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Adding Fuel to the Fire: Will Plunging Oil Prices Hurt the Environment?

2131Oil prices are in free fall. On Monday, the price of a barrel of West Texas Intermediate (WTI) crude fell below $50 for the first time since 2009. This compares to a price of $105 per barrel just 6 months prior. Certainly, a drop of this magnitude could have considerable economic and geopolitical implications. But how will it impact the environment?

On one hand, analysts argue that the slide in oil prices could generate environmental benefits and opportunities. Foremost, the lower price of oil reduces the incentive of energy companies to drill for more. According to one shale pioneer, companies will “pull back and won’t drill until the price recovers”. This is particularly true for high cost oil fields with break-even points above $50 per barrel. Many such fields contain heavier oils, which require significantly more energy to extract/refine and create greenhouse gas footprints “nearly twice as large as lighter oils”. Thus, in the words of the National Resources Defense Council, “Low prices keep the dirty stuff in the ground”.

Secondly, the drop in oil prices and production will hurt the energy sector’s bottom line. While big oil can likely weather the storm, many junior oil companies will struggle to secure enough profit and financing to remain in business. In fact, some believe that OPEC is intentionally suppressing oil prices to “clean up the marginal market”. Already, the number of junior oil companies in Canada’s oil sands has fallen from 94 in 2007 to 43 (as of Q3 2014). This decline in oil companies could further reduce oil extraction.

Additionally, low oil prices will make it more “politically feasible to implement the carbon pricing reforms…necessary for significantly reducing emissions”. Consumers will “more readily accept” a carbon tax, for example, than when oil prices are already high. Hence, according to Virgin Airlines owner Richard Branson, “If governments want a carbon tax…[2015] would be the best time”. Former Treasury Secretary Lawrence Summers adds that “It would be a hugely important symbolic step ahead of the global climate summit in Paris late this year”.

But lower oil prices could also produce significant adverse environmental effects. The clearest effect is on oil consumption, which produces the greenhouse gases linked to climate change. Basic economics dictates that as the price of oil declines, there will be “more oil use now”. The same is true for oil products (e.g. gasoline) or complements (e.g. cars and flights).

Consider gasoline, for example. Cheaper oil translates into cheaper gasoline, as “crude oil accounts for about half of the price of gasoline at the pump”. In the short-term, this may lead to longer or more frequent vehicle use. Over the long-term, it may encourage consumers to purchase less fuel efficient vehicles or homes further from the city. Consequently, economists estimate that a 25% drop in gasoline prices could increase gasoline consumption by 2 – 5% immediately and 10 to 20% over the long-term.

With increased consumption of oil and oil products, the demand for alternative energy will also fall. This includes wind, geothermal, and solar energy (which was cheaper than oil before the drop). Likewise, “a sustained period of low oil prices will dampen investment in alternative technologies”, which appear “less urgent”. Governments could attempt to counter such effects through subsidies to producers or consumers. However, subsidies would need to increase as the price gap between oil and alternative power grows. For these reasons, some maintain that collapsing oil prices will “derail the green energy revolution”.

In sum, the net environmental impact of plummeting oil prices is “not immediately clear”. What is clear is that “Whether oil’s price tag is high or low, neither ensures climate protection”. So what, then, is the best long-term price of oil, from an environmental perspective According to experts at Harvard University, the ideal price range could be between $60 and $80. At $75 a barrel, for example, the price is “high enough to keep investments flowing into alternatives, while giving energy companies less reason to pursue expensive and risky oil fields that also pose the greatest threat to the environment”.

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Flickr photo credit: taylorandayumi