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The climate policy of an oil producing country –
demand-side versus supply-side policies
By
Taran Fæhn, Cathrine Hagem, Lars Lindholt, Ståle Mæland and Knut Einar Rosendahl,
Statistics Norway
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Main Research Question
• Given a target for domestic contribution to global emissions reductions – what is the optimal combination of reduced fossil fuel consumption and reduced fossil fuel production?.
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MotivationOngoing political debate in Norway – prior to the elections
– The role of petroleum extraction in the Norwegian climate policies
– Parliament’s ambitious, expensive agreement on domestic demand-side
– Why only demand-side? Oil interests against environmental interests
– Debate fuelled substantially by our recent reports and media activity!
Literature:– Demand side carbon leakage of unilateral climate policies
Increased demand abroad Bohm, 1993, Markusen et al. (1993; 1995), Rauscher (1997) and Böhringer et al.
(2010)
– Supply-side carbon leakages Increased supply abroad Harstad (2012) shows that the best policy is simply to buy marginal foreign fossil
fuel deposits and conserve them (inelastic supply on the margin)
– Optimal combinations of supply side versus demand side Hoel (1994), Golombek et al. (1995) Demand side versus supply side – Norway, Hagem (1994).
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Our contributions
• Update previous numerical estimates
• Emission intensities in extraction can vary among countries
• Imperfect competition
• Empirical cost assessments of marginal cuts in Norwegian oil production
• A survey of the fossil fuel market elasticity estimates from the literature
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Model: Domestic objective function
• Maximise welfare (W), subject to the global climate policy target :
• First order cond.:
i i
o c g i i i i iy ,x i o,c,g i o,c,g
0
Max W B(y , y , y ) c (x ) P ( ) (y x )
s.t.
E E A,
i
i i
y i i i i
y x
B P P c (x )
E E
A
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Model: The energy market
• Three fossil fuel markets (oil, coal and gas)
• Static model – less suitable for existing extraction fields (Hotelling, green paradox) – suitable for new developments, including enhanced oil recovery (EOR) investments
• Global emissions, E, including extraction emissions:
• Fossil fuel market equilibria:– Oil market: net Home import = fringe supply abroad + OPEC (dominant producer) - demand
abroad
– Gas and coal markets: , i = c, g
i i i ii o,c,g i o,c,g i o,c,g i o,c,g
x X T y Y
3 3
i i i ii 1 i 1
E T (x ) (X ).
),,()()()(CGOOOOOOOPPPDPZPSxy
),,()()(CGOiiiiiPPPDPSxy
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Leakage rates
Reduced oil demand at home reduces oil price and, thus, affects demand abroad for o (>0) and c, g (<0)
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Reduced oil production increases oil price and, thus, affects supply abroad of oil (>0) and of c,g (<0)
D
O
O
gcojOj
O
gcojj
S
OL
x
xY
x
XL
1,,,,
Ocgok
k
O
gcojj
D
OPD
y
YL
,,
,,
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Global emissions effects
T = (i) gross (direct) effects + (ii) leakages through oil market + (iii) leakages through gas and coal markets
(iv) effects on domestic extraction emissions
(v) effects on foreign extraction emissions
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3 3
i i i ii 1 i 1
E T (x ) (X ).
OPEC: Dominant producer OPEC: Competitive producer
Supply side Demand side Supply side Demand side
(i) Gross emission red 1 1 1 1
(ii) Oil market leakage -0.546 -0.454 -0.507 -0.493
(iii) Coal/gas market
leakage
-0.088 0.088 -0.096 0.096
(iv)Domestic extraction 0.028 0 0.028 0
(v) Foreign extraction -0.041 0.041 -0.043 0.043
Net emission red. 0.353 0.676 0.383 0.646
Table 1. 1 unit reduced oil extraction/consumption – net global emission reductions. Benchmark assumptions.
Benchmark:elDo
po=-0.5, elDgpo = elDc
po =0.1, elSopo =0.5, ´= 90/1000´= 300, ´opec =76
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Marginal cost of forgone oil consumption for Norway•Climate Cure 2020: tasked to estimate costs of unilateral 2020 ambitions of the Parliament;•scenario with new demand side policies only in NETS (assumption: global contribution ambitions)
-20
0
20
40
60
80
100
120
0 2 4 6 8
million tonnes CO2
USD/t CO2
Marginal cost of forgone profits from Norwegian oil extraction•Data: Costs of cutting present production in several small, relatively costly fields in decline-phase•We assess: fairly representative for 2020
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Leakage-adjusted domestic demand-side marginal abatement cost curve and the marginal supply-side abatement cost curve
0
100
200
300
400
500
600
700
800
900
0 1 2 3 4 5 6million tonnes CO2
USD/t CO2
marginal demand-sideabatement
marginal supply-sideabatement
Poly. (marginal demand-sideabatement)
Poly. (marginal supply-sideabatement)
• Combine the two and calculate their effects on global emissions when leakages are accounted for
• The domestic contribution target to global cuts is nearly 6 millt CO2• Demandside from left; supplyside from right.• Top of demand side: Only demandside (Klimakur)• Top of supply side: Only supply side (cheaper as in Hagem 1994)• Intercept: the cost effective combination:
Around two thirds of the measures to reduce global emissions should be supply side measures
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Policy impacts: tax consumption and production:
• Demand side policies: Carbon tax rate: 248 USD/t CO2– Only oil demand cuts– 40% of the Climate Cure costs
• Supply side policies: Oil production tax: 53 USD/barrel(!)– App. half of the oil price– 3.4 percent of present domestic oil extraction– 50% tax could potentially lead to much larger cuts (if supply side is
cheaper than estimated)– Alternatives:
Only tax undeveloped fields More restrictive concession&exploration policies Less aggressive recovery ambitions in present fields
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Table 2. Sensitivity analysis. Effects of reducing Norwegian extraction or consumption of oil by one unit of carbon.
Net emission
reduction*
Target
( A )
Mt of
CO2
Supply- vs.
demand side
Optimal taxes
ixE
iyE Supply Demand Prod. tax
$/barrel
CO2 tax
$/ton
Benchmark case 0.353 0.676 5.7 66% 34% 53 243
Competitive OPEC 0.383 0.646 5.5 71% 28% 53 211
Fixed OPEC supply 0.49 0.539 4.6 87% 13% 45 119
Fixed oil price 0.005 1.025 8.7 0% 100% - 576
Supply two times more
elastic than demand
0.204 0.825 7.0 36% 64% 45 436
Demand two times more
elastic than supply
0.528 0.5 4.2 90% 10% 42 94
50% lower supply side
costs
0.353 0.676 5.7 84% 16% 29 131
* Net global emission reduction from reduced Norwegian oil extraction (supply side) or consumption (demand side) by one unit of carbon.
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ConclusionsConclusions
• Global emissions will most probably decrease when Norway cuts oil extraction
• Though many sources of uncertainty, robust conclusion: • The lion heart of the cuts should be implemented
through supply side policies • 2/3 in benchmark
• Rely on • Home country wishes to make unilateral actions• Offsets are not feasible or preferred alternatives• The objective is to cut global emissions
• Compared to the costs of demand policies only, costs are cut by 60%
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Thank you for your attention
Discussion paper: Fæhn, T, C. Hagem, L. Lindholt, S. Mæland, and K.-E. Rosendahl
(2013):Climate policies in a fossil fuel producing country Demand versus supply side policies, Discussion papers 747, Statistics Norway
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