In recent years, energy-involved stakeholders have been quite accustomed to witness sudden changes in world markets. Long-time established fuel supply routes have been easily disrupted by changes in politics and alliances, with substantial damage to international trade; in the absence of brand new energy sources, national policymakers have to face various threats to fuel supplies, like domestic tensions in producing countries and key areas of the world, regime collapses, unexpected change of interlocutors. Under this uncertain perspective, fearing the constant possibility of sudden supply cuts, government and companies focused their attention on already known energy provisions: a different perception of hydrocarbon sources, based on new technologies, able to overcome the dilemma of increasing reserve scarcity.
Keywords: Energy Sources, Unconventional Oil
JEL classification: O1, O13, Q4
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What follows is an extract from The Global Revolution of Unconventional Oil, New Markets, New Governances, New Policies, by John M. Deutch, Milan, FEEM Press, Economy and Society Series, 1/2014
Sided by a growing energy demand, the constant need for reliable supply lines shaped both the worldwide energy market and the international trade of the last decade. Great expectations have been therefore placed on unconventional resources; already thirteen years ago, the IEA’s 2001 report World Energy Outlook, aimed at a time horizon up to 2020, stated for instance “(…) Unconventional oil is likely to play a growing role”, foreseeing a brilliant future for these sources: “(…) Unconventional oil may well exceed current projections and account for a much greater share of total oil resources and supply by 2020”. [Note 1]
Unfortunately, the deployment of these new extractive techniques could not be easily compared with the customary infrastructures, broadly used in the last decades for conventional onshore and offshore drilling operations. Movies and press accustomed us to a more “traditional” rig concept, based on single wells in which oil is expected to flow almost naturally, due to the difference of pressure between the underground and the surface, or with the use of artificial pumps. Instead, a typical unconventional oil and gas producing system is far more complicated, requiring more sophisticated recovery technologies and, above all, implying a completely different production scale: it is not limited to a chain of single wells scattered on the reservoir’s surface. An unconventional recovery operation would require a main well, which can reach a depth of 2 or 3 km: from this central dig depart various lateral spots, reaching up to 5 km from the main well. Along this wide area, the underground formation is perforated by the lower lateral wells: once ready, the system starts injecting an enormous amount of fluid at very high pressure, in order to force the release of oil, gas or their mixture. Through this process the injected fluid, usually mainly composed by water with sand and chemicals, breaks the rock creating microscopic fractures, to be held open by injecting small grains of “proppant” after the removal of hydraulic pressure from the main well. These particles provide stability to the small fractures, thus allowing oil and gas to flow towards the well. According to the characteristics of the reservoir and of its rocky formations, it may request multiple hydraulic fracturing: this is a procedure commercially applied since 1949, but never conceived before on this scale and complexity.
Even if highly productive, this technique has forced a rethink of the whole concept of oil recovery on very large scale, also requiring a better understanding of the shape and contours of the underground. Moreover, it triggered the development of high-precision drilling over large distances, because of the need to reach very definite points within very few meters of accuracy, on a kilometric scale.
Environmental and landownership concerns. United States and North America
A privileged view of the problem may be provided by the United States where, with the prospect of 100,000 new wells to be drilled over the next decades, a significant debate has arisen concerning the environmental and health impact of this new technique. Mainly focused on contamination risks by the fracturing fluid, this debate obtained great attention from the public, in the United States as well as in other countries planning to adopt unconventional oil and gas production activities. Other risks include a sensible increase in noise pollution, while the flowback requires a suitable industrial-scale wastewater management, usually unavailable in common wastewater plants on municipal scale. Water consumption represents another point of concern, since a study related to the Marcellus Shale reservoir revealed the use of 4-8 million gallons of water in just a week. [Note 2] Moreover, the debate concerned air pollution, affected by the many diesel engines of trucks and compressors surrounding the well, and the huge community impact implied by such a wide amount of machinery on each drilling point.
Since their already advanced application of such activities, the United States of America may also provide an overview of various related issues, transcending a mere environmental discussion. Together with the mentioned debate, the almost unique American landownership condition has triggered a wide approval of unconventional oil and gas exploitation: in a country where resources belong to the direct landowners, the current race to unconventional production has granted a tremendous economic incentive to the population. This phenomenon, strictly linked to an American peculiarity, could not be expected to exist elsewhere in the world. Other countries do not share this broad landownership concept and, taking into consideration the vastly different ways governments may relate to their respective citizens, public acceptability of this technology would be really expected to be different from the United States. A further element has eased the widespread diffusion of unconventional oil and gas exploitation in North America: the greater intensity of drill rigs, pumping equipment and related stimulation technology, already present on the field and socially accepted after decades of use. This presence, directly connected to the United States’ long exploitation history, leads also to a second advantage: the prevailing technical know-how of investor-owned companies, if compared with other countries’ national oil companies.
Even though the case of the United States offers an interesting point of view, the presence of huge unconventional oil and gas resources in Canada and Mexico should accustom us to address the question over the whole North American continent. The revolution of unconventional resources has also brought about closer ties between these countries, leading North America to forge closer political cooperation and far greater economic opportunities: Mexican policymakers are considering a wider liberalization of their oil and gas market, and this country will probably contribute to the gas supply. Meanwhile, Canadian authorities have asked for an improvement of the Keystone and Keystone XL (eXport Limited) Pipeline Systems.
Foreign policy and economy. New balance of powers
Proceeding with the analysis of the American case, we may notice how much the world has changed in the last four or five years, since the implications of unconventional oil and gas became clear and known by a broader community. When talking about energy policy, we should consider that around 2009 and during the first term of Barack Obama’s administration, a widely accepted opinion saw the most part of global oil and gas resources concentrated in the Middle East, an area frequently unfriendly and unstable for United States interests. This implied the unavoidable dependency of large industrialized economies on oil and gas imports from the Middle East, with an equally inevitable increase of oil and gas real prices. Natural gas markets, essential for European and American home heating, electricity production and chemical feedstock, were perceived as inevitably fragmented, with increasing gas prices.
In this static landscape a real revolution was then started by the new exploitation technologies, paving the way for the largest change ever to have occurred in the whole future of energy in the last forty years. Gaining knowledge of the tremendous potential represented by unconventional resources, a brand new view replaced the previous one. Unconventional oil and gas resources are widely placed all around the world, instead than in a relatively narrow and potentially unfriendly area, such as the Persian Gulf, the Middle East and the Russian Federation. What matters most is that these resources are available at technically and economically recoverable rates, even if this does not necessarily mean that they will be equally rapidly exploited and produced. The largest industrial economies will consequently break their long dependence from the Middle East’s imports and this plurality of sources and allocations will grant lower real prices for decades, with consistent benefits for the stakeholders - people, companies and policymakers. Finally, the currently regional natural gas market may become a global one.
From an economic point of view a tremendous uncertainty remains between the ratio of the oil and gas prices, both in local economy and globally. The gas price shows a huge difference: 1000 cubic feet of gas could be paid $ 4 in North America, rising to $ 12 in Milan and even to $ 16-17 in Shanghai and Tokyo. Instead, oil prices remain almost the same (around $ 100 a barrel) everywhere in the world, and the equivalent energy price of this same oil is much higher than gas prices in North America. Following this first economic reasoning, stakeholders and policymakers should also focus on an apparently secondary and exquisitely technical issue, the future of LNG tankers. According to the evolution of these giant ships, unconventional gas costs may increase or decrease, thus finding new ways to reach markets with still very high gas prices. Anyway, the intrinsic nature of unconventional resources poses two important bottlenecks to their successful exploitation. The first problem concerns the enormous infrastructure costs implied by unconventional sources exploitation: the large extension of unconventional operations, the amount of machinery required and the volume of fluids to be injected, the transportation costs will oblige stakeholders to take on a great challenge. Consequently, the commercial development of unconventional resources will probably be slow.
More geographically and nationally related, the second issue relates to the concentration of unconventional resource exploitation technology, mainly available in North America. It has been estimated that 60% of unconventional-capable drilling rigs and related pressure machinery is currently located in North America, while 25% is said to be in China, even if this is probably not as sophisticated and reliable as the former.
In the wake of this recently christened unconventional revolution, various implications for global oil and gas markets have arisen. First, even if remarkable, the North America supply shock will not affect the global oil price; at the same time, oil price could potentially decrease to a range of $ 70 - $ 90 per barrel. This because of a combination of multiple factors, such as the above mentioned North American oil and gas productive capability expansion, the high levels of global spare production capacity in the major producing countries, the slower growth in oil and gas global demand. This same spare capacity has shown to be large enough to positively overcome the frequent, minor supply disruptions mainly due to local conditions, like for instance the daily 30,000/40,000 barrels seized by the state of war in Syria or sporadic Nigerian problems, or even the past Yemen and Libya disruptions. Simultaneously, major resource holders such as Iran, Russia and Venezuela have suffered a negative wealth effect because of the decrease of their conventional oil and gas resources. Today, various expensive conventional exploitation projects point to underwater basins, like Australian coal-bed methane, or for instance to the deep Gulf of Mexico as well as to the Artic.
Conclusions. Strategic consequences of the unconventional sources’ revolution
Unconventional resources will certainly affect the United States energy policy, since their first and most intuitive effect - to be extended to the whole of North America - will be an increased export of crude oil and natural gas. At the same time, North America will become effectively independent of oil imports, but still not energy independent: this apparent contradiction may be easily explained by considering that North American economies will anyway remain vulnerable to possible disruptions somewhere in the world, since North American prices will continue to reflect global price trends.
From a strategic point of view, the United States closest allies (like Germany, Italy and Japan) will remain dependent on imports; and for this reason, Congress has introduced new bills aimed at facilitating access to United States’ LNG to NATO members. The reduction of North American oil and gas imports has already “freed” a large amount of resources, now available for European consumers, starting therefore to decrease their dependency on Russia. Moreover, well aware of the risks implied by its energy dependency, the European Union voted the ambitious Horizon 2020 Program, aimed at meeting with renewable resources 20% of its overall energy need by the year 2020.
In the broad and complex foreign policy arena, energy will always play a key role. It should be remembered that, in spite of their media pre-eminence, oil and gas represent only an aspect of the wider international energy relationships. While increased supplies will surely favour consumers, sudden disruptions or local tensions may lead to escalations: the first priority is to carefully avoid getting involved in armed conflicts as a result of such pressures. And this point, which may be defined as obvious, will be considered under a new light in the case of an extended oil price drop: countries like Iran, Iraq, Libya and Venezuela need a price of at least $ 100 a barrel to maintain their fiscal balance. Their worst-case scenarios would surely trigger social consequences with possible military escalations, on a scale hitherto never experienced.
[Note 1] World Energy Outlook 2001: Assessing Today’s Supplies to Fuel Tomorrow’s Growth, International Energy Agency, OECD/IEA, Paris 2001.
[Note 2] Charles W. Abdalla, Joy R. Drohan, Water Withdrawals for Development of Marcellus Shale Gas in Pennsylvania, in Marcellus Education Fact Sheet, Pennsylvania State University, 2010.
FEEM Lecture by John M. Deutch, MIT: "The Global Revolution of Unconventional Oil: New Markets, New Governances, New Policies"