COVID-19's impact on the energy sector

A fall in global coal and electricity demands led the downward rally, followed by oil and gas. The fossil fuels that were already reeling under the pressure of surplus induced low prices have been further affected by the extended lockdowns that caused people to work and learn from home and use less road or air transport. Brent crude, which had been plunging since June 2014 and in a more pronounced manner since September 2018, hit a 19-year low³ in April 2020, before bouncing back slightly. The Henry Hub natural gas price has been declining since September 2005 and stayed below US$2 for a good part of 2020.⁴

Millions have lost their jobs, homes, businesses, or savings. The main change brought about by the pandemic has been an increased reliance on digital platforms. All these affect electricity usage, fuel consumption and emissions. Some believe that these direct impacts on energy consumption, mobility and environment are not likely to last, while others argue that it may trigger a worldwide transition towards a low carbon and low-contact economy. For the oil and gas companies, whose bottom lines have already been affected by low fuel prices, it means adoption of all measures required to survive, which will include decisions to pursue, cancel, postpone or reduce investments in low-carbon technologies.

The concern regarding peak oil happening around 2020 was laid to rest for a short while, with the introduction of new technologies in extraction and deep-ocean drilling that opened up possibilities of vastly increasing the global reserves. Despite ongoing transition to renewable and nuclear energy and the declining demand of fossil fuel transportation in Europe, Japan and the US, oil demand was projected to marginally increase in the next two decades with increased demand in Asia, the Middle East and Africa. Unless there is a paradigm shift in policies, oil demand will continue to rise slowly in the next decade or so after which we can expect to see a decline.

The renewable and nuclear energy market accounted for about 15%⁵ of the energy basket in 2019 as per EIA reports, and was forecasted to substantially replace fossil energy in about two decades time. It is true that the last few years have seen substantial work in this regard; but the energy transition has been plagued with problems such as huge investments, reliability, low productivity, affordability, sustainability and energy security.

The pandemic created challenges as well as opportunities for energy transition. Renewable energy has been more resilient than other sectors during this period. The global use of renewable energy saw an increase of 1.5% worldwide in all sectors between 1Q19 and 1Q20. The use and generation are expected to rise by around 1% and 5%, respectively, in 2020⁶. Before the pandemic halted or delayed projects and investments, this year was predicted to set records for new, combined renewable energy capacity. IEA estimates that the lockdown could set back the 2020 renewable energy investment and capacity by as much as 18% and 13%, compared to last year.

Long-term energy outlooks are published by various entities; but the inconsistencies and impracticality of direct comparisons make it difficult for decision makers to understand energy futures comprehensively and engage in erudite discussions. But it will be reasonable to expect the following:

Government interventions

The pandemic may accelerate the transition from fossil fuels economy, but not in every country. There will arise the conflict between the immediate goal to revive the economy after lockdown and the continuing global objective to decarbonise. Global energy demand may bounce back to the pre-pandemic levels in about 3 to 5 years’ time depending on how fast the pandemic is controlled.

The pandemic has brought together leading EU countries to integrate their finance and efforts for greener energy. In the US, the development in fracking and shale had made the country more self-reliant, paving way for major changes in demand and supply. The new government is likely to implement more stringent rules on drilling, emissions and fracking. Many countries in the Middle East and Africa, whose economies relied heavily on fossil fuel reserves, will face crisis with the devaluation of reserves prompted by low prices and future demand.

Any major government support is likely to be for projects that accelerate the energy transition to a zero carbon emission economy or transition from the fossil fuels industry. The stimulus plans, government support and the post pandemic recovery of China (which leads the solar panels and wind energy sectors) will determine the pace of recovery. Despite government interventions, full recovery may not be possible given that many of the energy related infrastructure projects and related economic activities are shelved or indefinitely postponed.

Cleaner energy

The relatively higher prices associated with renewable or cleaner energy is likely to dampen its demand in the near future with the economy reeling under the pressure of the pandemic and buyers’ predictable reluctance to switch to new contracts in an unpredictable market. The deciding factors in the next few years will be countries and cities moving away from polluting vehicles, the possible introduction of carbon-free compliant trucks by 2025, and the reopening of the aviation and automotive sectors.

The success of renewable energy will depend on shifting from reliable and constant, but rigid centralised power stations to decentralised, smart and reactive grids that can transmit energy from diverse sources with the ability to accommodate fluctuations in generation and demand. Simultaneous technological breakthroughs in developing efficient and effective energy storage capabilities in niche areas such as biofuel generators, hydrogen fuel and offshore wind harnessing is critical.

Major oil and gas companies are observing development of green hydrogen with keen interest. This is also a part of Europe’s green deal package with numerous investment support policies, pilot projects and a dozen roadmaps for using hydrogen for energy.

Fossil fuels

In the current situation, for the next couple of years, it will be difficult for oil and gas operators to show noticeable progress in their decarbonisation goals. Accelerating transition to cleaner energy may disrupt the business models and possibly undermine the bottom-line of many fossil fuel operators, which is where they will look for cost sharing or subsidies from the government. To attain sustainable development goals, it will be important to find a balance between medium and long-term strategies for transition and the short-term recovery to meet the current energy demands.

The trends and behavioural patterns following the pandemic suggests a relatively slower growth in fossil fuel sector than predicted. This, alongside the irreversible decline in coal demand, will continue to encourage major oil players to divert their investments to carbon-free sources of energy. While the next few years is likely to see massive job losses in fossil fuel, it could substantially add jobs in the clean energy sector.

Oil prices are likely to hover at around the US$40 - 45 bracket until the end of 2021. In the absence of delays in development of a vaccine and its distribution, an increase in price to the pre-pandemic levels was expected only after travel resumed. With most borders remaining closed for the rest of the year and the resurgence of a second wave in many countries, jet fuel demand, which was reduced to half of 2019 levels, is expected to recover slower than road fuel, with the global oil demand likely to return to the pre-pandemic levels only in or after 2022.

Natural gas, which will act as the transitional energy during this period, is likely to bounce back more quickly than oil; but it is unlikely that it will see the highs of even 2014 in the next couple of years. We should anticipate Henry Hub gas price in the US$3 - 5 range until the end of 2021, while Asia oil-index prices could be in the US$7 – 9/million Btu range. The demand for natural gas is likely to see growth for the next few years, especially in Europe, Asia and the Middle East. Even with a spike in gas prices, the demand will continue for some time, but the lower income countries may continue to use the cheaper liquid options given that they cannot afford the costlier LNG-based gases or alternative energy sources in the immediate future.

It is anticipated that the sector will also gear towards less human intervention in its chain of operations. This presents investment opportunities around management and process optimisation of assets using the latest technology for more sustainable operations. This is expected to attract potential investors in greener exploration and exploitation of hydrocarbons in the long run; but in the current unpredictable environment, investments may not be immediately forthcoming with low oil prices rendering most of the exploration and development activities unviable.

In the next couple of decades, due to the falling production costs, fossil fuels will continue to lead as the primary energy source, even with the increased investments in, and generation of, renewables. Oil will continue to remain the dominant source for energy for transport while in the heating sector, natural gas will take the lead role. Faster transition resulting in an earlier end of fossil fuel dependence is possible with strong and consistent sustainable development policies and efficient disbursement of investments; but there may not be major renewable projects that can be brought online in the immediate future. Therefore, at the global level, cheaper fossil fuels may continue to support demand and discourage clean energy solutions for some time.

The effects of COVID-19 and the associated global recession will last for a couple of years. The delay or loss of economic activity in these years will contract energy demand, extend reliance on fossil fuels and delay alternative energy initiatives. As is always the case, the recovery of the overall economy will decide that of the energy sector, which in turn will depend on how soon the virus can be contained and a vaccine made available. The recovery from effects of the pandemic will be gradual; but there will be a paradigm shift in the way the energy industry runs. The silver lining in the present crisis is the decline in emissions to the levels 10 years or so before, but there is little merit in trying to sustain that without economic growth, and hopefully it will serve as a catalyst for an accelerated change to a more sustainable and secure energy world.

Written by Ajith Muralidharan, Oil and Gas Consultant.

References

1. https://yearbook.enerdata.net/total-energy/world-consumption-statistics.html Global Energy Statistical Year Book 2020
2. https://www.iea.org/reports/global-energy-review-2020 - International Energy Agency Report: April 30, 2020
3. https://tradingeconomics.com/commodity/brent-crude-oil
4. https://www.macrotrends.net/2478/natural-gas-prices-historical-chart
5. https://ourworldindata.org/energy-mix
6. https://www.iea.org/reports/global-energy-review-2020/renewables
7. https://www.irena.org/-/media/Files/IRENA/Agency/Publication/2020/Jun/IRENA_Post-COVID_Recovery_2020.pdf
8. https://media.rff.org/documents/GEO_Presentation_FINAL.pdf

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