Global fuel standards are pushing the dirtiest oil out of the market

Not all oil is equal. We think of petroleum as equally polluting whether it comes from the ground in Saudi Arabia or Texas. But that’s not quite right. There are hundreds of grades of fuels out there, each with different carbon footprints—and different impacts on the climate.

The dirtiest oil, like the viscous stuff from Canada’s tar sands, has to be steamed out of the ground and heavily refined before being shipped off to the coast. That makes it responsible for three times more carbon emissions than a barrel of “light crude,” which simply gushes out of the ground in Saudi Arabia. Saudi’s oil also contains less water, and tends to come out of the ground with less methane, all of which means less effective emissions per gallon after it’s burned in your engine.

That variation in carbon intensity promises to shake up the global oil market, writes energy economist Philip Verleger in a report to investors. Most governments concerned about climate change generally aren’t banning fossil fuels outright; they’re creating low carbon performance standards, which allow for taxing of fuels based on their carbon content. A steadily rising price for carbon means the dirtiest fuels—from places as disparate as Canada, Venezuela, and Alaska—will eventually be pushed out of the system.

Who will be the winners and losers? To help find out, we can turn to California.

California prices it

California’s approach to carbon fuel standards is perhaps the world’s most aggressive. By 2030, the state’s market-based program aims to lower the carbon intensity of California’s transportation fuels by 20% below 2010 levels.

Any fuels used in California that fall below its carbon intensity target—ethanol, biodiesel, renewable diesel, compressed natural gas and biogas, hydrogen, and electricity for electric vehicles (EVs)—can generate credits. Those above, such as conventional diesel or gasoline, generate a deficit, requiring credits to comply with the standard. Drivers never see the tax, except as slightly higher prices for conventional gasoline. Instead, petroleum importers, refiners, and wholesalers who fall under the program must pay the difference, or find different fuels.

The state’s air regulatory body, the California Air Resources Board (CARB), measures the life cycle emissions for every major fuel—allowing it to award credits, or impose credit deficits, on fuel suppliers. The variation is dramatic: The carbon arriving in fuels shipped to California is vastly different not just between countries (which can vary by a factor of five), but even among individual oilfields.

Alaskan fuel is some of the most energy-intensive out there, with a carbon intensity of 16 g CO2e/MJ (grams of carbon dioxide equivalent emissions per megajoule, a unit of energy). Thailand, although a small supplier, ranks among the lowest: just 4 g CO2e/MJ.  

That wide range reveals how carbon intensity could change competitive dynamics between fuel suppliers around the world. Oil is a global commodity. Even a small change in relative prices could create big winners and losers for oil-exporting nations.

One clear winner is Saudi Arabia. “The higher carbon dioxide content of many crudes relative to the Saudi crudes warns that enactment of a carbon tax will confer a competitive advantage to Saudi oil relative, say, to crude oil from Russia or many other countries,” Verleger wrote. “This advantage will add to the Saudis’ production cost advantage.”

In other words, carbon intensity standards like California’s could raise demand for Saudi Arabian crude in the short term, even as it steadily increases the prices of all fossil fuels.

Beyond fossil fuels

Another clear winner created by carbon intensity standards: alternative fuels. As oil importers, refiners, and wholesalers seek to minimize the cost of carbon emissions, they’re turning to an unlikely cast of fuel suppliers in California’s low-carbon competition.

More than 840 unconventional fuel sources have been certified by CARB for use in its carbon scheme. Dairy cows in Indiana, pigs in Missouri, methane-rich landfills in Illinois, molasses ethanol producers in Brazil, and even waste wine from California vintners are all sources of transportation fuels such as ethanol (derived from plants), biogas (via animal manure), and hydrogen manufactured by splitting water using solar electricity. Several, such as biogas generation on dairy and pig farms, result in negative emissions due to their displacement of methane emissions, a potent greenhouse gas.

At the moment, ethanol and biodiesel are the two largest alternative contributors to California’s transportation system, accounting for well over half its alternative transportation fuel generating credits, estimated at about $1 billion in 2018, according to Stillwater Associates, an energy consultancy.

So far, the effort in the state has been a success. Emissions are falling ahead of schedule. Researchers in the journal PLOS One estimated in 2018 emissions in California’s transportation sector fell by around 10% due to the program, and delivered with hundreds of millions of dollars in increased worker’s productivity due to improved air quality.

And the progress will only continue, as California tightens carbon limits each year. In 2020, CARB imposed new penalties for dirtier fuel as the state’s fuel carbon intensity rose above targets (raising compliance costs by about 24 cents per of gasoline). The price of credits has steady risen from $107 per ton in 2018 to its maximum of $217 today (the price is benchmarked to $200 in 2016 dollars).

California is just one case study in the impact of such a plan; most of the world remains without stringent carbon intensity standards. But the program is now inspiring followers (pdf) despite the cost. Canada, the European Union, Oregon, and others are now adopting low-carbon standards of their won. Nearly a dozen US states are considering them.

As global carbon standards tighten, carbon-intensive fuel sources will likely see their markets shrink first and prices fall below historical benchmarks. Then, it will be time for a new class of energy suppliers to supply low—and even negative—transportation fuels.

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October 21, 2020 9:39 pm

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