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Page added on February 3, 2014
Oh no! The oil price could fall
While I rarely agree with Ambrose Evans-Pritchard I do appreciate his continual columns on the energy industry and related topics. One recent column of his looked at oil price movements in the near term, predicting that oil prices may fall due to a surge in supply (and moving on to the even less likely conclusion that this will be the trigger for global deflation – surely the economic stimulus caused by cheaper energy would outweigh the loss in income for oil suppliers !) – Coming ‘oil glut’ may push global economy into deflation.
Personally I think the US shale oil boom will end pretty quickly if oil prices drop much below current levels so there’s no chance of any long term “oil glut” depressing prices for any significant period of time. I do agree with his concluding paragraphs at leas…
To avoid confusion, let me be clear that the dangers of dwindling oil supplies in the long-run have not gone away. Easy reserves of crude are being depleted. New fields are more costly. Peak oil may have the last laugh. Yet this should not be confused with the short-term risks of deflationary shock.I recently attended a Transatlantic Dialogue on Energy Security with senior military officers in London and Washington. The message was that shale will come and go – with US tight gas peaking by 2017 – creating a false sense of security as the deeper strategic threat continues to build. That is broadly my view as well. Much drama can intrude along the way.
Alan Kohler at The BS has a column weakly echoing Evans-Pritchard – Oh no! The oil price could fall.
There is a limit to what Saudi Arabia can do to limit supply. Lewis estimates that it would have to cut output by a quarter to stop the bottom falling out of the market, but Ambrose Evans-Pritchard of The Telegraph says this would push its budget into deep deficit and endanger the welfare subsidies required to keep a lid on tensions in its Eastern Province and the aggrieved Shia minority.Europe is clearly at the greatest risk of falling into a Japan-style quagmire of long-term deflation and depression, caused by a combination of fiscal austerity and zombie banks.
Last week a report by researchers in Berlin and New York estimated that European banks have a capital shortfall of up to $US1 trillion, with French and German banks in the worst shape. Global bank regulators have let them off the hook to some extent by not increasing the leverage ratio as much as expected, but they still have a long way to go to get their balances sheets back to non-zombie status.
In that context a big drop in the oil price – a reverse oil shock – would not necessarily be a good thing, as you might think.
In theory deflation causes demand to shrink and the value of debt to rise, although in practice during the 19th century prices halved and output increased seven fold. The difference this time is the existence of so much debt and the fact that so many banks are still under-capitalised.
And in addition to Europe, China’s economy has serious problems with debt and falling money supply. Ambrose Evans-Pritchard wrote the other day that “China looks eerily like the US in 2007 when broad money buckled.”
If Chinese demand collapses at the same time as an oil supply glut emerges and United States imports continue to fall, we could find out what deflation in the modern world means in practice, instead of just in theory.
11 Comments on "Oh no! The oil price could fall"
stevefromvirginia on Tue, 4th Feb 2014 12:55 am
Oil prices are declining b/c customers are going broke.
Even when the prices decline the customers are still broke. What changes over time is the percentage of failing customers, how rapidly that percentage increases or decreases. The fewest fail at the very low price. Sadly, that is also the price there is no oil industry.
People don’t seem to get it, the low-priced crude is gone, it’s gone forever, 100 million years or so. It’s not coming back.
rockman on Tue, 4th Feb 2014 1:02 am
“There is a limit to what Saudi Arabia can do to limit supply.” Yes…limits. OTOH in 2004 the KSA oil revenue was $109 billion. In 20130 it was $347 billion. So the KSA cut their production by 50% and, assuming oil prices didn’t shoot up (probably a poor assumption) they would still be earning about 50% more revenue than they were just 9 years. Of course, they would have to tighten their belts a tad. OTOH in keeping that extra 1.6 billion bbls of oil in the ground they could reduce their energy development budget by many tens of $billions. No need to spend a dime when you have 4.5 million bopd shut in.
The KSA is the only swing oil producer of significance left in the world. The only force influencing how much oil they KSA produces is the KSA. I wouldn’t be so brash as to predict what they’ll do. But make no mistake…it’s their decision to make.
Grover Lembeck on Tue, 4th Feb 2014 2:59 am
The KSA is not exporting as much as it was 9 years ago. The break even per barrel price point was $80 over a year ago for them. Even if that hasn’t risen this year, it does not leave much room for belt tightening.
Makati1 on Tue, 4th Feb 2014 3:17 am
“… If Chinese demand collapses at the same time as an oil supply glut emerges and United States imports continue to fall, we could find out what deflation in the modern world means in practice, instead of just in theory…”
1. I doubt that oil demand from developing countries is going to fall and China is not in as bad a situation as the MSM Ministry of Propaganda would like us to believe.
2. The US is nowhere near an ‘oil glut’. ALL US oil is high cost oil. Prices can not drop below production costs for long before the wells close or prices go back up.
3. Deflation is likely, or maybe stagflation, which is what we are currently experiencing in the US, followed eventually by hyperinflation. I cannot wait to see my first billion dollar bill. Of course it will not buy a loaf of bread but it would make everyone a billionaire, just like they always dreamed. ^_^
rockman on Tue, 4th Feb 2014 3:28 am
The KSA is exporting more than 3X the value of oil today they were exporting 9 years. Very simple math. And the cost to produce their existing wells is about $2/bbl.
http://www.altprofits.com/ref/tukda/tag/oil_production_cost.html
You’re confusing development cost with lifting cost. Granted the KSA needs to drill more wells (at that higher development cost) but they could sell oil for half the current price and still net about $150 billion/year…50% more than 9 years ago:
(9 million bopd X $47/bbl) – $18 million/day lifting cost = $148 billion/year.
And by reducing their daily output they reduce the need to spend the $80/bbl developing cost you offer.
Nony on Tue, 4th Feb 2014 9:43 am
Long term price declines are not consistent with POD. The high price is the most significant aspect, showing POD (given actual volumes are flat or edging higher).
I still would say that 70ish bpd in 2018 (current futures) is not consistent with cornie dreams (because it’s not 30). But it sure as hell isn’t the 500 that Simmons or a lot of POD/TOD-ers were predicting for 2008 (in 2005).
Yeah, SA (and every oil producer, including the Rockman and Harald Hamm) benefits from higher prices. But they also benefit from 115 versus 75. SA has the ability to raise price by withholding supply, but at the cost of their own interests (they benefit all oil producers at their own expense). Are they perhaps pumping full out, now?
Price is set when marginal supply hits marginal demand (by definition). Assuming inelastic demand of 0.3 (and no countermoves by SA) that 2 bbpd of tight oil is responsible for holding price down by 10 dollars per barrel. A significant achievement. Yeah, it’s not cratering the price. But it’s still an incredible benefit to the world economy. Now go produce another 2! 😉
Nony on Tue, 4th Feb 2014 9:46 am
2 MM bpd. (not billion, sorry).
Oh…and wasn’t there some deal that peaksters had where they said SA was covering up some thing of running out of oil? It’s 2014 and they seem to be doing fine.
rockman on Tue, 4th Feb 2014 1:04 pm
Nony – FYI: the POD is my baby. LOL. And this former TODster never predicted high oil prices…or low oil price…or prices staying where they were at. I’m one of those people who knows what they don’t know.
Nony on Tue, 4th Feb 2014 1:31 pm
It’s not perfect (can be wrong under or over and widely so), but futures market is at least showing what people are willing to put their money down for. It’s the best guess. $75/bbl is the prediction for 2019. I wonder if that is from increased substitution (especially to natural gas…which is very unPODish) or implies continued tight/sand development along with Iran/Iraq/Libya increases. It’s not corny wet dream of 30, but it’s not a stick in the eye. Not (Simmonsish, TODish) 200+.
rockman on Tue, 4th Feb 2014 2:47 pm
Nony – You have to pay attention to what date is on those future contracts. A futures contract on oil 30 days out won’t be affected by substitution. Check what 2 year future contracts are being bid at. Of course, the further out the contract the less predictable it becomes. Also good to remember that those 30 day contracts are being sold for more or less than they were just 60 seconds ago.
And no…I’ve never played the futures market. At least in Las Vegas they give you free drinks and print the odds of winning. The futures market doesn’t do either.
Nony on Wed, 5th Feb 2014 5:45 pm
1. I said 2019. 🙁
2. I’m well aware that the futures market is not deterministic. It’s like a Vegas line on a ball game. Could be very different (look at the Super Bowl). But still…money is lining up evenly on one side and the other. It’s our best guess, ahead of time.
3. Also well aware that common sense says further out will have more uncertainty. (you can even characterize that probability density function [as a function of time] mathematically with puts and calls). This is math 101.
4. I don’t think you should play the futures market. Use your expertise locally and apply it on geology, extraction possibilities, etc. you could still be right or wrong, but we can decouple your local insights from global predictions of supply/demand (which you even eschew insight on anyhow).