This article was first published in the The Independent on Sunday, 14 June 2009
BP famously ‘doesn’t do’ oil price forecasts. After 18 months in which crude has ricocheted from just under $100 per barrel to an all time high of $147, then down to less than $40, and now up to $73 again, you can see their point. But at the launch of its annual Statistical Review of World Energy last week, chief executive Tony Hayward came close when he ventured “there is a rational argument to say that somewhere between $60 to $90 a barrel is the right sort of level”. At the same time, BP continued to claim there is no geological shortage of oil, and sought to blame the recent volatility on OPEC’s refusal to open up to Western investment. These arguments are wrong, partial or beside the point.
Mr Hayward justified his price range on the basis that OPEC members, who hold the bulk of the world’s remaining reserves, need at least $60 per barrel to fund their social programmes while also investing in new fields. At the other end of the scale, recent history suggests that consumers only cut back once the oil price hits $100 per barrel. For that reason, he implied, oil ought to settle somewhere in the $60-$90 range. If only.
So far the market seems to be with Mr Hayward. The oil price has rebounded since the start of the year, and this week broke through $73 as data suggested the economy may soon be on the mend. This latest uptick prompted Alistair Darling to warn that the oil price “has the potential to be a huge problem as far as the recovery is concerned”, and he is right – but probably not yet.
The slump in oil demand caused by the recession has left OPEC with enough spare capacity – officially, at least – to supply several years’ recovery, and the cartel would be foolish to strangle the upturn at birth. The one scenario which might keep oil in Mr Hayward’s range is if we stay mired in recession – but I don’t think that’s what he had in mind. Nor is it the most likely short term outcome.
One fundamental problem is that although the economy may be about to rebound, the oil supply probably will not. The precipitous collapse from $147 per barrel has caused upstream investment to slump by $100 billion, or 21%. Developing a new field usually takes around six years, so if nervous companies continue to delay investment decisions as the recovery gathers strength, when OPEC’s current spare capacity is exhausted demand will again outstrip supply and produce another damaging price spike. Shell’s chief executive Jeroen van der Veer recently warned that this “may already be in the making”.
Even if investment conditions were perfect, it is doubtful we could avoid repeated boom and bust; there are more fundamental forces at work than money. Data in the BP Statistical Review confirms that that non-OPEC oil production – the aggregate output from the entire world bar the 12-member cartel – slumped by 600,000 barrels per day last year. Non-OPEC production has long been expected to peak around the end of this decade by many in the industry – including Rex Tillerson, chief executive of ExxonMobil – and the size of last year’s drop suggests that moment may now have arrived. If so, we are in OPEC’s hands as never before. If not, we soon will be.
OPEC may still have lots of oil, but BP’s suggestion that all would be well if only the cartel would lift its skirts to the international oil companies is of course self-serving. It is also wrong, or at least irrelevant.
OPEC has failed to materially increase its capacity in the last few years, despite an unprecedented 7 years of rising oil prices. The resulting spike and collapse were entirely predictable, and inimical to OPEC’s interests. If its members could have raised output to prevent this outcome they would have.
The cause of OPEC’s failure is essentially irrelevant. Whether it was the result of deliberate policy, refusal to allow outside investment or geological constraint – it is now widely feared the cartel has been grossly exaggerating the size of its reserves for decades – makes little practical difference. Whatever the reason, OPEC’s response is likely to be the same next time we hit the oil supply buffers. Still less are members likely to give the international oil companies the access they crave.
A steady oil price at the upper end of Mr Hayward’s range would be a good thing, shoring up both investment in the oil supply and renewable energy. Gazprom’s chairman recently called for the creation of a Global Oil Agency to engineer price stability and protect investment. This is vanishingly unlikely, but without it we will continue to lurch between and oil price so low it throttles future crude supply and one so high it strangles the economy.