Whether by accident or design, we’ve just been through a wee experiment on how higher fuel prices affect growth. Admittedly, it is difficult teasing out the impact of the credit crunch versus the oil and commodities spike, but in the US, habits started to change at $4 a gallon of gas, a lower level than most anticipated. Miles driven fell in the US, UK, and EU. “Staycation” entered the popular lexicon.
With oil prices having fallen nearly 40% from their peak, one might imagine OPEC curtailing production to support or increase the price. No such move is in the offing now, although if inventories increase, the cartel may change its posture.
OPEC does not want to kill the goose that lays the golden egg. Having oil prices too high is not optimal for them because while they might in theory maximize short-term revenues, they also lead to conservation (not simply driving less, but a much harder push for more energy efficient devices) and make alternative energy sources more viable.
French minister Jean Baptiste Colbert once said, “The art of taxation consists in so plucking the goose as to obtain the largest possible amount of feathers with the smallest possible amount of hissing.” A similar process is at work here.
From Bloomberg:
OPEC, the supplier of 40 percent of the world’s oil, will probably keep producing at a record pace as $109-a-barrel crude squeezes the global economy.
The 13-nation Organization of Petroleum Exporting Countries will reject calls from Venezuela and Iran to trim supplies at its Sept. 9 meeting in Vienna, according to 29 of the 32 energy analysts surveyed by Bloomberg.
Yves here. Forgive me if you already know this, but Venezuela and Iran are predictable advocates of higher oil prices because their crude is the nasty heavy sort which is economically competitive only when prices are high.
Back to Bloomberg:
Record oil prices spurred European inflation to 4 percent in July and contributed to the first quarterly contraction in the region’s economy since the euro was introduced almost a decade ago. In the U.S., gasoline demand fell for 19 consecutive weeks, according to MasterCard Inc., with fuel now near $3.70 a gallon….
Oil stockpiles, excluding government reserves, were above average in July and enough to meet 54 days of demand, according to the International Energy Agency in Paris.
The agency urged OPEC not to cut back because prices are “putting a burden on the global economy,” Executive Director Nobuo Tanaka said in an Aug. 27 interview in Stavanger, Norway.
“If stocks were ballooning then you could see pressure mounting within the cartel for a cut,” said Harry Tchilinguirian, senior oil analyst at BNP Paribas SA….
OPEC “probably doesn’t want to see another run at $150,” said Societe Generale’s [head of oil research Mike] Wittner. “But they’re worried the $35 downward correction will continue.”
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> having oil prices too high is not optimal for them
I can't say I really agree with you. It would be true if oil was a renewable resource, but it's not a renewable resource.
Yves,
I will consider continued reliance on oil to actually bad news. Whether wealth is transferred at $100 or $150 per barrel, it is still a wealth transfer.
The smart thing to do is to disengage from oil as the predominant energy source as soon as possible.
Further consider the Marc Faber commentary you posted , identifying low oil prices as a sure indicator of global economic weakness rather than economic strength.
While the finite supply (pace Peak Oil skeptics such as Engdahl) is an argument for leaving it in the ground, there is the time-value of money now vs money later to consider, and the eventuality of gradual or breakthru progress in alternative energy destroying value. Geopolitical and environmental considerations aside, financially the optimal strategy for exporters would appear to be to adjust production to keep prices high but stable, and below the point of substantial demand-destruction.
Dean,
I don’t disagree. We ought to have a carbon tax, period. Even a dyed-in-the-wool Republican like Greg Makiw favors carbon taxes. The FT’s editorial page has advocated having a stable price for carbon to encourage conservation and transition to cleaner sources. And that is consistent with reducing dependence on foreign oil.
But OPEC is smart enough to extract the tax “rent” themselves…..although with the economy so wobbly, that sort of thinking is on ice for now.
Although, if you really want to discourage investment, price volatility will do the trick.
Cash,
The MBA perspective is that the price of oil is the discounted NPV of future cash flows(let’s not talk today about the appropriate discount rate).
As long as we continue to experience global population increase, I am unwilling to accept the demand destruction argument; perhaps postponement is the most appropriate term . Destruction has an irreversible finality to it.
The global oil market is no longer US-centric, it’s a relic of previous eras to believe that by altering the habits of the US consumer we can alter global petroleum prices. I do not know precisely how long it will take but oil prices will move decisively higher.
Enjoy the temporary illusion of winning the battle against oil prices.
> there is the time-value of money now vs money later to consider, and the eventuality of gradual or breakthru progress in alternative energy destroying value
So what replaces petrochemicals?
“Venezuela and Iran are predictable advocates of higher oil prices”
These guys are the worst.
If Venezuela isn’t busy kleptocratically confiscating any and all western fdi, then they’re running a deficit that requires oil to be ~$95bbl (CR has a chart that showed the overall OPEC deficit to oil-price threshold…but i cant recall the location of the chart that broke it out, country by country).
And here’s Iran situation (via Phil Flynn):
“So even if Iran complains about wanting OPEC back to quota they have no problem trying to exceed their own. What they are really saying is that they want Saudi Arabia to cut back on production. Iran is jealous of the Saudi’s spare capacity and their power within the cartel and they would love to have them cut output while they produce more! I guess they had no idea how expensive a nuclear weapons program is. The Reuters survey indicates the Organization of the Petroleum Exporting Countries is pumping almost 800,000 barrels per day more than its target. Iran accounted for much of the increase.”
It would be interesting to see when, if oil starts falling below these deficit thresholds, the pro-cutters actually have to revert to pumping more in order to fund their profligate spending (futher reducing prices and reinforcing a negative cycle)– any hidden/potential spare capacity be darned.
Either way, even if OPEC cuts, doesn’t that put a huge damper (at least in the near-term) on the peak-oil, panic trader, as spare capacity (pent up supply) is the by-product of the cut?
Just in case it has been missed, production has been on a rise:
In July world production of total liquids increased by 890,000 barrels per day from June according to the latest figures of the International Energy Agency (IEA). Resulting in total world liquids production of 87.84 million b/d. Average global production in 2007 was 85.41 million b/d according to the IEA. In 2008 an average of 87.08 million b/d has been produced from January to July. The US Energy Information Administration (EIA) in their International Petroleum Monthly puts average global 2007 production at 84.44 million b/d and average production in the first five months of 2008 at 85.49 million b/d.
(Oilwatch Monthly, August 2008)
and premiums have been disappearing:
Ekofisk, a typical, nicely fungible North Sea grade was assessed at Dated Brent minus $0.10/b in Platts assessments for August 27, the lowest level since May last year. Five weeks ago the grade hit Dated Brent plus $3.65/b, an all-time high.
Some players have found themselves very long indeed. StatoilHydro, the owner of Mongstad and many cargoes of Norwegian crude that feed it, have been offering their cargoes more and more aggressively in recent days, as Statfjord crude has fallen from its record high of Dated Brent plus $4.50/b on July 1 to plus $1.15 in the most recent assessment.
(Platts, 28 August 2008)
MXQ,
Right, OPEC, as a weak cartel, has a history of quota enforcement difficulties.
Gee, if overproduction compresses the peak oil graph, someone is shooting themselves in the foot while the US is inspired to drill for the future. Cut back in driving sure messes up supply/demand/profits.
Toyota and Honda can’t make battery assisted cars fast enough but the US might gear up in two or three years with new plants if the taxpayer fronts the funds. If I didn’t know any better I’d say the oil and auto producers are in cahoots.
Carbon tax…..really? Get your mind out of the gutter.
Dean,
I fully expect oil to move higher long-term. PBR, PBD and PWND are my long positions at present.
I agree that, barring something like cheap and easy fusion, ‘demand destruction’ is really postponement and reallocation from the US to the emerging powers.
Regarding petrochemicals: if I was World Dictator, I would keep as much oil in reserve for that purpose as possible, imposing draconian taxes on fossil fuel for combustion and very generous subsidies for conservation and alternative energy. This would incidentally be the right policy vis-a-vis global warming. Being the only sensible policy, it is politically impossible, failing an enlightened World Despot to implement it.
I am informed that the Republicans (frightful, awful people with few notable exceptions) had some sort of prayer service or mating ritual at their current Bacchanalia involving the frenzied chanting of some sort of “Drill Now” mantra, no doubt followed by the ritual sacrifice of a vegetarian and a Prius. In fact, a search for “drill now” reveals some sort of Republican “Drill Now. Pay Less” advertising campaign.
Let’s hope that as China emerges as the next major power, they have a greater strategic depth of ideas to offer than “Drill Now. Pay Less”.
Cash,
Well said.
Actually, there’s quite a lot of new sophisticated refining capacity online (and coming online) in the Asia Pacific right now, which means that the heavy icky stuff is in greater demand just now. We are beginning to see the crack spread between heavy and light products in Singapore narrow, as more light stuff is being produced from said sophisticated refinery capacity additions.
It is interesting, for example, that Ecuador, which tends to be very close to Venezuela politically, stating yesterday that they are against production quota cuts. Given their share of net exports, that doesn’t make a lot of sense, economically-speaking, given rational actors.
I suspect that Iran and Venezuela are not especially interested in $100+/b oil either:
Iran is a net importer of food (about 75%) … this hurts. They are also an importer of gasoline, though this is set to change as new refining capacity comes online in the next few years. Venezuela’s international political strategy is based on creating allies of the “dispossessed” countries, where slightly higher food prices actually cause people to starve.
However, both countries fear foreign intervention (reasonably in Iran’s case, not so rationally in Venezuela’s) … thus rhetoric railing against the colonizing powers is politically effective at home and rattles the industrial world by helping make for a volatile price environment in oil.
Though I share Cash’s distaste for the fascistic elements of the GOP convention, I’d point out that he must make much more money than most of those people he looks down upon to be so sanguine about the price of oil. I guess if he doesn’t hurt, he doesn’t understand if someone else does. Even ironically-speaking, yearning for the enlightened despotism of the Chinese is fairly spineless.
The price and inventory reporting manipulation in oil trading is very similar to the energy squeeze that Enron pulled a few years back. Enron managed to deplete the state of California’s budget, shut down small businesses, and cause endless hardships for families and communities struggling to pay energy bills, and it was all a scam.
FB,
Sure enough on Asian refining and heavies, a fact that’s not captured much attention no matter the earlier announcements. Guess the story didn’t play well as it contradicted too many others.
Anon 12;43,
Enron may have gone under but the financial deregs which it helped bring about did not while other trading platforms acquired global reach.
Not all so fundamental that run from 30s to 140s.
One thing I know: the ‘economically developed’ countries of the world *want* that oil. If an oil exporting country wanted to provoke one of these countries, all they have to do is hinder the flow of this oil somehow. Saddam did this, and look what happened. Venezuela and Iran are both preferring to trade with countries that aren’t as powerful as recent customers. Both countries are routinely demonized and may be invaded someday.
The oil is running low. Many countries are fighting for it now. Having oil is a foolproof way to have an ‘interesting’ life, with long-lasting scrutiny from very powerful people.
mnky mnd