Energy Transition

Tsunamis of innovation are shaking the energy industry

The Svartsengi geothermal power plant is seen on the Reykjanes peninsula near Reykjavik, March 23, 2015. Picture taken March 23. To match Insight ICELAND-ECONOMY/     REUTERS/Sigtryggur Johannsson

Natural gas is becoming significantly more competitive due to innovation. Image: REUTERS/Sigtryggur Johannsson

David G. Victor
Professor, University of California, San Diego (UCSD), Nonresident Senior Fellow, Brookings Institution
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Tsunamis of innovation, anxiety, and opportunity are now washing over the world’s energy system. New technologies have transformed the global markets for oil and gas. The United States is on track to become the world’s largest oil producer within a decade, as my Brookings colleague Samantha Gross has analyzed. Meanwhile, countries from Russia to Saudi Arabia—that used to have the problem of finding ways to spend huge amounts of cash earned from oil exports—are now learning to be a lot more frugal. Innovation is making some fuels, like natural gas, significantly more competitive while crushing coal in some markets. Even more profound changes are now appearing in the electric power industry, where traditional firms that operate large power grids see threats from new upstarts that are siphoning away customers and creating totally new types of local power grids.

A new paper from the World Economic Forum takes a fresh look at what’s happening across the energy industry. It makes the case that all these massive changes aren’t just unfolding in parallel. They have common roots in the application of digital and control technologies and advanced materials. While the particular detailed story in each segment of the energy industry is different, the core parable of advanced technologies and new business models is common. As Kassia Yanosek and I argued in Foreign Affairs last summer, the information technology (IT) revolution is playing out with its most profound effects in the most unlikeliest of industries—the traditional business of oil and gas and electricity. And what we are now observing is probably just the beginning—the first shock waves as even bigger tsunamis force disruption and change.

What is blockchain? Image: Reuters

The World Economic Forum essay is the product of a large team of industry experts working over two years to take the pulse of where the energy business is headed. The core message is unpredictability. For decades, it was pretty easy to predict what would happen in energy because energy systems have huge inertia. The future would be more like the past, with small cumulative changes at the margin. Today, that is a lot harder to predict because almost every aspect of the energy system is changing simultaneously, and, when complex systems change in complex ways, predictability goes down. Moreover, some of these changes—like the rise of shale gas and oil in the United States—are happening much faster than historical rates.

As innovation becomes more deeply rooted in IT and digitalization, it is plausible that change will happen faster still. But what’s most striking is how little we know about the ways that IT will affect energy supply and demand. In some areas, like oil field drilling and maintenance, the impact of big data management and sensors can already be seen in the field, and the ways those technologies will keep cutting costs is relatively easy to fathom. In others, new technologies seem ripe to cause transformation but nobody really knows how—for example, distributed ledger transactions often called “blockchain.” At the big energy gathering in Houston last week, CERAWeek, there were nine sessions on blockchain. Last year there were zero. Blockchain is everywhere on the agenda for transformation, and so, too, is increasing attention on the energy consumption needs of virtual currencies like bitcoin, which are based on the underlying blockchain technology.

As predictability has gone down, governments and firms need to find ways to be more nimble. They need organizational forms that are flexible and flat. They need policies and business practices that can be adjusted quickly in light of new information. While the watchword is uncertainty, a few things are coming into focus. One is that fossil fuel resources are abundant, and the main effect of technological change has been to make them even more abundant and cheap. That means that governments traditionally reliant upon export revenues will need to reform—a process, often politically painful, that is underway from Russia to Saudi Arabia to Alaska. Increasingly, the rate at which these suppliers reform might have big impacts on the supply and price of oil—price formation may become less a physical economic phenomenon and more the result of political economy.

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Another area of growing certainty is the need to decarbonize energy systems. For years it was thought that a more digital and nimble energy system was one that probably would also make decarbonization easier. That’s true, to some extent, because these systems are more efficient, and also better able to integrate renewables like solar and wind into power grids. But it is clear, already, that tsunamic innovation won’t fix the carbon problem automatically. Extra policies—like carbon taxes—are needed, and, on that front, the world is still making slow progress.

In all this change lies many opportunities. But all the uncertainty, perversely, makes it much harder for firms to invest in opportunity. The energy business, at its core, is one anchored in long-lived infrastructures for which investment is always easier when changes are few and risks are low. It is exciting to see all the change afoot, but with that excitement comes the most important new priority for energy: the need to find new businesses and policies that will unleash massive capital behind the new technologies.

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