I don't know if I'm a bright guy or not, but I'll share what I know on this subject, and it's not much.
What you're referring to are two closely related concepts known as elasticity of demand and elasticity of price. Elasticity of demand is the responsiveness of buyers to changes in price. Luxury items are said to possess great elasticity of demand because consumers can postpone the purchase of these items until later. If the price of the Lexus goes up, most people can postpone the purchase. Or if Starbucks coffee were to double, people would rediscover tea or other brands of coffee.
Essentials do not possess elasticity of demand. People have to have these items, no matter what the cost. For example, food, emergency surgeries, etc.
So where is oil? Depends. During periods of plentiful supply, such as after the discovery of the great East Texas fields by Dad Joiner during the 20s', oil companies were forced to offer chicken dinners to get motorists to fill up. During the great oil crisis of the early 70s', when the Arabs decided to punish the West for its support of Israel, a buying panic ensued, because the (politically shortened) supply could not possibly satisfy the demand of the industrialized world.
Over the last two years we saw a shortfall of demand due to the currency meltdown induced economic collapse in Asia. Even at its worst, production exceeded demand by 3%. However, the price dropped clear down to 10. Why? Partly, it was due to the oversupply. However, this small drop in demand was made much worse by two factors. Trading of paper barrels on the NYMEX and bureaucratic bungling on the part of the IEA.
Paper barrel traders don't care about anything except making money on the various option plays they can generate. No one on the NYMEX ever has to deliver a single barrel of oil. That's someone else's problem. But the market there can be moved very quickly, thanks to our new and improved computer and network based communications and trading systems. No problem with these systems except the false and misleading moves just as quickly as the truth.
The traders on the NYMEX knew of the troubles of Asia. Of course. So a downturn was expected. However, when the IEA insisted there were hundreds of millions of barrels of 'missing' oil in the system and that this 'missing' oil would eventually find its way to the now overflowing storage facilities of the consuming companies, there was a selling panic.
Why did the IEA say there were 'missing' barrels?
It was the only way they could account for the growing discrepancies between what the consumers said they had and what the producers said they were producing. That is, the only politically acceptable way they could account for the discrepancy. The only alternative was to admit their methodologies were inaccurate. Show me a bureaucrat owning up to a mistake and I'll show you an ex-bureaucrat.
So what's the problem? How come we can't get accurate production data?
Because there are too many people with vested interests in not telling the truth. For example, OPEC production shares are based on reserves. The larger the reserve, the larger the share. So what do you think an oil minister in a third world country where the authorities have been known to kill people for not delivering is going to say about his oil reserves? Or the case of determining what's on the way in oil tankers? After all, oil shippers are in competition with others, have their own bosses to make happy, don't want their customers to know how much spare capacity they really have for pricing reasons, etc. I rest my case.
So you can't get the true picture of oil production, reserves, consumption, etc until after the fact. A few months later, we pretty well know what is happening, but it doesn't help during the day to day trading. This is due not only to the political problems I alluded to earlier, but the technical problems. If you've ever tried to gather information from a large number of people even in a single organization, you can appreciate the problems someone would have in simply gathering the facts.
But you have to depend on someone. So everyone quotes the IEA, flawed data and all, because there is no choice.
So, the NYMEX was expecting a downturn. IEA say, yup, there's a lot of spare oil coming downstream. NYMEX traders trade the price down. IEA looks at the prices on the NYMEX. They know their data is flawed, but look at this, the price is down. We must be right. So they say, in their next report, oil supplies are out stripping demand. In fact, there is evidence the problem is worse than we thought earlier, the 'missing' barrels. NYMEX traders see this latest report. They bid the prices down. IEA sees latest prices, thinking these are the prices being paid rather than optioned...
I think you get the point. There was a vicious cycle set up between NYMEX and the IEA based on ignorance and fear. This reached its climax with the infamous $5 a barrel cover on the Economist.
Eventually OPEC responded with the current cutbacks. They were getting killed. These countries cannot tolerate, socially or politically, low revenues. Not only OPEC, but Mexico and Norway were roped in. All shared common cause in higher prices, but not too high. Not too high, because if oil goes too high, elasticity of supply kicks in. OPEC learned the hard way that when oil prices get too high, the supply goes up. Thus oil supply is said to be elastic. So they pooled their resources and made the cutbacks stick.
Since all of this transpired, the Asian economies are kicking back into gear. There is even evidence Japan may be confronting the very serious economic problems they have and are in the beginning stages of a profound and long lasting economic recovery. We are reading articles now of the penetration of computer based technologies working their way into other Asian countries for the first time. So their revolutions in productivity and economic growth are just now kicking in.
I think, and this is just my own limited views, we are in one of those rare moments of transition from one type of economic order into another.
At this moment, production and consumption of oil, on a world wide basis, are on the razor's edge of balance. But, the coming growth in Asia coupled with the beginning of oil depletion on a world wide basis will throw this balance to the side of the producers.
The price jump you referred to is a sign of this change.
From everything I've read, we have about 5 million barrels per day spare capacity available in the world. OPEC is intentionally holding a lot of that back. We are using about 75 million barrels per day. It won't take much growth to throw us into a serious production shortfall, even if the producers are willing to pump as fast as they can.
According to one fellow by the name of Campbell, Norway should be entering a depletion stage in 2001. Dittos for Great Britain. The breathing space the North Sea gave us is just about over. There are anecdotal stories of Kuwait seeing some initial signs of depletion in at least one of their giant, heretofor unlimited oil fields. I've picked up stories that Iraq has damaged some of her fields in an attempt to get as much as they can in the short term.
The bottom line: 90% of all the world's oil is in only 30 major basins. These basins are showing signs of going into depletion. The bad thing about depletion is that you don't really notice it's there until you're on the losing side of the production curve of the reservoir and then it goes really bad, really fast.
So what's going to happen over the next few years? Most people won't notice anything has changed until we are into the depletion side of the collective production curves of the world, along with higher gasoline and heating oil prices. Then people will say it's the greedy oil companies, etc. But the whining and carping won't change a thing. We'll have to look somewhere else for oil.
My guesses? Right here in Colorado we have the huge oil shale deposits. More oil there than has been found to date in the entire world. Not really accurate, as the hydrocarbons there are in the form of kerogens that didn't get buried and cooked up as proper petroleum. But we can complete the process artificially. It just costs a lot.
By the way, accumulations of kerogens contain over 10,000,000 gega tons of carbon whereas all our fossil fuels contain some 6000 gega tons of carbon. Keep that in mind. You might have to know that to win a Jeopardy jackpot. However most carbon stores in the earth are found in carbonate geological formations, useless to us as fuel.
Alberta has those oil sands. I think those are probably more cost effective than Colorado's oil shale.
So we will have oil. It just won't be cheap oil, which I define as under $25.
Society will manage. I see where Honda now has an electric-gasoline or diesel hybrid getting 70 to 80 mpg. But man, if you own some honest to goodness oil, you're going to do well.
Of course some things might accelerate or slow down this transition to more expensive oil. Recessions. Another overthrow in Arabia somewhere. But I'm comfortable with telling everyone here I think we'll see it definitely within 10 years and very likely within 5.
My that was a long answer. Thought I was just going to say a couple of things and end up writing a book.
Sorry if that was too long. Been thinking a lot about developments out there in the oil patch and am trying to organize them. Good way to do that is explain them to someone else.
Regards,
Jack Simmons |
