Peak Oil News: OPEC "overcapacity" is the Mother of all Cheap Oil Myths

Thursday, February 24, 2005

OPEC "overcapacity" is the Mother of all Cheap Oil Myths

Andrew McKillop

* Note for Venezuelan readers. In fact, Venezuela is the 3rd-biggest net oil exporter outside the 'Middle East core OPEC,' that is OAPEC producers. This article deliberately avoids all mention of Venezuela, 'ray-jeem changeable,' or not * oil industry commentarist Andrew McKillop writes: Belief in OPEC "overcapacity" is the Mother of all Cheap Oil Myths. The opposite myth is in fact a belief, and increasingly easy to prove. Oil is already in short supply and will get more so. Prices will rise.

Oil producers anywhere, both OPEC and non-OPEC, are unable to keep pace with world demand, their own domestic oil consumption, and ward off depletion losses. Further increase in world oil supply will only get more difficult.

Depletion losses are estimated by ExxonMobil at around 2.5-3 million barrels/day (Mbd) of world output capacity lost, each year ... world oil demand increased 2.68 Mbd in 2004.

There is only one bottom line to this: Expensive oil.

This fact is becoming daily reality despite heroic efforts of traders and analysts to talk down prices. One present cheap oil myth is 'collapse of oil demand following winter', another is 'big oil stock build in the USA.'

On the supply side, OPEC and non-OPEC suppliers are held by cheap oil myth to only have one vocation: stoically pump all they can, at whatever price they get, perhaps for the pleasure of depleting their nonrenewable resources.

Or through plain stupidity, who knows?

A few days of cold weather in the USA and oil prices, like spring vegetable prices, claw back all the ground they lost ! A strike in Nigeria or storm in the Gulf of Mexico, and prices bound back upwards.

The reason for this is simple: there is almost NO spare production capacity. OPEC "overcapacity" was a myth of the 1986-1999 Cheap Oil Interval. It is dead and gone.

In fact, without so-called "OPEC overproduction," that is reservoir crunching full-tilt production, world oil supply would be in deficit right now, and prices would go only one way ... UP!

Cheap Oil folklore worked fine in the 1986-1999 period. At the time, world oil demand was only slowly recovering from the neoliberal recession of the early 1980s, caused by sky high interest rates, not high oil prices. World oil demand in 1986-1999 rarely increased by more than 1.4%-per-year.

In 2004 world oil demand increased nearly 4%. In 2005 it is likely to do it again, unless there is a nearly instant, worldwide, savage and intense economic recession.

In the Cheap Oil Interval the myth of OPEC being afflicted by "overcapacity" was a handy and effective tool for talking down prices anytime they inched forward. Today, nostalgic analysts and politicians of the big consumer and importer countries still gargle this slogan. But since 1999 at the latest it has no meaning in reality. Like the 'postindustrial energy-lean economy' it is pure myth.

* Today, everything hinges on the so-called 'Middle East core group of OPEC suppliers'. Once upon a time this included Iraq, now producing no more than 1.5 Mbd thanks to 'liberation'. The 'core group' is now shrunken to, and entirely dominated by Saudi Arabia, Kuwait and UAE.

Next in line by net exports come Russia, Norway and Mexico, none of which is an OPEC member. While Norway's and Mexico's output is surely diminishing, Russia's can be held up, but not massively increased. Russian boasts of 'huge hikes' in oil output being possible are in fact as laughable as the boasts of Saudi princes.

In reality, neither Russia nor Saudi Arabia are able to increase their combined production by more than 3 or 4 Mbd: say 16 months of world oil demand growth at current rates, NOT including compensation for world depletion losses. That is all.

Their boasts of 'huge output hikes imminent' wear really thin after a few dozen times of hearing -- with nothing coming down the pipeline. In turn, even cheap oil cheerleaders in consumer countries change their tune. They go back to 'end of winter demand collapse' or 'huge US oil stock builds'. This is all they have left, to talk down prices.

These are highly-paid experts, dedicated to cheap oil. These days, they are science fiction writers or plain liars.

On the supply side, in effect and reality, it is only the braggart pair Russia and Saudi Arabia which control and fix oil prices. On the demand side, the rumor mill around the NYMEX does what it can to make prices move, because traders make money when prices change, not when they stay fixed. This is the reality.

OPEC "overproduction" is nowhere in sight, for the simple reason that without full-tilt production by OPEC, oil prices would be way over US$75-per-barrel right now.

OPEC, in reality, can do less and less about oil prices, except to have its oil ministers stride to the microphone and say they too think oil is "too expensive". This draws on another myth, used by Sheikh Yamani for many long years. Its modern equivalent is the Arnie Schwarzenegger myth of the Hydrogen Economy, claimed to be possible almost overnight, and send world oil demand spinning down out of sight.

The chances of this happening are less even than G W Bush having a third term, which would only need changing the US constitution. Replacing current oil use with hydrogen, currently produced from natural gas, would need a repeal of the Laws of Thermodynamics.

Other than the 'fuel substitution' myth there is the economic crisis myth, also used by Yamani and clowns, that is experts with a sense of humor, at his Centre for Global Energy Studies. This myth claims that high priced oil will automatically cause world financial or economic crisis, which could even hurt what Wall Street Journal calls the "evil cartel," through rapid and large falls of world oil demand.

In only one 3-year period in the 60 years since 1945 has world oil demand fallen three straight years: in 1980-1982. This was through the deepest recession since 1929-31 and entry to the Great Depression. This recession was caused more by double-digit interest rates than by triple-digit oil prices.

Members of that "evil cartel" should in fact dwell a little on what happens to burnt out, fallen-away, oil-depleted, ex-OPEC countries. These include impoverished Ecuador and unflourishing Gabon, and will soon include very low-income Indonesia, unless OPEC is changed to OGEC, the gas exporters cartel. Evil of course. By about 2012 it is likely that Iran, the Axis-of-Evil star player, already completely or 'structurally' dependent on oil product imports, will cease to have net export surpluses of crude.

Oil output by USA, Norway, Mexico and UK, the 4-biggest non-OPEC producers, is falling at about 0.9 Mbd-per-year, and this rate will very soon increase.

As it gets yet more expensive and difficult to keep up export surpluses, and the myth of "overproduction," competing uses for government revenues in OPEC -- like education and agriculture -- become more urgent, more useful and more responsible ways to face the future.

OPEC countries only have one real vocation: reducing oil exports without being accused of 'underproduction' and regime changed as a result. Falling output will itself put a very certain floor to price falls, which in any case will soon be a rare event.

The myth of OPEC "overcapacity" is dying, if slowly.

Near the end however -- that is now -- the myth will die away very fast: perhaps this year, and certainly by 2007 or 2008 it will have totally disappeared.

Andrew McKillop is an energy economist and consultant who recently edited a book for Pluto Books, ISBN 0745320929, title 'The Final Energy Crisis' including articles by Colin Campbell and Edward R D Goldsmith. He has held posts in national, international and supranational (Euro Commission) energy, and energy policy divisions and agencies. These missions have for example included role of Energy policy coordinator, Dept Minerals & Energy, Govt of Papua NG, advisory and management at the AREC technology transfer subsidiary of OAPEC, Kuwait, study missions at the ILO and UNDP, in-house consulting to the Hydro & Power Authority of British Columbia, Canada, seminar presentations at the Administrative Staff College of India, Hyderabad, study and technology review at the Canada Science Council, and elsewhere. Andrew is a regular contributor to; he was first energy editor of the journal 'The Ecologist' and has co-authored published works with other analysts, e.g. 'Oil Crisis and Economic Adjustment.' Pinter Publishing, with Dr Salah al-Shaikhly, currently the Interim Iraqi government's Ambassador to London. He is actively seeking research, consulting or writing missions at this time. You may contact Mr. McKillop by email at -- telephone London UK +44/ (207) 288 0475


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