The price is right
Hurricane Katrina pushed oil above $70 a barrel, but, says Martin Vander Weyer, high prices are nothing to fret about It’s not easy to get a handle on how much oil we have left, how long it will last and what price we should pay for it. What we do know, however, that at over $60 a barrel — and it jumped to a record high of $70.80 on Monday as Hurricane Katrina headed for the refineries in the Gulf of Mexico — we are now paying more than twice as much for it as we were before the Iraq war, and that all previous oil price spikes of this kind have led to serious trouble.
The inflation barometer is already twitching, and economic doomsters are scanning the horizon for storm clouds. Yet perversely there is a case to be made that high oil prices are, on balance, at this particular juncture of global politics and economics, rather a good thing. The investor Sir John Templeton once said that the four most dangerous words in the English language are ‘This time it’s different’; well, this time it actually may be.
The argument for expensive oil is more than just a matter of seeking to discourage profligate use of the finite amount that remains, not least because that amount is a moving target, with a huge margin between the highest and lowest estimates. The clearest figure I can find for global reserves of recoverable oil comes from the Yemen Times, no doubt an impeccable source, which says that we had 34 cubic miles of it at the beginning of last year (equivalent, by my reckoning, to a sticky black lake the size of Greater London, 300 feet deep) and we are consuming it at the rate of one cubic mile per year, which means the lake will be dry before 2040.
But that is too simplistic, not only because new oil is being discovered all the time, but also because old oil, stuff we already know about but have never categorised as ‘recoverable’, becomes more economic to exploit as the oil price rises and technology advances. What’s more, oil can only be used up at the rate at which it can be pumped out — and, in the case of the world’s most important producer, Saudi Arabia, proven reserves at current production rates are sufficient for at least a century, and perhaps for much longer.
No wonder, then, that projections vary so wildly as to where the oil price is heading next. Matthew Simmonds, a Houston-based banker with a long track record in the energy industry, argues in Twilight in the Desert (published by John Wiley) that the Saudis have misled us as to how much oil they are really capable of producing: in the postSaudi era to come, he says, ‘$200-a-barrel oil could be too low’. By contrast, Edward Luttwak of Washington’s Center for Strategic and International Studies, writing in the online magazine The First Post, expects ‘to see it return to $40, then $30 — and maybe even less’. Big oil companies seem to agree with Luttwak, and still base long-term project planning on a price range of $20–$30. In the City, Goldman Sachs has just upped its forecast for the rest of this decade from $45 to $60.
This is not necessarily as confusing as it looks. The $200 price is what happens in the long term if demand continues to rise, Saudi oil starts to run out more quickly than everyone except Simmonds expects, and no giant new oil fields are discovered elsewhere. The fall back to $30 is what happens in the short to medium term if demand slows but production rises, and peace reigns in the Middle East. The interesting question is what happens if Goldman Sachs is right, and the price stays roughly where it is now until the end of the decade and beyond.
The geopolitical impact would be in the balance of power between Opec producers, who largely sit back and watch their oil bubble out of the desert, and non-Opec producers, whose oil is much harder and more expensive to get at. A higher oil price makes it feasible to exploit very deep non-Opec offshore deposits in the North Sea, the Caspian and the Gulf of Mexico, and to re-open small, depleted oil wells in Texas and elsewhere. It makes the remoter parts of Siberia and Central Asia look a lot less inhospitable to Western companies for oil and gas joint ventures. It makes the citizens of Alberta dance for joy at the thought of exploiting vast wilderness tracts of tar sands — bitumen-soaked earth from which oil can be extracted by an industrial process.
At the same time, expensive oil will strengthen the argument for a new generation of nuclear power stations. It will hasten the development of alternative technologies, such as the hybrid car — already with us in the form of the Toyota Prius, running partly on electricity to save on petrol — and, further down the line, the hydrogen fuel cell. It will force American car-makers towards the demise of the gas-guzzling SUV: new cars in the US still achieve only 21 miles to the gallon, compared with 35 to the gallon in Europe.
And all of these shifts will make the industrialised world less beholden to the princes of the House of Saud, whose pivotal role in global affairs has — how shall we put it? grown out of all proportion to their capacity for statesmanship. But the princes and their fellow Opec despots will continue to enjoy stupendous cash flows from oil, which — so long as not too much is corruptly siphoned off — will enable them to meet more of the rising social demands of their subjects. And that in turn should bolster prospects for stability and economic progress across the Middle East.
But none of this will happen, you may be thinking, if high oil prices send inflation rampant and drive the industrialised world into recession, as they did in 1973 and 1980. On that front, things really do seem to be different this time. The inflationary impact of a doubling of oil prices has been almost entirely offset by the deflationary impact of a flood of cheap manufactured goods from China.
Since manufacturing industry now accounts for less than a fifth of the British economy, we are less affected by energy costs than we used to be. But that does not mean we have exported the risk of a recession following on from high oil prices to China, because although China certainly needs oil, its advantage in world trade is all to do with cheap, abundant labour — and much of its economy runs on coal, of which there is no shortage at all.
Meanwhile, back at home, BP, Shell and other oil businesses will make handsome profits to fatten our pension funds, pay everincreasing tax bills to help the Chancellor out of his difficulties, and invest strongly in energy projects, oil-based and otherwise, to make life more comfortable for the future. And if rising petrol prices becomes a hot issue again, the solution is already in the Chancellor’s hands, because he takes almost three-quarters of it in duty and VAT.
When oil was $25 a barrel, the prospect of Middle East instability driving it to $60 was looked on by wise men of the West with horror — and that was the main reason for invading Iraq. The invasion and its aftermath are the main reasons that it has now hit $60, which turns out to be not so frightening after all and might even do the world a bit of good. I believe that’s called the law of unintended consequences.
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