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POLICY PERSPECTIVE

by Joe Calnan
May 2024

Table of Contents

• Introduction
• Oil Demand Peak Forecasts – How Certain Are We?
• Putting Declining Oil Demand in Context
• Is Canadian Oil Vulnerable?
• The Impacts of Oil and Gas Deindustrialization
• The Oil and Gas Emissions Cap
• Conclusion and Policy Takeaways
• About the Author
• Canadian Global Affairs Institute

Introduction

As the world looks to limit fossil fuel consumption, there is rising concern that the Albertan and broader Canadian economy may be victimized by global trends away from fossil fuels, emulating the deindustrialization of the American Rust Belt. The economic impact of deindustrialization in Alberta could come with significant social and political consequences for Canada. The fear is that oil demand will fall soon and sharply, bringing about rock-bottom prices which initiate a rapid and catastrophic collapse of Canada’s oil industry.

Given the inherent uncertainties in the complex interaction between oil supply and demand, believing that the Canadian oil industry is going extinct relies upon a tenuous array of pessimistic assumptions. While rapid oil demand decline is possible, sharp absolute declines in the global consumption of any form of energy are unprecedented in history. When it comes to a substance as adaptable and multifaceted as oil, this outcome is improbable.

We could nevertheless see a substantial tapering of oil demand as some use cases are electrified. In this scenario, global oil prices may be depressed as the industry consolidates around a new outlook. While the Canadian oil industry has a reputation for high average costs and high carbon emissions intensity, there is evidence that the major oil sands projects are far more resilient than some contend. The frontloading of capital expenditures in the oil sands enables these operators to remain profitable even at low prices.

A future of continued robust oil demand may cause mixed feelings for Canadians. Avoiding deindustrialization in the oil and gas industry is a major positive for the health of the Canadian economy. However, a world that continues to burn oil for energy will likely be one that misses its climate targets. Policies to reduce Canada’s emissions are warranted.

Canadian policy to reduce emissions from oil and gas should endeavor to reduce emissions without causing unnecessary economic harm. Competitiveness is a major concern for Canada’s oil and gas industry. Punitive policies like the proposed Federal oil and gas emissions cap could unnecessarily reduce the industry’s competitiveness during the energy transition. This policy creates headwinds by subjecting it to unfair industry-specific carbon pricing. Without a course correction, Canada risks carbon leakage as investment is directed to oil production in other countries.

The Government of Canada’s best move would be to scrap the cap and gradually raise the Greenhouse Gas Pollution Pricing Act’s carbon pollution pricing benchmark in line with a well-defined social cost of carbon out to 2050. This should provide strong incentives for Canada’s oil and gas industry to meet emissions targets while allowing the industry to remain internationally competitive.

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Oil Demand Peak Forecasts – How Certain Are We?

The concept of “peak oil” has a long history. For decades, analysts predicted taperingoil supply growth, based on assumptions about the size of remaining reserves and the development of new production technology. Today, “peak oil” forecasts call for an imminent peak in oil demand based on assumptions about climate policy, global economic growth, and rising oil consumption efficiency. Different assumptions result in widely divergent expectations of oil demand over the coming decades. The table below shows oil demand growth forecasts from the world’s foremost energy organizations, the United States’ Energy Information Administration (EIA), the OECD’s International Energy Agency (IEA), and the Organization of the Petroleum Exporting Countries (OPEC).  The three organizations cannot agree on the headline level of oil demand through to the end of 2024, let alone 2035 or 2050.

Larger discrepancies are present in long-term scenarios. IEA’s 2023 World Energy Outlook benchmark Stated Policies Scenario predicts that oil demand would reach a maximum level of 102 MMbpd in the late 2020s, with demand declining to 97 MMbpd by 2050. Conversely, the base case scenarios for the EIA’s International Energy Outlook and OPEC’s World Oil Outlook do not forecast oil demand peaking. The IEA’s Monthly Oil Market Report team now predicts average demand of 102.94 MMbpd in 2024, well above the 2023 World Energy Outlook’s 102 MMbpd peak.

Private forecasters have developed their own long-term scenarios for global oil demand in the coming decades. Rystad Energy’s mean scenario from its Long-term Oil Macro Scenarios Report sees global oil demand plateauing at around 105 MMbpd between 2025 and 2030, slowly declining thereafter to around 65 MMbpd by 2050. Wood Mackenzie’s Base Case forecast from its Energy Transition Outlook 2023 report sees oil demand peaking at 108 MMbpd in 2032, falling to 90 MMbpd by 2050. S&P Global Commodity Insights predicts oil demand plateauing in 2031 around 111 MMbpd, with demand falling from 2039.

The wide divergence in these public and private outlooks demonstrates the inherent uncertainty of energy’s future. Differing assumptions about technology, politics, and economics drive enormous discrepancies in outlook. As Yogi Berra once said, “it’s tough to make predictions, especially about the future.”

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Putting Declining Oil Demand in Context

In February 2024, Rystad Energy CEO Jarand Rystad explained the case for declining global oil demand. In his view, there are twelve general oil consumption segments. Seven of these (power generation, buildings, agriculture, rail, industry, buses, and personal vehicles) are “probably already past their peak levels and in structural decline”. According to Rystad, only three oil consumption segments – aviation, petrochemical, and other non-energy uses such as asphalt – are anticipated to see long-term structural growth.

Temporary periods of declining oil demand have occurred several times since 1965. A structural decline in oil intensity of GDP began during the oil shocks of the 1970s, dramatically altering the global energy mix. Despite the global economy’s increased efficiency, total oil consumption has not declined. Increased efficiency in oil consumption was accompanied by expanding economic activity and rising standards of living. The upward trend in economic growth will likely require oil in key economic roles long into the future.

As we can see in the chart above, the relentless tide of global economic growth has allowed total oil consumption to grow at a steady pace even as efficiency improved, a phenomenon known as the Jevons Paradox. After the oil shocks restricted global supply, high-volume, low-margin uses of oil such as electricity and heating were hit the hardest, with scare supplies directed toward higher value uses like travel, freight transport, and petrochemicals. While Rystad is correct that oil is in structural decline for buildings, electricity, and industry, the lion’s share of this decline occurred from 1973-1990, with only modest efficiency improvements since.

Road transportation case use for oil is vulnerable to a shift to electricity. Dramatic efficiency improvements in the form of battery electric vehicles will likely result in a shrinking share of oil in road transport energy demand over the coming decades. In a report released in 2023, the IEA argued that the rollout of hybrid and electric vehicles could avoid the need for 5 MMbpd of oil by 2030. Given that road transportation currently accounts for around 40 per cent of global oil consumption, the effect of battery electric vehicles on patterns of oil use will be extensive.

Oil has faced many previous disruptions to its end-use markets. The first commercial use of oil was for kerosene lamps replacing whale oil in the 1860s and 1870s. This would not last - in the late 19^th to early 20^th century, the kerosene market was annihilated by light bulbs and electric utilities. Meanwhile, a byproduct of kerosene production, now known as gasoline, was tested for early liquid-fueled internal combustion engines. Decades later, kerosene became the primary component of fuels for jet engines, a technology hardly dreamed of when kerosene lamps were being snuffed out.

The history of energy is filled with examples of the replacement of energy dense, flexible, but relatively expensive oil by inflexible, infrastructure-heavy, but ultimately more efficient electrical and natural gas utilities. Even while being replaced, oil has always managed to find new markets, maintaining steady growth in total consumption.

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Is Canadian Oil Vulnerable?

It is possible that faster efficiency gains, slower rates of GDP growth, or a combination of both could result in declining total oil demand starting in the late 2020s to early 2030s. Many concerned citizens argue that Canada's high-cost, carbon intensive industry is vulnerable to being squeezed out. Of particular concern is that prices will fall enough to make continued Canadian oil production uneconomic, leading companies to abandon their Canadian assets.

In 2023, the Canada Energy Regulator (CER) published a new version of their annual Canada’s Energy Future report. In this report, the CER modeled what it would take for Canada to reach net zero emissions by 2050. Among the assumptions for the Global Net-Zero scenario is low and declining oil prices. These price assumptions are borrowed from the International Energy Agency’s Net Zero by 2050 scenario. Under this scenario, the benchmark Brent oil price will fall to $35 per barrel (constant 2022 USD) by 2030, declining further to just $24 per barrel by 2050.

There’s a popular saying in the oil and gas industry that “the cure for low prices is low prices”. When oil production significantly exceeds oil consumption, it causes what is known as a “glut”, which forces prices sharply downwards. Energy producers are then supposed to self-correct with a drawback on investment, eventually reviving prices.

The most significant change in the global oil industry since the 1970s is the rise of American tight oil (often called “shale oil”, but broadly meaning any low permeability oil-bearing rock formations that can be unlocked via hydraulic fracturing). Beginning in the early 2010s, oil companies in the United States discovered a way to extract oil from these low permeability formations, unlocking spectacular quantities of economically recoverable oil. The resulting dramatic increase in oil production resulted in a glut from 2014 to 2019, with accompanying low oil prices. The dramatic rise of American oil production alongside sluggish growth in the decade after the Great Recession had the effect of lowering prices for West Texas Intermediate light crude oil from $100 per barrel in July 2014 to $30 per barrel in January 2016.

There are several major causes for this glut, but the central factor is incorrect expectations about future oil demand and supply. Most energy analysts between 2003 and 2014 believed that oil production growth was peaking, implying higher prices. While worrying about peaking oil production might seem absurd now, it was common knowledge in the early 2010s that the world was running out of oil.

In a book published in 2015 titled After the Sands: Energy and Ecological Security for Canadians, Gordon Laxer of the Parkland Institute wrote about surging American oil production, “the boom is likely overblown and short lived [...] by 2019 it is projected to reach 9.6 million barrels per day, almost equaling its 1970 level. Then American oil production will shrink again, likely quite rapidly.” Laxer was mistaken. American field production of crude oil averaged 12.3 MMbpd in 2019 and reached an average of 12.9 MMbpd in 2023. As of December 2023, 8.4 MMbpd of this production is from tight oil.

What determines future oil prices is not whether global oil demand will decline, but whether demand expectations are too optimistic or too pessimistic. If expectations are too optimistic, then investment in oil production will likely overshoot demand growth, resulting in a glut and collapsing oil prices. On the other hand, if expectations are too pessimistic, then there will be underinvestment and a shortage, causing prices to rise.

What might have changed this dynamic is that tight oil can act as a kind of “relief valve” to quickly respond to price signals. While hydraulic fracturing frees up an enormous amount of oil, production from tight oil wells decline much faster than conventional production. While conventional oil systems have decline rates of about 10 per cent, American tight oil decline rates are 35 per cent.

These decline rates mean that each year, just to keep tight oil production flat at 8.4 MMbpd, the American tight oil industry needs to bring 2.9 MMbpd of new production online. This doesn’t mean that tight oil production is uneconomic. On the contrary, its resilience in the face of shocks shows the inherent adaptability of tight oil to changing economic conditions.

Evidence of the flexibility of tight oil can be seen in the COVID-19 oil price shock. From prices in the low $60s/barrel in January 2020, prices slid to $10-20/barrel by April, hitting an absolute low of –$36.98/barrel on April 20th. In response to these price signals, the number of operating drilling rigs in the United States dropped from 793 in early March 2020 to just 300 by late May, and oil production in Texas alone dropped by 1.2 MMbpd between March and May 2020. The supply response to the pandemic, including the crucial role played by American tight oil, averted a prolonged oil glut.

The lion’s share of production from a new tight oil well is in the first year. As a result, when oil prices fall, producers have a clear picture of whether new investments will be profitable. If they decide that new investment would be unprofitable, oil production drops shockingly fast. Unless oil demand falls faster than tight oil decline rates (i.e. 35 per cent per year), oil prices are likely to be supported.

Unlike the United States, Canada’s oil industry is dominated by conventional oil production and the oil sands. As covered previously, the decline rate on conventional production is much lower than for tight oil, so even though the Canadian drilling rig count fell substantially in 2020, total Canadian conventional oil production did not experience the same rate of decline as the United States. The oil sands are further insulated from temporary price volatility. Accounting for over 65 per cent of Canadian oil production, oil sands projects tap into a nearly unlimited supply of heavy crude oil. The oil sands contain proven reserves estimated at 158.9 billion barrels, or 20.8 billion tonnes. For perspective, the Energy Institute estimates that since 1965, the world consumed a total of 191 billion tonnes of oil.

The major in-situ and mining projects of the Canadian oil sands exhibit no annual decline in production, and in fact often produce more over time as production efficiencies are discovered. These major oil sands projects are more like factories than oil wells – very expensive up front, with slow economic depreciation. And unlike tight oil, they require a minimal amount of additional investment to maintain production.

Depending on one’s perspective on the future of oil, the slow decline rates on oil sands projects are either a strength or a vulnerability. In late March, the Federal Reserve Bank of Dallas released its quarterly energy survey. One of the questions that the Dallas Fed asked American oil producers was, “what WTI oil price does your firm need to profitably drill a new well?” On average, firms said they required $64 per barrel to remain profitable.

If strong evidence builds that global oil consumption will begin to fall, we can expect tight oil producers to tailor their investment decisions to ensure continued profitability. However, the amount of demand shortfall that can be accommodated by tight oil alone is limited. If oil demand falls further or faster, there is a possibility that oil prices will also need to continue falling to force production cuts.

The International Institute for Sustainable Development (IISD) identifies Canada as a high-cost producer which will be squeezed out by declining oil demand. However, the IISD makes the mistake of treating Canada’s oil industry the same way they treat international conventional and tight oil. They do this by comparing Canada with other countries on “breakeven oil price”. The breakeven oil price is an important concept for traditional oil drillers because it informs their decisions on whether investment into an additional well makes sense. However, as covered previously, existing Canadian oil sands projects do not require much additional capital.

Since the investment into these projects is a “sunk cost”, oil sands producers must decide whether oil prices justify continuing production as opposed to whether they justify drilling a new well – a much less risky decision. In a paper released in 2022, University of Calgary economist Kent Fellows calculated the marginal costs of continued operations for Canadian oil sands projects. He found that most production from the Canadian oil sands would continue to be profitable even at low prices.

The nature of oil sands investment provides it with a great deal of inertia – these enormous projects are often able to weather temporary periods of low oil prices because their investment horizon is much longer than either conventional or tight oil producers. For example, while oil sands production growth paused during COVID-19, it hardly declined. The lion’s share of Canadian production curtailment instead came from conventional crude oil producers.

Nevertheless, if oil enters a long-term environment of declining demand and prices, Canada may be vulnerable. Canada has an enormous conventional and tight oil industry, both of which could be mortally wounded by the IEA’s projected oil prices in a Net Zero 2050 world. And even oil sands projects could opt to shut down if the industry cannot maintain its competitiveness in the global oil market.

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The Impacts of Oil and Gas Deindustrialization

Declining Canadian competitiveness in the oil and gas industry could have significant negative impacts on Canada from rising regional unemployment, the loss of important tax revenues, and the collapse of economic interlinkages. Regional deindustrialization is not a new phenomenon in Canada. Manufacturing played a major role in Canada’s economy throughout the 20^th century, concentrated in Southern Ontario. In parallel with the decline of the Steel Belt in the United States, Canadian manufacturing declined as the share of the economy from the 1960s onward.

The manufacturing share of employment in Ontario dropped from a peak of nearly 25 per cent in 1979 to just 10 per cent today. The deindustrialization of Ontario and the broader Great Lakes region is thought to have been caused by declining competitiveness in major industries such as steel, cars, and rubber. Manufacturing industries in the Great Lakes region faced high energy and labour prices alongside stiff competition from more innovative and cost-efficient companies in Europe, Japan, and eventually China.

In 2020, Statistics Canada released a study on the effect of Ontario’s manufacturing sector decline on employment and wages. Studying a period of accelerated decline from 2000 to 2015, StatsCan found that Ontario manufacturing communities were hit hard, with the most severe reductions in employment and wages experienced by less educated men. This conclusion is supported by a new working paper with the National Bureau of Economic Research which finds that deindustrialization causes more severe and longer-term impacts on employment in cities with low rates of university education.

Alberta’s oil and gas employment is vulnerable to a similar shock. As of the 2021 census, the rate of university education (bachelor’s degree and higher) for working age men in Alberta was 27.6 per cent, roughly equivalent to the 26.0 per cent rate of university education of men in Ontario in 2006. In the Wood Buffalo Census Area encompassing Fort McMurray and the oil sands mines, the rate of university education among men is just 17.3 per cent, well below Windsor-based men in 2006. If oil prices settle below what is required for Canadian oil production to be competitive on the world market, these men could face prolonged unemployment.

Direct unemployment caused by oil and gas deindustrialization would be as socially and economically damaging as manufacturing deindustrialization was for parts of Ontario. Between 2001 and 2010, employment in durable goods manufacturing in Ontario dropped by nearly two hundred thousand. For comparison, around 95 thousand people in Alberta are employed in the oil and gas industry (combining oil and gas extraction and support activities for mining and oil and gas extraction). While the oil and gas industry make up a smaller amount of overall employment, it makes up a larger proportion of the labour force in Alberta compared with manufacturing in Ontario. Alberta’s broader economy is also deeply interlinked with oil and gas, like Ontario’s economy was with durable goods manufacturing prior to the decline.

The larger threat may not be from unemployment, but rather the loss of an incredibly productive asset which will be difficult to replace in Canada’s economy. While the effect of this will be most deeply felt in Alberta, its ultimate impact will be spread across Canada.

A rapid collapse of Canada’s oil industry would have immediate impacts on government revenues. In 2022, oil and gas producers paid a total of $46 billion in royalties and income taxes to Canadian federal and provincial governments – around $1,182 per Canadian. Adding income taxes for employees, taxes on dividends from investors, fees on land sales, and property taxes equates to billions more revenue attributable directly to oil and gas production. Both royalties and income taxes are expected to remain elevated as the major oil sands projects enter the “post-payout” royalty status and the industry shifts cash flow away from major new capital expenditure and toward income.

Government revenues from Canada’s oil and gas industry may become more important as Canada faces a crisis of declining productivity. This past March, Bank of Canada Senior Deputy Governor Carolyn Rogers delivered a speech to the Halifax Partnership, where she called attention to this crisis. Productivity measures how efficiently the Canadian economy produces goods and services. In a period of declining efficiency, Canadians will face a declining standard of living, meaning reduced ability to afford adequate housing, food, and healthcare.

The healthcare issue is of note since Canada’s aging population will require a steadily increasing share of employment to be directed to health services. Healthcare productivity is atrocious. Government health services labour productivity is just $41/hour, measured in 2017 CAD. For reference, transportation equipment manufacturing has a productivity of $66.9/hour, and finance and insurance $93/hour. Oil and gas extraction, meanwhile, has a spectacular labour productivity of $387/hour.

Even though not all Albertans are directly employed in oil and gas extraction, a rapid drop in oil and gas employment is likely to have an outsized impact on Canada’s economic sustainability. Albertan labour force productivity has exceeded the rest of Canada for decades because of the extraordinary productivity of the industry. Alberta’s exceptional productivity is the driving force behind higher household incomes, and therefore higher levels of tax revenues collected by the Government of Canada in Alberta than elsewhere. These taxes have allowed governments outside of Alberta to offer more extensive services than would otherwise be possible, for example through equalization payments.

If Alberta’s oil industry suffers a rapid collapse similar to or worse than the collapse of manufacturing in the Rust Belt, it will have significant and far-reaching negative impacts across Canada. Canadian policymakers must therefore consider the international competitiveness of the industry when designing energy and environmental policy.

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The Oil and Gas Emissions Cap

In the 2021 Federal Election, the Liberal Party of Canada proposed to introduce policies to “cap and cut emissions from oil and gas”. This campaign promise was based on the concern that the Canadian economy will miss the emissions targets adopted in the Paris climate agreement, placing the responsibility for most of these emissions cuts on Canada’s oil and gas industry. These new policies could pose a major challenge to the competitiveness of Canada’s oil and gas industry, even as it faces uncertainty about the future of oil demand.

The Government of Canada’s proposed Oil and Gas Emissions Cap (“O&G Cap”) unfairly singles out the industry’s emissions for transparently political reasons.  The additional costs of having to comply with a variety of emissions reduction policies adds another major carbon price exclusively on the oil and gas industry, further reducing the industry’s international competitiveness. Despite this, it is likely that Canada’s oil and gas industry will persevere. However, if conditions for the global oil and gas industry rapidly deteriorate then the O&G Cap could contribute to a deeply unnecessary and damaging deindustrialization of Canada’s oil and gas industry.

Emissions policy is industrial policy. The design of laws and regulations meant to reduce Canadian emissions has a significant impact on the competitiveness of Canadian industries. These rules have a substantial effect on Canada’s oil and gas industry, which is both emissions intensive and exposed to pressures from international markets. Emissions intensive trade exposed sectors like the oil and gas industry are vulnerable to “carbon leakage”, where investment and economic activity shifts to jurisdictions which do not have a carbon price. The current Federal emissions policy integrates these competitiveness concerns. Canada’s Greenhouse Gas Pollution Pricing Act (GGPPA, or “carbon tax”) is designed to consider the risks of carbon leakage while maintaining strong incentives to reduce emissions. The proposed O&G Cap does not.

Under a carbon tax, the price of carbon is meant to closely follow the social cost of carbon – an estimate of the cost borne by society by each additional tonne of carbon emissions. The concept of the social cost of carbon is relatively simple: when a tonne of carbon dioxide is released into the atmosphere, it causes a discrete amount of change to the global climate. The social, economic, and ecological damages associated with this climate change are tallied into a dollar amount representing the social costs of those emissions. Under Canada’s GGPPA, carbon pricing is meant to reflect the social cost of carbon with a steady increase to the excess emissions charge from the current CAD $80/tonne to $170/tonne in 2030.

An explicit concern related to levying carbon taxes on Canadian industrial emitters is the issue of competitiveness and carbon leakage. Only 30 per cent of current global emissions fall under a carbon pricing system, and most of these systems have very low carbon prices. Because of this, the Output-Based Pricing System (OBPS), the part of the GGPPA focused on large emitters (>50,000 tonnes of CO2e per day), is designed to reduce the pressure on trade-exposed industries.

The OBPS works by charging facilities only for emissions above the average emissions for their industry. For a sector at high risk of emissions leakage, this emissions-intensity performance standard is set at 90-95 per cent of the average emissions per unit of output. For example, if a Canadian trade-exposed industry on average produces 100 tonnes of CO2e per unit of output, a factory in that industry which produces 110 tonnes of CO2e may only have to pay carbon taxes for the 15 tonnes of emissions above the performance standard. While this does not eliminate competitiveness concerns, it nevertheless limits the hit to competitiveness while preserving incentives to reduce emissions.

It should be noted that the GGPPA is a backstop for carbon pricing and comes into force only if a provincial industrial carbon pricing system is judged by the Federal government to be insufficient. The Albertan carbon pricing scheme, the Technology Innovation Emissions Reduction Regulation, is also an output-based pricing system which works along the same lines as the Federal OBPS, using the same standards for preserving competitiveness of emissions intensive trade exposed industries such as oil and gas.

The proposed structure of the O&G Cap belongs to a different vision of carbon pricing known as cap-and-trade. A cap-and-trade system emphasizes certainty over future emissions rather than certainty over carbon prices. It does this by setting a limit on emissions from a single jurisdiction or industry, and then allowing economic actors to trade emissions allowances sold by the government. As the regulated jurisdiction or industry comes closer to the emissions cap, the government curtails its emissions allowances sales, driving up the carbon price with the resulting scarcity.

While a carbon tax provides certainty on the price of emissions, a cap-and-trade system provides certainty over the level of emissions. The emission limits inherent to cap-and-trade systems can be arbitrary, risking unnecessary economic damage if speculation on a diminishing pool of emissions allowances drives up the price of carbon to levels far exceeding any reasonable social cost of carbon. This introduces a high level of uncertainty over the expected future level of carbon pricing for emissions intensive industries, risking carbon leakage.

Competitiveness concerns are easily visible in the European Union’s own cap-and-trade system, known as the Emissions Trading System (ETS). The EU ETS emissions allowances are notorious for whipsawing on a day-to-day basis as trading companies, industrial emitters, and speculators try to guess the balance of supply and demand for the allowances. This system has also had surprising consequences. As European emissions intensive industry fled high energy prices following Russia’s invasion of Ukraine, demand for emissions allowances has plummeted, resulting in low prices. This has sparked concern that other major emissions-intensive sectors like electricity could choose to buy cheap emissions allowances rather than reducing emissions.

Further, ever since the EU introduced the ETS, it has perennially worried about industrial competitiveness and carbon leakage. For this reason, the EU regularly added free allocations of new emissions allowances for certain emissions intensive trade exposed industries. In the most recent Phase 4 of the ETS, the EU expanded this policy out to 2030, with “extraction of crude petroleum” listed as one of the sectors eligible for free allocation. The EU has handled the impact of the ETS with extreme care. The ETS looks to be as broad as possible to discover the most efficient carbon price across the EU economy and takes competitiveness concerns for emissions intensive trade exposed industries very seriously.

Much less care is being exercised with Canada’s O&G Cap. The risk of carbon leakage grows when a cap-and-trade system is placed on a single industry, while other emissions intensive industries remain exempt. And this risk is especially great when this industry is already subject to a preexisting carbon pricing system with its own international competitiveness concerns. It is difficult to see how the O&G Cap could be anything other than a move to concentrate emissions cuts unfairly in a single sector, since the effect of stacking these two carbon pricing systems on top of each other will result in much higher carbon prices in the oil and gas industry than for the rest of Canada’s economy.

Rather than trying to find an efficient carbon price, the O&G Cap is explicit in its aim to leverage a higher carbon price on the oil and gas industry than on other sectors of the Canadian economy. In doing so, the O&G Cap will not only hurt the oil and gas industry’s international competitiveness, but also its competitiveness with other industries in Canada. This is overwhelmingly likely to result in carbon leakage as oil and gas production moves elsewhere.

Sticking with the current carbon tax regime embedded in the GGPPA would be much more advantageous for hitting Canada’s emissions targets. A broad-based carbon tax affecting a wide swath of the economy is the most cost-effective method of reducing emissions, as it eliminates the least useful emissions first. Further, the current carbon tax regime is designed specifically with competitiveness, and therefore carbon leakage, in mind. Accounting for carbon leakage ensures that the total economic damage of carbon taxes is minimized while preserving strong incentives for emissions reductions locally and globally.

The Government of Canada’s best move is to scrap the cap and gradually raise the GGPPA’s Carbon Pollution Pricing Benchmark in line with a well-defined social cost of carbon out to 2050. This should provide strong incentives for Canada’s oil and gas industry, as well as the rest of the Canadian economy, to meet our Paris climate agreement emissions targets.

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Conclusion and Policy Takeaways

Canada should concern itself with the possibility of declining oil demand. If oil demand declines, then Canada’s oil and gas industry could be faced with a very competitive market for the remaining demand. For this reason, we should avoid punitive policies on Canada’s oil and gas industry that will hamper its international competitiveness. The assumption that Canada’s industry will collapse from a downward trend in oil demand relies upon a set of highly negative and uncertain assumptions: that global oil demand will quickly decline; that this decline will result in low oil prices; and that Canada’s oil and gas industry will not be able to sustain these low prices. These assumptions are highly speculative and are not a reasonable basis for sound public policy.

Should we prepare for the possibility that Canada will lose employment, government revenue, and general prosperity from the decline of Canada’s oil and gas industry? Yes. Contingency plans should be considered to manage the possibility that a major segment of Canada’s wealth could be impaired. But this planning should be considered alongside other major risks to Canadian prosperity in the 21^st century. The rise of artificial intelligence, the possibility of a hot war between China and the United States, and the impacts of a Trump Presidency on globalism are all major economic risks for which Canada should plan. An absurd focus on handicapping one of Canada’s strongest industries will not help us face any of these risks.

Canada should not reduce the international competitiveness of our oil and gas industry. The upcoming decades may be a complicated time in the balance between oil supply and demand. While Canada is by no means a “high-cost producer”, it may be challenged if market difficulties are combined with a punitive carbon pricing system. For this reason, the Government of Canada should abandon its proposed Oil and Gas Emissions Cap and rely upon the more well-designed Greenhouse Gas Pollution Pricing Act to reduce emissions.

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About the Author

Joseph Calnan is the Energy Security Analyst and Energy Security Forum Manager at the Canadian Global Affairs Institute. He graduated from the University of Calgary's School of Public Policy with a Master's Degree in Public Policy in 2020. He received a Bachelor of Arts in Western Society and Culture from Concordia University in Montreal. Prior to joining CGAI, Joseph worked as a CEO's Office Intern with Sustainable Development Technology Canada. Joseph has also worked as an intern and in short-term contract positions with various firms involved in Alberta's energy industry, including Canadian Natural Resources Limited, Rocky Layman Energy Inc., and Marvin Shaffer and Associates.

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Canadian Global Affairs Institute

The Canadian Global Affairs Institute focuses on the entire range of Canada’s international relations in all its forms including trade investment and international capacity building. Successor to the Canadian Defence and Foreign Affairs Institute (CDFAI, which was established in 2001), the Institute works to inform Canadians about the importance of having a respected and influential voice in those parts of the globe where Canada has significant interests due to trade and investment, origins of Canada’s population, geographic security (and especially security of North America in conjunction with the United States), social development, or the peace and freedom of allied nations. The Institute aims to demonstrate to Canadians the importance of comprehensive foreign, defence and trade policies which both express our values and represent our interests.

The Institute was created to bridge the gap between what Canadians need to know about Canadian international activities and what they do know. Historically Canadians have tended to look abroad out of a search for markets because Canada depends heavily on foreign trade. In the modern post-Cold War world, however, global security and stability have become the bedrocks of global commerce and the free movement of people, goods and ideas across international boundaries. Canada has striven to open the world since the 1930s and was a driving factor behind the adoption of the main structures which underpin globalization such as the International Monetary Fund, the World Bank, the World Trade Organization and emerging free trade networks connecting dozens of international economies. The Canadian Global Affairs Institute recognizes Canada’s contribution to a globalized world and aims to inform Canadians about Canada’s role in that process and the connection between globalization and security.

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