Sunset in the Desert

Not so many years ago, the Peak Oil media bonfire was in part ignited by Matthew Simmons book “Twilight in the Desert”.   Huge middle-eastern oil fields soon to water-out, extreme secrecy around the data on those fields – a ticking time-bomb for a world ‘addicted to oil’.  So far as I know, there may be merit in many of the arguments.  However, the world has changed.

 In my post on Blind Spots, I discussed briefly how we all missed the oil price crash of 2014.  One part of the equation I glossed over was the highly significant decision in November 2014 of OPEC, and in particular Saudi Arabia, to maintain production levels in face of declining prices.

As the historical price setter and swing-producer, Saudi was faced with a conundrum.  

  • If they cut production to help keep prices high, the US shale-oil juggernaut would have just kept going, leading to further oversupply – eventually lower prices, and reduced market-share (and consequent waning influence for OPEC).  
  • Conversely, maintaining or increasing production would protect market share, but inevitably drive prices down, handing the role of swing-producer to the US shale.  

So heads was lower revenues, and tails it was lower revenues.   Commentators are now generally agreed that over-supply caused the crash of 2014 and it is most similar to the mid 1980s.  Back then, various conflicts in the Middle East had resulted in very high oil prices, which had driven supply substitution.  OPEC had seen its market share and influence diminish as GOM, North Sea and Alaskan crude came onto the market.  Over supply led to a decade long period of stagnant, low oil prices.

Yes, the challenge posed by US oil shale was new, but was this just another business-as-usual adjustment of policy to the classic boom and bust of the oil industry?

I’d suggest yes, but this view might be hiding a potentially a bigger concern.  

The other half of the economic equation was also a big part of the 2014 price crash.   Demand was stagnant, and indeed clearly falling across OECD countries.  China has been shown to be extremely innovative – the environmentally unfriendly drive for growth is rapidly being replaced by greener policies – this is reflected in lower growth in oil consumption; smaller new-generation fuel-efficient (and hybrid) cars are rapidly becoming the norm.

Electric cars now have significant ranges, 300 miles for the Tesla model-S, and mainstream manufacturers catching up fast.   This is plenty for most journeys.   Clearly this works well in places with lots of sun and rapidly expanding charging infrastructure, but the corner is being turned as these cars become priced competitively and range-anxiety becomes a lesser-issue.

I can’t say whether by planning or by design, but I believe the Saudi decision to keep pumping has been based on two premises:

(1) Straight-forward capitalist economics summed up succinctly thus: “Is it reasonable for a highly efficient producer to reduce output, while the producer of poor efficiency continues to produce? That is crooked logic.”  Saudi Oil Minister Ali Naimi, Nov 2014 MEES interview

(2) In the same interview there are hints that longer-term demand issues may be of concern. “There are many things in the energy market – not the oil market– that will determine prices in the future. A lot of effort is being exerted worldwide, whether in research, or boosting efficiency, or using non-fossil fuels. All these might witness a breakthrough one day. Any strategy must be done in a way that allows it to be changed continuously.” 

More recently in the FT“In Saudi Arabia, we recognise that eventually, one of these days, we are not going to need fossil fuels. I don’t know when, in 2040, 2050 or thereafter.”   For that reason, he said, the kingdom planned to become a “global power in solar and wind energy” and could start exporting electricity instead of fossil fuels in coming years.

It is not clear exactly what the “we” refers to, in the context of the conference, it may be Saudi internal demand for energy, but the read across to the global situation is strong.

Conflating their desire to keep pumping, and the view that “we are not going to need fossil fuels”  makes me think that the Saudis anticipate that demand might dry up before they have had the chance to produce and sell all their resources.    They don’t want to be the mugs in the room when we are on the down slope of Peak Demand.

If there really is a race to produce – then we should anticipate low oil prices for many years to come (baring ‘Black Swan’ events).  With many high-cost projects being left on the shelf.  My advice to environmentalists would be to stop using plastic kayaks to block arctic rigs, and go develop tech…  it is innovation in tech that will leave oil in the ground, not paddle protests.

Is oil dead ?  no, we still need oil, both from conventional and  unconventional sources.  But it will be the low cost oil that rides out this storm.

However, when we recognise that transport makes up roughly 50% of the use of crude oil, we could, as an industry, be blindsided by disruptive technology in vehicles.   This is, in my opinion, our biggest blind-spot of all, and it could happen faster than we think.   You don’t believe me? Then the recent demise of coal in the US should give pause for thought, albeit an inexact parallel.

Frankly, although I work in an industry that personally works better for me when prices are higher, not burning oil for transport is the right thing to do.  Not even getting close to the arguments about pollution and climate; simply burning such a rich and valuable resource is a waste that future generations may look back at with anger.

Finally, and as a segue into my next post; the Shell-BG merger was seen by many in the immediate aftermath of the announcement as a read-across to a high ($85) future oil-price.  Many took comfort from this.   With a bit of breathing space, it could be interpreted that Shell have in fact taken a strategic view that gas is the fuel of the future, even if there is no plain sailing ahead there either.