Diatribes of Jay

This is a blog of essays on public policy. It shuns ideology and applies facts, logic and math to economic, social and political problems. It has a subject-matter index, a list of recent posts, and permalinks at the ends of posts. Comments are moderated and may take time to appear. Note: Profile updated 4/7/12

08 November 2012

Keystone: An Engineering and Economic Atrocity

[For an 11/14 update to this post, click here. For my final thoughts on Mitt, click here. For a brief comment on Huntsman at State, click here. For my recent post on why our two parties might now work together for the common good, click here.]

One of the first things re-elected President Obama must do is decide whether to give the proposed new Keystone Pipeline a “go.” Most of the opposition so far has come from environmentalists. They have concluded that building the pipeline will damage fragile wilderness and that operating it—with all the risks of spills—will endanger wilderness, wildlife and maybe even farming and human settlements.

But there are much more persuasive than environmental reasons to reject Keysone. The whole project would be an engineering and economic atrocity. Here’s why.

Take a look at a map. Together with a much shorter stretch of existing pipeline, the proposed new Keystone would take heavy, tar-sands crude from northern Alberta, halfway across Canada and all the way across the US (from north to south), to our Gulf Coast refineries.

Once refined, what markets would the resulting gasoline and diesel serve? Dallas-Forth Worth and Houston are big cities and are relatively close. But no one is about to build a transcontinental pipeline just to serve them. The big markets for fuel are on the East and West Coasts and in the Midwest. It would be hard to find a place (inside the US) farther from them than our Gulf Coast.

What does that long distance mean? It means that Keystone’s construction costs, the entire transcontinental pipeline’s maintenance costs, its risks of spills, and the costs to transport the refined fuel are larger than for almost any conceivable alternative. So is the risk of pipeline terrorism: the longer the pipeline, the greater the risk of mischief.

No engineer in his right mind would plan such a Rube Goldberg scheme without considering every possible alternative first. The driving distance from Houston to Chicago is 1,086 miles, to Los Angeles 1,546 miles, and to New York City 1,627 miles. Why take crude from northern Alberta to our Gulf Coast for refining there, and then transport the refined fuel over a thousand miles to East Coast, West Coast and Midwest markets? The answer involves a little bit of engineering and a lot of economics.

One key motivation for the plan is export. The Gulf Coast has not just the highest-capacity refinery complex in our nation. It also has biggest crude-oil import-export complex.

That’s where the vast majority of oil shipments from the Middle East come in. If you have pipes and piers that let you offload crude oil from a Saudi supertanker into an onshore tank, you can reverse the flow and export oil anywhere in the world. We’ll discuss Big Oil’s motivation for doing so in a moment.

A second key motivation for using Gulf-Coast refineries is capacity. The Midwest has a chronic shortage of refinery capacity, which is why Midwest gasoline prices are chronically high. At the same time, the Gulf Coast refineries have excess capacity, due to cars’ increasing fuel efficiency and the effect of higher fuel prices in getting drivers to avoid unnecessary trips.

The “solution”? Refine gasoline and diesel in the Gulf Coast and transport the resulting gasoline and diesel to the Midwest. That and export are precisely why Big Oil reversed the flow of an obscure pipeline spur called “Seaway” last summer.

Here the alert reader might ask a simple question. Wouldn’t it be cheaper to build a couple of new refineries in the Midwest than build a trans-Canadian and transcontinental pipeline to the Gulf Coast, operate that pipeline continuously, and transport every gallon of gasoline or diesel a thousand miles to the Midwest? And wouldn’t it be quicker and cheaper to supply those refineries with light, sweet crude from our very own Bakken shale “gusher” in North Dakota and Montana? (Bismarck is only 834 miles from Chicago.)

Big Oil is greedy, but not stupid. There must be sound economic reasons for it to propose what, from a geographic and engineering standpoint, looks like a Rube Goldberg scheme.

There are two economic reasons for this engineering atrocity. First, the Gulf Coast refineries not only have excess capacity. They are also old and mostly fully depreciated, i.e., fully paid for. By using them at closer to full capacity, Big Oil avoids the need to pay for building any new refineries at all.

But examined more closely, this reason makes no sense. Building a pipeline like Keystone is much more expensive than building a new refinery complex. The pipeline is also much harder to permit: the refinery is localized, while the pipeline must go through numerous localities, some of which are populated or environmentally sensitive areas. Every state and local jurisdiction has its own environmental review and permitting processes. And if Big Oil used light, sweet “fracked” crude from the Bakken (which is easier to refine) to supply the Midwest, the refineries would be even cheaper.

Petroleum engineering and science also have marched onward since the fully depreciated Gulf-Coast complex was built. Building a much smaller complex in the Midwest (to serve it, not the whole nation) would be much cheaper now than then. And the result, being more modern, would produce more fuel per barrel of crude and less toxic effluent per gallon of fuel.

It doesn’t matter whether you compare new refinery expense to the enormous expense and risk of building Keystone, or whether you consider the engineering and transportation advantages of local refineries. Refining fuel for the Midwest in the Gulf Coast makes no engineering or economic sense. Supplying the Midwest by bringing heavy crude from Alberta to the Gulf Coast makes even less sense. Yet there still must be a good economic reason for this otherwise senseless proposal. What is it?

The answer has to be export. No other answer makes sense. As our domestic appetite for oil and its derivatives levels off and declines, Big Oil looks wistfully at foreign markets, where prices for crude are 18% higher. It looks even more wistfully at gasoline and diesel prices, which are more than double ours, even before taxes.

That’s the real driver of Keystone: the economic isolation of our US oil-and-gasoline markets. Our market isolation makes our gasoline and diesel fuel much cheaper than their European and Asian counterparts. Big Oil wants to change all that.

If Big Oil could globalize domestic markets for crude oil, gasoline, and diesel, two things would happen. First, the longstanding spread between the West Texas Intermediate (American crude) benchmark and the European “Brent” crude benchmark would disappear. At a minimum, WTI would come much closer to Brent, with the difference probably not exceeding the (much lower) transatlantic shipping costs of crude. If that happened, Big Oil’s revenue for selling crude would increase by close to 18%, without any additional exploration or extraction on its part.

Globalizing markets for refined fuels would have a much bigger prize. It would more than double Big Oil’s revenue from a gallon of gasoline or diesel. Because costs would not increase at all, profits would much more than double. For example, if a gallon of gasoline cost $3 to produce and distribute and sold at retail for $3.50, doubling its retail price to $7 would increase profit from 17% to 133%.

Big Oil is in business to make a profit, the bigger the better. So it’s not surprising that it would propose a massive infrastructure change that makes no sense from an engineering perspective. Profit is the driver here.

But what do we, the people, get from this proposal? Mostly negative things.

We’ll inevitably get higher prices for domestic crude. We’ll get much higher prices for gasoline and diesel. We’ll get all the greater environmental danger and risk of terrorism that a transcontinental pipeline entails.

But even that’s not all. We’ll reduce our energy independence to the extent that our own domestic fossil fuels end up abroad. We’ll reduce our domestic reserves of crude oil to the same extent, thereby reducing our long-term national security. (We’ll reduce them either by sending imported Canadian crude abroad and using up our domestic supplies or—as Big Oil has proposed—using the Canadian crude to supply domestic needs but selling our cleaner fracked Bakken oil abroad.)

What will we, the people, get in exchange? Those who own stock or long options on Big Oil (like me, I confess), will get richer. The rest of us will get poorer and more insecure. That seems like a terrible bargain.

It’s not as if Big Oil has a dim future otherwise. In the long run it might, as inertia-ridden human civilization looks to other sources of energy. But that won’t happen in a big way for at least another decade or two. In the meantime, the developing world is engaged in an orgy of road and car building, which will insure increasing global demand for oil-based fuels for the foreseeable future. Coupled with flat or decreasing supply, that means ever-rising prices.

As global economic development accelerates, the prices for Big Oil’s products will steadily increase without any additional effort on its part. The result will be like getting money from Heaven. That’s why I’ve invested in Exxon Mobil.

But Big Oil is not content with waiting for steady and inexorable price rises as the global economy recovers and spurts ahead. It wants to make even more by exporting and exhausting prematurely the priceless geological heritage that nature gave us and our Canadian neighbors. In so doing, it wants to kill the market isolation that has given us cheap energy for over a century.

Once we have exportable oil, gasoline and diesel, our WTO agreements probably obligate us to sell them abroad to all comers without discrimination. But nothing in the WTO obligates us to massively change our energy infrastructure to make that possible.

If we’re going to stop this process of selling our precious fossil-fuel reserves out to foreign buyers, and losing our market isolation and our cheap energy, we have to do so now, with Keystone.

Big Oil wants to increase its profit massively, in the shorter term, by serving the rest of the globe with our and Canada’s precious fossil-fuel reserves. We should decline to let it do so and reject the engineering and economic atrocity that Keystone would be.

Update: Motives and Consequences

It’s hard to see human motives without a mind reader. So for a moment, let’s forget about profit motives and think about consequences.

Suppose the US government rejects Keystone. What happens then?

Well, the big “horrible” that Big Oil wants to scare us with is a Canadian pipeline from the Albertan tar-sands fields to an export terminal somewhere in British Columbia. So suppose the Canadians build one, or (more likely) Canadian subsidiaries of US Big Oil do. What then?

Well, Canada is member of the WTO, too. Just like us, it has to sell its wares to any other WTO member without discrimination in price or quotas. Those wares include crude. So we can buy the Canadian crude in, say, Vancouver, for the same globalized price that Japanese, Europeans or South Americans pay.

What difference would that make in our domestic prices of gasoline and diesel fuel as compared to Keystone? Not much. It might even reduce them.

If we wanted to bring the crude to the Gulf Coast for refining there, as with Keystone, we could do so in tankers, just as we now bring crude from Venezuela or Saudi Arabia. Against the cost of tanker transport, we would have to weigh the cost of building and maintaining Keystone. That cost is enormous, quite apart from the possible environmental damage, which Canadians would have to bear if the pipeline was theirs. (That pipeline would also be much shorter than Keystone, so the Canadian risk would be less.)

Probably the transport-cost balance would be a wash. It might even cut in favor of tankers, at least until the capital investment in Keystone were fully amortized and the financing expenses paid off. Either of those events would probably lie at least a couple of decades away, if we approved Keystone.

But suppose we had sufficient refining capacity in local major markets. That is, suppose we decided to send the Canadian tar-sands oil from the hypothetical Vancouver terminal, directly to major US fuel markets for refining there. Then Los Angeles would be lot closer to the Vancouver source, and the Gulf Coast no farther away.

Only East Coast and Midwest markets might suffer, and then only from the minor cost of tanker transport, which we know is far less than the present differential between Brent and WTI pricing. (This analysis assumes that our current Bakken-shale “gusher” of light, sweet, “fracked” crude from North Dakota wouldn’t be available to East Coast and Midwest markets, which are a lot closer to that source than Vancouver is.)

So would much be missing insofar as concerns our domestic supply from Albertan sources? No. The only thing that would be missing, as compared to Keystone, would be the ability to refine Canadian crude into gasoline and diesel in the Gulf Coast and export the refined products, therefore destroying our market isolation for them. (Actually, we could do that, too, by bringing the Canadian crude to our Gulf Coast in tankers, but doing so would be a lot more transparent than pipelining it in.)

Also missing would be the ability to export the crude from our North Dakota Bakken gusher. Keystone, whose path is not too far from that gusher, would permit us to export that new bonanza, further destroying our market isolation and globalizing oil and oil-derived-fuel prices, this time from our own domestic reserves, not Canada’s.

Perhaps it’s unkind to impute unconfessed profit motives to Big Oil. But when the only alternative—and the one Big Oil most wants us to fear—produces almost identical effects on domestic supply, and when the only conceivable difference is export, you have to accept basic logic. Big Oil may be greedy, but it’s not stupid.

Huntsman at State?

According to Yahoo News, the Obama Administration is considering Republican John Huntsman, Jr. to replace Hillary Clinton as Secretary of State. Unfortunately, Huntsman is still runner up to Senator John Kerry.

There are at least six reasons to prefer Huntsman to Kerry, all of them good.

First and most important, Huntsman has by far the most relevant expertise. He speaks fluent Mandarin and served almost four years as our ambassador to China, sheparding our (and the globe’s!) most important bilateral relationship, by far. With trade issues still rankling both countries, and with the chance of a trade or real war between Japan and China, it is vital for us to have the most expert possible Secretary of State, whose command of China’s official language inspires respect and trust.

Second, Huntsman has six years of solid experience in national administrative positions in international trade and commerce. Kerry has no similar experience.

Third, one of our most important tasks during the next four years will be turning the GOP back into a real political party. Right now, it is a collection of extremists led by people whose goal is to bend the rules to the breaking point in order to win at all costs.

We can’t long survive without a rational and credible opposition party. By giving a well-qualified Republican a prominent position in his second administration, the President could jump-start the GOP’s internal reform process from outside.

Fourth, everyone knows we need more bipartisanship, but no one seems to have any real plan to get there. Huntsman was not only the only qualified GOP presidential candidate. He is now self-evidently the one best qualified for State. By giving Huntsman a prominent position in his second administration, the President could signal that Republicans have a role to play in government, but only if they are well qualified by education and experience, rational and fact-centered, and willing to play nice with others.

Fifth, virtually all of the just-ended two-year campaign was a distraction from our real national problems, which have festered for an average of 17.5 years. Most of them are domestic, but some—like climate change, economic inequality, and our boated and inefficient military-industrial complex—are strongly influenced by foreign affairs. Now that the disastrous campaign is over, the President needs to recover his Lincolnesque quality and appoint the ablest person to each job, regardless of party.

Sixth and finally, John Kerry is not nearly as well qualified as Huntsman. It would be a gross mistake to award such an important job based on party loyalty or gratitude for past service. Kerry is a fine man, and he gave more to Obama’s campaign just ended than he gave to his own eight years ago. He deserves something. So give him Veterans or Labor, but not State. Please.

Why Mitt Lost

The following post is, I hope, my last ever on Mitt. We dodged a bullet in keeping him out of the White House, the speed, size, power and aim of which we’ll never know. But the consequences of his election would have ranged from mildly bad to disastrous.

Fortunately for us and our species, his political career is over. But before he falls into the obscurity he so richly deserves, it’s useful to ask a single question: why he lost.

Let me count the reasons. They are many and sundry. But here are a dozen, in roughly declining order of importance:

1. The job of president is a political one. Mitt is unqualified by political experience, political achievement, temperament and judgment to be President of the United States. The only reason he got so far was that all the other Republican candidates, except for Huntsman, were even worse.

2. Despite his consummate salesmanship, Mitt was and is an unelectable, undiplomatic, egotistical, insensitive jerk (1, 2 and 3). His “47%” gaffe, like all the others, was not just a slip. It was who he is.

3. Mitt was, and remains, an investment banker, of the private-equity subspecies. Weren’t they the folks that, barely four years ago, destroyed the global economy, throwing so many out of homes and jobs?

4. Despite Mitt’s salesmanship, the GOP’s program, after the debates, was almost precisely the same as Dubya’s. A pig with lipstick is still a pig.

5. Our Founders and the people who won the West and built this nation were neither entrepreneurs nor lone gunslingers. They were deliberate social engineers and community organizers. They traveled West together, in large groups. They helped each other raise barns, bringing European civilization to a wilderness. People know in their history and their hearts that the myth of extreme individual self-reliance only goes—and went—so far.

6. The GOP’s “coalition” has become a bizarre collection of single-issue extremists. To the rest of us they look and sound like a mob. Tuesday’s electoral rout didn’t reach Goldwater landslide proportions only because of Mitt’s superb salesmanship and Fox’ effective propaganda. But they weren’t enough.

7. People got tired of lies. As the lies went more and more over the top, people got disgusted. Anybody care to bet when Chrysler will move Jeep to China?

8. Americans are still a compassionate people. At least most of us are. Dubya made “compassion” just a slogan. Mitt ignored it entirely, preferring theory and ideology. His half-hearted “change” in the debates was too little, too late.

9. The strategy of keeping the country in gridlock and blaming the President didn’t work, and rightly so. [1 and 2]

10. Our country has changed. It’s less white, younger, hipper, savvier, less TV-reliant, and far more tolerant. Bigoted American Taliban are not the source of our nation’s vitality or long-term growth, whether in population or in productivity. Immigration is.

11. Those who care about climate change and foreign policy (and worry about war) know that the rest of the world wants an America that acts on facts, evidence and reality. Fox’ alternative reality is just not good enough. Real reality intruded on Mitt’s and the GOP’s narcissistic optimism only before his concession speech. That was why it was late.

12. Hatred, intolerance, bigotry and disdain for real people’s suffering are not the American way. If they ever become so, we will lose whatever is left of our “exceptionalism.”

Only points 1-3 and 7—four points out of a dozen—are messenger or messenging issues. The majority are issues of substance. If the GOP persists in trying to take the country backwards, and in believing it only needs to “communicate” better, it will become a permanent minority party far quicker than anyone suspects.

The GOP needs a better message, not just a better messenger. It will never find a better salesman than Mitt [1 and 2], or a better marketing department than Fox. The problem is the product, not the selling.

There is room in America for intelligent, moderate conservatism. There is no room for a conservatism that ignores reality (take heed, Fox!) and seeks to turn the clock back to an imaginary, golden past. Americans can believe a lot, but they don’t believe in time machines, and they don’t want to go backward. Thank God for that!



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