Cheap Oil + Carbon Tax: Good for Supply Chain and the Environment

By happy coincidence I was in Houston meeting with the CPO of one of our energy sector members this week when news broke that the governor of the state of Nebraska had approved a route for the hotly debated Keystone XL pipeline, designed to carry crude oil from the Alberta tar sands in Canada to the US Gulf coast for refining. Coming within hours of President Obama’s explicit commitment to address climate change in his second term, this announcement set up a battle royal over the politics, economics and science of oil – arguably the most important single commodity feeding our global supply chains.

Oil impacts not only transportation costs, of course, but also feedstock prices for a whole range of petrochemicals that end up in everything from electronics to diapers. As such, the discussion about the impact of oil prices on supply chain strategy swirl regularly around tactics such as network design, commodity price hedging, and manufacturing engineering. The past 10 years were all about the new reality of permanent oil price volatility, and hence the need for flexible supply chains.

This sounds right in theory, and agility is always good, but as we saw in our recent S&OP research flexibility has costs, including inventory, capacity and logistics expense. If we had our way, we’d prefer predictability, and so would our customers. Keystone will provide this, at least in North America.

Many years ago, Keith Harrison, the former Chief Product Supply Officer of Procter & Gamble, approached me and Tony Friscia at AMR Research about studying the “crumbling infrastructure” supporting US manufacturing. The premise, supported by the National Association of Manufacturers where Harrison served as a board member, was that we needed federal support of regulation or policy that would help industry with two critical areas: transportation networks and chemical manufacturing capacity. Our findings, which were good enough to merit an appearance on CNBC’s Squawk Box TV show, said that the US was, in the words of anchor Becky Quick, “hosed”.

Keystone would help. By adding substantial supply to the system, and from a very reliable partner (Canada), this pipeline would remove volatility upstream in this vital input. Interesting also that in our latest SCM World live webinar earlier this week, Ric Deverell, Head of Commodities at Credit Suisse, called out the fact that oil appeared to be “range bound” between $100 and $110 a barrel – the exact opposite of volatile. Deverell also believes that the longer-term trend for oil prices is down, due in large part to the coming on-stream of “non-traditional” sources like tar sands and shale oil. The combination of these new sources and a state-of-the-art transmission system would mean that North American supply chains could count on low and stable oil prices for years to come.

Oil and climate change: a resource puzzle

But back to Obama and climate change. I, for one, think climate change is not only real but flat out terrifying. After reading the scariest (albeit unfairly demonising) article you’ll ever find on the topic last summer, I ran around shutting off lights and cancelling unneeded car trips for months. We absolutely must address this issue, but not by shutting down Keystone, nor by trying to outlaw the oil industry.

My column last week was about the Earth’s Balance Sheet and Nestlé’s ideas about sustainability. Operations EVP José Lopez laments the fact that water is being wasted around the world because of broken (or non-existent) pricing mechanisms for this vital, but largely communal input. The best way to get business to use resources carefully, he argues, is to price them appropriately. True for water, true for carbon.

Carbon taxing would give everybody, consumers included, an incentive to consume wisely. It would also give businesses the economic rationale to design supply networks that optimise how we spend the de facto global budget we have for carbon emissions. For those of you actively designing supply networks right now, I am confident that you could develop the algorithms and models needed to keep everything running, while steadily reducing carbon emissions, as long as you had hard figures, like a tax, on your variables.

If President Obama refuses to allow Keystone to feed the gulf, Canada will simply pipe it over the Rockies to the Pacific where the main customer will be China. If one accepts the inevitability of tar sands development, then the question isn’t whether these hydrocarbons will get out, but whether they’ll show up in Texas or in China. It seems to me the damage would be worse if we ended up shipping all of this oil halfway around the world.

The best basis for attacking this puzzle, in my opinion, is a stable continental platform for supply chain innovation that maintains economic growth while adjusting to the reality of cheap oil, but expensive carbon.

Bring on Keystone.

Please contact me directly with any comments, questions or suggestions. I welcome your feedback.

Kevin O’Marah
Chief Content Officer
SCM World

Please contact me directly with any comments, questions or suggestions. I welcome your feedback.

Author Kevin O'Marah

Chief Content Officer, SCM World

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