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A Democratic Senate provides a surge for Biden’s energy agenda

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Energy might seem a lesser priority to US readers amid the chaos in Washington over the past 24 hours, as protesters sent the Capitol into lockdown.

But in spite of that, two big events in the past few days told us a lot about the direction of American energy and climate policy in 2021 — and they dominate our first newsletter of the new year.

First was the Senate run-off elections in Georgia, which delivered Democratic control of the upper chamber. What does this mean for Joe Biden’s energy plan? Read on.

Our second main note is on Alaska, where a controversial licensing round for drilling in protected wilderness ended up as a farce. We weigh in on what this says about American energy and its future.

Welcome back to Energy Source. Happy New Year to all our readers!

Please get in touch at energy.source@ft.com. You can sign up for the newsletter here. — Myles

What the Georgia results mean for energy

Amid yesterday’s chaos on Capitol Hill, Democrat Jon Ossoff’s victory was called in Georgia’s run-off election, making it a sweep for the Democrats in the state and securing the party’s control of Congress in a major boost to President-elect Joe Biden’s plans for a clean energy revolution.

The win opens new avenues to pass green spending and shape legislation, but a 50-50 Senate — with Vice-president-elect Kamala Harris tilting the advantage to the Democrats — and a bitterly partisan Capitol Hill means Mr Biden’s $2tn climate ambitions will still likely have to be tempered.

Nevertheless, far more green spending can now be expected with Democrats controlling the floors of the Senate and House than if Republicans had managed to retain a majority in the Senate.

Mr Biden has said that he saw December’s $900bn omnibus stimulus bill as a “down payment” on the recovery and wants more spending in his first days of office to propel the economy out of the Covid crisis. The Democrats’ pair of victories in Georgia makes bigger sums far more likely.

Kevin Book, head of research at Clearview Energy Partners in Washington DC, expects a fresh stimulus package to be in the “triple digit billions”, rather than “double digit billions” had Republicans held on to the Senate.

Like December’s omnibus bill, that could funnel significant additional spending to renewables, clean tech research and development, energy storage, electric vehicles as well as other aspects of Biden’s green agenda.

At the same time, Mr Book says that garnering the 60 votes needed to pass such legislation means incentives for carbon capture and storage, which appeal to red state senators, will also likely be included.

Analysts at Capital Alpha Partners also point to the Democrats’ ability to use so-called “budget reconciliation” rules as a critical avenue for new green spending. The rules allow for passage of spending with a simple majority, as long as it is offset by new revenue such as tax hikes.

Capital Alpha argues a prospective infrastructure bill, a longtime Democratic priority, could give the party an opportunity to “bundle in as much of their clean energy agenda as possible” using budget reconciliation rules to fend off any Republican veto threat.

Manchin in the middle

The narrowly divided Senate will give Senator Joe Manchin, a Democrat from West Virginia who is set to take over the Committee on Energy and Natural Resources, and a small group of centrist lawmakers, outsized influence to shape legislation.

While this group will probably support some increased spending on renewables and clean energy, they will hem in Mr Biden’s green ambitions, especially where they directly attack the fossil fuel sector, such as rolling back oil and gas tax benefits, or when they feel exposed to attacks of supporting the Green New Deal, argues Mr Book.

With a 50-50 split, Democrats will also find it difficult to overcome the 60 vote threshold needed to pass landmark climate legislation in Mr Biden’s first term, such as implementing a national carbon tax or a national clean energy standard, which could enshrine Mr Biden’s ambitions for a carbon-free electricity system by 2035.

The Democratic wins in Georgia put the spotlight on Congress, but much of the action on energy and climate will still come through Mr Biden’s ability to wield presidential power in the regulatory and foreign policy arenas.

Mr Biden has put together an executive branch, including domestic and international climate tsars, that has won plaudits from progressives and points to an ambitious agenda from the White House.

The incoming Biden team has “built an apparatus for an executive led climate policy,” says Mr Book, and will see the Senate majority as “nice to have”. (Justin Jacobs)

Arctic drilling auction fails to drum up interest

We have been arguing in this newsletter for months that despite the Trump administration’s efforts to open the Arctic National Wildlife Reserve to drilling, companies would not be rushing to take part.

And sure enough, yesterday’s sale of leases in the region came up dry. Just three groups — one of which was an Alaskan state agency — put in bids, raising a grand total of $14.4m. (That is a far cry from the $2.2bn the administration expected to generate from this and a later sale).

So what went wrong? And what does the whole farce say about the state of US oil exploration?

The embarrassing lack of bids is the result of a “perfect storm” of events that put off prospective bidders, Carl Tobias, a law professor at the University of Richmond, told ES.

  1. Unnecessary risk: First there is a lack of appetite among producers — even before they slashed capital expenditure in the wake of last year’s crash — for high risk, high reward exploration projects in far flung places. The shale revolution has already provided companies with plenty of access to oil.

  2. Biden: Then, there is the imminent arrival of Joe Biden, who has voiced explicit opposition to the project (and the oil industry more broadly). The president-elect said 15 years ago that “preserving what’s special about Alaska’s wilderness” was one of his top priorities. Analysts reckon he will work hard to delay drilling projects and could drive up costs to the point that they are totally unviable.

  3. A bad look: There is the public relations minefield that Arctic drilling has become — especially in an era where investors are demanding that oil companies burnish their environmental credentials. As Prof Tobias put it:

    “Some entities, like BP, have signalled that they will end dependence on oil, others may have realised that drilling in ANWR will be too expensive and complicated, given Biden’s views and considerable strong public opposition, and perhaps the threat of much litigation challenging the leases.”

  4. Peak Oil: Constantly looming over the industry is the notion that demand for crude may soon begin to slide. There is no use pumping money into long-term projects — and Alaskan exploration is expensive — that the market may not need.

“These ideas alone, but especially together, seem like a perfect storm for companies that might have entertained the idea of bidding,” said Prof Tobias.

The lacklustre auction stands in contrast to the days of $100 oil when companies beat a path to the Arctic. The heydays of frontier oil projects have passed. (Myles McCormick)

Data Drill

Line chart of Net imports, million barrels a day* showing US ends 2020 a net oil exporter

It was a rough year for proponents of “American energy dominance”, but they had cause for optimism as 2020 drew to a close.

After spending decades becoming a net exporter of energy — a status it achieved in 2019 — imports outweighed exports for much of last year as the crash sent the industry into a tailspin.

But for now at least, the country has regained its net exporter mantle. It shipped out an average 1.6m barrels more than it brought in the final four weeks of 2020.

Power Points

  • Opec’s extended meeting this week ended with Saudi Arabia pledging to slash an extra 1m barrels a day of oil output in the coming months, even as Russia moves to increase production.

  • Defaults by US oil and gas producers are set to outstrip all other sectors again in 2021.

  • Mexico’s state oil company Pemex is running out of quick fixes to cover debt payments.

  • Trafigura has announced its first emissions reduction target as pressure to take action on climate change spreads to the commodity trading industry.

Endnote

After a bruising 2020, America’s shale producers were hoping for a little luck going into the new year. Saudi Arabia delivered at this week’s Opec+ meeting with a surprise 1m barrel a day supply cut, billed by the Saudi energy minister as a “gift” to the world’s crude producers.

The move sent US oil prices above $50 a barrel for the first time since last February and has many analysts arguing it could be a catalyst to keep prices creeping higher.

It won’t fix much of what ails the US oil sector. Investors still want to see a strategic shift that can deliver returns and deal with environmental, social and governance pressures. The incoming Biden administration will heap new regulations on oil and gas producers. And the Covid-19 crisis is far from over.

Yet a few dollars goes a long way in the shale patch, especially with prices teetering around the break-even point.

“Even a fleeting window of $50-55 a barrel WTI prices could be enough to jump start the battered sector’s recovery,” says IHS Markit analyst Karim Fawaz.

“Saudi Arabia’s unilateral output cut has been described as a gift to the oil industry,” Paul Horsnell from Standard Chartered wrote in a research note. “We think that the gift will be particularly gratefully received in Texas.” (Justin Jacobs)

Energy Source is a twice-weekly energy newsletter from the Financial Times. Its editors are Derek Brower and Myles McCormick, with contributions from Justin Jacobs in Houston, Gregory Meyer in New York, and David Sheppard, Anjli Raval, Leslie Hook and Nathalie Thomas in London.



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Powell inflation remarks send Asian stocks lower

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Asian stocks were mostly lower after a rout in US Treasuries spread to the region after comments from Jay Powell that failed to stem inflation concerns in the US.

Hong Kong’s Hang Seng dropped 0.3 per cent following the remarks by the chairman of the US Federal Reserve while Japan’s Topix rose 0.1 per cent and the S&P/ASX 200 fell 0.8 per cent in Australia.

China’s CSI 300 index of Shanghai- and Shenzhen-listed stocks dropped as much as 2 per cent before pulling back to be down 0.5 per cent by the end of the morning session, after Beijing set a target of “above 6 per cent” for economic growth in 2021.

Premier Li Keqiang hailed China’s recovery from an “extraordinary” year and said the government wanted to create at least 11m urban jobs at a meeting of the National People’s Congress, the annual meeting of the country’s rubber-stamp parliament.

“A target of over 6 per cent will enable all of us to devote full energy to promoting reform, innovation and high-quality development,” Li said, adding that Beijing would “sustain healthy economic growth” as it kicked off the new five-year plan.

Analysts were less sanguine on China’s economic outlook, however, pointing to the markedly lower growth target relative to recent years.

“There is, in fact, not much surprise from the government work report except for the super-low GDP target,” said Iris Pang, chief economist for Greater China at ING, who estimated growth would be 7 per cent this year. “This makes me feel uneasy as I don’t know what exactly the government wants to tell us about the recovery path it expects.”

The mixed performance from Asia-Pacific stocks came after Powell failed to alleviate fears that the US central bank was reacting too slowly to rising inflation expectations and longer-term Treasury yields, which rise as bond prices fall.

Powell on Thursday said he expected the Fed would be “patient” in withdrawing support for the US economic recovery as unemployment remained well above targeted levels. But he added that it would take greater disorder in markets and tighter financial conditions generally to prompt further intervention by the central bank.

“As it relates to the bond market, I’d be concerned by disorderly conditions in markets or by a persistent tightening in financial conditions broadly that threatens the achievement of our goals,” Powell said.

Yields on 10-year US Treasuries jumped 0.07 percentage points to 1.55 per cent following Powell’s remarks. In Asian trading on Friday, they climbed another 0.02 percentage points to 1.57 per cent. The yield on the 10-year Australian treasury rose 0.07 percentage points to 1.83 per cent

“Based on our growth forecast, longer-term rates will likely rise for the next few quarters — but more slowly,” said Eric Winograd, a senior economist at AllianceBernstein. “And we think the Fed is prepared to push in the other direction if rates rise too far, too fast.”

The S&P 500, which closed Thursday’s session down 1.3 per cent, was tipped by futures markets to fall another 0.1 per cent when trading begins on Wall Street. The FTSE 100 was set to fall 0.8 per cent.



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Financial bubbles also lead to golden ages of productive growth

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Sir Alastair Morton had a volcanic temper. I know this because a story I wrote in the early 1990s questioning whether Eurotunnel’s shares were worth anything triggered an eruption from the company’s then boss. Calls were made, voices raised, resignations demanded. 

Thankfully, I kept my job. Eurotunnel’s equity was also soon crushed under a mountain of debt. Nevertheless, the company was refinanced and the project completed. I raised a glass to Morton’s ferocious determination on a Eurostar train to Paris a decade later.

With hindsight, Eurotunnel was a classic example of a productive bubble in miniature. Amid great euphoria about the wonders of sub-Channel travel, capital was sucked into financing a great enterprise of unknown worth.

Sadly, Eurotunnel’s earliest backers were not among its financial beneficiaries. But the infrastructure was built and, pandemics aside, it provides a wonderful service and makes a return. It was a lesson on how markets habitually guess the right direction of travel, even if they misjudge the speed and scale of value creation.

That is worth thinking about as we worry whether our overinflated markets are about to burst. Will something productive emerge from this bubble? Or will it just be a question of apportioning losses? “All productive bubbles generate a lot of waste. The question is what they leave behind,” says Bill Janeway, the veteran investor.

Fuelled by cheap money and fevered imaginations, funds have been pouring into exotic investments typical of a late-stage bull market. Many commentators have drawn comparisons between the tech bubble of 2000 and the environmental, social and governance frenzy of today. Some $347bn flowed into ESG investment funds last year and a record $490bn of ESG bonds were issued. 

Last month, Nicolai Tangen, the head of Norway’s $1.3tn sovereign wealth fund, said that investors had been right to back tech companies in the late 1990s — even if valuations went too high — just as they were right to back ESG stocks today. “What is happening in the green shift is extremely important and real,” Tangen said. “But to what extent stock prices reflect it correctly is another question.”

If the past is any guide to the future, we can hope that this proves to be a productive bubble, whatever short-term financial carnage may ensue.

In her book Technological Revolutions and Financial Capital, the economist Carlota Perez argues that financial excesses and productivity explosions are “interrelated and interdependent”. In fact, past market bubbles were often the mechanisms by which unproven technologies were funded and diffused — even if “brilliant successes and innovations” shared the stage with “great manias and outrageous swindles”.

In Perez’s reckoning, this cycle has occurred five times in the past 250 years: during the Industrial Revolution beginning in the 1770s, the steam and railway revolution in the 1820s, the electricity revolution in the 1870s, the oil, car and mass production revolution in the 1900s and the information technology revolution in the 1970s. 

Each of these revolutions was accompanied by bursts of wild financial speculation and followed by a golden age of productivity increases: the Victorian boom in Britain, the Roaring Twenties in the US, les trente glorieuses in postwar France, for example.

When I spoke with Perez, she guessed we were about halfway through our latest technological revolution, moving from a phase of narrow installation of new technologies such as artificial intelligence, electric vehicles, 3D printing and vertical farms to one of mass deployment.

Whether we will subsequently enter a golden age of productivity, however, will depend on creating new institutions to manage this technological transformation and green transition, and pursuing the right economic policies.

To achieve “smart, green, fair and global” economic growth, Perez argues the top priority should be to transform our taxation system, cutting the burden on labour and long-term investment returns, and further shifting it on to materials, transport and dirty energy.

“We need economic growth but we need to change the nature of economic growth,” she says. “We have to radically change relative cost structures to make it more expensive to do the wrong thing and cheaper to do the right thing.”

Albeit with excessive enthusiasm, financial markets have bet on a greener future and begun funding the technologies needed to bring it to life. But, just as in previous technological revolutions, politicians must now play their part in shaping a productive result.

john.thornhill@ft.com



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US tech stocks fall as government bond sell-off resumes

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A sell-off in US government bonds intensified on Wednesday, sending technology stocks sharply lower for a second straight day.

The yield on the 10-year US Treasury bond, which acts as a benchmark for global borrowing costs, climbed to nearly 1.5 per cent at one point. It later settled around 1.47 per cent, up nearly 0.08 percentage points on the day.

Treasury trading has been particularly volatile for a week now — 10-year yields briefly eclipsed 1.6 per cent last Thursday — but the rise in yields has been picking up pace since the start of the year and the moves have begun weighing heavily on US stocks.

This has been especially true for high-growth technology companies whose valuations have been underpinned by low rates. The tech-focused Nasdaq Composite index was down 2.7 per cent on Wednesday, on top of a 1.7 per cent drop the day before.

The broader S&P 500 fell by 1.3 per cent.

The US Senate has begun considering President Joe Biden’s $1.9tn stimulus package, with analysts predicting that the enormous amount of fiscal spending will boost not only economic growth but also consumer prices. The five-year break-even rate — a measure of investors’ medium-term inflation expectations — hit 2.5 per cent on Wednesday for the first time since 2008.

Inflation makes bonds less attractive by eroding the value of their income payments.

“I would expect US Treasuries to continue selling off,” said Didier Borowski, head of global views at fund manager Amundi. “There is clearly a big stimulus package coming and I expect a further US infrastructure plan to pass Congress by the end of the year.”

Mark Holman, chief executive of TwentyFour Asset Management, said he could see 10-year yields eventually trading around 1.75 per cent as the economic recovery gains traction later this year.

“It will be a very strong second half,” he said.

Line chart of Five-year break-even rate (%) showing US medium-term inflation expectations hit 13-year high

Elsewhere, the yield on 10-year UK gilts rose more than 0.09 percentage points to 0.78 per cent, propelled by expectations of a rise in government borrowing and spending following the UK Budget.

Sovereign bonds also sold off across the eurozone, with the yield on Germany’s equivalent benchmark note rising more than 0.06 percentage points to minus 0.29 per cent. This was an example of “contagion” that was not justified “by the economic fundamentals of the eurozone”, Borowski said, where the rollout of coronavirus vaccines in the eurozone has been slower than in the US and UK.

The tumult in global government bond markets partly reflects bets by some traders that the US Federal Reserve will be pushed into tightening monetary policy sooner than expected, influencing the costs of doing business for companies worldwide, although the world’s most powerful central bank has been vocal that it has no immediate plans to do so.

Lael Brainard, a Fed governor, said on Tuesday evening that the ructions in US government bond markets had “caught my eye”. In comments reported by Bloomberg she said it would take “some time” for the central bank to wind down the $120bn-plus of monthly asset purchases it has carried out since last March.

After a series of record highs for global equities as recently as last month, stocks were “priced for perfection” and “very sensitive” to interest rate expectations that determine how investors value companies’ future cash flows, said Tancredi Cordero, chief executive of investment strategy boutique Kuros Associates.

Europe’s Stoxx 600 equity index closed down 0.1 per cent, after early gains evaporated. The UK’s FTSE 100 rose 0.9 per cent, boosted by economic support measures in the Budget speech.

The mid-cap FTSE 250 index, which is more skewed towards the UK economy than the internationally focused FTSE 100, ended the session 1.2 per cent higher.

Brent crude oil prices gained 2 per cent at $64.04 a barrel.



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