It looks as though Peak Oil is going to do for us what hundreds of politicians worldwide couldn't possibly hope to accomplish with the Kyoto Treaty - that is curb mankind's demand for burning fossil fuels. This is good news for those of us who understand and accept mankind's role in Global Climate change (for those who don't understand or accept this fact, I am curious as to why you would be reading this blog in the first place -Faux News beckons). It's also good news for those of us who have absolutely no faith that governments around the world will ever adhere to the requirements of the treaty.
BAD MATH:
As oil continues its relentless ascent ($115/barrel as of today), it's clear that the supply/demand fundamentals have hit the long-anticipated wall. In a “surprise” announcement, the WSJ reported this week that Russian oil output fell in the first quarter for the first time in a decade. It’s well known that the Russians have used very aggressive methods for extracting oil from their wells (including pumping sea water in etc.), so it should come as no surprise that this day would come sooner rather than later. Meanwhile, due to declines across all of the World’s large oil fields, daily oil production is now dropping at a rate of 4.5m barrels a year as against total daily production of 87m barrels. Meanwhile, oil demand is expected to hit 100m barrels per day by 2015. Even if one believes that daily oil supply will decrease in a linear (as opposed to accelerating) fashion through 2015, that amounts to 4.5m x 7 years = 31.5m in lost daily output (based on current known reserves) vs. an increase of 13m in demand (100-87), which is a combined delta of 31.5 + 13 = 44.5m barrels of daily production that we need to “find” in the next 7 years to bridge the supply/demand gap. Unless we develop a way to convert water into oil, it will be virtually impossible to find enough new oil reserves to produce 44.5m barrels per day of output.
Add to the fact that OPEC producers have been less than forthright about their remaining oil reserves (because it affects their output quotas) and one has to believe that the supply (daily output) of oil could well be heading off of a steep cliff. It’s important to remember that “Peak Oil” production says nothing about the remaining production life of a well or field. In fact, the experience to-date has shown that peak oil output tends to occur relatively late in life for most wells. This is probably due to the fact that new techniques are constantly being invented to increase the flow of oil. So when graphed, the total output from a given well/field is asymmetric, indicating most oil is extracted prior to peak production, and then falls off rapidly once peak production is reached.
Unfortunately, on the demand side, the linkage between high prices and reduced demand, is not as direct as one would hope. This is due to the fact that the demand for oil is relatively price “inelastic”. Consider the following two scenarios: Let’s say you work in India in IT and your salary is increasing at 20% per year. So you go out and buy your first car to impress your girlfriend. Now if oil increases 10%, 20% or 30% will that stop you from driving your new car? No. You may drive less than you would otherwise, but you are still driving more than you were last year when you didn’t even own a car. In addition, you have plenty of newfound discretionary income to offset the rise in gas prices. Consider scenario two, that of the typical middle-class American worker. Her salary is going down on an inflation adjusted basis. She is being squeezed by higher medical costs, education costs, food costs and now fuel is increasing as well. She would like to cut back on fuel, but can’t afford (or isn't willing) to buy a smaller car and has to drive to work 40 miles round trip, because there is no mass transit option. So she keeps spending on gas, but cuts back in other areas. Both of these examples demonstrate (in different ways) why in the short-term at least demand for fuel is relatively inelastic (i.e. not responsive to price increase).
However, long-term, as the price of oil increases, middle-class consumers in the U.S. and Europe will be squeezed enough that this will be yet another major factor precipitating an inevitable economic decline. As consumers cut back on “other areas” to keep spending on gasoline, that will have a ripple effect on the entire economy and eventually lead to lower demand for oil as well.
So, it seems that after having faced a similar energy crisis in the 1970s and having completely ignored those lessons learned, here we are again 30 years later, facing a similar crisis except orders of magnitude worse.
The bright side of all this is that one way or another, the days of burning massive amounts of fossil fuels will eventually be coming to a forced and abrupt ending.
Go Green!!!
