HOLES IN THE IEA NET-ZERO REPORT

Øystein Noreng - Jun 07,2021

"The world does not need more oil and gas, cut exploration and development!" That is the latest message from the International Energy Agency (IEA) in its report, Net Zero by 2050: A Roadmap for the Global Energy Sector. The report has been prepared on the initiative of the UK government in preparation for the COP26 climate summit in Glasgow in November this year. The ambition is that by 2050, the world's energy consumption should be 8% lower than in 2020, with a population 2 billion larger and a world economy doubling. This proposed transformation of the global energy system raises a host of unanswered issues. Higher energy costs will fall especially hard on the poor and the developing world. Low-cost oil producers will be advantaged and possibly encouraged to increase output or prices. Most importantly, the report seems to forget the central role of China in global energy markets and the world economy.

The message of the report is for the whole world, but the IEA only represents rich countries. In 2019, the IEA member countries accounted for 17% of the world's population, 41% of energy consumption, and 59% of the world economy (measured at market currency exchange rates). The question of whether the citizens of IEA member countries use more energy due to higher productivity or whether their advance in productivity is due to better energy supply has no easy answer. In any case, the danger is that other viewpoints and concerns are not fully represented in the IEA’s net-zero road map.

The report proposes a sharply rising carbon tax intended to cause lower world market oil prices, $35 a barrel in 2030, falling to $25 by 2050. In rich Western countries, a $130 per metric ton carbon tax is proposed for 2030, rising to $250 by 2050. In other key countries, such as Brazil, India, China and South Africa, $200/ton is proposed.

The IEA’s report overlooks that energy prices are also a social problem. Energy expenditure does not rise in line with revenues. As a share of a household budget, the cost of energy decreases with rising income. The higher energy prices can lead to more efficient use in affluent groups and countries with the financial muscle to invest in new capital equipment. Poorer groups and countries are more adversely affected. They are less able to pay for new capital equipment and therefore will have to pay higher energy prices and eventually reduce overall expenditure. The risk for them is economic recession and political backlash. The mass protests in France in 2018 may be just a small foretaste of what is to come. The large scale of the carbon taxes proposed threatens the household budgets and daily life of the majority. The IEA has a double intention: to punish fossil fuels and provide incentives for alternatives. The need for heavy-handed intervention on both demand and supply suggests that alternatives to oil and gas are not readily available at acceptable costs and in quantities needed.

The German government in January of 2021 imposed a carbon tax of €25/ton on coal, oil and natural gas, raising energy costs to businesses and households. The IEA wants the tax to rise more than four times by 2030, and then again to almost double that level to 2050. This proposed high carbon tax indicates that the IEA assumes alternatives are far away and at a high cost. It would be more honest to say so explicitly.

Demand for oil could prove difficult to stave off, and the IEA report may be more focused on curbing oil supply. The rationale for comprehensive and costly measures in the report refers to the 2015 Paris Agreement and the developing countries' commitments to energy-saving measures after 2030. It omits mentioning the significant financial compensation promised in return in the Paris accord. By leaving out this financial compensation, the IEA report tends to invalidate the proposed obligations it seeks to impose.

Oil Market Consequences

The carbon tax is an intermediary cost item that will make oil and gas more expensive to consumers and less profitable to extract. Insofar as the tax accrues to consumer countries, it involves a transfer of income from oil and gas producers to consumers.

In any case, the projected oil market prices may be too high to deter oil output, given the present overhang of spare capacity. The oil industry might be able to adapt to low prices and continue to deliver large volumes. Low oil prices could also give low-cost oil producers incentives to increase export volumes to meet their revenue targets. Another possibility is that a higher carbon tax in key consumer countries would be met with higher oil prices from Opec members and Russia, especially if oil activities in the OECD area are shut down. In that case, Europe would suffer especially hard.

The report apparently ignores the structural change in the world oil market from one centered on Saudi Arabia as the major supplier and the US as the major buyer to one dominated by China, the largest energy market and importer. Among oil exporters, Saudi Arabia still leads along with Russia and Iraq, and potentially also Iran and Venezuela. None of these countries has an interest in following the IEA’s road map.

Policy measures like those proposed in the IEA report are likely to foster closer ties with China among major oil exporters, whether in Africa, Latin America, the Middle East or Russia. China has for many years built commercial positions in oil-exporting countries through both investment and trade, using its national oil companies, which have become world champions, outsizing European and US oil companies. The IEA report contains measures likely to propel leading oil exporters into China’s arms, supporting oil trading on the Shanghai International Energy Exchange and pricing of oil in Chinese yuan at the expense of US dollar oil trading. Oil is still the world’s most traded commodity, underpinning the US dollar as the world currency. Therefore, the IEA’s proposals potentially weaken the current US dollar-based monetary order to the benefit of the yuan.

The objective of the IEA road map is a comprehensive change in the world's use of energy, with rapid electrification of the world economy and a comprehensive reduction in the use of oil, gas and coal. Politicians are supposed to force users to switch to electricity and to use less energy. Investment in the energy sector would multiply. Electricity and fuel prices should skyrocket, perhaps quadrupling. The argument is that the world should get richer by using less and far more expensive energy. The concept is for 8 million workers in renewable energy to replace 1 million jobs in the oil and gas industry. According to the IEA, human labor should replace energy from nature. This is a reversal of hundreds of years of history as humans have increasingly used nature's energy to free themselves from toil, not just in manual tasks.

The Politics of Climate

The report reads like a consulting study commissioned by the UK government. The style is more reminiscent of UK Prime Minister Boris Johnson than of the balanced and sober tone of previous IEA reports. The argumentation is in line with the British government’s The Ten Point Plan for a Green Industrial Revolution, and the supporting Energy White Paper: Powering Our Net Zero Future, published late last year. Both documents highlight the growth of "green" jobs, with climate policy becoming partly a labor market initiative. These UK government documents do not refer to the balanced discussion in the scientific core documents of the Intergovernmental Panel on Climate Change (IPCC), but to political summaries and occasional events to dramatize the climate challenge. There is reason to question the IEA report’s political purpose.

The scientific basic texts of the IPCC are not mentioned, they highlight the uncertainty and our continued incomplete insight into the driving forces of the climate. The IPCC scientific texts refer to man-made global warming as a risk -- not as a fact. From this perspective, the IEA net-zero report seems an inappropriate politicization of the IEA that undermines its professional integrity. Have enthusiastic technologists won over sober economists?

In a wider view, the IEA net-zero report seems to confirm the dissipation of power and influence away from the West, whose smaller share of the world’s population still uses a large share of the world’s resources. The recent fortunes of Royal Dutch Shell in the Netherlands, BP in the UK and Exxon Mobil in the US signal serious problems for oil companies on the home front. Sinopec, China National Offshore Oil Corp., Saudi Aramco, Gazprom and Rosneft do not meet similar obstacles in their home countries. Shell will now be held responsible for collective customer behavior in emitting carbon dioxide -- something that is legal for the individual customer. What’s next, liability for traffic accidents due to Shell customers’ driving habits?

What's more, the signals from the IEA are inconsistent. At the same time as the net-zero report was launched, the IEA's monthly report on the oil market expressed concern about shortages and price increases for oil. But according to the net-zero road map, the deceleration in oil use should begin immediately. Does the IEA think that oil prices are too high or too low? Does the IEA think that there is too much or too little oil in the market? Or does the IEA practice double-speak?

Øystein Noreng is professor emeritus in Petroleum Economics and Management at BI Norwegian Business School in Oslo, Norway.

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