Price-Driven US Energy Independence

Guest post by David Archibald

Mike Jonas’ recent post (http://wattsupwiththat.com/2012/01/03/peak-oil-the-rp-ratio-re-visited/#more-54146) has prompted me to revisit the subject of US energy independence. The best report on the subject of peak oil was produced by the Australian Government and then suppressed by the Australian Government. This is Report 117 written by Dr David Gargett of the Bureau of Infrastructure, Transport and Regional Economics. As I say in this post on Jo Nova’s site: http://joannenova.com.au/2011/12/inconvenient-energy-paper-vanishes-from-government-site/, it is the best report on peak oil I have seen. While Report 117 was issued with an ISBN number, it is only available from a French website: http://www.manicore.com/fichiers/Australian_Govt_Oil_supply_trends.pdf

Figure 13.9 from the report sums it up:

Figure 1: Figure 13.9 from Report 117, page 350

The red line is the discovery rate per annum from 1870. It peaked two generations ago in the early 1960s. The dark blue line is the production history of conventional oil to 2007. It peaked in 2005. The greenish line is predicted production, which is now in permanent decline for the balance of our lives.

The oil price is determined by the interplay of demand, supply and the demand-response to price. The demand-response to price is difficult to model, but it does set a trend.

Figure 2: Oil Intensity of the US Economy 1980 – 2020

Figure 2 shows the dramatic decline in the intensity of us of oil in the economy. Consider that the 1980 figure of 6.1 barrels of oil per thousand dollars of GPD would mean spending $612 at the current WTI price. In 2011, US households spent an average of more than $4,000 on gasoline. That represents about 8.4% of the median household income. At the 2011 oil intensity of 1.1 barrels per thousand dollars of GDP, the current oil price results in a similar percentage.

Figure 3: US Oil Consumption 1980 – 2020

As Figure 1 shows, world conventional oil production peaked in 2005, which is also the year that US oil consumption peaked at 20.9 million barrels per day. It then went sideways for a couple of years before starting a dramatic contraction at 1.1 million barrels/day/year. The demand reduction to date is 4.5 m BOPD from the peak. This is oil that the US used to import but is now available to other countries. If the demand reduction rate established over the last four years continues, US oil consumption will be down to the projected level of US oil production by the end of the decade. The US will then be in the very happy position of being energy independent.

The rate of US demand contraction of 1.1 million barrels/day/year is a bit more than the modelled rate of decline of World conventional oil production, requiring that a high proportion of World demand contraction due to price is in the US even as demand from some other countries rises as their economies grow. This is understandable given the different tax rates between countries. For example, Germans currently pay 1.58 Euros per litre for gasoline. That equates to $7.73 per gallon or $324 per barrel. Another $100 per barrel on the oil price will increase German gasoline prices by about one third.

Figure 4: US Oil Production and Imports 1949 – 2024

Figure 4 puts the projection in Figure 3 into the longer term context of US domestic conventional oil production and oil imports since 1949. The anticipated contribution from the Bakken Formation of North Dakota is also shown. Traditionally, oil and gas production has been from reservoir rocks such as sandstones and limestones that host oil and gas generated from a source rock and migrated from that source rock to the reservoir rock. New well completion technology and sustained higher oil prices now mean that production is economic from some source rocks that have high organic carbon contents. With respect to natural gas from shales, it is estimated that 400 TCF of gas will be able to be produced from shales in the US. In terms of energy content, that is equivalent to 67 billion barrels of oil, which in turn is 21 years of the projected 2020 US oil consumption rate of 8.5 million BOPD. The Bakken Formation will provide a further 6 billion barrels of production, giving another 2 years of supply at the 2020 demand rate.

Figure 5: US Natural Gas Production 1900 – 2040

This figure assumes that production of shale gas rises from the 4.35 TCF in 2011 to a plateau production rate of 10 TCF per annum. The average breakeven production cost of US shale gas is calculated to be about $5.20 per thousand cubic feet. In energy content terms, this equates to an oil price of $31 per barrel. US shale gas production is almost wholly unprofitable at the current gas price of $2.99 per mcf. The drilling is being conducted to secure acreage positions.

Figure 6: Potential Louisiana Gas Production Profile 2011 – 2041

This figure is derived from Kaiser, M.J. and Yu, Y., “How Haynesville shale will lift Louisiana’s gas production profile” Oil and Gas Journal, November 2011. It is included to show the short term impact that shale gas drilling will have regionally as a result of the more profitable formations being drilled out first. This production profile assumes that 800 wells are drilled in the Haynesville Shale annually for ten years with an average gas recovery of 3.4 BCF per well. Plateau gas production of 2.44 TCF per annum equates to 1.1 million barrels per day on an energy equivalent basis. On this basis, the Hayneville Shale in Louisiana will be producing about 20% more energy at plateau from 800 wells per annum than the Bakken Shale at plateau from 1,000 wells per annum.

Figure 7: Payback period relative to oil price for CNG vehicles at the average US shale gas production cost

Natural gas in the US used to trade at the No 2 fuel oil price in energy terms, and was thus linked to the oil price. At $2.99 per mcf for natural gas and $102 per barrel for oil, natural gas is currently 18% of the price of oil in energy content terms. That will drive the adoption of compressed natural gas (CNG) vehicles. Assuming an increased capital cost of $5,000 for an OEM CNG vehicle (retrofitting starts at $12,000) and a natural gas price at the average for future US shale gas production of $5.20 per mcf, Figure 7 shows how the payback period for that capital cost is projected to fall as the oil price rises.

Back on the subject of Report 117, why did the Australian Government suppress such a well-researched document? I believe that Report 117 tells a rather inconvenient truth for a Government that recently legislated a carbon tax, which in turn is based on things being rosy in the garden. Please don’t laugh too much, but one of the supposed reasons for the tax was to set an example for the rest of the World to follow. At the same time, the Australian Government is well aware that it is not meeting its oil stockholding requirement under the International Energy Agency treaty. With rapidly declining domestic production, the Government would have to spend $300 million per annum to fulfill its obligation.