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BASTROP — In a few short weeks, our Legislature will begin to grapple with confecting a very difficult budget. The easiest way to take the pain out of tough budget decisions is to grow the revenues needed to keep state finances on a positive growth trend. There are four key factors that can go a long way toward ensuring future economic growth for Louisiana.

First, the federal government needs to end its economic hostage-taking and allow the full resumption of both shallow water and deep water drilling in the Gulf of Mexico. A full resumption of offshore drilling would give a substantial lift to our economy through capital investment and job creation. Only one deep water permit has been issued since the moratorium ended and that was not for a new well. Shallow water permit issuance is woefully behind pre-moratorium levels. Resuming exploration and production in both deep and shallow waters would quickly result in increased economic activity for Louisiana.

The second factor that can greatly expand economic activity in the state is for the federal government to stay out of regulating shale oil and gas drilling activities. In 2004, the EPA concluded a 5-year study that concluded that the hydraulic fracturing process used in shale drilling was safe. Now the current EPA wants to go back and revisit the issue. If the EPA outlaws hydraulic fracturing, it will be the death-knell for shale oil and gas production. There is currently a tremendous amount of economic activity going on in northwest Louisiana from shale gas drilling in the Haynesville Shale play. Across central Louisiana, there is a potential for as much as 70 billion barrels of crude oil from the Tuscaloosa Shale play. Production from these shale plays can be a real shot in the arm to jobs and investment in our state.

Another major factor that can impact Louisiana’s economy is the greenhouse gas “endangerment finding” handed down recently by the EPA. If the agency proceeds with establishing a punitive regulatory scheme for carbon dioxide emissions, it will impact our oil refineries and the chemical industry initially and eventually most businesses in Louisiana.

Another key factor in the state’s economic outlook is manufacturing. In most recessions, housing is the sector that leads the economy out of recession. That is not the case with the latest recession. Clearly manufacturing is the bell cow attempting to pull the national economy out of its doldrums. Many residents of our state do not realize that Louisiana is one of the top five states in the U.S. in manufacturing. Much of Louisiana’s manufacturing is geared to exports due to our location at the mouth of the Mississippi River. Here are some interesting facts: between 2003 and 2008, Louisiana’s manufacturing exports grew by 266 percent while the rest of the state’s economy grew by only 51 percent. During that same period, jobs created by Louisiana’s manufactured exports grew by 131 percent while all other jobs in the state fell three percent.

For manufacturing to continue to lead our economic recovery, our trade policies must encourage exports. One major way to accomplish that is to enact the free trade agreements that are pending between the U.S. and several nations around the world.

There is reason to be optimistic about Louisiana’s economic future. Left to their own devices, our businesses and industries could accomplish a major turnaround in our economic fortunes rather quickly. The major change that is needed is for the federal government to give us oars and not anchors as we try to navigate the ship of our state’s economy out of perilous waters.

Original Article

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The controversial piles of sand that Gov. Bobby Jindal built in the wake of BP’s oil disaster are now becoming bigger piles of sand, but with greater potential benefits this time.

“From a long-term coastal restoration perspective, the berms may indeed be a ‘significant step forward,’ as Governor Jindal has claimed, but they were not successful for oil spill response.” — National Commission on the BP Deepwater Horizon Oil Spill and Offshore Drilling, Dec. 16, 2010

Garret Graves is one of those most-powerful-people-you’ve-probably-never-heard-of types. He can get almost any elected official in Louisiana on the phone with one call because he partly oversees billions of dollars worth of construction projects. Everyone from contractors to parish presidents want to woo him. With hair that often falls over his thickly lashed eyes and a preppy charm, Graves looks slightly younger than his 38 years. His scratchy cadence and confident air, though, constantly remind those around him of his political stock.

Graves chairs the Coastal Protection and Restoration Authority and is the top adviser to Gov. Bobby Jindal on all things coastal. On this day he seems almost incredulous. Sitting in the captain’s seat of a legislative committee room, he glares at a PowerPoint image of his boss’ now-legendary sand berms.

“Look at all the gaps and holes,” Graves says during CPRA’s December meeting. He points to an image that shows more water than sand and shakes his head.

Considering all the political theatrics and histrionics dished up to the national and state media, the berms look innocuous enough on the screen hanging from the ceiling — nothing like the “Great Wall” Jindal critics predicted over the summer. Graves is having an I-told-you-so moment. And maybe he’s right — the berms, built hastily to capture oil that gushed from BP’s deepwater well beginning in April, don’t seem to be causing any noticeable damage to the nearby marshes and, despite being made of sand, are still intact.

Then again, Louisiana this year escaped serious Gulf winds and storm surges, which no doubt would have damaged the berms as much as they damage barrier islands. In addition, the berm project is considerably smaller than what was initially proposed. Jindal’s original vision was for 19 segments of berm stretching more than 100 miles — Louisiana’s entire coast runs slightly less than 400 miles. Jindal’s plan to shield a quarter of the coast is what brought the scrutiny of national reporters and the wrath of many in the scientific community.

But Jindal’s expansive (and expensive) plan didn’t materialize. Instead, the U.S. Army Corps of Engineers approved an emergency plan for six berms spanning more than 14 miles. BP bankrolled a $360 million fund for construction efforts, and to date nearly 17 million cubic yards of sand have been dredged, mostly from the Mississippi River, to build 10 miles of sand berms. Several more segments are on the way. Millions of cubic yards of additional sand sit stockpiled in a re-handling area, to be used on future projects, stretching BP’s money. The money was stretched so far, in fact, that $140 million remains in the kitty.

Those are among the reasons that Graves seems a tad smug today. “I didn’t have any concerns about this project,” he says. “All these people made comments that were in many cases irresponsible. They didn’t have all the information. We offered to brief folks on this, and I wasn’t taken up a single time. I don’t think people really wanted to know about this thing. They saw an opportunity and they took advantage.”

Politically, that’s true. A press flack with connections to the White House, more directly to Vice President Joe Biden, spent time in New Orleans during the BP fiasco pushing berms stories on reporters. But partisan players weren’t the only naysayers.

When the berms were first being built, coastal ecology professor Robert Young of Western Carolina University claimed he couldn’t find a “scientist who thinks that the project will be effective.”

In October, The New York Times reported that the berms had only collected 1,000 barrels of oil out of the 5 million barrels spilled (that figure is still being debated as well).

The same notion was echoed last month when the National Commission on the BP Deepwater Horizon Oil Spill and Offshore Drilling released a draft report called, “The Story of the Louisiana Berms Project.” Appointed by President Barack Obama, the group comes down hard on the berms and Louisiana in the opening paragraph: “Former Louisiana Governor Huey Long once described himself to an interviewer as follows: ‘Just say I’m sui generis, and let it go at that.’ Indeed, Louisiana’s politicians and politics are unique. And it was this unique environment that served as the primary staging grounds for the response to the Deepwater Horizon spill. The leaders of the spill response could not divorce key decisions from their political context.”

It further suggests that barely any oil was captured by the berms, or even reached them. “In short,” the report concludes, “massive offshore barrier berms are not a viable oil spill response measure.” It also found that Obama “influenced” the process in the manner that Jindal wanted by calling for a summit to review the project, which the U.S. Army Corps of Engineers had already “analyzed and mostly rejected.”

Graves tells reporters at the December CPRA meeting that the berms were better than nothing, and he discounts the report’s findings on oil captured.

The same report, though, does recognized the value of the new berm plan. Rather than building more berms as originally planned, the administration now plans to use the remaining money to bolster existing barrier islands. That’s an about-face, though administration officials say the reversal is not new and originally began in August, when they told the Corps that Jindal was backing off the 100-mile proposal.

Had they proceeded as initially planned, officials contend that permitting would have been a major headache, possibly stretching into December 2011. Additionally, some state officials claimed that the private companies involved in the construction process lacked sufficient dredging capacity or had difficulties securing proper permission to dredge in certain areas. “I want to be clear. We did have some frustrations through this process,” Graves says. “There are some lessons to be learned by the industry in terms of capacity and efficiency.”

A follow-up interview with Graves on this issue, requested via email, was not granted before press time.

Interested parties like Paul Kemp, vice president of the Audubon Society’s Louisiana Coastal Initiative, and Len Bahr, a former LSU marine sciences faculty member and coastal adviser to five Louisiana governors (including Jindal), said in September that they hadn’t caught wind of the August decision to change course. The governor didn’t announce his berms-to-barrier-islands plan until early November. This was around the same time that Alabama decided to knock down a four-mile berm on Dauphin Island that was paid for by BP. Officials there say their berm was needed only to protect the “aesthetic” value of the island’s beaches from the encroaching oil and that it no longer served a purpose.

Louisiana’s berms, for the most part, are being left alone, although some will be enhanced. It’s all part of the new plan that coastal officials finally moved forward with at the December CPRA meeting. As a way to help the state transition away from building berms, BP agreed in November to allow the state to reallocate the remaining $140 million in the original $360 million fund.

The main difference between a sand berm and a barrier island is size. Graves says berms are generally 6 feet tall and 20 to 30 feet across, while barrier islands are 6 to 8 feet tall and 200 to 300 feet wide.

Graves says transitioning to barrier islands, which provide shoreline protection and opportunities for coastal restoration, is a logical step for the state, one that was not envisioned in early 2010.

“There were no plans to do this before the spill,” he told CPRA in December.

It’s easy to see the logic behind shoring up barrier islands with the remaining cash. It counts as coastal restoration in some respects and will serve as a key buffer against Gulf storms. The value of barrier islands is widely accepted; lawmakers have created a special barrier island fund and related programs. “It’s the first line of defense,” says state Rep. Gordon Dove, a Houma Republican who chairs the House Natural Resources Committee and authored unopposed legislation creating the state’s first barrier island program. “When a tidal surge comes in, they can break its back. But our barrier islands are eroding and the passes between them are six or seven times bigger than what they used to be, allowing for higher salinity levels.”

The new plan also makes sense because BP’s money can be used to draw down federal dollars. But it’s more than a little surprising that state officials hadn’t planned to improve a few barrier islands along the way — until just a few months ago. Graves counters that it was, in fact, a sudden change, a plan sketched out on the “back of a napkin.” Perhaps it’s mere coincidence that, when the original berm plan was announced in mid-May, officials took great care to mention that the berms were going to be constructed along Louisiana’s historic barrier island lines.

In any event, Louisiana now has $140 million from BP to spend on barrier islands. Graves says about $40 million will be used for reporting and compliance and to finish work on a sand berm that jogs around the northern end of the Chandeleur Islands, on the edges of St. Bernard Parish. Robert Routon, a project manager with the Office of Coastal Protection and Restoration, says the rest of the money, $100 million, will be used to transform a set of berms on the western side of the Mississippi River into full-blown barrier islands.

The Pecan Island barrier construction project is being paired with $40 million from the Breaux Task Force, a federal source of funding for coastal projects. Roughly $5 million to $10 million of BP’s money will be used to handle project “overages” and to help build 180 acres of dune and 400 acres of marsh, says Routon. The project will be ready to put out to bid by mid-January, he adds.

Scofield Island will benefit from $60 million of BP’s money to produce 150 acres of beach dune and 280 acres of marsh. That leaves $30 million of BP’s money for other projects, Routon says, referring to them as “fallback efforts.” Such efforts include upgrading Shell Island in St. Bernard Parish, which currently has some berm assets, and Cheniere Ronquille in Grand Isle, which has no berms.

The berm and barrier islands project ended up being significantly smaller in scope than originally announced, but it still ranks among the largest restoration projects ever undertaken by the state — and the most controversial. “This thing has gone up and down and through the ringer publicly,” says Kyle Graham, deputy director of coastal activities in Jindal’s office. “This was the largest scale dredging job in the history of the Gulf of Mexico. We had more heavy equipment in the Gulf actively dredging than there has been ever before.” Once it’s all completed, Graham says there will be a “substantial footprint.”

So, who benefitted the most from all that work?

To no one’s surprise, the big winner in the private sector was the Shaw Group, a Baton Rouge-based company Jindal and others have said was selected for its local roots and experience. As of last month, the state has forwarded $195 million of BP’s money to Shaw, according to Andrea Taylor, pubic information officer for the Governor’s Office of Coastal Activities.

Shaw stands to receive another $62 million soon — roughly $40 million worth of work has yet to be performed, Taylor says. A lot of that coin, however, will slip right through Shaw’s fingers as it moves to the two dozen or so subcontractors on the job. With the help of the state and those contractors, Shaw did it all: overall project management, construction, permit compliance, monitoring activities, personnel, materials, equipment, mobilization, front-end planning, material testing, analysis, dredging, alignment surveys and more.

Jindal took some heat when Shaw was selected because he has received campaign donations from the company and its officers, about $6,000 last year. Shaw was Jindal’s third-most generous contributor when he was a U.S. congressman — giving him more than $23,000 in campaign donations. In a prepared statement when the company was selected, J.M. Bernhard Jr., Shaw’s president, distanced himself from politics: “With our corporate headquarters in Baton Rouge and more than 5,000 Louisiana-based employees, our roots are firmly planted in this state. Shaw has a deep personal interest in the protection of our state’s coastal resources.”

Taylor says Shaw chose its subcontractors independently, meaning the state had no say in the selection process. “We do not pay them directly therefore we cannot vouch for this information,” she wrote in an email listing all of the contractors used on the berm project. “The information is provided by Shaw as Shaw pays them through the money they receive from us.”

Not surprisingly, Shaw also is a direct contractor on the berm project and received more than $17 million serving in that capacity. Of the 23 contractors that worked on the berm project, only three Louisiana companies (other than Shaw) had political connections to Jindal’s gubernatorial campaign: CF Bean was paid $3 million for its work and previously donated $2,000 to the governor; GCR & Associates earned $993,000 and contributed $1,000; and BFM earned $243,000 and contributed $2,000. The most expensive contractor was Great Lakes Dredge & Dock Corporation of Illinois, which pulled down $92 million for operating a slew of dredges and for delivering sand to the berms.

While BP has bankrolled the project, the state has spent money and resources as well, even if some of it is hard to quantify (think: staff hours, travel, use of committee rooms, etc.). So far, the state has inked one contract on its own to support the berms and barrier islands plan. CH2MHill has earned more than $905,000 under an agreement for providing construction oversight in the field and project implementation, says Taylor.

As for the scientific debate, time will sort that out. “Given the extravagant cost and snail’s pace of progress of the original project, which probably wouldn’t have outlasted a single typical hurricane season, the governor may have found a way to convert a Keystone Cops effort into a credible keystone coastal project,” writes Len Bahr on his LaCoastPost blog. “May is the key word here.”

In the end, people may only remember the smaller scale of the berms and the new barrier island protections. For Jindal and his national ambitions, that would be a good thing. “The governor grabbed hold of a tragedy and leveraged it for something good,” says Dove, who plans to continue advocating for barrier island construction in the Legislature. “We may have never had this opportunity otherwise.”

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(Posted by Energy Blogger, Vladimir)

When it comes to straight news reporting on the oil and gas industry, nobody outshines the New York Times.

The featured front page story in the Sunday Times (12/26) was a deep investigative piece on the Deepwater Horizon blowout. Reporters David Barstow, David Rohde and Stephanie Saul interviewed 21 survivors and pieced together the nine harrowing minutes between the mud flow at the surface of the Macondo well and the catastrophic explosion and fire.

It’s worth a read.

Nearly 400 feet long, the Horizon had formidable and redundant defenses against even the worst blowout. It was equipped to divert surging oil and gas safely away from the rig. It had devices to quickly seal off a well blowout or to break free from it. It had systems to prevent gas from exploding and sophisticated alarms that would quickly warn the crew at the slightest trace of gas. The crew itself routinely practiced responding to alarms, fires and blowouts, and it was blessed with experienced leaders who clearly cared about safety.

On paper, experts and investigators agree, the Deepwater Horizon should have weathered this blowout.

This is the story of how and why it didn’t.

In the video and slideshow sidebars, you hear several of the survivors stories in their own words, along with an animation that shows the escape route taken by two of the luckiest survivors.

This is the story from the rig workers’ viewpoint. It is told with dignity and respect for the fallen.

So what went wrong? The investigation is not complete, and “all I know is what I read in the papers”, but I’m willing to toss in a few observations.

Controlling an oil well is all about keeping well fluids (in this case, highly pressurized oil, gas and salt water) at bay. You do that by constructing multiple, redundant barriers (large pipe called well casing, cemented in place) to fluid entry and performing repeated tests of same. In case those fail, you have blowout preventers that are supposed to stop the well flow, no matter what. If those fail, (in the case of a deepwater rig) you have a system that allows the rig to detach from the well and float free.

Oil and gas risk management has borrowed the “Swiss cheese model” from the work of James Reason in the health care industry to understand how risk works to keep a potential hazard from becoming an accident:

Each barrier to the hazard is represented by a slice of Swiss cheese. The holes in a slice represent imperfections in that barrier. Since each slice can (theoretically) prevent the hazard from escalating to an accident, it is only when a set of holes align that catastrophe happens.

Just for illustration, let’s say there are 8 barriers in a robust Macondo-type well.

If each has a failure rate of 10% individually, a “loss” will be experienced only if all of the failures “line up”, an event that should happen once in 10,000,000 trials.

Theoretically.

In the real world, barriers/slices can be bypsassed or eliminated (as BP did in designing the well without a liner/tieback system). More often, we make the holes bigger (more prone to fail) by skimping on maintenance (as Transocean reportedly did with BOP maintenance) or by misinterpreting casing test results (BP and Transocean).

But perhaps the biggest variable is human response. Some of the barriers require active human intervention. The Horizon was largely automated, which allowed for “multitasking”; as a result, most of the drill crew was working at other duty stations when the well blew in.

Upon reading the article, I was struck with a few “if onlys”.

• If only the crew had diverted the well overboard instead of to the gas separator, the explosion would not have happened. (But everyone on the crew was undoubtedly taught that going overboard is the last resort due to the threat of pollution. Hmmm…time to rethink that one.)
• If only the crew of the vessel had activated the Emergency Shutdown System in time, an explosion might have been averted.

Ms. Fleytas, 23, had graduated from maritime school in 2008 and had only been on the Horizon for 18 months. This was her first well-control emergency. But she had been trained, she said, to immediately sound the general master alarm if two or more sensors detected gas. She knew it had to be activated manually. She also knew how important it was to get crew members out of spaces filled with gas.

Yet with as many as 20 sensors glowing magenta on her console, Ms. Fleytas hesitated. She did not sound the general master alarm. Instead she began pressing buttons that told the system that the bridge crew was aware of the alarms.

• If only someone had reacted in time to activate the riser disconnect package, thereby freeing the rig from the well, the explosion/fire might have been averted. The presence of the twisted riser still connected to the top of the BOP greatly compounded the complexity of controlling the well.

The recurring theme in these failures is the confusion regarding the chain of command: whose responsibility is it to recognize and react to an emergency? The only right answer is that all hands need to be prepared and empowered to respond appropriately.

Another aspect of human nature is the tendency to react to every situation as if it were routine, even when it clearly is not. It is a lot to ask of a 23 year-old to be the one person out of 130 to pull the ripcord on a million-dollar a day operation.

To put the dilemma facing these rig workers in more familiar terms: imagine you’re driving down the interstate at 70 mph. You look up and see oncoming headlights in your lane 300 yards ahead. What do you do? You have about 4 seconds to decide between slamming on the brakes or “evasive maneuvers”. Any choice you make involves risk, and there are no second chances.

Another interesting bit from the article: it has been widely reported that Transocean had disabled the master alarm from the crew quarters to keep from waking crew members with false alarms. It has not been widely reported, so far as I know, that they did so with the approval of the Coast Guard. What’s up with that, and why is nobody holding the USCG’s feet to the fire?

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In March, the Obama administration announced plans to expand offshore drilling and allow oil and natural-gas exploration off the coasts of New Jersey, Virginia and the eastern portion of the Gulf of Mexico at least 125 miles off the coast of Florida.

Unfortunately, the administration recently announced that it would rescind these future plans for offshore drilling expansion and move in a different direction. In a public announcement, Secretary of the Interior Ken Salazar noted that the eastern Gulf of Mexico that remains under a congressional moratorium and the mid-and south-Atlantic areas are no longer under consideration for potential development through the year 2017.

It’s no surprise that the administration is looking toward the tragic BP oil spill as a justification to ban any new offshore drilling for the eastern Gulf and the Atlantic and Pacific coasts for the next seven years. Secretary Salazar clearly noted, “As a result of the Deepwater Horizon oil spill, we learned a number of lessons, most importantly that we need to proceed with caution and focus on creating a more stringent regulatory regime.” Salazar continued by adding, “Our revised strategy lays out a careful, responsible path for meeting our nation’s energy needs while protecting our oceans and coastal communities.”

A great question for Secretary Salazar and the administration is this, “Are we truly on a responsible path to meeting our nation’s energy needs when we limit access to more than 99 percent of our nation’s offshore oil-and-gas reserves?” Better yet, “If we shut off access to these vital resources, where are we going to get it?” Supply and demand economics are fairly simple to understand. If you limit access to create supply and the demand for oil continues to rise not only here at home but significantly in developing countries around the world, the obvious repercussion of this policy will result in higher energy prices for all Americans.

In reality, the Obama plan to expand offshore drilling was just that, a plan. Technically, the administration has nothing to rescind given that Congress gave no approval to open these areas for oil-and-gas exploration. The announcement to shut off offshore access is nothing more than smoke and mirrors and political posturing. Although the expansion of new areas in offshore production are extremely important, at the moment, the most pressing issue the administration should be working toward is alleviating the permitting gridlock caused by the recent deepwater drilling ban.

In his comments on the administration’s decision, Secretary Salazar claimed, “We believe the most appropriate course of action is to focus development on areas with existing leases and not expand to new areas at this time.”

If it is the intention of the administration to focus on areas already open for exploration, it is imperative that they ensure an adequate and streamlined permitting process and remove the de facto moratorium that is stifling growth in the Gulf of Mexico.

In the end, the continuation of a failed energy policy that shuts off access to our vast offshore reserves will pave the future road with higher energy prices, drastic unemployment and will perpetuate our insatiable dependency on foreign sources of energy.

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Oil and natural gas mean a lot to an energy state like Louisiana but must be balanced in a way that is safe and fair to our lands, landowners and residents.

Too many news stories of late have chronicled hazards related to the industries — from the BP oil spill in the Gulf of Mexico to accidents around drilling rigs to issues of noise and water pollution in the booming Haynesville Shale natural gas areas of northwest Louisiana.

Perhaps there have been too few stories of the jobs and other economic advantages and gestures of good will that often accompany oil and natural gas enterprises — from energy workers renovating a farmhouse at a wildlife refuge to new roads and bridges, teacher raises, or charitable donations and bequests to churches and nonprofits.

For every story of hazard or greed, there’s another of helpfulness and philanthropy, especially in the two years since the discovery of the Haynesville Shale reworked this area’s landscape. The challenge here and throughout the rest of the state and nation is finding the balance that lessens the bad and elevates the good as we seek to fill our energy needs in the best ways possible.

In Louisiana, more public regulatory activities are needed to lessen those times when companies or workers aren’t doing the right thing or when humans make errors that cost lives and harm the environment and quality of life. More regulatory oversight — properly funded and staffed — is needed in a number of areas.

For instance, Louisiana charges polluters much less than the amount allowed by the nation’s air quality laws, leaving the state’s environmental regulators cash strapped and unable to police polluters effectively, according to an analysis by the Environmental Integrity Project. The same report notes that the Louisiana Department of Environmental Quality confirmed that companies were obeying their permits on fewer than half of the major polluters in this state between 2008 and 2009.

The EPA gave DEQ leeway during that time period due to Hurricanes Gustav and Ike, but now it is time to raise the 2003 pollution fees to adjust for inflation and to insist upon a full assessment of every major polluter once every two years as required under the Clean Air act. Dueling reports among BP, a presidential panel and others continue to assess varying causes and solutions for the Gulf oil spill and its aftereffects. A new report by National Academy of Engineering says BP and others “failed to manage risks and didn’t even have a system in place to weigh safety against costs.” We like the suggestion that an independent technical authority, similar to those used in the submarine and nuclear fields, “would provide the critical checks and balances that were lacking.”

City, parish and state entities are considering ways to address various challenges in the air, on the ground and in the water throughout the state. A good example close to home will happen Dec. 15, when the Bossier Police Jury will hold a public hearing on a proposed noise ordinance. Although noise can come from anywhere, the proposal was prompted by excessive noise from permanent oil and natural gas structures and temporary operations in residential and industrial areas.

Such efforts and others dealing with rig accountability and regular inspections must be taken seriously. Even after memories of the Gulf spill pale or Haynesville Shale hoopla dissipates, there will still be oil and gas wells, pipelines and other infrastructure crisscrossing Louisiana lands and waters. All need to be maintained and monitored with sufficient oversight to assure the safety of our citizenry and the integrity of our environment.

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By A. F. Alhajji

The three major organizations that forecast long-term oil demand and supply – the International Energy Agency (IEA), the Organization of the Petroleum Exporting Countries (OPEC), and the United States Energy Information Administration (EIA) – along with oil companies and consulting firms, believe that OPEC will reconcile predicted global demand and non-OPEC supply. But they are wrong: OPEC output will not meet such projections, because they are based on flawed and outdated forecasting models.

In forecasts that carry forward to the 2030’s, the three organizations share the view that world energy demand will increase, that developing countries will account for most of the increase, and that fossil fuel will remain dominant. They also agree that dependence on oil from OPEC members will increase as non-OPEC oil resources dwindle and become more expensive to extract. But a major flaw in modeling world oil markets makes these forecasts as unrealistic as a projection that humans will land on Mars tomorrow.

Current forecasting models project world oil demand based on variables such as economic growth (or income), oil prices, the price of oil substitutes, and past demand. They also project non-OPEC output using variables such as oil prices, production costs, and past supply. But, after forecasting world demand and non-OPEC supply, these models simply assume that OPEC will supply the rest – without taking into account OPEC behavior or considering that OPEC members might not be willing or able to meet the “residual” demand. For this reason, these models estimate what is known as the “call on OPEC,” the difference between estimated world demand and estimated non-OPEC supply.

The idea to model the “call on OPEC” gained ground after the October oil embargo of 1973, a time when few economists were familiar with the oil market. The magnitude of the energy crisis attracted economists from a wide array of specialties. To diagnose the problem, they opened their tool kit and used what was available: if the supply-and-demand model did not work, then the monopoly model would.

Economists, politicians, and the media thus found the term “cartel” to be highly convenient. According to the monopoly model, the cartel would always supply the difference between total demand and the output supplied by non-cartel members. Although the situation has changed drastically since the early 1970’s, and the cartel model has been proved wrong and harmful, it is still used today.

According to the model’s main assumption – OPEC will always produce the difference between world demand and non-OPEC production. But OPEC ran out of spare capacity between 2005 and early 2008 and was not able to increase production as demand increased. Prices skyrocketed and exceeded all earlier forecasts.

It is nearly impossible for OPEC members to produce the difference between estimated world demand and non-OPEC supply. For example, in its recent forecast, the EIA’s base-case scenario is that, by 2035, OPEC will add about 11 million barrels of oil a day (mb/d) to its 2010 output. Is this possible when production is declining at a rate of at least 3 per cent?

Let’s check the math: at a 3 per cent rate of decline, OPEC needs to add an additional 17 mb/d by 2035 just to maintain 2010 production. If the EIA forecasts OPEC production to increase by about 11 mb/d, OPEC needs to add about 28 mb/d in the next 25 years, a feat that it has never accomplished – indeed, current production capacity is similar to that of the mid-1970’s.

The situation gets worse if non-OPEC production declines below forecasts; oil prices must increase substantially in order to ration demand and reconcile it with lower supply.

Five factors prevent the projected “call on OPEC” from being met:

* A shift in investment from oil to natural gas in oil-producing countries;

* Rising domestic oil consumption – and thus lower oil exports – by OPEC countries;

* The reaction of oil-producing countries to the rhetoric of energy independence in consuming countries, which has led to their developing energy-intensive industries that reduce oil and gas exports. Producing countries believe that if they cannot export oil to consuming nations, they can at least export the oil embedded in energy intensive products such as petrochemicals;

* Lack of “investment absorptive capacity” at high oil prices (the local economy’s ability to absorb investment), which makes OPEC members unwilling to produce more oil. If OPEC nations cannot invest the additional oil revenues, then they might prefer to keep oil in the ground;

* Most importantly, demand for new production to compensate for 3 per cent rates of decline in OPEC’s oil fields is so huge that it cannot be met in less than 20-25 years;

The inability to meet the expected “call on OPEC” and the higher prices resulting from shortages will create excellent opportunities for international oil companies, independent producers, and private-equity investors. It will also create an opportunity for other energy sources to fill the gap that OPEC members were expected to fill but did not.

Indeed, given the expected growth in energy demand in the next two decades, and the possible – even likely – shortfall in OPEC supply relative to the projected “call on OPEC,” the term “alternative energy” will lose its meaning. The only “alternative” to harnessing all feasible energy sources will be a slow-growth world of permanent shortages and increasing misery.

Original Article