Liberal markets create an addiction to gas - the Oil Drum in the Financial Times

I am pleased to inform you that the Financial Times is publishing, in its edtion dated 1 February, an article by the Editor of the European Tribune and Contributing Editor to the Oil Drum which covers a number of topics that we've discussed here before. Its conclusion:

Taking into account pollution, carbon emissions and the expected depletion of resources, moving away from burning hydrocarbons should be an overriding long-term goal. A sane energy policy should focus, as a priority, on reducing our electricity demand via conservation and energy efficiency and on switching to capital-intensive, locally built, renewable energy sources. That will require thinking again about how we finance the sector.

Energy market deregulation is incompatible with the fight against global warming – markets like to finance gas plants – and with security of supply when exporters will not play by our rules. There is no reason to expect them to do so at a time of increasing tightness in energy markets. We have solutions available, if we act on demand reduction and promotion of renewable energy. Sadly, we seem to be doing the exact opposite.

With their kind permission, I am copying the article in full herebelow.

Liberal markets create an addiction to gas

By Jerome Guillet

Energy has become a hot political topic in Europe. Oil price volatility, cross-border mergers and concern about global warming and the security of future oil supplies have conspired to keep the issue in the headlines. Added to this have been fears that the Kremlin will use our increasing dependence on Russian gas as a geopolitical weapon, and the European Commission’s plan to tackle climate change while pushing on with energy market liberalisation.

In all this some basic realities of energy markets seem to be have been forgotten, in particular the growing connection between electricity and gas markets. Electricity market liberalisation has meant that wholesale prices are no longer set by regulated utilities on the basis of production costs, but by supply and demand.

Electricity demand is inflexible – users, except for some industrial consumers, turn on the switch whenever they need electricity. They do not do so on the basis of price. In a market situation, this inflexibility leads to the price’s being set by the production cost of the most expensive power plant needed at a given moment. This is the marginal price, and it is usually higher than the average production cost of available capacity.

Gas-fired power plants provide technical flexibility, thanks to the speed at which they can vary their output. They are also cleaner and emit less carbon than coal-fired plants. This has helped make gas the fuel of choice for electricity generation during the past 15 years. With their ubiquity and rapid response to demand peaks, gas-fired plants are almost always the market’s marginal cost plants, and thus set the electricity price – creating a direct link between gas prices and electricity prices.

Low gas prices during the 1990s created the illusion that marginal prices were almost as low as the price of base load electricity (production from coal-fired, nuclear or hydro power plants, which is needed all the time and is usually cheaper). That is no longer the case. Gas prices – which, in Europe, still largely follow oil prices – have increased sharply and drawn wholesale electricity prices up with them. Retail prices have followed.

Politicians who pushed for deregulation never described marginal pricing to consumers and now have to explain why liberalisation is not bringing prices down as promised. Rather than face the music, they blame price rises on insufficient liberalisation or “uppity” suppliers such as Russia.

But the fundamental reason gas-fired plants have been favoured in today’s liberalised environment is their lower financing costs. Some technologies have lower investment costs and higher fuel costs (gas); some have higher investment costs and lower operating and fuel costs (nuclear and wind). Deregulation and competition rules put the burden of funding investment on financial markets instead of the public purse. This makes financing costs higher than for public utilities that could rely on state guarantees and thus borrow at lower rates.

The increase in financing costs favours technologies with lower initial investment costs – that is, gas and, to a lesser extent, coal-fired plants. Thus liberalisation increases the European Union’s demand for gas and its dependence on imported gas at a time when domestic supplies are declining.

Worrying about Russia controlling our supplies while de facto encouraging investment in gas-fired power plants appears silly. If we are so concerned about our dependence on energy imports, why do we not focus our policies on what we actually control – our demand – instead of concentrating only on the supply side?

Taking into account pollution, carbon emissions and the expected depletion of resources, moving away from burning hydrocarbons should be an overriding long-term goal. A sane energy policy should focus, as a priority, on reducing our electricity demand via conservation and energy efficiency and on switching to capital-intensive, locally built, renewable energy sources. That will require thinking again about how we finance the sector.

Energy market deregulation is incompatible with the fight against global warming – markets like to finance gas plants – and with security of supply when exporters will not play by our rules. There is no reason to expect them to do so at a time of increasing tightness in energy markets. We have solutions available, if we act on demand reduction and promotion of renewable energy. Sadly, we seem to be doing the exact opposite.

The writer, an investment banker for the energy sector, is the editor of European Tribune and a contributing editor to The Oil Drum

There's always a catch; cheap capital cost, quick peakload response, traditionally low fuel price but not future prices. I'm surprised that anybody is building new gas plant be it generators, food processors or heavy industry.

A couple of other things I've noticed living Down Under. First gas earmarked for the Southern Hemisphere is going north; this week the underwater pipeline from Papua New Guinea (PNG) to Australia was cancelled. That was supposed to also pickup coalbed methane overland on its way to depleted gas fields down south. I guess Japan etc will now get 'LNG from PNG'. Second I think there will be an enormous switch to compressed natural gas (CNG) in lieu of diesel as a truck fuel. That means less gas for other users.

Lastly it would be great if renewable energy storage reduced the need for gas peak power. Even without technological breakthroughs a rising gas price could encourage this.

I've been wondering recently what the technical limitations are on running a NG plant on pure Hydrogen. Assuming there was no problem with creating hydrogen, is there any reason why such a set up couldn't work?

H, you tripped over on your first assumption, how to create enough H2 to substitute for our fossil fuels without making climate change worse- any ideas?

'Assuming there was no problem with creating hydrogen' isn't necessarily a good start - especially as the method most likely to generate the required quantities is electrolysis, which means that there is no broad reason to generate hydrogen to generate electricity - the electricity has already been generated. (Load balancing of some variety, transport from/to the generation site, etc. - both conceivable niche uses of electrically generated hydrogen.)

This is the essential misunderstanding of hydrogen - it is not an energy source itself, though it plays one on TV.

The other problem is that hydrogen has other characteristics than natural gas. When you read about the problems facing natural gas distributors when using a different 'formulation,' (more/less methane, butane, propane etc) with different burn values, and then add the fact that the smallest element is quite tricky to keep contained, hydrogen as a substitute isn't very realistic.

Efficiency, and being able to understand what that means, will be a major challenge facing various societies/economies after peak. Trains are not merely energy efficient in operation - the train cars can easily last a generation or more with fairly minor maintenance, as can the rail bed, though with more maintenance. The same is most certainly not true of trucks or the roads they use.

Trying to find ways to keep living as we do today is pretty much doomed to failure, if not through peak oil, then through global warming. Note - I am mainly talking about American assumptions - a German town with its local farm fields and orchards, local trains feeding into the high speed ICE train network, local forest, installed PV and solar heating systems, etc. could actually maintain some balance past peak oil - as the Germans have already constructed these things today. Apart from BMW, there is no attempt to introduce hydrogen fueled vehicles here - though fuel cells are another matter, which generally shouldn't be classified as hydrogen fueled. Using something like natural gas or methanol as the hydrogen source certainly means that hydrogen is being used, just not in its elemental form.

Thanks, expat. A welcome summary. And, of course, much appreciation to Jerome. I'm looking forward to "Part 2".

I think you misunderstand what I am trying to get at. Let me be a little more elaborate on what I was thinking. Contrary to what many might say, there is more then enough uranium and thorium to allow us to produce most if not all of our electricity via nuclear fission. The current breakdown in energy generation in the US is:

18% Nuclear
15% Hydro
2% Wind and Solar
5% Oil
14% Natural GAs
46% Coal

From my understanding, Coal and Nuclear are considered 'base load' energy producers, as they can not be turned off and on quickly enough to meet rising and falling energy demand. Instead we use oil, gas and hydro with a dash of renewable energy generation to meet peak load.

As per these limitations, its hard to have more then 50% nuclear energy generation unless you have a viable way to either store the energy, or export the energy to other countries. France does the latter, but no one does the former.

Hydrogen of course is extremely difficult to store for long durations, and very difficult to transport from one location to another for on site use, such as in transportation. But it seems to me that people have largely ignored one option.

What I'm suggesting, or at least asking questions about, is what is preventing the US, aside from political opposition, from increasing our nuclear energy generation ratio to around 60%, and using the excessive energy generation for hydrogen production from electrolysis. The hydrogen could be stored in large containers at night time when not needed, and used in hydrogen fired power plants during the day to meet peak load, as opposed to using NG.

Any excessive hydrogen generation could be processed into ammonia for fertilizers and for upgrading very heavy hydrocarbon deposits for limited oil use in earth moving equipment or transportation. Granted, such a schemed would reduce the already extremely high EROEI of nuclear from 100+ to 1 to perhaps 33% less, as energy is obviously lost in creating and storing hydrogen than can be produced by using hydrogen in a gas fired plant.

The benefits of such a setup are numerous:

1. As I already mentioned, the hydrogen can be used for a variety of critical fields.
2. We would not require a complete retooling of our infastructure to store energy, unlike other proposals to have giant molten salt flats or huge caverns of latent wind energy, or even pumped water storage in a mountain hold.
3. It would replace most, if not all of our electrical carbon pollution in the long term.
4. We could build both nuclear and hydrogen fired gas plants at the same site, eliminating much of the transportation costs.

Assuming such a plan were put into place, I could easily see a setup like this:

60% Nuclear
15% Hydro
25% Hydrogen Gas
+10% Hydrogen 'storage' and 'upgrading'

In short, to me it seems to be a win-win situation for all. But that brings me back to my original question:

Assuming this setup in which hydrogen generation is obviously not a problem, what are the technical limitations to using hydrogen instead of natural gas in a gas fired power plant?


Interesting thoughts, H2 was put forward as an energy vector back in the 1960s exactly as a way to use nuclear energy in transportation. The major problem with this is the energy loss in generating H2 from hydrolysis: up to 75%. That would easily bring the whole process to negative net energy.

Another way of generating hydrogen is with Coal gasification. Check out this comment thread on that. But then I think we will use directly the Town Gas and forget about hydrogen.

Thank you for the kind words.

I don't see hydrogen used for transportation in anything but mass transit. Hydrogen, even when pressurized, takes up far to much area to be practically used in a passenger car. Buses on the other hand are more then large enough for hydrogen fuel cell setups.

That being said, in this setup, Hydrogen will not be directly used for transportation. Its only uses are for a hydrogen gas fired power plant for peak energy output, the creation of ammonia fertilizers and the upgrading of very heavy hydrocarbons that currently use NG to enhance them.

And as I already mentioned, using hydrogen in this manner virtually eliminates the carbon emissions associated with energy production.

But as I said, can you burn hydrogen in power plants in place of NG?

Hothgor, Yes you can burn hydrogen to make electricity in turbines or ICE's. Combined cycle would probably get you up to 55% efficiency. But clean Hydrogen from electrolysis, as you suggest from nuclear plants, would be best used in fuel cells with higher efficiencies. The waste heat could drive the Haber Bosch process to make ammonia, which by the way is a very effective scrubber of fossil fuel exhaust from generating plants or cars.

The only fuel cell that I know of that doesn't use a platinum catalyst uses a sodium borohydride solution. All other fuel cells are grossly expensive and will never be adopted in any transportation vehicle outside of mass transit. I already mentioned the ammonia creation as a by product of this process, and we won't need the hydrogen to scrub fossil fuel exhaust if we adopted this scheme.

The major problem with this is the energy loss in generating H2 from hydrolysis: up to 75%.

Yeah, massive exergy losses when you are dumb about it. Why on earth would you do hydrogen generation like that. Use high temperature electrolysis or thermochemical methods and your efficiency is nearly the same as generating electricity.

That would easily bring the whole process to negative net energy.

Argh! They're all negative net because they're conversion processes. If they were positive net energy you would have a perpetual motion machine of the first kind!

60% nuclear in the US would be about 240 new reactors

(I am assuming that the existing 84 are replaced by larger reactors, and these 240 'Generation 3' reactors would account for both the replacement, and the increase in the total electricity market)

The cost of this would be on the order of $600bn- 1 trillion.

It's very uneconomic to build nukes above baseload, because you wind up giving power away for free-- a problem with any energy system with high fixed cost operators. Baseload is typically about 40% of peak load, I believe.

Somewhere the US would have to find 60 or so new or existing sites to put those reactors on. And deal with all the local issues that raised , and the anti-terrorism issues.

In addition, the financial market has made it clear it will not finance new nukes without government subsidy. The level of subsidy would be very large. And of course the nuclear waste disposal situation remains unresolved (I think we can safely say it will not be Mt. Yucca, Nevada!).

Finally without a carbon tax, you wouldn't do it. You would build coal fired stations. Far cheaper to build, far lower risk. Global warming is a myth, ain't it? A conspiracy by scientists ;-).

I think if you had a decent carbon tax, at about the level ($100/tonne or $28/tonne of CO2) that triggers entry of carbon capture and storage technology, and mass wind power, and CHP and even solar, then nuclear has a role to play. I suspect around 20% of US total supply. Wind would easily be another 20% in that scenario, coupled with fuel cells, even more.

the likely source of hydrogen for the foreseeable future is coal: streaming the H2 off the gasifier step of an Integrated Gasified Combined Cycle (IGCC)-- this is what the FutureGen project is meant to do.

"The cost of this would be on the order of $600bn- 1 trillion."
For the US, this kind of thing is doable - think of it as $100bn/year for 15 years (expecting cost overruns) - about the same annual cost (and possibly duration) as the Iraq war - without dipping into the general defense fund. Now if I could tell you how to make it politically possible.....

It doesn't seem like we have much of a choice on the matter. Wind and Solar are even harder to balance, and without dramatic over investment, are unlikely to make up more then 10-15% of our energy needs each. Not only that, but for wind, we would have to build over 1.2 TWh of maximum capacity just to get our 40% base load on average. How much would it cost to produce that many wind turbines? I bet is significantly higher then your $600 billion to $1 trillion figure. Not only that, but the infrastructure would have to be completely retooled to allow those setups. You would have to construct massive storage facilities. With the N/H setup, you would only need some large tanks on site that are then used in hydrogen gas power plants. I bet you would end up SAVING a lot of money this way, most likely far more then the cost of all those nuclear power plants themselves.

And as you said, the obvious way to make such a scheme plausible and economical to do is to have a carbon tax. At which point, its way more profitable to simply create hydrogen via electrolysis's then it is to burn coal plants on standby as it a current common practice. I think you are underestimating the nuclear industry. This year, we are going to have dozens of new plant applications, especially on the west coast thanks to California's recent law that requires out of state electricity to come from clean sources.

Lastly, the problem with nuclear waste storage is grossly over-exaggerated. Many environmental and coal lobbying groups have made a far larger issue out of nuclear waste storage then it actually is. Over the lifetime of a nuclear plant, 97% of the uranium used can be reprocessed for use in other plants. Effectively, we're talking about a few tons of 'waste' from each nuclear plant over the course of 30-40 years. I'm sure you have probably noticed that France does not seem to have any kind of problem with their nuclear waste management.

On wind, please read this: No technical limitation to wind powerpenetration

One of the main arguments against wind power is that it is intermittent and thus unreliable because not always available when needed. A corollary is that it is usually stated (and I've used these numbers myself in earlier diaries) that wind power will not be able to provide more than 20% of power - or that beyond that number, its costs rise significantly.

Well, the National Grid, the entity which manages the electrical grid in the UK, is providing some interesting commentary in a special report about the long term outlook of their job, as posted here: National Grid 2006 Great Britain Seven Year Statement.

The output of some renewable technologies, such as wind, wave, solar and even some CHP, is naturally subject to fluctuation and, for some renewable technologies, unpredictability relative to the more traditional generation technologies. Based on recent analyses of the incidence and variation of wind speed, the expected intermittency of the national wind portfolio would not appear to pose a technical ceiling on the amount of wind generation that may be accommodated and adequately managed.

There's more discussion in that thread of what the cost of that wind capacity would be, including the needed backup capacity, and it's quite low.

On coal.

It is not 'fast dispatch' ie you can't bring it online in seconds (a la gas and oil fired turbines). In practice it takes hours to get the boilers warmed up and the turbines spinning, and it is expensive to do that if you are not immediately generating power ie if you are holding them on standbye.

Some utilities do keep them running in standbye mode, but it is an expensive way to go.

However it is typical 'mid merit' power, ie above baseload, and below the peak of the day power.

Since power demand is normally quite predictable, and mostly based on the average temperature and time of day*, you can schedule in coal fired power for everything but your power spikes.

Wind and nuclear are not dispatchable.

* on the UK power curve, you can see the 8am spike, as offices start up, and also you can see the major sporting or TV events: spike at Eastenders, at broadcast of Man United games, etc.

It's why I think active demand management is a key in the future to controlling CO2 emissions. If the utility has the capability to shut off big commercial AC customers, domestic washers and dryers etc. for say 30 minutes at a time, then it adds huge flexibility to the power system and can change the dispatch mix and hence the CO2 output.

Last night there was a five-minute "turn off your lights to save the planet" viral initiative in France. There was hysterics beforehand from the electricity distributor, claiming that it would cause pollution because the big spike when the lights came back on would require firing up the diesel generators... I can't see why it wouldn't have been handled purely by hydro. I haven't seen a wash-up yet.

Balancing electrical supply/demand on a realtime basis is not easy. A sudden drop or rise in demand causes severe stress on the system, and yes, it is balanced by fossil fuel plants.

Demand dropped by about 800 MW, or around 3%.

This is why we need a large part of the vehicle fleet to be V2G-capable PHEV's.  With enough of them plugged in, they replace all your spinning-reserve requirements and buffer all the little differences between instantaneous supply and demand.  You get to balance them over minutes and hours, not half-seconds.

With electrolysis at 70% and CCNG at 55% the roundtrip efficiency of the process would be 38.5%. This means that 61.5% of nuke electricity would be lost, and assuming it costs 5c/kwth to produce nuclear electricity, the peaking electricity would cost 13c/kwth just for the hydrogen fuel. The NG power plant and the electrolysis plant capital costs and maintainance will be extra.

I can WAG that NG prices will have to quadruple before fuel costs reach to 13c for this to become competitive, but of course I can not rule that out in the longer run.

There is a more economic alternative though - instead of doing nuclear - steam - electricity - hydrogen cycle (heat to hydrogen efficiency ~28%)we could use dedicated nukes to produce high temperature steam in high temperature electrolisys which is also more efficient. If its efficiency is 75% then the cost of hydrogen will be 2.67 times less to 4.9 c/kwth.

However nuclear stations producing directly hydrogen are still in the research phase, and I also doubt that the 75% efficiency is achievable... if they ever take off with 50% efficiency, this will make them hardly competitive with hydrogen fuel costing 7.3 c/kwth.

Overall nuclear is still far from the point it is going to be able and competitive to meet peaking electicity. My suggestion would rather be to replace all coal power plants with nuclear - thus meeting baseload demand. The coal released can be be utilised in IGCC power plants, which are also good in meating peak demand and have the option of sequestering CO2.

My best case energy mix for US is 60% baseload nuclear, 15% hydro, 10% NG, 10% IGCC (all peaking), 5% wind for saving fuel and water. In the longer run wind can grow to 10-15% with additional infrastructure in place and IGCC will grow at the expense of NG.

I've been wondering recently what the technical limitations are on running a NG plant on pure Hydrogen. Assuming there was no problem with creating hydrogen, is there any reason why such a set up couldn't work?

I haven't seen anybody respond to your original question yet, so here we go.

Basically a gas turbine can run on any type of fuel, from heavy distillate oil to natural gas. Hydrogen however, is a bit of a challenge:

1. The hydrogen fuel must be diluted with steam or nitrogen to limit the amount of NOx in the exhaust (natural gas is diluted with air for the same purpose).

2. The turbine-blades need extra cooling because of the high temperature and high amount of steam.

3. Because of 1 and 2, the flow rate and pressure ratio change. You basically need to rebuild/optimize the turbine for hydrogen fuel.

Google turns up this article which adresses the hydrogen as fuel issues. (It should be available via a university/college library, which is how I accessed it).

Same thing happening in New Zealand. The government has opened up the great southern basin for oil and gas production. (The oil was proven to be there in the 1980s but at the time not worth dodging icebergs, mountainous seas and frequent gales to produce it.) Since the fields are too far offshore for pipelines, the oil is going to end up on tankers, and the tankers won't be coming here.

when you say "going north" do you mean it is literally going to be transported north ? or is that a play on the term here in the northern hemisphere for "going south" (going downhill) ?

Oz will live off coal, until and unwhen the world gets serious about CO2 emissions.

Your gas is really too valuable on world LNG markets to use it internally for power generation (except CHP and peaking power).

Nuclear is a possibility but I am sceptical of the subsidy levels necessary. An additional point is that you need cooling water, and given where you are on a drought, that means you have to put the stations on a sea coast. Bondi Beach, anyone?

(the heat waves in France killed power production because the water levels got too low on a lot of lakes and rivers).

would it be fair to say that the same type of market force that opperate on gas/electrical generation also opperate on oil/transport? and if so wouldn't the same conclusions apply?

Slightly different.

Most of the world's gas comes via pipeline, so the 'spot' market is far less important.

LNG is 8% of the world's gas, I think. Even if that doubles to 15% as it probably will in the next 10-15 years, it's still not the majority of the gas out there.

Also there is no gas producer cartel, whereas OPEC has Saudi Arabia, which serves as the 'swing' producer, increasing production to lower prices, and cutting it to raise prices (yes TOD readers understand why this may be coming to an end).

By contrast, even with LNG, there is a 'supply chain' between producer, transporter, and consumer, which is much more integrated and long term. Everyone is making huge capital commitments to get the chain up and running. Even LNG is mostly on long term contract, I believe, there is a very limited 'spot' market, and the price paid by most consumers is not the 'spot' price. This is completely different from oil.

In electricity generation there are substitutes for gas. UK coal consumption has gone up sharply, due to the gas price rise last winter.

If anything restarts Europe's nuclear ambitions it will have been that spat between Gazprom and the Ukraine government last winter-- scared the willies out of any number of European politicians.

thanks to both people who replied - I've only been following 'peak oil' and the oil drum for about 6 months and know there are still quite a few complexities to the energy market i don't understand yet.

Not really: gas is really an infrastructure business, with most costs upfront. Oil is easier to break into smaller bits that allow you to go round the problem (you do not need the whole chain to be in place to sell oil that you produce, or to find supplies you need). Gas is significantly more integrated from upstream to downstream.


Does "in particular the growing connection between electricity and gas markets" mean that you believe the logical opposite - that the linkage between oil pricing and gas pricing is breaking. Or more subtly that gas/electricity pricing is driving oil rather than oil being the driving price for gas.

Good article btw.

- the use of gas in electricity generation means the 2 markets are linked in a way they never were previously

This is particularly true in Italy and the UK where gas is an ever increasing fraction of total electricity production.

I think that is what he means.

As for oil and gas markets, it looks to me, as an outsider, that the price of natural gas and the price of oil correlate quite closely. This despite them being very different markets, with different suppliers, with long term 'captive' relationships between supplier and consumer in the case of gas.

There is limited substitutability between the two (primarily in the petrochemical sector, also to some extent in power generation and industrial power applications). At the margin, I don't think it is possible to trade off more than 10% of oil consumption against natural gas, say.

Yet the market price of gas seems to follow the market price of oil, with something of a time lag.

I think part of what is going on is there are long term supply contracts for gas, but these are at 'indexed' prices, which over time are adjusted to reflect the price of oil, or the current market prices for gas.

Therefore, where as in the case of oil probably close to 100% of consumers are paying the market price (WTI or Brent, etc. +/- transport costs and adjustments for grade), in the case of gas this could be much less than 50% of market participants.


The correlation between oil and gas pricing is well documented - I have a couple of up-to-date graphs for UK and US. Most long-term contracts have been historically tied to the oil price.

I am interested to see if oil and gas pricing diverges over the next few years as the uses diverge.


The correlation between oil and gas pricing is well documented - I have a couple of up-to-date graphs for UK and US. If someone tells me how I can upload I will do so. Most long-term contracts have been historically tied to the oil price.

I am interested to see if oil and gas pricing diverges over the next few years as the uses diverge.

you believe the logical opposite - that the linkage between oil pricing and gas pricing is breaking. Or more subtly that gas/electricity pricing is driving oil rather than oil being the driving price for gas.

In the case of Europe, we clearly see oil prices driving gas prices and thus electricity prices (and thus EDF shares have become the ultimate way to profit form higher oil prices...)

in the US, gas prices are mostly independent from oil, and are driven by the North American gas balance (LNG is to small to fully arbitrage price differences with Europe).

Natural gas prices and oil prices are not linked in the US directly. Natural gas prices in the US (I am not as familiar with Europe) -- are significantly more volitile than oil prices -- and are driven by the rigid structure of the industry. Rapid declines in natural gas prices after a warm winter are caused by storage tariffs requiring witdrawals in inventory, causing storage gas to be emptied into a market that doesn't need it.

Rapid increases in price are caused by a lack of capacity and storage to fully supply a market under high demand conditions.

In the past the extremes in the natural gas industry were not as pronounced, -- as the US has added a significant amount of natural gas fired power plants without a corrisponding increase in storage since 2001 (natural gas storage capactiy has actually declined slightly) -- leading in my opinion to the illusion that natural gas prices and oil prices were linked (linked meaning the drivers of price between the two are the same) but this is not fundamentally the case -- obviously the US recieves a world price for oil while the natural gas prices are determined by domestic considerations.

Going forward, the introduction of more LNG will likely -- in my opinion (which is different from many industry observers) mean even more volitility in natural gas pricing. LNG will face similar issues as existing natural gas storage in that it is expensive to store, and if existing LNG terminal storage holders are full after a peak season, then they will have to dump their product into a market along with traditional natural gas storage. Meaning price collapses will be even more pronouced. There will be more variability/uncertainty in natural gas supply as well, based on the highly uncertain future of LNG supply.

Jérôme, congratulations for his recognition at such level, you surely deserve it.

Wow Jerome, you have synthesised very succinctly the insanity of the EU energy policy, I have been trying to put my finger on that for a while...

French domestic consumers are, of course, soon to be cut loose from fixed electricity prices. Nobody understands yet what is going to hit us.

Economists talk about 'menu costs' which are the costs that consumers face gathering information and making decisions.

I have seen this again and again with telecom deregulation, broadband, mobile phones etc.

It's not possible for the average consumer to consider more than about 3 options. The cost, uncertainty, and agony of getting it wrong just causes most consumers to throw up their hands.

I have heard so many horror stories about switching gas and electricity suppliers that I am still with my (high cost) original suppliers.

When you get to the level of something that is a basic necessity (light and heat) what the consumer wants is a reasonable cost service that he or she understands, that is totally reliable (reliable in the sense of not a lot of price volatility, as well as constancy of service).

The optimal way to benefit the French consumer is to look at EDF's cost base, say, "right you will cut that by 3% pa, down to a 20% total cut", and pass 80% of that through to the consumer. Let management and the unions sort out how.

In the case of an energy security cost, eg to build new nuclear power plants, you explicitly break that out as a charge on each customer's bill.

Anyone who thinks that nuclear power is the answer to our energy
problems should take the time to read the UN report (published about
a decade ago) on the problems we are facing in dealing with the disposal of high level radioactive waste.
Absolutely horrendous, and this is with so called advanced countries
such as the USA and members of the EU.
Heaven help the environment when third world countries turn to nuclear
power on a large scale.
In the early 1970's my wife worked in the main UK environmental agency
(she was P.A. to the chairman who had previously been B.P.'s chief
geologist and director of exploration, and my own interest in oil
depletion dates to that time), and all the problems that the world
is now facing were forecast at that time, but of course nothing has
been done.
I have been most interested in reading the comments on this site,and
feel that West Texas is almost certainly right about the depletion in
Saudi Arabia. During my banking career (now retired) I had very many
clients from the Middle East, and would say that their culture leads
them to consider it polite to only tell you what you want to hear,
(I remember that an Israeli diplomat said something similar a year or
so ago and upset the PC crowd).
Regarding reducing oil exports from the main producers, Colin Campbell
predicted some years back that increasing amounts of oil would be
retained for use by their own burgeoning populations.
Both Hothgar and Freddy bring additional breadth to the debate and
should be welcomed for this, and with Hothgar I am pleased to find a
fellow railway enthusiast.

That's a nicely perfect description of the Middle East.

It's almost impossible in an Arab country to be blunt with someone or tell them directly what you think they don't want to hear. To an Arab that would be like spitting on your sister or walking in dog dirt and then striding around your house. Even in Turkey the situation is similar.

(Israel is much more of a frontier, American-style culture and is quite different)

The former Saudi Ambassador to Washington got fired for publicly warning the US (in an op ed) that if the US sided with the Shia in Iraq, KSA would help the Sunnis. Yet everyone with 2 brain cells knows that is what would happen.

Trains unfortunately won't save the UK. I recommend Christian Wolmar's books for an up to date tale of how successive UK governments, Tory and then Labour, have conspired to destroy the UK train system.

As Margaret Thatcher allegedly said, anyone over 25 who takes a bus is one of life's losers. (no one can prove she said that).

(I am warming to Mrs. T., she was the first world leader to sound the alarm on global warming).

Anyone who thinks that nuclear power is the answer to our energy
problems should take the time to read the UN report (published about
a decade ago) on the problems we are facing in dealing with the disposal of high level radioactive waste.

Mr T. Would you happen to have a link to this report? I would be very interested in reading it.

Adding to what Jerome wrote.

In economic theory, if your suppliers (be it pipelines, or Gazprom) are oligopolistic or monopolistic (monopsony)


the optimal welfare maximising industry structure for you may not be free competition.

You need to have market power and vertical integration yourself to get the best prices. Otherwise the monopoly profit just piles up with the original supplier, or the pipeline owner.

This is what John Kenneth Galbraith pointed out in his most famous book 'The New Industrial State'.

It has since been validated by any number of economic theorists. It is also why most industries consolidate over time: hence the 7 Sisters of Oil, the 4 UK supermarket chains, WalMart etc. GE makes it an explicit objective of corporate strategy: to exit any industry where it is not in the top 2 players.

The US preaches free markets, but in fact many of its strategic industries (aerospace, defence, utilities etc.) are anything but. They are powerful little oligopolies.

This is why the UK, with the most deregulated energy supply market in Europe, is being scrawed by the Continental suppliers. The result is the UK consumer, and UK industry, are losers.

And of course our energy security has gone to heck in a handbasket. No deregulated market is going to easily build very long term, high financial risk assets like offshore wind power stations or nuclear stations-- as Jerome so wisely points out.

You definitely have a point here. At this moment, the single most important factor behind mergers and acquisitions in the energy sector is the wish to create more monopsony power in markets for inputs like coal and gas. Something else that creates value for energy service providers is vertical integration, because it reduces the need to buy the electricity that is sold to end-customers from competing energy service providers.

In the near future German company E.ON will almost certainly take over Spanish Endesa. This will make E.ON the largest European energy service provider. At this moment EDF is still slightly larger in terms of market share.
In my own country, the Netherlands, there will be a merger between the first and second largest energy service providers Essent and Nuon. This merger was announced two days ago. The CEO's of both companies told on national television that the creation of extra monopsony power in input markets was the most important reason for the merger.

With renewable energy this problem does not exist, because there are no natural resources that have to be bought before electricity can be generated. The problem is that these technologies are often very capital intensive and not yet fully developed to be able to compete with current fossil fuel based technologies. This is were national governments and the EU have to step in. They should increase their subsidies on the development and production of different alternative energy sources, so that a level playing field between different technologies is created. A higher carbon tax and a better system for trade in CO2-emission rights would also help to create this level playing field. Finally, in my opinion, it's very important that one Pan-European energy network is created. This would make countries less dependent on their own generation facilities only. Grid systems should also create space for decentralised generation of electricity. I believe that this would make the entire energy system much more flexible and reliable.

(deleted due to double post, sorry)

Very good Jerome, and congrats!

The electricity board (Geneva, Switzerland) has set an ambitious target for reducing electricity use: Cap 1990! - that is not its real name, the idea is Go for 1990 - return to the 1990 consumption level.

They will spend some 12 million francs on the campaign. And wish to build two gas-fired plants, these would be only the second and third in the country.

No surprise, the reasons are ‘economic’ and ‘the energy mix.’

Overviews from official organisms in French:
link, link

An excellent editorial, Jerome.

Generally speaking, liberalized markets will never help us make the required energy transition and manage demand. This must be done through policy (laws) & incentives coming from governments. It is a cherished myth that the "free" markets can solve problems like the one you describe for EU natural gas. The fundamental problem has many components, in my view. This is not an exhaustive list.

  1. domestic supply is more and more limited
  2. exporters do not necessarily play by your rules (and sometimes, they don't like you)
  3. externalities are not accounted for
  4. demand elasticity is small due to constraints on how societies are structured

This applies equally to oil consumption in the U.S. as well as gas usage in the EU. Given #1 - #4, liberalized markets can not possibly succeed in ameliorating the situation. Collapse of some kind is the most likely outcome. Globalization is unfair and does not work. The situation must be managed by policy impositions.

Electricity demand is inflexible – users, except for some industrial consumers, turn on the switch whenever they need electricity. They do not do so on the basis of price.

With present metering, then yes, I agree, but does it have to be this way? Why can't all power consumption be price elastic?

Presently, here in the USA, for the vast majority, there is a fixed price for power, and that is it. Last summer in New England, prices went to their maximum ($1/KWH) in the wholesale market for the full afternoon. If people were charged that amount, I'm guessing the 10% reduction in demand to get the price back down to the "reasonable" $.25/KWH would have happened.

I expect that the volatility of power prices will be noxious, politically speaking; I agree that full transparency to the retail market would do wonders to lower demand at the right time and smooth over both prices and production, but I'm not sure it will be implemented.

Technology will probably allow it pretty soon, but it's by no means certain that it will happen. And there are good reasons to it. Electricity being such a vital commodity, allocating it (even for short periods) on the basis of who can afford it is a terrible social policy. As soon as you have a sick person dying because it could not afford power for whatever equipement it needed, the idea will be dead (and sure, there are fixes, technicla and political around this, but you know that it just takes one freak accident to kill the idea).

Some sort of semi-socialized structure would naturally have to be implemented. For instance, hospitals could be classified as must-runs. Further, there are many programs here in the USA for low-income assistance for power/heating bills (which, actually, are essentially subsidies for the power industry, for many are not aimed at reduced consumption).

The present pricing structure, however, is enormously wasteful. A middle path would be to require local distribution companies to offer the option for at least hourly-based pricing. This has been successful in local instances. Hourly pricing would provide even better incentives for residential solar panels (whose output generally peaks at or new peak power periods), intelligent load shaping, and plain old demand destruction.

One can also think of adverse outcomes in the peak-gas situation in the present continuation of simple residential rate structure pricing. Given the present overreliance on the grid here, load shedding will most certainly have serious consequences.

The railway network in the UK, despite neglect by past goverments',
is still very large and is increasingly being used by the public.
It would not be that difficult to reopen previously closed lines
should circumstances necessitate this.
However the Blair government is obsessed with air travel,and is
busily expanding our airports.
Nice to see our competent politicians are fully aware of the impending
energy crisis. Tony Blair is urging us to recycle everything possible,
but has stated that he is not prepared to forgo long-haul air flights.
for his family holidays.
Apologies to Westexas and Hothgor for the incorrect spellings in my previous post, but I did not make my usual checks as my wife
was pressing me to come and eat my (fully organically produced)

South East England's railines (over 50% of the nation's rail traffic) are already running above capacity. The companies are ripping out seats to carry more people. There is literally not enough platform and track to take more trains coming into/out of London on many of the mainline stations.

This is likely to persist for at least 20 years, even on current investment programmes.

Eventually the Treasury will do what it has always done in the past. Raise fares enough to choke off demand.

Freight is of course being squeezed off the key lines by the demands of passenger traffic.

Virgin Rail is charging nearly £200 return for a *standard* class morning ticket London to Coventry (don't tell me about APEX-- the decision to go is often made less than 24 hours before. When the client calls...). And they run *4* first class carriages (ie double) with the result it is standing room only in standard class.

There is actually (good grief!) a plan to close uneconomic branch lines. The tactics are always the same-- first they reduce the frequency of service, then they note the traffic has dropped, then they drop the service.

The proposal is buses will replace them, which of course it won't. The bus service won't get the traffic, and more buses on Britain's crowded roads is a non starter.

A better solution would be to spin the lines off to low cost operators, who would use lighter trains (less safe, but on branch lines that is less important-- they won't be going at 100mph!).

But instead once again the system is being truncated, because the level of subsidy is now 6 times what it was when BR was privatised.

The legacy of underinvestment, government tampering and wilful destructiveness continues.

I cannot recommend Ian Jack's book, Christian Wolmar's book, and the David Hare play 'The Permanent Way' more highly.

The Permanent Way (Cottesloe)

a new play by David Hare

A co-production between the National Theatre & Out of Joint

Why aren’t people angry? They were robbed. What belonged to them was taken from them by a bunch of bankers and incompetent politicians. What was theirs was given away. What was foredoomed to fail failed. And they aren’t angry.

In 1991, before an election they did not expect to win, the Conservative government made a fateful decision to privatise the railways. Now, 12 years later, we subsidise the industry more lavishly than ever before. David Hare tells the compelling story through the powerful first-hand accounts of those most intimately involved. From passengers to government ministers, their voices bear witness to an extraordinary parable of British mismanagement.

Hi Jerome,

I just want to share some thoughts.

If I understood you correctly, you are somewhat contradictory in your argument.

On the one hand you criticise the marginal cost based system to result in too high prices for the consumer.

On the other hand you want conservation, which will not happen unless prices are high.

The objective of deregulating markets is to increase efficiency in order to ascertain that the production units with the lowest production costs are running at all times. Liberalisation ensures that producers have incentives all the time to conserve – to produce just enough to meet demand of a given resource. If producers don’t, their profit margins fall. In practice that also means that consumers get the most value for money. At the same time consumers see the effect of not conserving their use of the resource. If their demand is high the price they pay will also be high, and they have incentives to conserve. Liberalisation is not a promise of lower prices, per se, as is the view of many market advocates. A fully liberalised market is a promise of efficient production resulting in the lowest possible price, given the resource availability and demand.

The alternative is to have all production government controlled.

In the case of the electricity market you may have lower electricity bills in the hands of the consumers, if you apply some average production cost set up, instead of a marginal cost based system. But with lower consumer prices you also get higher demand. Therefore you hardly get any conservation. Rather the opposite.

Furthermore, without a market sending signals to production units, they will not produce at the lowest possible cost at all times. This raises both individual production units’ costs as well as the average production cost. There is simply not enough incentive to be efficient when producing. So in the end the total electricity bill for the country will probably actually increase, while at the same time you have used more of your energy resources than would have been the case with a deregulated market. The result is that society as a whole wastes a lot of energy resources unnecessarily because neither producers nor consumers get a natural signal to conserve.

The fact that energy is a scarce resource, and will be even more so as oil and gas passes peak production, I would say that is argument enough to have the energy markets deregulated. When demand rises and supply cannot keep pace with inceasing demand, or when supply decreases, but demand cannot keep pace with supply decreases, then the price is an excellent signal to force people to “voluntarily” reduce consumption. Yes, given the low demand elasticity, prices will become high before any notable reduction in consumption can be seen. From time to time it will be costly for individual consumers, but that is how consumers get direct incentives to conserve.

Once the peak of oil production has been passed and widely acknowledged, today’s problem of limited incentives of switching from hydrocarbons to renewables will probably solve itself. As will the problem of our increasing dependence on Russian gas. When oil and gas scarcity hits, both oil and gas prices should skyrocket. And all of a sudden many renewable technologies have lower marginal costs than that of gas fired power plants.

And just to be clear. I am very concerned with peak oil and peak gas. And I think that the ramifications of a shrinking energy supply will be far more serious than most people can imagine. Less energy means less goods and services produced, less goods and services produced means a lower standard of living. And it means a shrinking economy. Once people see that the economy is expected to shrink they will switch from spending to saving. Such a shift, if or when it happens, should hit the real economy brutally.

But even if we have a serious problem at hand, I do not believe that government interventions in any way would make things better. We need creative people to come up with solutions on how to produce environmentally friendly energy. And we need productive, risk willing individuals to put forward innovative ideas for the customer to voluntarily reject or accept. In a climate where energy markets are regulated and tax burdens on individuals as well as private enterprises are high, people are less inclined to be innovative and much less inclined to be productive and efficient. Our future well being depends on society’s ability to produce innovative and productive individuals. Therefore, regulation and taxation is not the way to get through peak oil, in my opinion.