The Value of Energy Security – Energy Institute Blog

After watching in disbelief the Russian army fire on Europe’s largest nuclear facility, which supplies 20% of Ukraine’s electricity, I find it hard to concentrate on anything like writing an article of blogging. The suffering of the Ukrainian people is immeasurable and totally unjustified. The damage imposed by the war, which populations around the world continue to suffer – the loss of life, the violence and the destruction of infrastructure – were vividly told to me by my grandparents. They lived through the Second World War in Central Europe and it marked them until their last days. My thoughts are with the Ukrainian people. If you want to help, a former Cal student (and rockstar) organizes a number of significant efforts. If you want to send money, there are resources here and here.

Source: British WW2 Fuel Economy Appeal

As a result of this aggression, energy security is on everyone’s mind. My father in northern Bavaria hoarded fuel oil last week, Europeans are being asked to turn off their heaters and put on sweaters, and the prices of natural gas and gasoline are skyrocketing. Why is that? Quite simply, the fossil fuels that so many economies, no matter how free or democratic, rely on are often found in places that are not. Countries are developing infrastructure to transport fossil fuels (eg, pipelines, shipping routes and processing facilities) to obtain the carbon molecules that their citizens and businesses depend on. But it’s important to remember that if a bully is sitting on the other end of that pipeline getting mad at you, he can cut you off. You are therefore a bit like a junkie who depends on his dealer (who is rarely a good person) for his next dose. If your dealership cuts you off, you’re in trouble. In the case of energy security, you start worrying about keeping the lights on and the oven hot.

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Conceptually, it is easy to understand, but how to value this “energy security”? When I do a careful reading of the social cost of carbon, it often appears alongside an estimate of the “externality” of energy security. I had a hard time trying to piece together in my mind how this is an externality that one could quantify. So I read Gib Metcalf’s excellent article on energy security economics (earlier version free here). Gib is one of the best minds in our field (and a colleague Former UMASS). With laser-like precision, it injects clear economic thinking into what the problem and the solutions are – from an economic perspective.

What energy security is and is not

So let’s first define what we mean by energy security. Gib uses the Congressional Budget Office’s definition which is “the ability of households, businesses and government to cope with supply disruptions in energy markets”. Bam. Simple and clear. There are other definitions floating around, many of which I don’t like because they are so often wishy-washy. Science, people. You don’t want a wavy-handed surgeon. So what did I learn from this piece:

  1. Many people believe that simply stopping relying on energy imports will solve things. But it won’t, as oil markets are rocking globally. If there is a supply shock elsewhere in the world, your local prices will rise as producers sell their wares to world markets. There are of course big differences between natural gas and oil here, but I could blog about that another time. Back to the junkie – buying drugs from the nicer (possibly more expensive) dealer in your own block versus the scary dealer in the next block won’t make you any better. The answer is to consume less (or nothing, but I will come back to this).
  2. Energy security is not an externality in the sense that we usually talk about it. WHY ? Did Max eat the whole bag of candy? Nope. When we talk about taxing to get out of externalities, we are generally talking about the non-monetary type! In this case, someone imposes a direct cost (or benefit) on someone else without internalizing it. This is simply not the case here because energy security is “only” pecuniary externality. Which means, drum roll, that for once a tax is not the right prescription here! So if you see any proposals for a explicit tax on energy security, you will hear me growl. But Max, does that mean a carbon tax has no benefit for energy security? Hold my beer, I’ll get to that below.
  3. Low prices for consumers do not protect against supply disruptions and therefore should not be an objective of energy security policies. Yes, we all like cheap things. Just got back from Costco with two pounds of organic garlic which cost me 3 cents or something. I love it. But in the case of energy, low prices diminish the value of investments in energy efficiency and put you at high risk of large welfare losses when prices are suddenly high! That 48 gallon gas tank on your inefficient Ford Super Duty you’re used to dropping Timmy off at daycare is very expensive, while Meredith smiles up at Giannini in his efficient 2007 Prius and Gernot send snark your way from its high saddle on the bike path on the lower west side.

Increase energy security

The document reviews a number of non-economic considerations, which are of course important and I encourage you to read the document! But I want to get to the solutions part. If a tax isn’t the right prescription, what is? Easy.

  1. Pushing for instruments to reduce the energy intensity of sectors is essential. Here, the perfect cocktail starts with a good dose of pricing of real fossil fuel externalitiesand pushing profitable policies that improve the energy efficiency of the economy, which brings us back to the famous literature on energy efficiency gaps well summarized here . R&D certainly plays a key role here. If we can get the same service, while consuming less energy, we feel less pain when energy supplies are interrupted.
  2. Diversification of the fuel portfolio is another suggestion. If you rely on a single fuel, its source is disrupted, you are more screwed up than if your economy relies on a variety of fuels. This is of course easier said than done. I see you Hawaii and Japan.
  3. Investing in infrastructure to ensure that fuels can be delivered when needed is another key aspect. This includes pipelines, but will primarily involve the complex task of network planning and laying large cables to plan for times of local shortages in a future network that powers a largely electrified economy.
  4. Storage. Most economists aren’t big fans of the Strategic Petroleum Reserve, but of course the government can buy fossil fuels when prices are low. My understanding is that in the case of oil, this is largely a political tape cut, as to affect global coins would require storing infeasible amounts of oil.

I’ll make Gib’s last point my conclusion. The solution to this is to get rid of junk food as quickly and efficiently as possible. No cold turkey, but quickly. In the long term, countries with significant renewable energy resources are likely to reap enormous energy security benefits by harnessing them and not having to rely on the world’s despots to keep the lights on. This is an agenda item where the climate components of Building Back Better were essential. Failure to do so puts America’s energy security at risk, regardless of your political preferences.

On a personal note, hug your kids if you have any. Call your family and find out. We are all shaken by what is happening in Europe, Syria and salso involve Lots of seats in addition to the pandemic. If you need to chat, contact someone (including me). And help as much as you can.

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