A Bridge Too Far: The energy sector will be back, all too soon
By Tony Allison, November 24, 2008
Despite recent evidence to the contrary, the global economy is not headed back to the Stone Age. It is also doubtful that China is preparing a new Cultural Revolution to ship hundreds of millions of city dwellers back to work the land, and to get over dreams of new cars and refrigerators. On the contrary, the developing world may pause in its development, but it won’t stop and it won’t settle for the limited dreams of earlier generations. While the ongoing global economic crisis will be very painful, it also may buy a few more precious years before the effects of Peak Oil begin to hit home with a vengeance.
Global oil depletion ahead
The Obama Administration is not likely to acknowledge Peak Oil, although the staff has no doubt seen the reports and statistics. If the new administration were to agree that Peak Oil is upon us, it would have to go all out, drilling in areas his constituency opposes and pushing hard for rapid construction of nuclear power plants, which Obama has previously not supported. And yet when the global economy revs up again in 2010 or even 2011, the demand for energy will be explosive and enduring. The global oil supply will be depleting 9.1% next year according to the latest IEA report. The IEA (International Energy Agency) forecasts that China, India and other developing countries' demand will require investments of $360 billion each year until 2030. The agency says even with that investment, the annual rate of output decline will still be 6.4%. According to the IEA report, the global energy complex needs a minimum investment of a $1 trillion a year, and needs to find the equivalent of one Kuwait annually in order to replenish depletion and keep up with global demand. With the coming severe global downturn, drilling is slowing rapidly as the price makes current production uneconomic for many companies. And new investment in exploration isn’t likely as companies and countries retrench.
No matter how severe the recession/depression ahead, the math of supply versus demand does not add up if one looks out a few years. With the current rate of depletion, we need to run faster just to stay even. And yet drilling is shutting down because firms either can’t make money at current prices, or can’t get access to credit. We are heading for shortages and record prices. No one knows how soon, but they will almost certainly get here before the world is ready for it.
The problem of 9.1% global oil depletion (and perhaps higher in future years) adds confusion and complexity to political issues such as pulling out of oil-producing Iraq, global warming, relations with Russia etc. There will be many tough choices ahead for the new administration.
No politician likes to acknowledge bad news such as Peak Oil, but this economic downturn, no matter how severe, will not prevent the inevitable. It’s like holding off a river of volcanic lava with a brick wall. Eventually the forces of nature will breach the wall. Peak Oil will hit much harder in the energy-dependent nations. The US, unfortunately, now must import roughly 70% of its energy needs. It’s human nature to put off bad news and sacrifice as long as possible. But if the new administration has the political courage, it should start an all-out crash program to create more domestic energy, of all types, as soon as humanly possible. Perhaps just as important, the Obama Administration needs to work closely with other major energy-consuming nations on a massive program to jointly prepare for the effects of ongoing global energy depletion (before the bullets start flying).
Follow the trends in Mexico
When the reality of Peak Oil eventually hits home (9.1% depletion next year should be a wake-up call) shortages and very high prices will likely create both economic and social disruption. We could get a preview of coming events by following the trends in Mexico. Mexico’s one great oil field, Cantarell, once the world’s second largest, is now producing 902,000 barrels per day according to data released by Pemex, the state-run oil company. That is down from 2,900,000 barrels per day in 2003. That is a devastating 69% decline in just five years. Mexico’s oil exports to the US, roughly 1.4 million barrels per day (over 11% of our imported oil) look increasingly at risk, as Mexico heads toward net-importer status. Which country will make up those 1.4 million bpd, and at what price? And what will happen to Mexico’s fragile economy, which is heavily subsidized by Pemex revenues from oil exports? Mexico now faces the double whammy of lower world oil prices and rapidly depleting reserves.
Investment in the energy sector
From an investor perspective, investment in energy companies depends on many things, including one’s time horizon. If you are an investor with a longer term outlook (5 years or longer), energy is a very exciting area. Oil may continue down to $40 a barrel, or even lower. The global economy may actually contract next year. But this is not a permanent state of affairs, and down the line the developing world will begin to grow rapidly again, demanding more and more energy. Sooner or later, and probably sooner, the lava is going to begin overflowing the walls. The era of shortages and rationing will be on our doorstep. Oil will finally be acknowledged as a precious, and more importantly, a rapidly dwindling resource. As the world wakes up to the depletion story, the price of energy will soar, as will the prices of well-managed energy producing, exploration and service companies. The time to invest of course is when the price of energy is falling and the story of the day is “demand destruction.”
A bridge to sustainable energy
The current deflationary period should be viewed as a last chance to get prepared for the dawning of the Age of Scarcity. We desperately need a bridge period to reach sustainable renewable energy for our country. If we don’t start dealing with reality now, and making very tough political decisions, it’s going to be a “bridge too far.” If so, the effects will be beyond challenging. We should embrace the current demand destruction as a great opportunity, but be aware that Peak Oil and its effects won’t wait for a convenient time. We must pull out all the stops, beginning this January. If the mainstream media continues to just focus on the short term effects of demand destruction, then the sense of urgency and need for action will be lost.
Little time, much at stake
Economic progress has always been driven by energy. The age of oil allowed quantum leaps in technology and quality of life. A viable energy policy, or its absence, will likely affect everything else in the coming years; economic growth, employment, inflation, shortages, rationing, travel, food production, national security; even war and peace. The Obama Administration, unlike so many before it, cannot punt on this issue. There is little time and way too much at stake.
U.S. stocks Monday rallied for a second consecutive day after the government agreed to rescue Citigroup and as President-elect Barack Obama introduced his new economic team. Naming New York Federal Reserve President Tim Geithner for Treasury Secretary and Harvard economist Lawrence Summers to run the National Economic Council, Obama urged his team to quickly develop recommendations for a recovery plan for "Wall Street and Main Street.”
The Dow Jones Industrial Average soared 396.97 ending at 8,443.39. The S&P 500 Index rose 51.78 to close at 851.81. The Nasdaq was up over 6%, gaining 87.67 to close at 1,472.02.
Crude-oil futures surged more than 9% Monday, gaining the most in nearly three weeks as a weaker dollar and stronger stocks pushed commodities broadly higher. Crude for January delivery surged $4.57, or 9.2%, to end at $54.50 a barrel on the New York Mercantile Exchange. Crude hasn't rallied this much since it closed up 10% on Nov. 4. The contract jumped 11% earlier in the session to an intraday high of $55.30.
Gold futures rose for a fourth consecutive session Monday, surging to close at their highest level in nearly six weeks amid safe-haven buying, broad stock and commodity rallies, and a continuing fall for the dollar. Gold for December delivery rose $27.70, or 3.5%, to end at $819.50 an ounce on the Comex division of the New York Mercantile Exchange, the highest closing level since Oct. 15. It rose as high as $830.10 earlier in the session. Silver leaped past $10 an ounce for the first time in two weeks.
Wishing you a good evening,
© 2008 Tony Allsion