Monday, December 19, 2005

Too High or Too Low?

One of the deep truths about oil prices is that they are impossible to predict even a year out, and that they have a historical tendency to change direction dramatically, as markets over-correct to changing circumstances. Last week's OPEC meeting ended with unchanged quotas and the hope that the cartel could keep the price propped up over $50 indefinitely. The gradual abatement of at least two of the three main factors underlying current high prices--low inventories in the wake of the Gulf Coast hurricanes, a global production capacity cushion near zero, and soaring global demand--may make it harder for OPEC to pull that off than most of us would guess today. However, even as the first real glimmer of the fundamentals that would take prices lower begin to appear, there are a lot of other folks besides OPEC rooting for prices to stay high.

First, the companies that have benefited with record earnings and cash flows may be reluctant to see prices drop, though as the Economist recently suggested, it is price uncertainty, rather than absolute price levels, that weighs heaviest on oil companies' future production planning calculations. Most of these companies would still do very well at $35-40/barrel, and their growth prospects would benefit greatly if oil settled into a more stable range of $35-45, rather than the $20-70 we've seen over the last four years.

Environmentalists and those concerned about energy security, though, are pulling for higher prices for other reasons. In the absence of a consensus to raise US gasoline taxes to European levels, the only mechanism that is likely to constrain the growth of demand while providing enough incentive to develop alternative fuels is high market prices, even if the main beneficiaries are the multinational oil companies and OPEC, rather than US taxpayers. And I can understand this concern, as the retreat of gasoline prices to the low $2's has restored much of the apparent energy compacency of the American public.

I can't help wondering if this lies behind some of the opposition to drilling in the Arctic National Wildlife Refuge (ANWR), which the current Congress is doing its darnedest to approve. After all, couldn't finding another North Slope and injecting a million-plus barrels per day into America's oilstream postpone the advent of renewables and synfuels for another decade? No one should worry on this account. As strongly as I've supported ANWR, for what I believe are very good reasons, its peak output in the mid-2010s would only provide some valuable negotiating leverage in international markets. It would take a lot more than ANWR to change the global supply/demand balance enough to hold back the coming wave of alternatives, including oilsands, gas-to-liquids, and renewables.

If you must oppose ANWR, please do so out of concern for what you fear it will do in Alaska, not out of some game-theoretical calculation about its effect on alternative energy programs. The recent CERA presentation to Congress on peak oil made it clear that meeting future energy demand growth will call for a bit of everything, including some things they didn't mention, such as wind, solar and other renewables. Improvements in technology are lowering the cost threshold of many of these alternatives, so that they won't need $70 oil to be competitive, and their very success will act to depress future oil prices. We need to advance to the point at which we are pursuing alternative energy in spite of oil prices, not because of them.

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