Oil bulls may have to pull in their horns

December 29, 2010

The author is a Reuters Breakingviews columnist. The opinions expressed are his own.

NEW YORK — Oil bulls are once again kicking up dust. The intensifying struggle to lift output, they say, will collide with the insatiable thirst of an expanding Asia to push oil above $100 a barrel. In fact, the cost of crude may be held down by a halving of demand growth as producers from Russia to Africa via Brazil ramp up supply.

Recent years have been humbling for oil bulls. In 2008 Goldman Sachs was arguing that crude would have risen to between $150 and $200 a barrel by now. Since then the notion of peak oil on which many such forecasts were based has taken a battering. Rather than bumping up against the limits of available oil — as peak theorists expected — drillers have uncovered an embarrassment of mineral riches. And this happened to occur just as hunger for oil slackened amid a deepening global recession.

Despite this setback, oil optimists, like Goldman’s analysts, have recovered something of their former swagger. Surging demand from growing Asian economies, they argue, will outpace even the ingenuity of oil producers, forcing crude prices inexorably higher. Again there are reasons to be skeptical of such prognostications.

For a start, the unused pumping power of the OPEC cartel still stands at 5.4 million barrels a day — against less than 1 million when oil hit its $147 apex in July 2008. So it would take several years of punchy demand growth to chip away at the cartel’s spare capacity. And that’s without counting an impressive range of oil industry investments that are coming on stream.
A steady upswing in oil prices since 2004 rekindled exploration spending and advances of drilling technology have also helped. Shrugging aside BP’s deepwater disaster in the Gulf of Mexico, oil majors are stepping up production in once-inaccessible deposits off the coasts of Ghana and Brazil.

And improving recovery techniques are also prolonging the life of aging oil wells. This is particularly evident in the United States where a seemingly inexorable slide in production, stemming back to the 1970s, appears to have been arrested. Some of the same techniques that have been rejuvenating geriatric wells — including hydraulic fracturing and horizontal drilling — have brought a bountiful supply of oil within reach in the Bakken shale of North Dakota.

Meanwhile bumper gas finds have spewed out precious fluids. Output of these light natural gas liquids could climb by 700,000 barrels a day next year, according to Credit Suisse, up from a rise of 200,000 in 2009. Even OPEC members can pump these freely since they are not counted as part of their quotas. This unexpected treasure trove of easily refined oil is helping relieve pressure on traditional crude.

Penny-pinching motorists across the globe can also look to Iraq for relief. Assuming the political situation continues to improve, output should rise strongly from 2011. And non-OPEC crude supply is expected to climb by 800,000 barrels a day. Tot all these extra sources up and global oil output could rise by around 1.6 million barrels a year, according to Credit Suisse.

Bulls will counter that even these new sources will not match demand. But here too their arguments look premature. True, demand rose by a monumental 2.3 million barrels a day in 2010. A repeat of this would indeed eat into OPEC spare capacity. This, however, looks unlikely. The International Energy Agency is braced for a more manageable increment of 1.2 million barrels a day in 2011. Rich countries even look likely to trim 300,000 barrels a day from their energy diet.

This will offset three-quarters of the increase in demand from China — which though growing fast, still only burns 11 percent of the world’s oil. And the IEA’s cautious demand estimates could fall if the brewing financial crisis on Europe’s periphery eats into economic growth.

Of course, predicting the price of oil requires the kind of omniscience that even mighty Goldman hasn’t mustered. It involves accurately predicting global growth and output in dozens of countries, not to mention changes in efficiency technology, tax and regulatory policy as well as fickle market sentiment. Still, there are few signs of the bottlenecks that pushed oil through the roof in the summer of 2008. Consumers appear generously well supplied as the world’s oilmen look to be keeping up with the rising appetite for crude.


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Of course! High energy prices beget increased exploration – thus more supply – and energy efficiency among oil consumers, thereby moderating demand. Why analysts can’t grasp these simple points is beyond me. Moreover, with oil prices at current levels (read: expensive) what incentive do tapped-out OPEC member governments have to stick within their quotas? Bottom line, oil may hit $100, maybe $110, but that’ll be it.

Posted by Gotthardbahn | Report as abusive

Price stability has never been achieved. Hints of normalcy are usually followed by political tensions. Addicts never/always have supply issues. Another peace process pie in the face, hurricane, revolt or WMD intel from Stuxnetters will be served up at the appropriate time. $200 or $20, it never seems to faze the real players.

So while the U.S. companies lose interest/profitibilty in solar power, China dives in head first. “Long thinkers” (my Dad called them) with a track record for expediate use of technology and market forces. We can protect all the desert tortoises and sea turtles but who protects us from our own rules?

Posted by pHenry | Report as abusive

Analysts like those at Goldman-Sachs (as well as yourself) make an “all else being equal” equation. IF there had been no financial meltdown in 2008, oil would be much more expensive today, for instance. But BECAUSE (at least partially because) oil got so expensive, the weaknesses of our economic system were uncovered and the obvious occurred.

Are we stronger today, to be able to handle prices above 100USD? Well, it looks like we’re about to find out.

Fact is: We may have the capacity to produce a bit more oil per day right now. But that oil (the marginal) is deep, hard to refine, dependent on new and expensive technology (see BP @ 1000m under water!!) and generally just EXpensIVE. The AGE of inexpensive oil came to an end not too many years ago. Back to it we shall never return..

Posted by GermanDom | Report as abusive

oil and Ag rising is no sweat off any ones back except the poor so why are you all sounding alarms its not like they drive anything

Posted by SwissMaestro | Report as abusive

“Since then the notion of peak oil on which many such forecasts were based has taken a battering.”

Often because many people think peak oil means that the world will peak in producing liquid fuels in general, when the truth is that peak oil is the end of “cheap oil.”

I have written in peer-reviewed literature about this issue and also on The Oil Drum.

Campbell and other “peakists” have been talking about an undulating plateau due to feedback mechanisms between oil price and demand (as outlined in above post) for some time now.

Posted by djmurphy04 | Report as abusive

Most of you have totally missed the bus on this subject. The price of oil is driven by predominantly the speculators (Big Banks and Hedge Funds). The huge growth touted in Asia hasn’t happened yet. And in the world’s largest consumer of oil (the U.S.), gasoline demand has been in decline for years. There are a couple of reasons for this. One is regulation to make cars more fuel efficient. And secondly, the economy. Search on line and check out two key points. Number of refineries either closed or moth-balled in the U.S. over the past few years and a chart of the historical inventory levels at Cushing, Oklahoma. The price of oil is being manipulated and it is costing us money. If the oil speculators are allowed to continue their march it will ultimately affect the recovery of our economy. Speculate on concentrated frozen orange juice all you want. We can decide whether we want to buy it or not. But the energy of world is based on oil and to allow it to be controlled by speculators is simply insane. On the day that oil hit $147 a barrel there wasn’t a single gas station on earth that couldn’t sell you all the gasoline you wanted. Anyone who believes that the value of the dollar or supply and demand are the driving forces behind oil are naive. Change the rules so that only end users (must take delivery) can take out a contract on oil and see where the price of oil goes.

Posted by xyz2055 | Report as abusive

xyz2055 don’t hold ur breathe of that ever happening…Just remember who is in control…

Posted by Raybones | Report as abusive

I agree with xyz2055. I predict $200/barrel briefly in 2012. That price might be enough impetus to change the rules.

There are several likely adverse events in the cue right now. The chances of all of them just fading away within the year or the chances of all of them being kept contained in the cue for a entire year are very, very slim.

Posted by breezinthru | Report as abusive

Sounds like Tiny Tim’s Christmas here, evenly split between hopeful believers and harumphing Scrooges.

The reality is that governments are now controlled by the machinations of corporations, not the wishes or votes of the citizens. And the interlocking directorates control them.

We, the ordinary citizens, will tolerate an incredible amount of pressure, and then we’ll blow, and all the clever spin in the world won’t protect the walled enclosures of the rich.

Posted by ormondotvos | Report as abusive

A drop in oil demand is actually a bad sign as it also means a drop in production and consumption, and thus economic growth. In which case, the effects of peak oil can still be felt: either the price of oil is too high because of lack of supply or income levels are too low, making even a lower price for oil too high.

What we want to look at is production and not just supply, and what we want is increasing production and increasing consumption, with the former always doing better than the latter. What we don’t want is steady or increasing supply because of demand destruction, just as we don’t want steady or decreasing supply with increasing demand.

Finally, given historical trends, the price of oil per barrel should be only around $60, not almost $90.

With that, once we see increasing production (not a 72-77 mb/d plateau, but an increase in production by 2 to 3 pct a year), increasing consumption (which means the economy is growing), and the price steady at around $60, then we can say that we shouldn’t be concerned. Otherwise….

Posted by Ralfy | Report as abusive

I forgot to add that for any replacement for oil we will need one that has an EROEI of around 12, if not 20 or better, that we will need to retool the manufacturing process to make use of those replacements (and one study indicates that it may take up to 131 years to do so), and preferably before expected drops in crude oil production.

Posted by Ralfy | Report as abusive