WORLD ENERGY DEMAND TO RISE

Why energy demand will rebound; Demand for energy will return, and oil prices could spike anew as soon as the world economy recovers.
Scott S. Nyquist and Jaeson Rosenfeld, May 2009 (McKinsey Global Institute)

SUMMARY
As oil spiked to over $70 per barrel in the week ending Friday, June 12, Mckinsey Global Institute released a report written in April, when the price of oil was around $50 per barrel, predicting that the imbalance between the demand and supply for energy would inevitably drive energy prices toward the price levels they reached before the severe economic downturn of Fall 2008.

The McKinsey study predicted a price spike for 2010-to-2013. According to McKinsey, the spike would come with the return of the economy. The report attributed its indefinite timeframe to uncertainty about the economic rebound.

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McKinsey’s first assumption: The price of oil tracks GDP. Shipping, trucking, petrochemicals, and air travel, because they are petroleum product-dependent, don’t just track GDP, they over-respond, according to McKinsey. Also, credit markets tighten in response to falling GDP, making financing for capital-intensive projects unavailable so they are delayed or shelved.

In the McKinsey analysis, previously scheduled 2009 and 2010 projects may go forward but new projects won’t start and the worst impacts will be felt in 2011.

McKinsey acknowledges the potential for a tightening in the supply-demand balance of oil comparable to the situation that created the very high 2008 prices, when there was no more than a daily 2.5 million barrels of world spare capacity, coming earlier than 2011. It refers to a moderate scenario described by the International Monetary Fund (IMF) that predicts a return of economic expansion in 2010 but also notes a very severe scenario in which recovery does not occur until 2013.

A big question is whether New Energy sources developed in the last 3-to-5 years will stem the supply-demand crunch in energy supplies and waylay an oil price spike.

Another question is what China, India and other emerging economies will choose to do about stemming increased oil demand. If they ignore alternatives, the upward pressure on price will be unavoidable.

Long term, McKinsey sees an inevitable rapid growth in energy demand, as much as 2.3% per year from 2010 to 2020. 90% of that demand will come in China, India and the Middle East. 5 Chinese sectors (1-residential buildings; 2-commercial buildings; 3-steel; 4-petrochemicals; 5-light vehicles) will alone account for 25+% of world demand. Other big demand will come from India’s light-vehicle, residential building, and steel sectors as the Middle East’s light-vehicles and petrochemicals sectors.

In the U.S. and Japan, McKinsey foresees a 0.4% per year growth in energy demand through 2020. Despite notable Energy Efficiency improvements, Europe’s energy demand will grow 1% per year because of emerging economies in Central and Eastern Europe.

It is possible, according to McKinsey, to reduce demand by 6-to-11 million barrels of oil per day by (1) incentivizing a shift from oil to natural gas and New Energies in heating and cooling applications, (2) removing all subsidies for oil and (3) increasing incentives for vehicle fuel efficiency.

There are many variables and many scenarios. (click to enlarge)

COMMENTARY
The price of oil has everything to do with New Energy. Especially in the absence of a potent price deterrent on greenhouse gas emissions (GhGs), low oil prices discourage investment in the New energies.

In the absence of an effective economic incentive to turn to alternative forms of transportation, Battery Electric Vehicles (BEVs) lose momentum. The price of natural gas largely tracks the price of oil and when the natural gas price is low, there is little economic incentive to turn to alternative forms of grid supply. Wind and solar and geothermal lose momentum.

The current spike in oil price, however, is a different matter. Based on the McKinsey analysis and the best reports from the financial sector, the current oil price spike is less likely to be an indicator of returning economic health and more likely the result of a turn by investors to commodities as a hedge against anticipated inflation.

The most dynamic energy supply-demand equation factor in the short term could be Energy Efficiency. Underscoring numerous other studies' findings, McKinsey says Energy Efficieny can eliminate the U.S. need for 8 million barrels of oil a day. The same kinds of reductions are available in the emerging economies, though the likelihood of their taking advantage of them in the short term is not great.

It is estimated that raising all 50 U.S. states to the level of Energy Efficicency now being met by the 3 leading states would elimate 1.5% of U.S. electricity consumption. The savings from such a step forward would help finance New Energy and more Energy Efficiency. Such a transition could potentially eliminate the need for all coal, 50% of U.S. power generation, in 20 years. Similar gains from a transition to Energy Efficiency and New Energy are available in developed and emerging economies around the world.

There are many variables and many scenarios. (click to enlarge)

Western Europe’s energy demand has already been cut significantly in 2 areas of Energy Efficiency: (1) Vehicle transport consumption will continue to go down due to strict emissions standards; (2) The paper and pulp industries are consuming less energy because of a shift to digital transactions and records.

Efficiencies are instituted through regulation. In the U.S., Japan and Western Europe, agencies requiring efficiencies and establishing standards have driven improvements. California’s landmark decoupling of electricity sales from utility profits was astonishingly effective, holding California’s consumption flat without compromising its economy while the rest of U.S. energy consumption skyrocketed.

According to McKinsey, smart regulatory policy can reduce world energy consumption 16-to-20% through 2020, a 2/3 reduction in growth. The place to start is building standards in developing countries. Half of all new building will take place in the emerging economies of Asia and Latin America through 2020, offering an enormous opportunity to introduce efficient heating and cooling technologies.

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The U.S. Department of Energy (DOE)’s Lawrence Berkeley National Labs has been working with China during the last decade to improve building efficiencies. What has been developed is available as a template for larger programs and what has been learned is invaluable.

DOE’s expenditure has saved China a lot of money but the money it has saved the U.S. may not be apparent until it is clear which way the price of energy goes in the coming decade.

QUOTES
- From the McKinsey analysis: “As the global downturn continues, the world economy faces a period of lower oil prices and overall demand for energy, a welcome change for consumers after the price spikes of recent years. But unless policy makers can find ways to improve the balance between energy supply and demand, the current slackness in energy markets will last no longer than it takes for the global economy to recover.”
- From the McKinsey analysis: “To avoid an oil shock in a 2010 to 2013 time frame, policy makers would need to ramp up fuel-efficiency standards in developing countries rapidly while actively working to remove subsidies and create incentives for substitution.”

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- From the McKinsey analysis: “Regulatory action to increase the productivity of all sources of energy—the output achieved for a given level of energy consumed—could abate the projected 2020 demand by between 16 and 20 percent. This could cut energy demand growth from now until 2020 by two-thirds or more.”
- From the McKinsey analysis: “Lower oil prices and overall demand for energy because of the economic downturn are a temporary blessing that should not lull policy makers and businesses into a false sense of complacency. Given our projections, it is essential that they step up their efforts now to secure that energy is used in more efficient ways.”