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Should You be Freaking About Oil Peaking?
ManyWorlds by Max More
Editor reviewed on 05/16/2005, published on 05/22/2005
High gasoline and oil prices have renewed talk of “peak oil”, referring to the concept of Hubbert’s peak. In 1956, Shell geologist, M. King Hubbert, predicted that oil production in America would peak and begin to decline in the early 1970s. These days, we’re more interested in when we might reach a global “Hubbert’s peak.” The term is typically used by those making the most pessimistic estimates—people such as Colin Campbell and Jean Laherrere who, in a 1998 Scientific American article, predicted a global peak for right about now. Based on a comprehensive study in 2000, the United States Geological Survey concluded that we would not reach a peak for at least two decades. Where does the truth lie, and how confident can we be of an answer?
It’s commonly believed that oil is a non-renewable resource that must run out at some point in the future. Both parts of that belief can be challenged. Oil naturally renews—at an extremely slow rate—but technology might eventually replenish some of the supply at an economic cost. Even if this doesn’t happen, oil is highly unlikely to “run out.” As shortages intensify, prices will rise (so long as they are not controlled), and we will move away from this resource, despite the pain of doing so.
Even if oil is renewable (to some extent) and will not actually be exhausted, a peak in oil production followed by a decline is likely to rattle the global economy. How severely we will be rattled depends on how well we anticipate the date of peak oil, and what we do about it. Oil industry executives are far from the only ones who want to know the precise shape of oil production’s trajectory and when it will peak. Any such assessment will need to estimate remaining oil reserves, trends in consumption, and changes in extraction technology. None of these things is easy to do.
The first obstacle to accurate forecasts and estimates comes in the form of distorted perceptions. News headlines incessantly tell us of “record oil prices” as we float around the $50 mark. In reality, if you will forgive the metaphor, $50 oil can’t hold a candle to the inflation-adjusted $80 oil of the late 1970s and early 1980s. Although Americans gripe about the cost of gasoline, Europeans find the distress amusing, being used to paying far more. Despite the complaining, high gas prices may be of little consequence to the economy, the additional cost still making up a small fraction of the total cost of automobile ownership. Although today’s oil and gasoline costs are less dreadful than often supposed, continued growth in demand accompanied by a peaking of production would undoubtedly pose some major challenges. So how much do we have left?
To figure out the likely date of a peak, and the curve of the slope up and down, the first tricky thing we need to estimate is the size of remaining oil reserves. Sounds simple. The reality is complicated by several factors, the first of which is a lack of transparency. As The Economist pointed out in “The Incredible Shrinking Companies” (in the April 30, 2005 issue), the information needed to know whether oil reserves are running low simply isn’t being made available. One big problem is resource nationalism—most of the oil industry consists of national oil companies, which are not open with their reserve information.
We also have problems with private oil companies, though the blame lies less in their court than in that of the SEC. The agency’s rules were written in a different time. The restrictions on booking reserves are now arbitrary and excessive, forcing massive write-offs simply because the price of oil falls, not because the physical facts have changed. The oil industry can’t entirely shrug off responsibility, however. As The Economist notes, the industry could follow the example of the global mining industry, which already voluntarily discloses reserves.
Added to the transparency challenge, we have to beware of misunderstanding the concept of “reserves.” Oil pessimist Campbell has said: “Understanding depletion is simple. Think of an Irish pub. The glass starts full and ends empty. There are only so many more drinks to closing time. It's the same with oil. We have to find the bar before we can drink what's in it.” This is mistaken. Oil reserves are not fixed in any very meaningful sense. Reserves are an estimate of the amount of oil in reservoirs that can be extracted at an assumed cost, given the current level of technology. From a long-term historical perspective, you could say (as does Peter Odell of Rotterdam’s Erasmus University) that the world has been ‘running into oil’ rather than ‘out of it’.
Even as the world has used more and more oil over the past few decades, expert estimates of the recoverable resource base have consistently grown, driven by both economic forces and the effects of technological innovation. According to Odell, while the world has consumed less than 800 billion barrels of oil since 1971, during the same period we have added over 1,500 billion barrels to reserves. How much oil is ultimately recoverable depends to a great extent on how much we will spend to get it, and on how good is our extraction technology. In other words, reserves are dynamic, not static. Of course, it also depends on the quality of unexploited, or minimally exploited, frontiers. As The Economist article shows, no shortage of frontiers remain, although some of them are currently blocked by political factors.
On top of challenges in estimating the dynamically changing size of reserves, forecasts have to accommodate a changing oil recovery rate. A few decades ago, oil companies could extract about 20 percent of what they found. Today, with superior technology, the figure is around 35 percent. 25 years ago, the success rate for exploration wells was about one in six. Today, about two-thirds hit pay-dirt. While oil pessimists simply write off oil in locations already tapped, we should remember that two-thirds of the oil proven to exist in identified reservoirs remains available for future technologies to extract. New advances could move the global Hubbert’s peak quite a way further into the stratosphere.
Finally, we need to factor in various possible changes in energy consumption and efficiency. This also depends heavily on economic factors and on technological innovation. Back in 1973, looking ahead ten years and thirty years, few would have predicted what actually happened to oil consumption as economic growth continued: The United States used 35 quadrillion BTUs (quads) of oil in 1973. That number declined to 30 quads in 1980. In 2003, after two decades of economic growth, the number had reached only 39 quads. How much more efficient could we become in the face of genuinely high prices and accompanying government policies?
All these considerations, and others, make it look impossibly hard to accurately forecast a peak. However, we should consider that markets are usually correct over the long run, and the still fairly modest prices in the oil market suggest that a peak is not terribly near. If the smart money expected a great rise in oil prices a few years in the future, they would have bid up the price now. This hasn’t happened. Either the market is strongly and persistently irrational, or warnings of imminent Peak Oil are wrong.
If we’re not satisfied to rely on oil futures markets, some international institution could set up a decision market that allows people to make bids on forecasts of oil prices or reserves at various points in the future. Such a market could be valuable, especially if bids were also allowed on various proposed regulations or policies aimed at improving energy efficiency or encouraging alternative sources. Governments should be careful to avoid premature, poorly targeted, very expensive actions. Doing something can be every bit as bad as doing nothing. Decision markets which have been under-utilized to date, could be the perfect vehicle for harnessing globally distributed knowledge to improve our accuracy in forecasting oil prices, reserves, consumption, and possible peak.