Friday, June 13, 2008

Demand outstrips supply in oil market but OPEC raises production

I have been regretting my long-winded last post on oil supply difficulties. I'm not going to comment on this any more except to say that firstly I am watching moves by India in the near future to lower subsidies which will damp demand (and surely China must follow soon?). Secondly I'm awaiting with interest the IEA review of world oil stocks due in November.

In Christchurch for family reasons I have been arguing with my brother over concerns about oil supply. I should note that these concerns apply only to conventional crude oil reserves, there is an awful lot of tar sand, shale oil and that sludge in the Orinoco to go around. Higher oil prices will continue to drive further utilization of these resources particularly in Canada. However mining those resources is much more costly and the environmental consequences deserve serious attention.

Anyway the IEA has updated it's Oil Market Report for May. Andrew Leonard gives an account here.

The bottom line is this: Although demand for oil is declining in the U.S. and Europe, overall global demand is still rising, fueled primarily by China and India. Overall demand growth has slowed, to be sure, but still totals 86.8 million barrels per day. And that's 200,000 barrels a day greater than current supply -- 86.6 million barrels a day, according to the IEA. Perhaps most alarming -- although global supply rose by 490 kb/d in May, the added production came primarily from OPEC. Non-OPEC oil production is down.

The fact that non-OPEC oil production is slumping, with oil prices setting new records nearly every week, is just another datum of proof indicating that no matter how high prices go, you can't squeeze ever more oil out of a peaking oil field. To a certain extent, the world is returning to where it was in the 1970s, when OPEC ruled the market. But back then, high prices encouraged the development of non-OPEC sources of oil and broke the back of the cartel's pricing power.

The decline of those newer non-OPEC oil fields is one reason why U.S. politicians are now begging OPEC to boost production. OPEC is back in the driver's seat. But is the OPEC spigot as potentially free-flowing as it was 30 years ago? That's another question everyone wants to know the answer to. One imagines that it would not be in OPEC's interest to precipitate the kind of global recession that sustained record-breaking oil prices will inevitably deliver. And according to the IEA figures, OPEC has been boosting production.

But whether OPEC is still holding back to keep prices high, or facing the same cold realities of depleting resources that the non-OPEC world is slamming into, the fundamental dynamics of the supply and demand equation are unchanged. A difference of just 200,000 barrels a day between demand and supply doesn't seem like all that much when measured against the total energy consumption of the world, but as long as that disjunction exists, as long as there are more buyers than sellers, there will be long-term support for high prices.

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