As Nils Bohr said, prediction is very difficult, particularly about the future. The recent (and continuing) drastic slump in oil prices is a perfect example of this. Rather than the seemingly inevitable approach of Peak Oil, we seem to have a return to cheap energy, at least temporarily. Given the central place of energy to the world economy, this is bound to have some profound effects.
Overall, the impact should be very positive. Drivers have already seen a significant drop in the price of petrol and diesel, and reduced transport costs will translate in many cases to reduced prices of a range of food and consumer goods. In other cases, they may boost company profits, which would benefit owners, shareholders and employees.
There will be losers, of course, largely in countries which are major oil and gas exporters and which rely on the income to balance the books. Venezuela has been much in the news, for example, with the dangers of mismanaging the economy on populist lines, funded almost exclusively by oil revenues, now being made crystal clear. Russia is experiencing its own economic difficulties, compounded by Western sanctions. Even Norway is seeing a large drop in tax income but, since the government did the prudent thing of setting up a sovereign wealth fund for oil revenues, this is no more than an inconvenience for them.
Somewhere in the middle ground are the OPEC countries, dominated by Saudi Arabia. The loss of income will hurt, but many of the Middle Eastern states are quite wealthy enough to weather the storm with no problem. When OPEC set the rules for the oil market, their response to the current oversupply would have been to cut production until the price went back up. But this time their response is different.
They continue to pump at the same rate, contributing further to the glut and keeping prices down. In the very short term, this maximises their revenue, but the main motivation seems to be to keep market share. The logic is that the low price will force some players in the newly-significant shale oil sector to cut back investment and effectively throttle one of their key sectors competing with them.
Oil is certainly more expensive to extract from shale than from conventional reservoirs and the short life cycle of wells means that a cut back in investment will be felt quite quickly in terms of reduced output. This could allow the price of oil to rise again in the short to medium term. But don’t hold your breath: both spot and future prices for Brent crude remain below $50 a barrel, down by over a half in six months, with no sign of any increase yet.
The immediate impact on oil companies is enormous. It is reported this week, for example, that BHP Billiton cuts US shale operation as oil price falls. The company is reducing its number of drilling rigs from 26 to 16 by the end of June. That’s a 40% drop, but not a complete pull-out, and the company also expects to increase productivity in the same period. And shale oil is not unique; areas including the North Sea fields are also seeing a slowdown (BP announces North Sea job cuts).
The likelihood is that the oil price will begin to rise once more, perhaps in 2016, and more expensive reserves will be brought back into production. Given the nature of shale oil (and gas) extraction, it is in principle quite easy to come back to a well-head and drill more short-lived horizontal wells from the same site as demand rises. There will be more fluctuations, but most likely the price will settle down to some new equilibrium position. It is the rapidity of fluctuations which puts most strain on the system, rather than the price per se.
It is also conceivable that we could see low oil prices (considerably below $100 a barrel) for some time to come. Whatever happens, it makes the projections of oil at $200 a barrel or more made not so long again look rather silly. But that’s the nature of predictions: most people will be wrong at some stage.
If we ignore the short term implications for now, the real threat presented by cheap oil and gas is to renewable energy. Rosy projections of a future in which wind and solar power helped to keep prices down as the price of fossil fuels ratcheted inexorably higher always looked very dubious, given the need to have conventional backup capacity available at all times, but lower oil prices than governments have forecast must surely put another nail in the coffin of current policy.
Already, companies and consumers have questioned the role of subsidised renewables in pushing up electricity prices unnecessarily. Now, they will expect to see their bills come down, and will not take kindly to the increasing disparity between the price of electricity from gas or coal stations and the inflated prices needed to make wind farms profitable.
This is a particular issue in the UK at present, but we are unlikely to see any change in policy until after the election in May. Withdrawing support from renewable energy is fraught with difficulties, particularly as the UK has a supposedly binding legal obligation to meet its independently-set ‘carbon budget’. There is little doubt, though, that reducing energy prices would be electorally popular.
Martin Livermore
The Scientific Alliance
St John’s Innovation Centre
Cowley Road
Cambridge CB4 0WS
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