What’s Ahead For Natural Gas Prices?

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Challenges For The European Union
Russia's Vladimir Putin has made it very clear. The price of natural gas will go up. His thoughts were echoed by the primary natural gas producers attending the Gas Exporting Countries Forum (GECF) in Moscow. Putin blames gas extraction costs which have increased sharply over the last five years. He should know. Russia is the world’s largest natural gas exporter. And just to make sure long term natural gas prices will go up, Putin plans to set up an association of natural gas producers in St. Petersburg.

Think of it as OPEC gas.

Since most of the world’s proven reserves of conventional natural gas (72%) are in the Middle East or EurAsia, that poses a problem for both the United States and Western Europe. Not only will long term prices go up, but Russia – which controls almost 45% of the imported natural gas that flows into the European Union – is in a position to create a worldwide shortage. (Reference 1) Since Putin has already demonstrated Russia’s willingness to shut off supplies if he doesn’t get his way, the only question is ….. when will he do it next?

The answer. January. When hapless Europeans are struggling to stay warm.

Think: if over 80% of the world’s conventional natural gas will have to come from politically volatile regions, doesn’t that raise all kinds of questions about price volatility and the possibility of shortages?

Yes. Short term. But there is an out for the European Union if it can secure new pipelines to the Middle East and Africa, and if it works with other nations to open up unconventional deposits of natural gas in tight sands, embedded methane and shale formations. Those steps could boost production of natural gas destined for the European Union for – maybe – 15 to 25 years.


American Consumers Are Lucky.
Natural gas prices fell more than 60% from their high point in June, 2008. That’s good because in most of America, the winter of 2008/2009 was very cold. Reduced demand for the commercial consumption of natural gas, along with a surplus of production, put a temporary damper on the upside. It gets better. Unconventional production technology has increased the projected extraction of natural gas from tight sands, embedded methane and shale deposits. And there is natural gas to be found in Alaska. The only missing piece is the pipelines needed to carry this natural gas bonanza from field to consumer.

So does that mean American consumption is immune from international price manipulation and disruption?

Sorry. No. Although America is somewhat isolated from the price pressures of the international market, long term extraction and distribution costs are headed UP. Public policy continues to favor the increased consumption of natural gas for power generation, domestic heat, soil amendments, and the production of biofuels, all of which assure upward pressure on demand. International markets will become increasingly dependent on imported LNG. (Reference 2) That is, of course a more expensive choice and exposes American consumers to international price volatility. But - if the Obama Administration is on the ball (with policy and permits), new supplies of unconventional natural gas – along with natural gas from Alaska – will help to reduce price volatility and keep a lid on American price escalation.


Two Caveats
1. As you may have noticed, oil prices have been rather volatile lately. Because of our recession, the supply of oil exceeded consumer demand. In a few short months, international oil prices fell by ~ 75%. But oil prices will increase as the world economy recovers and demand once again drains available production capacity. A continuing mismatch between supply and demand, along with the additional possibility of outright shortages, means continuing oil price volatility. Unfortunately for consumers – including electric power utilities - natural gas prices tend to be influenced by the international price of oil. The following chart shows oil and natural gas prices from January 2007 through October 2008. Although natural gas prices occasionally spike on their own, in this case the speculative jump and decline for a barrel of WTI oil influenced the American wellhead price of natural gas.

2. Unfortunately, oil producers have shown a reluctance to invest sufficient capex in additional facilities to sustain current levels of production. Net extraction from existing fields is declining as these reservoirs deplete. When the economy recovers, will there be sufficient capacity to provide a continuation of oil production at pre-recession levels? Could suppliers meet an additional surge in new demand? Probably. At lest for the near term. Despite an initial surge in production, however, the long term outlook suggests oil production will eventually fail to meet the demand for "black gold". If so, there will be a continuing upward pressure on the price of both oil and natural gas.


Conclusion
If this were a perfect world, extraction from existing conventional resources, supplemented by increased unconventional natural gas production, would provide a cushion against world price volatility and escalation through ~ 2025. Perhaps beyond. We could expect a gradual increase in the average price of natural gas.

But – this is not a perfect world. Price volatility is inevitable.


TCE

With special thanks to Charles Maxwell, a fine gentleman and excellent Senior Industry Analyst at Weeden and Company, for his constructive critique of my data.


Reference 1. “Natural gas accounts for 25% of primary energy use in the European Union. Nearly 60% of consumed natural gas in the EU is imported, with Norway, Algeria and Russia constituting the bulk of natural gas exporters to the EU. …”

Source: Review and analysis of EU wholesale energy markets. Historical and current data analysis of EU wholesale electricity, gas and CO2 markets.
ECORYS Nederland BV, Rotterdam, 09 September 2008

“The EU's energy production satisfies less than half of its needs, with import dependency reaching almost 54% in 2006. Oil comprises the bulk of total EU energy imports (60%) followed by imports of gas (26%) and solid fuels (13%). The proportion of imported electricity and renewable energy is negligible (less than 1%).”
“The European Union in 2006 imported 608 Mtoe of oil. Most of the oil imports come from OPEC (38%) and Russia (33%), while Norway and Kazakhstan respectively provide 16% and 5% of oil imports to the European Union. The EU produces less than one fifth of its total oil consumption.”
“Looking at the EU as a whole, the situation is better in the gas sector, since domestic production (mostly taking place in the Netherlands and the United Kingdom) satisfies about two fifths of consumption needs. Gas is mainly imported from four big suppliers: Russia (42%), Norway (24%), Algeria (18%) and Nigeria (5%).”
“Sources of coal imports are also less concentrated – the largest suppliers are Russia (26%) and South Africa (25%), followed by Australia (13%), Colombia (12%), Indonesia (10%) and the United States (8%).”
“If current trends and policies continue, import dependency for oil could reach as much as 93% in 2020.”
“Gas import dependency rises substantially to 77% in 2020 under current trends and policies with moderate oil prices, due to the strong rise in the primary gas demand.”
For the 27 nations of the European Union, 45% of imported natural gas now comes from Russia.

Source: The European Commission

Reference 2. In my opinion, the Department of Energy’s Annual Energy Outlook 2009 (DOE/AEO 2009) grossly overestimates the production of alternative liquid fuels, and underestimates the demand for electricity, the demand for natural gas, the possibility of liquid fuels disruption, and the trend of international liquid fuel prices. We must also remember the DOE/AEO price projections exclude the impact of fuel price speculation (which temporarily sent oil prices north of $140 in 2008).
Net natural gas imports are pegged at ~ 3% of total domestic consumption by 2030. For me, that number has absolutely no credibility. I believe net imports will be north of 9% in 2030. (Assuming product is available at a price we can afford.)

Reference 3. The DOE/AEO 2009 reference case estimates electricity prices will only increase by 66% by 2030. That’s less than 3% per year. Doesn’t this seem a bit low?
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The Evil Twins

Introduction

Global warming advocates have made a number of false assumptions in their zeal to do something – anything – about global warming. This has encouraged multiple pop-culture proposals that sound really wonderful, but are – in fact - actually increasing the damage we humans are doing to our EcoSystem. Media discussion of global warming seldom makes any connection between the ecology of temperature change and pending fuel shortages. Our political leaders appear to be intellectually incapable of discussing fossil fuel depletion and global warming in the same conversation. Although both Hillary Clinton ( a Democrat) and Mitt Romney (a Republican) both know about the consequences of fossil fuel depletion, critical questions about energy are – for the most part – taboo in this election cycle. Al Gore refuses to even discuss fossil fuel depletion in any context.

All this denial raises a critical question. How can we expect our political establishment to make intelligent decisions about the price, availability and use of our energy resources if they refuse to acknowledge half the data?

Wouldn’t it be refreshing if our candidates could have at least one really meaningful discussion about energy?

For me, global warming and fossil fuel depletion are the evil twins. We must deal with both of them at the same time. Else we will (continue to) make tragically stupid policy mistakes.

Is Global Warming Real?

Absolutely. There is plenty of real data and empirical evidence to support the contention our planet is going through one of its natural, normal, climate cycles. According to the National Oceanic and Atmospheric Administration (NOAA), over the last 420,000 years temperatures on our planet have ranged from plus 4 degrees C (five periods of very warm weather) to minus 10 degrees (four periods of very cold weather) versus a nominal baseline. If we go back 600 million years, temperature variations are even larger. In fact, average temperatures have been significantly higher (over 18 degrees C) than today (about 14 degrees C) for much of the earth’s history. We can associate warm periods with lush plant life, dinosaurs, swamps, deserts, and overflowing oceans. Our treasure trove of coal, oil and natural gas (all are forms of carbon) was created during these warm cycles. Low temperature cycles have been associated with expanding glaciers, ice ages, struggling animal populations, and limited vegetation.

Is Fossil Fuel Resource Depletion Real?

Absolutely. The depletion of our oil, natural gas and coal resources is not a phenomenon that will happen sometime in the distant future. It is happening now. It has already raised the price of energy, altered the objectives and alliances of international diplomacy, empowered the political aspirations of producer nations, restructured how world energy markets work, and changed the economics of fossil fuel exploration and production.

Make a chart of world population growth. Add the data for fossil fuel consumption on an appropriate comparative scale. Population growth has obviously driven the consumption of energy. The more people on this planet, the more energy we consume. Within first world OECD nations, fossil fuel energy has provided the foundation for our economic wealth and population growth. But this begs a question. If we no longer have enough cheap and readily available energy to support our lifestyle, what happens next? Does this mean we will be forced to reduce our population in order to match the availability of fossil fuel energy? Or face famine? Chronic recession? Cultural chaos?

That’s what the United Nations is telling us.

False Assumptions

Public policy has thus failed to make a meaningful connection between fossil fuel resource depletion and global warming. This has led to the implementation of politically expedient pop-culture energy solutions of dubious (and often negative) value. The underlying fossil fuel energy assumptions are frequently false:

• Global warming policy often assumes we will forever be able to consume unlimited quantities of oil to support our “green” fuels infrastructure, farming and manufacturing processes. This assumption is false. Reliable, available and affordable oil resource consumption will peak about 2017. (This has been documented in my book “Oil, Jihad and Destiny”).

• Global warming policy assumes unlimited quantities of natural gas to provide the heat and fertilizers for a “green” fuels program. This assumption is false. Although opinions differ, it appears that reliable, available and affordable natural gas consumption will peak before 2040.

• Despite vocal opposition to the consumption of coal, global warming policy basically assumes the continuing consumption of unlimited quantities of coal for electric power generation. This assumption is false. Although opinions differ, it appears that reliable, available and affordable coal consumption will peak before 2050.

• Many global warming advocates assume we will be able to minimize the consumption of coal in order to reduce CO2 production. This assumption is false. As propane, kerosene and fuel oil increase in price, and fuel shortages become a continuous problem, coal will become the fuel of choice for residential and commercial heat wherever it is available.

• We can “grow” our way out of fuel shortages with biofuels. This assumption is false. There is a Malthusian tradeoff between biofuels and hunger. Biofuels will never provide more than 5 – 7% of today’s fuel consumption. In addition, documented evidence shows that biofuel production seriously damages our EcoSystem.

• Public policy has thus far assumed fossil fuel depletion and alternative energy solutions will not impact on our (world) economy. This assumption is false. Historically, there has been a close correlation between fossil fuel consumption and economic growth. Although developed economies gradually learn to consume less energy per unit of GDP, a dramatic decline in affordable energy will have disastrous economic consequences.

• Most global warming advocates assume the worst case IPCC scenario. This assumption is false. Fossil fuel depletion CO2 levels will begin to decline in the second half of this century – even if we do nothing. That makes it highly unlikely we humans will ever produce the amounts of CO2 envisioned by the IPCC worst case scenarios.

So. What does this all mean? It means that if we want to make good public policy decisions about global warming, we must include the effect of fossil fuel depletion in our calculations. These are the evil twins – global warming and fossil fuel depletion. We can not deal with them one at a time. Public policy must include both of them in the legislative deliberations that lie ahead.

The Worst Assumption Of All

Of the published, Special Report on Emissions Scenarios (SRES), none are valid. Not B1, A1T, B2, A1B, A2, nor A1F1. They all ignore fossil fuel energy resource depletion. All of the SRES scenarios assume there are no resource constraints on the consumption of coal, oil and natural gas.

That - is a really bad error.

If, as the IPCC claims, human fossil fuel consumption drives global warming, then the depletion of oil, natural gas and coal resources will automatically force a decrease in the production of CO2 and other Green House Gases. Current projections indicate total fossil fuel consumption will peak around 2045. Maybe sooner. After that, we humans will have less to burn each year. By 2100 GHG production will be down to 2000 levels because we will have less fossil fuels to burn.

The only SRES storyline that could simulate the effect of fossil fuel depletion is B1. To quote the NPCC report:

“Best estimates and likely ranges for globally average surface air warming for six SRES emissions marker scenarios are given in this assessment ...... For example, the best estimate for the low scenario (B1) is 1.8°C (with a likely range of 1.1°C to 2.9°C) …”

However, like the rest of the SRES emissions marker scenarios, the parameters of the B1 storyline are incredibly vague. “The B1 storyline and scenario family describes a convergent world with the same global population, that peaks in mid-century and declines thereafter, as in the A1 storyline, but with rapid change in economic structures toward a service and information economy, with reductions in material intensity and the introduction of clean and resource efficient technologies. The emphasis is on global solutions to economic, social and environmental sustainability, including improved equity, but without additional climate initiatives.”

There is NO mention of fossil fuel depletion.

Let me put it to you this way: If you were doing a high school science project, and you deliberately left out half the data, what would your teacher say?

Fossil fuel resource depletion and global warming are joined at the hip. Evil twins that threaten our human existence. Failure to consider them together could lead to even greater global warming over the next 50 years because coal will become the fuel of choice for populations trying to stay warm. An even greater increase will come from untreated combustion occurring within nations located on the western shores of the Pacific basin, most notably China and India. Satellite photos have already documented the thick black/brown cloud formations in this area. This ugly pollution is spreading across the northern hemisphere.

We need to consider global warming within the context of fossil fuel depletion. And vice versa. Otherwise our calculations of global warming are – by characterization – deficient.

NASA To The Rescue?

Scientists at NASA’s Goddard Institute for Space Studies have in fact made an attempt to include a consideration of fossil fuel depletion in a set of CO2 production scenarios. You can find the PDF of this work (which is still in preparation): “Implications of “peak oil” for atmospheric CO2 and climate”, on the Internet http://pubs.giss.nasa.gov. .

From the abstract:

“Peaking of global oil production may have a large effect on future atmospheric CO2 level and climate change, depending upon choices made for subsequent energy sources. We suggest that, if estimates of oil and gas reserves by the Energy Information Administration are realistic, it is feasible to keep atmospheric CO2 from exceeding approximately 450 ppm, provided that carbon capture and sequestration is implemented for coal and unconventional fossil fuels….”

From the text:

“Peaking of global oil production may have a large effect on future atmospheric CO2 level and climate change, depending upon choices made for subsequent energy sources. …. . We suggest that it is also important to “stretch” conventional oil reserves via energy efficiency, thus avoiding the need to extract liquid fuels from coal or unconventional fossil fuels. …..”

Of the five scenarios graphed below, it would appear the Peak Oil Plateau (e) best describes the CO2 emissions of oil depletion. Total CO2 emissions peak in 2025 and fall below 2000 levels by 2050. Unfortunately, this scenario optimistically assumes the sequestration of coal Green House Gas on a worldwide basis. That’s a good idea that may never come to pass.

I have asked the IPCC and NASA to run this simulation using the energy resource data (oil, natural gas, coal, and alternative energy) I developed for Detensive Nation. Thus far, neither organization seems to be interested in doing so.

Too bad. My guess is that combined fossil fuel consumption will push manmade CO2 emissions to a maximum of 4 to 6 Gt C/yr about 2050, and then rapidly decline. If we humans could develop and implement a constructive international energy plan, total emissions could be held below 3 Gt C/yr by 2050.

Conclusion

The availability, security and cost of energy, along with the impact of energy consumption on our EcoSystem, are subjects of the highest priority for our political establishment. They belong – together – center stage in this year’s election cycle. We should demand our candidates engage in a frank and intellectually honest discussion of energy. How we chose to utilize, stretch out, and allocate our remaining resources is a critical element of America’s future – and the welfare of all nations.

Ronald R. Cooke
Author: Detensive Nation

OECD

Do you live in one of the Organization for Economic Co-Operation and Development (OECD) nations? You do if you live in Australia, Austria, Belgium, Canada, Denmark, Finland, France, Germany, Greece, Hungary, Ireland, Italy, Japan, S. Korea, the Netherlands, New Zealand, Norway, Poland, Portugal, Spain, Sweden, Switzerland, the United kingdom or the United States.

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Oil Shortages Ahead

Oil Supply and Demand

Although upstream contract, exploration, production, and transportation costs will continue to rise, these costs will have less of an impact on the final price of oil than the relationship between demand and supply. When upstream costs were running $10 to $15 a barrel, oil was selling at $20 to $35 a barrel. Downstream profits were lousy. In our new (November, 2007) reality, upstream costs of up to $50 per barrel compare with a demand driven world oil price of $70 to $80 per barrel. Depending on the current level of hormone driven greed, futures market speculation can add $15 – 25 per barrel. Downstream refining and distribution profits are better, but not exciting.

Oil supplies have traditionally been volatile. Excess capacity is marginal. This guarantees the supply of oil will continue to be somewhat erratic. By contrast, demand will be driven by institutionalized consumption habits and the health of the world economy. Annual changes in world demand are typically under 2 percent. Translation: volatile production in a market of relatively stable incremental consumption. In this new reality, it is highly unlikely oil supply will always match consumer demand.

Periods of excess capacity will be intermingled with cycles of shortage. The availability and pricing of gasoline, diesel, propane, and heating oil fuels promise to be equally volatile.

Producer Nations

Although many smaller producer nations appear to be enthusiastic about the prospect of increased production, most of the world’s suppliers are dealing with decreasing oil production. Russia may achieve a small increase in production, Iran lacks a specific plan. Saudi Arabia would like to bring additional resources on-stream. Iraq is a mess. The idea that increased demand and higher prices will stimulate a net increase in world production is nonsense. All producer nations are experiencing internal political constraints that limit production. In addition - as recent reality has shown us - spending more money on exploration and production does not yield a commensurate increase in supply because oil is a finite resource, production is relatively inelastic, and suppliers may not chose to be responsive to an increase in demand.

This means we must expect producer nations to supply us with their oil on their schedule, - not our schedule.

Price Stability

It is a bit ironic, I suppose, to recognize that the only time period of relative price stability that has ever occurred in the oil industry was from 1935 through 1973, when the Texas Railroad Commission exercised a virtual monopoly over the flow of oil. There was a surplus of production. The Commission simply turned on the spigot when demand went up, and turned it off when demand went down. From 1974 to ~ 2004, Saudi Arabia’s excess production capacity usually acted as a buffer between supply and demand.

Both buffers are GONE.

The price of oil will not come down unless there is a severe recession (highly probable) – or a depression (possible). Since production shows signs of leveling off, and demand keeps rising, a gap between supply and demand will develop (very soon). The larger this gap, the higher the price of oil until consumer nations are forced into a chaotic period of demand destruction. The oil and natural gas markets have thus become an auction: supply goes to the highest bidder.

Only the rich, and those favored by the political establishment, will be able to afford unrestricted gasoline and diesel fuel consumption. The rest of us will have to pay more and more to use less and less gasoline, diesel, propane and heating oil fuels. Oil will also become too costly to use as a raw material in the production of pesticides, herbicides, or fertilizers. Will this trash the green revolution? Drive up the price of food? Cause additional worldwide famine?

Oil Supplies Are Getting Tight

It used to be that western oil companies simply made a deal with whomever was in charge of a nation and then just drilled away. Oil was cheap and plentiful. No more. When the oil market made the transition from a consumer driven market to a producer controlled market (about 2000) producer nations found themselves in a new role. Monopolist. National political policy now dictates availability.

That means the supply of oil to the world market is now governed by –

• quotas
• cheating on quotas
• availability of surplus production
• natural disruptions
• political disruptions
• plain old terrorism
• regional war and conflict
• anti-war protests
• maintenance (or lack thereof) of field infrastructure
• availability of financing for new projects
• availability of trained geologists and engineers
• oil field reservoir management
• oil transport infrastructure
• refining capacity (including ability to refine heavier sour crude)
• cultural conflict
• ideology (national leaders have other agendas)
• graft and corruption
• and – oh yes - oil in the ground

Feel secure?

Ronald R. Cooke
The Cultural Economist
Author: Detensive Nation

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NPC Report: Hard Truths About Energy

When I started working on oil depletion in 2003, there were a handful of lone voices in the wilderness sounding the alarm. Since then, the IEA, EIA, multiple government agencies in several nations, and several oil industry executives have determined oil shortages are possible. Multiple reports and books have been written. Congress has taken testimony. Key figures in Washington have made speeches. Although there are some differences in the details, they are trivial in comparison with the broader perspective.

At some point, perhaps very soon, oil demand could exceed oil supply.

A draft of the U. S. National Petroleum Council’s report “Facing the Hard Truths about Energy, A comprehensive view to 2030 of global oil and natural gas” was released July 18, 2007. It was balanced, well written, and informative. World oil reserves are plentiful. But access to these reserves is limited. The average IOC estimate of production in 2030 is 107 Mbl/day versus an estimated demand of 138 Mbl/day, a 23% shortfall. To quote from the Executive Summary: “Over the next 25 years, risks above ground—geopolitical, technical, and infrastructure—are more likely to affect oil and natural gas production rates than are limitations of the below-ground endowment. This range of outcomes emphasizes the need for proactive strategies to manage the accumulating risks to liquids delivery in 2030.” Assuming these risks do not disrupt production, supplies appear to be adequate through 2015. Production thereafter is less certain.

Precisely the points I make in “The Report on Oil Depletion”. The NPC has confirmed that by 2030, oil demand will only equal oil supply if there is substantial demand destruction. Furthermore, accumulating above ground risks could disrupt oil supplies at any time between now and 2030.

The NPC has acknowledged the importance of dealing with CO2 emissions and Global Warming. The report includes a long list of specific recommendations, including many which deal with energy efficiency and conservation. (Yes. The oil industry is actually telling us to use less oil.) The report conveys a sense of urgency. The NPC has effectively called on Congress to establish a comprehensive energy policy for America that includes the creation of a clearly defined regulatory and legal environment, and urges energy become an key factor in American foreign policy.

The outlook for natural gas is more encouraging. Assuming the unrestricted flow of LNG, supplies will be adequate through 2030. The outlook for coal is also encouraging. Assuming we agree on an ecologically responsible and energy efficient consumption plan, there is enough coal to satisfy America’s through the end of this century.

Like many of my “Peak Oil” associates, I am disappointed the NPC did not give us more specific information, and I am very disturbed that the world’s largest independent oil companies do not have better resource data. Never-the-less, the NPC has opened the door to having a positive, constructive, dialogue about the oil challenges that lie ahead.

Going forward, we need to focus on three things:

1. We need to be sure we take an integrated approach to contemporary concerns about global warming and fossil fuel depletion. Global warming and fossil fuel depletion are in fact evil twins, and if we want to make intelligent choices, we need to deal with them as a package. Let’s start by drawing Al Gore into our discussion.

2. We need to push our elected officials into the formation of an oil and natural gas consumer’s union. Start with the United States, Canada, and the European Union. Invite China and India. This will give our nations the leverage we need to deal with supplier cartels, and – hopefully – lead to resource sharing agreements. I firmly believe working together is a far better option than the existing perilous alternative.

3. We need to find a way to deal with the Middle East. No. It will not be easy. The region overflows with insidious virile hatred. But the unpleasant fact is this: the future of the world’s oil and natural gas supplies depend on what happens in the Middle East. For the sake of world peace, we must control the outcome.

The NPC report confirms what we all knew. It is time to move on. We must work together to mitigate the impact of oil depletion.

As for our political leaders, there is absolutely no excuse to ignore the energy challenges that lie ahead. Time is running out. We need positive, constructive, legislative leadership. And we need it NOW.

To do otherwise would be an act of criminal neglect.

Ronald R. Cooke
The Cultural Economist

PS. I welcome thoughtful questions, comments and information. You can reach me – tce :: tce.name

The GAO Report on Oil Depletion

Uncertainty about Future Oil Supply

Makes It Important to Develop a Strategy

for Addressing a Peak and Decline in Oil Production

The GAO Report on Oil Depletion

United States Government Accountability Office

February, 2007

GAO (1) examined when oil production could peak, (2) assessed the potential for transportation technologies to mitigate the consequences of a peak in oil production, and (3) examined federal agency efforts that could reduce uncertainty about the timing of a peak or mitigate the consequences. To address these objectives, GAO reviewed studies, convened an expert panel, and consulted agency officials.

Most studies estimate that oil production will peak sometime between now and 2040. This range of estimates is wide because the timing of the peak depends on multiple, uncertain factors that will help determine how quickly the oil remaining in the ground is used, including the amount of oil still in the ground; how much of that oil can ultimately be produced given technological, cost, and environmental challenges as well as potentially unfavorable political and investment conditions in some countries where oil is located; and future global demand for oil. Demand for oil will, in turn, be influenced by global economic growth and may be affected by government policies on the environment and climate change and consumer choices about conservation.

In the United States, alternative fuels and transportation technologies face challenges that could impede their ability to mitigate the consequences of a peak and decline in oil production, unless sufficient time and effort are brought to bear. For example, although corn ethanol production is technically feasible, it is more expensive to produce than gasoline and will require costly investments in infrastructure, such as pipelines and storage tanks, before it can become widely available as a primary fuel. Key alternative technologies currently supply the equivalent of only about 1 percent of U.S. consumption of petroleum products, and the Department of Energy (DOE) projects that even by 2015, they could displace only the equivalent of 4 percent of projected U.S. annual consumption. In such circumstances, an imminent peak and sharp decline in oil production could cause a worldwide recession. If the peak is delayed, however, these technologies have a greater potential to mitigate the consequences. DOE projects that the technologies could displace up to 34 percent of U.S. consumption in the 2025 through 2030 time frame, if the challenges are met. The level of effort dedicated to overcoming challenges will depend in part on sustained high oil prices to encourage sufficient investment in and demand for alternatives.

Federal agency efforts that could reduce uncertainty about the timing of peak oil production or mitigate its consequences are spread across multiple agencies and are generally not focused explicitly on peak oil. Federally sponsored studies have expressed concern over the potential for a peak, and agency officials have identified actions that could be taken to address this issue. For example, DOE and United States Geological Survey officials said uncertainty about the peak’s timing could be reduced through better information about worldwide demand and supply, and agency officials said they could step up efforts to promote alternative fuels and transportation technologies. However, there is no coordinated federal strategy for reducing uncertainty about the peak’s timing or mitigating its consequences.

The full report may be found at www.gao.gov/cgi-bin/getrpt?GAO-07-283

TCE

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We Can Reduce the Price of Gasoline

Urgent e-mails encourage us to boycott ExxonMobil. Media personalities, pandering to pop-culture ideology, tell us this huge company is charging too much for its gasoline. If we "punish" ExxonMobil with a boycott, we can bring down the price of gasoline and diesel fuel.

Nonsense. Ignorance will get us nowhere.

Boycotting Exxon Mobil may make us feel good, but it will not bring down the price of gasoline. If we want to reduce the price of motor fuels, we need to do our homework on the subject of world oil production and consumption, oil resource depletion, and how these factors impact the price of gasoline and diesel.

A Few Facts

According to the United States Department of Energy (DOE), fossil fuels – coal, oil and natural gas -- currently provide more than 85% of all the energy consumed in the United States, nearly two-thirds of our electricity, and virtually all of our transportation fuels. Moreover, despite the development of alternative energy solutions, America's reliance on fossil fuels is actually projected to increase.

Gasoline, one of the main products refined from crude oil, accounts for just about 17 percent of the energy consumed in the United States. Most of the gasoline we use is pumped through a network of pipelines from a refinery to a local distributor, who then sends it by truck to one of our nation's 168,987 gasoline stations.

The following chart shows that the average retail price for a gallon of regular gasoline in the United States increased by 19 percent in the four year period from 2000 to 2004. If, as expected, the average price for all grades reaches an annual average of $2.86 for all of 2006, it will have increased by another 55 percent in two years. The chart shows refining, distribution and marketing, taxes, and crude oil costs as a percentage of the price you pay at the pump. In 2004, 15 percent of the price you paid ($1.56 per gallon) went to refine the gasoline you use. Another 14 percent went to cover the cost of moving that gallon of gasoline to the pump. Federal and State taxes added 27 percent to the price of regular gasoline. Less than half of the money you spent (44 percent) actually went to the owners and producers of crude oil.

A Profile of the Price You Pay for Regular Gasoline

Year	Average Price	Refining Costs	Distribution And Marketing Costs	Taxes	Cost of Crude Oil
2000	$1.56	15%	14%	27%	44%
2004	$1.85	18%	12%	23%	47%
2006 *	$2.86	15%	8%	15%	62%

* Estimated. Source Data: EIA/DOE. Percentages are based on national average costs. Because of variations in local tax codes and distribution costs, these percentages will vary by region.

But all of these percentages change as the price of crude oil increases. The higher the cost of crude oil, the greater impact it will have on the price of gasoline. If the estimated national average price per gallon of regular gasoline exceeds $2.90 in 2007, it will do so because the price temporarily exceeds $3.40 before the end of September. In California, environmental regulations could briefly drive the price of regular gasoline to more than $3.80 per gallon.

Historically, the price of gasoline has been quite volatile. That will not change. Even if we do nothing, economic and cultural forces beyond our control will continue to drives prices up and down. It would not surprise me if the average national price for a gallon of regular gasoline temporarily dropped below $2.60 per gallon. But don't be deceived by a short-term price decline. A price above $3.60 per gallon of regular gasoline is equally possible.

Supply Vs. Demand

We can mitigate the upward trend in gasoline prices, and - of course - the coincident increase in the price we pay for diesel, heating oil, and propane fuels. All of these fuels are made from oil. All we have to do is either increase the supply of oil, or decrease the demand for products we make from oil.

Increasing the supply of oil would certainly ease the upward pressure on gasoline prices. We can drill for oil off our coasts, there is more oil to be had in Alaska and the Arctic, and new discoveries promise additional oil in Africa and South America.

Unfortunately, there are two problems with the supply side:

1. Even assuming we know where the oil is located, it takes 5 to 9 years from the date you say "Go" to bring a new field on-line. Existing and planned drilling programs will not provide us with enough additional oil to bring down the price of gasoline in 2007.

2. Projected increases in the supply of conventional oil from all known drilling programs, less the rate of depletion at existing oil fields, will not exceed the projected long term growth in world-wide demand. Although in a "Best Case" scenario, production may occasionally exceed consumption over the next few years, oil shortages are inevitable. It's not a case of "if". It's only a question of "when". And that simple fact will raise hell with the price of gasoline.

Let me put it another way. The only way to avoid future oil shortages and higher prices for gasoline, diesel, propane, and heating oil fuels is to decrease demand.

Why? Because oil is a finite resource and we humans are running out of easily accessible (low cost) conventional oil. That's what "Oil Depletion" is all about. And it is very clear to me that oil depletion has already begun to impact the price and availability of oil.

But there is some good news. If there is a sufficient decrease in demand, production will exceed consumption, and the price of oil will come down. The nations that own the world's oil reserves have a tendency to over-produce in order to protect the stream of revenue they receive from the sale of oil. Competition for the available market will thus force the price down. If the price of oil declines, the price of gasoline will decline.

So we do have a demand side solution to the high price of gasoline. Use less.

Here are two specific ways to use less gasoline.

1. Decrease personal consumption.

If we make fewer and shorter trips in our cars and trucks, we consume less gasoline. Everyone can participate. Our children can walk to soccer practice. We can car pool, ride a bicycle, use public transportation, and telecommute to work. There's an almost endless list of ways to curtail our driving. We can also junk our gasoline powered water craft, lawn mowers, airplanes, quads, dirt bikes, tools, and equipment. And finally, when we do purchase a gasoline powered vehicle or product, we can chose one with a smaller motor.

Projection. Highly likely. Consumers, already feeling wallet pain at the pump, will make minor adjustments to their life-style. The average price per gallon will come down. But not by much. Deep price cuts would require a substantial change in consumer lifestyle.

2. Have a recession.

Nothing reduces the price of oil like a really bad world-wide recession. Oil demand growth is moderated by declining employment and business activity. The longer and deeper the recession, the longer the price of gasoline will be (comparatively) inexpensive. Oil prices declined by 47 percent in 1986, bringing the price of gasoline down by $ .27.

Projection. Highly probable. Look for a recession to put downward pressure on the price of gasoline before the end of 2007.

A Few Challenges

Unfortunately for us, there are a few "challenges" to be resolved before we can expect to see consistently lower gasoline prices. These issues all put upward pressure on the price of gasoline.

1. International contracts are worthless.

Let's say you run a really big oil company. You have negotiated a good faith contract with a foreign nation to explore, produce, refine and transport oil from that country to world markets. Your company's total investment has been several billion (that's billion – with a "$ b") dollars. Your efforts have provided the technical expertise, capital, and labor for a successful venture. Then an elected dictator assumes control of the host country government. He soon insists that a national oil company, which his political cronies manage, take a 51 percent controlling interest in your venture, raises the tax rate on the oil you produce from 34 percent to 50 percent, and hikes the royalties you must pay from 16.7 to 33 percent.

Would you think you were double-crossed?

But that is exactly what Hugo Chavez has done in Venezuela, the world's fourth largest oil exporter and a primary supplier to the United States. Hugo has raised the price of gasoline.

Projection. World oil depletion has changed the rules of international trade. Producer nations believe they have the right to tear up existing oil (and natural gas) production contracts whenever they please.

2. Futures trading distorts the intrinsic value of oil.

Futures traders set the world price of oil and gasoline. In the Futures Market, buyers trade to lock in the price they will have to pay for oil (or unleaded gasoline) at some future point in time. Sellers trade to lock in the price they will get for the oil (or unleaded gasoline) they plan to sell at some point of time in the future. Speculators buy and sell futures contracts based on their optimism (greed) that prices will go up, or on their pessimism (fear) that prices are going to fall. Competition for available supplies forces prices up. If the traders perceive a surplus is possible, prices decline. Price changes can be very volatile.

Want to blame someone for high oil prices? Censure Wall Street firms such as Goldman Sachs and Morgan Stanley, or hedge funds that invest in speculative investments for the wealthy. Oil futures trading activity at the New York Mercantile Exchange, London's ICE Futures Exchange, the Tokyo Commodity Exchange, and the Atlanta Intercontinental Exchange soared in 2005. NyMex, the largest oil trading exchange, handled over 60 million oil contract sales and 13 million gasoline contract sales in 2005. Think billions of barrels of oil and multiple billions of gallons of gasoline. All priced by contracts for the delivery of oil or gasoline at some point in the future. If you are paying $3.00 for a gallon of regular gasoline, there are those who believe that maybe $ .30 to $.45 of that price is based on speculative trading in the Futures market.

Projection: Although most of the oil we humans consume is not traded through a futures exchange, these institutions will continue to set the price for open market purchases, and hence the "peg" against which the price of other oil deals are established.

3. International market agreements would stabilize supply.

If they can be enforced. Here is the theory. Consumer nations need to work together with supplier nations on a consumption plan that fairly allocates the world's remaining oil reserves.

Projection: Will never happen. An allocation plan would require a level of international sophistication and cooperation that simply does not exist. Consumer nations have neither the will nor the leadership necessary to build a constructive coalition. Most producer nations are driven by unconstrained greed, uncompromising ideology, and a passion for political power. The trend is clear. A dwindling supply of "open market" oil ensures higher prices at the gas pump.

4. We need to stop price gouging.

American media is dominated by people who just don't get it. Exxon Mobil is not the world's largest oil company. In fact, independent oil companies – upon whom most English speaking and European nations depend for oil – are relatively small potatoes. Back in 1963, "Big Oil" – defined as the independent oil companies - had a large influence on the price of oil. But their influence has been declining. OPEC cartel decisions, producer nation policy, futures trading, government regulation, and distributor competition for available gasoline supplies all play a key role in determining what you pay at the pump. Although many politicians still believe it's 1963, the price of oil, and hence the price of gasoline, is largely outside the control of "Big Oil".

If we really want to stop price gouging. Go after national oil companies like Saudi Aramco, the world's largest oil company. Saudi Aramco, largely owned by the Saudi Royal family and a few close friends, is an integrated global petroleum enterprise. Saudi Aramco produces and exports more crude oil than any other company. Recent production has averaged some 8 million barrels per day. That is more than twice the output of the next highest national oil company and nearly three times greater than Exxon Mobil. If all of the oil produced by Saudi Aramco were convertible to gasoline, (it is not) it would have produced enough oil in 2005 to make (roughly) 50 billion gallons of gasoline. Saudi income soared by 49 per cent to $153 billion in 2005 and increased to over $162 billion in 2006.

Can you guess how much of this income is pure profit? The U. S. EIA's estimate of 2005 OPEC revenue is $473 billion. Was the gross profit more than $345 billion? Was that 10 times more profit than Exxon Mobil made? If so, then just who is really doing the price gouging?

Projection. The United States is unlikely to pursue a case for price gouging against any national oil company. Potential price reduction: None.

5. Our politicians need to get real.

China is driving up the price of oil. The price is going up because the world's Democracies refuse to deal with reality. Here we are, competing with China for what's left of the world's remaining cheap oil with Alice-in-Wonderland energy policies. We worry obsessively about being politically correct, whine about abusive human rights behavior, demand economic reform, and push foreign governments to espouse our political objectives.

China has no such restrictions. The Chinese just want to make deals. With whoever is in charge. They will trade for cash, military weapons, diplomatic favors, and whatever else it takes to lock down the world's remaining oil reserves. They bid up the price of oil using the cash they make from selling manufactured goods to the West.

If the future availability of a commodity is influenced by depletion and shortages, the only way for a buyer to avoid price volatility and ensure commodity availability is to negotiate long term supply contracts. If the world's democracies want to nail down better oil prices, they have compete for oil on a national basis, deal with repressive regimes, use weapon sales, bribery and intimidation as bargaining tools, ignore producer nation human rights abuses, and form coalitions with other consumer nations to stabilize the oil market.

Yes, I know. It's nasty stuff. Unpleasant. Repugnant. But if the world's democracies want to exercise some measure of control over the price they pay for oil, they have to deal with reality.

The real deal. Bad as it is.

Projection. Unlikely. China, Russia and Iran are in a three way chess game to control most of the world's remaining cheap oil. The Washington establishment will continue to pretend it's 1963.

Consequently, America will fail to take the steps necessary to shore up it oil resource base until the only recourse is military action. American consumers will see higher prices at the gas pump.

6. America must stay in Iraq.

There are those - including me - who believe going into Iraq was dumb. Senseless killing continues. The war effort has been appallingly mismanaged. Efforts to create an Iraqi democracy have failed. Backed by the United States, the Kurds are in a four way struggle with Syria, Iran, and Turkey for control of the Kurdish ethnic areas of Iraq, Syria, Turkey, and Iran. At stake: the oil fields near Kirkuk. Shia factions and criminal gangs are in a three way conflict over who will control Southern Iraq. At stake: the oil fields near Basra. Saudi Arabia and other predominately Sunni nations are backing Al-Qaeda and the Iraqi Sunni population in Central Iraq. At stake: the Sunni's want to control all of Iraq with an iron fist theocracy.

But wait. Iraq does have the world's third largest reserves of cheap oil. If America leaves, Iraq will be taken over by people who have no love for the United States, Canada, Australia or Western Europe. There will be a very bloody civil war. If that conflict can be resolved (not a sure thing), then whatever oil production Iraq can muster will go to nations favored by the winners.

Everyone else will have to compete for what's left over. The price of oil will be astronomical.

Yes. This is all very ugly. But, we can not be blasé about Iraq's oil. Neither the United States nor Western Europe, nor Japan have enough oil to sustain their economies. What we need, is an unprecedented level of diplomatic cooperation among all consuming nations.

Projection. Not good. Bringing peace to the Middle East would require a massive, creative, intelligent, and politically neutral cooperative effort among the world's democracies. But we currently do not have the will, vision, or leadership it would take to reach this goal.

More conflict is inevitable.

7. Consuming nations must control the outcome in Iran.

Iranian President Mahmoud Ahmadinejad is an ambitious man. He wants to lead the Islamists to greater political power. Worldwide. Ahmadinejad knows the more oil and natural gas he controls, the greater the leverage he will have over his chosen enemies. He looks west. Neighboring Iraq has plenty of oil. If he controls Iraq, then Iran would have the first or second largest reserves of low cost conventional oil and natural gas in the world. Copious wealth beacons. Money to achieve his ambitions.

So. Does he covet the oil fields of Shia dominated Southern Iraq? Can he maneuver his way into the Kurdish oil fields of Northern Iraq?

And then there is Iran's Supreme Leader Ayatollah Ali Khamenei - the man who holds the real political power in Iran. He has made it very clear. Iran will use its military power to disrupt oil shipments from the Gulf region if the United States makes a "wrong move". Note: - he did not say "Iran". He said "Gulf". Iran has drawn up plans to sabotage oil shipments from the entire Gulf region. That's where the world gets 27 percent of its crude oil.

Does anybody think there is a problem?

Projection. Political instability always reduces oil exploration and production. In the Middle East, the trend is toward increased cultural instability. The inevitable result is more conflict. If Iran's disruption is successful, the world will be plunged into a depression.

8. America will wrestle with nationalization.

Back in 1963, Western oil companies ("Big Oil") had virtually unrestricted access to more than 80 percent of the world's known oil reserves. They could make exploration and production deals almost anywhere they wanted on this planet. No more. Big Oil now has relatively open access to less than 20 percent of the world's remaining reserves. A combination of national self interest, political conflict, and environmental restrictions have sharply decreased upstream opportunities.

But these are the very same companies that supply much of the oil consumed by the world's democracies. If these nations want to assure themselves of a reliable and stable flow of oil, they will have to establish a constructive partnership with the oil industry that puts national interests before intramural politics. Liberals have an easy solution. Nationalize the capitalistic oil companies. Replace the top two or three tiers of management with political appointees. Operate "Big Oil" as a national trust.

Projection: Maybe. I'll make a prediction. The Washington Establishment will eventually propose to nationalize America's oil industry. The legislation will be launched in an environment of extreme economic stress, debated with bitter acrimony, and accompanied by savage political infighting. Many of the proposed rules, regulations, and directives will not make any sense.

9. Reduce taxes and fees.

Exxon Mobil made a lot of money in 2005. Income from continuing operations was $36.1 billion. But that's not the whole story. Exxon Mobil paid almost three times that amount, $95.6 billion, in direct taxes, royalties, fees and duties. That's 45% more than this company paid in 2000. Trust me. You paid for these government imposed taxes, royalties and fees at the gas pump. Exxon Mobil simply passed them on to your wallet. And Exxon Mobil is not alone. High taxes, duties, fees and royalties are a key expense for any company in the oil industry. In addition, consumers also pay Federal, State and (usually) Local taxes in the United States on every gallon of gasoline they buy.

So. Do your own homework. How much are all these levies costing us per gallon of gasoline? And just who is really making the big money from the sale of oil?

Projection. There will not be any substantial reduction in government mandated costs – foreign or domestic. Washington politicians have no way to fund the lost tax revenue. Producer nation politicians clearly intend to milk consumer nations for as much $$ as they can. The long term trend for oil royalties, duties, taxes, and fees is up. Not down.

10. Don't Boycott Exxon Mobil

You assume that by boycotting Exxon Mobil, the company will be forced to reduce the price of gasoline. In a way, you are right. Exxon Mobil could reduce the price of the gasoline it sells though the company's branded gas stations. If Exxon Mobil's upstream operations reduced the price of the oil they sell to the company's downstream operations, and the refinery shaved its profits, Exxon Mobil could reduce the price of gasoline it sells to you.

But they won't. There are two key problems with this idea.

First. Let's deal with reality. Oil is a BIG business. Even with 2005 revenues of $370.68 billion, Exxon Mobil is too small to set the price of gasoline in the United States – or anywhere else. Boycotting Exxon Mobil's gasoline sales would work if there were a surplus of conventional light, sweet, crude oil, and excess gasoline refining capacity. But that's not the case. Oil supplies are tight and world refining capacity is stretched. In the event of a boycott, the company would simply sell its product to other distributors. You would buy Exxon Mobil gasoline at some other station's pump.

Second. Gasoline sales account for a fraction of Exxon Mobil's profits. Read the company's 10K filing with the Securities and Exchange Commission (SEC), and compare Exxon Mobil's total gasoline sales with world gasoline sales. Then calculate how much of this company's profits come from the sale of gasoline. (Hint: In addition to gasoline, Exxon Mobil's profits include sales of natural gas, crude oil, naphtha, aviation fuel, heating oil, diesel fuel, chemicals, and other petroleum products).

The bottom line. The market for oil and oil products is so large that boycotting Exxon Mobil, as big as it is, would not make any difference to world gasoline consumption, or the price of gasoline.

11. Face up to the reality of oil depletion.

The economic and cultural challenges of oil depletion are not going to begin sometime in the future. They have already begun. Go back through the challenges discussed in this article. If oil were plentiful, most of them would be trivialized. The challenges of Iraq and Iran, the use of oil and natural gas as a political weapon, the rising price of gasoline, the disregard for oil exploration and production contracts, the competition for oil resources, and the distrust of "Big Oil" are all symptoms of a depleting resource. We need to face the issue of depletion head-on.

Let's deal with reality. Somehow we must encourage Congress to replace the current Energy Bill with one that will actually help America. (For more about energy legislation, see my article " The Energy Policy Act of 2005, Legislative Achievement or Management Fiasco?).

Prudent energy resource management must include conservation, ecologically responsible energy production and consumption, and the development of alternative energy resources. Oil and natural gas depletion will inevitably force extensive cultural change. Of particular interest is the development of a constructive response within our state, municipal and county infrastructure, the implementation of a pragmatic federal agenda, and the formation of productive partnerships between private and public organizations. Since no nation will be able to resolve its energy challenges without due consideration for the energy needs of other nations, we must encourage international cooperation in the development, production and consumption of our planet's energy resources.

Conclusion.

OK. By now your feeling a mixture of incredulity and anger. You don't like the challenges that lie ahead. This oil thing is nasty stuff. It sneers at your beliefs. Ignores your needs. Every possible option comes with its own economic, cultural and/or ecological baggage.

But that is precisely the point. There are NO painless ways to reduce the price of gasoline.

This is serious stuff. Media personalities have the opportunity to provide a great service to their viewers and listeners. Oil exploration, production, transportation, refining, and distribution is a complex subject. The economic and cultural impact of oil depletion is a real problem – today. You can see it in the rising price of gasoline. This is no time for pop-culture journalism. All media resources must take the responsibility to clearly understand the issues. Make an effort to explain them in a clear and concise manner to their audience. America needs credible information about the cultural and economic realities of oil depletion.

Is that too much to ask?

Ronald R. Cooke
The Cultural Economist
www.tce.name

For an assessment of world oil production and consumption, the economic devastation of oil depletion, and possible solutions to the emerging energy crisis, go to The Report on Oil Depletion .

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The Hydrogen? Economy

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Although I fervently hope we humans will be able to transition to a "Hydrogen Economy", I also understand the associated challenges in research, development, manufacturing, distribution and consumption. In addition to the usual economic and technology hurdles, we will be forced to deal with a new concept – EROEI (Energy Returned on Energy Invested). On this basis, existing technology provides an uncertain answer to our impending energy crisis. Current hydrogen production processes are far too energy intensive to yield a self-sustaining energy solution.

The following letter was sent to the Editor-in-Chief of BusinessWeek because I firmly believe our business media must play a key role in disseminating accurate, fact based, journalism on our impending energy crisis and the practical value of potential solutions.

For more information on hydrogen and the United States Department of Energy's hydrogen program go to http://www.nrel.gov/programs/hydrogen.html . The National Renewable Energy Laboratory (NREL) is the nation's primary laboratory for renewable energy and energy efficiency R&D. NREL is managed for the DOE by the Midwest Research Institute and Battelle.

TCE

January 27, 2005

Mr. Stephen B. Shepard

Editor-in-Chief

BusinessWeek

The McGraw-Hill Companies, Inc.

1221 Avenue of the Americas

New York, N. Y. 10020

Dear Sir:

In order to keep up with issues and events of interest to business people, I have been a BusinessWeek reader for over 30 years. Most of your magazine's articles have been informative, interesting and reasonably accurate. My only complaint is that from time to time, BusinessWeek has failed to maintain a policy of consistent editorial quality control. Two or more articles in the same issue, or in subsequent issues, reveal conflicting information and opinion. It is as though BusinessWeek wants to take all sides of a subject. The reader is left to figure out the truth.

Lately, however, BusinessWeek has apparently succumbed to siren of lazy journalism. Articles reflect a lemming like adulation of pop culture and politically correct thinking. Truth is fashioned from opinion rather than fact.

Such is the case with your unfortunate infomercial on hydrogen (Science and Technology, Hydrogen Cars Are Almost Here, But There are still serious problems to solve, such as: Where will drivers fuel up? BusinessWeek, January 24, 2005 pp. 56). This article reflects the contemporary pop culture mantra that pollution free hydrogen fuels will save the environment, a belief that ignores the pollution penalty of hydrogen production, distribution and consumption. It also obscures hydrogen's primary disadvantage: hydrogen is an energy intensive alternative to motor fuels derived from oil.

Here is why.

Fire and Explosion

Your article claims that hydrogen is less dangerous than gasoline. In a limited sense, this is true.

Like gasoline and diesel fuel, hydrogen is highly volatile. Because of its very low boiling point (-252.77 degrees C.), and a low gas density, it will dissipate very rapidly in an upward direction if released as a gas into the atmosphere or spilled as a liquid onto the ground. This very high rate of upward dissipation compares favorably with the slow dispersal rate of gasoline vapors which tend to fall and collect near the ground. Furthermore, gasoline can ignite at a concentration of 1 percent. By contrast, hydrogen needs a concentration level of roughly 4 percent before it will ignite. Since it has such a high dispersion coefficient, hydrogen dissipates rapidly and it is thus almost impossible for a hydrogen explosion to occur in an open area. It is also true that a hydrogen fire will burn out faster than a petroleum fire. These factors appear to make hydrogen safer than gasoline or diesel fuel as a source of explosion and fire.

But that does not mean, as your article implies, that hydrogen is not a potential source of explosion and fire. According to published Material Safety Data Sheets, it has other characteristics that make it dangerous.

1. Although the flame will usually burn out very quickly and dissipate little radiant heat, hydrogen ignites over a wide range of concentrations (from 4 to 74.2 percent).

2. A potential explosion hazard exists from reignition if a hydrogen fire is put out without shutting off the hydrogen source.

3. Hydrogen becomes explosively dangerous if it accumulates in the upper spaces of a structure.

4. In bright ambient light, the pale blue flames are invisible to the naked eye. People have been burned by hydrogen fires before they were even aware they had walked into an open flame.

5. It takes relatively little heat energy to ignite hydrogen. For example, when hydrogen is released from a pressurized container, rapid gaseous expansion causes an increase in temperature due to its negative Joule-Thompson coefficient and the heat thus generated may cause spontaneous ignition.

6. Hydrogen is easier to detonate if it is in a confined space, such as a tunnel, garage or the interior of a car. Care must be taken to eliminate sources of ignition, such as sparks from electrical equipment or static electricity, open flames, and extremely hot objects.

One final point on hydrogen's potential fire and explosion potential. Hydrogen is highly reactive with other elements and may combine with them to form new chemicals that are corrosive or explosive.

Other Hazards

Although hydrogen is odorless and nontoxic, it is classified as a simple asphyxiant. In an enclosed space, such as the cabin of a vehicle or your garage, symptoms of anoxia can occur when gas concentrations are within the flammable (and potentially explosive) range. Suffocation occurs because increased concentrations of hydrogen dilute the available supply of oxygen in the air to levels below those necessary to support life. To prevent explosions and suffocation, industrial systems typically employ sensors which trigger venting procedures before hydrogen reaches a concentration of 4 percent. If we plan to use hydrogen as a motor fuel, we will need to devise similar systems for use in garages and tunnels, and we will expect vehicle manufacturers, such as BMW, to automatically vent our cars and trucks in the event of a hydrogen leak.

And last – but not least – all consumers will have to be warned that skin contact with cryogenic hydrogen liquid or its vapors can cause burns and tissue damage.

Fuel Cells

Has anyone developed a reliable, practical and affordable fuel cell for automotive applications? Is it possible to develop a fuel cell that will last the expected life of the vehicle? How will we distribute, install, maintain, collect and recycle the exotic and sometimes highly corrosive chemicals used to sustain fuel cell reactions?

Until there are suitable answers to these questions, automotive fuel cells are, and will remain, interesting laboratory experiments. As a service to your readers, BusinessWeek's editorial evaluation should reflect this reality.

Hydrogen and the Environment

Before we waltz all starry eyed into a hydrogen economy, we need to answer some very tough questions. Remember the Periodic Table that your science teacher showed you in High School? Where is hydrogen on that table and why is it there?

The short answer. Hydrogen is a very reactive element. It will readily combine with any other element or chemical it contacts in the environment that has a suitable electron structure. Because it is lighter than air, hydrogen always dissipates upward.

In our existing world, we use tons of liquid hydrogen and millions of cubic feet of hydrogen gas every year. But most of these applications are for industrial use. In theory, hydrogen is used under carefully controlled conditions using specified procedures by trained personnel. Now we propose to make hydrogen a widely distributed fuel for mobile and stationary applications. Who will use this fuel? Millions of people with little or no training or real concern for the commodity they are handling. Leaks are inevitable. Accidental release will be a fact of life

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As this highly reactive gas ascends upward into the atmosphere, it will combine with oxygen and form water droplets. Will this contribute to global warming? Or cooling? And will hydrogen reach the ozone layer? If so, do we humans run the risk of destroying the ozone layer with our hydrogen energy solution?

The average composition of the low atmosphere (up to 15 kms) includes: nitrogen, oxygen, argon, carbon dioxide, ozone, methane, nitric oxide, hydrogen, nitrous oxide, carbon monoxide, and water vapor. The ozone layer or ozonosphere is generally the region in the upper atmosphere between 15-40 kms. The ozone layer contains nitrogen, oxygen, argon, hydrogen, hydroxyl and methyl radicals, hydrogen peroxide, and water vapor. There are continual photochemical reactions in the stratosphere because of the influx of short-wave radiation. Ozone is continually created and destroyed in catalytic reactions with oxides of hydrogen, nitrogen, and chlorine.

What are the potential chemical reactions if excess hydrogen accumulates in the atmosphere? The answer to this question is presently the subject of scientific debate.

Hydrogen as a Fuel.

We have to remember that hydrogen is not a source of energy. It is merely a carrier of energy.

Hydrogen is a manufactured product. Your article glosses over and ignores a key fact about the production of hydrogen.

It's energy intensive.

Using existing and proven technology, it takes substantially more energy to make, compress, liquefy, store and distribute hydrogen than we can expect to get from hydrogen. If electricity is used to make hydrogen by electrolysis, and the hydrogen thus produced is used in an automobile fuel cell, at least 45 percent of the original energy used to manufacture the hydrogen will be wasted by the time it is consumed in a fuel cell using best available technology. The net energy efficiency of a vehicle which burns hydrogen as a fuel is substantially worse.

Where will we get this energy?

Biomass

Your article ignores the facts. Biomass collection, transportation, processing and distribution yields little net energy and assumes the use of gasoline or diesel fuel. As the reality of oil depletion becomes a factor in public policy, the direct use of available oil resources for energy consumption will take precedence over their indirect use to produce another form of energy. The use of biomass for hydrogen production is problematic because it is not, on a net energy basis, a self sustaining process nor is there enough arable land on this planet to grow the crops that would be necessary to support a biomass solution to the emerging energy crisis.

Policy Issues

Public policy will eventually work to discourage the production of hydrogen from oil, coal, solar, hydro, nuclear, or wind resources because in every case, it is more efficient to use the available energy for electricity or motor fuel than to waste it for the production of hydrogen. All of the experimental production and distribution options mentioned in your article assume the availability of cheap energy, usually in the form of oil or natural gas. As time passes, that assumption will prove increasingly false. A more realistic assessment of production costs using available resources would have shown substantially higher consumer prices than those quoted in your article.

So let us review the our facts.

1. There are safety and environmental questions that need to be resolved before we embrace the hydrogen economy.

2. In order for hydrogen to become an attractive carrier of energy, we must develop a far less energy intensive manufacturing process.

3. No one has developed a reliable, practical and affordable fuel cell and unless someone has been able to change the laws of physics, burning hydrogen as a motor fuel is improvident.

Should We Give Up?

No. Although there is evidence that proposed automotive hybrid technology will be almost as efficient and environmentally friendly as a fleet of hydrogen vehicles, we face an era of dwindling oil supplies. So the hybrid option only gives us a 15 to 25 year solution. The welfare of our children and our grandchildren depends on our ability to develop a practical alternative fuel for both mobile and stationary applications.

Since oil and natural gas depletion are a reality that will impact our economy and our culture over the next 25 years, energy production and consumption has become a critical issue for every BusinessWeek reader. However, before BusinessWeek publishes another article on hydrogen as a fuel, I would encourage your editors to do their homework. A good place to start is a report on The Hydrogen Economy by the National Academies Press. The project detailed in this report was approved by the Governing Board of the National Research Council, whose members are drawn from the councils of the National Academy of Sciences, the National Academy of Engineering, and the Institute of Medicine. This report addressed the problem of how hydrogen might be manufactured, distributed, stored, and dispensed for light-duty vehicles in the transportation sector. To quote from this excellent report "There are major hurdles on the path to achieving the vision of the hydrogen economy; the path will not be simple or straightforward. Many of the committee’s observations generalize across the entire hydrogen economy: the hydrogen system must be cost-competitive, it must be safe and appealing to the consumer, and it would preferably offer advantages from the perspectives of energy security and CO₂ emissions. Specifically for the transportation sector, dramatic progress in the development of fuel cells, storage devices, and distribution systems is especially critical. Widespread success is not certain."

The analysis is reasonably optimistic: "at a future, mature stage of development, hydrogen (H₂) can be produced and used in fuel cell vehicles at reasonable cost." However, "The challenge, with today’s industrial hydrogen as well as tomorrow’s hydrogen, is the high cost of distributing H₂ to dispersed locations. … The committee believes that the required (manufacturing) cost reductions can be achieved only by targeted fundamental and exploratory research on hydrogen production by photo biological, photochemical, and thin-film solar processes."

Furthermore, the authors of this report envision a 50 year conversion cycle from petroleum to hydrogen. That's much too long. We need to focus our resources on a solution that can be researched, designed, tested, manufactured, distributed, and implemented before 2020.

The impending energy crisis that will have a profound impact on our economy, our culture and our environment. It will be the subject of intense debate and acerbic oratory in the 2008 election cycle. It is clear our political leaders do not understand how to organize, manage and fund a successful energy program. Although the concept of a "hydrogen economy" is very appealing, it may never be a reality.

These facts give media such as BusinessWeek a very special responsibility. If we want our government and business leaders to make good decisions, then BusinessWeek has an obligation to provide them with well researched journalism that has been carefully reviewed by knowledgeable editors.

Do you accept the challenge?

TCE
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12 Criteria for Evaluating Our Energy Options

Introduction

Are we running out of oil? No. Are we running out of affordable oil? Probably. We are certainly running out of the cheap oil that has powered the world economy since the 1950s. Those of us who are willing to face reality have begun to search in earnest for alternative energy solutions.

There appears to be an unlimited number of technologies that could come to our rescue. But are they all viable? No. The search for alternative energy resources is a road full of technology potholes and politically motivated wrong turns. We have to make informed choices. Can we do it?

Maybe.

However, before we start to make comparisons – one energy technology versus another – we need a frame of reference that will give us critical perspective. Let's start with the basics.

First of all, we need to remember there are two basic energy applications. We need high energy content mobile fuels for our vehicles, ships and airplanes. And we need bulk quantities of stationary fuels to generate heat and electricity. Our existing consumption has largely relied on oil for mobile applications; and coal, natural gas, nuclear or water power for stationary applications.

A second point we need to remember is that any energy resource –oil, coal, wind, biomass or whatever, is an element of a complex supply chain. Think of energy as a system from production through consumption. All of the elements of the system are interrelated and interdependent. For example, the oil supply chain begins with the negotiation of exploration or drilling rights with the property owner (these days – usually a national government), then comes the actual exploration, oil production, transportation of crude oil to a refinery, refining operations, oil refinery product distribution, and finally- consumption by user application. Break this chain at any point – and consumption stops. In 2005, two hurricanes in the Gulf of Mexico interrupted exploration, decimated production, destroyed parts of the transportation infrastructure, shut down several refineries, restricted distribution, and almost caused consumption shortages. There is plenty of oil in Iraq, but the exploration, production, and transportation links of the supply chain keep breaking. There is a lot more oil in Saudi Arabia and the former Soviet Union, but geopolitical impediments restrict exploration, production, transportation, and refining. The point is: every link in the supply chain is important. Even the act of consumption must be carefully evaluated in proposing an energy solution. This is one reason why, for example, the proposed use of hydrogen as a mobile fuel is so difficult to implement. We currently do not have an economical vehicle fuel cell that can be used to consume hydrogen.

A third point to consider is that all energy solutions include some level of risk. Production plant construction cost overruns, a miscalculation of operating and maintenance costs, technology snafus, changes in market demand, unanticipated regulatory actions, environmental impacts, and the availability of capital must all be considered when proposing an energy solution – particularly when implementing an untested alternative energy technology.

And lastly. No proposed energy solution is useful unless it will be economically and structurally viable without government support. No subsidies. No special regulations to encourage production or consumption. Yes, I know. If government preferences, subsidies, military action, and so on were added to the real cost of oil, we would pay at least twice as much as we do for gasoline, diesel, and heating oil fuels. But in the long run, such preferences and subsidies are economically unsustainable. Energy technologies are viable only if they are able to provide us with a solution that can stand on its own under the political, economic, or environmental constraints that lie in our future.

Evaluating Our Energy Options

Unfortunately, not all alternative energy technologies are equal. All of the proposed alternative energy solutions have risks and drawbacks. So how do we evaluate them? By accessing their performance against known evaluation criteria. Here, in no particular order and without making any judgment as to outcome, are some of the items that must be considered.

1. Basic Economics. The price of energy supplied to the consumer must be affordable within the constraint of measuring the amount of money spent on energy as a percentage on income. Yes. This means that rich people will spend less of their money – as a percentage of income – on energy than poor people. Rather than bemoaning this fact, however, it will be more constructive to focus our research and development on energy solutions that the poor can afford.

Producer costs must be less than consumer prices. Artificially restricting producer prices may make good politics, but its makes lousy energy policy – as Californians found our earlier in this century. As a system, any energy solution must meet the criteria of economic common sense. It must be viable within the constraints of a nation's economic characteristics. Else it will ultimately fail.

2. EROEI: Energy Returned On Energy Invested. That is to say, the amount of energy we get from a production process must be substantially greater than the energy consumed by that process. Otherwise, each cycle of production will theoretically reduce the energy available for consumption. For example: an EROEI of 1 means that for every unit of energy consumed in the production process, we get 1 unit of energy to use for the next cycle of energy production. But an EROEI of 1:1 doesn't make any sense. There isn't any energy left over to distribute to the consumer. So we need a net gain of energy from each production cycle as follows….

An EROEI of 1:1 means that for every unit of energy input	we produce 1 unit of energy, hence the ratio is 1:1. The energy we get must all go back into the production cycle to produce more energy.
An EROEI of 1:2 means that for every unit of energy input	We produce 2 units of energy. One unit goes back into the production of more energy, and we have a net gain of 1 unit of energy that can be distributed for consumption.
An EROEI of 1:4 means that for every unit of energy input	We produce 4 units of energy. One unit goes back into the production of more energy, and we have a net gain of 3 units of energy that can be distributed for consumption.

Remember. If the EROEI of any energy resource is less than 1, then doing that activity no longer adds to our energy stockpile.

Furthermore, not all energy thus produced is equal. The energy content of a gallon of diesel fuel is (roughly) 139,000 Btu, the energy derived from a gallon of gasoline is (roughly) 124,000 Btu, and the energy in a gallon of ethanol is (roughly) 80,000 Btu. Can you guess which fuel will give us the best vehicle mileage? If we can get 50,000 Btu from 10 pounds of dry wood, 104,000 Btu from 10 pounds of high quality coal, or 139,000 Btu from 1 gallon of heating oil, which fuel would the consumer prefer to use for heat?

Unfortunately, the average EROEI of world oil production has been declining. I read somewhere that before 1950 the EROEI for oil was more than 100:1. By the 1970s it had dropped to 30:1, and by 2005 the average EROEI on new production had fallen to 10:1. As we go for oil in increasingly difficult environments (deep under the ocean, open pit mining, etc.) the EROEI will decline further. We have to face the facts. Just because there is oil in the ground does not mean it is practical to extract. Every well has its cost in money AND energy. At some point the EROEI for every well will fall to less than 1, making oil from that well an impractical resource for energy. Although we will probably continue to work that well, the oil thus produced will have a greater value as a raw material for manufactured products than as a fuel. It won't go into your gas tank.

The concept of EROEI is usually ignored by politicians, disputed by alternative energy advocates, and distrusted by "Peak Oil" critics. It's not even discussed on the DOE WEB site. But eventually, it will become a topic of great importance. And credibility. Right now, there are no standard definitions of how to determine EROEI values, or what should – or should not – be included in an EROEI calculation. I believe we need a three tier model:

• Basic EROEI modeling – which confines itself to energy production versus energy consumption as an energy production process.

• Energy Supply Chain EROEI models – which calculate an estimate of energy used to research, develop, explore, produce, transport, distribute, and consume energy through the entire supply chain.

• Life Cycle EROI Models – should include co-generation, ancillary product production, waste, and the impact on ecology. Or put another way, everything discussed in this essay (including labor).

3. Labor Efficiency. We keep forgetting. The high energy content of a barrel of oil has allowed us to use less human labor to do energy intensive tasks – like farming. That's going to change. We need to start thinking in terms of the hours of labor it takes to produce a given level of energy.

In Brazil, for example, much has been made of the integrated biomass energy production process where small growers cultivate sugar cane and sweet sorghum, process the crop through a distillery, and feed their cattle the residue. The stillage and cow manure go through distillers, producing enough biogas to power a generator. There is enough electricity to power the distillery, the farm, and nearby homes or shops. But the process is labor intensive. Does this mean we humans will be spending more of our labor to produce energy, thus increasing the cost and decreasing the amount of labor we could be using for other tasks?

In 1850, more than 90 percent of our work was done by human labor and draft animals. By 1950, most of the human labor and virtually all of the draft animal labor had been replaced by other sources of energy. Absent an incredible breakthrough in energy technology, we will soon start to march backward in time to an age when human labor and draft animals will again become an important part of the energy cycle. Need proof? Read what has happened in Cuba since 1990.

4. Process. Engineers, bless their hearts, can make just about anything work in the laboratory. Maybe once. Perhaps several times. But that does not mean the energy production process thus invented is scaleable, repeatable, reliable, or available for mass production, distribution, or consumption. Furthermore, we live in a hydrocarbon environment. Most of the mobile fuel and stationary energy development involves fooling around with the hydrocarbon chain. Sure. We can turn almost anything into energy. But that does not mean it’s a good idea.

So for every alternative energy proposal, we have to evaluate the underlying technology in terms of its functional characteristics. Is it scaleable, repeatable, reliable, and available for mass production, distribution, and consumption? And what percentage of our total energy requirements will be satisfied by this process? We can, for example, make fuel from the hydrocarbons in chicken fat. But will that process solve the energy challenges that lie ahead? Absolutely not.

5. Infrastructure. The best alternative energy solutions will be compatible with (or adaptable to) the existing distribution and consumption infrastructure. We have to consider fuel handling, transportation, safety, security, availability, and reliability. We can not ignore our existing vehicle and power generation technologies. For example, one of the more serious challenges of moving to a hydrogen economy will be the development of safe and reliable methods for fuel transportation, storage, distribution, and consumption. We will need a whole new distribution infrastructure – thousands of hydrogen stations, and millions of people to be trained. That will take time, lots of labor, and buckets of money.

6. Use of conventional fuels. Some alternative energy proposals will ultimately fail because they assume the availability of low cost oil and natural gas. Wrong! If oil and natural gas are in short supply, or only available at a sharply higher price, they have to be removed from the energy equation. For example, with the exception of small scale applications or devices, we can not assume the use of natural gas to power fuel cells. We have to be careful with the calculation of net energy from biomass if the production process uses excessive amounts of diesel and gasoline fuels. Ethanol is not a good idea if it assumes increased consumption of oil or natural gas based herbicides, pesticides, and fertilizers. The list of questionable alternative energy solutions goes on and on. Any alternative technology that assumes the use of conventional fuels is suspect.

7. Benefits. We need to find someway to quantify, qualify and measure the benefits of the proposed alternative energy solution versus potentially more efficient or desirable uses of the resources employed. For example: is the use of natural gas to produce hydrogen a misuse of natural gas? Is the use of natural gas for electric power production more desirable than to save it for heating our homes? Is the use of land for ethanol crop production a good idea if we determine that the land we use will eventually be needed for food production? Is adding ethanol to gasoline a good idea if there is not a net reduction in CO² emissions? The energy solutions we chose can not displace the alternative benefits derived from the resources we consume in the process. Else – on a net basis – we have accomplished nothing.

8. Subsidies. Governments love to hand out subsidies. Spend the taxpayer's money to buy favor. But in the long term, subsidies are not economically sustainable. They bury the real cost of energy, artificially encourage consumption, and increase the cost of government (thereby increasing the risk of financial failure). Energy companies routinely go to politicians with requests for cost sharing, debt interest offsets, payments for production, credit guarantees, direct tax incentives, and utility rate incentives. Unfortunately, subsidies will only continue to be available if government can manage the associated load of increased expense and debt.

That's not necessarily a good assumption.

9. Credits. Our government loves to cook the books. Auto makers are being encouraged to continue making gas guzzlers. To offset the obvious loss of fuel efficiency, manufacturers receive flex fuel vehicle credits that can be used to fudge their CAFE numbers (which is one of the reasons I believe CAFE standards are meaningless and should be dumped). Credits are also used to inflate the benefits of certain alternative energy solutions by including the indirect (non energy) co-products in the cost benefit analysis.

Granted, it is difficult to measure the direct benefits of an energy production process, and often the co-generation components are really valuable. For example, a typical Combined Heat and Power (CHP) system reduces the net energy required (100 units) to produce electricity (30 units) and steam or hot water (50 units) than separate heat and power components (which would need about 163 units of energy to do provide the same output).

So we need to pay attention to the way we calculate the benefits of any energy production or conversion process. Credit should only be given for energy efficiency or conservation.

10. Unintended Consequences. If the energy supply chain is really a system, and all of its component parts are interrelated, then we have to follow the impact of each alternative energy proposal through the act of consumption. How will the proposed automotive fuels affect fuel, engine and exhaust system life? Maintenance? Costs? Emissions? Consumer safety? We do not really understand, for example, the environmental consequences of using ethanol as a vehicle fuel. And does the proposed system solve one problem by creating another one? The most glaring example of this is MTBE, the replacement for lead in gasoline that was used to improve air quality, but which – at the same time – was found to be a potential carcinogen that easily leached into our water supply.

11. Waste. Every energy process creates waste. Oil spills, CO², ash, effluent, dead batteries, old equipment, and so on. Fuel cells use some very exotic chemicals. Hydrogen generation from coal means we have to use the coal. Nuclear power has left us with a legacy of radioactive material. We need a way to quantify and qualify the type and amount of waste from each energy resource so that we can make comparisons of the resulting waste disposal challenges.

12. Ecosystem. Burning oil, coal, and to a lesser extent – natural gas – have produced an unpleasant side effect: emissions of carbon, sulfur, and metals. We have recognized that carbon emissions, in the form of CO, CO², and ash, are an air quality environmental problem. Sulfur emissions produce acid rain. Metals can leach into ground water aquifers. Any acceptable mobile or stationary application solution, therefore, must yield a net reduction of these emissions.

Technology may not save us, but we have been making technological progress. That means we need to re-evaluate the environmental assumptions we may have made in the past. For example, since the average size of a biomass plant is relatively small, there are those who claim it will generally produce more CO² per KW than a modern coal plant. On the other hand, new coal boiler designs allow the introduction of biomass into the fuel stream, effectively reducing emissions by up to 20 percent. Ethanol and hydrogen have great pop-culture appeal, but the side effects of production may be undesirable.

But perhaps most important of all, environmentalists have to rethink their positions on the use of natural gas for power generation, the looming use of dung, wood and coal as home heating fuels, and the inevitable construction of nuclear power plants. We have to accept reality. And deal with it in a constructive way.

Conclusion

I'm sorry to say this. But if we are willing to be realistic in our evaluation of the factors listed above, then the benefits of any energy production process that has a Basic EROEI of 3 or less is suspect, and any process that has an EROEI of 2 or less is probably a waste of time and money.

It's time to stop thinking in terms of pop-culture solutions and government subsidies. Energy is a serious business. We need science based solutions that can be retrofitted into our existing energy chain. We must continually seek to increase the efficiency of converting energy into heat and power. And we must somehow get our respective governments to get serious about a program of international energy research and development.

We have – maybe – 10 to 15 years to play with. After that, oil shortages will decimate our lifestyle. Unfortunately, if the best solution does require the development and deployment of a new technology, that process – best case -will take at least 15 to 20 years.

We don't have much time.

Ronald R. Cooke
The Cultural Economist
Author: The Report on Oil Depletion

Come and visit me at www.tce.name

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