By Chris Cook

A Low Carbon Enlightenment

June 12, 2019

In the first of two articles on energy strategy (Tehran Times 10th June 2019) I observed how the US implemented a physical energy strategy of Energy Dominance in the 18 months to 1st January 2019. The strategic US aim is to control global oil and gas markets by exporting almost unlimited Molecules of US Freedom of shale oil and associated natural gas.

I explained how Wall Street and Big Oil (oil majors) have pegged the dollar against oil at between $60 and $75 per barrel through market support of the oil price, and direct investment in US reserves of high cost shale oil and gas funded by petrodollar capital, with infinite liquidity provided by the US Federal Reserve Bank. In parallel to this Energy Dominance we see financial Dollar Dominance through the US Treasury's ability to exclude competing producers of freedom molecules from the market via financial sanctions.
 
The Price of Oil

Market dominance by producers or consumers alone can never be permanent, as commodity markets suffer from cycles of boom & bust. However, the oil market generally, and OPEC in particular, have become accustomed to believe that dominance by producers is the natural state of the oil market. Moreover, the fact that the oil price in 2008 was as high as $140/barrel, and then for five years was maintained between $80 and $120, has conditioned producers into believing that $60 or so is a generally affordable and sustainable price level.

It is in this field that Energy Fintech may open up new payment, financing and funding options since banks need not be directly involved in the clearing of payments, but may act as service providers bringing together international investors and domestic Iranian investors with the massive opportunities now available in Iran to create what has been described as a Low Carbon Enlightenment. Global demand for oil molecules is now around 100 million barrels per day so an increase of $1.00 per barrel leads to increased global energy costs approaching $37 billion per year. So the increase from $45 to $75/barrel in the first six months of Energy Dominance to the end of 2017 represented an additional cost and a transfer of wealth from consumers to producers, of some $1.1 trillion per year. Note that this omits gas molecules of freedom, which have historically been priced against oil.
 
Moreover, the structural global shortage of dollars is due to the fact that the US (like Japan 20 years before) suffered a vast property bubble, which exploded in 2008 leaving a colossal legacy of private dollar debt. This unrepayable private debt bleeds dollars from the system, and in the absence of a dollar transfusion from the Federal Reserve Bank (QE) the result is a global dollar shortage. The outcome is that the price of molecules of US freedom in Euros and Yuan has reached levels which are driving these economies into recession.
 
There are essentially two available strategies to address this energy-driven global economic problem. The first, within the current commodity market paradigm of molecules of freedom, is being pursued by China.
 
China Syndrome

China has now displaced the US as the global largest importer of oil, and is clearly pursuing a strategy to increase their buying power in order to wrest market control from oil producers.  In order to achieve this China has therefore built well over a billion barrels of public (strategic petroleum reserve) and private (commercial) storage capacity and has also rapidly expanded independent (“teapot”) refining capacity.
 
The fact that China alone is willing and able to stand up to US financial sanctions and dollar dominance gives them the position of global Buyer of Last Resort, a position which, as Iran is well aware. China ruthlessly exploits in negotiating pricing, payment terms and in insisting on Yuan as settlement currency.
 
China's combination of superior oil market buying power; massive oil inventory enabling purchasing to be withheld; and a fleet of increasingly efficient refineries, enables China to undercut other global refiners. To this Chinese market power must be added the fact that shale oil molecules of US freedom produce a high proportion of gasoline when refined, and the result is an increasing global glut of gasoline.
 
So, China is now uniquely well placed to dump on the market oil products generally and gasoline in particular. This forces competing refiners to cut production runs, which leads to reduced global oil demand and imbalances in heavier oil products such as diesel fuel. The outcome for producers is a two tier oil market, where the US, Saudi Arabia and North Sea market insiders from the UK and Norway may sell crude oil at privileged prices while other producers must discount their oil in a race to the bottom in order to find buyers.
 
While the US Federal Reserve Bank dollar liquidity which enables production of molecules of US freedom is unlimited, global storage for excess oil and products is not; so in other words, while the Fed can print dollars it cannot print oil tanks & tankers.

In my view, a dramatic shift in the balance of market power led by China and India is under way to the buy-side, which counter-balances the fragmented and fractious OPEC. If and when the EU (structurally a consumer of molecules of freedom) joins an informal buyer's club this will accelerate the inevitable market correction when the irresistible force of infinite Fed dollar liquidity, meets the immovable object of finite physical storage for molecules of freedom.

While the US Federal Reserve Bank dollar liquidity which enables production of molecules of US freedom is unlimited, global storage for excess oil and products is not; so in other words, while the Fed can print dollars it cannot print oil tanks & tankers.I believe there is a serious risk of a market meltdown (China Syndrome) similar to the 1985 tin crisis when the global tin price collapsed literally overnight from $8,000 to $4000 per tonne when price support by International Tin Council members ceased. A 'Buyer's Market' dominated by consumers would then begin at a lower price level which would see oil production cut back, new development cease, and demand for oil rising again to begin a new phase in the boom/bust commodity market cycle.
 
As I wrote previously, I believe commodity markets in freedom molecules of raw energy is giving way to smart markets in energy services for reasons of increasing energy intensity of oil & gas production. Meanwhile, conventional finance capital is being displaced by smart markets in services where law, accountancy and internet communications and technology converge in Financial Technology (Fintech). It is here in emerging markets in energy services where 21st Century solutions lie to Iran's 20th Century problems.
 
Energy Fintech

In February 2019 I held a series of high-level workshops in Tehran at which I outlined a new generation of energy financial technology (Energy Fintech) based upon risk, cost, surplus and data sharing agreements between people, rather than between machines, and simple financial energy instruments.
 
Firstly, Energy Swaps, where flows of energy molecules may be exchanged geographically; converted to energy services (eg gas for power), or even exchanged for the value of technology use (eg James Watt's 1778 exchange of the use of his innovative pumping engine for a third of coal savings by tin mine owners). Secondly, there is the Energy Credit Obligation (ECO) – prepayment for energy services – which is a funding instrument superior in outcome to conventional debt and equity ownership shares.
 
Energy Diplomacy

The latest development in the fraught relationship between the US and Iran will be the arrival of Japan's Prime Minister Shinzo Abe in Tehran this week with a view to mediation. While Japan is unusual in being on good terms with both Iran and the US, few commentators believe prospects of conventional diplomacy are bright.
 
However, there are several reasons why unconventional energy diplomacy may be productive. Firstly, Japan is a global leader in technology, quality management and engineering with a long tradition of collaborative partnership working and long term strategic thinking. Indeed it is said that there are as many Sumo wrestlers in the US as there are lawyers in Japan, where, unlike in the US, trust is assumed and simple agreements are negotiated consensually.
 
Secondly, Japan is taking the lead in a fundamental review of the international agreement and organisation for promoting energy investment, the Energy Charter Treaty (ECT), the purpose of which is essentially to ensure energy security for the EU, and more recently to promote Euro investment in energy in order to create a PetroEuro.
 
In November 2016 Iran signed the ECT only as an Observer, pending the outcome of the political EU Energy Union initiative to create an EU-wide commodity market in energy. The wisdom of Iran's decision is evident from the outcome of the INSTEX Euro payments mechanism, which is fundamentally doomed to failure since when the US Treasury gives banks the choice of clearing Euro payments for Iran or clearing US dollars, almost all banks choose dollars.
  
A Low Carbon Enlightenment

I believe that Japan is well placed to bring to Iran a host of skills and technologies in areas such as desalination, biotechnology, heating/cooling engineering, and renewable energy. These technologies and services may not fall within US sanctions for humanitarian reasons but nevertheless cannot be implemented because of the failure of the INSTEX system.
 
It is in this field that Energy Fintech may open up new payment, financing and funding options since banks need not be directly involved in the clearing of payments, but may act as service providers bringing together international investors and domestic Iranian investors with the massive opportunities now available in Iran to create what has been described as a Low Carbon Enlightenment.
 
 

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