The Long and Short of Energy Prices
8:00 PM, Mar 18, 2011 • By IRWIN M. STELZER
The disaster at Japan’s Fukushima Daiichi nuclear plant, and the upheavals in the Middle East are the sort of events that send economists back to their forecasters’ drawing boards. As usual, there is a tendency to confuse the long-run and the short-run, and to blame developments that were due to occur anyhow on the most recent events.
There is no doubt that the supply chains on which many industries rely -- from electronics to auto making -- have been interrupted. Everything from Apple’s new, hot iPad to Sony’s flat-screen television sets, to Nokia’s handsets to the cars produced by General Motors in its Louisiana plant, shut down awaiting supplies, will be in short supply. At least for a while. But these companies are resilient, will link together new supply chains sooner rather than later, and resume the growth that is propelling the American recovery. If they don’t, their competitors will.
It is also likely in the short run that cross-currents will batter financial markets. The prospect of a sell-off of American assets by Japanese companies, especially insurers in need of yen to cover losses, would have driven down the price of US Treasuries -- if there had not been compensatory purchases by investors seeking a safe haven in an increasingly unsafe world. The prospect of yen-buying by companies repatriating funds should have and did drive up the yen, but a massive, coordinated central bank intervention drove it back down. I leave a guess at future developments to those expert in these markets.
Turn to longer-run consequences. Two seem visible at this time. First, with even construction-minded China calling a pause in construction of new nuclear plants, General Electric’s plans for a nuclear industry renaissance should be on hold, despite the fact that newer reactors -- the troubled Japanese reactors went into service some 40 years ago -- have design features that should prevent a shortage of cooling water.
Second, many companies’ just-in-time ordering of parts and components will need to be re-evaluated to factor in the newly discovered risk of over-reliance on smoothly functioning supply chains.
Which brings us to the sector most analysts are expecting to bear the brunt of the upsets in Japan and in the Middle East: Energy. The problems with Japan’s nukes are thought to have brought an end to a of the US nuclear power industry. That is wrong.
For one thing, President Obama, committed to transforming the energy economy so that 80% of electricity comes from “clean energy” sources by 2035, has restricted himself to a measured reaction: Re-check the safety of all US plants, which account for 20% of our electricity. Energy Secretary Steven Chu told congress, “I think, no matter what happens, we will try to take the lessons of Fukushima and apply them to our existing fleet and any new reactors we will be building.” He is opposed to backing down on the government’s commitment of $36 billion in loan guarantees for companies trying to build nuclear power plants.
More important, it is highly unlikely that any new nuclear power stations would have been built in America even if Japan’s stations had not proved vulnerable to natural disasters, despite the 12 applications now being reviewed by the Nuclear Regulatory Commission. Anti-nuclear activists have a new stick with which to beat any regulators who dare to approve such plants. In addition, there is wide agreement that new nuclear power plants are too expensive to compete in now-largely-deregulated markets for electric power. John Rowe, CEO of Exelon, the largest nuclear plant operator in the US, first points out that we don’t yet know the extent of the problem in Japan, and that every energy source presents environmental problems (think mine disasters in Chile and West Virginia). But he then tells me, “In any event, new nuclear plants are not economic investments with today’s natural gas forecasts.” So Exelon will “concentrate on keeping its existing plants safe.” No new nukes for this shrewd utility executive.
Peter Bradford, a former regulator and long-time Rowe sparring partner and skeptic about the safety and economic viability of nuclear power, agrees. He tells me, “The nuclear renaissance was dead in the water anyway, because nuclear power is just too expensive. At today’s gas prices, private capital was not going to be available for new nuclear. What couple is now looking up from the smoldering wreckage on the TV screens and saying to each other, ‘Dear, this seems just the moment to take on more nuclear risk in our portfolio’?” He might have added that the refusal of the government to open the Yucca Mountain nuclear waste repository is an additional impediment to new construction.
Nuclear’s one hope is a dramatic rise in the price of natural gas. Which some forecasters are predicting will be one consequence of the pressure on oil prices from the uprisings in the Middle East, and the pressure on coal prices from rising demand.
Until the extent of the unrest in that volatile region became obvious, it was common belief that whatever happened to the supply of oil, the Saudis would be there to bail out consuming nations in the event of supply interruptions. No longer. The curtailment of supplies from Libya showed that Saudi excess capacity might be less than the Kingdom’s rulers claim, and that Saudi crude is unusable in many refineries, which were built to handle the sweeter, lighter stuff from Libya. Worse still, for the first time there is a possibility that the House of Saud might not be able to remain in power without overt American help should a Shiite uprising in its oil-rich region threaten.
A leading oil industry executive, active in the Middle East, expects that if the regime is threatened, America will intervene militarily to shore it up. But given the Obama administration’s dithering before agreeing to participate in a no-fly zone in Libya, and its insistence that it cannot intervene anywhere without the blessing of something called “the international community”, markets are no longer certain that the US stands ready to defend the Saudi regime. “Saudis spooked by wavering US” reads a headline in Friday’s Financial Times. The Saudi kingdom is spooked enough to tolerate $100-oil without raising output, and to begin questioning the role of the dollar as the world’s primary reserve currency. With the Saudis less willing to cater to the US, and seeking alternative security arrangements, high oil prices might be with us for a long time.
As will an increase in coal prices. With $100-oil an unattractive fuel for generating electricity, and nuclear power a political hot potato, at least for now coal is the answer. Germany’s plan to shut down its older nuclear plants will force it to replace about one-third of its electricity generating capacity with coal-based power. Other countries will follow suit, France excepted. Coal prices have already risen about 10% in the Atlantic basin, and might well rise more when Japan, at the moment unable to import coal because of damage to ports and to coal-fired generating stations, starts to recover.
With nuclear more or less out of the picture, oil too expensive for extensive use in power stations, and coal becoming more costly, it is little wonder that prices of natural gas are on the rise. Whether they will rise enough to make nuclear economic I doubt: there is just too much gas to be found around the world for demand to press hard upon supply, especially since we now know how to produce the virtually limitless supplies of shale gas.
But hope breeds eternal in the breasts of advocates of nuclear power, even though they know that their problems were not all made in Japan.
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