Are oil sands incompatible with action on climate change?

by Dr Christophe McGlade and Prof Paul Ekins, UCL Institute for Sustainable Resources

Shortly after our study on unused fossil fuels was published in Nature[1], Andrew Leach, an acknowledged expert in Canadian oil sands, wrote a piece scrutinising some of our conclusions. We were grateful for Andrew’s comments, which he said could be summarised as ‘plenty of good, a lot of bad, and some ugly’.

We looked in vain for an identification of the ugly, but in respect of the ‘bad’, Andrew seems to have raised three key points: the difference between sufficient and necessary conditions for staying within the 2^oC threshold; the absence of carbon and oil prices in our analysis; and our characterisation of the production costs and dynamics of Canadian oil sands. He also drew attention to the differences between this paper in Nature and one on broadly the same theme which we published in 2014 in the journal Energy Policy[2]. We would like to respond to each of these points in turn.

Regarding the first, the sentence which is criticised is ’85 per cent of (Canada’s) 48 billion of barrels of bitumen reserves thus remain unburnable if the 2°C limit is not to be exceeded.’ Nowhere do we say that this is a necessary condition of staying within the 2^oC limit. Rather it is the outcome of our cost-minimising scenario that stays within this limit. The cost-optimal solution to staying within the 2^oC carbon budget is to leave most Canadian oil sands unused, because they are relatively expensive. Of course they can be used within the budget – provided that a similar amount of carbon from cheaper hydrocarbons elsewhere remains unburned. However, overall global social welfare is then reduced, as we note in the quote that Andrew himself cites in his blog: ‘other regional distributions of unburnable reserves are possible while still remaining within the 2^oC limit (even though these would have a lower social welfare).’ Canada may gain from the production of its oil sands within a 2^oC carbon budget, but the world as a whole would be worse off. This seems rather to be a bad economic scenario (except for Canada), rather than anything bad with our paper.

Now for Andrew’s second point, the oil and carbon prices in the model. The model does generate a shadow price for carbon when emissions are constrained. In the 2^oC scenario this is the same in all regions in the model, and increases to about $250/tonne in 2010 US dollars by 2050. We wanted to include this in the paper but the very tight space constraints ruled it out.

The shadow price for oil in TIAM-UCL reflects our estimates of production costs, and other constraints placed on oil production, rather than the oil price in the real world. TIAM-UCL does not include a number of important elements that help to explain why the oil price is where it is. For example, it abstracts from real-world market factors (e.g. political worries driving prices up or specific reserve holders driving down the prices), it is a 5-year averaged price, and it does not include the upstream taxes levied on production (more on this below). Reporting the model’s oil price would therefore be likely to lead to misunderstanding.

However, while there can obviously be debate over the precise costs of the various different categories of oil, there is less debate that much of the oil sands are currently at the upper end of the supply cost curve; there is also little debate that the oil sands are some of the most energy-intensive forms of oil that are currently produced.

These characteristics provide the explanation for our three findings that Andrew finds puzzling:

1. ‘open-pit mining of natural bitumen in Canada soon drops to negligible levels after 2020 in all scenarios because it is considerably less economic than other methods of production.’
2. ‘Production by in situ technologies continues in the 2^oC scenario that allows CCS, but this is accompanied by a rapid and total decarbonization of the auxiliary energy inputs required.’
3. ‘Cumulative production of Canadian bitumen between 2010 and 2050 is still only 7.5 billion barrels.’

On the first finding, mined production drops to pretty low levels principally because of its expense. The wide-ranging review we carried out on oil sands production costs suggested that, when you take into account the full life-cycle costs, including the need for more extensive upgrading of mined bitumen vs in situ bitumen, mined bitumen is more expensive. Furthermore, it is assumed that some oil is required to produce bitumen by mining, which is a harder commodity to decarbonise and carbon emissions are increasingly expensive in a 2^oC scenario (which introduces a sizeable wedge between the production costs and life-cycle costs of both mined and in situ bitumen). Biofuels are the main option for such decarbonisation, but bioenergy is also expensive in a 2^oC scenario and can be better employed in centralised plants to generate electricity or heat for a greater level of net-negative lifecycle emissions.

The possibility of negative emissions from bioenergy with CCS goes a long way to explaining the second point, and reconciling it with the first. At present, relatively low-cost natural gas is currently used for the heat required to produce the bitumen by in situ means. Quickly shifting this to zero- and then negative-carbon sources emerges as cost-effective in our 2^oC scenario, largely because of the value of the avoided carbon emissions. However, while cost-effective in our model, such a shift in fuels would be anything but easy in practice. It is the combination of these modelling and practical factors that led us to be more confident in our conclusion that the majority oil sands should stay in the ground in an economically optimal 2^oC scenario.

Doubtless Andrew is closer to the cost of oil sands production from current projects (both mining and in situ) than we are, and we would agree that any that really are producing at $20 per barrel would continue to do so. For the record, we don’t say that all oil sands projects are ‘shut in’, simply that production declines from current levels and certainly does not grow to the extent projected by many companies and the regulators there. This seems to us a reasonable conclusion from our analysis.

The final issue raised by Andrew is the differences in oil sands production between our Nature and Energy Policy papers. There are a number of reasons for this but the key explanation for this lies in the fact that they derive from the use of different models which construct oil prices in different ways. The Nature paper relies solely on TIAM-UCL, which, as noted above, constructs oil prices only from production costs and other constraints on oil production. The Energy Policy paper, in contrast, relies on the shorter-term but more oil-market focused model called BUEGO. A crucial difference between the two is that BUEGO includes the taxes levied on oil production, while TIAM-UCL, as noted above, does not. These taxes are a transfer of rents between companies and governments, and are not relevant to the social optimality calculations of TIAM-UCL.

However, taxes do affect the profitability of production, through which they can change what oil actually gets produced. The upstream taxes levied by Canada (the ‘government tax take’ of a barrel of oil), particularly for the oil sands, are noticeably lower than for most other countries around the world. BUEGO brings on production from the sources that have lowest overall private cost to meet the overall demand level, a cost that is lower for the oil sands since the taxes levied on these are smaller relative to other sources. It is therefore not surprising that oil sands production is higher in the Energy Policy paper. However, , as already noted above, while the decision of the Canadian government to levy a low tax may encourage the development of new oil sands projects, this production displaces lower-cost production elsewhere, and, as noted above, the rest of world loses out as a result.

It is of course true that projecting the global energy system into the future is full of uncertainties. Nevertheless, it is still possible to draw some broad conclusions and on the basis of the discussion above and the details in the paper, one of these appears to us to be that an increase in unconventional oil production would be incommensurate with cost-optimal efforts to limit average global warming to 2^oC. Perhaps it is this conclusion that Andrew was referring to as ‘ugly’, and it may be so for the Canadian oil sands industry. But we think the climate science suggests that a future of unabated climate change will be much uglier.

 

[1] McGlade, C. & Ekins, P. 2015 ‘The geographical distribution of fossil fuels unused when limiting global warming to 2 °C’, Nature, 517: 187–190

 

[2] McGlade, C. and Ekins, P. 2014 ‘Unburn-able oil: an examination of oil resource utilisation in a decarbonised energy system’, Energy Policy, Vol.64, January, pp.102-112, http://dx.doi.org/10.1016/j.enpol.2013.09.042i