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Sunday, March 14, 2010

$200 Oil is Coming (Part 2 of 3)

While We Waste a Perfectly Good Crisis

by James Quinn (April 08 2009)

The peaking of hydrocarbon supply is vital not just to our country's future, it is enormously critical to our global economic conduct. Optimists argue that oil has not peaked, and will not peak for decades. They base this on widely held beliefs, including the extent of the world's energy resource endowment, the ability of technology to recover larger amounts of oil once left behind, the lag time between high oil prices and the ramped-up drilling they kindle, the remarkable amount of unconventional oil that has become commercially feasible because of high prices, and undetermined technology advancements. Those who ridicule peak oil, think the term means "running out of oil" instead of the true definition: "oil production can no longer grow".

The 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.

Matt Simmons explains the long and winding road to our current predicament:

* Between 1970 and 1979, world oil demand grew from 47 million barrels per day to 65 million barrels per day, a jump in ten years of an astonishing eighteen million barrels per day. This is how we ate up the world's spare capacity and at the same time caused US supply to peak. Thus, the price of oil skyrocketed.

* From 1979 through 1983, demand fell four straight years, retreating back to 59 million barrels per day. Most of this change came as oil ended its role as a prime feedstock for power generation. This probably would have happened even if oil prices had not gone so high, as the world was finally rolling out nuclear fuel.

* Once demand hit bottom in 1983, it quietly began to grow again, though the growth was masked by the beginning of a prolonged collapse of oil use throughout the USSR. Nevertheless, total world demand grew from the 59 million base in 1983 to 69 million in 1994, an increase of ten million barrels per day. This increase, interestingly, came at a time when most of the oil pundits were wringing their hands, declaring that oil demand was so stagnant that low oil prices were the new world order.

* In 1995, global oil demand finally edged over seventy million barrels per day for the first time in history. Between 1994 (the last time it was under seventy million barrels per day) and the end of 2008, demand grew to 86 million barrels per day - a jump of sixteen million barrels per day in thirteen years. This explains why we used up every last pocket of spare productive capacity and ran out of drilling rigs.

Saudi Arabia is Lying

Saudi Arabia has been claiming that they are capable of ramping up oil production from their many oil fields. The chart below tells a different story {*}. The largest Saudi fields have entered permanent decline. The largest field in the world, Ghawar, was discovered in 1948 and peaked at 5.6 million barrels per day in 1980. It now produces 5.0 million barrels per day. The third largest field in the world, Safaniyah, was discovered in 1951 and peaked at 2.1 million barrels in 1998. It now produces 1.3 million barrels per day. One third of global oil supply comes from twenty large fields discovered prior to 1970. They have all peaked. 94% of global supply comes from 1,500 wells. If Saudi Arabia had the ability to ramp up production, they most certainly would have in 2008 when prices rose over $100 a barrel. They did not, because they could not.


"World reserves are confused and in fact inflated. Many of the so-called reserves are in fact resources. They're not delineated, they're not accessible, and they're not available for production."
-- Sadad I Al Husseini, former Vice President of Aramco (October 2007).

Worldwide reserves peaked in 1980, when production first surpassed new discoveries. Total worldwide reserves are reported to be 1,200 billion barrels. Much of the increases in reserves since 1980 are lies. Al Husseini argues that 25% of the proven reserves in the world are speculative and not accessible. The following chart {*} tells a fascinating story. Amazingly, each of these OPEC countries had dramatic leaps in their proven reserves, with Saudi Arabia having a fifty percent increase in one year with no major new discoveries. These self reported figures are not audited or verified in any way. Since production quotas are based on total reserves, the higher your reserves, the bigger your piece of the pie. Since 1988, Saudi Arabia has pumped at least 44 billion barrels of oil, but still has proven reserves of 264 billion with no major new discoveries. If you believe that, I have a package of 1,000 subprime mortgages that is rated AAA I'd like to sell you.

Dr Ali Samsam Bakhtiari, a former senior expert of the National Iranian Oil Company, has estimated that Iran, Iraq, Kuwait, Saudi Arabia and the United Arab Emirates have overstated reserves by a combined 320 to 390 billion barrels, and "As for Iran, the usually accepted official 132 billion barrels is almost one hundred billion over any realistic estimate". Petroleum Intelligence Weekly reported that official confidential Kuwaiti documents estimate reserves of Kuwait were only 48 billion barrels, half as much as their reported 101 billion barrels. Essentially, the amount of oil reserves in the world is much lower than people think. The good news is that OPEC may have less clout in the future than they have had for the last forty years.

Mexican Hat Dance

I'm sure that not many people in the US realize that we get more oil from Mexico than from 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. Tijuana, we have a problem. Within five years, we will be getting ZERO barrels of oil per day from our neighbor to the south. Mexico has the distinguished honor of having a government more inept and short-sighted than our own. Hard to do.

Virtually all of the oil supplied from Mexico comes from 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 seventeen billion barrels of oil. The Mexican government took the oil revenues and funded their wish list of programs in the country. Pemex has provided forty 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 fifteen percent per year. By 2012, it will only be producing 500,000 barrels per day.

Mexico has ridden this pony hard. They have not done any serious exploration in the Gulf of Mexico in thirty years. A newly discovered deep water well takes ten 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 US. With the rest of the world having no spare capacity and demand higher than 2008, prices for gasoline in the US 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.

Crisis Part Two

The flowchart below {*} gives an extremely clear picture of what happened in the last year and what will happen in the next few years. The financial crisis and the energy crisis were intertwined and will continue to feed upon each other. Worldwide oil production peaked between 2005 and 2009. This, 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 camel's 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 1930s. 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% in a couple months to $35 a barrel. Now we are about to enter phase two of this comedy of errors. Again, the clueless leaders of our country will be taken by surprise. They've 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 US rising six percent above the demand in September 2008. Our American twitter society has already forgotten the $4.00 a gallon prices. Hybrids are rotting on car dealership lots. Everything that has happened since the price collapse will contribute to Crisis Part Two:

* OPEC 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 US

* 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.


James Quinn is a senior director of strategic planning for a major university. James has held financial positions with a retailer, homebuilder and university in his 22-year career. Those positions included treasurer, controller, and head of strategic planning. He is married with three boys and is writing these articles because he cares about their future. He earned a Bachelor of Science degree in accounting from Drexel University and an Master of Business Administration degree from Villanova University. He is a certified public accountant and a certified cash manager. These articles reflect the personal views of James Quinn. They do not necessarily represent the views of his employer, and are not sponsored or endorsed by his employer.

James Quinn's Blog: My goal is to provide my readers with a wide eyed view of the world. I will concentrate on social and economic issues that I feel are important to the country. My commentary will be blunt and pointed. The country needs people to see things as they are, not as they wish them to be. I'm trying to do my part in keeping our country from experiencing a Roman Empire like decline. Burning platform refers to David Walker's description of the United States government as on a "burning platform" of unsustainable policies and practices with fiscal deficits, expensive over-commitments to government provided health care, swelling Medicare costs, the enormous expense of a prospective universal health care system, immigration, and overseas military commitments threatening a crisis if action is not taken soon. Visit

Bill Totten


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