Thursday, December 22, 2005

A spoonful of sugar

Two stories stand out in the latest monthy Oil Market Report put out by the Paris-based Internatioanl Energy Agency, the OECD body charged with co-ordinating oil users' energy policies. The full report is here.

First, high oil prices, concern for the political risk to the global energy industry and the prospect of taxes on greenhouse gas emissions have revived interest in the use of biofuels, made partly or completely from agricultural crops. Cash-poor but sugar-cane rich Brazil pioneered this in the 'seventies and with the prospect of genetic modification to increase crop yields, this looks like a good prospect for other countries too. Talk in London is already of regulations that would require a minimum biofuel content for standard petrol. The economic switching costs should be easily handled by the car industry and fuel suppliers in the medium term. However, opposition from environmentalists worried about mutant ten foot tall stalks of sugar cane taking over the planet a la Day of the Triffids. The IEA comments (p.12)
Looking to the future, the growth of Brazilian ethanol demand will depend on oil prices and continued government support. Brazil is a relatively low-cost producer of ethanol, at some $30-35/bbl, so even if oil prices decline from current levels there is reason to believe that domestic demand for ethanol will remain strong. Estimates of future domestic demand growth are in the range of 20-35 kb/d per annum. Brazil is also pushing to satisfy growing demand in othercountries, such as the United States, which is the second largest producer/consumer of ethanol.
Brazil has been one of the strongest advocates of the liberalisation of agricultural trade under the Doha round and it could easily become an exporter of ethanol, given the opportunity:
Analysts have estimated that Brazilian ethanol could be delivered to the US market for a selling price of approximately US$1/gallon, well below the current gasoline price. Although Brazil has some success in increasing exports, currently approximately 45 kb/d, it faces substantial barriers to entry as most foreign ethanol markets are protected in an effort to support domestic agriculture.
The IEA is also sanguine on the prospects for the growth in oil supply next year, forecasting a growth of over a million and half barrels of production per day over 2006. Along with a more benign political situation in Iraq, to my mind, this points to crude prices below $50/b, possibly in the low forties, compared with today's level pushing $60.