Energy Security Costs

Y. Matsuki, D.Sc.

Professor, IASA/KPI

Issues

• Economic rent held by the countries with the Economic rent held by the countries with the capacities of energy source productioncapacities of energy source production

• Price elasticity of demand in the countries with Price elasticity of demand in the countries with scarce energy resourcescarce energy resource

• Price elasticity of supply of the countries with the Price elasticity of supply of the countries with the capacities of energy exportcapacities of energy export

• Monopoly and monopsonyMonopoly and monopsony• Macroeconomic adjustment for the price shock of Macroeconomic adjustment for the price shock of

the energy importthe energy import• Production and input priceProduction and input price• Industrial structure and GDPIndustrial structure and GDP• ExternalitiesExternalities• Impacts of international trade in domestic market(s)Impacts of international trade in domestic market(s)

REFERENCES• International Atomic Energy Agency. “Health and

environmental impacts of electricity generation systems: procedures for comparative assessment”, IAEA Technical Report Series, No.394. 1999

• Leiby, P.N., D.W. Jones, T.R. Curlee and R. Lee, Oil Imports: An Assessment of Benefits and Costs. Oak Ridge National Laboratory, Oak Ridge, TN, 1997

• National Research Council, Hidden Costs of Energy: Unpriced Consequences of Energy Production and Use, Committee on Health, Environmental, and Other External Costs and Benefits of Energy Production and Consumption; National Research Council, the National Academies Press, Washington D.C., 2010

• Matsuki Y., Bidyuk P.I., Kalnytskyi G.V. Energy Security Cost as an Externality – Tolerability of Economy of Ukraine against Increasing Gas Import Price, presented at the Conference “SAIT2011”, Kiev, 22-28 May, 2011

Introduction

• learn how to calculate the energy learn how to calculate the energy security costssecurity costs

• energy security costs are externalitiesenergy security costs are externalities– the short-term macroeconomics the short-term macroeconomics

adjustment costsadjustment costs – long-term monopsony powerlong-term monopsony power

Guideline

• International Atomic Energy Agency, Technical Report Series No. 394, Health and Environmental Impacts of Electricity Generation Systems: Procedures for Comparative Assessment, pp 173-179, Appendix II Energy Security

4 hours4 hours• basic concepts and examples of short-basic concepts and examples of short-

term and long-term energy securityterm and long-term energy security costscosts

• more microeconomics theory more microeconomics theory – graphical presentations graphical presentations – mathematical expressionsmathematical expressions

• the results of the case study held in the results of the case study held in UkraineUkraine

• demonstrations of forecasting techniquedemonstrations of forecasting technique• discussions on the international energy discussions on the international energy

problems and the world economyproblems and the world economy

basic concepts and examples basic concepts and examples

• Economic rent that a cartel extracts from the market through its power

• Sudden changes in the price or availability of imported oil

World Oil Price

History of World Oil Price

Cartel rents and long term cost of oil import: 2 opinions

• Cartel rents are likely to be significant.– LEIBY et al. (1997) : With an OPEC supply

elasticity of 5, the marginal cartel rent is $0.90/barrel

– Supply elasticity = １ : marginal cartel rent is $2.86/barrel

• Cartel rents are unlikely to be large or policy relevant.

Economic Rent

• Rent: Payments made to lease the services of land, apartments, equipment, or some other durable asset.

• Economic Rent: Portion of the payment to the suppliers of an input that is excess of the minimum amount necessary to retain the input in its present use.

Economic Rent with Vertical Supply Curve

Economic Rent with an upward sloping supply curve

Price Elasticity of Supply

Monopoly and Monopsony

Profit Maximization

Why is MC above S?

• For example, suppose• The firm employs 10 workers at a wage of

$30• but to employ 11 workers, the firm must

pay a wage rate of $31 to all 11 workers.• The marginal cost of hiring the 11th worker

is $41,• Because total labor costs rise from $300 to

$341.

Monopsony power

(Leiby et al 1997, p.10):(Leiby et al 1997, p.10):

• The marginal external cost per barrel of The marginal external cost per barrel of U.S. oil imports from monopsony U.S. oil imports from monopsony power (denoted power (denoted EEMM) can be expressed ) can be expressed inin

• as the quantity of imports, as the quantity of imports, MM, times the , times the increase in world price resulting from increase in world price resulting from an extra quantity of imports, an extra quantity of imports, dpdpww//dM dM ..

• or the marginal external cost is simply or the marginal external cost is simply the world price divided by the elasticity the world price divided by the elasticity of supply, of supply, ε,ε, of oil imports with respect of oil imports with respect to the world price, to the world price, ppww..

Calculation of monopsony premium

Costs of oil market disruptions

• Disruptions are likely to lead to significant externalities. – LEIBY et al. (1997) : the marginal external costs of

the increase in import costs during the disruptions: from zero to $2.11/barrel

• Macroeconomic adjustment losses depend on the change in energy prices and the volume of the total (not just imported) energy consumption. – LEIBY et al. (1997) : macro economic adjustment cost

= from zero to $6.48/barrel • Disruptions are unlikely or lead to significant

externalities.

case study in Ukrainecase study in Ukraine

• How much capacity does Ukraine have for the increase of gas import price?

• How much could Ukraine influence the gas import price, and how?

Descriptive statistics of the variables

Production Price Index, PPIConsumer Price Index, CPI

Natural Gas Import Price and GDP

Temporal change of GDP and Gas Import Price

GDP and Imported Natural Gas Volume

Temporal change of Imported Natural Gas Volume

Methodology

• Calculate Macroeconomic Adjustment Cost for the increase of the Gas Import Price

• Estimate the Monopsony Power of Ukraine that could influence/lower the gas import price, by reducing the gas consumption

Model of the relations of GDP, Model of the relations of GDP, the gas import price and the the gas import price and the

other variablesother variables

Model (2)

Industries in Ukraine

Correlations between the variables

GDP and Gas Price

GDP and PPI for the food industry

PPI for the food industry and Consumed Gas Volume by

smaller industries

Consumed Gas Volume by smaller industries and Gas Price

Energy Security Cost in Ukraine?

Regression Analysis

Macroeconomic adjustment cost estimation - Conclusions:Conclusions:

• Reduction of the gas demand/consumption keeps Reduction of the gas demand/consumption keeps the GDP still growing.the GDP still growing.

• Reduced imported gas volume should have been Reduced imported gas volume should have been supported/replaced by the other actions such as supported/replaced by the other actions such as using alternative energy source, introducing the using alternative energy source, introducing the energy saving technology, or switching to the other energy saving technology, or switching to the other industrial activities to keep the GDP growing.industrial activities to keep the GDP growing.

• The reduced total money over time divided by the The reduced total money over time divided by the total amount of gas reduced should be spent for total amount of gas reduced should be spent for keeping the GDP growth upward. keeping the GDP growth upward.

• And, it is the externality that is not accounted in the And, it is the externality that is not accounted in the price of the gas price in the retail market inside the price of the gas price in the retail market inside the Ukraine, i.e., the externality for adjusting the Ukraine, i.e., the externality for adjusting the domestic macro-economy or the GDP growth.domestic macro-economy or the GDP growth.

The premium price of natural gas import (US dollars/1000 m3) at the

gas import price of 264 US dollars/1000m3

forecasting techniqueforecasting technique

• EView demonstration

Autocorrelation and Partial Correlation of GDP

Included observations: 84

Autocorrelation Partial Correlation AC PAC Q-Stat Prob

. |*******| . |*******| 1 0.953 0.953 78.984 0.000

. |*******| . | . | 2 0.905 -0.024 151.18 0.000

. |*******| . | . | 3 0.858 -0.025 216.81 0.000

. |****** | .*| . | 4 0.799 -0.146 274.51 0.000

. |****** | . | . | 5 0.741 -0.033 324.71 0.000

. |***** | . | . | 6 0.682 -0.035 367.84 0.000

. |***** | . |*** | 7 0.656 0.337 408.24 0.000

. |***** | . | . | 8 0.630 -0.017 445.97 0.000

. |***** | . | . | 9 0.604 -0.017 481.09 0.000

. |**** | . | . | 10 0.585 -0.035 514.55 0.000

. |**** | . | . | 11 0.567 -0.019 546.37 0.000

. |**** | . | . | 12 0.549 -0.019 576.56 0.000

. |**** | **| . | 13 0.498 -0.294 601.76 0.000

. |*** | . | . | 14 0.447 -0.035 622.36 0.000

. |*** | . | . | 15 0.396 -0.036 638.77 0.000

. |*** | . |** | 16 0.353 0.221 651.97 0.000

. |** | . | . | 17 0.309 -0.023 662.28 0.000

. |** | . | . | 18 0.266 -0.024 670.02 0.000

. |** | . | . | 19 0.250 0.039 676.94 0.000

. |** | . | . | 20 0.233 -0.022 683.08 0.000

Forecast of the GDP increase

Forecast of GDP with Auto-regression (-1, -4, -7)

Forecast of GDP by Gas Import Price with Auto-regression (-1, -7)

international energy problems international energy problems and the world economyand the world economy

• Economic rent held by the countries with the Economic rent held by the countries with the capacities of energy source productioncapacities of energy source production

• Price elasticity of demand in the countries with Price elasticity of demand in the countries with scarce energy resourcescarce energy resource

• Price elasticity of supply of the countries with the Price elasticity of supply of the countries with the capacities of energy exportcapacities of energy export

• Monopoly and monopsonyMonopoly and monopsony• Macroeconomic adjustment for the price shock of Macroeconomic adjustment for the price shock of

the energy importthe energy import• Production and input priceProduction and input price• Industrial structure and GDPIndustrial structure and GDP• ExternalitiesExternalities• Impacts of international trade in domestic marketImpacts of international trade in domestic market

international energy problems international energy problems and the world economyand the world economy