Photo: Gerd Altman. Source: Pixabay
For millennia, people have burned things when they wanted or needed energy. Campfires and fireplaces give us heat; ovens and stoves cook our food; steam power, piston engines, and turbines help us get from place to place. Except for nuclear energy, most of our power comes from converting carbon into CO2.
But theories of climate change and global warming threaten to revise this. If increasing concentrations of CO2 in the atmosphere really are altering the weather, then every time we burn carbon for energy we’re taking a small step down a very long road. Carbon dioxide would create a cost—an externality—that needs to be incorporated into the price of energy.
This has happened before. A century ago, when Londoners used coal to heat their homes, a massive cloud of smoke and fog—smog—hung over that city. Fifty years ago Los Angeles struggled with ozone and nitrous oxide that came from people using cars for their daily commute. Sometimes we’ve regulated the externality, and sometimes we’ve grown out of it. But we’ve always adjusted—although sometimes it takes a little time to get it right.
For decades, energy companies have been researching the environmental effects of climate change. Part of the reason that the Saudis and Iranians and other OPEC nations are pumping oil as fast as they have—depressing nominal prices—is climate change and potential carbon taxes would depress the value of their reserves. At the end of 2015 one company—Exxon-Mobil—had 8.1 billion barrels of proven oil reserves, worth about $380 billion at current prices. Incidentally Exxon’s market cap is about $350 billion.
The way to address an externality is to factor its cost into the price of the commodity, often through a tax or fee. That makes alternatives more competitive. In classical mythology, the Wheel of Fire was a punishment meted out for a particularly egregious offense. If alternatives to carbon-based energy—like nuclear power, or wind, or electric cars—become much cheaper, we won’t be stuck on that wheel for very long.
Douglas R. Tengdin, CFA
Chief Investment Officer