19 May 2022
Factoring in market realities in a world less reliant on oil
Published online 17 November 2021
Organized cartels and oligopolies of oil producers may continue to exploit marginally profitable fields that produce a large carbon footprint even if demand drops.
In the aftermath of the recent COP26 meeting, it is even more clear that aggressive steps are needed to slow the pace of climate change. But a new study suggests that the effectiveness of policies designed to quash the demand for oil could be diluted if they do not account for market response to such measures.
In a 2018 study1 , Mohammad Masnadi of the University of Pittsburgh, and Adam Brandt of Stanford University assessed the ‘carbon intensity’—a measure of greenhouse gas emissions—associated with production at nearly every active oilfield in the world. They observed considerable heterogeneity, with some fields requiring far greater effort for extraction than others.
To some extent, an oilfield’s carbon intensity also reflects its profitability, but Masnadi notes that this alone may not inform a producer’s decision to exploit a particular site. “In a global market without a carbon price, crude oil production choices are influenced by the interaction of local production costs and the global price of oil—and not the carbon intensity,” he says. As such, it remained unclear whether market shocks that reduce oil demand will motivate producers to shut down less profitable marginal operations that inflect a higher carbon footprint in favour of more productive fields.
To address this question, Masnadi, Brandt and colleagues modelled2 the way in which oil producers would maximize their profits in the face of disruptions ranging from small downticks in demand to big shocks that might arise from emissions-reduction policies. In the former scenario, the marginal fields were generally the first to go offline. “Irrespective of the market structure, a small, 2.5% oil demand reduction would displace mostly heavy crudes with a 25–54% higher carbon intensity than the global average,” says Masnadi.
For larger shocks producing a 5% demand reduction, only markets composed of many small, independent oil producers would be affected. Systems dominated by oligopolies or cartels like OPEC showed a much smaller emissions reduction in this scenario, as these organizations have the economic resilience and capacity to coordinate their response to shocks in order to maintain production even at marginally profitable fields.
It will be important to develop a better understanding of the impact of the structure of the energy market on emissions control policy. Masnadi and colleagues note that the oligopoly and cartel models they examined most closely reflect current reality, which means that simple demand-reducing measures may not have the desired impact on carbon impact.
Andrea Gatto, development economist at Wenzhou-Kean University, China, notes that this study’s findings are consistent with prior energy economics research but also “add new findings and perspectives to the economics of oil production and the consequences of shifts in market demand,” and is enthusiastic about the work’s potential to stimulate further exploration of the links between energy market economics and emissions.
- Masnadi, M.S. et al. Global carbon intensity of crude oil production. Science 361, 851–853 (2018).
- Masnadi, M.S. et al. Carbon implications of marginal oils from market-derived demand shocks. Nature 599, 80–84 (2021).