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Tuesday, April 25, 2006

The oil party is finally over


LONDON -- Welcome to the world of $70-per-barrel oil. That's if there is no crisis in the Persian Gulf over Iran's nuclear ambitions. If there is, then get ready for $140 a barrel. Oil briefly breached the $70 barrier eight months ago, but this time it is going up for good.

Exactly one year ago the investment bank Goldman Sachs put out a paper suggesting that the "new range" within which oil prices will fluctuate is $50-$105 per barrel. (The old range, still used by most of the oil industry when deciding if a given investment will be profitable, was $20-$30.) The price could surge well past the upper end of the Goldman Sachs range if the United States actually does launch military strikes against Iran, but it's going up permanently anyway.

Whatever his longer-term plans, U.S. President George W. Bush is unlikely to attack Iran before the mid-term Congressional elections in November, for three of the last four global recessions were triggered by a sharp rise in the oil price. But even without a Persian Gulf crisis, the oil price will only stabilize at a price a good deal higher than now, because the major players in the market understand the long-term trends.

Transient events like the Iran crisis and the political unrest in Nigeria (which has cut that country's exports by a quarter) drive the daily movements in the oil price, but the underlying supply situation is so tight that oil would stay high even if Nigeria turned into Switzerland and Iran opted for unilateral disarmament. "On production, there is nothing we can do. (OPEC, the Organization of Petroleum Exporting Countries, is) already producing at maximum output," said Abdullah al-Attiyah, Qatar's oil minister.

This is not about "peak oil," the notion that we are already at or near the point where total global oil production reaches its maximum and begins a long decline. That may well be true, but the present price rise is just about rising demand for oil as the big developing countries, especially the Asian ones, lift large parts of their populations into the middle class.

Middle-class people buy cars. They also run their air conditioners all summer, and take holidays abroad, and do other things that have big implications for total energy consumption, but above all they buy cars. For the foreseeable future most of the cars they buy will run on some form of refined oil.

The rising demand that drives the oil price up does not just come from the middle-class Americans (and, increasingly, Europeans) who insist on driving enormous SUVs. It also comes from the new middle class of unassuming Chinese, Indian, Russian and Brazilian families who only want a modest family car for the school run and the weekend. There are just so many of them.

This is the first big price rise that has been caused by rising demand rather than some temporary interruption of supply. Goldman Sachs also predicted last year that in 20 years' time there will be more cars in China than in the U.S. -- about 200 million of them. Ten years after that, India's car population will also overtake America's. Within 20 years Russia and Brazil will each have more cars than Japan. We are headed for a billion-car world (unless all the wheels fall off first), and that means permanently high oil prices.

Good. If the oil price rises gradually from $70 to $100 over the next five years, people and governments will start paying serious attention to energy conservation and alternate energy sources (including nuclear energy). The sooner that happens, the less extreme the global warming that we will have to contend with as the century progresses. But if the oil price leaps to $100 or more in one swift jump we will have the mother of all recessions, and then there will be a desperate shortage of funding for developing alternative sources of energy.

A U.S. attack on Iran is not the only threat to oil prices. If the markets should ever collectively decide that "peak oil" is upon us and that the supply of oil is heading for actual decline, the price would soar out of sight overnight. The oil companies and the governments of OPEC reassure us that oil reserves are ample to cover consumption at the current rate of world economic growth for decades to come, but they would be saying that whether it was true or not, and there is reason to suspect that it is not.

Never mind the geology. Just consider the fact that in the years 1985-1990, when OPEC's declared reserves grew by a massive 300 billion barrels, no major new oil fields were brought into production. The "growth" was achieved by recalculating existing reserves, and the incentive for exaggeration was provided by OPEC's decision to set production quotas in proportion to the total size of each member's reserves. So over a quarter of the world's total "proven" oil reserves of 1.1 trillion barrels may be no more than an accounting fiction.

The best we can hope for in the coming years, therefore, is a relatively slow and steady rise in the oil price, rather than a steep, fast rise that upsets everybody's apple carts. The party is definitely over.

Gwynne Dyer is a London-based independent journalist and historian whose columns appear in 45 countries.


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