Tuesday, October 03, 2006

$100 Oil Bet Update

The "perfect storm" season has passed without $100 oil, so while I work on my concession speech, here are some optimistic observations about oil from Max Singer:
IN 1980 MOST EXPERTS agreed that oil prices could only go up. Following the panic of the Iranian revolution, the price spiked to more than $80 a barrel adjusted for inflation. I gained some notoriety at the time by publishing an article with William Brown, a Hudson Institute colleague, in the Wall Street Journal predicting that oil prices would fall in 1980 and that the 1980s would be a decade of decreasing, not increasing, oil prices. Indeed, the price fell sharply in 1980 and by the late 1980s the price had fallen to around $30 a barrel, and it dipped to around $20 in the late 90s.

Today there is a great chorus, in which New York Times columnist Thomas Friedman's voice stands out, calling upon the United States and other nations to radically reduce their oil consumption because, as Friedman and others contend, the world will soon run out. In the mean time, they say, our continued dependence on (or "addiction to") oil means a continued dependence on oil exporting countries--so many of which are run by less than democratic governments--and high energy prices of $70 a barrel, or more.

But a deeper understanding of the supply side and a longer term perspective of demand produces a different view. Between now and the middle of the century $30 is likely to be more typical of the price of a barrel of oil than $60. Most of the time sellers will be competing for buyers, not pushing them around. And the Arabs are
likely to have a smaller share of the market in the future, not a larger one. Before long the fear of Arab oil power is likely to seem unimaginably dated.

Two factors influence oil prices. First is the amount of oil in the ground. Second is the capacity of oil production and transportation facilities. Too few wells and pipelines create oil shortages, and therefore high prices, regardless of how much oil there is in the ground. For our purposes, "oil in the ground" refers to oil that investors think they can bring to market for less than $20 a barrel if things go near enough to plan. Capacity, on the other hand, refers to every element of the process from extraction to delivery, including the production of equipment associated with each element of that process.

So how much oil is out there waiting to be discovered? Chevron Corporation has been buying advertisements claiming that, "The world consumes two barrels of oil for every barrel discovered." Fortunately Chevron is only speaking the truth if you use an artificial definition of how much oil is being discovered. For example, Canada is now estimated to have 150 billion barrels of recoverable oil in their tarsands. Twenty years ago we couldn't produce that oil at competitive costs. Now we are producing a million barrels/day at a cost of about $15 each. In effect we have "discovered" 150 billion barrels of oil in Canada--more than the entire world used in the last five years--which Chevron doesn't count.

I'm still not as optimistic as Singer, and one reason is the bolded statement above. 150 billion barrels seems enormous, but it is only a 5 year supply for the world. Five years is not a long time.


Blogger Bret said...

I was wondering whether or not you were starting to lose hope of winning your bet.

The tarsands "discovery" may "only" be enough to last the entire world 5 years, but it's also only one such discovery. He's using a metric of requiring the extraction cost to be less than $20/bbl. If you raise that to $40/bbl, the extractable reserves goes up even more. In addition, technology will bring the cost of extraction down further.

I rather hope Singer is wrong though. I'd like to see the average price a bit higher than $30/bbl. The global economy can clearly deal with higher prices and the extra incentive for innovation in the crucial energy arena is important I think (though I do hope governments stay out of it for the most part).

October 03, 2006 10:30 AM  
Blogger Harry Eagar said...

My petroleum geology adviser is very big on the Hibbert peak. He made me read a book by Deffrye (sp?) claiming that there are no more big oil provinces to discover, once the suspected one in the East China Sea is done.

This seems to me to be a slam dunk as far as it goes. For the past generation or so, the world has been riding on new suppliers that weren't on anybody's list during the 1973 contretemps.

On the other hand, the amount of oil needed to get X done has been going down pretty fast.

I have no opinion about where prices are going, one way or the other, but my petroleum adviser advises me the opposite of my physics adviser, who was on some study groups for some very big companies in the 1960s. He tells me that they were all fervent believers in Hibbert (or is it Hubbert, cannot recall). 'They lost some serious money,' is how he describes the outcome.

October 03, 2006 2:13 PM  
Blogger Duck said...

It's Hubbert's Peak.

Hubbert correctly predicted (within a year) the peaking of US oil production in 1971. His theory takes into account the fact that new reserves will be found. Predicting when the peak will occur is problematic, but I think it is a given that a peak in production will occur sometime between now and 2025.

October 03, 2006 4:58 PM  

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