Category Archives: Energy

Energy

Oil and Frexit: Two Concerns in a Complacent Environment

Energy, Europe, Global Economy, On the cover, Sin categoría

We cannot deny that we are in an environment where global growth and leading indicators show more positive prospects than expected. We have gone from fear to hope – as we explained here – and the US data once again shows strength after the declines seen before the elections. Add to that an increase in expectations of oil demand and the improvement in manufacturing index in Europe.

However, there are two risks. Inflation is mostly coming from energy import costs, and the risk of default from France is rising in the face of the threat to “leave the Euro”

The report of the IEA (International Energy Agency) published yesterday shows us positive and negative data.

Demand growth revised upwards to +1.6 mb/d

  • OPEC production is down 1 mb/d y/y
  • Non-OPEC output is down 0.4 mb/d y/y
  • OECD stocks fall at a rate of 800 kb/d in 4Q.
  • This is balanced by high absolute level of stocks.
  • and US supply growth revised up by 0.1 mbd, now forecast to grow 520 kb/d Dec ’17 vs Dec ’16

Oil demand has been revised upwards to 1.6 million barrels a day by 2017, which indicates that after years of anaemic economic growth and poor demand, it can be a signal a global of improvement. But we must be cautious, given the high level of inventories and the likely seasonal effect. At the moment, OPEC production cuts may seem like a “success”, but as it happens, US production continues to pick up. In addition, the response from consumers happens faster, with substitution and technology accelerating. The world cannot afford an oil shock because of a short-term policy of producers.

It has always been said that the world goes into crisis when the oil burden – the cost of importing oil over total GDP – exceeds 5%. It is rather the opposite, energy overpricing is triggered by the inflationary effect of stimulus policies, and overcapacity and debt remain, triggering a crisis.

At the moment the rise in oil prices comes because producers cut supply, but the impact of these incorrect decisions always generates a response from consumers that accelerates the substitution and diversification of non-cartel producers.

What is the problem? For consumer economies it will have an impact on growth. Imports soar, competitiveness is eroded… but there is some hope. Just as the 2016 oil price recovery did not reduce Spain or Europe’s growth – in fact, it was better than expected – it should not be a recession-leading factor in 2017 as prices remain low. The fact that oil is below $ 57 a barrel (Brent) and is anchored in a very narrow trading range despite the production cuts, shows us that the marklet is very well supplied.

Frexit. The biggest bankruptcy in history?

A couple of days ago, David Rachline of the National Front in France, decided to go to the manual of unicorns ‘Made In Varoufakis and Podemos‘ and state that “the debt of France is about 2 trillion euros, about 1.7 are issued under French law, which means that they can be re-denominated.” Easy, isn’t it?. Your loans in euros can be returned in French Francs … and he thinks – he says – that nothing will happen.

Nothing. Only the collapse of France’s pension and social security system, which is mostly invested in sovereign debt, the destruction of the savings of millions of citizens, and the bankruptcy domino of the French banks. Let us remember that more than 40% of France’s Government Debt is held by the French savers, pensions and institutions.

No amount of money printing would mitigate the impact of an effective default in France, and the contagion on the rest of the Eurozone.

The magic idea of ​​thinking that sinking the currency and defaulting is going to improve the economy is based on three lies:

  • That a default will not affect new credit and access to future financing. To think that they are going to default and investors will lend France more, and cheaper, is so ridiculous it can only be defended by a politician with a straight face.
  • That defaulting does not affect citizens. Not only are their savings and pensions destroyed, so are their deposits – by devaluation and the inevitable bank run -, but access to credit from SMEs and families disappears, even if they want to invent a thousand public banks printing papers.
  • That they can “contain” the brutal impact (which the National Front themselves expect) with a fictitious second currency that will be “closely pegged” to the euro while the transition takes place. A trainwreck in slow motion. It would collapse the Euro and the “closely pegged” currency as well.

If France were to carry out this atrocity, it would be the biggest credit event seen in recent history and, considering that the assets of the French banking system exceed the country’s GDP by more than three times, it would be an implosion that no serious person would think would go away printing French Francs.

Banks’ outstanding home sovereign and sub-sovereign securities represented 6.4 per cent of total assets in the EU as of February 2016, according to Standard & Poor’s… A credit event of the magnitude of France re-denominating its debt, and the subsequent contagion risk throughout the Eurozone, would lead French and European banks to collapse.

Someone should tell LePen that her plan has already been carried out. By Argentina. And its currency lost 13 zeros in 40 years.

It is terrifying to see that citizens are led to believe in these fake magical proposals to which the totalitarian populists have accustomed us. But it is even scarier to see that the European populists believe these ideas have not worked in the past because they were not implemented by them. The idea that economic imbalances caused by printing money without control is solved by printing even more money with much less control. Brilliant.

The good news is that crisis after crisis, each credit event after another, it becomes increasingly clear that the populists’ technical capacity to destroy the economy and plunge their citizens’ wealth with magical “solutions” is diminishing.

French candidates must warn of the devastating effect of these pyromaniac ideas.

It is sad to see that there is still someone out there who believes that sinking the currency and defaulting will make us richer and borrow at lower costs. It shows us that we did not explain currently our past generations that Santa Claus does not exist.

 

Daniel Lacalle is PhD in Economics and author of “Life In The Financial Markets”, “The Energy World Is Flat” (Wiley) and forthcoming “Escape from the Central Bank Trap”.

 

An Energy Plan for the US… That would be great for Europe

Energy, Global Economy, On the cover, Sin categoría

The main guidelines that the Trump team have outlined for the United States energy policy can be summarized in two words: energy independence (read ). To declare “United States energy domination” a strategic priority, both in foreign and economic policy.

The key driver is to develop $50 trillion of untapped oil, shale and natural gas reserves as well as hundreds of years of clean coal reserves. Liberalizing licensing for exploration at the national level and cutting red tape, the goal of the Administration is to achieve and maintain total independence from imports of any type of hydrocarbon. With this policy, the US could almost double its proven reserves and produce 12 million barrels a day of oil by 2020.

This policy would help slash the trade deficit, create millions of jobs and at the same time, through competition, lower household and industry energy bills, increasing competitiveness and… cutting CO2 emissions thanks to carbon capture and efficiency development.

Eliminating subsidies to renewables is part of the plan. The sector does not need them anymore, and has the opportunity to show that it is true. The US Energy Administration estimates that the cost of solar in 2046 will remain three times higher than that of coal or nuclear. These estimates are criticized and questioned by the renewable industry, and this is a unique opportunity to prove it, benefitting consumers at the same time.

Nobody in the administration will prevent the development of renewable energies, quite the contrary. Just phase out subsidies that were already being slashed. Solar energy received more subsidies since 2008 than all the other technologies combined, $ 575,875 per thousand megawatts. But solar costs have dropped dramatically in the past three years and now it can compete in the same terms with any other technology, but also without unjustified government interference in the development of other technologies.

The US will review the federal tax incentives for renewables, an incentive that already was in gradual reduction until its disappearance. And no one will be forced to install any technology by law. Renewables will continue to grow and benefit, like all others, from lower taxes and opening up regulation, facilitating developments and reducing bureaucracy. In this respect, however, there are different views in different States of the Union; In some the promotion of renewables is fundamentally a political priority.

Some media say that Trump attacks renewables. Since when facilitating competition, reducing obstacles and eliminating subsidies that the sector itself says are not needed, means “attacking”? Let us not forget that the shale revolution happened during the Obama administration… Because it worked. And that hundreds of solar companies failed… Because they didn´t.

Removing legal barriers and bureaucracy that limits exploration and development of resources, while promoting energy competition without  federal restrictions is good news for customers and industries. This will certainly help solar and wind demonstrate their potential to compete in equal terms with others,… and the beneficiary will be the consumer.

The Department of Energy (DOE) has just published a Quadrennial Energy Review (QER), which reviews in detail the power system, from generation, centralized and distributed, to the end user, including an analysis of grids, distribution, storage, cybersecurity, and new business models. The DOE proposes a series of recommendations of action for the Government at federal level.

The main conclusions point to the strategic nature of the protection and development of the value of the electrical system, through its modernization and transformation, since the most important infrastructure in the United States depends on it.

The DOE indicates that the US electric sector faces significant challenges:

An aging infrastructure – which the administration seeks to modernize via private investment and fiscal incentives -, the change in the generation mix and the growth of the intermittent generation in a country where demand has been almost flat, thanks to efficiency, despite the increase in GDP.

The energy sector reduced its CO2 emissions thanks to the winning combination of shale, natural gas and renewables, and the relevance of nuclear power, which is 60% of the emissions-free generation in the US, is critical to continue improving. Clean coal technology, added to hydro, nuclear and natural gas, will add to renewables in a cleaner environment that does not cost the consumer dearly.

Faced with the challenges of energy independence, the modernization of the electricity grid is an essential element to tackle. But rapidly lifting unnecessary regulatory barriers and lowering taxes are critical to allow hydraulic power, renewables, clean coal and nuclear to contribute to a winning mix.

The most interesting thing about these measures is that infrastructure costs will not mean higher prices for consumers or increased tariffs. Modernization and decarbonization should be promoted from improving competition and unblocking legislative obstacles.

The United States, with its energy revolution, has achieved lower costs for consumers and industries and at the same time reducing emissions more than the EU. Household and industrial electricity prices on average are less than half the European mean, and CO2 emissions have fallen more with the development of shale gas in the US than with massive subsidies to renewables in the EU. Accelerating technological competition and eliminating perverse incentives will work.

All countries in Europe could learn from this policy. Putting competitiveness and free market as an essential element for technological improvement.

 

Daniel Lacalle is PhD in Economics and author of “Life In The Financial Markets” and “The Energy World Is Flat” (Wiley)

@dlacalle_IA

Picture courtesy of Google Images

Article published in Spanish in @elespanol

OPEC-non OPEC deal. US shale wins

Energy, Global Economy, On the cover

@dlacalle_IA

Over the weekend OPEC and non-OPEC countries delivered the first coalition cut pledge in 15 years with 11 non-OPEC countries agreeing to cut output by 0.56 mbpd. This is on top of the pledge from OPEC to lower output by 1.2mbpd as well.

Russia 300k, Mexico 100k, Oman 40k, Kazakhstan 20k, Azerbaijan 35k the bulk of the cuts.

One of the big problems of this agreement is the alternative of the devil. That by which a decision is likely to have negative or very negative consequences.

The main beneficiary will be the shale in the US, immediately taking the opportunity to increase volumes. US rigcount surged 27 units to 624 on the week ending on the 9th december, up 220 since May 27 and the biggest increase since 2014.

Additionally, the image of producers acting to harm consumers will accelerate substitution -electric vehicles, efficiency measures- from importers.

Then there is the issue of compliance.

OPEC has a notorious history of non compliance with supply cuts. Members tend to cheat on quotas and, as prices rise, volumes pick up again.

But let´s remember that this “deal” comes after OPEC increased production from 30mbpd to 33.6mbpd. That is, it´s a deal to cut just a part of the increase, to 32.5mbpd.

I have been invited four times the annual meeting of OPEC in Vienna and I have seen many myths spread by the media. Let us remember for a moment why OPEC agreements do not happen easily.

  • OPEC is only 30% of global production of crude oil and liquids. Their ability to influence is declining in a global market where additional barrels come from countries where production decisions are not state orders, but business decisions of thousands of private companies -Canada, US, North Sea-.
  • OPEC countries do not value their position based on price, but on market share. For that reason, Iran or Iraq are unwilling to reduce their production until they respectively reach pre-sanctions and pre-war market share.
  • OPEC countries do not provide hard quotas. Therefore, decisions to reduce production are always left to the discretion of each country, which tends to exceed its production limit.
  • Freezing production knowing that the substitution will come -at least partially- from US barrels has zero impact on the market balance, but has a very important negative effect on producers’ image with customers.

Let us remember that the most “optimistic” see a market balance in 2H2017 after this cut pledge, so there is a strong risk that it may not happen at all.

Even after these cuts -if they happen-, oversupply in the market exceeds 500kbpd and spare capacity is higher than 2.6mbpd. Meanwhile, the IEA has revised up estimates of US production by c500kbpd. It could go as high as 1mbpd in less than a year.

Dallas Federal Reserve President Robert Kaplan estimates that US oil production has potential to top 11mbpd in less than two years and most market participants, including the IEA, see a very likely short-term increase increase to 9mbpd from current 8.6mbpd. Continental Resources CEO Harold Ramm goes as far as to say that US shale producers could increase output to 20mbpd.

This oversupply is also evident in the huge amount of oil stored on ships, already at the same levels of 2008, about eight million barrels.

 

OPEC will only succeed if demand strengthens and oil producers make it clear that they are much more flexible and competitive than other alternatives. If they fall into the trap of a pointless cut, substitution and technology will accelerate the process of stripping oil of its crown as king of primary energy sources.

 

Daniel Lacalle is an economist and author of “Life In The Financial Markets” and “The Energy World Is Flat” (Wiley)

This article was originally published in Spanish by @elespanol