The headline above is perhaps the most important message contained in the front page Wall Street Journal article, “Energy Watchdog Warns Of Oil-Production Crunch.” Well, in fairness, it may rank as important as the thrust of the article, which is that the IEA, which recently had predicted that oil supplies would be able to more or less keep up with rising demand, now has taken a gloomier view and intends to survey oil producing nations to get a better handle on supply.
Um, that is tantamount to saying that if it is right now, the IEA was plenty wrong before. It also says that the agency tends to hew with conventional wisdom. Oil prices start rising, and then it goes out to try to survey supply. Hhhm.
Why am I so deeply cynical? Because, as the article points out, the IEA simply can’t get the information it needs to make forecasts with any reasonable degree of accuracy. Now if the IEA admitted the fact that you could drive a truck through its estimates, I’d have a lot more respect for this exercise. As a management consultant/sometimes special situations analyst, I frequently have to deal with data about markets where the information is very soft. The definitive tone of the IEA’s reporting (see their April report, courtesy reader Bjornar) seems to overrepresent the integrity of the underlying work.
And while the survey-in-progress will attempt to remedy some of these shortcomings, it’s clear there will still be quite a lot of guesswork in the final product due to the lack of cooperation of pretty much all of the interested parties save perhaps the US and North Sea producers:
The IEA, employing a team of 25 analysts, is trying to shed light on some of the industry’s best-kept secrets by assessing the health of major fields scattered from Venezuela and Mexico to Saudi Arabia, Kuwait and Iraq. The fields supply over two-thirds of daily world production.
The findings won’t be definitive. Big producers including Venezuela, Iran and China aren’t cooperating, and others like Saudi Arabia typically treat the detailed production data of individual fields as closely guarded state secrets, so it’s not clear how specific their contributions will be. To try to compensate, the IEA will use computer modeling to make estimates. It will also collect information gathered by IHS Inc., a major data and analysis provider based in Colorado, as well as the U.S. Geologic Survey, a smattering of oil and oil-service companies, and national petroleum councils.
As someone who does primary research, 25 analysts does not strike me as a large enough team to do this much fieldwork.
Again, our pet peeve: no mention of Iraq, which is anywhere from number one to number three in reserves, depending on who you believe. But since they’ve had relatively little drilling (a mere 2000 wells as of 2002, versus a million in Texas), there are probably gaps in the geological information (the Iraqi Oil Ministry’s recent claims are a confirmation of sorts) and given the security situation, they aren’t likely to be remedied soon. Similarly, a recent Business Week article mentioned that Russia produces “awful data” and OPEC countries often fail to report accurately, since they don’t want it known that they are pumping more than their quotas permit. (Another pet peeve: note that the price rise today was largely driven by an unexpected drop in US inventories. But those inventories are only primary inventories. End user inventory increases are counted as demand. In the 1973 oil shock, my father, who managed a large paper mill, went out and immediately bought as much fuel as he could and urged his fellow mill managers to do so as well. The company went long more than a year’s supply and it made a significant difference in its bottom line. Given the bullish talk, any industrial user with an operating brain cell and storage capacity would take as much as they could).
Now despite all the foregoing, the recent spikes up in oil prices could be entirely warranted by supply/demand considerations. But I am disturbed by the lack of critical thinking and examination of the data. If a casual observer like me can see gaps and open issues, it would seem this vitally important issue merits further investigation. For instance, oil industry executives grilled by Congress said that oil prices “ought” to be between $35 to $90 a barrel (the estimate varied by company). They were being attacked, among other things, for their high profits and excessive executive pay. Why would it be in their interest to say oil prices should be lower? They’ve just handed the legislators a justification for imposing an excess profits tax.
Conversely, depleting supplies would argue that Big Oil needed the cash flow to reinvest, since any new finds would almost certainly be more costly to develop than their current fields. Saying oil was indeed scarce and the high prices are warranted also would argue for relaxing environmental restrictions on Alaskan drilling, a big item on the industry’s wish list.
That isn’t to say that the mainstream view isn’t getting a once-over in some quarters, but I am not certain those views are getting the hearing they deserve. For instance, Jim Hamilton at Econbrowser states, rather cautiously, that while the oil price rise appears largely warranted by fundamentals, there appears to be a speculative element that means prices may currently be ahead of themselves. Jeff Frankel, following a recent speech by the Fed’s vice chair Donald Kohn, argues that negative real interest rates in the US are playing a role in agricultural and energy commodity price increases.
Another considerable gap in the coverage: this story is being treated almost solely from an economic, not a geopolitical standpoint. But let’s tease out a couple of issues as grist for thought.
The first oil shock was due to an oil embargo by OPEC to punish the US and other allies of Israel in the wake of the Yom Kippur War. But the notion of the strategic uses of oil is remarkably absent from this discussion.
Consider: the fact set may be as many observers assert: the Saudis aren’t pumping because they are past their own Peak Oil (Oil Drum had some charts that suggested that might be the case for Ghawar, the biggest Saudi field, a year ago, with speculation on other possible causes, such as the Saudis taking highly productive wells offline). Thus the Saudi posturing is simply to hide their weakening power in the oil markets.
But consider some other elements in the equation: Iraq has completely eroded the US’s standing and annoyed and embarrassed Riyadh. They now have an unstable neighbor and the specter of an US occupation without end, which does not go over well with its own population (the Saudis having promoted a particularly conservative form of Muslim is now causing them headaches). Having botched Iraq, the US continues to threaten Iran (the latest: Israel’s Army Radio, run by the Israeli Defense Forces, claimed that Bush would attack Iran before the end of his term. The Jerusalem Post picked up the story, which was then denied by the Administration. But if you were in Saudi Arabia, who would you believe?).
Consider further: even though the Saudis are not fond of the Iranians, they are no doubt even less fond of having yet another country in the vicinity destabilized. And it is not clear at all why the Bushies have Iran in their crosshairs, save some crazy fundamentalist desire to bring about the End of Days. Stratfor, which is widely believed to be plugged into Israeli intelligence, went on for at least a year after the Iraq invasion about “the coming US-Iran alliance,” describing at some length how helpful the Iranians were being. Conversely, attempts to claim that Iran has been providing materiel to Iraqi insurgents was not only revealed to be trumped-up charges, but to the US’s embarrassment, the Iraqis have decided to investigate (which means they are no longer willing to participate in unsupported Iran-bashing).
Now look at a map. Iran is on one side of the Strait of Hormuz. The US has been signaling its hostile intentions for some time. If the Iranians can close the Strait, the Gulf’s oil supply has nowhere to go. This doesn’t seem like a great strategy, and certainly not a risk the Saudis want to see run.
So the Saudis have every reason to want to leash and collar Bush, particularly after the gaffe of coming directly to plead for oil after participating in Israel’s 60th birthday celebration.
Now add another element: the IPCC climate change report. In 2007, both global warming and the role of CO2 emissions went from being a granola-head belief to widespread acceptance. There has been lots of chatter about carbon taxes, cap and trade, and carbon offsets.
Now if you were sitting on a diminishing resource and your country was a one-trick pony, why would you let governments tax it if you could drive the price up yourself and collect the windfall?
Thus if I were an OPEC member, I’d have every reason to foster the Peak Oil story, which undoubtedly is generally accurate, the question is how immediate. Second, I would not pump more if I could, or would make only token supply increases, Indeed, I’d be trying to restrict supply without looking like I was doing so, which makes the Iraq war and supply disruptions godsends.
To put it more simply, the Saudis have every reason to leave their inventory in the ground. As the Financial Times noted:
Ali Naimi, Saudi energy minister, said the demand forecasts he was reading did not warrant an expansion past the 12.5m b/d capacity Saudi Arabia’s fields will reach next year, following a laborious investment of more than $20bn (£10.3bn, €12.9bn). King Abdullah, the country’s ruler, put it more bluntly: “I keep no secret from you that, when there were some new finds, I told them, ‘No, leave it in the ground, with grace from God, our children need it’.’’