Liebreich: It’s the Politics, Stupid

Locating the fifth Bloomberg New Energy Finance Summit in New York last week offered two big advantages. One was being at the heart of capitalism because, despite the economic turmoil of the past few years, it will still be private capital that delivers the wherewithal for the world’s shift to clean energy. The other was that it forced the event to focus on the biggest challenges and most difficult markets in clean energy in 2012.

To steal a line from the 1992 Clinton presidential campaign, “it’s the politics, stupid.” The Summit emphasized that this flexible industry is rapidly inventing and developing what it needs – the science, engineering, technology, policy tools and, despite current issues, finance. What it has not mastered is the politics.

The fact that this is American presidential election year is not helping. It is hard to see any progress on extending the Production Tax Credit for wind power. If it’s left to expire at end-2012, we forecast a 95 percent collapse in wind farm commissioning in the U.S. next year. The imposition of tariffs on Chinese photovoltaic imports – symbolic though these are at less than 5 percent of cost – was all to do with the electoral cycle, and little to do with economics.

Energy policy has become one of the most virulently partisan issues in this election, to an extent unseen in recent decades. This is a disaster for a capital-intensive sector with long time-horizons, which requires some level of bipartisan cooperation more than any sector outside defense. In the current fractious atmosphere, hopes of progress on federal legislation for emissions control and clean power look forlorn.

Before they can move on, the sector and its advocates need to understand that they have played a role in creating this situation. It may have felt like a tour-de-force when the administration singled out clean energy for stimulative largesse in the aftermath of the financial crisis. In the short term the flow of funds has certainly been welcomed by the industry. However, it moved the sector firmly into the realms of political patronage, with all the accompanying evils: creating a parallel financing system, picking winners and – as the Solyndra debacle showed – losers, and turning every aspect of clean energy into a political football. We now have the situation where an LED light-bulb is considered evidence of a communist plot.

One of the points I made strongly in New York last week was that clean energy must up its game in terms of political communications – both in volume as well as sophistication of messaging.

The sector must stop using every platform to demand the continuation of subsidies, instead stressing affordability. It must stop talking about the unfair advantages given to fossil fuels, and talk about the advantages it offers on productivity, economic growth, security and health. It must get across to a skeptical public that intermittency is an issue that smart engineers can master, and do so at an acceptable cost, so there is no threat to the nation’s energy supply or to its wallet.

The industry needs to accept that a large part of the public is simply not going to respond to amping up the rhetoric on climate change – whether because they are stressed about their economic situation, confused by misinformation, annoyed at the sloppiness of climate scientists, or simply uninterested in things green. Nor is the fantasy of “green jobs” a solution: our research shows that there will be two million direct and indirect jobs in wind and solar worldwide by 2020; other, much higher estimates tend to rely on including jobs “induced” by the spending of those two million, and they also exclude the flip-side of that – jobs destroyed by higher energy prices and higher taxes.

The broader economic message needs to be on productivity. Resource-efficient economies create wealth, in which every job is a green job. The sector also needs to create a much wider range of alliances, with industries from telecoms to defense, real estate, travel, retail and automotive. These industries need to understand that clean energy holds the key to reinvigorating their own growth; then they will become allies that hold considerable sway across the political divide.

I am optimistic that clean energy can learn to adopt those wider arguments, and clinch the policy support it needs.
However, it will be a long-term game. It has taken two electoral cycles to turn energy into a toxic partisan wasteland, and it may take two electoral cycles to detoxify it.

As long as clean energy remains a political punching bag, the “Great Transition” – from a sector relying on subsidy to one relying on real competitive advantages – will take longer, be much more painful, and end up with less value captured in the U.S. than should be the case. This is because the Summit also made clear that the “Great Transition” is coming anyway.

TRANSITION SIGNALS

Laying down an early marker was PensionDanmark A/S, one of Denmark’s largest pension funds with $23 billion under management at end-2011. Torben Moger Pedersen, its managing director, explained how his fund aimed to allocate 10 percent of its total assets to renewables, and is already well on the way with $1.5 billion in a portfolio of solar and offshore wind. Projects in the sector offered a 6.5-9 percent rate of return, at a lower risk than listed equity markets, he said.

Pedersen expects a number of European, Canadian and Australian pension funds to follow PensionDanmark’s lead. If he is right, this would unlock a vital new source of long-term funding, easing the sector’s dependence for finance on balance-sheet-stressed banks. We saw in the last decade that when pension funds do decide to diversify (back then it was into “alternative” assets such as commodities and hedge funds), they can do so in size, and within relatively few years.

Back in the U.S., take NRG Energy Inc., a New Jersey-based generator with over 25 gigawatts operating capacity, mostly gas, coal and nuclear. Its president and CEO, David Crane, said that distributed solar, competing with the retail power price, was “as much of a game changer as I’ve seen in 25 years in the industry”. He explained the impact of PV’s improving economics: “If you evaluated rooftop solar a year ago, or even three months ago, you are way out of date.”

Or take Verizon Inc., the U.S. mobile communications giant. Its chairman, Lowell McAdam, told the Summit that he expects the data transportation market, including feeding information between wireless devices such as cars, thermostats and mobile phones, to reach $25 billion in the coming years from “basically zero” now. Energy management is operating without a central nervous system, he said. His, and our, view is that this will change, with the integration of renewable power, energy efficiency, storage and the smart grid. Then there is the U.S. Navy. Secretary of the Navy, Ray Mabus, who manages a $150 billion budget and 900,000 people, told the Summit that his organization was investing in biofuels to protect itself from oil price shocks, which otherwise would mean the navy can train less and invest less. “We’re doing it mainly to be better war-fighters,” said Mabus.

GAS CALCULATIONS

There were many other fascinating glimpses at the Summit of what a nonpartisan clean energy future might look like beyond the current cycle. There was also, however, an understandable focus on natural gas, which in the U.S. plunged to multi-year low prices around $2.20 per million British thermal units last week. President Barack Obama said in his State of the Union address in January that the U.S. has a supply of natural gas that can last “nearly 100 years”. If the president’s speech were an advertisement for a car or a savings product, he would have had to attach a long list of caveats.

As always in energy, the main issue is not whether the resource is there, but whether it can be extracted economically and at what volume. The public is being led to think that the U.S. has 100 years of natural gas supply at $2, which it does not, and that the gas will not run out for 100 years irrespective of whether demand stays where it is or triples. This is clearly not the case.

Our power analysts have used the latest estimates of technically recoverable gas reserves and their own projections of demand to test the 100-year claim. We focused on gas that can be extracted at below $8, and stripped out hard-to-reach reserves in Alaska and certain offshore areas. Using these assumptions, the U.S. has 40-50 years’ supply, not 100. Including Canada adds 10-15 years.

However, this is based on our projections – broadly in line with Energy Information Administration and others – that domestic consumption will rise to 30 trillion cubic feet per year by 2030, from 23 Tcf in 2011. This takes into account demand growth from coal plant retirements, greater industrial consumption and liquefied natural gas exports. Our figures assume only moderate penetration of natural gas into transport. If the U.S. embarks on an effort to replace oil with natural gas in the transport sector, consumption may more than double, cutting the volume of $8 gas to 25-35 years – the low end of the asset life of many of the investments required. So the U.S. will continue to need new sources of energy beyond natural gas, and “All of the Above” is a necessity, not an option. We used $8 per MMBtu in this analysis as that point signifies affordable gas, based on history. However, there is a kind of magic number for gas at $6 per MMBtu. At this point, wind becomes fully competitive without subsidy; and drillers can produce dry gas for gas’ sake, not just because of associated liquids. A price of $6 will simultaneously encourage production in gas-rich, oil-poor deposits and limit consumption growth in the power sector – so it should provide a reasonable guide price for the medium-to-long term.

At the Summit, there was near-consensus that the current low prices will last no more than another 12-18 months. They are down to a perfect storm of factors: the U.S.’ record warm winter; the weakness of the economic recovery; high crude oil prices, which mean liquids subsidize gas production; drill-or-drop leases, which force gas companies to produce gas at a loss or lose their leases forever. As long as these prices do last, however, they are causing considerable pain for investors in clean energy and any other fuel sources. In summary, the Summit concluded that while the clean energy sector is facing a very difficult set of short-term challenges, particularly in the U.S. and particularly in the wind sector, its medium-term prospects remained as good as ever – if not better – even in the US.

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