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Peak Oil Has More To Do With Oil Prices Than You May Think

Peak Oil Has More To Do With Oil Prices Than You May Think

The Origins of Peak Oil Awareness

The scientific study of peak oil began in the 1950′s, when Shell geophysicist M. King Hubbert reported on the evolution of production rates in oil and gas fields. In a 1956 paper Hubbert suggested that oil production in a particular region would approximate a bell curve, increasing exponentially during the early stages of production before eventually slowing, reaching a peak when approximately half of a field had been extracted, and then going into terminal production decline.

Hubbert applied his methodology to oil production for the Lower 48 US states and offshore areas. He estimated that the ultimate potential reserve of the Lower 48 US states and offshore areas was 150 billion barrels of oil. Based on that reserve estimate, the 6.6 million barrels per day (bpd) extraction rate in 1955, and the 52.5 billion barrels of oil that had been previously produced in the US, Hubbert’s base case estimate was that oil production in the US would reach maximum production in 1965. He also estimated that global oil production would peak around the year 2000 at a maximum production rate of 34 million bpd.

Hubbert calculated a secondary case that if the US oil reserve increased to 200 billion barrels (about which he expressed doubts), peak production would occur in 1970, a delay of five years from his base case. Oil production in the US did in fact peak in 1970, so Hubbert is widely credited with precisely calling the US peak, but few know that he was actually skeptical that the peak would take place as late as 1970.

The US has now surpassed Hubbert’s most optimistic estimate for US oil production. Through 2014, cumulative US production stands at approx. 215 billion barrels, with a remaining estimated proved reserve of 48.5 billion barrels (but with the caveat that this reserves estimate is based on crude prices near $100/bbl).

The Modern Peak Oil Debate

In the ensuing decades since Hubbert’s original work, discussion of peak oil ebbed and flowed. But the modern peak oil debates really heated up a decade ago. In 2005 the late Matt Simmons, an investment banker to the oil industry, published Twilight in the Desert. The book argued that Saudi Arabia had overstated its oil reserves, that its oil production was on the cusp of terminal decline, and that prices were set to soar.

Oil prices did in fact rise sharply in the 2nd half of 2005 — aided by Hurricane Katrina which hit Gulf Coast oil production in late summer. Oil production in Saudi Arabia also showed signs of slowing. This provided fuel to the fire for Simmons’ argument that the world was about to face terminal oil shortages.

(My counterargument at the time was that the Saudis were purposely restricting production). Related: This Is What Needs To Happen For Oil Prices To Stabilize

Simmons published his book in June 2005, and according to Google Trends searches for the phrase “peak oil” peaked in August 2005, but spiked again 2006 and 2008 when oil prices jumped:

GoogleTrends

(Click Image To Enlarge)

Google Trends of Searches for the Phrase “Peak Oil”

Peak Oil Camps

At one extreme of this debate was the camp that believed peak oil was happening at that time (around 2005), and that it was going to spell the end of civilization. This camp was often referred to as “doomers”, because they believed that humanity was doomed. (And many haven’t changed from that position). At the other extreme were those who believed technology could continue to squeeze ever more oil out of the ground. This camp was sometimes referred to as the “technocopians.”

Most of us were somewhere in the middle. In 2005 I felt like we still had a few years to go before we reached peak oil. My general position was that we were 3-5 years away at that time, and I spent a lot of time debating the evidence with the imminent peakers. I wrote a number of articles addressing the topic of peak oil (e.g., Five Misconceptions About Peak Oil). My view was that peak oil would cause great hardship, but humanity would survive. We would muddle through and find our way.

Overconfidence in these discussions over peak oil (and peak natural gas) was prevalent. For instance, in 2003 Matt Simmons predicted, with “certainty,” that by 2005 the US would begin a long-term natural gas crisis for which the only solution was “to pray.” This sort of confidence was prominent in the debates. If you had argued at that time that by 2015 U.S and world oil production would be where they are today, you would have been deemed certifiably insane. Related: Oil Prices Could Surge As This Country Fails To Meet Production Targets

In hindsight, our view on peak oil was pretty naïve. Global oil production was not about to fall off a cliff. The potential for increased production was hand-waved away. But higher oil prices had a much bigger impact on production than most of us would have projected.

I had this idea bouncing around my head that higher prices would spur more oil production, but I agreed with those who argued that there were limits to this and we had to take steps to address the risks. The limits wouldn’t necessarily be technological, but would rather depend on the amount of energy required to extract and process the oil. At some point it simply becomes too energy-intensive, and even if you are using a cheaper source of energy to do the extraction, there comes a point that the cost of energy inputs exceeds the cost of energy extracted. Since the energy inputs and outputs are related via price, it’s a pretty good argument.

It’s Not That Simple

Jeff Rubin - the former chief economist at CIBC World Markets - eventually crystallized in my mind the relationship between peak oil and oil prices. I saw Rubin give a presentation in 2011, and he said something like “Peak oil is a moving target. I think peak oil is in a different place if oil is $150 versus oil at $100.” Then the notion crystallized. You can’t talk about peak oil without talking about oil prices. Why? Because this is what the real world looks like. From a 2012 research note from Goldman Sachs to clients:

BreakevenGoldman

(Click Image To Enlarge)

Breakeven Price for the World’s Top 360 Oil Projects. Source: Goldman Sachs

The graphic is pretty busy, but the bottom line is that there is a lot of oil that will come online at higher oil prices. How much is truly unknown, but it is estimated to be in the 10′s of millions of barrels per day. (For those who believe this is unlikely, think back to 2005 and how much chance you would have given for the current levels of oil production). Similar graphics have been produced for the break-even price in shale oil plays, and the message is similar: Higher oil prices will spur oil production in more marginal areas. Related: Does OPEC Have An Ace Up Its Sleeve?

So we should really talk about peak oil as a function of oil prices. In that case, we can say with a pretty high degree of certainty “The world has passed peak $20 oil.” If we could magically freeze the price of oil at $20, we would see the sort of peak that the imminent peakers projected. That doesn’t mean that oil prices will never again fall to $20, as supply/demand imbalances do wildly swing prices at times. It just means that $20 isn’t a sustainable price for meeting current global demand. That also means that the average price of oil in the future will be much greater than $20, which is why I downplay those predictions of very low oil prices.

But has the world passed peak $100/bbl oil? The answer to that is clearly no. When oil was at $100/bbl, supplies were still rising. Now that prices are less than half that level, global production looks like it is set to fall. So maybe we have past peak $50/bbl oil.

The peak oil story turned out to be more complex than most of us who were debating it could have imagined back in 2005. What many thought was peak oil at that time was just one more cycle in the gyrations of the oil industry. When prices are rising, oil producers spend money as fast as they can to build out capacity. New oil plays become economical. Inevitably, supply outpaces demand and the price crashes. Capital spending slows, marginal oil plays are shut in, and demand catches back up to supply, which drives the price back up.

But what we have seen in this most recent cycle is that the trough isn’t as deep as it has been in the past. This time oil didn’t drop to $10/bbl, but it did spend a lot of time at $100/bbl. That is a sign that we are using up the cheapest oil supplies. The world is highly unlikely to return to an era of $20 oil. The floor has moved higher. Peak oil has moved past the $20 threshold, and most likely the $50 threshold.

Conclusions

To conclude, I want to make one thing clear. Even if there are sufficient oil supplies for several more years, there are many other good reasons for curbing our oil consumption aside from the danger of building a society based on an unsustainable resource. I have covered many of those reasons in other articles.

So don’t mistake this article for advocacy that growing oil supplies invalidate the concerns raised in the peak oil debates. The concerns are still correct. It’s just that the argument itself was too simplistic, and premature. Even though I tended to argue against the imminent peak position, my expectations about peak oil in the decade after 2005 also turned out to be much different than the reality that transpired.

By Robert Rapier

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  • DM on September 19 2015 said:
    My reading of the peak oil discussion over the last 10 years was always that peak oil was not going to be a peak, but a long choppy plateau before a decline, and there's really not been anything arise to invalidate this. The main problem is that a few months (of low $ oil) or a few years out in timing aren't really that significant, and I don't know why anyone would expect such precision and call time on the forecast.
    Maybe all that's happened is that the oil industry has jettisoned its future viability by allowing oil to flow out freely at low prices and the peak oil forecasts simply didn't foresee such imprudence, whose affects if so would simply make matters worse ("steeper") in the years to come.
    d
  • progressivefan1 on September 20 2015 said:
    What is the cost of living based on - prices rise because of economic growth. There is thus a vested interest in prices getting higher . Peak oil is a real nuisance in that prices will reach a peak....The capitalist system is a growth paradigm because of Fear ( people are afraid of economic depressions - and the communist ideology) But this fear is unfounded in that we are in the 21st century - we have amazing Technology which we have - only just - started to use (think Tesla battery) - people can become - much - more self-sufficient - and learn the Old skills of self sufficiency that we knew for hundreds and thousands of years - sustainability is merely This - using the old skills with the addition of new science and technology - the standard of living can be kept very high.....
  • fukushima666 on September 21 2015 said:
    peak oil raises lots of questions leaves no answers
    and at best is unequivocal
  • MrColdWaterOfRealityMan on September 21 2015 said:
    High price is a proxy for poor energy return, among other things. Oil has to be both economically and energetically profitable to be useful.

    The fact that we're experiencing a momentary glut due to over production means little. You can't create water by squeezing a sponge harder either.

    So we're heading for an energy resource crisis more or less on schedule. As prices inevitably rise once again (and they will), we'll go through some more boom and bust cycles as the absolute amount of hydrocarbon energy depletes, until we see supply chain breakdowns as a result of a lack of cheap energy and the high price of oil begins itself to make oil more expense via oil price feedback.

    We have some time on this. Fracking and natural gas have given us a reprieve. We may not have serious troubles for 30 years yet, but I'm glad I'll be gone before the end of the century.
  • Rob Rhodes on September 21 2015 said:
    Additionally, as EROEI falls, oil extraction must draw a larger share of the oil supply from the economy, so that oil extraction will be a larger share of the economy. As this progresses the historical wax and wane of the economy in rhythm with fall and rise of oil prices will be interrupted, bringing volatility to both.

    Another way of understanding this is that as EROEI falls, even if oil production remains flat or rises slightly, the net oil available to the rest of the economy falls.

    Mr. Rapier; do you know if there is data showing net oil, ie. total oil extracted minus oil used in the production of that oil. Otherwise we may have passed or be about to pass peak net oil without knowing.
  • allister on September 26 2015 said:
    There are other forms of prosperity than ordinary Capitalist growth. Karl marx etc tried to find an alternative - but it didn't turn out well.....as we all know. I often wonder whether the church or religion had an alternative - It would have to do with an Assessment of the actual Problem - the physics of the Problem of a) an individual country and b) the world. The problem would first have to be "understood" to even attempt a solution. Growing human population is not necessarily a solution - sustainability has to do with helping those who are here - the peak in human population in relation to the peaking of resourses - for the environment we need to "reduce" our consumption - not expand it - this is sustainability - taking into account the carrying capacity - and looking at other approaches - other economic paradigms - such as steady state theory (which does regard the systems limits)....
  • Threepwood on September 28 2015 said:
    Credit where it is due, in defense of the peak oil theory, - it's prediction has been very consistent all along: Peak oil is always 'right around the corner' as are 'viable alternatives', climate disaster (and flying skateboards)

    I am a firm believer that these predictions will never be disproven, and the theory will always survive.
  • Nathanael on October 03 2015 said:
    Yes, this is how peak oil works. I knew that 20 years ago. :sigh:

    Hubbert's peak oil prediction was 100% correct: US conventional onshore oil production peaked *exactly* when he thought it would.

    Then producers moved on to more expensive oil production. Each field has had its own peak curve, but each time the added production depends on a higher oil price.

    The kicker: eventually, as the oil price rises, something other than oil is cheaper. For home heating, oil was replaced by natgas, and now by electric heat pumps. For electrical production, oil was replaced by natgas, and now by wind, and soon by solar.

    For transportation, oil will be replaced by electricity -- the electricity is already significantly cheaper, it's just a matter of the upfront prices for batteries.

    Each time one of these transititions happens, it sticks, and world oil demand drops permanently, which prevents the price from rebounding.

    So you could look at it this way: as the $20 fields peak and decline, and then the $30 fields peak and decline, and so on, this sets a floor on the long-term oil price. BUT, simultaneously, the prices of *alternatives* keep dropping, which sets a ceiling on the long-term oil price. Eventually the squeeze wipes out oil the way anthracite was eliminated from general use.
  • RLG on December 26 2015 said:
    I believe we're past the $100/BO peak (see Art Berman's articles on the shale "ponzi scheme"...a big piece of the production build was uneconomic...based upon Impressive IP's, easy money, and unrealistic EUR's). The "sweet spots" in most of the shales are likely essentially drilled out...and to attract capital back to the marginal areas ( where the last drillers are going/went broke) will take more than $100/BO. likewise, I believe OPEC and Russia are currently peaking. Ironic, isn't it...the world peaks at $30/BO!
  • allister on December 27 2015 said:
    ...peak oil - like all earth changes - is also a change in consciousness - Today it is about Big Business - tomorrow it will be about Your Community - as it used to be - about the local eco systems and farming communities. around 1970 there were a lot of changes - peak oil hit the united states - things changed - and it will happen again.....
  • allister on December 30 2015 said:
    The Universe is about Energy - Peak oil is about a "return" to lower intensity - but this is compensated by a concurrent rise in human ingenuity and energy in such things as science and technology - and other forms of expression of the human spirit (return of the dao)
  • Michael on January 17 2016 said:
    Wind and solar and batteries are NOT viable replacements for hydrocarbon energy. Nor will they ever be. Wind and solar energy is not concentrated enough, by an order of magnitude, and it is intermittent in its existence. And the most high tech batteries is existence store less energy by weight then a ham sandwich. The laws of physics, chemistry, and thermodynamics are absolutes. The only thing that can replace fossil fuels with a comparable EROEI is nuclear energy. And battery powered cars will ALWAYS be glorified, very expensive, golf carts. Future society is going to be far, far less energy intensive by necessity. There are many ways to do that. Living like a 3rd world country is one way. We use more energy driving to work in a day than a 3rd world slum dweller uses in a year. Or we can go back to say 1880. Or we pursue next generation nuclear plants (including thorium) and put our railroad infrastructure under catenary wire and power transportation from the grid. That's the best future scenario.

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