Oil Strategy

New Zealand has now adopted a strategy around oil exploration. This is a good thing, a positive first step in utilising natural resources for wealth growth. However, there is more to the value proposition from oil than just exploration and the export of crude oil. Rich countries make most money out of value adding and leveraging not just the raw commodity but industry around that resource.

While a strategy around exploration and extraction is a good start, the strategy needs to continue to the refinement of the raw resources in to high tech products. Oil is certainly a valuable commodity. Countries that produce oil still tend to be near the upper half of the GDP per capita rankings but, if history can be relied on to repeat, previously valuable commodities fall down the relative value stakes as they become more and more commoditised.

A strategic goal of exporting, in the order of, $60 billion of oil over the 15 or so years is a big economic boost to new Zealand. However, this is nothing like the increase that could be created by moving steadily into refined petroleum products, petrochemicals, plastics & material manufacturing and high-tech products.

Now, this is not easy, but it is a truism that nothing worth having ever is. It is also easy to believe that little New Zealand can't compete in the high tech space. This is possibly true but not trying is tantamount to saying that we wish to, effectively, drop out of the OECD; certainly in terms of GDP (and income) per capita.

New Zealand seems to be able to perform at least 'at its weight' in terms of technical capability. With our historical association with agriculture we seem to hold our own in high tech food processing. We also seem to do quite well in terms of machinery manufacturing, especially when we don't have a wealth of mineral resources to leverage off (compared to Australia, for example). Not having the natural commodities doesn't have to mean that you can't develop technical dominance (a la Japan) but, generally, having the resource creates the opportunity to leverage technical expertise around that resource.

We actually already have creative businesses in the high tech space; they're just quite small at the moment. If New Zealand can now expand its oil and gas strategy to derive technically excellent products from it (which will also have energy policy implications) and connect with an already innovative, but small, local entrepreneurial base then maybe we will see some impressive gains in productivity. This would also provide a far more positive incentive to not spend money on property, although playing around with taxes is probably easier than a transformational strategy.

The sawtooth of energy development: scarce resources vs technology

There are two very significant influences on the cost of energy. The first is the scarcity of resources and the second is technology. Actually these two influences affect many industries but they are particularly prevalent in energy.

Energy has always been one of civilisation's key inputs, technically being part of resources in the trinity of manufacturing (resources, labour and capital). Prior to civilisation there was also energy requirements but in those days energy was part of labour - manpower was it.

The advances of technology allowed man to use energy resources rather than doing it all himself, which meant doing more faster. In the earliest days moving energy was still organic, first oxen, mules and ponies and then eventually horsepower; but man soon learned how to harness the power of wind and water. Heat and light for a very long time had to come from burning stuff.

In the early days burning stuff was easy. There was plenty of organic material that burned well and it was all very handy. However, human populations didn't have to get very big before the readily available material started to be harder to find. In real terms this meant more time had to be spent find energy resources, which meant it cost increasingly more. This is one of the main influences of the scarcity resources. The more you need the harder it is to find and the more expensive it gets.

But scarcity of resources also affects technology. When wood becomes too expensive and everyone wants it then people will start to do two things:

1. Try and work out how to get more heat from the same wood, and
2. Try and work out what else can be burned.

The first thing helps reduce the cost of energy by making it more efficient. The second can make energy more expensive but far more available. For example, all other things being equal it is harder (and therefore more expensive) to mine coal than chop trees but you can get a lot more energy from coal (especially if you use your new energy efficiency techniques). In fact, while new energy efficiency techniques and sources of energy tend to reduce the per unit cost of energy they tend to increase the total energy bill. Rather than reduce energy consumption people usually find that they can do far more and so they do. Then the new fuel sources start becoming scarce (locally) and people have to explore for it further afield.

This sawtooth function is the way in which energy helps economies grow. At first energy is cheap and relatively plentiful and people make stuff for all they're worth. Then the energy starts to run out locally and they have to search and get energy from further and further away. As the energy gets more and more expensive then technology takes off and someone works out how to make the existing energy go futher. Rather than use less, though, as it's effectively cheaper, people use more. Then someone works out how to use another energy source that has high power and people flock to the easy sources of that fuel. Again the extra power from the technically advanced new fuel spurs greater consumption and then more expensive sources have to be found.

The energy leverage is not used to reduce costs it is used to increase benefit. More often than not when a household invests in a technically efficient energy device (such as air conditioning) their energy bill does not go down. Previously they spent what they were willing to on energy and put up with being a bit chillier or warmer than they would like. With the new technology the tend to be prepared to spend the same amount of money but be far more comfortable.

A similar thing occurs when one looks at household energy consumption. It's been pretty much the same for the last 20 years despite the efficiency of household appliances having increased significantly. Where 20 years ago people used a large amount of energy to be warm and have light and a few hours of television now people use a large amount of energy to be warmer, have more light, watch more television, use computers, bread makers, dishwashers, can openers, mixers, electric toothbrushes, games consoles, all kinds of musical devices, etc, etc. Rather than use technology to reduce energy consumption we get more from it; but there is increasingly more people and so energy demand goes up steadily draining the easy to get resources.

Technology has reduced the cost of energy in a relative sense, that is to say that energy would now be crippling expensive without it, but energy doesn't get cheaper because rather than slowly consume the easy to get resources we use the technology gains to do more and more.

This is the reality of any physical resource (which energy fundamentally is even if you can't see it). Technology keeps it accessible but the more you use the more you pay. The cost of energy will continue to increase, but it will do more and more for us all the time.