5 Reasons No One Gets Long-Term Energy Forecasts Right

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Source: Thinkstock

Looking back at long-term energy forecasts from the early 00′s, it’s astounding just how much analysts got wrong – or perhaps more accurately, how little they got right.

Policy analyst and scientist, Vaclav Smil, who currently serves as Professor Emeritus of the Environment at the University of Manitoba has long criticized long-range energy forecasts. “Long range energy forecasts have missed every important shift of the past two generations,” Smil noted in a 2000 analysis of long-range energy forecasts since the 1970′s. “No truly long-range forecast can be correct in all of its key aspects; most of the forecasts will be wrong in both quantitative and qualitative terms,” Smil added.

It’s worth noting that long-range energy forecasts are a relatively new phenomenon, with the first of such forecasts appearing merely a generation or so ago, during the oil crisis of the early 1970s. Since the beginning, they’ve never been the most accurate, and even the analysts responsible for energy forecasts will admit that long-term predictions are often off base. One expert went so far as to call them “no better than fairy tales.”

But because energy prices can have such a profound impact on consumers, when analysts make predictions about the future state of energy, people are bound to listen even if the reality turns out to be far different from what was initially predicted, and unfortunately, long-range energy forecasts can have a big impact even when they aren’t accurate.

So why do long-term energy forecasts fail? Why are energy experts stumped by long-range predictions? We offer five reasons cited by both analysts, such as the Energy Information Administration (EIA) and scholars alike.

Source: Thinkstock

Source: Thinkstock

5. International relations: where a fuel comes determines its price

Because much of America’s oil comes from abroad, gas and fuel prices are often dependent on the whims and policies of other nations; analysts are largely incapable of predicting these regions’ future policy decisions, and as a result, their long-term energy forecasts are often skewed, or at times, wildly off base.

As an example, a recent report in the Journal of Energy Security notes that in the early 2000′s, forecasters failed to predict the end of cheap conventional oil, partially because analysts didn’t adequately take into account that more and more of America’s oil may be coming from more technologically challenging and expensive sources (such as ultra-deep waters, tar sands, ‘tight’ oils, etc.) as conventional sources became more and more exhausted. Oils from these more challenging sources are much more expensive to produce, and as a result, we’ve certainly seen a dramatic rise in prices in the past decade or so.

Fuel prices are also often the result of strategic political choices which analysts rarely have the ability to predict. Yetiv and Field call these “black swan events.” They add, “black swan events in the geopolitical arena are hard to predict and yet can have a huge impact.” For instance, the 1973 Yom Kippur Arab-Israeli war and Arab oil embargo was a “tipping point nobody had really foreseen,” and, more recently, incidents such as the 9/11 attacks of the Great Recession that began in 2007 are both examples of events which effectively “came out of nowhere,” to drastically affect energy prices.

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Source: Thinkstock

4. Faster/slower economic and energy demand growth

Much of the reason for the inaccuracy of long-term energy forecasts has to do with unforeseen factors, and often, those factors are nearly impossible to predict. One of those factors has to do with economic growth; and as this report from the Journal of Energy Security notes, speculation, more specifically, is often at the root of many missteps and failures when it comes to long-term energy forecasting.

“Markets go up and down, sometimes based on much more than economics, such as speculation and psychology in buying and selling bubbles,” the report, authored by Steve Yetiv, a professor of international relations at Old Dominion University, and Lowell Field, a former senior energy analyst at the U.S. Department of Energy, noted.

According to Yetiv and Field, the fact is: oil production is an industry shrouded in uncertainty and trends are very difficult to predict, and “we do have evidence that speculation is in play in oil markets, contrary to what many economists argue,” they add, noting that the “projected trends in oil production vary tremendously in the alternative cases, and those trends hold important implications for the United States.”

Source: Thinkstock

Source: Thinkstock

3. Changing policies and regulations and changing consumer preferences

Environmental and energy use policies expire, or experience their respective “sunset dates,” fairly frequently. Because there are so many policies which affect the outlook of a long-term forecast, analysts’ actually have to prepare alternate outlooks for various different policy outcomes or “cases,” depending on which policies may stay or go in the next few years or decades.

Policymakers also significantly influence energy analysts, who in turn significantly influence policymakers. To explain: analysts often feel pressure to make optimistic predictions because, as Yetiv and Field point out, “it may be politically uncomfortable to forecast price spikes.”

As a result of this cycle of influence, politicians are making important decisions based on inaccurate forecasts, and those decisions eventually (and inevitably) affect investors and consumers alike. It’s for this reason that analysts must work to change how long-range forecasts are created, so that policymakers can have the best information possible on which to based their decisions. Yetiv and Field, for one, claim that “we should give greater weight to qualitative analyses than to predictive models,” if we are to increase the accuracy of long-term forecasts, and therefore, improve policies.

It’s also difficult for analysts to ascertain consumers’ future preferences and how the public will influence energy usage in the future. Yetiv and Field point out that this challenge is likely the reason why the EIA (Energy Information Administration) missed the decline in coal use. The agency wrongly estimated stronger, new emissions for U.S. coal-fired power plants, but because of the environmental hazards associated with coal use, public opinion largely favored other forms of energy.

Source: Thinkstock

Source: Thinkstock

2. Analysts “run in packs”

Partially because of the pressure placed on energy analysts by policymakers, the group as a whole tends to “stick together because they are sensitive to being criticized.”

No energy analyst wants to be an outlier. First, as Yetiv and Field note, “it may be politically uncomfortable to forecast price spikes,” meaning that politicians often indirectly influence analysts in a more…optimistic direction. Second, if an analyst takes a chance and fails, “they could risk their careers,” whereas, in contrast, “if they’re wrong, but everyone else is too, they can all stay safe with the herd.”

In 2005, almost every analyst, Yetiv and Field note, was predicting 2010 oil prices around $20 or $30 a barrel, while the actual price per barrel of oil in 2010 was closer to $80. Furthermore, not a single forecaster predicted prices over $100 a barrel in the forecasts for 2015, and yet today prices are already hovering over the $100 mark – instead, analysts estimated 2015 prices closer to around $25-30 a barrel. Energy analysts, it seems, are a tightly knit herd.

Source: Thinkstock

Source: Thinkstock

1. Faster/slower technology progress/ technological breakthroughs

Another factor that is largely out of analysts’ control but is perhaps especially relevant now and overf the past few decades is technology, including breakthroughs and the rate of technological progress. One of the main challenges of long-term energy forecasts is that analysts predictions are based on previous trends and events, as well as current technology and what those technologies can accomplish. As a result, long-term forecasts are often inaccurate because they’re unable to take into account improved technology.

Unforeseen new technologies have explained the boom in natural gas fracking in the U.S., a trend which has contributed to the increasing rate of natural gas exports. “North America is now roughly self-sufficient in natural gas,” Yetiv and Field found, though a previous EIA report had predicted the opposite; the EIA, the researchers found, “completely missed,” the natural gas fracking boom.

Other, more indirect technological breakthroughs can also have an affect. For instance, a recent outlook report from the EIA noted that the rise of social media could be a contributing factor to the decrease in youth driving rates.

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