Department of Energy and Natural Resources

Technology Assessment Division

Examples of Non-Renewable Resource Projects Where Present Value Economics Was Not Primary Criteria in Deciding Whether to Allow Development

Production of natural resources in the free market economy is typically driven in the direction of rapid development as resources are discovered based on the present value economics of the resource; that is, a dollar now is worth more than a dollar in the future. There are academic, social, societal, and sometimes economic arguments that this approach is not always the best choice or in the best interests of the public good.

Conduct a literature search to find examples of situations in which the present value economics of the resource to the developer justifies development, but when the present value costs of the social, environmental and other costs of all externalities were factored in, development of the resource was not allowed to proceed.

Quite a few examples of this situation exist. Summarized below are the most significant examples I came across. Some of the examples satisfy the criteria better than others, but they are all relevant to the issue.

Drilling Moratoriums

Alabama Gulf Coast

Alabama does not have a long coastline, nor has it had the long time offshore oil and gas production history as Louisiana and Texas. Still, Alabama has traditionally joined Louisiana, Texas, and Mississippi in aggressively promoting offshore oil and gas development. This has just recently changed. In August 1996, the federal Minerals Management Service (MMS) announced that in the Eastern Gulf of Mexico, 22 blocks within 15 miles of Alabama's coast will be excluded from the area to be considered in 2001 for federal leasing. According to MMS, "This recognizes state and local concerns about the possible adverse impact of any additional visible natural gas and oil structures on the tourism industry."

California State and Federal Offshore

California is a longtime, large producer of oil and gas. California state and federal offshore waters are the only U.S. offshore producing area outside of the Gulf Coast and Alaska. But, even California has joined the ranks of states banning offshore drilling. First, California passed laws requiring drilling and production platforms in sight of land to be camouflaged to look like palm trees and islands to minimize the scenic pollution to residents and tourists onshore. Next, California persuaded the federal government to place the California OCS under an indefinite moratorium on leasing for future drilling. Then, in 1994, the Governor signed a bill banning all future leasing of California's state offshore waters.

Areas Placed Off-limits in Alaska OCS Sale 144

On September 18, 1996, MMS held the first oil and gas lease sale in five years for tracts in the Beaufort Sea. As ardent a supporter as Alaska is for drilling onshore and offshore, the State of Alaska requested that an area be left out of Sale 144 due to concern over possible interference with subsistence hunting by the Native communities. MMS explained that they deferred the area east of Barter Island at the request of the State of Alaska, the North Slope Borough, and other Native groups. "The North Slope Borough and the Alaska Eskimo Whaling Commission believe this area is a prime feeding ground for the bowhead whale. We will continue working with local residents to determine the extent of the bowheads' feeding area."

Florida and Eastern Seaboard

The Governors, State Legislatures, and Congressional delegations of Florida and all of the Eastern Seaboard have successfully prevented leasing, exploration, and development of the nation's petroleum resources off their coasts in both state and federal waters. Little is even known of the potential resource base in this area, as only a few exploration wells have ever been drilled anywhere in the area, and it is out of the question to even consider allowing one to be drilled now. The reasons for the bans are concerns over the possible detrimental effects on the tourist industry of the unsightly appearance of drilling and production structures and the harmful environmental consequences of possible oil spills on coastal ecology and the tourist industry.

Arctic National Wildlife Refuge (ANWR)

At issue within the 19.3 million acre refuge is the proposal to allow oil and gas leasing on only the ANWR coastal plain, or 8 percent of the total area. Approximately 1 percent of the coastal plain would be affected by development. Federal government estimates show that there is between 4.8 billion and 9.2 billion barrels of recoverable oil in the area, making it the second largest oil field in North America after Prudhoe Bay, which contained more than 10 billion barrels. A debate rages, however, on what impact oil and gas development would have on grizzly bears, fox, wolverine, musk-oxen, waterfowl, and the more than 160,000 caribou. The area is the birthplace of the Porcupine Caribou herd, which is a symbol of the culture and way of life of the Native peoples in the area.

The Alaskan Congressional delegation has made passage of drilling approval a priority in the Republican Congress which recently passed measures to open the area for drilling. President Clinton, however, blocked the action for the present session of Congress. The debate will continue.

Oil and Gas Allowables

Decades ago, state oil and gas conservation offices implemented regulations setting production allowables to restrict the rate of production from wells to prevent reservoir damage and the resulting decrease in the long term productivity of the reservoir. Prior to the setting and enforcement of allowables, many producers produced wells all-out at maximum capacity to generate the greatest possible immediate cash flow or short term recovery of capital. This form of present value economics ignored the side effect of reduced long term return on investment since too rapid a production rate damages hydrocarbon reservoirs, reducing the total amount of petroleum that can be produced over time. States realized that this kind of production practice was endangering governments' long term revenue from severance taxes and / or royalties, prompting them to pass conservation laws to limit or restrict oil and gas production.

Closing Coal Mines in Britain

Several years ago the British government decided to close down coal mines in Britain in order to reduce atmospheric SO_X emissions by importing low sulfur coal to burn in place of the higher sulfur British coal. This action caused the loss of several hundred thousand jobs in the British coal mining industry.

U.S. Importation of Foreign Oil

The U.S. cannot realistically expect to be self-sufficient in crude oil or energy supply. On the other hand, the extent to which the U.S. is currently dependent on foreign sources of oil is a strategic policy decision to rely on foreign sources more than is economically necessary. That is, conducting military interventions and maintaining an immense military presence in the Middle East costs billions upon billions of dollars that could be utilized in economic incentives, tax breaks, research, etc., in developing domestic oil and gas resources, energy efficiency technologies, and alternative energy that cannot compete with low world oil prices. This will be true as long as the price of a barrel of oil does not reflect the costs of externalities of such things as U.S. military presence.

Looked at from another view; the use of imported oil and conducting a foreign policy that helps keep the price of oil low is a defacto decision to deplete someone else's reserves while reducing the depletion rate of domestic petroleum resources.

Mackenzie Valley Pipeline in Canada

Interest in producing natural gas in Canada's Mackenzie Delta led to a proposal to run a pipeline down the Mackenzie Valley to transport Alaskan and northern Canadian natural gas to the large southern markets. In 1974, twenty-seven of the world's largest oil and gas companies applied for permission to build a pipeline through the Mackenzie Valley. Many northern Native Peoples opposed the project and called for a moratorium on major northern development projects. Mainline Canadian Christian churches also opposed the project and campaigned against the pipeline. Some native peoples, however, supported the pipeline, and many of the pipeline proposal's proponents were members of the churches working against the project.

All of this controversy led the Canadian government to form a commission in 1977 to examine the issues and hold hearings in the Mackenzie Valley communities to assess the impact of such development on the aboriginal cultures of the region. The commission was headed by former Canadian Chief Justice Thomas Berger. Contrary to what many expected, his final report recommended against building the pipeline for both environmental and social reasons. The government accepted the recommendations, and the pipeline was not allowed to be built.

Gold and Copper Mines

Windy Craggy Mine in British Columbia^1,2

In 1988, the Canadian mining company, Geddes Resources Limited, first tried to get Canadian government approval to extract ore, mainly copper, at Windy Craggy, a 6200 foot mountain in northern British Columbia about 50 miles from Glacier Bay National Park and Preserve in Alaska. Geddes was going to create 600 permanent jobs at the Windy Craggy mining project. It is estimated that the project would have generated between $178 and 534 billion (Canadian) in trade over 30 years using a price of copper at $0.89 per pound.

In the development proposal, Geddes said it needed to build a 70-mile road from the site to the Haines Highway so that up to 150 trucks a day could carry ore from the site. In response to the opposition to this concept, Geddes alternatively proposed building a nearly 150-mile slurry pipeline to Haines, Alaska. At Haines, the ore would be filtered out and sent to Asian smelters. The project had no shortage of controversial issues. These included:

The high sulfide content of the ore causing acidic runoff and how that would be contained
Adequacy of the two tailings ponds to contain runoff
Stability of the tailings pond dams in view of the area's seismic activity
The possibility of large trucks running off the road that would be built so close to the edge of the Tatshenshini River
Threatened habitat to one of the largest grizzly bear concentrations in Canada
Damage to the winter range of the Dall sheep and the habitats of mountain goats and wolves
Possible pollution and harm to fish in the Tatshenshini and Alsek Rivers
The potential to destroy the hunting and fishing lifestyle of the Chilkat and Yakutat Tlingit tribes

The Canadian Government turned down Geddes' initial proposal in July 1990 because of public opposition and problems with the drainage system for the mine. In April 1992, British Columbia's Minister of Energy, Mines and Petroleum Resources Anne Edwards announced a two-stage plan to assess the project. First, a full land-use evaluation would be implemented to answer the question of whether mineral development or preservation should occur in the area. If it were determined that development would be safe, then Geddes' proposal would be given a rigorous review. In June 1993, the British Columbian Government study concluded the environmental risks associated with development were real, and announced that the region around the Tatshenshini River would not be opened to development and would instead be designated a wilderness park.

The above decision led to a damage claim by Geddes Resources and its successor Royal Oak Mines (of the U.S.) against the British Columbia Government. On August 18, 1995, the Province announced a $103.8 million (Canadian) settlement package and the development of two new mines, Red Mountain near Stewart, and Kemess South near Houston, British Columbia. The $103.8 million includes $26 million in compensation, $17 million for mine development, $3.5 million for training, $46 million for power line installation, and $11.3 million for related infrastructure. All payments beyond the direct compensation are conditional on Royal Oak developing the mines.²

New World Mine Outside Yellowstone National Park³

Under the 1872 Mining Law, Crown Butte Mines was fully within its rights to reopen a closed mine just two to three miles from Yellowstone's northeast boundary that is estimated to be worth $650 million in gold, silver, and copper reserves. Under extreme pressure from environmental groups and the general public, the Clinton Administration arranged in August 1996 for a federal buyout of the mine site. Under the 1872 Mining Law, Crown Butte Mines was going to purchase the mining rights to the 27 acres of land outside of Yellowstone for $135.00 and would not have to pay royalties on the minerals produced. Public concern over the toxic chemicals employed in the mining process, the potential for runoff of acidic and heavy metal wastes into the areas surface rivers and streams, and the impact of the use of heavy machinery and land moving equipment on the local terrain led to the President's intervention.

The deal worked out by the Administration is a land swap under which Crown Butte Mines, a subsidiary of Hemlo Gold Mines of Canada, surrendered its rights to the mine. In return, the government will give the company $65 million worth of federal property for Crown Butte to develop an alternate mining operation. Crown Butte also agreed to place $22.5 million in escrow to cover the cost of cleaning up the site, which has had mining activity on and off since the late 1800's according to the Natural Resource Defense Council. After the cleanup, the site will remain the property of the federal government.

Kakadu Conservation Zone, Australia⁴

The Kakadu Conservation Zone was a prime prospect for gold, platinum and palladium. The Resource Assessment Commission studied all aspects of the proposed mine and its potential, including a conservation versus mining study that indicated a benefit to cost ratio of about 10:1 between conservation benefits and mining costs. In the end the government decided to disallow mining due to concerns for aboriginal values in the area.

Electric Power

Nuclear Power

Nuclear electric power is an area where economics are somewhat skewed. Currently it is quite feasible to design and build a new nuclear power plant that is cost competitive over its operating life with coal fired generation, including waste disposal and decommissioning costs. Yet, in many countries, public concern and fear of nuclear energy, whether warranted or not, has brought about government action eliminating nuclear power as an option, even in cases where its long term economics are better than alternatives.

To illustrate this, examine the situation in Sweden which has 12 nuclear power reactors in operation. These plants are already built and in operation; hence, the capital costs of construction are already sunk. Sweden currently plans to phase out all of its nuclear plants by 2010 and never build another one. Certainly on a present value economic basis, these plants would be kept in operation as long as possible to maximize return on investment as long as operation and maintenance costs are less than replacement costs.

Coal Power

A good example of present value economics driving decisions is the construction of power plants in the U.S. The predominant trend in building new power generating facilities in the U.S. today is to build combined cycle natural gas power plants. This type of power plant has the lowest capital construction cost, fastest construction time and lowest maintenance costs. With the federal deregulation of the utility industry taking off right now, non-utility generators or private power generators who sell their power to utilities at wholesale are providing an increasing share of the generating base of U.S. electricity.

The relatively low capital costs of these plants enables independent generators as well as conventional utility generators to recover their investment in a fairly short period of time, well before the issues of long term fuel supply and cost may be a concern. When looking at long term economics over the conventional 30 to 45+ year operating life of a power plant, a coal fired power plant will usually have lower overall long term costs.

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Cited References

¹Geddes (Canada) Copper Mine, Trade and Environmental Database, http://www.american.edu/projects/mandala/TED/geddes.htm, The School of International Service, American University; September 10, 1996.

²Province Reaches Agreement with Royal Oak Mines, News Release, http://www.ei.gov.bc.ca/Newsroom/NRs/145NR.html, British Columbia Ministry of Employment and Investment and Ministry of Energy, Mines and Petroleum Resources; August 18, 1995.

³Mining Reform Update, http://nrdc.org/nrdc/status/yellowst.html Natural Resources Defense Council; updated August 28, 1996.

⁴Carter, Marc, Environmental Economics Unit, Department of the Environment, Sport and Territories, Canberra, Australia, private communication via e-mail; September 5, 1996.

General References on Resource Economics

Dixon, John A., Louise Fallom Scura, and Richard A. Carpenter, Economic Analysis of Environmental Impacts, 2nd ed., Earthscan: London; 1994.

Krutilla, John V. and Anthony C. Fisher, The Economics of Natural Environments -- Studies in the Valuation of Commodity and Amenity Resources, Published for Resources for the Future, Inc. by The John Hopkins University Press: Baltimore, Maryland; 1975.

Smith, V. Kerry and John V. Krutilla, Explorations in Natural Resource Economics, Published for Resources for the Future, Inc. by The John Hopkins University Press: Baltimore, Maryland; 1982.

Tietenberg, Tom, Environmental and Natural Resource Economics, 4th ed., Harper Collins College Publishers: New York; 1996.

Portney, Paul R., The Contingent Valuation Debate: Why Economists Should Care, Journal of Economic Perspectives, Vol. 8, No. 4; Fall 1994, pp. 3 - 17.

Hanemann, W. Michael, Valuing the Environment through Contingent Valuation, Journal of Economic Perspectives, Vol. 8, No. 4; Fall 1994, pp. 19 - 43.

Diamond, Peter A. and Jerry A. Hausman, Contingent Valuation: Is Some Number Better than No Number? Journal of Economic Perspectives, Vol. 8, No. 4; Fall 1994, pp. 45 - 64.

Palmer, Karen, Wallace E. Oates, and Paul R. Portney, Tightening Environmental Standards: The Benefit-Cost or the No-Cost Paradigm? Journal of Economic Perspectives, Vol. 9, No. 4; Fall 1995, pp. 119 - 132.

Porter, Michael E. and Claas van der Linde, Toward a New Conception of the Environment-Competitiveness Relationship, Journal of Economic Perspectives, Vol. 9, No. 4; Fall 1995, pp. 97 - 118.

Cropper, Maureen L. and Wallace E. Oates, Environmental Economics: A Survey, Journal of Economic Literature, Vol. XXX; June 1992, pp. 675-740.