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Sticky Business

The Primacy of the Oil Price Isn’t Over Yet, Says Michael Wilson. Whatever Washington Might Think


Okay, I admit it. What follows is going to sound a bit like sour grapes. A couple of years ago, this column carried what you might call a stout defence of the oil industry and its long-term staying power.

Just look at all those Chinese and their cars, I said, and then think of all the Indians who’ll soon be following them onto the roads, and all the airliners that they’ll soon demand. Look at the dwindling quantities of crude oil and gas that still remain under the earth’s crust, and tell me that you’re not just a teensy bit worried about what will happen when we start to run short?

And did anybody listen to me? Nope. The Brent crude price just dawdled along in its own sweet way, never more than 10% adrift of its $110 average. Petrochina and a few other hot prospects went into a doze and then slipped away from $150 to below the $100 mark. And even my trusty Royal Dutch Shell became just another middling-grade income stock. Huh, so much for that bright idea.

The Good News

The reasons for all this, of course, are more than apparent. Or at least, we think they are. Shale oil and gas have brought America’s dream of returning to oil and gas self-sufficiency very much closer now – and also very much faster than anybody had really expected. (Right now, 2020 seems an achievable date.) That, in turn, has reduced the pressure on global supply.

The manufacturing slowdown in China turned out to be deeper and more seriously intended than most of us had expected. In Europe, the manufacturing slowdown and the slow but impressive march of new energy technology has been reducing the energy deficit with every passing year.

And the halting return of democracy in parts of North Africa and the Middle East has proceeded, despite setbacks, a little more encouragingly than some of us had expected. Meaning that supply disruptions, of the kind that persuaded the International Energy Agency to forecast a wild $200 a barrel by Christmas 2008, are largely off the cards. (A laughable mistake, as it happened – by December Brent had dipped to a terrible $48 before settling around the $75 mark, where it stuck for 20 months.)

The Worrying News

And yet…..And yet….

This year’s news has been dominated by oil and gas developments. Nigeria, the world’s Nth largest oil producer, was losing half the oil in its pipelines to local thieves even before Boko Haram started carving up the country with its Islamist insurgency. Iraq won’t stay quiet for very long at a time, as the last two weeks have proved. And Egypt still hasn’t settled its fight with the militants. Anyone who thought that putting Al-Qaeda back in its political box would calm things down hadn’t reckoned with the ease with which it could morph its way out again.

Most importantly for us Europeans, though, has been the Ukraine business. When Russia annexed the Crimean peninsula back in March, things swiftly deteriorated to the point of an energy stand-off. Ukraine refused to pay the roughly doubled gas price that Moscow had started demanding for its supplies, and Russia decided instead that Ukraine wouldn’t be getting any gas at all unless it paid in advance.

Barack’s Back-Step

US President Barack Obama boldly decided that the best way to show his country’s displeasure was to threaten a European boycott of Russian gas. That’d show the Kremlin not to tangle with an ally of the West, he declared. The only snag was, unfortunately, that Russia supplies a third of Europe’s natural gas, and that Western Europe would need to find another supplier in double-quick time if we weren’t to go into next winter in a Cold War of words.

So it was obvious, wasn’t it, that Obama would organise a massive shipment system for getting American liquefied petroleum gas (LPG) to Europe? Well, no, actually, he hadn’t got any such thing on his policy agenda, so sorry, it wouldn’t happen. When he was pressed by his European partners to suggest a way through the problem, he went oddly quiet.

You can see the President’s point. For one thing, America is still using more oil and gas than it produces, and there was a definite strategic need – or so the papers said – to defend the country’s oil security in the face of shrinking supplies from Canada and Venezuela, not to mention a wobbly political spell in Saudi Arabia, still the world’s largest oil producer, which seemed to be losing the western-friendly plot just a little bit.

And anyway, America couldn’t export LPG in bulk even if it wanted to. The necessary terminals and the specialist pressurised shipping carriers are still a couple of years away from completion. And, at the time of posting, Ukraines pipelines look like closing – which leaves us Wstern Europeans in a bit of a quandary, frankly, because we’ve entered the summer months not knowing exactly where 15% of next winter’s gas is going to come from. Vladimir Putin’s Realpolitik is working just fine, worse luck.

Some Proper Figures?

But we’re getting off track a little here. Having paused briefly to remind ourselves that the International Energy Agency couldn’t count its own toes with any statistical accuracy, let’s at least try and tangle with some of the projections in what is, by any reckoning, a rather volatile kind of market.

And let’s also remind ourselves why it’s so volatile. Sure, America has its own strategic oil reserve, at Cushing, Oklahoma, which is intended to be there in case of war or government emergency – but for the rest of us, we prefer to leave the oil in the ground until just before we need it. Oil is messy, flammable, heavy, and a complete beast to store for any period of time. (It’s also a magnet for terrorist attacks, but that’s another story).

So we don’t maintain much of a global buffer stock. Which means that when trouble strikes we often get caught short in the supply chain. It doesn’t take a very big earthquake or a colossal military stand-off – or, heaven forbid, a sudden nuclear switch-off – to put panicky new life into the energy auctions.

 

  • ·       Proven ‘extractable’ world oil reserves rose from 1.017 trillion tonnes in 2000 and 1.355 trillion in 2010 to 1.525 trillion 2012. So the growth in reserves is real enough.
  • ·       Iran, Iraq and Venezuela have massively increased their known reserves in recent years, but Mexico’s production is drying up, and Canada’s may not last very long.
  • ·       US known reserves are barely 25 million tonnes, which is a tiny proportion of global resources, but the figure is growing fast as new discoveries come on line.

·

Oil:

  •        U.S. oil production, including natural gas equivalent, will rise from 9.2 million barrels a day in 2012 to 11.6 million in 2020, says the IEA, up
  • ·       Britain’s North Sea oil is drying up fast – some estimates give it as little as five years.
  • ·       Current global oil production is around 64 million b/d from non-OPEC sources, plus another 32 million b/d from OPEC members.
  • ·       But the IEA warns that non-Opec production has been disappointing because of political turmoil in South Sudan and Colombia, and as well as continued delays in the vast offshore field in Kazakhstan. Accordingly, the agency has cut its 2014 estimate for non-Opec supply growth by 100,000 b/d to 1.5m b/d. (Roughly a 2.3% growth rate.)
  • ·       This year the IEA is forecasting a global requirement of 92.6 million b/d, up from 90 million in 2012. The close correlation between consumption and production is clear.

Gas:

·       The BP Statistical Review for 2013 estimated that US natural gas production in 2012 had amounted to 619 million tons of oil equivalent, or 20.4 percent of total world output. The Russian Federation produced 533 million tons of oil equivalent, or 17.6 percent of the world total.

·       Poland pays more than any other EU country for its gas, because it imports 60% from Russia, largely via Ukraine. But it is sitting on Europe’s biggest shale gas reserves, estimated at 346 billion to 768 billion cubic metres, but still unexploited.

Further Ahead:

  • ·       America will be fully self-sufficient in oil and gas by 2035, the IEA estimates. “But this does not mean that the world is on the cusp of a new era of oil abundance. Light, tight oil shakes the next 10 years, but leaves the longer term unstirred. The Middle East, the only large source of low-cost oil, remains at the center of the longer-term outlook.”
  • ·       Total world consumption by 2035 is estimated at 790 billion barrels a day, a huge increase. But this will be in the face of declining output from mature deposits, the IEA says. It is normal for output from a conventional oil field to shrink by 6% a year once it has passed peak production.

This Year’s Big Problem

The IEA’s latest report, published in May, noted that OPEC oil production had improved slightly in recent months, with output growing by around 405,000 barrels a day in April. But it warned that a significantly bigger increase will still be needed in the second half of the year, when consumption picks up after the northern hemisphere summer.

It also warns of a deteriorating situation in West Africa (including Nigeria) and in Angola, where technical troubles have been getting in the way. And other political worries in Sudan and especially Libya.

All of which looks like a case of bad timing, considering that the IEA is expecting a major surge in second-half demand. “Upside risk to oil markets, from both the supply and the demand sides, is proving remarkably persistent,” said the report. And it left us in no doubt that the combination of stronger demand with a range of unresolved supply problems might push prices higher.

Is it any wonder that Germany is keeping its coal mines open? Well, wouldn’t you?

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