Goldilocks zone for oil prices is gone for good

March 24, 2015
A pickup truck bears the words "I (heart) OIL" written in dirt in Williston

A pickup truck bears the words “I (heart) OIL” written in dirt in Williston, North Dakota, Nov. 12, 2014. REUTERS/Andrew Cullen

Five years ago, I wrote an article for Reuters titled “Goldilocks and the Three Fuels.” In it, I discussed what I call the Goldilocks price zone for oil, natural gas  and coal, a zone in which prices are “just right” — high enough to reward producers but low enough to entice consumers. Ever since the start of the fossil- fuel era, such a zone has existed. Sometimes price boundaries were transgressed on the upside, sometimes on the downside, but it was always possible to revert to the zone.

But now, the Goldilocks zone for oil has ceased to exist. This will have staggering consequences throughout the economy for the foreseeable future.

During the past decade, the Goldilocks zone for oil steadily migrated higher. As conventional crude reservoirs depleted and production rates leveled off, drillers had to spend proportionally more to develop the capacity to pump the next marginal barrel. Oil prices soared from $30 a barrel in 2005 to nearly $150 a barrel in 2008, collapsed during the economic crisis, then clawed their way back to roughly $100 a barrel, a price that was maintained through mid-2014. But the economy did not do well during this period. Despite massive bailouts, stimulus spending and low interest rates, the recovery following the 2008 crash was anemic.

However, at $100 a barrel, the oil price was high enough to incentivize fracking. Small, risk-friendly companies leased land and used expensive drilling techniques to free oil from rocks that geologists had previously described as too impermeable to bother with. This entailed a tenuous business model that required not only high oil prices but easy money as well, as low interest rates enabled producers to pile on enormous amounts of debt.

Oil production in the United States rose sharply as a result, and this eventually had an impact on prices. Since mid-2014, the oil price has declined by half, settling around the historic, inflation-adjusted mean price of $50 a barrel. Consumers are much happier than they were with oil at $100 a barrel, but producers are wilting. The American petroleum industry has seen more than 75,000 layoffs, the balance sheets of fracking companies are bleeding and drilling rigs are being idled by the score.

For consumers, experience suggests the acceptable oil-price zone is $40 to $60 a barrel in today’s dollars; higher than that, goods and services, particularly transportation, become more expensive than current spending patterns can handle. For producers, the acceptable zone is more like $80 to $120 a barrel; lower than that, upstream investments make little sense, so production will inevitably stall and decline — eventually making consumers even less happy.

You will have noticed that there is no overlap. An oil price of $70 a barrel would not be high enough to give the industry a rebound of confidence sufficient to inspire another massive round of investment. Clearly, consumers would be happier with $70-a-barrel oil than they were with $100-a-barrel oil, but if $70 isn’t a high enough price to incentivize production growth, then it’s not really in the Goldilocks zone.

According to the narrative emanating from most mainstream energy economists, oil production rates will soon slow, prices will rebound and everyone will be happy. That narrative misses the all-important news that Goldilocks is dead. There is no longer a price that everyone can live with. And that’s a recipe for price volatility.

For oil traders, price volatility may offer opportunities for profit. But for everyone else, it is treacherous. Price volatility only hints at the real extent of our peril: We have built an economic system overwhelmingly reliant on a nonrenewable, depleting resource. This is not a sustainable situation. Unless our dependency on oil somehow magically disappears, we are in for a wild ride on an unmapped road.


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One need only look at the collapse in coal to see the future for fossil. Some coal equities have fallen 90% from their all time high. Even underlying assets are being re-sold for a small fraction of their recent values. A number of factors not mentioned above figure into this. A rise in electrically-powered and hybrid vehicles, intense use of computers and telecommunications to manage consumption in real time and consequently slash waste, and the rise of alternative sources like solar and wind. These new sources have a small footprint now, but their fuel is free and never runs out. Just yesterday someone announced a proof-of-concept for transparent solar cells, which means that soon your windows could be generating electricity.

Posted by OverClock | Report as abusive

If America wants to lead again, we need to be treating the alternative-energy quest the same way we treated the Space Race of the 1960s. We already blew our first, best chance in the 1970s Arab Oil Embargo.

Posted by SunAndRain | Report as abusive

There is a lot of slop in the above numbers. For example, oil workers have historically been overpaid for how under-skilled they are. Most roustabouts I know, do little more than drive a pickup around dirt roads and drop off pieces of pipe and pumps. Something any 14 year old on a farm does regularly. And for this, the roughneck half-wit from texas expects to make $40 an hour. Well, too bad. Times are changing, gravy train is over. Get real.

Posted by AlkalineState | Report as abusive

Last year we drove 4000 of the 4400 miles on our Chevy Volt using the battery.

Posted by daytongarmin | Report as abusive

Alternative energy is where we need to be spending our money. Coal and oil are relics of the past, and gross polluters.
Wind and Solar are the future and need to be embraced ASAP.

Posted by RealNeil | Report as abusive

Oil apologists like to complain about the long payback period on Wind and solar. 15 years. 20 years. But what is the payback period oil? 5,000 years? 10,000 years? Truth is, there is NO payback period on oil. At no point does the exploration, production, transportation and refining of oil….. become virtually free. That makes 15 – 20 years look a lot more attractive for long term investors. Oil is renting. Renewable is owning.

Posted by AlkalineState | Report as abusive