.
The fact that we are dealing with political instability means that multiple fuels are likely to be affected at once. Clearly natural gas exports from the Middle East will be affected at the same time as oil exports. Many other spillover effects are likely to happen as well. US businesses without oil will need to cut back on operations. This will lead to job layoffs and reduced electricity use. With lower electricity demand, prices for electricity as well as for coal and natural gas will tend to drop. Electricity companies will increasingly face bankruptcy, and fuel suppliers will reduce operations.
Thus, we cannot expect decline to follow a bell curve. The real model of future energy consumption crosses many disciplines at once, making the situation difficult to model. The Reserves / Current Production model gives a vastly too high indication of future production, for a variety of reasons–rising cost of extraction because of diminishing returns, need for high prices and taxes to support the operations of exporters, and failure to consider interest rates.
The Energy Return on Energy Invested model looks at a narrowly defined ratio–usable energy acquired at the “well-head,” compared to energy expended at the “well-head” disregarding many things–including taxes, labor costs, cost of borrowing money, and required dividends to stockholders to keep the system going. All of these other items also represent an allocation of available energy. A multiplier can theoretically adjust for all of these needs, but this multiplier tends to change over time, and it tends to differ from energy source to energy source.
The EROEI ratio is probably adequate for comparing two “like products”–say tight oil produced in North Dakota vs tight oil produced in Texas, or a ten year change in North Dakota energy ratios, but it doesn’t work well when comparing dissimilar types of energy. In particular, the model tends to be very misleading when comparing an energy source that requires subsidies to an energy source that puts off huge tax revenue to support local governments.
When there are multiple limits that are being encountered, it is the financial system that brings all of the limits together. Furthermore, it is governments that are at risk of failing, if enough surplus energy is not produced. It is very difficult to build models that cross academic areas, so we tend to find models that reflect “silo” thinking of one particular academic specialty. These models can offer some insight, but it is easy to assume that they have more predictive value than they do.
Unfortunately, the limits we are reaching seem to be financial and political in nature. If these are the real limits, we seem to be not far away from the simultaneous drop in the production of many energy products. This type of limit gives a much steeper drop off than the frequently quoted symmetric “bell curve of oil production.” The shape of the drop off corresponds to (1) the type of drop off experienced by previous civilizations when they collapsed, (2) the type of drop-off I have forecast for world energy consumption, and (3) Ugo Bardi’s Seneca cliff. The 1972 book Limits to Growth by Donella Meadows et al. says (page 125), “The behavior mode of of the system shown in figure 35 is clearly that of overshoot and collapse,” so it tends to come to the same conclusion as well.

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