April 28, 2014—Returning to Midland after being immersed at my graduate business school alma mater, Harvard, and interacting with the unique culture of New York City, I have a different perspective than when I departed Midland 4 days ago. It also happens that a long flight is a great time to read The Wall Street Journal cover to cover. I will start with a compelling article written by Lord Matthew Ridley, a member of the British House of Lords, in the April 26-27 edition of The Wall Street Journal. Lord Ridley was formerly an ecologist in the academic world for seven years, and then worked at The Economist magazine for eight years as a writer. In his words, “I have lived among both tribes.”
The gist of his article is the divide between ecologists and economists over the scarcity of the world’s resources. Ecologists are convinced that mankind is using up the world’s resources, particularly water, oil, and air. The ecologists’ mantra is that “we are approaching the carrying capacity of the land’s ability to support a greater population.” Ridley reports that “The Intergovernmental Panel on Climate Change recent forecast that global temperatures would rise by 3.7 to 4.8 degrees compared with pre-industrial levels by 2100 was based on assumptions including little technological change, an end to the 50-year fall in population growth rates, only a tripling of per capita income, and not much improvement in the energy efficiency of the economy. Economists, on the other hand, expect a 5-10 fold increase in per capita income, huge changes in technology, and an end to population growth by 2100.” In modeling, assumptions are everything.
Ridley counters that humans have burst through perceived resource limits again and again through innovation. A few examples follow: the use of coal in the UK to replace wood as the primary fuel; replacement of coal with clean-burning natural gas to generate electricity in the United States, reducing emissions; and the use of fertilizer, irrigation, mechanization, and pesticides to dramatically increase the productivity of our land. Scientists estimate the amount of land required to grow a given quantity of food has fallen by 65 percent worldwide over the last 50 years. When you take into account the fact that large portions of Africa and Asia have yet to employ fertilizers and irrigation, we should need less land in 2050 to support the world’s need for food than we do today, despite a population growing from 7 billion to 9 billion by 2040.
When ecologists talk about running out of water, they ignore the growing use of de-salinization and recycling of “grey water.” And while we are talking about water, we can still reverse ill-conceived government policies like the ethanol mandate that wastes food and water for man and beast by putting corn in our gasoline tanks. Let’s not dwell on the ripple effect of the ethanol policy on the cost of food in the United States and developing nations, or the fact the agriculture sector consumes 60 percent of the water in the state of Texas compared to 1 percent for the oil industry, which is hydraulically fracturing the dickens out of shale formations across the state to provide cheap energy. Lord Ridley comments that “thanks to fracking [sic] and the shale revolution, peak oil and gas have been postponed.”
This compelling article by Lord Ridley in the WSJ on April 26 was followed by an impressive presentation before Harvard Business School alumni by John Hess, the CEO of Hess Corporation since 1995 and a 1977 HBS MBA graduate. John’s father Leon founded the company decades ago as a coal and fuel distributor and gasoline marketer, and John has transformed the company from an integrated oil company to an upstream pure-play. John was part of a panel that discussed the “Future of Energy,” a group which included Scott Malkin, founder of Value Retail PLC in the global real estate business, who developed the mall with the highest sales per square foot in the world (located in London) and who is a proponent of energy-efficient commercial buildings. The final panelist was an HBS entrepreneur named Russ Wilcox who has teamed with MIT scientists to commercialize a more efficient, cost-effective nuclear fission process that may be 20 years from implementation. Russ talked about the benefits of the conversion from coal to natural gas, and stated that alternative power generation sources like wind and solar are only viable due to tax subsidies and won’t contribute more than 4 percent of U.S. power generation until hydrocarbons are much more expensive. Russ’ company, Transatomic Power, has a mission to develop safe, cost-effective nuclear power in time for developing countries to adopt in place of coal-fired power that contributes to greenhouse gas emissions.
Mr. Hess, the oilman, did a great job of explaining in his eight allotted minutes (with no notes) the benefits of the shale revolution in three main categories: (1) economic, (2) geopolitical, and (3) environmental. First, there is $200 billion per year being invested in the development of unconventional oil and gas resources in the United States, representing 8 percent of overall U.S. capital investment. John noted that this translates into 2 million new jobs created in the last six years. Keep in mind that Hess was one of the original Bakken players in North Dakota and Montana and is in the Marcellus and Utica shale plays. The balance of trade deficit has been reduced from $700 billion two years ago to $450 billion, of which $100 billion of the reduction is due to increased oil production (lower oil imports and higher petroleum product exports) and $100 billion fueled by downstream investments (exports of petrochemicals and plastics) supported by cheap natural gas and natural gas liquids. The United States is now the number one producer in the world of hydrocarbons (oil, condensate, natural gas, and natural gas liquids) and the gap is growing. We have 2.5 million barrels per day of incremental oil and liquids production from the unconventional resources, and energy analysts predict growth to 5 million barrels per day of incremental unconventional production led by the Bakken, Eagle Ford, and now the Permian Basin. If you’d seen the production curves produced from each of these basins, you’d conclude the Permian has the most remaining growth potential as it has the steepest growth rate while the Bakken production is flattening out and the Eagle Ford slope is decreasing.
Obviously, reduced reliance on imported oil from countries that are hostile to us, like Venezuela and certain countries in the Middle East, has geopolitical benefits. Mr. Hess noted that if the Keystone XL pipeline is approved now, North America will be energy independent by 2020, as the Canadian crude will displace remaining oil imports from overseas. You may have noted that the Obama Administration kicked the Keystone XL can down the road again until after the November 2014 elections. I suppose he did not want to put any Congressional Democratic incumbents running for office in November in an awkward position of explaining their position on approval of the oil pipeline from Canada to Cushing, Oklahoma.
On the environmental front, Hess shared good news: carbon dioxide (CO2) emissions in the United States and Europe are down 5 percent since just 2010, primarily due to switching from coal to natural gas fired power generation in the United States. The EPA reported that that greenhouse gas emissions (CO2 is the largest component of greenhouse gas emissions) in the United States have dropped 11 percent since 2007. I speculate that Europe’s reduction is primarily driven by reduced economic activity due to the stubborn recession in Europe. Before we celebrate with our environmentalist friends, China has more than offset the reductions in CO2 emissions in the U.S. and Europe, emitting as much CO2 as both of our continents combined, primarily due to the growth in coal-fired power generation. There is a recurring theme here about coal and greenhouse gas emissions.
From Forbes.com, regarding biofuels impact on emissions:
“OK, can we please stop pretending biofuel made from corn is helping the planet and the environment? The United Nations Intergovernmental Panel on Climate Change released two of its Working Group reports at the end of last month (WGI and WGIII – see http://bit.ly/R2sj0x and http://www.ipcc.ch/report/ar5/wg1/) and their short discussion of biofuels has ignited a fierce debate as to whether they’re of any environmental benefit at all.”
The IPCC was quite diplomatic in its discussion, saying “Biofuels have direct, fuel-cycle GHG emissions that are typically 30-90 percent lower than those for gasoline or diesel fuels. However, since for some biofuels indirect emissions—including from land use change—can lead to greater total emissions than when using petroleum products, policy support needs to be considered on a case by case basis.” (IPCC 2014 Chapter 8). (http://bit.ly/1krbZyZ)
Finally, John Hess made a big pitch for conservation. He stated, “Electric cars don’t make economic sense as they are expensive and can only travel about 40 miles without a charge, and who can afford a $100,000 Tesla?” Well, he can, but doesn’t own one. Maybe battery technology improves over time, but lithium is expensive and has to be replaced and disposed of—talk about toxic waste! Hess thinks hybrid cars are the wave of the future, despite the fact that they cost $10,000 more than a standard gasoline engine. The Corporate Average Fuel Economy (CAFE) standards, which climb from 35.5 mpg average to 54.5 mpg average by 2025 (http://bit.ly/1krt3qe), certainly pressure automakers and consumers to find innovative solutions to reach the Obama administration’s ambitious target. Hess, despite being an oilman, likes the synergy of a gasoline engine that charges a battery that runs the electric motor when the torque of the gasoline engine is not necessary. Mr. Hess commented that hybrid engines typically improve fuel efficiency by 35 percent.
Both the nuclear power panelist and John Hess mentioned the travesty of the ethanol mandate in the United States and the net loss of energy from farming this source of food for our gas tanks. An audience member, a Harvard MBA alumnus, asked Mr. Hess to address the risks of “frac’ing.” Hess replied we’ve been doing it safely since 1947 in tens of thousands of wells, and over 90 percent of the wells drilled today in the onshore United States are hydraulically fractured. He pointed out that the United States uses more water to maintain its golf courses than we do in hydraulic fracturing. I told John after the meeting that the Texas agriculture industry uses 60 percent of our water, while the oil industry is using 1 percent of our annual water consumption. Hess said he’d add that to his speech.
I am now back in Midland after landing in Hobbs and driving home late Sunday night thanks again to United Express, who cancelled our flight to Midland, a recurring problem. I burned a lot of Jet A fuel and gasoline, thus I further increased my carbon footprint. I am enjoying the freedom of drilling wells and applying hydraulic fracturing in the Permian Basin, and basking in the dust storms that frequent West Texas this time of year.