Last summer, oil prices spiked as hurricanes lashed through the West Indies. Commentators calmly explained that the weather had interrupted supplies coming from South America, and everyone heaved a sigh of relief.
Very few mainstream news agencies bothered to ask why the world oil market was so susceptible to what was really a fairly modest supply shock.
Global demand for oil goes up two or three percent a year without fail, year after year. For the past few years, global supply has not increased enough to keep up. New Kerala reported on March 4 that oil industry analysts are predicting crude may hit $60 or even $75 a barrel this year "in the event of a major supply disruption".
Part of the reason for high prices is that oil is still sold for US dollars. The dollar continues its long decline against more robust currencies like the euro, so more dollars are required to maintain the same value.
However, this is clearly not the entire reason for high prices. Despite the usual calls for OPEC to increase its supply (OPEC currently produces about a third of the world's oil), analysts are warning that OPEC can only squeeze out another 1 to 1.5 million barrels a day in the case of supply interruptions elsewhere.
A similar article from the Associated Press suggests that rising oil prices may soon collide with the economic expansion fueled by the United States and China - the two countries that are also driving the growth in demand.
This year, the world is expected to consume 84 million barrels of oil per day. If a supply interruption exceeds 1 or 1.5 million barrels a day, the oil industry simply won't be able to keep up, and prices will spike.
Maybe the year will run smoothly and nothing will go wrong, but that seems a pretty precarious basis on which to run the one market that influences every aspect of the global economy. We'll be able to meet demand if this year is free of hurricanes, political turmoil, and terrorist attacks on supply lines. That's a big if.
Some major oil companies are avoiding investing too much money in exploration for new production. They claim that they want to avoid another glut similar to the late 1990s, when oil dropped to $11 a barrel.
However, the so-called "peak oil" analysts believe the shift in investment actually reflects a growing realization through the industry that there's not much oil left to find. They point out that the major increases in exploration over the past decade have yielded very little in new supplies, and concurrent investments in extraction technology have also disappointed, in some cases forcing companies to revise their reserve estimates down significantly.
Of course, this kind of escalating volatility is exactly what we can expect as global oil production lurches toward - and eventually crests - its peak. A recent study conducted for the US Department of Energy (and summarized by its authors, Dr. Robert L. Hirsch et al. in this issue of the Association for the Study of Peak Oil & Gas newsletter) argues forcefully that the constellation of initiatives required to reduce American oil consumption by twenty-five million barrels of oil a day would take at least 15 years to implement. It is worth quoting their summary at some length:
- Waiting until world conventional oil production peaks before initiating crash program mitigation leaves the world with a significant liquid fuel deficit for two decades or longer.
- Initiating a crash program 10 years before world oil peaking would help considerably but would still result in a worldwide liquid fuels shortfall, starting roughly a decade after the time that oil would have otherwise peaked.
- Initiating crash program mitigation 20 years before peaking offers the possibility of avoiding a world liquid fuels shortfall for the forecast period.
Without timely mitigation, world supply/demand balance will be achieved through massive demand destruction (shortages), accompanied by huge oil price increases, both of which would create a long period of significant economic hardship worldwide.
Assuming a near-term production peak, we're already headed for serious trouble.
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