This oil crisis won't end soon -- if ever
The Globe & Mail, Saturday, August 14
By Eric Reguly
The price of oil went through $46 (U.S.) a barrel yesterday, setting another record high. Many energy experts say $50 -- a figure unthinkable only a couple of years ago -- is likely. At least one oil analyst says $100 is possible. In 1998, the price was about $14. In 2002, it was about $27. How did glut turn into shortage so quickly?
The rising price is no accident of economics, nor can it be explained by the war in Iraq, the political chaos in Venezuela and other geopolitical spasms. The price rise is fundamentally structural, something Robert Skinner, director of the Oxford Institute for Energy Studies, points out. Energy companies and governments around the world invested too little on exploration and development in recent years. Then unprecedented demand hit, thanks to China, India and other burgeoning economies. Price dips are inevitable. But the longer-term trend -- up -- seems in place.
Here's a simple way of making sense of the shortage. Every day, the world guzzles about 80 million barrels.
The reservoirs that produce all that oil are depleting by about 7 per cent a year, equivalent to 5.6 million barrels a day. That amount is equivalent to the daily production of the North Sea, or two Abu Dhabis or more than two Nigerias. The problem is that discoveries the size of the North Sea are exceedingly rare, and will get rarer still. Each of the various non-OPEC projects coming on stream might add 50,000 to 200,000 b/d of production.
Now add in the fact that oil demand is climbing rapidly. The International Energy Agency estimates world demand will rise to 83.2 million b/d next year, up from 78.9 million last year and just under 77 million in 2001. Put natural depletion and rising demand together and you get an oil crunch that won't disappear quickly just because classic economics says supply will rise in tandem with price. The gap is too wide.
The oil shortage was inevitable because oil companies acted rationally. In 1985, oil prices were about $28 a barrel. After that, prices more or less went into steady decline and didn't recapture their 1985 level until 2000 (after which they fell again for two years). As prices fell, oil companies invested relatively less in exploration and development for fear of creating useless idle capacity. The focus instead was on reducing costs and debt, creating efficiencies and "buying" oil in the stock market through mergers and acquisitions. The global consolidation wave put Exxon and Mobil together to form Exxon Mobil, PanCanadian and Alberta Energy to form EnCana. It has yet to end.
OPEC did the same. As prices fell, the OPEC countries, led by Saudi Arabia, had little incentive to invest billions into oil projects that wouldn't earn a decent return; social spending programs took priority instead. Now look at what's happening. As demand soars, OPEC spare production capacity is disappearing.
Two years ago, the spare capacity was about six million b/d. Today, it is thought to be 1.5 million barrels or less.
Lack of investment in other parts of the intricate global supply web are making a bad situation worse. There are too few tankers, too few gasoline refineries. In North America, the refineries are running at more than 95-per-cent capacity. That's flat out. The breakdown of a single refinery of any size could make a grocery run in your SUV a matter to discuss with your banker.
Oil isn't the only victim of underinvestment. Natural gas prices are out of control, too. At about $6 per million British thermal units, or BTUs, the price is triple its mid-1990s level. Look at Ontario's electricity market. Prices are rising and the provincial government is in a near panic because about $20-billion (Canadian) in new generating capacity is required and the money's not there.
Environmentalists won't like the solutions. Governments will come under pressure to open wilderness areas in the Rocky Mountains, in Alaska and elsewhere to exploration. Ocean drilling bans, such as the one off the British Columbia coast, will be lifted. Governments will reduce energy and pipeline regulation to get projects on stream faster. Hundreds of billions of new investment will find its way into the global energy markets with little red tape attached.
Years may pass before the supply-demand balance is restored, that is, if it can be restored. The world consumes almost 30 billion barrels of oil a year, the equivalent to 1½ times the size of Alaska's Prudhoe Bay. Prudhoe, discovered in 1968, is one of the biggest reserves discovered anywhere on the planet. How many more Prudoes are there?
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