Peak Oil is You
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Page added on December 14, 2012
Oil in for a crude awakening
This morning, the price of oil, West Texas Intermediate crude, is around $US86.00 a barrel. That’s a hefty 10 per cent lower than where it was at the start of 2012 and 40 per cent down from the 2008 peak. It is no exaggeration to say that a crash in the oil price could be around the corner for good old-fashioned supply and demand reasons.
While no one is suggesting that the oil price will crash to $US10 a barrel – the level that The Economist magazine boldly predicted a little over a decade ago – a sharp fall in oil prices over the next couple of years is compelling.
The reasons are straightforward. There is about to be a boom in energy production capacity and output, which will in time massively increase supply. This, along with the growth in non-oil energy alternatives, will keep downward pressure on oil prices – plain and simple. It is also likely that the US will be self sufficient in energy within a couple of decades, a factor that will inevitably hit oil prices hard (The death of peak oil, February 29).
Before looking at the current oil price outlook, let’s turn back the clock to 1999. The heads of oil giants Royal Dutch Shell and BP-Amoco outlined business plans that assumed a $US14-a-barrel oil price for up to the next five years. This was, as it happened, to be around where the spot price was at the time the plan was made.
In a feature article discussing the oil price outlook, The Economist was more pessimistic with a suggestion the price was headed for $10 a barrel. It mused, “US$10 might actually be too optimistic. We may be heading for US$5.” The story went on to say that “a ‘normal’ market price might now be in the $US5-10 range. Factor in the current slow growth of the world economy and the normal price drops to the bottom of that range.”
These predictions were extraordinarily wrong, with the price trending to $US30 by 2003, $US60 in 2005 and 2006, skyrocketing above $US140 a barrel in 2008 before it settled in a broad $US80-100 range in the past few years.
The direction of the error may just be timing.
In the last few months, the oil price has settled around $US85 to $US90 a barrel even though the strengthening green shoots of economic recovery in the US and China are ending 2012 on a more positive note. The weak US dollar has also helped to keep the price of oil higher than it would otherwise be.
The oil price should be trending up, not sideways to down, in these circumstances. Indeed, The Economist magazine’s error over a decade ago was a failure to anticipate the lift in demand from China but even this positive influence appears to be waning.
The reason for the oil price softness is slowly but surely being revealed. Oil and gas production is booming globally but particularly in the US to the point where just last month, the International Energy Agency projected that “extraordinary growth in oil and natural gas output in the United States will mean that … the United States becomes a net exporter of natural gas by 2020 and is almost self-sufficient in energy, in net terms, by 2035.”
Think of that scenario – the US becoming self sufficient in energy. The implications for non-US oil producers is huge. The disappearance of the world’s biggest market can only have one implication for prices and that is down.
There are a couple of ways non-US producers may deal with this problem. To maximise profits and revenue in the short term they can crank up production before US self sufficiency comes into play. Or they could hold back production with the aim to keep a floor under prices, but further out, this would leave excessive reserves when demand tapers off. Either way, it spells a price decline.
That said, there is still a logical floor for oil prices – the cost of production. According to the EIA, the average cost of production is lowest in the Middle East at around $US17 a barrel, with a global average around $US25 a barrel. This suggests the low will be a little above that, barring a demand free-fall. In the US, the cost of production is in the mid $US30 range, all of which suggests a level as low as $US40 is possible.
Add to that the tepid growth phase of the global economy and price trends should be down.
It is prophetic, perhaps, to close on what The Economist was saying in 1999: “Nor is there much chance of prices rebounding… the Saudis may now do what once would have been unthinkable: throw open the taps. That, according to McKinsey, a management consultancy, would certainly herald an era of $5 oil.”
11 Comments on "Oil in for a crude awakening"
Dave Thompson on Fri, 14th Dec 2012 3:00 am
Only the future will tell for sure. In the meantime this sounds a bit to optimistic.
Plantagenet on Fri, 14th Dec 2012 5:47 am
When US oil companies and OPEC countries both need $80/bbl oil just to break even, its a little hard to imagine how oil might collapse down to $40/bbl, as this article suggests.
BillT on Fri, 14th Dec 2012 7:11 am
Planet, it cannot. The name at the end tells it all. This is a propaganda piece to find suckers to invest in their ideas. Oil companies are losing investors as older people are retiring and selling stock and no new buyers are stepping up to the plate. Oil exploration takes billions annually to survive.
This WTI number is only good for a few old oil fields in the US. The newly accepted world price is Brent at $109.44 today. THAT is the price most oil is sold at, including that which we import, or most of our oil.
“… the United States becomes a net exporter of natural gas by 2020 and is almost self-sufficient in energy, in net terms, by 2035.” That can only happen if the US economy totally collapses and there is zero demand.
Arthur on Fri, 14th Dec 2012 8:05 am
Prices at the pump are down here as well from alltime high 1.90 to 1.72 euro per liter.
Cloud9 on Fri, 14th Dec 2012 11:31 am
Demand destruction. We just had another million souls go on food stamps.
Sudhir Jatar on Fri, 14th Dec 2012 1:36 pm
1. There is a break-even for Saudi Arabia, which appears to be around US$70/b.
2. Saudi will do its best to keep prices at a minimum of US $ 90-100 by curtailing supply as it is still, to my mind, the ‘swing producer’ having overtaken Russian production recently.
3. In other words Saudi will get desparate if the price falls below US$70/b.
4. Saudi can sustain a price of US$60 for a few years only given their large reserves and surplusses but would do every thing in its power not to allow prices to drop below US $ 70/b.
5. As Peter Fragiskatos says, “Even more important is the oil factor. As the world’s largest oil exporter, the Saudi state has been able to bribe its people with a variety of benefits in exchange for their obedience. The reaction to the Arab Spring is only one example of the sort of policies that has helped quell any potential uprising over the years. Following the ouster of Ben Ali in Tunisia and Mubarak in Egypt, Saudi leaders announced a $130-billion spending package that would be used to raise the salaries of government employees – most employed Saudis work in the public sector – and build 500,000 homes for the poor.”
6. The US is certainly not reducing its dependence on Saudi oil. One should consider my submissions before jumping to the conclusion of a price drop to US$50/b.
DC on Fri, 14th Dec 2012 1:40 pm
LoL!
Q/. It is also likely that the US will be self sufficient in energy within a couple of decades,
The last time the US was self-sufficent was in the 1940’s. Like Bill says, the only that is going to happen again is if demand completely craters to say Somalia level. While the statements made above are ludicrous, they may actually turn out to be true, just not in the way the oil pimps think. Every person pushing this tripe just assumes the US will be ahem, self-sufficent while the US continues to consume something in order of 20mbpd, or even higher. in 2020, or 2030 or whenever. Its pretty safe prediction to make too, since talk is cheap and nobody will remember what these guys said in 2012 anyhow. Its all designed to create waves of reassuring calm, *now*, these guys dont care one bit what 2020 will actually be like.
ken nohe on Fri, 14th Dec 2012 1:50 pm
This article display an extraordinary economic and financial level of ignorance of market mechanisms. What make a price is not the lowest available product but the highest “marginal” one as it is obvious that whoever produce at a higher price than the market price will stop production in short order, reducing supply and raising prices. It cannot be otherwise.
Understanding this explains why a crash of the market by a sudden glut would quickly drive out a large part of the “new” oil out of the market and would therefore be very short lived. In the long term all the new fields can only slow down the rise of prices but won’t delay much peak oil. The CEO of Total believes that we will peak around 98 million barrels per day, about 10% above the current level of production and that the peak will last a little longer than expected. He is probably right give or take a couple of million barrels.
I personally believe that contrary to the opinion of many people, we will notice when we approach peak oil as prices volatility increases… or are we there already?
BillT on Fri, 14th Dec 2012 1:52 pm
As mentioned above, most of these articles zero in on one fairy tale…that there is plenty of cheap oil out there just waiting to be tapped.
And then there is the Middle East fuse that has been lighted and is burning towards an explosion, and the fact that most of Asia is still growing at 6% plus and happens to have 1/2 of the world’s population, many millions of whom are buying their first car every year and don’t mind $5 gas. And then there is Russia, Venezuela, Brazil, etc. All need expensive oil to keep the pumps going and prevent the destruction of the oil fields and their governments/dictatorships. But,ignore the facts and dream on…
Kenz300 on Fri, 14th Dec 2012 4:01 pm
China and India are the driving force in oil prices and increasing demand. Their economies contine to grow 6-8% a year demanding ever more oil.
Unless those two economies suddenly stop growing the demand for will continue to grow along with the price.
Too many people meets too few resources with badresults for many and the world.
autonomous on Fri, 14th Dec 2012 7:04 pm
Not to mention other factors that influence oil prices, like QE:
The previous two rounds of QE resulted in higher oil prices. With the open-ended QE3 some experts are now more bullish on crude than they had been for previous rounds of QE.