Can the Energy Transition Survive an Abundance of Cheap Oil?

By Johnny Wood
Abundant, cheap, and accessible oil and gas reserves could be here for some time

Boom and bust cycles are a staple of the oil industry, but even for a sector used to volatility, the recent price rollercoaster ride is unique.

Weak demand caused by the global reaction to the pandemic and the dismantling of the Opec+ agreement led to historic price lows and an oversupplied market that has maxed-out global storage capacity.

Abundant, cheap, and accessible oil and gas reserves could be around for some time, leading some energy companies to drop decarbonization plans down their agenda. But near-term oil price fluctuations seldom dictate future-looking energy investments, which are largely guided by underlying structural factors, like the push to reach net-zero emissions.

What Goes Up

If the idea of an oil price slump sounds familiar, today’s situation does contain echoes of the past.

It’s been more than a decade since the global financial crisis, a recession which saw demand for oil plummet. As a result, the barrel prices of 2008, which exceeded $140 per barrel, dropped by more than two-thirds to less than $40 the following year, as traders abandoned their positions, prompting a selling frenzy.

A collapse of similar magnitude struck prices in 2014/2015, as major oil importers like China and India saw their economies start to slow. Dwindling demand for imported oil caused price highs of $100 per barrel to fall by more than half. As the U.S. shale oil boom gathered pace, it also added to excess supply.

Oil prices fell by more than two-thirds following the 2008 financial crisis

Fast-forward to the present and stalling demand has once again sent oil prices tumbling. Coronavirus lockdowns brought usually bustling economies around the world to a virtual standstill, crippling global oil consumption. At the same time, abundant oil and gas reserves flooded world markets as the Opec+ agreement fell apart, ending oil’s price support mechanism.

As the barrel price dipped – albeit briefly – into negative territory, global storage facilities, including temporary floating storage, were quickly filled to capacity.

Subsequent supply curtailments produced the beginnings of a price rally, before falling once more amid fears of a slower-than-expected global recovery and the prospect of a second coronavirus wave.

In 2020, global liquids demand is projected to fall by 3.6 million barrels per day, according to a Wood Mackenzie oil market outlook. In countries like China, the current supply glut is expected to be around for some time.

Delayed Transition

The oil price collapse could be bad news for the energy transition, as cheaper crude makes the extended use of fossil-fuel-powered cars, ships, heating systems, and power plants more attractive. Lost momentum could delay, or waylay, much-needed efforts to decarbonize.

Oil and gas industry investment funds earmarked for new solar, wind, or other renewable energy projects could be diverted to technologies like carbon capture utilization and storage (CCUS) to reduce emissions and prolong reliance on abundant and cheap fossil-fuel reserves.

A business case could be made for prioritizing the use of fossil fuels in sectors like power generation, transport, and industry, but making them as efficient and low-carbon as possible. Such an approach would slow the global transition to renewable energy sources, together with electric cars, buses and shipping, and the development, at-scale, of sustainable fuel alternatives like hydrogen.

At the same time, today’s situation could make more expensive forms of oil extraction – such as shale oil in North America – uneconomic, putting them on hold. However, while this may hold true for new wells, in order to recoup the capital expenditure on the existing wells – which are drilled but uncompleted – U.S. shale suppliers have little option but to continue pumping new oil onto the market.

Around 8,000 U.S shale oil wells could continue pumping oil into the market

There are approximately 8,000 existing, but incomplete, U.S. shale wells. Controlling this new supply could involve the U.S. government resorting to new policy initiatives to prop up prices.

Other major producers, like Russia, seem to be resilient to low-priced oil at $20-30 for the coming three years, according to recent analysis by Oxford Institute of Energy Studies. While oil-dependent Saudi could feel the financial pinch of weak oil prices, prompting further supply cuts to remain profitable.

Climate of Change

While the significance of short-term price cycle fluctuation cannot be underestimated, energy investments span many decades and are largely driven by underlying structural changes in the market.

Growing awareness of the urgent need to tackle climate change has left those reliant on fossil fuel facing growing political, financial, and market pressures. Many policymakers, businesses, and public perceptions are moving towards developing a more sustainable energy future; one which safeguards the planet’s health. This has led to both national and regional environmental policy commitments, including the European Union’s strategy of reaching net-zero emissions by 2050.

Heightened awareness of environmental issues may also mean low fossil-fuel prices alone will not deter people switching to cleaner forms of transport, heating, and electricity.

Some energy investors are moving funds away from fossil fuels, towards cleaner energy assets, although private investors have no dominion over state energy decisions of countries that still lean heavily on fossil fuels. But the long-term trend is unmistakably towards a greener agenda.

Investment decisions are driven by environmental concerns, energy and climate policies, changes in public perception, investor attitudes, and new technological innovations, according to the Oxford Energy Forum.

The green transition and moves towards decarbonization are vital for the future of the industry and the planet − and will remain dominant through the ups and downs of current, and future, price fluctuations.

Johnny Wood has been a journalist for over 15 years working in different parts of the world – Asia, Europe, and the Middle East. As well as an accomplished features writer he has edited several prestigious lifestyle magazines and corporate publications.