The world's new energy economy

Two recent developments in the global energy dialogue require us to re-examine some old verities about the strategic dimensions of energy policy. The first is the International Energy Agency's (IEA's) 2012 World Energy Outlook report, which requires a serious reconsideration of the geopolitics of the world oil economy. The second is the disappointing outcome at the recent climate change conference in Doha, which heightens the risks of catastrophic climate change and requires a geopolitical response from countries like India that will be severely affected.

The key projection in the IEA report is about where additional oil will come from over the next few decades. Saudi Arabia and Russia, the two largest producers of crude oil, pump out about 10 million barrels a day (mbd) each, and are the dominant suppliers - they are capable of adjusting production up or down. By the 2020s their combined output was expected to go up by around 6 mbd. But now the current IEA projection suggests that it will remain more or less at the present level.

How, then, will rising demands be met? A big part of the answer lies in a dramatic transformation of the North American energy economy from growing import dependence to near self-sufficiency. America's crude oil production is expected to rise by an additional 3.5 mbd or so by the mid-2020s. In fact it will displace Saudi Arabia and Russia as the world's largest oil producer. Its dependence on West Asian oil will be greatly reduced; and supply increases and higher fuel efficiency standards mean that by 2030 North America will become a net exporter. This would be a massive switch-around in the world oil trade, since at present the US and Canada together are a net importer of about 7 mbd. The scale at which shale gas exploitation is now contemplated in the US and Canada could reduce both coal and crude oil demand and bring about further reductions in import dependence.

The other big story in the IEA report is its projection of Iraqi oil production more than doubling, to over 8 mbd, by 2035. This, according to the report, would place Iraq in the big league of potential game-changers. In fact, the contracts already in the works imply an even bigger increase and an even shorter time frame. These IEA projections imply that 45 per cent of the increase in global crude oil output will come from this one country, and it will emerge as the second largest crude oil exporter in the world, displacing Russia. The big potential is in a giant field near Basra, which is in Shia-dominated southern Iraq. The other big source is in northern Iraq where the Kurdistan Regional Government is in de facto control. Therefore, a lot depends on the continued viability of the fragile federation that has been put in place after the overthrow of Saddam Hussein.

These two developments will alter the geostrategic landscape in West Asia. The US will continue to police the region - even though its dependence on its oil will come down - because of its huge oil investments and its commitment to Israel. Yet one has to accept that their willingness to bear the human and financial cost will be affected, and they may well expect countries like India, whose dependence on West Asian oil will go up, to share these costs. The other big change is in the relative power of the three big players, Saudi Arabia, Iran and Iraq, with Iraq being the big gainer. Whether Iraq exercises this power through its federal government in Baghdad or through regional authorities is a moot question. It is clear that India has to rethink its priorities in West Asia, focusing as much attention on building relationships in Iraq as in Iran or Saudi Arabia. It may also have to accept a larger role in the protection of sea lanes for ensuring the flow of oil.

The IEA projections bode ill for the risks of climate change. The postponement of any serious action on reducing emissions, which is what the Doha outcome has done, reinforces these concerns. As of now we are not on track for attaining the Copenhagen goal of limiting the increase in average global temperature to two degrees Celsius, and a temperature change of 3.5 degrees Celsius or more looks unavoidable on present trends. This is particularly alarming, given that the increase of 0.8 degrees Celsius that we have already experienced is leading to consequences like the more rapid and widespread summer melting of Arctic ice. There are also some reasons for believing that the intensity of adverse weather events has increased already because of this temperature increase.

In the US shale gas has already led to a decline in investor interest in renewables. The de facto postponement of emission commitments at Doha will reduce the policy pressure to expedite the introduction of renewables and nuclear energy and invest in related research. Fossil fuels, which today attract subsidies worth $523 billion, six times more than for renewables, will continue to dominate the fuel mix - particularly in India and China, which will account for a very large part of global energy and emission growth.

An alternative, more sensible future is possible. The IEA report outlines an Efficient World Scenario, which rests mainly on removing the barriers to energy efficiency investment rather than on technological breakthroughs. Compared to its central projection, in this scenario the growth in global primary energy demand to 2035 would be halved; oil demand would peak just before 2020 and would be almost 13 mbd lower by 2035; the economic gains from energy efficiency would boost cumulative economic output to 2035 by $18 trillion; universal access to modern energy would be easier; local air quality would improve; and energy-related carbon dioxide emissions would peak before 2020, with a decline thereafter consistent with a long-term temperature increase of three degrees Celsius. A stalemate on climate is not in India's interest, and so the country must act to unlock the global negotiations. Nor should it relax when it comes to pursuing its own low carbon growth options, as promised in the 12th Five- Year Plan, since the domestic gains from such low carbon strategies are enough to justify the effort.

The world energy economy is in a state of flux. India needs to move beyond old assumptions and respond with flexibility.