Winter 2014

Creating a Sustainable Energy Future: Problematic but Attainable

Simon Henry

We face an enormous challenge in building a longer-term sustainable energy system, and I shall go on to explore certain specific policy options that could be available in the coming years. 

We have to recognise that there are certain forces already shaping future energy demand that are not reversible and are very pertinent to the climate change debate. Today’s global population of 7 billion people will increase to around 9 billion by the middle of this century. In this period, maybe 3 billion people or more will move via economic growth from primarily biomass to being consumers of modern energy. At the same time a similar number of people will move from rural to new urban environments. These factors will drive growth in demand for energy. 

Nearly all of this growth will be in developing economies – where the future patterns of demand will be set and where emerging and new ways of consuming energy will be so important. 

In Shell we are well known for looking at long-term scenarios for the development of energy, in the broader political, societal and technological context. In any of our scenarios, and taking into account all forms of efficiency and new technology development, demand for primary energy is expected to grow from 2010 levels of around 250 million to at least 400 million barrels of oil equivalent per day by 2050. This represents over a 5O% increase from today’s levels. 

The energy industry has always been intensely geopolitical due to the important role energy plays in any economy, with security and cost of supply being paramount for most governments around the world. And importantly, the climate change challenge is now clear and mostly undisputed. In the absence of changes in the way that man produces and consumes energy, then the impact on our climate could be both irreversible and very damaging to the way we live. Business as usual will not keep us within the two degree limit (compared to pre-industrial times) that has been defined by the Intergovernmental Panel on Climate Change and the UK Committee on Climate Change as an acceptable threshold. (This 2 degrees C is used as the basis for calculating what amount of carbon can be burnt before climate change reaches unacceptable proportions). 

Any successful approach to climate change must embrace science, economics and politics. We must use all three levers, and they are inter-related. Long-term and stable policy developments should enable technology development, preferably via market mechanisms. And also ensure that energy remains affordable at the point of use, preferably without subsidies, and particularly in rapidly developing economies. The way in which we consume energy must be affordable, and energy must be available when needed, with an acceptable impact on our environment. 

We must all recognise that there is no simple silver bullet solution. It is not simply a question of either one form of energy or another- we require all forms of energy to be developed in a responsible way. Simple one dimensional soundbite solutions do not translate into workable policy or deliverable outcomes, and in practice are dangerous to a productive discussion of serious issues. 

Turning to the three elements: 

Firstly on economics. Investment in the global energy industry currently consumes around $2 trillion or up to 3 percentage points of world GDP every year and this level will need to be sustained for the foreseeable future. Changes to such a massive infrastructure will take time but the sheer volume of new investment does create an opportunity. 

The New Climate Economy’ report from the Calderon Commission has a good overall assessment of key economic factors, it highlights three areas for attention. 

– Around 70% of today’s energy use is within urban environments in large cities,and perhaps $6 trillion per annum will be spent on urban infrastructure in the next 15 years. More compact and connected urban development, built around mass public transport,can create more economically dynamic and healthier cities, as well as reducing investment needs. 

– Land use productivity is also vital,to feed people while limiting environmental impact. Restoring degraded agricultural land and halting deforestation, can have a marked impact on strengthening climate resilience and reducing emissions. 

– Urbanisation increases the potential for distributed renewables, potentially integrated with gas cogeneration. Together with smart technology and energy efficiencies in new-build infrastructure,this has significant potential to reduce and manage demand better. 

Undoubtedly the upfront costs of changing the energy infrastructure will be eye popping, but as much of this money will be invested anyway and could lead to lower investment needs in future, choices over the next 15 years will be pivotal. 

Secondly, on science and the associated technology development, we believe that Governments are rarely good at picking winners. Given appropriate incentives and stability in regulatory policy, we believe market-based mechanisms are most likely to drive the required innovation and investment, with minimal wastage. 

Governments can however intervene to reduce the impact of existing technologies, and to make funds available to support research and development of alternatives- without specifying a means to the end. 

The primary contribution here would be the establishment of strong and predictable carbon prices, either via trading schemes or appropriate taxes. We prefer cap-and-trade’ schemes as they actually reduce emissions. Taxes increase cost but do not directly impact emissions. 

Currently, there is much talk of the carbon bubble’, with little appreciation that 65% of the calculated unburnable fossil fuel is actually coal. Coal is also the source of well over 40% of today’s C02 emissions from fossil fuels. Oil and gas power our need for mobility, helping to grow and move our food and basic essentials of life as well as to support modern lifestyles. Gas also can work well with renewables in the power sector. Importantly, coal is primarily a source of electricity, so there are alternatives, even if the large installed infrastructure will take time and money to replace. We calculate that without carbon capture and storage (CCS), reducing cumulative global coal use by 75% could allow us to stay within the two degrees carbon budget, while using all remaining oil and gas reserves. 

And so to my third main point, what can Governments do in the near future to make a difference? Firstly, they can start by helping to create an honest dialogue between themselves, civil society and businesses. All three need to come together, with a long term perspective. This includes recognising that demand for energy will need to change, including many aspects of modern life in developed countries such as personal transport. 

And in the end, the cost of changes will be paid for by either voters in higher taxes, or by customers in higher prices. There may well be future economic benefits, but not in the electoral cycle timeframes politicians usually consider. 

I have already referred to carbon pricing, land use, urbanisation and phasing out coal as policy measures that could make a difference. In addition, there are two other policy areas that require thought — targets on reducing emissions, and reducing subsidies. 

Direct subsidies to consume fossil fuels run at around $600 per annum, mostly in developing economies. Although often aimed at stimulating growth or alleviating fuel poverty, this has begun to change as the cost of subsidy impacts Government finances. Indirect subsidies to producers, or the effect in in rich countries that choose not to tax consumption, can be a multiple of this number. If our American friends were to apply European or Japanese efficiency standards, then the reduction in oil consumption would be material relative to total shale liquids production today. 

Targets are an emotive issue, particularly when trying to achieve agreement from more than 190 parties. They can be symbolic and help align countries’ behavior, even if they are not binding. But as Stephen Tindale of the Centre for European Reform has noted in his report, there are only a few major players both in terms of historic and current emissions, and International climate negotiations should focus on money, not targets, Stephen Tindale CER, November 2014 where likely developments in technology, policy and market frameworks will be initiated. We need look no further than the USA, China, the EU and India. 

In this context we have seen heartening progress in recent months. In the US, the proposals from the Environmental Protection Agency (EPA) on power emissions were followed by a Chinese response, and the EU has reset emissions targets for 2030 without falling into the trap of prescriptive measures to achieve the targets. 

And at the recent APEC meeting, the President Obama of the US and President Xi Jinping of China came together in a deal to tackle emissions, important on a number of levels. In agreeing new targets to reduce emissions by 2025,the US is choosing to go further and faster than ever before — both a material difference and an important example to others. Likewise with China, whose undertaking to peak its overall emissions by 2030 is a welcome development. Both countries’ commitments are grounded in the importance of replacing coal as a fuel for power generation, and the potential value of carbon capture and storage ‑evidence not just of ambition but pragmatism. 

Significantly, the joint commitment will inject momentum into preparations for Paris 2015. It is hoped that there will be a significant multiparty agreement to address climate change, although no one is taking anything for granted. But, building on the impetus of the UN Secretary General’s Climate Summit in New York in September, the US-China deal should encourage policymakers to work relentlessly to secure the global agreement our planet needs. 

In conclusion, a few words on what companies like Shell can do. We are only 2% or so of current oil and gas production, but can punch above this weight. We can help bring together the required coalitions to address all of these issues. We can support good policies such as cap-and-trade schemes to put a realistic and market ‑driven price on carbon. And we can help develop attractive business opportunities that make a difference. 

To date this has focused on developing our global gas businesses, helping to replace coal and establish gas as a source of cleaner transport fuels, on investing in traditional and advanced biofuels in Brazil, and on participating in three large projects to develop CCS. We also look carefully at our own energy use, and help customers to reduce theirs. 

Looking forward, our commitment to work with policy shapers around the world — including in developing economies — should help us identify where to direct our future research and investment dollars. Because it is only by involving energy companies like Shell, and our capacity to develop the huge infrastructure required, that we can achieve the sustainable energy future to which we all aspire. 

This essay is draws on remarks made at a workshop held at the Centre for European Reform in London.

Simon Henry is Chief Financial Officer and Executive Director of Shell.