Saturday, January 2, 2016

Fuel Switching

Nassim Nicholas Taleb's prognosis for 2016 sees commodities, rather than banks, as the locus of the next Lehman moment.  Countries and corporations whose continuance depends on stability of certain commodities are at most risk.  The U.S. economy is probably diverse enough to ride out the effects of commodity price swings, but some states will suffer more than others.  Maryland's diverse economy is among the strongest, so we don't need to be concerned that coal will continue to fall in production from its peak of 5 million below the current 2 million tons/year across 60 mines, all located in the two westernmost counties.  (John Michael Greer's Cumberland is at risk, though.)

The commodity that puts Calvert County's economy at risk is natural gas, though little is produced in Maryland. When Dominion Resources sought their approval for constructing the LNG export facility at Cove Point, our county commissioners acceded to deferring tax revenue from Dominion until the plant began to ship product.  That probably won't happen until 2018, if at all.

Initially, my doubts about the prospects of exporting natural gas were based on the high rates of depletion from fracking wells, leading to a precipitous drop in productivity.  While that alone may preclude exports a couple years from now, there are even more reasons to doubt now and they stem from economic causes.

Commodities volatility seems to favor exports from Cove Point, since fewer export facilities will likely be built in such an environment than the 18 originally envisioned.  Yet, the same volatility is causing mayhem among natural gas drillers.  As pointed out in my previous post, Chesapeake Energy, the second largest producer in the U.S., is headed for the junk pile.  Many others, whose business models were based on low-interest leverage and speculative land leases, will suffer the same fate.  With so many companies going under, the growth of fracked gas that has occurred over the past 5 years will level off and decline.  With coal being black-balled as a fuel due to its effect on the world's climate, it, too, will quickly decline in use.  This puts the onus on natural gas to fill some of the domestic demand.  Since 2000, the share of electricity produced by natural gas has risen 10%, replacing coal as the fuel.  The momentum of this fuel switching will be maintained, though farsighted power companies will opt for renewable sources instead, given the limits of natural gas reserves.

Just one-third of natural gas is used for electricity production.  The other uses are mainly for industrial and residential heating processes.  Something's got to give.  We don't have enough natural gas (especially if fracking is deemed environmentally untenable) to follow the current growth trend. Conservation will smooth our descent, but remember we also have lots of wood. It has an energy density about 1/3 of oil, but any able-bodied man with a sharp ax can get all he needs.

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