Energy, Politics & Money - 28 November 2022
Independent, objective, and politically neutral analysis of interconnected global developments in the world of energy, geopolitics, and money curated to help you thrive in these chaotic times.
In this roundup, EPM takes a closer look at the trade tension brewing between the US and Europe. France and Germany in particular have awakened to the fact the US Inflation Reduction Act (IRA) is a major threat to European industry.
In the present moment when unsustainable energy prices on the European continent are making large corporates reconsider their futures in Europe, the IRA is offering them significant incentives to relocate to the US. Europe has tools that it could respond with to maintain a level economic playing field, but it fears upsetting the US – because it needs the US military umbrella.
EPM’s view is that this MUST make the Europeans realize they need much closer collaboration, based on a shared vision for Europe, covering not only economics but also defense and foreign policy.
If Europe fails to recognize this, or is too afraid of the US to move in this direction, the continent will enter a prolonged period of decline. At the same time, if Europe does recognize the threat in the IRA and act as we laid out above, this will significantly weaken the trans-Atlantic alliance, which is something the US cannot afford in its geostrategic conflict with China.
Considering all this, one would expect negotiations between the US and Europe to reach some kind of compromise solution.
Furthermore, we look at:
COVID developments in China, where the number of cases is going up, as are the number of small-scale protests against the restrictions the Chinese government has imposed on its population in response, and how this is likely to affect the oil markets going forward
The most likely monetary policy of 2023, featuring additional but smaller rate hikes
The harsh criticism of US policy regarding China by leading China expert, William H Overholt
The assessment that the US - China cold war is more dangerous than US - Soviet rivalry
The technology being piloted by the world’s biggest miners, that could unleash millions of tons of additional copper production, and thereby prevent the supply crunch for copper that many predicted would result from the energy transition and the electrification of the global economy it entails
A criticism of the “clean blue hydrogen” concept
The outlook for the Energy Crisis in Europe, according to The Economist
The additional bail out money needed by Uniper, which brings the total – for now! – to $53 billion!
Mariana Mazzuccato’s view on how the new global wave of industrial strategies should be different from what was before, in order for them to deliver shared and sustainable wealth creation
General Energy News
Oil futures fell more than $2 a barrel during early trading Monday morning, as the number of new COVID cases in China fueled demand concerns, writes Reuters. Brent crude dropped $2.16, or 2.6%, to $81.47 per barrel, its lowest since January 11. WTI crude dropped $2.08, or 2.7%, to $74.20 a barrel. It fell as far as $73.82, its lowest since December 27, 2021.
The cause for the drop was China posting another increase in COVID-19 infections, according to Reuters, with the number of new cases rising to 40,052 on Monday, up from 39,506 a day earlier. So, considering the impact COVID in China has on the oil price, at EPM we ask, how is this likely to play out?
Previously, we would have said one should expect more lockdowns as case number go up, and thus slower economic growth. But, after almost 3 years of this, there is clear evidence the Chinese people have had enough of this approach. Protests against the restrictive coronavirus curbs swept across the country over the weekend, the same Reuters report notes. EPM’s view is based on the observation that the Chinese government has, in the past, shown sensitivity to public opinions, because social stability is among its objectives.
The question is, how could it do so in the case of resistance against its COVID policy, without that damaging its own standing in society (and internationally)? The answer lies in the observation that lockdowns are not a true solution for the coronavirus – it is merely a delay tactic. Europe and North America have tried to overcome the pandemic through gradual exposure of their populations to the virus, coupled with vaccinations to limited effect.
Eventually, China will have to go down this path. The real challenge for the government is, therefore, the locally produced vaccines, coupled with vaccine hesitancy among a large part of its older, and more at-risk segments of the population. So, EPM expects another push by China in the area of vaccine development and mandatory vaccination, and more repression of dissent against coronavirus restrictions until the objectives of this push are achieved. That is, at least, as long as there remains belief among China elite circles that the vaccination pathway remains a viable one for the shorter term. If at any stage that belief was to be lost, a more fundamental change in COVID policy will result. In conclusion, therefore, we do not expect a sudden overhaul of China COVID policy in the very short term, despite the rise in protests.
Chevron on Saturday received a US license allowing it to expand its production in Venezuela and bring the South American country’s crude oil to the United States, writes Reuters.
Macroeconomics
Airing a view very similar to that coming out of the Fed, the European Central Bank is likely to increase interest rates by smaller increments next year, if the inflationary environment requires hikes, writes Reuters. The EPM view is that this sentiment is one of “glass half full or half empty?”. One could argue smaller rate hikes are good because they are smaller, or they are bad because they are still a rate hike (amidst a strongly slowing global economy).
Geopolitics
Trade tensions are escalating between the EU and U.S., with Brussels fuming at America’s Inflation Reduction Act, which grants $369 billion worth of subsidies and tax breaks to US green businesses like electric cars and renewable energy, writes Politico. EU countries fear that the US law could suck investments out of Europe and hollow out the bloc's industrial base. The EPM view is that the IRA is designed to incentivize companies to build manufacturing capabilities inside the US – in other words, no need for Europe “to fear” a relocation of industry across the Atlantic, since this is a certainty, and it will certainly happen if the continent does not respond.
Politico also writes the threat is warming France and Germany up to each other (how many times has that happened in the past to no avail?). Collaboratively, they are now pushing Europe for tougher industrial policies such as more state subsidies for European businesses, to counter the threat from the IRA. “We have entered a new globalization”, said French minister of economics, Bruno Le Maire. “China has been in this globalization for a very long time with massive state aids that are reserved exclusively for Chinese products, the fact is that the US has just entered this new globalization before our eyes to develop its industrial capacity on American soil. Europe must not be the last of the Mohicans”.
In addition to bringing Europe closer together, the IRA could also trigger a trans-Atlantic trade war, writes Politico. A failure to reach a deal through direct negotiations would almost certainly trigger a WTO lawsuit by the EU against the US. About $200 billion worth of the subsidies in the US IRA are illegal under World Trade Organization rules, according to French Trade Minister Olivier Becht. Since this too is unlikely to cause a change in the IRA, Brussels could thereafter also strike back against what it sees as the discriminatory US subsidies by imposing punitive tariffs – something the US could then respond to, triggering a trade war. To avoid this scenario, Germany has become more supportive of French plans for Europe to also develop IRA type legislation, to maintain a level playing field between Europe and the US.
But some in Europe recognize Europe’s hands are severely tied, as the continent is completely dependent on the US when it comes to defense. Many among Europe’s political elite are of the opinion that US support for Ukraine is more important than fairness in trade, and are therefore speaking out against a strong, unified, European response to the IRA. Among them EU trade chief Valdis Dombrovskis, who urged people to “see the bigger picture”, stressing the need for maintaining transatlantic unity in the face of Russia’s invasion of Ukraine, writes again Politico.
The EPM view on all of the above is that this MUST make the Europeans realize they need much closer collaboration, based on a shared vision for Europe, covering not only economics but also defense and foreign policy. If Europe fails to recognize this, or is too afraid of the US to move in this direction, the continent will enter a prolonged period of economic decline. At the same time, if Europe does recognize the threat in the IRA and act as we laid out above, this will significantly weaken the trans-Atlantic alliance, which is something the US cannot afford in its geostrategic conflict with China. This is something Europe something should consider, as it gives the US a clear incentive to compromise in negotiations. Considering all this, one would expect negotiations between the US and Europe to reach some kind of compromise solution.
As to the US China geostrategic conflict, Asia Times carries a review of a Harvard seminar on the subject. During the proceedings, China expert William Overholt described the US semiconductor restrictions as a “de facto declaration of economic war” and a “disproportionate response”. Overholt asked “How did we win the Cold War? The West focused on growing our economy and creating a system where friends and allies around the world participated. The Soviet Union put all its money into the military under the opposite strategy and went bankrupt. What’s happened in the Trump-Biden era – and Biden has just expanded on Trump’s policies – is that we’ve turned inward. We want everybody to join economic alliances with us, but we’re not going to give anything. We’re not going to give access to our market.”. Overholt also echoes something EPM has noted before regarding the US - China conflict.
As to the semiconductor policy, Overholt notes: “This is going 30, 40% of the way toward what we did with Japan, cutting off their oil before Pearl Harbor. Semiconductors are the key to the modern world.” And as to the prospect of war over Taiwan, he says: “The Washington dynamic around Taiwan is that the admirals testify in Congress, saying that in five years China could win a hypothetical war. And the interpretation has been: In five years China intends to attack Taiwan. The risk is nuclear war. The common Washington assumption that a Taiwan war would likely be confined to the area around Taiwan is utterly wrong. This is not Ukraine. It would almost certainly be more like a world war.”
Nikkei Asia says the November 14 summit between US President Joe Biden and China’s Xi Jinping shows that the relationship between the two countries has fallen to such a low, that reconciliation has become difficult. Animosity now runs so deep, it argues, that even if both countries resume regular talks, they may not be able to improve ties quickly. The resulting new cold war is more dangerous than the old one in several aspects, it says.
Economically, China is much more of an opponent to the US than the Soviet Union ever was, also because of its critical role in global supply chains.
While the old cold war took place in Europe, where a clear east-west line had been drawn, the new cold war takes place in the Indo-Pacific, which the article considers “a complex area with no clear front lines -- a factor that makes it harder to maintain a stable military balance”.
There are few mechanisms to prevent a hot war between the US and China, as they did not establish the military hotline that was established between Washington DC and Moscow post Cuban missile crisis.
Energy Transition & Technology News
A US startup says it has solved a puzzle that has frustrated the mining world for decades, writes Bloomberg. Vast quantities of copper have been left stranded over the decades in mine-waste piles on the surface, as well as in untapped deposits, as it exists in ore that traps copper behind a thin film, making it too costly and difficult to extract. Jetti Resources has a technology to deal with the issue. BHP Group, the biggest mining company, is already an investor and has now spent months negotiating for a trial plant at its crown jewel copper mine, Escondida in Chile. Freeport-McMoRan Inc. began implementing Jetti’s technology at an Arizona mine this year, while rival Rio Tinto Group is planning to roll out a competing but similar process. If successful, the technology could unlock millions of tons of new copper, solving the problem of a supply crush of copper, which many predicted would result from the energy transition and the electrification of the global economy it entails.
An opinion piece in Nikkei Asia is highly critical of the “clean blue hydrogen” concept. Written by professor Robert Howarth, co-author of the peer-reviewed research paper “How green is blue hydrogen?”, it notes that over 30 countries have developed national hydrogen road maps, and total investment is expected to exceed $300 billion through 2030, with Europe leading the way followed by the Asia-Pacific region. Without a proper understanding of the climate impact of blue hydrogen, Howarth argues policymakers may be opting for hydrogen that is even worse for climate change than simply burning fossil fuels, as according to his findings, over its production and use life cycle, blue hydrogen can be 20% worse in terms of greenhouse gas intensity than just burning natural gas for heat. Blue hydrogen it is significantly polluting due to the huge amounts of energy it takes to produce, the far-from-perfect capture and storage of carbon dioxide, and the methane emissions associated with the development and transport of the fossil fuel energy used to produce it, the author says.
The Global Energy Crisis
Europe’s natural gas storage is currently 95% full, and more gas waiting to be unloaded from a fleet of tankers idling off the continent’s coast. Consequently, natural gas to be delivered in the first quarter of next year is selling for about €125 ($130) per megawatt-hour (MWh), down from over €300 during the summer. As a result, the feared economic meltdown has not materialized, writes The Economist. But, it asks, does this mean has Europe’s crisis ended before it even started? Its answer is a resounding “No”. Although the wholesale gas price has fallen to about €125/MWh, as recently as last year it was below €20. Inflation is accelerating, and the massive expense of energy subsidies is creating big fiscal problems. Also, next year Europe will again have to compete with Asian buyers for natural gas imports – knowing there will be no increase in global LNG supplies that can offset the reduction in Russian pipeline gas. The massive difference in the energy economics of the German (natural gas intensive industries) and French economies (nuclear power generation focused) makes it very unlikely the bloc will reach agreement about how to manage the resulting challenges collaboratively.
As to the efforts by European government to “pick up the tab”, that is to keep energy prices for households and industries low through subsidies and other market interventions, you may recall that at EPM we forewarned this would prove to be fiscally unsustainable for many countries on the continent – i.e. a good plan on paper but a likely failure in practically, making matter worse (through avoiding the price from incentivizing energy saving) in the process. On that subject, Uniper, the gas company bailed out by the German government to avoid what it described as a Lehman Brothers-style effect in the energy sector, now says it needs an additional 25 billion euros ($25.8 billion) to stay afloat, writes Reuters. That would bring the tally to more than 51 billion euros! Just as a reminder, the original bail out was for 15 million euros, meaning that before the first winter, the bail out amount has already gone up 300%.
Other
Over at the Financial Times, Mariana Mazzuccato looks at the US’s Inflation Reduction Act for a different lens. Biden’s chief economic adviser compared the scale of investment and ambition behind the new US industrial strategy to the Apollo space programme. But, for it to deliver just this, the strategy must foster a new kind of economic growth. Mazzucato argues that in order for the new global wave of industrial strategies to achieve Apollo-like results – that is inclusive and sustainable wealth creation, rather than more of the inequality that underlies the global dissatisfaction with established politics – governments need to strike a new deal with the private sector and raise the bar on what to expect in return for public funding.
This requires approaching these partnerships as an opportunity to maximise public value — to share the rewards as well as the risks of investing in innovation and growth. Mazzuccato argues there are four types of conditions governments should consider attaching to procurement, grants, loans and tax incentives:
Products and services with public funding should be priced accordingly.
Public investment in green technologies or industries should come with the condition of private investment in new manufacturing capacity to minimise carbon emissions and create jobs that meet labour standards.
Receipt of public funds should be conditional on sharing a proportion of royalties, equity or intellectual property with the government.
Force companies to make productive investments with the profits resulting from supported activities, rather than increase share buybacks and other shareholder value focused activities.