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American’s Economic Collapse

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Wasting A Good Crisis: The Result May be $200 Oil

May 5th 2009

Energy / Environment - Oil Barrels

Rahm Emanuel’s famous quote regarding the current financial crisis,"Never let a serious crisis go to waste...it's an opportunity to do things you couldn't do before" was ignored last summer when oil prices reached $147 a barrel. The Obama Administration has taken advantage of the financial crisis to ram through their agenda which will add trillions to the National Debt. It will stimulate unions, bureaucrats, government employees, and defense contractors. It will do nothing to address the looming energy crisis which will sweep over the country shortly. Again, politicians and pundits will be shocked and astonished when oil soars. They will vilify oil companies, OPEC, and the dreaded speculators.

When oil prices collapsed from $147 a barrel in the summer of 2008 to $35 a barrel in January 2009, American drivers, Congress, government bureaucrats, and the mainstream media refocused on other more pressing issues such as executive bonuses, Michele Obama’s wardrobe, and the tax law knowledge of Obama’s cabinet. The attention span of the average American is shorter than that of a gnat. As they text and twitter through life, the energy infrastructure continues to rust away, decades old wells are closer to depletion, and alternative energy projects have been scrapped by the thousands. Peak oil likely occurred between 2005 and 2009. The production of oil will now embark on a long slow decline. The world is not prepared.

Matt Simmons, the brilliant energy analyst and author of Twilight in the Desert, recently told Reuters, "We are three, six, maybe nine months away from a price shock. We are not talking about three to five years away -- it will be much sooner. These prices now are dangerously low. The lower prices fall, the less oil will be produced and the greater the chance of an oil spike."

In this scenario, low oil prices will continue to take oil fields out of production and reduce exploration. Once prices recover, companies will have trouble gearing back up due to the credit crunch, resulting in production increase delays. Simmons describes what will happen. "Unless oil demand falls by 10 or 15 percent per annum, which will not happen, then we don't need to wait for oil demand to come back before we have a supply crunch." Yet, this is on no one’s radar.

Edwin Black, author of the The Plan--How to Rescue Society When the Oil Stops--or the Day Before, has been speaking across the nation about this problem, reminding America that it has no plan for a protracted oil interruption. Policymakers are still not listening. Americans still seemed to be shocked at his message.

When pundits on CNBC speak authoritatively about peak oil being a fallacy, they are misleading supposedly intelligent people. They expound that we are not running out of oil. There are billions of barrels left inside the earth. Peak oil does not mean that we are in imminent danger of running out of oil. Peak oil is the point in time when the maximum rate of global petroleum extraction was reached, after which the rate of production enters terminal decline. The aggregate production rate from an oil field over time usually grows exponentially until the rate peaks and then declines—sometimes rapidly—until the field is depleted. This concept is derived from Hubbert’s Curve, and has been shown to be applicable to the sum of a nation’s domestic production rate, and is similarly applied to the global rate of petroleum production. M. King Hubbert created and first used the models behind peak oil in 1956 to accurately predict that United States oil production would peak between 1965 and 1970. Most feel it actually peaked in 1972.

The depletion of existing sources is occurring more rapidly than any new sources that can be brought online.  Production in the United States is in relentless decline. What has happened in the United States is now happening on a worldwide basis. In 2005, the U.S. Department of Energy published a report from some of the top energy minds in the world. The lead author, Robert Hirsch, produced a comprehensive report on the peak oil issue titled "Peaking of World Oil Production: Impacts, Mitigation, and Risk Management." The overwhelming majority of industry petroleum geologists, scientists, and economists who worked on the report projected reaching global peak production being between 2005 and 2010. The report’s disturbing and frightening conclusions are as follows:

• World oil peaking is going to happen and will likely be abrupt. Oil peaking will adversely affect global economies, particularly those most dependent on oil. Oil peaking presents a unique challenge (“it will be abrupt and revolutionary”). The problem is liquid fuels (growth in demand mainly from transportation sector). Mitigation efforts will require substantial time. Twenty years is required to transition without substantial impacts. A 10-year rush transition with moderate impacts is possible with extraordinary efforts from governments, industry, and consumers. Late initiation of mitigation may result in severe consequences. As enthusasitic an alt fuel advocate as Edwin Black has used the same 10 and 20 year timelines in his lectures and in The Plan.

• Both supply and demand will require attention. It is a matter of risk management (mitigating action must come before the peak). Government intervention will be required. Economic upheaval is not inevitable (“given enough lead-time, the problems are soluble with existing technologies”).

Considering that global oil production peaked or is peaking between 2005 and 2009, we are destined for the so-called third scenario of severe consequences. Economic upheaval is now inevitable. It is the American way to not do anything until it is too late. The Hirsch Report urges a crash program of new technologies and changes in manners and attitudes in the US and as well implying more research and development. The urging has gone unheeded. The worldwide global recession is the only reason America is not paying $5.00 a gallon for gasoline today. Supply did not increase, demand leveled off.

World demand “plummeted” from abiut 85-87 million barrels per in early 2008 to less than 84 million barrels per day in early 2009, more than a 3.5 percent decline. If the world economy levels off and resumes growth, demand will immediately surpass previous levels. The problem is that production has peaked and will likely drop below 80 million barrels in 2010. When demand is rising and supply is declining, only one thing can happen – higher prices.

Optimists dismissed the fact that oil prices reaching $147 a barrel had anything to do with constricting market fundamentals. Instead, they argued that lofty crude prices were merely a by-product of a weak dollar, hedge fund speculation, geopolitical trepidation, downstream log jams, the Iraq war, Nigerian political turmoil and the craving for high prices within OPEC, which kept enormous spare capacity shut in. When prices skyrocket again, these optimists will produce new excuses. Facts are facts. Easily found cheap sources of energy are in terminal decline.

Few in the U.S. realize that we get more oil from Mexico than Saudi Arabia. We are dependent on Mexico to supply us with 600 million barrels of oil per year. Without this supply, there would be shortages and much higher prices. But Mexico is running dry. The lies that the wells would pump black gold for twenty more years have been exposed long ago. Within a half decade, we will be getting zero barrels of oil per day from our neighbor to the south.Virtually all of the oil supplied from Mexico comes from what is thought to be the second largest oil field in the world, Cantarell. It was discovered in the shallow waters of the Gulf of Mexico in 1977. It is run by the state owned oil company, Pemex. It held 17 billion barrels of oil. As documented in The Plan, the Mexican government took the oil revenues and funded their wish list of programs in the country. Pemex has provided 40 percent of all revenues for the state. The state became so dependent they had Pemex build a nitrogen injection project on top of the well to push the oil out faster. It worked. In 2004, the well was providing 2.5 million barrels per day. It is now in irreversible decline at a rate of 15 percent per year. By 2012, it will only be producing 500,000 barrels per day.

Mexico has not done any serious exploration in the Gulf of Mexico in 30 years. A newly discovered deep water well takes 10 years and billions of investment to bring on line. There is no doubt that Mexico’s oil output will collapse in the next five years. They will not be capable of exporting any oil to the U.S. With the rest of the world having no spare capacity and demand higher than 2008, prices for gasoline in the U.S. will soar. In the meantime, we will ponder higher gas mileage requirements, not allow offshore drilling, and make no effort to convert our transportation fleet to natural gas. Congressmen will be outraged and indignant at the oil companies, when the writing was on the wall for a decade... or actually a generation.

The financial crisis and the energy crisis were intertwined and will continue to feed upon each other. Peak oil along with refinery shutdowns, hurricane related issues, and hedge fund speculation led to oil reaching $147 a barrel. This was the straw that broke the camels back and helped accelerate a downward spiral for consumers. The combination of plunging home values, retirement savings being cut in half and gas prices doubling led to the worst recession since the 1930’s. The dramatic worldwide slowing caused by American consumers not going to Malls reduced demand enough to make the speculators go running for the hills. Oil prices plummeted 76 percent in a couple months to $35 a barrel. Now we are about to enter phase two of what many call a sad comedy of errors. Again, the leaders of our country will be taken by surprise. They have learned nothing.

It may sound like sacrilege, but prices below $50 a barrel are dangerously low. The crash in gasoline prices to below $2.00 a gallon has led to demand in the U.S. rising 6 percent above the demand in September 2008. Yet OPEC has cut supply by 4.2 million barrels per day from levels in September 2008.

Projects that were viable at $80 a barrel have been scrapped. Ethanol and Tar Sands are only profitable above this level. Natural gas wells are being capped as prices plunged from $13 to $4. Worldwide rig counts have plunged from 3,500 to 2,700 in a matter of months. Existing wells throughout the world continue to decline at ever increasing rates. The Obama administration will restrict the expansion of coal-powered plants, construction of new refineries and new drilling in the U.S. The enormous stimulus being rolled out throughout the world will generate increased energy demand as supply remains restricted. The banking crisis has resulted in no financing for energy projects that could relieve the long-term supply issues. Energy companies have been laying off skilled workers as their business has plummeted. When demand resumes, these workers won’t be there.

Most people do not understand that all prices are set at the margin. There are 75 million houses in America. Only 4 to 5 million homes are sold per year. Therefore, 5 percent to 6 percent of the homes in the U.S. set the price for the other 70 million homes. This same concept applies to the last barrel of oil. When worldwide demand exceeded worldwide supply in late 2007 and early 2008, those last barrels of oil set the price. This explains why those last barrels of oil set the price above $100 a barrel.

Americans are used to making tough choices. They have made choices between the Hummer H3 (13 mpg) and the Hummer H2 (8 mpg). They’ve made choices between a BMW 650i (16 mpg) and a Mercedes S600 (13 mpg). The coming energy crisis will also lead to choices--but for many people, the new choice will this time between food or fuel.

The coming crisis is as clear as the housing bubble. Anyone who opened their eyes could see that home prices would need to fall 30 percent to 50 percent to get back to equilibrium. Total world oil supply is in a permanent decline. Oil demand will continue to rise.

Now the bad news for Americans; we make up 4.3 percent of the world’s population and consume 26 percent of the world’s oil. Europe makes up 6.8 percent of the world’s population and consumes 11 percent of the world’s oil. After the oil shock of the 1970’s, Europe decided to dramatically increase taxes on gasoline. The high cost of gasoline forced people to buy smaller fuel efficient cars. Today in Germany, their cars average 44 mpg, while in the U.S. our cars average 22 mpg. Whether Europe spent the taxes wisely is another question, but they did change behavior. No crude oil refineries have been built in the United States since 1976. During that time, hundreds of ethanol refineries have been built. It requires more energy to produce ethanol than ethanol produces. The United States has between 250 and 300 years of a coal supply. That is more than the amount of recoverable oil contained in the entire world. We will not utilize this resource because environmentalists say it is bad.

Congressman Gary Miller describes the U.S. response to the 1970’s oil shock in these words: “In 1973, America imported 30 percent of its crude oil needs. Today, that number has doubled to more than 70 percent. Gas prices are as high as they are now in part because we've had no comprehensive national energy policy for the past few decades.”

The peak oil shock that is coming will affect the United States more dramatically than any other country. Is anyone prepared for $5.00 a gallon gasoline? We are 20 years too late to stop this from happening. Happy talk and confidence building exercises will not solve the problem. We are not in control of our destiny. Our supply is drying up. More drilling will not work. Higher fuel efficiency standards will not work. Congressmen and TV pundits will posture, expound, skewer oil executives on TV, and get red in the face, but they have failed the American public again.

The social upheaval that could occur from fuel shortages, interruption and outrageously high prices will be ugly. The Plan calls it a "Mad Max" scenario. Most Americans live in suburbs far from work. Our food supply requires trucks to deliver to our stores. The U.S. military consumes 400,000 barrels of oil per day and spends $13 billion of your tax dollars per year to keep their machines functioning. War for oil becomes more likely in that environment.

The population of the world will continue to rise. The United States has no control over that fact. Developing countries will grow more prosperous. People utilize more fossil fuels as they become more prosperous. Cars costing $2,500 each are now becoming available in India and the rest of Asia. In a Chinese car ownership survey, 96 percent of respondents said they paid cash for their cars. How un-American like. Imagine if GMAC could gain a foothold in China. More than 20,000 new cars per day are being sold to Chinese citizens who have never owned an automobile before. This is massive new demand being created for gasoline. China now has a middle class estimated at nearly 300 million people. More than a third of all people driving in China today did not know how to drive 3 years ago.

Oil will continue to be discovered, just not enough to keep up with demand. Only 30 percent of total oil reserves are light sweet crude. The other 70 percent is difficult and costly to bring to market. Few U.S. refineries can convert heavy crude into gasoline. Oil sands require massive amounts of water and natural gas to convert it into usable oil. The oil remaining to be discovered will be in deepwater wells. It takes at least 10 years to bring a deepwater well online. We are losing the race with time.

Cutting Edge Economic Crisis Analyst James Quinn is a senior director of strategic planning for a major university. This article reflects the personal views of James Quinn. It does not necessarily represent the views of his employer, and is not sponsored or endorsed by them


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