Black gold rush

When the price of crude pierced the US$100-a-barrel milestone in January we all took a sharp intake of breath and crossed our fingers that it was a spike and that levels would return to normal (what ever you quantify as normal). Little did we know that US$100 was a bargain compared with the stratospheric levels being witnessed today and the pain being felt by motorists at the pumps in Europe and the US. In June, oil rocketed more than US$11 in one day and as O&G went to press crude had touched $145 a barrel – more than double the price from 12 months previous. Those in the know, including the oil chiefs, are predicting that things could get a lot worse by the end of the year; time for another sharp intake of breath.

So just how high could the price of oil soar? Alexei Miller, CEO of Russia’s state-owned Gazprom, has suggested that it could hit a whopping US$250-a-barrel next year. And he is not alone in this prediction. Shokri Ghanem, Chairman of Libya’s state-run National Oil Corporation, sees no reason why oil could not hit US$200. Likewise, financial speculator George Soros and analysts at Goldman Sachs foresee the black stuff spiralling to a similar level. And whilst most industry insiders see crude staying at these prices or higher for the foreseeable future, few are forecasting a slide back down to sub-US$100. If oil were indeed to hit US$200 motorists in the US would face paying more than US$6 for a gallon of gasoline. Ouch. But even this is nothing compared to what drivers in Europe will be forking out to fill their tanks.

The blame game
OPEC, which accounts for 40 percent of world production, has so far resisted calls to increase production although it’s largest producer, Saudi Arabia, agreed to lift production by 200,000 barrels per day (bpd) in July. The cartel’s president Chakib Khelil, who forecasts oil hitting US$170 this summer, blames the price surge on the weakness of the dollar and has been at pains to reiterate that these giddy levels have nothing to do with supply and demand fundamentals but rather speculators trading oil futures. His views are echoed by OPEC’s Secretary General Abdalla Salem El-Badri. Speaking at the World Petroleum Congress in Madrid he said: “ Last summer's subprime crisis in the United States caused a lot of harm to stock markets, and since then financial investors have been looking for other products and raw materials are now the most attractive commodity for speculation."

Although the speculators appear to be Public Enemy No1 at the moment, their influence on the market is impossible to gauge. Pundits estimate their impact anywhere between negligible and US$40 on the price of a barrel. But for those looking to make money in these treacherous times, the commodities market is delivering healthy returns at the moment. Since the credit crunch began to bite last year, hedge funds and investors nursing burnt fingers have been ploughing cash into commodities. But it’s not just oil futures – metals and foodstuffs have also seen massive increases recently. As much as US$260 billion is invested in commodity funds tied to oil, 20 times the figure five years ago. However, there have been howls of protests over how speculators are able to wield so much influence over the market, as well as accusations that the market is being manipulated. One worrying aspect to all of this is that while the spot price (price for delivery today) is at record highs, the price on the futures market for delivery several years down the road is even higher. This is known in the trade as “contango”.

Others, like Gazprom’s Miller, takes an alternative view, arguing that competition for resources is to blame, not speculators. Indeed, you only have to look at some of the incredible deepwater depths that the oil companies are achieving in the Gulf of Mexico in the pursuit of hydrocarbons to see how desperate we are for supplies. But there other issues too affecting price: refining capacity is buckling under the demands, projects costs are soaring and, of course, there are the booming economies of China, India and other pockets of the developing world craving fossil fuels. And let’s not forget that geopolitical issues are, as ever, playing a part: the lingering threat of a US or Israeli-led attack on the Iran and the security situation in Nigeria and Iraq are adding to supply fears.

For the West it’s a fact of life that much of global supplies are found in the more volatile regions of the world. In fact, 90 percent of reserves are owned by governments, many of which could not be considered good friends of the West. BP CEO Tony Hayward is one of many to describe crude’s surge as political rather than geological but is it a simple case that the world’s reserves are drying up? OPEC insists we have not reached the dreaded Peak Oil – yet – but no one knows for sure how much conventional oil is left or whether we have surpassed the tipping point. Estimates say more than one trillion barrels of are there to be pumped but a more precise figure is hard to pinpoint, partly because some of the world’s major producers keep their cards close to their chest when revealing their proven reserve figures.

Clean and green
Weaning us off our unquenchable thirst for oil is an enormous long-term challenge that certainly won’t be solved overnight. Oil has shaped the world we know today and without it we would live a vastly different existence, especially when it comes to our love affair with the car. Alternatives like hydrogen are very slowing gathering momentum while biofuels powering vehicles, although a nascent technology, provide a clean alternative. The problem is that certain biofuels compete with staple foodstuffs and for the time being account for just two percent of the world’s energy consumption. And car ownership is set to soar in the next few decades, especially in China as people climb the social the social strata and ditch their bicycles for cars. At the moment just 20 in every 1000 inhabitants owns a car compared with 950 in the US. With the scope for ownership in China, the world’s most populous country, being so huge the impact on the price of oil and CO2 emissions is somewhat frightening.

But despite this gloomy outlook coupled with the inflated prices we having to swallow at the pumps and to heat our homes, the positive to come out of the situation is that people seem to be changing their habits. Some motorists in the US are downscaling from gas-guzzling SUVs to more economical vehicles as well as cutting down on journeys. Similar declines have been reported in Europe and Japan. It’s a small step but illustrates how price is driving a change in habits. When oil was US$10 a barrel ten years ago reducing consumption was only on the minds of green campaigners not Joe Public. It was the same for the oil giants. This was a crucial period when they never invested in alternative energies or upgraded refineries. Today, while the oil companies continue to rack up record profits but efforts to plough cash into upgrades and renewables looks to be too little too late.

However, it’s not just consumers; industry is being squeezed too, perhaps none more so than the aviation industry. US$140-a-barrel is proving extremely hard for airlines to absorb, especially when fuel accounts for somewhere between 30 and 50 percent of their costs. This is quadruple the amount allocated for jet fuel at the turn of the century. With these kind of cost pressures something is bound to give and the prospect of major airlines going bust is real. In the US alone the carriers’ projected losses are forecast to surpass US$7 billion in 2008. In fact, fuel for energy and heating is hitting all industries hard in the pocket and we have seen small clusters of protests around the world about the impact oil prices are having.

OPEC is scheduled to meet again in September and it’s a sure bet that the spiralling cost of oil will dominate the agenda. The pressure on members to up production will only intensify, especially so if crude rises even further. Some lay the blame at OPEC’s door with regards to this situation. Others blame market manipulation but the culprit could in fact be that ugly monster Peak Oil. All consumers care about is that the price of gasoline and heating oil slide back to US$100, an unthinkable call just 12 months ago when oil was US$70. Who knows – US$140-a-barrel may look cheap if the energy chiefs are proved correct. Only time will tell who is right and who or what is to blame for this incredible price surge of the past 12 months.

Extras...

 "The problem is the result of the economic crisis hitting the United States which has led to the depreciation of the dollar, as well as threats to Iran which constitute a source of geopolitical uncertainty." Chakib Khelil, OPEC President

"Easy, cheap oil is over. Peak oil is looming." Shokri Ghanem, Chairman of Libya’s NOC

"Consumer countries have to adapt to the prices and the mechanisms of the market." Saudi Arabia's King Abdullah

"Producers are being hampered by 25 years of low investments, because of low prices. The result is a supply chain being stretched to breaking point." BP CEO Tony Hayward

"We don't think that the financial markets are leading the speculation. Probably they follow what other people fear as long-term fundamentals. I do not think that you can blame speculation for the oil price." Royal Dutch Shell's CEO Jeroen van der Veer

"The oil price would be much higher if there was not enough oil." Christophe de Margerie, CEO of Total

Factoid Bar

• 70% of pumped crude is used to fuel cars
• The US consumes 20.7 million bpd
• More than half of global supplies come from 7 countries

The rocketing price of crude

2003 => 2008
Crude oil… $29 => $140 per barrel … +483%
Petrol… $30 => $124 per barrel … +410%
Diesel… $33.3 => $177 per barrel … +533%
Jet fuel… $31 => $170 per barrel … +550%
LPG… $20 => $80 per barrel … +400%