Peak Oil Review
Vol. 4 No. 51
December 21, 2009

Tom Whipple, Editor

Steve Andrews, Publisher

1. Prices and Production
Oil prices stopped falling last week and climbed from circa $70 a barrel on Monday to close above $73 on Friday. The price jump came despite a stronger US dollar which kept downward pressure on prices. Colder weather and increased distillate demand in the US, coupled with trouble along the Iran-Iraq border, were primarily responsible for the jump. The market’s perceptions of the prospects for economic recovery, which vary daily, remain the key driver of prices.

The OPEC meeting in Luanda this week is expected to leave prices unchanged as they remain close to the Saudi’s favored “sweet spot” of $75 a barrel.

The conventional wisdom that the demand for oil will grow in 2010 continues, with OPEC joining the IEA and EIA in forecasting an increase in demand next year. OPEC, however, only sees an increase of 30,000 b/d, most of which will come in the second half. There are still many unknowns ranging from China’s economic growth to the fate of the dollar in face of growing US deficits.

Natural gas prices in the US surged last week as colder weather led to a record drop in supply. Gas in storage still remains 14 percent above normal for this time of year.

In Nigeria, the Movement for the Emancipation of the Niger Delta says it bombed an oil pipeline last week, the first such attack in five months. Although Nigeria’s oil production has been increasing in recent months due to the ceasefire, a report in the London Times says Shell is about to throw in the towel in Nigeria and is putting its on-shore oil production up for sale.

 
2. Iran
One of the major developments affecting the availability of oil in 2010 could well be the Iranian situation. Faced with internal unrest following its controversial presidential election, Tehran is adhering to a provocative foreign policy in order to garner domestic support. Last week saw Tehran test a long range missile capable of striking Israel and parts of Europe, then temporarily seize an Iraqi oil well within a disputed sector of the Iran-Iraq border.

The major issue still remains Iranian efforts to enrich uranium in defiance of UN demands that such activity be subjected to adequate safeguards. The Israelis, of course, realizing that their micro-state could be destroyed in minutes by a small number of nuclear weapons, remain adamant that Iranians shall never have such devices.

Despite incessant protests that all they seek is nuclear power plants, years of foot-dragging by Tehran, coupled with rejections of various offers to provide them with power plant-grade uranium in a safeguarded manner, has raised deep international suspicions about their intentions. Last week a document surfaced which purports to contain information on Iranian plans to develop a device only useful for nuclear weapons. In today’s world, long-range missiles, such as the ones Tehran continues to test, are useless as deterrents unless they carry a nuclear warhead.

The issue seems likely to come to a head in 2010 as the US and the EU step up efforts to sanction Tehran for its intransigence. While Beijing is starting to realize that it is the odd-man out in its continued support for Tehran on this issue, the conventional wisdom is that China would still supply whatever the Iranians need should the effects of sanctions on Iran become too severe. The Chinese continue to call for negotiations.

While the West cites a possible embargo on the roughly 50 percent of Iran’s daily gasoline consumption that must be imported as the most effective sanction, Tehran talks of cutting oil exports to the world. The Saudis and their Gulf allies do have some spare capacity to offset a cut in Iranian exports; much of this would otherwise go to expected increases in demand next year.

 
3. Copenhagen
The lessons derived from the failure of the UN climate change meeting in Copenhagen to conclude a formal treaty will likely be discussed for years to come. Many believe the major development at the conference was the emergence of the US and China as the only two nations that count on an issue as important as global warming and the future of world energy consumption and economic development. While the current administrations in Washington and Beijing realize that they are dealing with an issue of highest importance to the survival of their societies, both are hampered by their histories, domestic politics, national goals and perceptions of sovereignty.

The idea of UN mega-conferences to set emissions standards at which 193 nations are supposed to debate and approve the text of any agreement will likely go by the board in favor of smaller regional meetings of the 30 or so nations that produce 90 percent of the emissions.

The final accord reached at the meeting was a 12 paragraph document, a non-binding statement of intentions to keep the average world temperature from climbing beyond another 2 degrees Centigrade above pre-industrial levels and to continue work to achieve this goal. Although this document does nothing itself, some progress was made at the meeting in that China tentatively accepted some form of emissions verifications for the first time and the US promised to raise $100 billion to help poorer nations convert to non-polluting energy.

The accord reached at Copenhagen will do little or nothing to control emissions. Frankly, to expect that one meeting could reach agreement on changes that will have a major impact on the global economy was unrealistic. Progress on reducing emissions will come slowly, perhaps as the major world nations start to feel directly the consequences of global warming or perhaps energy shortages.

With much higher oil and other fossil fuel prices just a few years away, it is likely that economic pressures will bring about greater progress on reducing emissions than treaties. Whether these economic pressures will come soon enough to significantly reduce the ongoing climate threat will take many years to be seen.

 
4. Exxon and XTO
Exxon Mobil’s $30 billion purchase last week of XTO is being hailed as a paradigm shift in the US energy industry. The move puts an oil major stamp-of-approval on the potential for shale gas and may presage a round of takeovers of independent gas producers by the major international oil companies.

The better-financed oil companies are generally able to continue wide scale drilling programs even in difficult economic times. Analysts are talking of all sorts of benefits from the involvement of the majors in natural gas production, including long-term fixed-price contracts, stabilization of the natural gas market at higher levels, and more work for the oil service companies. Others talk of a major expansion of the natural gas market to include more gas-heated homes, more gas-fired power plants and more natural gas-powered vehicles.

Lost in all the enthusiasm are environmental concerns which range from potential contamination of ground water to the amount of water required to drill and frac the lengthy horizontal wells. There is also the issue of increased costs of drilling and fracing long horizontal wells in shale formations vs. the value of the gas that will be recovered from each well.

Quote of the Week
• “To me it looks like the economics of many of these [Iraqi oil] deals don't work at all. They're profitable, mind you, but they don't offer a rate of return that justifies the investment. In other cases, the rate of return is high enough to justify the deal, but only if initial estimates of costs and production volumes turn out to be correct. In other words, nothing can go wrong.”
-- Jim Jubak, Editor and Founder, JubakPicks.com

The Briefs
• OPEC, which produces about 40 percent of the world’s oil, predicts members will need to produce 28.6 million barrels a day to satisfy demand in 2010. That’s about 100,000 b/d more than last month’s projection and represents an increase in 30,000 b/d from 2009, the first annual rise in three years. (12/16, #8)

• OPEC, together with two major non-cartel oil exporters, Russia and Mexico, consumes 14.5 million barrels of oil per day. That’s nearly twice as much as China. Oil demand among OPEC members has been growing at well over double the world average. And the more these countries consume their own oil, the less they have to export. (12/17, #17)

• Brazil’s oil production could pass that of Mexico and Venezuela by 2011, as its ultra-deep offshore fields start producing. Mexico and Venezuela have seen crude-oil output drop dramatically in recent years. Petrobras has targeted domestic output of 2.25 million barrels a day for 2010, growing to 2.43 million in 2011. (12/19, #11)

• Venezuela has been in a deep recession this year, despite pocketing many billions of dollars. Some analysts, such as PFC Energy, estimate that Venezuela needs an oil price of around $100 a barrel to keep its spending commitments. (12/19, #6)

• During the recent Iraqi auction of oil development rights, there are two reasons that national oil companies dominated the list and international majors were absent. First, the Iraqi auction continues the shift of power in the global oil industry to national oil companies. Second, the terms of the Iraqi auctions made them, by and large, unattractive to international majors, but not to national oil companies. The auction results show how different the motives are that are driving these two parts of the global oil industry. (12/19, #7)

• Pemex estimated that losses from oil theft were $730 million in 2008. Gasoline, diesel, jet fuel and condensates from gas fields were the most common targets. (12/19, #10)

• Russia launched an oil tanker capable of slicing through a meter of ice, bringing Russia a step closer to its ambition of launching its first offshore oilfield in the Arctic. (12/19, #18)

• Anadarko said that it struck oil for a second time in the subsalt region of Brazil's Campos Basin. The Itaipu prospect encountered more than 90 net feet of oil in a high-quality carbonate reservoir. The well was drilled to a total depth of 16,300 feet in 4,400 feet of water, Anadarko said. (12/18, #9)

• India’s oil imports averaged 2.57 million b/d in November, up 6.3% from the same month of last year. (12/17, #15)

• Venezuela, site of the biggest refinery complex in the Americas, may process less oil as a drought reduces power generation, said the chief executive officer of Curim Capital Advisors LLC. The global market could lose 200,000 barrels a day, which would most likely affect heating oil, and China in particular. (12/17, #11)

• China’s crude stockpiles at the end of November are forecast to have fallen 1.3 percent from a month earlier, according to China Oil, Gas & Petrochemicals. (12/17, #12)

• Russian Energy Minister Sergei Shmatko said on Tuesday he expects no problems with Ukraine over gas supplies at New Year. (12/15, #20)

• Chinese President Hu and his counterparts from Turkmenistan, Kazakhstan and Uzbekistan jointly put into operation a natural gas pipeline linking the four nations. The 1,833-kilometer gas pipeline starts at the gas plant near a border town in Turkmenistan and runs through central Uzbekistan and southern Kazakhstan before entering China at the border pass of Horgos in the northwest region of Xinjiang. (12/14, #17)

• Range Resources Corp. said its net production from the Marcellus shale gas has reached a net 100 MMcfd of gas equivalent from the formation and forecast that to rise to 360-400 MMcfd of gas equivalent by yearend 2011. The current output figure is a fourfold increase since late 2008. (12/17, #16)

• The global edifice of cheap food rests on the volatility of a single input; the exponentially depleting supply of easy, cheap oil. (12/17, #18)

• The world's airlines are set to lose $5.6 billion next year, far more than previously estimated, with a rebound in passenger and air cargo demand only partly compensating for rising fuel costs. In its latest outlook, the International Air Transport Association reaffirmed its projection for an $11 billion loss in 2009. (12/15, #7)

• The Arab states have agreed to launch a single currency modeled on the euro, hoping to blaze a trail towards a pan-Arab monetary union. Saudi Arabia, Kuwait, Bahrain, and Qatar are to launch the first phase next year, creating a Gulf Monetary Council that will evolve quickly into a full-fledged central bank. (12/17, #9)

• In Ecuador, President Rafael Correa, already frowned upon by some investors for his 2008 bond default and the tough stance he has taken with international oil companies, faces a growing domestic challenge posed by power outages caused by droughts that are spreading across this Andean country. (12/15, #10)

• Nuclear Power Corp. of India, the nation’s monopoly atomic generator, plans to borrow as much as $6.5 billion to fund six new reactors as the second fastest- growing major economy grapples with power shortages. (12/17, #14)

• China is preparing to build three times as many nuclear power plants by 2020 as the rest of the world combined. China’s civilian nuclear power industry includes11 reactors operating and construction starting on as many as an additional 10 each year. (12/16, #11)

• Geothermal energy: the company in charge of a California project to extract vast amounts of renewable energy from deep, hot bedrock has removed its drill rig and informed federal officials that the government project will be abandoned. (12/14, #22)

 
Commentary: Oil, Economics, and Politics--a tangled web of consequences
By Roger Baker

(Note: Commentaries do not necessarily represent ASPO-USA’s positions; they are personal statements and observations by informed commentators.)

It will come as little surprise to most readers that the world is near to, or past, peak world oil production. Petroleum is so essential to the economics of transportation that many believe when oil peaks, the global economy must also shrink in terms of the total output of goods, even as the population increases. Most who study peak oil and accept the findings of the Hirsch Report do not expect a lasting economic recovery, likely for decades.

If peak oil were our only problem, we could mobilize our nation on an emergency basis to deal with the problem in a straightforward way. In our real world, there is a complex interaction between oil supply, economics and politics. Our economic system is constantly interacting with the politics that makes the rules that govern our economic system. Politics is anything but an efficient way to achieve rational change. The geology is the easy part, but it is the complexity of the social response that makes peak oil difficult to study. The following link provides my expanded explanation in several essays, along with more documentation. Some of the main points are collected below.
http://theragblog.blogspot.com/2009/12/fixing-economy-like-filling-leaky.html

Energy analyst Tom Whipple recently pointed out that our global economic options seem to be increasingly narrowed to the choice between continuing global economic stagnation versus a short start at recovery followed by a relapse into economic contraction and global stagnation. Assuming this is true, use of stimulus spending or any other political and economic policies can't get us back onto the previous path of prosperity for very long, no matter how wise and skillful these methods may be. http://www.energybulletin.net/node/50536

With global liquid fuel production probably maxed-out below 90 million barrels a day, and global petroleum reserve capacity thought to be less than 6 million barrels a day, a 5% or more annual average depletion rate implies that the world will use up all our reserve cushion within a year or two. The return of another tight global oil market will be accompanied by the return of the crippling oil price increases we saw in mid-2008, but this time imposed on a weaker economy.

The economic crisis is resulting in a huge gap between the global growth predicted by the banking and finance system versus the disappointing performance of the global economy. This shortfall is strongly reflected as political discontent. Centuries of economic expansion have taught us to regard continuous growth as normal. The economic system seems to be broken when this is not the case, and people expect politicians to fix things. Nobody can predict even the economic outcome very well, because it is so largely based on consumer psychology.

Stagflation?
A large part of the US domestic economy now appears to be in a state of deflationary contraction, with a true US unemployment rate approaching that experienced during the great depression. Bad news feeds on itself and this perpetuates a deflationary downturn during hard times. The velocity of circulation of money also slows down, as everyone tries to hoard cash, worsening the problem. http://blog.atimes.net/?p=1236

I think it makes sense to view the US domestic economy as being comprised of two consumer spending sectors with rather different characteristics. First the discretionary spending sector of consumer spending, and then a second non-discretionary sector, which including necessities like food and energy.

Discretionary spending is shrinking fast as the jobless and the growing numbers of those fearful of income loss limit spending to the purchase of bare necessities. Both apples and oranges categories of spending are averaged together to give a rather misleading consumer price index, which sadly excludes food and energy.

Whereas labor and services costs are determined by the supply and demand within the domestic economy, commodities typically have their prices determined by the global marketplace. Whenever a tight global oil market returns, it means that the rising cost of oil needed to transport almost everything pushes up all other commodity prices. This is termed cost-push inflation.

If the non-discretionary sector of the consumer economy is deflating, due to slack demand and home prices decreasing, it does not mean that the same price trends apply to the non-discretionary sector. These two sectors can thus have very different dynamics. The US domestic economy is stagnating while the global commodity sector is seeing price inflation. Housing and labor prices have been falling, even as global commodities prices are rising, to give a misleading picture of inflation. These trends taken together signify stagflation, which tends to defy easy economic remedy.

As US consumer spending relatively shrinks, there also seems to be a global commodity price bubble attracting speculation and driving up many raw materials prices. Commodity prices in general have risen about 30% since March 2009. The price increases may now be spreading to food. http://www.bloomberg.com/apps/news?pid=20601109&sid=aBYSp0.XfXZs

The Keynesian Remedy
Keynesian stimulus is ideally a governmental policy that borrows economic demand from good times and uses the proceeds to boost demand during times of contraction, to keep recessions from deepening into deflationary depressions. Public spending by the US government on public projects is meant to restore demand missing due to contraction of the private sector of the economy. If there is enough public spending, a multiplier effect helps stimulate demand and revive consumer optimism.

In terms of the scale of the government money being introduced to stabilize the economy, it is mostly going to bailouts, low prime rate credit, and existing entitlements, with a relatively smaller amount of Keynesian stimulus. The Keynesian stimulus is beneficial insofar as it gets to average consumers, but much of the money is headed elsewhere; perhaps overseas to buy commodities, gold, etc. If there are few obvious opportunities for profitable investment within the US consumer economy, money will be attracted elsewhere.

Meanwhile, even the most skillful application of Keynesian stimulus spending can't get us back onto our previous path of economic expansion for long without cheap oil.

Money Heads Abroad
With the domestic consumer market so depressed, the easy credit offered to the banks now tends to leak out of the US and head abroad, without creating many domestic jobs in the process. The near zero prime rate money available to the big profit-starved investment banks will probably be used to shore up their troubled bottom line with high-profit loans, lending for things like foreign subsidiaries of US corporations, commodities including gold, oil production, and growing markets in emerging nations. Some prime rate money is being borrowed and then used to buy higher interest paying US treasury bonds, giving guaranteed profits but no jobs.

The scale of existing obligations on the part of US consumers, the many federal obligations and entitlements like health care and social security, and private bank debt taken together is an overwhelming tax burden for an aging unemployed population. Given the peak oil situation, it is unlikely that this aggregate burden of US debt can ever be paid back with dollars that retain their current buying power. This leaves a choice of either US government default, or more likely in the short run, devaluation through inflation that keeps the finance books balanced with shrunken dollars. The historic evidence strongly points to solving our debt problems with inflation, which is a concealed form of taxation. Here political policy takes over.

Why Do We Need Banks?
The Federal Reserve and the US Treasury effectively print money, and we are not seeing the deep reform of the banking system regulation urged by many financial experts. What is the extent of our political commitment to keep the existing banks solvent and functioning as if things were normal? Since banks operating within our capitalist system depend on continuous economic expansion to generate their profit, expecting them to be genuinely profitable without cheap oil is probably impossible. And yet It is part of our political legacy that the largest private investment banks, working through the Federal Reserve, have been put in charge of channeling the economic resources of our society and nation.

What we really need is a new kind of bank, or its functional equivalent, that can channel the wealth of society toward a new economy that can be sustainable and stable without the expectation of continuing growth. The facts seem to argue that we need to phase out rather than prop up the big private banks that got us into trouble, with political help. The fact is also that the US Treasury already acts in some ways like a bank under political control. Taken as a whole, this should focus our concern on the politics of regulation. Let us try to help make it all work out.

Roger Baker is an Austin-Texas-based, transportation-oriented environmental activist, recently with a particular interest in energy-oriented economics. He is a founding member of and an advisor to ASPO-USA, is active in the Green Party, the ACLU, and others. He writes for the Texas-based cyber-journal, "The Rag Blog".