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Why the High Oil Prices if Supplies Really are Abundant?

By Kurt Cobb | Thu, 14 March 2013 22:48 | 7

It is a slick piece of public relations to convince people to disregard what is right in front of them and believe the opposite. And yet, that is what the oil industry has achieved with an oh-so obviously coordinated campaign to tell the public and policymakers that there is no need to be concerned about future oil supplies.

Many people remember the price spike of 2008 which shot prices to an all-time high of $147 a barrel. Oil subsequently crashed all the way down to about $35 at the end of that year as a brutal contraction gripped the global economy. But, oil has subsequently been making new all-time highs when you consider the yearly averages.

U.S. drivers should not be that surprised by this for they paid average daily gasoline prices that were higher in 2011 and 2012—$3.53 and $3.64 per gallon respectively—than they did in the previous record year of 2008 when they paid an average of $3.26, according to the U.S. Energy Information Administration (EIA).

Brent Crude, which has become the de facto world benchmark price for crude oil, has also just posted back-to-back years of record prices, higher than even the average daily price in the fateful year of 2008. In that year Brent achieved an average daily price of only $96.94 according to the EIA. But, in 2011 the average daily price was a record $111.26—which was followed by another record in 2012 of $111.63. The price in 2013 has so far averaged about $114.

Related article: How Low Wages can Lead to High Oil Prices

It is true that the American benchmark crude—Cushing, Oklahoma West Texas Intermediate—has been trading at a discount to Brent Crude. This is because Cushing, one of the country’s largest oil depots, is being flooded with supplies from North Dakota and the Canadian tar sands, supplies currently unable to find their way to a seaport that would connect them with world markets and thus world prices. An operator I know in Houston said that rather than send his production to Cushing where the discount is between $20 and $25, he is happy to put his oil on a barge and send it to Louisiana where he has consistently been getting prices over $100.

As it turns out, most inhabitants of the globe pay prices reflective of the Brent Crude price, and that’s why it is frequently quoted as the world price.

So, how is that the public and many policymakers have swallowed the abundance argument even though the evidence of prices suggests the opposite? The industry has made its case by saying that newly accessible tight oil deposits in North Dakota and elsewhere are going to vastly expand oil production. It has coaxed Wall Street firms with whom the industry does business to put out rosy forecasts; it has made an army of paid think-tank propagandists available to the media; it has convinced government agencies that the future is bright; and, in one case, it sent one of its own to Harvard to write an industry-funded report that says everything will be fine—in the future!

You will notice one theme here. The industry’s case for abundance rests not on a current glut or a downward sloping oil price chart, but rather on the promise of abundance at some indeterminate time in the future, that is to say, on magical forecasts. But colorful charts and cheery prognostications are not facts. And, as always, it is important to consider the source.

Keep in mind that what a good magician does is not really magic. Rather, a good magic show is based primarily on misdirection. Get the audience to look in the wrong place while you do your handiwork unobserved.

And, so it is with the oil industry. It has been able to get the public and policymakers to focus on marginal gains in U.S. oil production while ignoring declines in the rest of the world. Mathematically speaking, that is how it must be since the rate of worldwide oil production has been essentially on a bumpy plateau since 2005. As U.S. production has grown, production in the rest of the world as a whole has declined by about the same amount.

Now, that wouldn’t matter quite so much if oil were not traded in a world market dominated by large countries that are still huge importers of crude oil. But, the other fact that the industry PR magicians don’t want you to focus on is that global net exports of oil—that is, the oil available on the world market to importers such as the United States, China, Japan, India and much of Europe—has been shrinking since 2006. The global competition among importers for those shrinking exports has been a major factor in sustaining record prices for the past two years.

Related article: Analyzing Changes in WTI, Brent, and Gasoline Prices

It is worth keeping in mind that all of this is happening as the so-called fracking “revolution” is proceeding, as record investment in oil exploration and development continues, and as consistently high prices drive the necessary profits for all this effort. And yet, the impact on supplies worldwide has been almost imperceptible.

In fact, as John Westwood, chairman of the energy consulting firm Douglas-Westwood, explained in a slide presentation, it is becoming exceedingly difficult to add new oil production capacity. Some $2.4 trillion in oil industry capital expenditures from 1994 to 2004 increased the worldwide rate of oil production by 12 million barrels per day. However, $2.4 trillion in capital expenditures spent from 2005 to 2010 resulted in a decrease in the rate of oil production of 200,000 barrels per day. (See slide 8 of Westwood’s presentation.)

I am reminded of the late comedian Richard Pryor who, when caught by his wife in bed with another woman, explained that things weren’t what they seemed. When she resisted his explanation, he asked her, “Who you gonna believe? Me or your lyin’ eyes?”

Once you’ve seen the troubling facts about flat global oil production, shrinking global oil exports, and record high prices, about all the industry can do is insult your intelligence by asking the same question.

By. Kurt Cobb

Leave a comment

  • Laurent on March 15 2013 said:
    Today, outside the Middle East, new drillings make economic sense as long as oil prices remain above $70-$90 a barrel.

    Outside the Middle East, the age of cheap oil is over.

    Bernstein Research estimated that the marginal cost of supply – the cost of production for the most expensive new fields – rose to $92 a barrel on average in 2011 and are heading towards $100 a barrel.

    Leading oil services firm Baker Hughes warned that booming drilling in the shale oil fields of North Dakota and even south Texas could slow if U.S. prices drop below $80 a barrel.

    Marin Katusa, senior editor of Casey Energy Opportunities : "New oil sands projects are uneconomic to develop without an oil price of at least $85 per barrel".

    Matt Pickard, consulting manager at Quest Offshore Resources : "The more expensive deepwater projects need oil prices of $75 to $85 a barrel to be economically viable".

    So, oil prices are set to stay above $100 a barrel for the third consecutive year in 2013, gasoline prices unlikely to fall under $3 and OPEC is likely to earn $1 trillion as in 2011 and 2012.
  • David Obrecht on March 15 2013 said:
    Greed! Pure and simple.
  • Frank Howell on March 15 2013 said:
    Since it is illegal to export oil produced in the US, how could oil from North Dakota, which according to your article is flooding Cushing, one of the country’s largest oil depots, makes it way to a seaport that would connect them with world markets and thus world prices?

    Frank Howell
  • Johann Schmeissner on March 16 2013 said:
    Hi Kurt ,are you of German origin ?I like your basic precision.Greetings from Moscow from a Salzburg-born friend.
  • Lynn Dollar on March 16 2013 said:
    The answer to your question, as to how oil prices remain high ( and I guess " high " is a relative term, depending upon what you think the price should be ) while production is increasing, is really so simple, I can't believe you don't see it.

    OPEC reduces production to offset increases in non-OPEC supply.

    As long as OPEC can adjust their production to continue to provide their member countries the revenue their government needs, then the increase in production from non-OPEC sources needed to lower the price, is huge.

    The way to break OPEC, is for the USA to find an alternative transportation fuel. And that fuel is CNG. When the US trucking industry is operating on LNG and a substantial number of CNG autos are on the road, the demand for oil is going to crash, at the same time non-OPEC production is increasing. That will put OPEC in disarray.

    And the future growth in non-OPEC production that the oil companies are touting, will come as the hydraulic fracturing/horizontal drilling technology is exported globally.
  • David Hrivnak on March 17 2013 said:
    Another option that is far cheaper than CNG is electric. I now have driven 16,000 gasoline free miles. I can do 200 miles on a $4 charge. That is far less than CNG and safer.
  • Kurt Cobb on April 08 2013 said:
    Laurent is spot-on with the Bernstein research and other findings about the high cost of bringing new oil to market. It spells high prices from here on out unless we have an economic depression (which will reduce demand and prices) or some miracle technology that has yet to be invented and deployed. The current technology is only keeping things level.

    Frank Howell wonders how North Dakota's oil could somehow make it to a seaport and be exported. While it is not illegal to export crude oil from the United States, one has to have a license to do so. Very few limited licenses have been issued and so the effect is the same. But he forgets that there is no similar prohibition on the export of refined products. And, this is how North Dakota oil reaching Houston could end up being exported and thus enjoy higher prices.

    For Lynn Dollar, I can only respond that it is important to actually look things up. OPEC production of crude oil has risen since the beginning of 2011, so the explanation that OPEC reductions in output are responsible for the high price are simply wrong. But it does mean the rest of the world is showing declining production at a significant rate.

    CNG transportation does seem to have a niche market, but I doubt it will become a major force. Electrified transportation has a better future since it relies on a variety of fuels and sources for its electricity, especially the renewable ones which are our future.

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