One way of looking at the savings in oil prices is the disappearance of the war premium… this premium conservatively has averaged $5 a barrel… we should be able to pay the war costs off in a few years like this.
This assumes that the premium will vanish after the war. This, in turn, assumes that the Middle East will be a more stable place after the war, a highly suspect assumption. Iraq may be more stable, but there are a number of major producers, Iran and Saudi Arabia prominent among them, that are serious stability worries. I really don’t expect that the Middle East is suddenly going to go all peaceful because Saddam is gone. There’s a bit of trouble left in that corner of the world.
For the foreseeable future Oil prices will either be controlled by OPEC or self corrected by market forces staying between $25-30
There’s been speculation that the new Iraq would privatize the oil industry and free it from OPEC restrictions, causing a glut of oil and a wonderful economic stimulant through cheap oil. I don’t think this is going to happen, and anybody who wants to make it happen is not thinking very hard. A few reasons why:
An oil glut and an oil price drop would hurt Iraq more than almost any other producer. Rebuilding Iraq’s oil industry is going to take tens of billions of dollars. That money will come from loans or investments. Either way, it will come out of Iraq’s oil earnings, either as loan payments or as returns to private investors. The Iraqi government will get much less of every oil dollar than its main competitors, which would make Iraq the first to suffer if oil prices drop. That in turn would destabilize the new Iraqi government, reduce its ability to pay off debts and increase public resentment toward repatriation of returns by outside investors.
A number of major oil producers have serious internal stability problems. Several of these are major concerns in the war on terror. A lot of people in these countries are not too happy with the US right now, and if the countries encounter financial crises because of US or US-sponsored actions in Iraq, serious instability in a highly anti-American backdrop could easily result. Security implications could be severe.
A major drop in oil prices would almost inevitably generate enough internal instability to drive at least one major producer into political crisis, which would inevitably cause a major price spike. That kind of volatility isn’t good for anyone.
In a macro sense, low oil prices aren’t good for the consumers either. They encourage fast depletion of the cheaply produced, easily accessible oil, accelerating the arrival of the time when we have to resort to less accessible reserves with higher production costs and higher environmental costs. They are a disincentive to exploration for new reserves, improvement of energy efficiency, and development of alternative energy sources.
Regulation really has to come from OPEC. In this case I don’t think market forces can be relied on. The producer countries need money immediately and desperately. Oil pricing is an odd phenomenon: in many of these countries the cost of production is a tiny fraction of the final price of the product. Many of the costs associated with the use of the product, such as environmental costs and the cost of preparing for eventual resource depletion, are indirect, diffuse, and easily disregarded. With most commodities the pricing impact of competition is highly restricted by production cost: when the price drops close to cost, the least efficient producers drop out, supply is reduced, and the price rises again. Oil won’t self-correct this way, at least not quickly. Major producers can drop prices a lot and still feel like they’re making a profit.
In short, the downside constraint on oil prices is not the cost of production, but the point at which reduced income causes political crisis. We can’t afford to bump that downside.
Iraq will almost certainly keep State control of its oil industry, and remain in OPEC. I don’t think this is a bad thing. OPEC has survived this long because it serves a purpose, and because holding oil prices in the $25-$30 band is to the advantage of producers, consumers, and the oil industry. Free-market fundamentalists will be horrified at the idea of that trinity colluding to fix the price; I’m by inclination a free market believer, but I have to admit that in this case there are strong arguments for distortion. The hardline economic conservatives in the administration will want to privatize Iraq’s oil, but I don’t think they’ll get their way. Iraq’s creditors won’t want a price war, and neither will the oil industry, which has a bit of pull with the administration. I really don’t think the oil boys want to see OPEC broken; they’ve been very cozy for a long time.
This is funny. I find myself lining up with OPEC and the oil insiders against the free market believers. I’m usually on the other side. What the hell; I’ll readily admit to the practice of situational ideology. |
