Analytical Concepts of Energy Import Dependency

The problem of energy import dependency is usually analysed in the broader framework of

“energy security”. Energy security can be understood as “securing adequate energy supplies at reasonable and stable prices in order to sustain economic performance and growth” (APEC 2003: 4). To put it in different but equivalent terms, energy security policies aim to mitigate energy supply vulnerability, a “condition that leaves a system exposed to the risk that needed quantities of energy inputs and services fail to reach the intermediate or final users“ (IEA 2003a: 116). Securing affordable energy supplies has always been a central objective of national and international energy policies²⁹. Nevertheless, discussions how energy security can best be ensured have again intensified over the last years. The renewed attention is due to a number of closely interlinked factors. Of major concern is the continuous rise of international crude oil prices since the late 1990s. This trend is aggravated by various unsolved regional and geopolitical tensions in key regions of global oil supply (e.g. in Venezuela and the Middle East) and the increased threat of terrorist attacks against energy infrastructure systems and vital energy supply routes since September 11, 2001. The great amount of attention currently attributed to energy security is reflected in several important

28 In this paper „energy import dependency“ and „fuel import dependency“ are used interchangeable and have the same meaning. Fuels are defined as internationally traded energy sources comprising Section 3 of the Standard International Trade Classification (SITC). Fuels include coal, petroleum, gas and electric current. For detailed information on SITC see Section 3.2 of this thesis and Appendix A.

29 Questions of energy supply and security played for example a crucial role in the establishment of the European Communities after World War II. Two of the three founding treaties explicitly deal with energy: the foundation of the European Coal and Steel Community (ECSC) based on the Schuman-Plan in 1950 and the Euroatom Treaty signed in Rome in 1957.

Chapter 3: Quantitative Analysis of Energy Import Dependency political initiatives and publications. For example, in 2001, the European Commission published a Green Paper voicing concern about the growing dependence of the European Union on external energy sources and worked out possible strategies for the future security of European energy supply. Further examples are the Energy Security Initiative (ESI) launched by the Asia-Pacific Economic Cooperation (APEC) in November 2001 and the G8 Ministerial on Energy Security in May 2002. Reference to energy security is also frequently been made in national energy publications (see for example US National Energy Policy 2001 or Energy Report of the German Federal Ministry of Economic and Technology 2002).

Albeit of crucial importance, the degree of dependence on foreign energy imports is only one facet of energy security. For the sake of completeness, other critical aspects of energy security should not be left unmentioned. In her publication “Energy to 2050” the IEA points to numerous factors which may –dependent on the specific situation– increase or reduce the energy security of a country. These factors are listed in an abridged and slightly supplemented form below:

• Dependence on sources that are gradually becoming depleted on a global basis,

• Dependence on geographic supply areas that are politically unstable,

• Dependence on a single technology (e.g. in countries like Cyprus, Lebanon, Malta and Senegal almost all electricity production is based on oil sources),

• Dependence on foreign refining and other energy processing capacities,

• Dependence on a limited number of delivery lines (one oil or gas pipeline),

• Market power of energy-exporting countries and energy deliverers (e.g. supply disruption through market cartels (OPEC) or strikes in the energy sector),

• Risk of market disruptions due to regulatory mistakes (e.g. insufficient levels of investment in infrastructure) (IEA 2003a: 116-117).

In the following, the analysis is restricted to the question how energy import dependency can be defined and measured. Generally speaking, dependency on energy imports can be viewed as “a situation where a nation does not possess the capacity to produce 100 per cent of its own needs” (Hogan and Mossavar-Rahmani 1987: 9). Based on this definition, virtually all countries are to a smaller or larger degree dependent on the import of certain energy sources.

Even major energy exporting countries like Saudi Arabia and Venezuela, which could potentially achieve and maintain a status of complete self-sufficiency, import small quantities of foreign energy sources on a regular basis. In 2002, Saudi Arabia paid $31 million for

Chapter 3: Quantitative Analysis of Energy Import Dependency energy imports while at the same time earning $53 billion through petroleum exports. In the same year, Venezuela spent more than $300 million on foreign energy sources. Still a relatively small sum compared to fuel export earnings in the order of almost $19 billion³⁰. The very fact that a country imports energy is hence a normal state of affairs in an increasingly integrated and interdependent global economy. An isolated focus on the physical quantities and gross monetary costs of energy imports is therefore not appropriate to arrive at a complete picture of import dependency. Knowing that a country pays a certain amount of money for foreign energy sources or imports a specific quantity of oil, gas, electricity etc. does not tell much about the degree and vulnerability of its dependency. To better grasp the magnitude and repercussions of import dependency it is therefore essential to analyse energy imports in the context of other variables deemed essential to the socio-economic performance and political stability of a country or a larger economic area, like the EU or the NAFTA.

A useful analytical distinction between various forms of oil import dependency is offered by Austvik, a Norwegian energy analyst. He distinguishes a country’s normal dependence on imports (simply meaning that parts of internal demand are supplied externally) from sensitivity and vulnerability dependence. According to him, “sensitivity dependence is measured by the degree of responsiveness within an existing policy framework. It may reflect the difficulty to change policy within a short time and/or bindings to domestic or international rules. Vulnerability, on the other hand, is a measure of the ability to adjust to changes in the availability or price of a commodity on which the country depends. Thus, vulnerability is represented by the costs caused by external price shocks even after policies have been altered”

(Austvik 2004: 4). In economic terms, vulnerability boils down to the question of the elasticity of energy demand. Countries which are very inelastic in their short-run demand for energy imports normally suffer greater losses from shocks in energy prices and volatile price developments and need more time to adjust to changed energy market conditions. This is especially the case when a country cannot switch to its own energy sources or is bound to energy infrastructure systems, which solely rely on the input of one specific energy carrier.

For instance, a country which produces all its electricity through the combustion of imported oil cannot change production patterns overnight. In such a situation, a rise in the price of imported oil -all other things equal- leads to a direct transfer of wealth from oil consuming to oil exporting countries. One indicator frequently used to measure and compare demand elasticities is the energy intensity of an economy. Both, the United States and the European

30 These figures are taken from the UN Comtrade Database. The data can either be downloaded from the Comtrade web page or be found on the CD-Rom enclosed in the paperback version of the thesis.

Chapter 3: Quantitative Analysis of Energy Import Dependency Union heavily rely on energy imports to meet the energy demands of their domestic industries and households. However, European economies are on average far less energy intensive (and thus more elastic in their energy demand) than the U.S. economy. In 1999, the United States produced only a GDP of $4 (measured in purchasing power parities (PPP)) per kg of oil equivalent, whereas countries like Germany, Austria and Denmark produced a GDP of $6 and more with the same amount of energy input³¹. It can therefore be assumed that an increase in energy prices has a larger impact on the American industry than on her European counterparts.

Additional indicators to measure import dependency are presented in an article by James Kendell, a senior expert of the United States Energy Information Agency (EIA). His article is particularly helpful in giving a comprehensive overview of oil import dependency indicators developed, tested and applied by the EIA, the U.S. Department of Energy and the U.S.

General Accounting Office (GAO) over the last decades. These indicators are widely used in important American energy publications like the EIA Annual Energy Outlook and the Monthly Energy Review and therefore enjoy considerable empirical weight and acceptance.

Like Austvik, Kendell confines his analysis to the measurement of oil import dependency.

Nevertheless, the definitions and indicators presented may easily be applied to energy import dependency at large. For the purpose of my study, I substitute the term “oil import dependency” for the term “energy import dependency” and speak of “energy import dependency indicators” instead of “oil import dependency indicators”. With the help of these notional modifications, the articles of Austvik and Kendell can be used as an appropriate analytical basis. According to Kendell, energy import dependency can be measured along two dimensions. Firstly, one can distinguish between measures of dependence and vulnerability.

This distinction is quite similar to the one offered by Austvik. Measures of dependence simply reflect and describe the fact that a country imports foreign energy sources (“normal dependence”), whereas vulnerability measures describe a country’s potential exposure to price shocks and energy supply disruptions. On a second dimension, measures of dependence and vulnerability can be subdivided into physical and economic aspects. Physical measures portray the level of a country’s need for imported energy sources and the physical prospects for shortages and disruptions. Economic measures focus on the costs associated with energy imports in general and the costs induced by price shocks and supply shortages in particular. In combining these two dimensions, four different analytical sets of indicators can be identified:

31 World Bank data on energy intensity in 166 countries is provided in the Tables C1-C4 in Appendix C.

Chapter 3: Quantitative Analysis of Energy Import Dependency Indicators of physical dependence, physical vulnerability, economic dependence and economic vulnerability (Kendell 1998).

Measures of physical dependence are among the most common indicators used in publications on energy security and dependency. These indicators typically describe the proportion of imported energy sources in the total amount of energy consumed in a political or economic entity and are measured in physical units. To give some examples: The EU Commission’s Green Paper on energy security states that around 50 percent of the 1.426 million toe of energy consumed in 1998 were imported from outside the union. The energy dependence of the EU is likely to rise from a present 50 percent to 70 percent within the next 20 to 30 years.

In the case of oil, import dependence could reach 90 percent, for gas 70 percent, and for coal even 100 percent (European Union 2000: 21). In the U.S. National Energy Policy Report published at the beginning of George W. Bush’s presidential tenure, it says that the United States imported 16 of the 98 quadrillion British thermal units (Btus)³² of energy that it consumed in 1999. 52 percent of oil requirements and 15 percent of gas requirements had to be met by the import of foreign supplies (White House 2001: 8-3). In addition to these indicators, specific reference is sometimes made to the origins of energy imports. In the wake of the two 1970s oil crises, the EIA began to measure the U.S. dependency on oil imports from OPEC countries and Arab OPEC countries in particular. Since the Iran-Iraq war, strategic thinking turned to the Persian Gulf region and consequently the EIA began to measure imports from the Persian Gulf region as a percentage of oil products supplied.

Physical vulnerability can be analysed by a broad variety of indicators. Some indicators focus on the worldwide concentration of commercial fuel production and trade. The rationale behind the use of concentration measures is the idea that energy importing countries are less vulnerable to shocks when production sources are regionally diverse and energy exporting countries are numerous. Global surge or excess production capacity of tradable energy sources can be used as another indicator to grasp physical vulnerability. When production rates surpass demand, international energy prices tend to be low. The other way round, when production rates cannot keep pace with global energy demand and production capacities cannot easily be extended in the short run, energy prices rise and part of the global demand may not be met. In industrialized countries strategic petroleum resources play an important role in reducing oil import vulnerability. The IEA provisions from 1974 stipulate that member

32 British thermal units (Btus) are a common measure for heat energy. One Btu is the quantity of heat needed to raise the temperature of 1 pound of water by 1°F at or near 39.2°F.

Chapter 3: Quantitative Analysis of Energy Import Dependency countries should hold petroleum stocks equal to 90 days of net imports. In the case of a severe disruption of oil supply (at least 7 percent of total consumption), the member countries are obliged to run down their stocks and to reduce overall oil consumption in a coordinated manner. This policy aims to make IEA member states less vulnerable to price and supply shocks on the global oil market. With regard to the IEA provisions, strategic petroleum reserves are often measured in days of net petroleum imports. Currently, the oil importing IEA countries could meet more than 100 days of their net oil imports by making use of their strategic petroleum inventories (Austvik 2004: 20). The indicators outlined so far focused on the supply side of physical vulnerability. Demand side measures often refer either to the total energy intensity of a country/economy or to energy consumption in a certain sub-sector.

Common indicators are for example the primary energy consumption per capita or the dependence on oil in the transport sector.

Measures of economic dependency are foremost measures of absolute or relative monetary costs. Two indicators used in this context are the monetary value of fuel imports and the share of energy imports in total expenditures on imported goods and services. In addition, energy consumption or energy expenditures per unit of economic output (e.g. per dollar of GDP) are often calculated to evaluate the level of economic vulnerability. In contrast to measures of physical vulnerability, energy intensity is now measured in monetary and not in physical units.

Less frequently, reference is made to the costs of energy imports as a percentage of total export revenues. This indicator is essential when the potential impacts of fuel imports on a country’s trade balance shall be determined. As already noted in the last chapter, many developing countries spend a large fraction of their merchandise export earnings to purchase foreign energy sources. A price hike for imported energy sources inevitably leads to a deterioration of their terms of trade and reduces the net inflow of foreign currency earnings.

Interestingly, an indicator to measure this dependency is not included in Kendell´s article and is only incorporated in few recent publications on energy and development. Until the mid 1990s, the World Development Reports (WDR) provided information on the value of fuel imports as a percentage of merchandise exports for all countries where data had been available. Since 1996, the World Bank ceased to report on this indicator and replaced it by now measuring the share of fuel imports in total merchandise imports. This change in reporting had consequences for the data quality of subsequent publications. For instance, the UNDP Report “Energy after Rio”, issued in 1997, had to resort to outdated World Bank data from 1994 to analyse the foreign exchange impact of energy imports in developing countries (UNDP 1997: 2.3.2). In his book “Solar World Economy”, the Alternative Nobel Prize

Chapter 3: Quantitative Analysis of Energy Import Dependency winner Hermann Scheer argues that the dominant role of fossil energy systems strongly contributes to the persisting economic misery of developing countries. To substantiate his argumentation, he points to the high costs associated with fuel imports and for this purpose heavily draws on the ratio of fuel import costs to total export earnings provided in earlier WDRs. In this context, he regrets the omission of this indicator from recent WDRs (Scheer 2002: 136-138). Another economic indicator missing in Kendell´s article is the ratio of fuel import costs to the GDP of a country. When fuel import costs are measured relative to GDP, energy publications tend to provide data only for a few selected countries or one country group. The EU Green Paper, for instance, states that the cost share of energy imports in European GDP will grow from 1.2 percent in 1995 to 1.7 percent in 2030. However, the EU Green Paper lacks a comprehensive cost breakdown for each individual member state (EU 2000: 69). Likewise, the recent IEA publication on the economic impact of high oil prices only in passing mentions the fact that Sub-Saharan African countries spent 14 percent of their GDP on fuel imports in 2000 (IEA 2004: 12). The IEA fails to go into detail on this aggregate figure and then also to provide more precise information for individual African countries.

Table 3.1-1 on the next page gives an overview of the indicators outlined above. The division of the table is based on the two analytical dimensions proposed by Kendell. To bridge the gap of missing individual country data, the task of the following quantitative analysis is to calculate up-to-date data on two economic dependency indicators: the ratio of fuel import costs to total export revenues and the ratio of fuel import costs to the GDP of a country. These indicators are marked by the grey shaded boxes and are placed on the dividing line between dependence and vulnerability. The costs of fuel imports relative to export revenues or GDP can be used to describe a country’s level of economic dependency. But these indicators just as well reflect a country’s economic vulnerability. A change in both ratios is tantamount to a change in a country’s trade balance or a change in the share of GDP lost to the purchase of foreign energy sources. Countries, which already pay a high proportion of their export earnings or GDP for energy imports will suffer more from price increases and price volatility than countries with lower ratios. These economic indicators will be compared with an indicator of physical fuel import dependency. This indicator corresponds to Kendell´s indicator “energy imports as a percentage of products supplied”. In addition, I will introduce three indicators to measure the socio-economic opportunity costs of fuel import dependency (third column of the table). To the best of my knowledge, a comprehensive opportunity cost analysis of energy import dependency has so far not been conducted in the energy-development literature.

Chapter 3: Quantitative Analysis of Energy Import Dependency Table 3.1-1: Measures of Energy Import Dependency

Physical Dimension Economic Dimension Socio-Economic Opportunity Costs

Dependence

Energy imports as a percentage of product supplied

Energy imports from specific regions (OPEC, Persian Gulf) as a percentage of product supplied.

Value of energy imports

Value of energy imports as percentage of total expenditures on imported goods and services

Vulnerability

Concentration measures (e.g.

Persian Gulf share of world oil production or world export market) Days supply of stocks (e.g. days of

Persian Gulf share of world oil production or world export market) Days supply of stocks (e.g. days of