A month of constraints, few of them at the wellhead

The past months’ energy headlines read as separate stories. Heat forced power stations offline across six European countries. Britain’s system operator stopped exports through four of its ten interconnectors. The North Sea regulator told producers to accelerate the closure of 500 overdue wells.

The world’s largest carmakers ran short of motor oil. Indonesia, the third largest producer of thermal coal, spent the summer rationing electricity, and its president softened a flagship commodities policy three months after announcing it. Crude, meanwhile, fell from above $120 a barrel at the peak of the Gulf crisis to below $80 as an initial reopening of the Strait of Hormuz was signalled. 

Each story was reported separately, and each reads complete on its own. Forty years around this industry have however taught me that the more useful perspective usually sits underneath, in what the stories say together about the system that produced them. Last month, I think, they said a great deal.

European heatwaves threaten electricity supply

The European summer is the place to start. On the European Commission’s account, heatwaves forced power stations to shut down or cut output in Hungary, Romania, Slovenia, France, Italy, and Poland, as rivers ran too low and too warm to cool nuclear and coal plants. Poland lost about 1.3 gigawatts when the Vistula could no longer cool two coal stations. Three French reactors went offline on low water. 

Norway’s hydropower reservoirs, in a country that exports electricity to its neighbours, reached their lowest levels in 30 years. Hungary’s Paks nuclear plant, two gigawatts supplying up to 40% of national electricity, was nearly forced offline for the first time in its history. Britain’s National Energy System Operator cut permitted exports to zero on four of its ten interconnectors for several hours across late July, the first time its designation for margin extremes had been used to restrict exports.

Each was a domestic difficulty, and each was managed domestically, but they share a mechanism. Firmness in a modern power system is assembled from a portfolio of storage, interconnection, dispatchable generation, and reserve capacity, and the summer showed that the members of that portfolio are not independent of one another. The weather that raises demand is the weather that removes the river water, drains the reservoirs, and persuades the neighbour to keep its power at home. The neighbour is short for the same reason and at the same hour. A portfolio whose members fail together delivers less than the system was designed to provide. 

Decommissioning hurdles for North Sea assets 

The North Sea story looks unrelated at first, but the UK’s North Sea regulator states in its annual decommissioning cost and performance update, published on 13 August, that operators have made little progress on 500 wells already past their decommissioning deadlines, with a further 1,000 due to stop producing within five years. Some 114 wells reached final abandonment last year, against 103 the year before.

Eighty percent of the liabilities for the basin’s old wells sit with ten companies on the regulator’s account, and the obligation does not travel with the asset, since companies that sold fields years ago are still funding the closure of their former wells.

On the regulator’s forecast, decommissioning spending overtakes capital spending in the basin from 2029. The connection to the European summer is not the weather but the shape. Ending an asset’s life turns out to be a constrained, regulated and expensive operation in its own right, and in a mature province it becomes the dominant call on capital. Every long-lived energy asset, the first generation of offshore wind included, will eventually present the same bill. For me this is the little known fact of legacy.

In many countries the conversation is about the transition to a new energy system, while the bill for closing down the old one arrives in the same years, and it draws on the same capital and much of the same delivery capacity that the new system needs for its build.

The hidden bottleneck

The Strait of Hormuz supplied the third story, and perhaps the subtlest. When an initial reopening was signalled, crude repriced within days, from the fear of shortage to the expectation of surplus. Motor oil did not. Group III base oils, the highly refined product behind modern engine lubricants, lost their principal source when a gas-to-liquids plant in Qatar was struck in March.

By August carmakers had run through their inventories, several suppliers had declared force majeure, and prices had roughly trebled to about $4,000 a tonne in Europe and the US on Argus Media’s assessment. On the same assessment, even a reopening tomorrow would bring no replenishment cargo before October.

Crude recovers in days because it is fungible, stockpiled, and traded on a deep market. A specialty product with one dominant plant, no strategic reserve and a specification lock recovers in months. Reopening a choke point does not restore the flows through it, and the further down the conversion chain a shortage sits, the longer the lag. And a substitute that exists physically is not usable until the buyer has approved it to specification, so the binding constraint at the point of use was institutional rather than physical.

Policy versus pricing

Indonesia’s twin stories complete the story. Its domestic market obligation caps coal sold to the grid at $70 a tonne, a price set in 2018 and far below the export market, and this year’s mining quota was cut to about 600 million tonnes, roughly a quarter below last year’s level. Thus, blackouts followed through the summer. Fossil fuel generates two thirds of the country’s electricity, coal the largest part of it, and with export prices far above the cap some producers reportedly preferred the penalty for non-compliance to selling at home, while the lower quota tightened supply further.

The state utility attributes the outages to technical faults and the government initially rejected any policy link, so readers can weigh the causation for themselves, but the sequence is on the record, and the world’s third largest producer of thermal coal spent the summer short of coal-fired power.

Last month, the president announced that his new commodities export agency, established in May with the ambition that Indonesia should help set global commodity prices, would monitor transactions rather than trade them, after a 26% fall in the Jakarta equity index this year and a 6% fall in the rupiah against the dollar.

Whether the market forced the retreat is likewise a judgement for the reader. What the sequence shows is that the capital market disciplines producer states as well as companies, and it can price a policy before the policy takes effect.

“The scarcity was real at the point of use”

Now read the four together. Not one of them is at bottom a story about the energy sources. The crude existed and was gated by a strait. The lubricant shortage began at a single damaged plant. The coal Indonesia rationed is the coal Indonesia exports. The scarcity was real at the point of use and absent at the source. That is the signature of a system constrained by its structure and its legacy. The weaknesses are structural, members that fail together, assets whose ending costs more than their owners budgeted, recoveries that lag reopenings, capital that disciplines states as readily as companies.

Very little of the public conversation reaches these questions, how firm supply really is when its components fail together, who pays to close the old system down, how long recovery takes after a disruption ends, and what capital will and will not finance. Much of it is aspiration, visions of what the energy system could become rather than the reality of the one we operate today. The month just past was entirely about that reality.

The need to be resilient

Three conclusions follow for me. First, firmness of power supply should be planned for correlation rather than for the average, because the conditions that call on the portfolio are the conditions that remove several of its members at once.

Second, the full life of the asset now belongs in the analysis, since the system has long been constrained in what it can build, and this month showed it constrained in running and in stopping too. Third, and above the other two, a system with weaknesses of this kind is an argument for breadth.

Every option carried its own failure this month, thermal plant lost its cooling water, hydro its reservoirs, interconnection its neighbourly surplus, crude its strait, and the only position the month rewarded was holding several at once. That conclusion favours no single technology. It is simply what four apparently separate stories say when they are read together.