Global Energy: The New Equation

By David J. O'Reilly, Chairman and CEO
ChevronTexaco Corporation

CEO Leadership Series

Washington, DC, June 23, 2004

I'm honored to be the first energy company CEO to take part in your Leadership Series. The timing of your invitation is excellent, especially in one respect.

With the price of crude near $40 a barrel for much of this year, and energy concerns in the headlines every day, I guess I don't have to work too hard to be topical!

There's no denying it, and no avoiding it: Energy is a critical issue. It's a Page One story. It's a presidential campaign issue. And it's a growing concern for U.S. consumers.

Clearly, the energy issues that we are dealing with as a country are very real. And very challenging. How we manage them will play a role in national security, the economic health of our nation, and the overall quality of our lives.

When I use the word "we," I do not use it lightly. Energy is essential to economic health and the quality of life everywhere in the world. It is, quite literally, the lifeblood of our economies.

The Industrial Revolution of the 19th Century, the Technology Revolution of the 20th Century, the Biotech Revolution of the 21st Century, none would have happened – or will happen – without abundant, reliable energy.

And as globalization continues to dissolve borders, we are becoming more and more energy interdependent. We need to accept this fact and get our policy objectives and actions aligned with it.

The US Chamber of Commerce, perhaps more than any other single group, will appreciate why it's time we take a new approach to energy issues – and do it now.

So I will offer you some specific ideas today – what I believe are very pragmatic ideas – about how we can work together to improve our country's energy outlook. What energy companies need to do. How government can help. And how the business community can become more active in shaping national policies on energy.

First, let me start with a few words about prices, which are on everyone's mind, from economists and fund managers to consumers at the pump.

Actually, by historical standards, today's energy prices are a bargain.

In 1929 – 75 years ago – the cost of a gallon of gasoline was $2.75, adjusted for inflation. In 1981, it was $2.79. From this perspective, today's average US price of about $2 a gallon doesn't look too bad.

But historical facts like these—though accurate—offer no real relief to Americans who are paying more to heat their homes, more to run their factories, and more to be mobile.

This may not be a short-term aberration. I believe energy prices are going to face continued pressure —reflecting fundamental changes in demand, supply, and geopolitics.

We are, in fact, witnessing a change in the basic energy equation.

To understand why, we have to understand the dynamics of supply and demand today.

Global energy demand will expand by about 40 percent over the next two decades, driven largely by population growth and rapid industrialization in the developing world.

Consider the fact that China's population grows by about 8 million people annually—the equivalent of adding a city roughly the size of New York to the map each year.

And consider the fact that as Chinese incomes rise, so does car ownership. Between 2002 and 2007, car registrations are expected to jump from 20 million to 50 million.

You begin to see why China's crude oil imports grew by 30 percent last year – and why its energy needs will more than double by 2020.

Here in the U.S., as the economy recovers, oil demand is expected to continue rising by nearly 2 percent annually.

But the real growth is in the demand for cleaner-burning natural gas. It's projected to increase by approximately 25 percent over the next 15 years.

With this kind of demand growth, increasing pressure is put on finding supplies and getting those supplies to market – where they're needed and when they're needed.

And today, the more energy America needs, the more we import. More than 60 percent of the crude oil and 15 percent of the natural gas that we use today are imported.

The strains on supply are not restricted to raw materials, however. The fact is: U.S. refineries are running at virtually full capacity, and we are importing about 8 percent of our refined product needs.

Americans have taken the Southwest Airlines slogan to heart: "You are free to move about the country," but investments have not been made in refining capacity in order to do that.

Nobody seems to want a refinery in their backyard. This obstacle, plus years of regulatory and environmental restrictions, partially explains why there has not been a single new refinery built in this country since the 1970s.

Making the situation worse is a proliferation in recent years of so-called boutique fuels. That is gasoline formulated to state and local specifications in an effort to meet clean air standards.

Like many good intentions, this has had some unintended consequences. We have effectively "balkanized" the supply chain. We now have something like 18 different gasoline standards in this country – making it difficult, if not impossible, to move supplies around in the event of temporary operating disruptions.

Another new complexity in the energy equation is this: It is becoming more challenging – and more expensive – to develop new production sources today. In many places, the easy discoveries are behind us.

Increasingly, future supplies are in deep water and remote areas. Developing these sources takes more investment, more innovative technology, more sophisticated risk management, and more partnerships.

Given this new paradigm, the time needed to bring significant new sources online, from discovery to production, averages 7 to 10 years.

Further, the fact is that a majority of current hydrocarbon resources are concentrated in turbulent regions of the world. While this has long been the case, what is different now is that the so-called "stable" sources of supply – those in the U.S., Canada and Western Europe – are for the most part mature resource basins. And, with mature resource basins, you get declining production.

In the news today, we hear about uncertainties in Iraq, instability in Venezuela, civil unrest in Nigeria, and terrorist acts in Saudi Arabia. Even if disruptions in these locations do not affect supply in any meaningful way over the long-term, they do create a psychological risk factor. And that can lead to short-term volatility in energy markets.

All of these trends have created a new energy equation – one that is significantly different than the past. And our approaches need to be different, too.

So, step one: Let's get real about energy. Let's have a factual, pragmatic discussion about our near- and medium-term energy needs.

The fact is that the world will need all the energy it can get over the next 20 years. So all energy sources will be important in meeting this growing demand. We do not have the luxury of favoring some sources over others.

We do not have the luxury of removing some "less-desirable" sources from the energy mix without generating risks that global growth will be impacted. Even those energy sources out of favor with some, like coal and nuclear, have a role in meeting future needs.

We need to continue investing in alternative energy sources, such as renewables. But even with strong growth, renewables are still expected to account for only a small slice of our total energy sources – less than 10 percent by 2020.

Hydrogen-based energy shows potential. We're proud that ChevronTexaco was selected by the Department of Energy to lead a five-year project showcasing practical applications of hydrogen technology.

We are willing to start now – and we must start now – to make hydrogen viable. But the fact is: hydrogen is years – probably decades away – from being a practical source of energy.

So as we look to ensure access to secure, reliable, and predictable sources for the next 20 years, we need to be realistic. We cannot be dismissive or naïve about the trends and the data, to the point where we choose not to act. We can't afford to be ideological, to the point where we think there won't be hard trade-offs. And we can't be distracted by hyperbole, to the point where we see solutions that cannot be achieved.

I'm reminded of something President Reagan reportedly said to Mikhail Gorbachev near the end of the Cold War. "Do you want to talk about idealism," Reagan asked Gorbachev, "or do you want to play ball?" I would suggest that now is the time to play ball.

That means we need to have a discussion about energy that is rooted in the pragmatic, middle ground – a discussion that is sensitive to political issues, but driven by economic realities.

In the U.S., for instance, that means allowing access. We can and should do more to encourage responsible development of energy resources here in the U.S., in areas like the outer continental shelf, Alaska, and the Rocky Mountain states.

It also means encouraging development in resource-rich areas around the globe, in promising places like West Africa, the former Soviet Union, and new production opportunities in the Middle East. Natural gas, which is clean-burning and relatively plentiful, needs to be commercialized sensibly but aggressively.

As you know, the challenge with natural gas supplies is the need to liquefy them for transportation. As it stands now, the U.S. has only four terminals capable of receiving Liquefied Natural Gas. Yet, most forecasts estimate that 10 to 14 new import terminals will be needed by 2015 to meet projected demand.

But for these new terminals to become a reality we need to do a better job of educating the public about the need for, and the merits of, LNG.

LNG has a long track record of being a safe and environmentally sound technology. Government and business need to work together to drive the discussion around LNG away from NIMBYism to a discussion about practical solutions.

Finally, a realistic discussion about energy supplies must tackle the issue of refinery capacity that I addressed earlier. I believe there are some simple, sensible steps we can take now to reduce the risk of supply disruptions.

Let's take a look at rationalizing state and local gasoline standards. This can help solve the problem of balkanization and allow gasoline supplies to be much more portable and the market more efficient – without sacrificing clean air standards. And we encourage the government to look at ways to streamline the permitting process so that projects that improve efficiency or capacity – without increasing emissions – can proceed.

These are all pragmatic steps we can take now to address the new energy equation. Another practical step is conservation. We need to do more to encourage – and bring to the mainstream – conservation. Certainly in the near-term, conservation is the easiest, cheapest and most reliable "new" energy source there is.

At ChevronTexaco, conservation starts at home. We are a very energy-intensive industry -- it takes energy to find, produce, manufacture and transport energy. We also know that our long-term interests are best served by keeping energy available and affordable. That's what allows economies to grow and prosper, and this prosperity is what spurs sustainable business growth. And that is why, over the past 12 years, we've reduced our companywide energy use by more than 20 percent.

We also own a business, Chevron Energy Solutions, which has grown to a $200 million enterprise. It helps customers save energy in their operations, including many federal facilities.

In fact, the Federal government is the single largest consumer of energy and represents a significant opportunity for energy efficiency. Private industry is working with the government to achieve conservation goals through the Energy Savings Performance Contracting Program. I urge Congress to reauthorize this innovative program as soon as possible.

I think we should be encouraged by the fact that the private sector is taking a leadership role to help conserve energy. The auto industry, for example, through more efficient internal combustion engines and new hybrid models, is clearly giving the American consumer more fuel-efficient choices.

The aircraft industry is advancing conservation through the development of new models such as Boeing's 7E7 series, which has increased fuel efficiency by 20 percent. The technology industry is also pioneering energy efficiency breakthroughs through new chip designs that regulate and reduce the use of electricity in consumer devices and appliances.

We have the capability and ingenuity to extend these types of innovative and common-sense solutions. And, you and I both know, in the long-run, it's smarter and cheaper for business to drive its own destiny than to be pushed there.

That brings me to my final point. Abundant, predictable energy supplies are a key strategic business issue for every sector of the American economy. And any discussion about the future of energy in this country needs to be shaped by the US business community.

We need to have a unified voice on this, and the business community needs to embrace energy as a strategic issue, not just an expense item. I want to compliment the Chamber, API and the other associations beginning this work through the Alliance for Energy and Economic Growth. It is critical that every business be part of effort going forward.

We need the auto industry, the airline industry, technology, even small businesses, to be active participants in this national discussion. Someone once said that the biggest challenge to communication is overcoming the illusion that it has occurred. We cannot afford that kind of illusion. Our voice needs to be unified and it needs to be heard.

We know how to do this. The business community has worked collectively, and successfully, for improved access to international markets, trade liberalization and other strategically important issues. Energy, too, is a critical and strategic issue. The business community can – and must – be a powerful force for change. If there is one issue to unite us, it should be energy.

Ensuring the continuity of plentiful, reliable, convenient supplies of energy should be on everyone's agenda. Doing so won't just help the energy industry. It will help your industry, whatever it may be. We're emerging from a period of cheap oil and even cheaper natural gas, a period in which American consumers and industry were the biggest beneficiaries in the world.

This model doesn't exist anymore. It's time to create a new one. And, the business community can be the catalyst in doing so – by voluntarily pursuing aggressive efficiency standards and forging partnerships with government, local communities, environmentalists, and research institutions to address US energy needs. The business community can force this issue to be addressed in a bipartisan, realistic, balanced fashion.

And so, I give each of you an action item—but one that must be accomplished collectively, with each other. We've heard many people say that good things can only be accomplished in a multilateral environment. That is no more true than with energy, and we need to get going.

I ask the business community to lead the strategic debate to ensure that America continues to have affordable and reliable supplies of energy.

I ask government officials to support access to new resources, to help manage the risk of international investments, and to rationalize regulations that prevent the safe, efficient development of energy supplies.

I ask local communities to embrace new ventures like LNG facilities, which can promote the economy, add new jobs and ultimately improve the quality of life for everyone.

I ask environmentalists to ensure we protect the earth we live on, but to recognize that environmental progress is more important than perfection.

Finally, I ask each of you to leave the room making a promise – a promise to act as if your future depended on it. Because, it surely does.

Updated: June 2004