Saturday, May 27, 2006

Bad uranium economics

Brian Toohey in the Weekend Australian Financial Review (subscription required) states that:

'Nuclear energy is more financially viable in countries without Australia's low cost coal and natural gas reserves'.

This argument seems fallacious. As Australia sells coal and gas in international markets they - as with the U3O8 they export - have an opportunity cost that equals their value in these markets less transport costs incurred exporting them.

The same fallacy arises when people say that Iran has no economic reasons to develop nuclear power because of its abundant oil reserves. Again the proximity of such reserves has nothing to do with the case for or against nuclear power since Iran is a major oil exporter.

There are non-economic reasons for me opposing Iran's shift to nuclear technologies that I have discussed on this blog. There are also reasons that I think Australia should keep an open mind about the nuclear option (here and here). But these are independent of the fallacious reasoning adopted by Toohey.

Toohey's also opposes nuclear power on grounds that:

'If advances in 'clean' coal technology for removing the problem of greenhouse gas emissions prove cost effective - which seems likely - there will be no compelling commercial or environmental reason to switch to nuclear'.

This argument is not supported with evidence but it is at least helpful in clarifying the debate. We need to try to understand whether such technologies will become commercially viable. This debate has a long way to run.

11 comments:

jan said...

Harry,
you are right in qualifying his argument but your qualification fully applies only to a prefectly competative firm. If you have some market power and face a downward sloping demand curve your opportunity cost is lower than the current market price. Take the extreme case of a monopoly that produces its profit maximizing quantity - the opportunity cost is in fact zero (assuming away some intertemporal constraint on the amount of the product available to that firm/country). Then his argument would go through...

hc said...

Don't really agree Jan. Even if you have monopoly power the opportunity cost is what you can get for the oil in international markets.

Thus whether or not you own oil resources is irrelevant for the issue of deciding the case for nuclear power. If it was cheaper than oil (irrespective of whether an oil producer has monopoly power or whether the country was an oil importer) go nuclear.

Robert Merkel said...

Your assumption that transport costs are relatively minor isn't, as I understand it, justified.

Brown coal, the kind that Victoria uses for electricity generation, is essentially worthless on the export market because it's too expensive to transport. As it's unsaleable for anything else, it makes it very, very cheap for domestic power generation, particularly when you can basically plonk your power station straight on top of the coal as has been done in the Latrobe Valley.

This is not the case for black coal, but the transport costs are still apparently very, very substantial.

Natural gas is similar. As I understand it, a global market for the stuff is only just developing. If you have to ship it overseas, you need a very expensive liquification plant at the production end, dedicated LNG carriers to do the shipping, and a receiving terminal at the other. Such infrastructure is still very thin on the ground, and therefore the price of natural gas varies very substantially across the globe.

In the case of gas, this is unlikely to be true in the longer term, as the US runs out of domestic supply, and if the oil price continues to rise converting natural gas to liquid fuels starts to become very attractive. So gas may be reasonably cheap now in Australia. For how much longer, who knows?

Jan said...

Harry,
I was taught that your opportunity cost is the value of your second best option. If you are a petroleum monopoly that produces its profit maximizing quantity and have zero marginal cost than your second best alternative is NOT to sell more oil in the market (since your profit would decrease) but rather destroy any excess (if you do produce excess in the first place). Which part of this argument do you disagree with?

hc said...

Jan, If Iran could set the world price of oil, couldn't price discriminate and had to make an all-or-nothing sales contract, it might want to destroy surplus oil for the reasons you suggest. Otherwise it won't.

Robert, I assume the transport costs on oil and nuclear fuels are a small fraction of value. On coal, yes, much higher.

Robert Merkel said...

Virtually nobody burns oil to generate electricity any more; it's too expensive for that. But Iran also has a great deal of natural gas, of which they burn off, straight into the atmosphere, about 10%. Just stopping this wastage would apparently be enough to generate about 30% of the electricity Iran currently uses. I find it very difficult to believe it's cheaper to build nuclear reactors than capture that stranded gas and send it to a gas turbine, given the capital cost of a gas turbine is probably a third the price of a nuclear plant. If the fuel is available for effectively the cost of piping, they're some damned expensive pipes.

hc said...

The point is interesting Robert - so the transport costs mean it is cheaper to flame the gas. In that case you are right - the opportunity costs of the gas are zero so, assuming lower capital costs of using the gas, they will win.

BTW I didn't say nuclear was cheaper - my proposition was that if it is traded internationally it is irrelevant whether you import bor export the stuff in terms of costs.

Note BTW I did exclude the transport cost issue in my original post.

Jan said...

Harry,
In my original post I did not say your argument was incorrect; I argued that
1) it FULLY applied only to a perfectly competative firm (for the reasons I explained), which implies that the opportunity cost is LESS than the market price of oil and
2) it would not apply at all in the case of a (non-discriminating) monopolist (so this clearly does not apply to Iran).

You went on saying that: 'Even if you have monopoly power the opportunity cost is what you can get for the oil in international markets'. As this is in contradiction with my point 1) can you please explain where my argument is flawed? Thanks
Jan

hc said...

Jan, No flaw in your argument I think. I still puzzle a bit about the ability to delay output and to divert output into the domestic economy but this probably shouldn't make a difference. So I stand corrected.

The crucial condition is that you cannot price discriminate at marginally below the monopoly price.

Jan said...

I agree and I am not sure about the real world price discrimination opportunities in this market... Is it done?

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