IRAN PRESIDENTIAL ELECTION: A SETBACK FOR REFORMS, BUT DIPLOMATIC OUTREACH EXPECTED TO CONTINUE

Within hours after polls closed on June 12, Iran’s Interior Ministry announced that President Mahmoud Ahmadi-Nejad had been reelected in a landslide. Supreme Leader Ayatollah Ali Khamenei initially endorsed the result but later asked for an inquiry into allegations that the election was rigged. The rapidity of the vote count, the nearly two-to-one lead that Ahmadi-Nejad consistently held throughout the counting over his closest rival Mir-Hossein Mousavi, and the huge turnout were among developments that shocked many Iranians and outside observers. Massive street protests, a heavy-handed police crackdown, and an appeal by Mousavi to the Council of Guardians to have the election annulled are part of drama.

• Iran’s rulers moved rapidly to cover cracks that appeared in their ranks during an unusually heated election campaign. Ahmadi-Nejad’s overwhelming "victory" at 62.6 percent and Khamenei’s enthusiastic endorsement of the results abruptly ended the notion that Iran was on the verge of momentous change through the electoral process. Khamenei’s subsequent support for an inquiry seeks to defuse a tense situation.
• The election exposed a newly polarized Iranian society. In the short term, and barring unforeseen events, a gradual normalization of the situation is likely. Expect the regime to try to defuse the situation and a firm, if not greatly changed policy line, to emerge. But the extensive use of force cannot be excluded.
• Ironically, Ahmadi-Nejad’s victory might improve the chances for a dialogue on the nuclear issue from an Iranian viewpoint. The clampdown and related events, however, make negotiations with Iran hard to sell in the United States, which, along with other major powers, is trying to strike a bargain with Tehran. In any case the consensus in Iran on its right to master nuclear technology is not about to change.

ECONOMIC TURMOIL PUTS UTILITIES UNDER PRESSURE

The 2009 economic downturn has proved to be the most challenging since World War II both globally and in Europe. While the power sector is less exposed to the economic contraction than most industrial sectors, it is not a safe harbor. Both competitive market operations and regulated activities face challenging times throughout 2009:

• The pendulum shifts toward more government involvement. Cash-rich utilities are an easy target for financially stretched states. Regulated activities will likely face hard rates and tariffs negotiations with governments hoping to relieve pressure on consumers and to fund economic stimulus packages.
• Consumption decreases in 2009; overcapacity looms. IHS CERA expects European power demand to contract by 2.5 percent in 2009. As plants under construction continue to come online, overcapacity will emerge in most Western European countries. In Eastern Central countries reserve margins will hover around current levels.
• Utilities revenues squeezed. Emerging overcapacity combined with fuel and carbon price declines will reduce power prices and generation margins. In the retail sector, both retail prices and consumption will decline.
• A power investment hiatus set. Utilities are reassessing investment plans to reduce capital spending, while power plants capital costs have shown the first sign of decline. This double whammy may lead to a pause in generation investments.
• Financial strength matters most. Cost of and access to capital will differentiate winners from losers. Well capitalized companies will be able to invest in opportunities—internal or external—inaccessible to others, gaining a long-term competitive edge.

GLOBAL ENERGY CONFRONTS SHIFTING DRIVERS FOR RECOVERY

Global energy markets face the worst economic recession in six decades, and the impact on energy demand has been startling. Recessions do end, however, and the recovery is expected to be evident later this year. By the end of 2010 the post-recession world will become clearer. Three issues will influence the recalibration of energy investments:

• The pendulum swing toward government intervention will take time to reverse. One casualty of the current economic crisis is a loss of confidence in markets. In the power sector deregulated markets are being re-regulated. Governments are influencing markets through stimulus packages and regulations, striving to create domestic jobs while steering energy consumption toward lower-carbon fuels and improving efficiency through direct intervention in critical industries such as the automotive sector.
• Excess capacity in oil, gas, and power is likely to linger. Energy demand is unlikely to recover sufficiently to work off excess capacity for several years. The global oil market is well supplied at a time when the global auto industry is moving toward more fuel-efficient cars. In natural gas the excess capacity is most visible in the liquefied natural gas market. Changes to power demand drivers are already evident in many parts of the world, largely the result of a combination of the recession and stronger government rules.
• The drive to reduce carbon emissions will continue. Improving energy efficiency has become a global mantra, evidenced by its support in all government financial stimulus packages. Close behind energy efficiency is the effort to increase renewable energy sources—to meet climate change and energy security objectives, and to create new jobs. The initiative is currently stalled as renewable energy projects lack access to credit and are not competitive with lower fossil fuel prices. However, "green shoots" are evident in both developed and developing economies.

THE WINDING PATH TO LOW-COST CLEAN TECHNOLOGIES

The climate change debate has shifted from questions about climate science to the timing and scope of specific policies and the cost of reducing emissions. Today, the problem is understanding the long-term cost trends in carbon abatement technologies. This analysis examines the key factors driving the long-term cost trends for three important abatement technologies: carbon capture and storage (CCS), onshore wind, and solar photovoltaics (PV).

• The technologies show significant potential for cost reductions over the next 20 years. A number of important factors including research and development, learning by doing, economies of scale, and level of competition within an industry can lead to significant cost reductions.
• Future cost trajectories will be driven by a mix of technology-specific factors. CCS costs are driven by technology improvement and changes in non-fuel commodity prices. The most important factor for wind is siting. Technology improvements are the primary driver of solar PV cost reductions.
• Expect increases, not decreases, in the cost of clean energy technologies at the start of stringent climate change policies. In periods of increasing demand, supply chain bottlenecks exert upward pressure on prices and create delivery delays as the demand for a technology outstrips the short-run supply. All three technologies are susceptible to significant cost increases, though the length and magnitude of these cost increases will differ.

IS THE OIL PRICE RALLY SUSTAINABLE?

Since March equity markets around the world have rallied, and crude oil prices have followed suit despite bearish oil demand and supply fundamentals. An important component of the crude price rally is based on the anticipation of a quick and strong economic recovery, and thus an increase in global oil demand. Our economic outlook is more cautious. We expect modest improvement in late 2009. IHS CERA projects West Texas Intermediate (WTI) prices to average $57 in third quarter 2009 and $55 for the year. We expect the recovery to advance in 2010, supporting average WTI prices of $65 per barrel.

• Oil prices are expected to retreat back to the high $50s during the summer as the US dollar strengthens from recent lows. In addition, despite a modest recovery in oil demand, we anticipate a slow drawdown of global inventory levels as OPEC production rises.
• Global oil demand is expected to increase by 1.2 mbd in the second half of 2009 relative to the first half. For the entire year, however, we project that world oil demand will shrink by an estimated 2.0 million barrels per day (mbd). OECD countries are expected to account for 1.8 mbd of this contraction, with most emerging markets declining as well. Small pockets of growth are expected in the Middle East and China.
• OPEC compliance with pledged output cuts of 4.2 mbd has been slipping and is currently estimated at 66 percent. OPEC is attempting to sustain compliance in coming months and hopes for continued upward momentum in the oil price before eventually sanctioning higher output targets.