by Charles H. Featherstone
by Charles H. Featherstone
One of the miracles of our modern economy — perhaps the greatest — is the ability to walk into a store, or wander a market or a mall, buy a product and have absolutely no idea where it comes from, how it works or what it's made of. And use the product successfully anyway.
I say miracle because for much of human history, people had to make most of what they ate, wore, worked with and played with. They had to build tools, slaughter animals, grow crops, dig wells, build houses, and their lives were brutal struggles to survive to achieve, well, subsistence. And not much more.
Life is still like this in large parts of the world, and having touched the edges of that world by my travels to the Middle East, I can tell you that Africans, Indians and Chinese see this world of convenience, mechanization and specialization. They want it, if not for themselves, then for their children. Most know a life even of office drudgery, or of factory work, beats a life behind a plow or herding goats. Hands down.
Sure, there are some serious tradeoffs not knowing where things come from. First, when a thing simply appears by magic on a store shelf, it's hard to really appreciate the work that went into designing it, procuring the raw materials, building it and shipping it, the thousands of people who work to make sure that product gets where it needs to go. It's hard to truly understand the cost involved. As an agriculture reporter and sometime teenage ranch hand (my grandfather owns a ranch in Eastern Washington, and it was more vacation than work), I at least have some idea of what it takes to grow and harvest a bushel of wheat and where a good steak comes from.
But that just makes me more grateful. It still doesn't matter in the end that I know where stuff comes from or not.
The same is true every time you fill up your gas tank. Sure, you might have some vague idea that you're burning dead dinosaurs pumped out of holes in the ground, but you don't really know what it takes to find, extract, transport, refine and distribute this stuff. And, God bless it, you don't have to in order for you to fill your tank and just go.
Were that it could simply end there, but unfortunately it can't. People kill to control crude oil, largely because they believe they are entitled to own it and use it.
There's a lot I don't know. I'm not a petroleum economist, or engineer, and I've never worked in the industry proper. Most of what I've learned I picked up from sources and other reporters during several years of covering markets and working with people who do. I suspect there are some things I have gotten wrong — or, more likely, not gotten quite right — and I stand ready to be corrected.
I have, however, learned a lot, enough, maybe, to be amazed that it all works as well as it does.
FIRST THINGS FIRST — PRICES AND TRADING
The first thing to understand about petroleum is this: crude oil is only valuable because it can be made into other things. By itself, petroleum is virtually useless. There's very little call to seal and waterproof wooden galleons or hurl Greek fire at one's opponents. Now, all the products we distill and refine from crude oil — liquefied petroleum gas (LPG or condensate, stuff like propane and butane), gasoline, diesel, kerosene, heating oil, fuel oil, asphalt and coke — can be derived from every grade of crude pumped out of the ground. But not every grade of crude can be refined into the same spread of substances. Without a lot of work, heavier, thicker, higher sulfur grades of petroleum (the bulk of the world's crude oil, including that produced by most OPEC countries) yields very little gasoline, while lighter, low-sulfur crudes yield substantially more gasoline.
And gasoline, the motor fuel of choice for most of the world's passenger cars, is what matters. The more gasoline you can squeeze out of a barrel of crude, the greater the value of the crude.
(Petroleum with less than 1 percent sulfur in it is "sweet," while crude with a higher sulfur content is "sour.")
The price you usually see quoted for a 42-gallon barrel of crude oil — what got wound up to $55.67 per barrel in October — is the New York Mercantile Exchange (Nymex) contract and spot price for West Texas Intermediate, a fairly low-sulfur, high-gasoline content crude that is one of three major global benchmarks used by oil producers as the basis for pricing. (The other two are Dubai, which is the benchmark for fairly heavy and high-sulfur crude oil shipped, generally, to Asia; and UK Brent, which is pumped from the North Sea and is the price benchmark for roughly 40 percent of world's crude grades.) The lighter the crude and lower the sulfur content, the more gasoline you can get, and the higher the price the crude commands on the market. Conversely, the heavier and higher in sulfur the oil is, the lower its price.
For example, Light Louisiana Sweet — a grade of crude pumped from the Gulf of Mexico — usually costs slightly less than West Texas Intermediate (WTI), while Mars — Royal Dutch/Shell's unofficial Gulf of Mexico sour crude — sells at a substantial discount to WTI, what is called the sweet-sour spread.
On Tuesday, December 28, the New York Mercantile Exchange price for WTI delivered in February (the contract month) closed at $41.77 per barrel (while the WTI spot price for delivery at the huge oil terminal complex in Chushing, Oklahoma, was $41.75 per barrel). That same day, Light Louisiana Sweet traded at $41.68, Mars from the US Gulf at about $33.30 per barrel, Alaska North Slope crude (which has a fairly high sulfur and heavy metal content) for delivery to California traded at $34.97 per barrel, low-sulfur Nigeria Bonny Light posted $40.08 per barrel, high-sulfur Dubai finished at $35.63 and Russian Urals (another moderately high-sulfur grade) closed at $37.08.
Why buy Light Louisiana Sweet when Nigeria Bonny is $1.60 cheaper? Simple. It will cost more than $1.60 per barrel to get that Nigerian crude to the US — possibly much more.
I have to admit at this point, I know very little about how the actual shipping of petroleum — and, more importantly, what it costs — works. In most non-term transactions, the buyer takes title of the oil at the producer's oil port, puts it on a tanker, and is at the whims of the market all the way home. In some instances, the seller assumes the cost of shipping and insurance as a way of encouraging sales. On December 28, Ecuador Oriente high-sulfur crude for shipment to the Gulf Coast was quoted at a bid-ask (the lowest price a buyer was willing to pay versus the highest price the seller wanted; it does not mean the crude actually traded) of $29.94—$30.09, with the buyer assuming all the additional costs of shipping and insurance. That same day, the same grade of crude for delivery to the US West Coast quoted at a bid-ask of $29.77—$29.87, with the seller picking up the cost of freight and insurance. That difference could mean a couple of things — Oriente is more useful in a Texas refinery than it is in a California one; or, possibly, the Ecuadorians are much more interested in cultivating California customers.
Just about everything that can be traded in this market is: the crude itself, oil contracts, gasoline, heating oil, jet fuel, residual fuel oil, asphalt, coke, tanker space, and any kind of derivative or spread between two or more types of contracts. This is the real work of civilization, the trading of commodities. It's the work that makes all others possible. Virtually everything in your home is made from something that has been bartered, brokered or bet on by someone somewhere.
The difference between a futures market, like the Nymex or the International Petroleum Exchange in London, and a forward market is that most of the trading on a futures market is speculative, with very few contract traders seeking actual delivery of actual oil at the end of the month when contracts settle. In fact, as speculative ventures, more paper contracts trade than available oil. This is a money-making venture, used by investors, funds, oil companies and governments to hedge their bets and cover any possible losses they might incur elsewhere in the supply chain. Forward traders, however, are actually hedging future production or demand and hope to take possession of real oil (or sell real oil) — or soybeans, or cocoa, or electricity, or whatever — at a later date. Speculators are important to a market because they bring liquidity and information as they place their bets on whether a commodity will increase or decrease in value.
Hedging is even an issue with long-term contracts. It takes about eight weeks for a great big boat (a technical term) full of Arabian crude to reach the Louisiana Offshore Oil Port (LOOP) from the Arabian Peninsula. Eight weeks, in the market we have today, is an eternity. Buyers want to make sure that oil they may have paid $38 per barrel for at Yanbu is not suddenly worth only $35 per barrel when it reaches LOOP. Sellers like to make sure they get a cut if that $38 per barrel oil is suddenly worth $40 when it arrives. Sharing part of that cut is the price of doing business with a reliable, low-cost supplier.
Some producers, like Mexico and Saudi Arabia, do not sell their crude on international spot or futures markets, but instead work very closely with buyers and every month announce the prices of their different benchmark crude grades in a process called nominations. Saudi Arabia, for example, has worked very hard over the years to prevent any kind of spot trade in its crude (through contractual arrangements that prevent resale or diversion of cargoes to alternative destinations) and has historically discounted the prices of all its crude grades to US buyers with refineries on the US East and Gulf coasts, as part an informal arrangement with American governments going back a long, long way.
THE EVIL EMPIRE?
Which brings us to the matter of OPEC, the Organization of Oil Producing and Exporting Countries, the evil cartel I'm certain every American has cursed a time or two. (For the record: Venezuela, Nigeria, Algeria, Libya, Iraq, Iran, Saudi Arabia, Kuwait, Qatar, Abu Dhabi, Indonesia). It's not the nastiest collection of governments in the world, but it is not the Lutheran World Federation either. OPEC was created in 1960 in response to a major price cut imposed upon oil-producing countries by the major Western oil companies, which at the time controlled most aspects of this business, from upstream production, to shipping, to refining, distribution and retail marketing. In theory, the majors accepted government ownership of sub-surface mineral rights (outside of Anglo-American common law, as I understand it, most legal systems state that subsurface minerals rights are owned by the state, regardless of who owns the land) but acted as if their concessions were their private property. A bad move when that property is not really yours.
OPEC was a fairly useless organization during its first decade, though the late 1960s saw the beginning of the lengthy nationalization struggle between governments and private oil companies — a struggle the governments all "won" by the late 1970s. By creating huge national oil companies to manage that resource, oil producing governments would eventually discover how complicated and expensive effectively managing that resource really is. Only one of OPEC's big state-owned oil companies is involved extensively in exploration and production outside their home countries (Algeria's Sonatrach is heavily involved in liquefied natural gas projects across the Americas). All of them need the technological expertise of the majors, whether it's Qatar Petroleum's joint venture with ExxonMobil to expand the RasGas and QatarGas liquefied natural gas terminals, Aramco's joint venture with Sinopec and Rosneft to develop natural gas in the Empty Quarter, or Shell and ChevronTexaco's extensive involvement in developing the tar sands deposits of Venezuela's Orinoco Belt.
The great emotional issue for most oil producing states is upstream investment — the actual poking of holes in the ground. This resource is considered a hard-fought national patrimony in the way many people in this country view the Panama Canal — very emotive and not terribly rational. Saudi Arabia may allow foreign firms to drill natural gas wells, but the drilling of oil wells in the magic petroleum kingdom is absolutely out of the question. Even talking about it is haram. Ditto in Mexico, where the issue of declining production threatens to turn our neighbor to the south into an oil importing country in the next ten years (Mexico is the second largest supplier of crude to the US). There's probably plenty of oil on Mexico's side of the deepwater Gulf, but state-owned Pemex simply does not have the money to invest in deepwater drilling. Mexico's Congress loots Pemex every year (Pemex provides the state with about one-third of its annual revenue), leaving the company with very little to invest in increased production, while the Mexican constitution currently forbids direct foreign upstream investment of any kind in the energy sector.
While there have been times when OPEC members have been disciplined enough to effectively leverage the market in their favor, the organization doesn't really have the clout or the continued long-term discipline (they cannot even agree on someone to head the organization right now!) to do it constantly or consistently. A market mechanism, of sorts, works between consuming and producing nations, especially with the coming in the 1980s of the global spot market for crude oil. In addition, each producing country has its own strategy to follow as well, because the size and quality of their reserves differ as well. While the organization has had its hawks in the past, who believe that consuming nations are hooked and can be gotten for all they are worth (Qadhdhafiy's Libya was a good example of this in the 1970s, as was the Shah's Iran), most understand the laws of economics: if a good is too expensive, consumers will find an alternative. Not necessarily to oil, but to the source of that oil. The price shock of the 1970s spurred development in the North Sea, northern Alaska and Canada, and now everyone understands the need for a very diverse resource base. Which explains why oil companies — especially small ones — are drilling in such varied places as offshore Mauritania and Papua New Guinea.
The last few months provides a really good example of just how little power oil producers have to dictate prices, even in a market as hard pressed for crude as the world is right now. Recently, Ecuador's Congress complained about the low prices received for the country's crude oil exports (see above), and unilaterally vowed to raise the price by nearly one-third. A price at which there were no takers. It quickly came back down.
And anyway, a country with potentially long-lived reserves — Abu Dhabi, Saudi Arabia, Kuwait, Venezuela — doesn't want or need prices as high as they can go because they are more interested in market share and ensuring a continued demand for their product. So, for example, some years ago, Aramco and Texaco formed a joint US refining venture, Motiva, which became a Shell operation when Chevron merged with Texaco. So if you buy Shell gasoline on the East Coast of the US, there is a good likelihood you are buying gasoline refined from Saudi crude.
There are all kinds of marketing arrangements in the US (and elsewhere), some much less secretive than Motiva (you'll notice there is no Motiva-brand gasoline out there). Stop into a Citgo station east of the Rockies and you are likely filling up with gasoline refined from heavy sour Venezuelan crude (the Venezuelan state oil company PDV owns Citgo). And you're helping out Hugo Chavez's "Bolivarian Revolution" too. Olé!
OPEC's power has also been pretty thoroughly cut by the large number of non-OPEC producers, like Russia, Norway, Mexico, Canada, and up-and-coming producers like Brazil and Equatorial Guinea. Today, OPEC only produces about 30 million barrels per day, less than half of the 80 million barrels consumed every day. The organization has very little "spare capacity" — the ability to rapidly increase production to make up for any unexpected shortfalls — outside Saudi Arabia and Abu Dhabi. For the last year at least, virtually every nation that can produce crude oil has been producing flat out. Which left markets very uneasy. In the event of another significant crisis — say, a US attack on Iran or collapse of the Saudi government — the price of crude oil would skyrocket.
Consuming nations themselves hold a lot of power too; we are not simply victims of the producers we like to think we are. After the 1973 oil embargo, non-OPEC production expanded rapidly, responding to higher prices that made higher-cost production economically viable. Consumers can change their buying patterns, like the gasoline-to-diesel switch going on in Europe (prompted by government action). Or they can conserve. Or they can stick an aircraft carrier battlegroup offshore a producing country and threaten it with mayhem and disaster if it doesn't behave. There are all kinds of ways for consumers to influence contract terms. This is why even today's price hawks like Venezuela and Iran are seeking successful and stable long-term markets for their crude oil.
Part of that long-term marketing effort is to build or modify refineries so they can most efficiently process streams of crude from particular producers. Close to three-quarters of refineries in the US, especially those on the Gulf Coast, are optimized to use heavy crude, to squeeze as much gasoline out of a sludgy barrel of Venezuelan, Ecuadorian or Mexican crude as they possibly can. By applying heat, pressure, adding steam and hydrogen, and using various catalysts, refiners can take low-gasoline content heavy crudes and get as much gasoline out of them as they can. But there's a trade off, because for every extra gallon of gasoline you get, that means less kerosene and diesel fuel and more coke (near-pure carbon ash).
In fact, refiners specializing in heavy, sour crudes can fairly easily maximize their profits when prices for light, sweet crudes and gasoline are high. And US refiners like Citgo and Valero have done just that, making great hay out of the fact that they can extract as much gasoline as possible from a barrel of sour crude.
Refineries in Europe can do this too, only European governments and automakers made the decision some time ago to rely more heavily on diesel fuel. Diesel, a middle distillate like kerosene (jet fuel) and heating oil, is easier and cheaper to refine from even sludgy oil. That allows European refiners to diversify their crude oil sources and reduce dependence on light, sweet crude. That lowers their costs, though tighter anti-sulfur standards negate that somewhat. Because of this, Europe has been a significant source of base gasoline blendstock for the United States, an important development since it is unlikely that a new refinery will ever be built anywhere in the US ever again.
(Saudi Arabia has frequently noted — or taunted, depending on how you want to look at it — that US refining capacity has not kept pace with American demand for gasoline, diesel and heating oil. Recently, Aramco offered to build and pay for two brand new refineries in the US to help meet that demand — on the condition that someone else obtain all the necessary environmental permits first or that the federal, state and local governments involved fast-track the process and protect it from legal challenges. It was a generous, unrealizable, and extremely cynical, offer.)
However, nearly all Asian refineries outside of Japan and South Korea — especially refineries in China and India — are incapable of producing anything but straight-run gasoline, and are heavily dependent on light crude to fill the gas tanks of the increasing numbers of vehicles on their roads. A lot of that crude comes from West Africa, especially Nigeria.
As demand in China has heated up, the price of light crude zoomed to meet that demand, and the sweet-sour spread expanded considerably. China did not need fuel oil for power plants (it can get plenty of crummy crude for that). But Chinese motorists do want gasoline.
In fact, 2004 could very be remembered as the year that American consumption no longer drove the global crude market, while Chinese consumption did.
It isn't that America no longer matters. We are, and will remain for some time, the world's largest oil consuming nation. Americans use about one-quarter of the world's 80 million barrel per day output. But the serious, money-making growth is no longer here in North America. International oil companies see a US market that is already saturated by automobiles (and increasingly interested in lower-mileage cars), while an increasingly wealthy China is busily trading in its bicycles for cars, light trucks and SUVs. ExxonMobil, the world's largest publicly traded oil company, has already identified China as the growth market of the next two decades, and believe China is ready for more complex refineries (that can handle heavy, high-sulfur crude — a net plus for everyone, as it would take pressure off high light, sweet crude prices), oil terminals and service stations.
The growing Chinese demand helped boost crude oil above $40 per barrel earlier this year, and a combination of strong Chinese demand, instability in Iraq, off-and-on unrest in Nigeria, labor problems in Norway, the Russian government's vendetta against Yukos, and Hurricane Ivan's damage to Gulf of Mexico production, propelled crude futures to their record late October close of $55.17 per barrel. The pressure only began to relent when US crude inventories figures began to rise (more government data), though the bubble was really pricked by an announcement from China's central bank raising Chinese interest rates — hopefully slowing the red hot demand for everything from oil to wheat to steel — and smooshed flat by the collapse of a major Chinese trading firm, China Aviation Oil.
China Aviation Oil was the country's largest crude and refined products trading firm, and while I don't know much of the story about the company's demise, I roughly know that they put when they should have called and called when they should have put. For anyone not familiar with the language of commodities trading, that means they bet that prices would go down when they went up and bet they would go up when they went down. Upon its demise, brought on after the government in Beijing refused to bail the company out (crony communist rulers willing to allow a big company to go bust; would our crony capitalists be so bold?), the company had staked out $500 million in bad positions, mostly in West African light, sweet crudes.
Some believe that when it is all over, China Aviation Oil may rack up $1.5 billion in losses.
A lot of crude oil traders, especially those east of Suez, had to quickly unwind long positions designed to take advantage of China Aviation Oil's rapacious need. A large number of tankers full of West African crude were suddenly stuck without destinations. Those tankers were not unwanted for very long, however, and most got snapped up and sent to alternate destinations in the Americas and Europe.
Logic dictates, however, that even with the demise of China Aviation Oil, demand in China for gasoline has probably not really fallen any. Eventually, West African crude exports to China will pick up as other firms step in to fill that demand. Whether that will provide any more oomph to crude markets in the coming year remains to be seen.
THE INVASION OF IRAQ
Now, I know a fair number of you out there believe that the invasion and occupation of Iraq was all about oil. Specifically, it was all about making sure that exploration, production and development contracts would go to the likes of ExxonMobil, ChevronTexaco, ConocoPhillips and BP (which is as much an American company now as it is British, given it annexed what used to be Standard Oil of Ohio and Standard Oil of Indiana) as well as a handful of other "smaller" corporations (let's never forget that wherever a taxpayer trough overflows, there's Halliburton ready to gorge itself).
(It doesn't help to think of the supermajor oil firms as "American" companies. They are international oil firms with US addresses, and they specialize in selling crude and refined products to paying customers. Twenty years ago, even ten years ago, that was the same as selling to Americans. It is not the same thing today.)
I doubt very seriously anyone at Exxon called the White House and said "invade Iraq for us so we can get exploration and production contracts." If there were commercial quantities of oil in Hell, Exxon executives would not call God and demand regime change. They would buy an extremely nice lunch for the Devil, and they would talk contract and concession terms. Several years ago, at an Iran-US relations shindig on Capitol Hill, I ran into a senior Conoco executive who told me his company spoke weekly with Iranian officials about possible investment in Iran. I have no doubt that ConocoPhillips still maintains its access to Tehran in the event that, someday, the sanctions come down and they are allowed to work in Iran.
(Does anyone remember how funny it was 20 years ago when we all learned that Cuban soldiers fighting on behalf of the Marxist government of Angola were guarding the Chevron concession — the concession that earned Angola the hard currency to pay for those troops?)
It isn't that any US oil company would say "no" to Iraq contracts if the situation shaped up there and contracts came their way. But Iraq is a mess right now, and is there is no security — political, legal or physical — to guarantee a return on a multi-billion dollar investment. It's unlikely that any of these companies asked for this invasion because they all prize stability — the stability of contractual arrangements, of a regular return on capital, of not getting their employees killed and their equipment blown up — above nearly anything else. Even the stability guaranteed by very nasty governments. Dealing with the "devil," whatever headgear it wears, is pretty common in the oil business.
But there is an oil component to the invasion and occupation, and I believe it is this: the United States, through invading and occupying a nation with significant oil reserves, would show the world — especially the up-and-coming consuming nations of China and India — that in the event that push comes to shove, and this resource gets scarce, Americans come first.
"Everyone else gets in line behind us. If there's any left, we'll make sure you get some."
Now, I'm fairly certain that a fair number of Americans will high five and go, "Yeah dude, kick ass! That's our oil! We need it!" But this muscular mercantilism is hardly the "rule of law" we say we believe in and that we claim we're fighting for. Unless, of course, the "rule of law" is whatever rules and laws give us whatever we want at the time. Which is what I think it means sometimes.
I could point out that crude oil formations underneath the Saudi desert, or Lake Maracaibo in Venezuela, or wherever, aren't our property — even if they aren't private property per se — and therefore we are no more entitled to that crude than a ravenous fat man is entitled to a free meal everywhere he goes. However, the militant mercantilist is unlikely to care about such niceties, and is probably happy knowing his government is willing to stick guns in peoples faces and demand they fork over their property because "we need it more."
If you are a Chinese oil company, trying to fuel one of the fastest growing economies in the world, how do you deal with this? The People's Liberation Army cannot hope to match US military power, not now, and likely not in 20 years. If it comes to bullying for crude — high-stakes commodities extortion — China simply won't be able to compete.
I have every reason to believe, however, that the Chinese are betting there will come a day when we are so bankrupt that we won't be able beg, borrow or steal a junkload of lowland Vietnamese robusta coffee and a container load of broken rice intended for Cuba. Or they are betting that polite paying customers — customers with cash, as opposed to promissory notes — will easily buy what a bully can only dream of stealing.
Chinese oil and gas firms have been building extensive business connections across the world, from upstream investment in Iran to partnering with Brazilian state oil firm Petrobras to build natural gas pipelines (China is already a major buyer of Brazilian crude). Chinese firms are interested in building a crude oil pipeline across Colombia so that Venezuelan crude can be loaded onto China-bound tankers at a Pacific Ocean port. And Chinese firms are talking about investing $2 billion to expand development of the Athabasca oil sands in northern Alberta. Hong Kong tycoon Li Ka-shing already owns a huge stake in Canada's third-largest oil firm, Husky Oil, and is thinking of buying more. They are doing this, they say, to help secure future Chinese crude oil needs.
Keep in mind that, right now, Canada is the largest supplier of crude oil to the United States.
THE END OF OIL?
I get asked about "peak oil" a lot. I've even had some people send me junk mail predicting when the date would come. Sometime in June, 2006, I recall. (Unsolicited investment advice: go very long!) I didn't really pay attention.
The last year has been a good year for those inclined to fear the end of oil. High prices usually bring the worst out, and it doesn't help that Royal Dutch/Shell reduced its stated reserves by the equivalent of 4.5 billion barrels of oil (that's Saudi Arabia's total production for 16 months — an "accounting error" that has made Shell the poster child for how not to run an oil company) and that a couple of wise analysts have accused the ever-secretive Saudis of improperly managing their reserves to the point of exhaustion. But every since OPEC gained its feet and was able to exercise some power in the market beginning in 1973, high prices have always prompted panic that the global oil tank is running on empty.
I'm not a geologist or a geophysicist, so I do not know whether crude oil and natural gas are made from biomass — the result of time, heat and pressure acting upon tons and tons of dead things, mostly algae and phytoplankton — or whether the complex hydrocarbons we extract from the earth are "inorganic" — the result of time, heat and pressure acting upon chalk, water and a few other odds and ends chemicals. I do know that the theory of inorganic crude oil and partially renewable reserves is not widely held outside of Russia, and that the Western majors all "publicly" base their estimates of reserve life on the assumption that petroleum is a very finite resource, and expect current world reserves to last between 40 to 80 years, given improved field management, recovery techniques and relatively constant development.
There's an estimated 1.2 trillion barrels of liquid crude oil in the world — about 40 years reserves at the rate they are currently being used (80 million barrels per day). Of this, about one-quarter lies under the deserts of Saudi Arabia. Iraq's reserves could be larger, but no one really knows and the Saudi reserves are well explored. Most forecasts expect that demand to rise by 50 percent to 120 million barrels per day by 2020, though anyone who works with statistical data will tell you that forecasts more than a year or two out are, at best, simple guesswork. In the 150 years human being have drilled for and refined petroleum, it's estimated we've used about 1 trillion barrels.
However, As Nymex and Brent prices were bid up past the $50 mark last autumn, producers were pumping about 1 million barrels per day more than consumers were using, though it is clear that some of that "surplus" can be accounted for by undocumented use in China and Russia. The price rise was not the result of an overall shortage of crude, but a lack of light, sweet crude for gasoline in China. There's a lot of sour crude in the world, more than anyone can use. More than anyone wants right now.
It is also generally accepted in the industry, as I understand it, that we have probably found all of the major oil reserves that we are going to find. That doesn't mean there aren't major reserves out there to develop — such as offshore Sao Tome or deep in Siberia. It does mean that, most likely, knowing what we know about the Earth's geology, there probably is not another Ghawar formation (the world largest petroleum deposit, located in eastern Saudi Arabia) lurking out there yet to be discovered.
This, of course, could be very wrong. But the bet, right now, is that it is not.
But as demand across the world rises, and the call on the resource increases, the price will likely slowly but inexorably rise. Efficiency and conservation will buy room, but the economic affect of using less and using more efficienctly is equivalent to increased production, and those extra barrels will be used by someone somewhere. And for those wishing for an end to Saudi influence on the oil market, officials with the Bush Administration have said that a 120-million-barrel-pay day world is going to need 20 million barrels each day from Saudi Arabia, making the world more, and not less, dependent on the Gulf kingdom. (One former Aramco executive said 20 million barrels per day will be impossible to reach.)
Sure, there are alternatives. There are huge bitumen deposits in Venezuela and Alberta, tar sands that combined hold more than twice the current estimated world reserves of liquid crude oil. But bitumen is costly to refine, a potential environmental nightmare to extract, and right now, only a tiny fraction of the crude in either the Athabasca oil sands or the Orinoco Belt can be recovered.
There's a lot of shale in North America, and the process to synthesize crude from shale is fairly old and well known. It is also water intensive, and not terribly economical right now (because most of the shale is buried out West, where there is very little water). The technology is pretty well established to make synthetic crude oil from coal (lots of North American coal too) or natural gas, or even turkey guts or pig manure — if the price is right.
But none of that matters, because while synthetic crude, whether made from bitumen or natural gas, makes great diesel fuel, kerosene and fuel oil (some buses in Washington, D.C., for example, are powered by diesel synthesized from natural gas), it tends to make really lousy gasoline. Or very little gasoline. And I cannot emphasize enough — right now, gasoline is what everyone wants. Gasoline is what makes the world go round.
So the question is not "when will the crude oil run out?" but "how can we best use the petroleum we have until other economically viable alternatives present themselves?" (I'm not holding my breath for fuel cells any time soon.) That becomes what folks here in Washington call a "policy question," which leads to think tankery, publication of "papers" and funny little books called monographs, conferences, government initiatives, and all manner of other sundry evils.
We cannot ignore the fact that this an industry interlaced with government from top to bottom, whether we are talking about the huge state-owned firms of the big producing nations or our own heavily regulated supermajors. That is the reality, lamentable and regrettable as it is. But as libertarians, we need to remember a few things. First, whatever ends up replacing petroleum will come in its own good time, later than we'd like but probably sooner than we expect. It will come because it stores energy and power better than gasoline does and more cheaply to boot. It will come with some tremendous benefits and some unfortunate drawbacks. Consider as you lament the evils of crude oil: the fairly accidental discovery of kerosene and expansion of the refining process in the second half of the 19th century saved whales from an early mass extinction while at same time making nighttime light and winter heat affordable to even the most impoverished parts of Asia, Africa and Latin America. Gasoline itself was originally a waste product, largely unused until the invention of the internal combustion engine, and automobiles made for cleaner streets (no more manure) and safer farm equipment, given that farmers no longer had to wrestle with motors that had minds of their own. Kerosene itself languished as an unloved byproduct of refining for several decades until the invention of the jet engine.
Second, that new fuel will probably not come as the result of government-sponsored research. Government efforts to target new development — whether hydrogen fuel cells, hybrid engines, coal gasification, ethanol subsidies — may contribute some, but the kind of thinking and investing needed to find or make that new fuel probably cannot be done by government bureaucrats, scientists or regulators, who can only think incrementally and usually only consider efficiency and conservation, rather than entirely new ways of doing things.
I don't necessarily trust technology, but I do trust human ingenuity. Civilization as we know it will grind to a halt without the energy we derive today from crude oil, and that's in and of itself is motivation enough to make sure that future energy is widely available at prices people can afford.
January 6, 2005
Charles H. Featherstone [send him mail] is a Washington, D.C.-based journalist specializing in energy, the Middle East, and Islam. He lives with his wife Jennifer in Alexandria, Virginia.
Copyright © 2005 LewRockwell.com