Wednesday, June 23, 2004

Analysts expect OPEC production to reach its highest level in 25 years, as Saudi Arabia steps up output and the others do what they can, in an attempt to meet the current, unexpectedly high demand from consuming countries. Anyone looking for a plausible scenario of future oil markets should look around now, since this is, in effect, a dress rehearsal.

There's been a lot of commentary, including in this weblog, about geological and other constraints on oil production, and a general conclusion that today's conditions are not symptomatic of such a situation, but rather a coincidence of war, instability, infrastructure delays, and high demand. But today's oil market does share many features of the extrapolated status quo energy world:

- Declining production in key non-OPEC producers such as the US and North Sea
- Capital management and reinvestment issues in high cost OPEC suppliers (e.g. Venezuela)
- Steadily increasing reliance on OPEC production growth to cover essentially all incremental demand
- Increasing reliance on a couple of key non-OPEC producers, such as Russia, to balance growing OPEC market power

I don't know anyone who thinks that the US can find enough domestic oil to prevent our dependence on imports from going up steadily. After all, North America is the most mature, heavily explored and exploited oil province in the world, and we are well down the right hand tail of the bell curve in our prospects for new oil discoveries. But I don't agree with the impression created by the New York Times this Sunday that the quantity of oil in those parts of the US that are currently off-limits to drilling is too small matter in this equation. As a former oil trader, I believe it matters enormously whether we produce only 4 million barrels per day ten years from now, or 5 million.

The current price excursion hinges largely on a global difference of 1-2 million barrels/day, just as the 1998 price collapse did. A combination of offshore California, offshore Florida, Rockies, and Arctic National Wildlife Refuge production could get us that extra million barrels/day, for a decade or so, even accounting for depletion elsewhere. The key is what we'd do with the time this would buy. Would we get serious about reducing our consumption and bringing on alternatives, or would we pursue the same old combination of feckless policy and arguments about whose backyard takes the hit? If the latter, then to paraphrase an old Cold War dictum, it's time to stop worrying and learn to love OPEC.

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