After Oil: more details on the coming oil crashgreenspun.com : LUSENET : Grassroots Information Coordination Center (GICC) : One Thread
After Oil by David Fleming
Edited and expanded text of an article published by Prospect magazine, 19 October, 2000.
Beneath the seabed off the coast of Saudi Arabia, there is an oil field called Manifa. It is a giant, and its riches are almost untapped. There is, however, a snag. Its oil is heavy with vanadium and hydrogen sulphide, making it virtually unusable. One day, the technology may be in place to extract and dispose of these contaminants, but it will not be for some time and when, or if, it does happen, it will do no more than slightly reduce the rate at which world oil supplies slip away towards depletion. However, even this field has advantages relative to the massive reserves of oil which Middle East suppliers are said to hold ready to keep oil prices low and secure the future of civilisation. Unlike those fantasy fields, Manifa actually exists.
It is the detail that tells. In region after region, the story is of ageing fields, of the wrong sort of oil, of nitrogen being pumped into wells to keeps up the flow, of new areas such as East-of-Greenland being explored, only to turn out to be dry. The UK's North Sea oil is at its peak now. The giant fields in Alaska, the former Soviet Union, Mexico, Venezuela and Norway are all past their peak. The United States' own oil supplies have been declining since 1970 and now account for less than half its needs. There is a possibility of some significant finds off the coast of West Africa, but their development is still years away, and they are not on a scale capable of making a difference. The only producers who still possess an oil resource which may be capable of keeping oil flowing into the world market at a roughly constant level are the Middle East OPEC Five - Saudi Arabia, Iran, Iraq, Kuwait and the United Arab Emirates. And even with these countries, it seems, the closer you look at the detail, the less they have to offer.
Much of Saudi Arabia's reserves of oil are held in one huge field, the Ghawar. It has been pumped continually since 1948 and not surprisingly, it is showing signs of exhaustion, with its southern end now flooding with water. Saudi Arabia can keep its production roughly constant for between seven and ten years before it, too, has used up half its total oil resource and rolls over towards depletion. Then it will turn to smaller fields, producing smaller amounts, followed by poor-quality fields with real problems like Manifa. Saudi Arabia's legendary oil wealth is now coming up hard against the geology.
Reality intervenes in the case of the other Gulf states, too. Iran, which in the past was one of the young giants of the world oil business, could not now sustain a higher output for long, and there are suspicions that some of the production credited to Iran actually consists of oil piped over the border from Iraq. Kuwait and one of the Emirates, Abu Dhabi, could increase production and may well do so, but development would take several years, and their reserves are small relative to the world's demand for oil. There is, however, one country with potential for a serious increase in output, on a scale that could make a difference. The snag in this case is that the country is Iraq.
Unlike every other region with major oil potential, Iraq's oil geology is not fully explored, but there are some well-informed guesses. One estimate is that there are 110 billion barrels there, equal to more than three UK North Seas, or more than one third of the total resource once possessed by Saudi Arabia. This is not oil that could be made immediately available, but it is on a scale to keep world oil production rising for a few more years. It lies, however, in a country which is armed to the teeth, consumed by loathing of the West, and just waiting for the threat of armed intervention from America to make its day. Iraq was prevented from selling off its oil during the 1990s, when prices were lower than they will ever be again; it will soon be well placed to apply its own sanctions to the rest of the world by fine-tuning its oil production and naming its price.
Now, this is not a happy story. But perhaps its most shocking quality is that it is not new. The essential problem has been known for a very long time. It is a well established fact, written up exhaustively in the literature, that the period around the turn of the millennium would mark the end of growth in the world production of oil, and the start of its long decline towards depletion. The accuracy of forecasts of the "peak" - the moment when oil production turns down has been routine for half a century. In 1956 the geologist King Hubbert correctly forecast that America's oil production would peak around 1970. In 1970, Esso forecast that global production would peak around 2000. In 1976, the UK's Department of Energy published its paper Energy Research and Development in the United Kingdom: A Discussion Document; it pointed out that the UK's North Sea production would peak around the end of the century - the same time as the peak in world oil production. For this reason, the report concluded, it would be a good idea to be ready with alternative supplies of energy.
The warnings have continued to flow. In November 1998, the International Energy Agency (IEA) showed that growth in world oil output could not be expected to continue beyond about 2001; a correct reading of this warning required only a little simple deduction, as explained in the April 1999 issue of Prospect - and the IEA later confirmed that this analysis was correct. And, in the last few weeks, a member of the respected and conservative United States Geological Survey (USGS), has published on the Internet with his master-class on "the Big Rollover - when the demand for oil outstrips the capacity to produce it". It concludes, "Hang on tight. If we don't recognise the problem soon and deal with it, it's going to be quite a ride!" ******** There seem, therefore, grounds for suspicion that an oil-price shock is likely in the near future, that its impact will get worse as time goes by, and that the world economy is totally unprepared for it. But this claim amounts to nothing without an explanation for the present complacency on oil. The recent oil disorders have been discussed in terms of taxes and domestic politics, with occasional references to OPEC trying out its strength and to the powerful bargaining position which America enjoys because of its strategic reserves. If the problem were really serious, surely - in this society rich with economists and experts - we would have been told? Not necessarily. The principles of economic thought which are so successfully used as an aid to understanding how the market economy works break down when they are applied to natural resources such as oil.
There are four ways in which the unquestioned principles of market economics do not apply in this case. The first arises from the fact that price of oil today has virtually no influence on the rate at which it is discovered. In market economics, the rules of supply and demand hold good: if the price of something goes up, then this gives a signal to someone to produce more of it; new producers will pile into the market until the price settles down again. In the oil market, price does not have this effect. In the early days, the best and biggest fields were quick to be found, and very cheap to pump. In fact, a new well did not have to be pumped at all; it just gushed. This cheap-to-produce and very useful fuel was immensely profitable, so the world's resources were prospected urgently and rapidly and, with the help of digital seismic technology, the discovery of oil grew to a peak in the mid 1960s. Since 1965, however, the discovery of oil has declined steadily to a point where, today, discoveries of conventional (i.e. liquid and accessible) oil are reduced to the remnant of smaller fields, containing a tenth of the total endowment of accessible oil which modern civilisation inherited.
This means that we are largely using oil now which was discovered over forty years ago, in the period when oil was being found in huge quantities. That period of discovery is over. There is no conceivable increase in prices which will bring it back. As we use up more and more of the oil fields which were discovered in the past, it is becoming harder and harder to sustain the growth of production. Soon production will decline. To make matters worse the alternative sources of energy confidently indicated by economic theory, too, exist only in theory, as we shall see. And yet, it is against the rules of economics that supply should get stuck like this, that the "price signal" should have absolutely no effect. It is an impasse to which the well-behaved theories of prices, supply and demand are irrelevant.
A variant of the faith in prices is faith that new technologies will increase the rate at which oil is discovered, and make it possible to extract more of the oil contained in a well. This confidence in "technological improvements relating to discovery and recovery rates" is expressed by, for instance, by the UK's Energy Minister, Helen Liddell, in her reply to a recent letter from Tim Yeo, Shadow Agriculture Minister, one of the very small number of British MP's to have taken an interest the oil question. However, the idea that technology will save the situation is without foundation. Digital seismic technology, which has been available for forty years, can speed up the finding of small fields, but it cannot bring into existence the giant new provinces that we would need to sustain the world's demand for energy. Ingenious ways of squeezing the last accessible barrels from each waning oil well can make no more than a few percentage points of difference on the downward slope after the field has passed its peak, and the fact that they occur after the peak has occurred makes them substantially irrelevant to our present problem.
The second disastrous breakdown in the well-behaved thinking of market economics occurs with a failure to grasp the significance of the "peak" in the supply of oil. Conventional economics deals happily with "quantities"; however, in the matter of providing the energy resource which underpins the global economy, there is a sense in which quantity is irrelevant. There is still a large quantity of oil in the ground; we are probably not yet even half way through the total quantity of recoverable conventional oil; we shall never run out of oil, because there will always be some left to pump, and as evidence for this there are the oil wells in Pennsylvania which are still pumping after more than a hundred years. What matters is not the quantity of oil that remains, but the turning point at which the flow of oil hits its peak and begins to turn down. It is here that we come to the parting of the ways between what the market needs and what the industry can produce.
When, after the turning-point, the flow of oil begins to decline, three things happen: some people have to go without; competition for the reduced supply of oil gets fierce; and, quite suddenly, time is no longer on the side of good order in the market, as the supply of oil cruelly declines at a rate which could be as much as three per cent per year. A gap opens up between the need for oil and the reduced quantity of oil that is actually flowing. Prices are set by the marginal barrel of oil sold to a market which cannot get enough.
The third way in which oil insults the received rules of economics is that it cannot usefully be discussed in abstract terms such as "reduced dependency" and "falling percentages." Recent commentary by the press and the government has persistently argued that the world's dependency on oil has declined during the last three decades, and this, it is claimed, means that the market is much less vulnerable to prices and disruptions affecting oil than it was in, say, 1973. Certainly, this is the UK government's position: "In effect, people have substituted away from oil and oil product consumption", wrote John Battle, the then Energy Minister, in 1998 (again in reply to a letter from Tim Yeo), and this theme was taken up by Helen Liddell for whom "the declining reliance of the world economy on oil" is another of the factors which "counterbalance fears regarding the peak in oil production". The Financial Times admiringly quotes calculations of the effect of high oil prices on corporate profits: $40 a barrel? That would merely reduce corporate profit growth from 13% to 12%. No problem. It summarises, "These projections reflect the fact that the corporate sector - and western economies as a whole - have become far less dependent on oil. As a proportion of output, OECD oil and gas imports were three and a half times higher in 1978 than they are now."
However, none of this makes sense. If oil accounted for just one percent of the total quantity of energy used, and that one percent provided the fuel for transport, then, as recent events confirm, disruptions to the supply of oil can close an economy down within days. Arcane calculations about the impact of oil prices on growth rates have nothing to do with the case. While it is true that oil has declined from 45 percent to 33 percent of all energy used in the UK since 1973, the volume of transport, which depends entirely on oil, has doubled. We are twice as dependent on transport as we were in 1973. The economists' arguments about "reduced dependency" would be entirely correct were it not for one little snag: we do not fill up our cars with percentages.
The "reduced dependency" argument is absurd. The world uses 30% more oil now than it did in 1970, and the fact that its consumption of gas has doubled does not mean that it is less dependent on oil; it simply means that it has become more dependent on gas, too. In the case of the UK, the consumption of gas and oil combined has grown from 50% to 70% of energy consumption. Since three recent studies, including two by the USGS, have shown that prospects for gas supplies in Europe are similar to those of oil, apart for a delay of perhaps twenty years, there is not a shred of justification for arguing that we are less dependent on oil. Our reliance on a secure flow of oil to underpin our economic and social order is, at present, total.
The fourth way in which well-behaved economic analysis throws us off the scent of the oil shock is that it prefers to ignore time-lags. Specifically, it makes simple assumptions that other sources of energy, from renewable sources - such as solar and wind power - will come on stream just in time to take over from oil. All we need do is wait for the "price signal" to kick in, so that oil is more expensive than the alternatives, and the renewables will flood into our homes and cars and solve our problems. This is another piece of magic for which both the government and the press in the UK, in their innocence, have fallen. What is really worrying the Opec countries, argues Anatole Kaletsky in The Times, is the danger of alternative energy sources bringing the demand for oil to a premature end. "The Saudis, in particular, realise that oil demand could collapse well before their kingdom has the chance to sell off its oil reserves." The government agrees: the development of alternative energy sources is another of the reasons cited by Mrs Liddell for not worrying about the approaching peak in the flow of oil.
The problem is, however, that the development of those alternative energy sources will take a long time. The government's own target for 2010 is that renewable energy sources should account for just 2% of the total quantity of final energy used in the UK at present. A detailed study of the switch into renewable energy was published by the LTI-Research Group in Mannheim in 1998. It found that, if the development of renewable energy systems were supported by decisive, well-coordinated action by governments, in a sustained programme lasting for fifty years, then it would be possible to provide energy from renewable sources equal to 35% of the energy used at present.
If more efficient usage of energy and more compact ways of using land were developed at the same time, that 35% might conceivably give us all the energy we needed in fifty years time, and if it were given the highest possible priority, then, perhaps, it could be done in twenty-five years. We might, therefore, think of twenty five years as the absolute minimum time it would take to rebuild Europe's energy economy on renewables. It follows that, if we wait in the approved economic manner for the market to give the "price signal" that renewable forms of energy should now be developed, we shall ensure that the job starts twenty five years too late. It also follows that, even if the shock were not imminent after all and, instead, were postponed for ten years, while an intensive programme to develop renewables started straight away, it would still have started fifteen years too late to avoid a destabilising "energy gap" before the alternatives are functioning properly.
And even our twenty-five year estimate is optimistic, because the LTI-research group's own estimate of fifty years is based on the assumption of the comfortable background of a fully functioning economy with no disruptions to transport or industry or to any of the other conditions of normality. In reality, the switch into renewables will have to take place against a background of the oil shock, with all its consequences, which will make it more difficult to put into effect a decisive coordinated programme on anything at all.
It does seem, therefore, that one of the reasons why we find ourselves in this surreal situation, with imminent and devastating change unrecognised by the experts and discounted by government, is that the problem falls outside the mind-set of market economics. Expertise, it seems, wipes the mind clean of commonsense. Maybe, for a moment, we should stop thinking, and just feel the reality of energy famine. In the poorer countries there are already people who, in the last few months, have found that the cost of paraffin which they use for cooking places it beyond their reach. After the peak, consumers all over the world will be in trouble, not because oil is expensive, but because it is not there.
The economics of oil is now dominated by its close proximity to the peak, and the graph (figure 1) shows the peak that could be expected in 2005. In fact, the global peak will not take the usual form of a simple turning-point; instead, as production begins to slow down, price increases will begin to speed up, suppressing demand and slowing the rate of growth in production even more. Oil production will tend to flatten off towards a plateau for a few years, followed by a relatively abrupt downturn onto the path towards exhaustion.
Recent rises in oil prices suggest that the very high prices associated with a peak in 2005 are in their early stages. There may well be short term fluctuations around quite moderate prices; it is possible that, prompted by high prices, a crash programme of bringing forward new wells could hold prices down for some time; however, within the period 2001-2003, the tension between demand and the reduced growth in supply can be expected to raise prices further, and the flattening of production around the peak will have become established. When the market starts to believe that the price in the future will be higher than the price for delivery straight away, it will go into "contango": a rush to buy up short-term contracts will bid up prices, leading to a new equilibrium at a very much higher level, and persuading producers that the longer they leave the oil in the ground, the better the price they can expect. A painful stand-off between very high prices and flattened demand will persist for a period - five years, maybe - before supply collapses into its definitive decline.
None of that would necessarily matter very much if the world had spent the last twenty five years urgently preparing alternative energies, conservation technologies and patterns of land-use with a much lower dependence on transport. That is what could and should have happened; the roll-over point was well known and this provided a full justification for taking action. As it is, however, the long-expected shock finds us unprepared.
And the consequences? The two main purposes for which oil is used worldwide are food and transport. Agriculture is almost entirely dependent on reliable supplies of oil for cultivation and for pumping water, and on gas for its fertilisers and, for every calorie of energy used by agriculture itself, five more are used for processing, storage, and distribution. This dependency on oil and gas could be reduced if the world switched to organic agriculture, to a more labour-intensive and localised form of food production, and to renewable sources of energy such as solar and wind power at various stages in the sequence from farm to shop, but that brings us again to the minimum transition period of twenty five years. In other words, the part played by oil in the provision of food is non-negotiable; demand for oil for this purpose is "inelastic", and this is dependency which will force people to go on buying the oil they need, to the very limit of their resources.
This means that most of the reduction in oil supply will be concentrated on transport and, on the global market, the competition for oil to keep transport moving will be real and raw. Be warned: the following two paragraphs are not about "competitiveness" in the nice, everyone-wins-in-the-end sense that we have been conditioned to revere; it is a zero-sum battle with a winner and a loser. One hitherto cuddly competitor which will reveal another side to its character will be the United States.
America will fight hard and dirty, for three reasons. First, its economy is organised irrevocably around the assumption of cheap, long-distance transport, and any failure to keep its automobile economy going would be even more damaging there than it would in other developed economies. Secondly, it has, at the moment, a lot of money: it can afford to bid high. Thirdly, America has an additional problem: it is facing not just a shortfall in the supply of oil but, at the same time, a progressive reduction in the supply of gas; it already relies on gas imports from Canada, whose own reserves are now depleting rapidly. The timing is vicious: just at the moment when the world's supply of oil starts to decline, the United States will have a new and pressing incentive to increase its consumption of oil. American households will have the choice of freezing to death in unheated homes or paying very high prices for oil.
So, by being able to afford those high prices, America will be able to fight hard to meet much of its demand for oil. In other words, it will export oil scarcity to the rest of the world. At this point, a number of things begin to unravel. Poorer countries will be in deep trouble, with a frank energy famine affecting their transport and spilling over even into their food production and distribution. With daily lives locked into dependency on road transport, consumers will strain to cope with prices, but the scarcities themselves will persist. For substantial parts of the global economy, the travel and distribution on which they depend will not be an option. There will be serious economic contraction and destabilisation; jobs will be lost. It is evident that, unless the installation of alternatives to replace both oil and gas moves ahead at an extraordinary speed - faster than anything that now appears to be credible - the deconstruction will get rapidly worse as the supplies of oil, and then gas, go into decline.
******** Government is now in a dilemma. Is this analysis, with its appalling implications, to be taken seriously? Can it really be true that the institution-based spokesmen and advisers on energy are united in error, and that for good information the government must rely on the academic literature, on cautiously worded statements from official bodies, but above all on independent geologists and energy analysts with workaholic tendencies, mainly working outside the institutional mainstream? That is, in fact, as good an attribution of "sources" as we are going to get for figure 1; can it, therefore, really be taken seriously? Doubts will linger. There is therefore a real race on. Will the government, or indeed the opposition, be willing to recognise what the true situation is before the first explosive consequences of a deficit in oil supplies hit the economy? Probably not: the barrier between rational thinking and institutional complacency is holding well and, after proving robust to attack for many years, there is no reason to believe that it is about to be breached.
When the government does eventually acknowledge the problem, its immediate task will be to understand it. A completely new generation of independent thinkers - perhaps a Royal Commission or a Select Committee, if they can be briefed to work at unprecedented speed - should be asked to make good estimates of the timescale on which events can be expected to unfold, and to write a programme for action.
The first thing to do is to establish a proper dialogue with the public. The public needs to be told what the situation is, what the government is proposing to do about it, and why the effectiveness of any response depends primarily on the publicís cooperation. The public, which is now alert to the fear that something strange is happening, will want a political leader who manifestly knows what he or she is doing.
Secondly, we need to find out quickly how vulnerable the nation's food supplies are, and how food security will be affected by declining oil supplies. Agriculture's dependency on oil could be eased by organic agriculture and shorter transport distances; the UK's farms could be, once again, by far the most important source of the UK's food - but only if action is taken to ensure that many unemployed people living within the destabilised economy can afford to buy it.
Thirdly, the government must lead a national programme to establish alternative energy sources and conservation technologies, and to reform the present inefficient ways in which we use land. The solar and wind technologies (which could produce the hydrogen needed by fuel cells) have been developed over several decades, and they are now ready to move ahead with production, installation and training, although a renewables-based energy system is unlikely ever to provide the energy needed for transport on the present scale.
The coming clamour for nuclear power will need to be rejected; its very high capital costs would bleed funds out of the far more cost-efficient renewable energy and energy-conservation technologies; its construction-times are long, its waste problem has still not been solved and, in a destabilised economy with the prospect of social unrest, it would be unintelligent to fill the andscape with nuclear power stations and uranium stores.
There may be a case, despite the climate change implications, for opening the way to a return to coal mining. The problem is that we shall need a functioning energy system, along with industry and transport, in order to be able to develop the energy alternatives of the future. The use of coal can help us to buy time. Within a relatively short time-scale of a few years, part of the transport system can be switched over to gas, and part of the electricity grid can be switched to coal. Coal's impact on climate is a good reason for not using it, but it could be the lesser evil for a limited period, and the increased emissions of carbon dioxide will be partly compensated by a decline in emissions from oil.
Fourthly, there can be no doubt that fuel rationing will need to be put in place. A design for electronic rationing - "domestic tradable quotas" - which allows citizens to trade their electronic rations, buying additional rations or selling their surplus, already exists in outline and is ready for development.
The fifth area for government action is international. Here, too, there is a case for some form of tradable rationing system and the essential structure of a system of this kind has already been developed with international action to reduce emissions of the gases that cause global warming. The "Kyoto" model for international rationing of emissions could be a useful instrument around which to organise an international response to the scarcity of oil.
When citizens are motivated and organised, they can get results. But we have to be ready for the economic consequences of what lies ahead. The extraordinary prosperity of the twentieth century was built on cheap oil and gas. When they are no longer either cheap nor reliably available, the economic consequences will be far greater than can easily be imagined, conditioned as we are by the security and regularity of the oil-rich market economy. It is not a short-term problem of high oil prices. It is energy famine. The implications of that must now, at this late hour, be recognised
14 October, 2000
-- robert waldrop (email@example.com), June 04, 2001
I am waiting for anyone with knowledge on this subject to please offer their opinions on the validity of this post. Is it as grim as Mr. Fleming argues, or is this a gross exageration of reality? A friend recently argued that oil fields are self renewing and will never run out and Mr. Fleming also talks of wells in Pennsylvania that have been pumping for over 100 years. Y2K turned out to be less of a problem than than many highly trained experts expected, is this likely to be as well?
-- Scott Stokes (firstname.lastname@example.org), June 06, 2001.