Wednesday, January 18, 2017

Got A Favorite 2017 Energy Forecast? Technology Will Make It Obsolete

... The U.S. Energy Information Administration (EIA) ... just released its latest Annual Energy Outlook. The Outlook offers predictions about the future of energy prices, production and consumption in the United States.... EIA has found that its own predictions of crude oil and natural gas prices differ from realized prices by 30 to 35%. Their forecast errors for renewables are sometimes even larger.

The EIA is not alone in making bad predictions. Professional oil price forecasters and futures market participants make bets about future oil and gas prices that routinely turn out to be completely wrong.   But contrary to what you might think, these forecasting errors should not be viewed as evidence that the EIA or any of these forecasters are doing a bad job, or even as mistakes at all.  Instead, they point to the key role that changing technology—and specifically supply-side technology—has played in the energy landscape in recent years. The history of forecasting errors in the U.S. natural gas market is a perfect example of this phenomenon.
Consider EIA's 2000 forecast of natural gas markets in 2015: 25 trillion cubic feet (TCF) of production at an average price of about $5 per thousand cubic feet (MCF).  Actual production in 2015 was about 27 TCF at an average price of $3.37 per MCF—we got more gas at a lower price than expected....

77% of EIA's forecasting errors are best interpreted as forecasting errors about the supply curve for natural gas, as opposed to the demand curve.  This is true for forecasts made before the shale gas boom (80%) as well as for more recent forecasts (72%). The figure also shows that EIA's forecasts made before the start of the shale gas boom tended to overestimate supply (66% of the time), while forecasts made after tended to underestimate supply (63% of the time).

Why has supply been harder to predict than demand? Over the last 20 years, there have been two large shocks to the “technology” of natural gas production: an unexpected decrease in natural gas discoveries in the Gulf of Mexico starting in the early 2000s, followed by the unexpected boom in shale gas development more recently.

Until the mid-2000s, the EIA forecasted about 5 TCF of offshore gas production per year.  In reality, offshore gas production decreased in nearly every year since 1997, and now stands at just 1.3 TCF.  An important cause of this decline in production has been a 70% drop in the rate of new offshore gas field discoveries since 2000. Because discoveries had been stable at about 2 TCF per year for the 15 years leading up to 2000, it is fair to say that this absence of technological progress, and therefore negative shock to supply, was rather unexpected.
Credit: Wikimedia Commons
Wikimedia Commons
The opposite is true for onshore gas fields, where rapid and unexpected improvements in hydraulic fracturing technology helped gas production far outpace forecasts in places like Texas, Louisiana, Pennsylvania and West Virginia. Although EIA correctly anticipated as early as 2000 that shale gas resources would grow in importance, they underestimated the speed and magnitude of this change.   As recently as 2005, EIA still forecasted less than 10 TCF of shale gas production per year for the then foreseeable future. In reality, U.S. shale gas production is now more than 15 TCF per year.
Recently, this uncertainty has been driven by the emergence of new ways of getting more gas inexpensively. However, it is important to remember that this uncertainty can also be caused by technological “misses,” like declining exploration success in the Gulf of Mexico.... Forecasts of future supply can be too optimistic just as often as they are too pessimistic.

by Thomas Covert, Contributor
Energy Policy Institute at the University of Chicago
January 5, 2017

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