Lagniappe

 

 

Michael J. Economides :
$100 Oil: It’s a new beginning

In August 2004 when oil was about $40 per barrel, I predicted outrageously in an op-ed piece that oil would hit “$60 by next winter.” The newspaper editor changed that to $50, saying it was to “protect my reputation.” Well, oil didn’t stop at $60 – just two months ago it hit $80. With the toothpaste out of the tube the market became desensitized, and there’s really no end in sight.

My predictions have always been on the front fringe of bullishness, only to be joined by many who just a year ago were predicting oil would fall to $50. For the last two years, I have been saying that we were one large geopolitical headline away from $100 oil, and it looks like I have become too conservative for my own good. After a long period of gnawing events, of Chávismo and Putinism and continuing warfare in Iraq, the market no longer needs a specific catastrophe for huge hikes in oil prices. And if Israel should attack Iran? Do I hear $150?

Some calming thoughts are in order. The current price spike has nothing to do with any “peak oil” theories. OPEC can still produce a lot more oil than it does today. With proper investment, Saudi Arabia could increase its production by at least 50 percent, and with proper investment and management, Venezuela could more than double its current production to over 6 million barrels per day.

If the world oil business were run like a rational enterprise, we would view oil prices in terms of the equilibrium price, which we have been calculating for almost a decade, and is still less than $50. But that price is going up due to the cost of steel, inflation, and royalty and tax hikes in many countries. This equilibrium price is based on a full-cycle economic analysis that accounts for the activation index (i.e., how much it costs to bring one barrel per day of stabilized production on-line), the reservoir decline rate, the longevity of wells, and the tax rate, among other things. The composite equilibrium price is calculated by looking at the equilibrium prices in specific regions and comparing those prices’ effects on the global oil supply.

Everything above the equilibrium price of $50 or so, is the result of geopolitical pressures, market speculation and, to a lesser extent than people have suggested, the value of the dollar. I am not convinced that the falling dollar has much to do with the current oil price. All activities are denominated in dollars, such as service company prices, equipment, and trades. But peace in the Middle East, or the developed world’s realization that they have a lot in common with the U.S., with respect to militant oil-producing countries (George W. Bush notwithstanding), will lower the stress, and bring a more measured price.

There is a lot more to $100 oil. The current spike is higher than the 1981 one that sent oil prices to about $95 (inflation adjusted). But that’s only half of the story. If current prices are adjusted for the energy intensity of the economy (the amount of energy required to generate one dollar of GDP) then the 1981 price climbs to about $142 per barrel in today’s terms. Of course, today’s prices are nothing to sniff at, but the actual impact on consumers is far smaller than it was a couple of decades ago, because the economy is far more efficient at using energy. The 1981 price of $142 will take a long time to surpass – unless, of course, a geopolitical shocker hits the world. What is more, oil prices will not return to $70 any time soon.

There is a psychological barrier about $100 oil, but it won’t last. Despite talk about alternative energy, oil will dominate the global economy for decades to come. Maybe $100 oil is a good thing, particularly for the American people. Perhaps it will force us to realize that we need to think about oil in a new way, and that might mean allowing oil supply, including drilling in the Arctic and offshore, to take its rightful position in our national priorities.

Michael J. Economides is Professor of Chemical and Biomolecular Engineering Dept. of Chemical and Biomolecular Engineering University of Houston, best sellers' author
of The Color of Money. Petroleumworld does not necessarily share these views.

Editor's note: This commentary was originally published by Energy Tribune, on 12/18/2007. Petroleumworld reprint this article in the interest of our readers. Petroleumworld does not necessarily share these views.

All comments posted and published on Petroleumworld, do not reflect either for or against the opinion expressed in the comment as an endorsement of Petroleumworld. All comments expressed are private comments and do not necessary reflect the view of this website. All comments are posted and published without liability to Petroleumworld.

Fair use Notice: This site contains copyrighted material the use of which has not always been specifically authorized by the copyright owner. We are making such material available in our efforts to advance understanding of issues of environmental and humanitarian significance. We believe this constitutes a 'fair use' of any such copyrighted material as provided for in section 107 of the US Copyright Law. In accordance with Title 17 U.S.C. Section 107. For more information go to: http://www.law.cornell.edu/uscode/17/107.shtml.

All works published by Petroleumworld are in accordance with Title 17 U.S.C. Section 107, this material is distributed without profit to those who have expressed a prior interest in receiving the included information for research and educational purposes. Petroleumworld has no affiliation whatsoever with the originator of this article nor is Petroleumworld endorsed or sponsored by the originator.

Petroleumworld encourages persons to reproduce, reprint, or broadcast Petroleumworld articles provided that any such reproduction identify the original source, http://www.petroleumworld.com or else and it is done within the fair use as provided for in section 107 of the US Copyright Law. If you wish to use copyrighted material from this site for purposes of your own that go beyond 'fair use', you must obtain permission from the copyright owner.

Internet web links to http://www.petroleumworld.com are appreciated

Petroleumworld welcomes your feedback and comments: editor@petroleumworld.com. By using this link, you agree to allow E&P to publish your comments on our letters page.

Petroleumworld News 12/19/07

Copyright© 2007 Michael J. Economides. All rights reserved.

Send this story to a friend

Your feedback is important to us!
We invite all our readers to share with us
their views and comments about this article.

Write to editor@petroleumworld.com

Any question or suggestions, please write to:
editor@petroleumworld.com

Best Viewed with IE 5.01+
Windows NT 4.0, '95, '98 and ME +/ 800x600 pixels