“Is There an Impending World Oil Shortage?”

In 1859, right after the now famous Colonel Drake well was drilled in Titusville, Pennsylvania, and because of shortages of the illuminant camphene, shortages caused by the Civil War, the price of oil shot to $15 per barrel which in today’s dollars would be over $1,000. By autumn of 1861, following a reckless race for production and the 3,000 barrel per day Empire Well, the price plunged to 10 cents a barrel, $7 today’s money. Four years later, newspapers in the Eastern US were printing stories about running out of oil.

Predictions of the future supply of petroleum have typically been far less veracious than those of demand. Flawed predictions have caused public bewilderment, distrust, and more importantly, government inaction or poorly conceived reactions. A constant theme, from the very infancy of the industry at the turn of the 19th century, has been that the world is running out of oil. This worried governments in the 1930s and 1940s and became the focus of a giant public discourse following the energy crisis of 1973.

It is frequently amusing reading both optimistic and pessimistic predictions of the future, from people who have no clue about basic fundamentals of oil, what it is, how it is produced why a lot of it is not produced, etc.

In our book “The Color Of Oil” we predicted that the World will not run out of oil for the next three centuries, at least. For natural gas, which will become the fuel of choice for the world economy within as little as 15 years, the scenario is even more optimistic. Natural gas, even without taking into account the enormous volume of gas hydrates, will last for several centuries.

Where then will oil come from? This will not be from the Continental USA and Europe or from the Alaska National Wildlife Refuge (ANWR) with all its adverse real or imagined environmental imagery. ANWR is NOT another Saudi Arabia. Massive quantities will come from deep to ultra-deep offshore production, which I believe will be the next El Dorado, a competitor to Saudi Arabia and similar countries. There are enormous deposits in the deep offshore Gulf of Mexico plus many other parts of the world. This is a multi-trillion dollar energy opportunity, yet a profound technological challenge.

The now famous Hubbert’s peak of oil production and a subject of recent books, is not just a theory, it is a fact. But it may actually never come to fruition, because it implies that all potential oil in place is in fact active. We know this is not true, and it has never been true in the United States, the most mature petroleum environment of all and an obvious laboratory for such studies. Alaska, starting in 1976, managed to provide a huge upward trend from Hubbert’s presumed earlier decline. It is a certainty that deep offshore will repeat the feat The log-normal distribution (bell shaped curve) of Hubbert’s theory, becomes a series of prolonged peaks, a so-called “fractal” distribution. It will take a very long time en route to the final decline as long as new areas such as deep and ultra deep offshore are added.

However, it is not only additions to oil reserves that will dull and dampen Hubbert’s peak for the world. This is the ongoing, economy-shaping and technology-generating, transition to natural gas, which is a historical imperative that has little to do with environmentalist sloganeering. The de-carbonization of fuels is a process that started two hundred years ago, from wood, to coal, which fueled the Industrial Revolution, to oil, unquestionably the fuel of the twentieth century, and now, full throttle towards natural gas. The use of natural gas will be dictated by technological evolutions, perhaps revolutions, requiring more refined fuels, the miniaturization of our engines and the so-called “distributed energy”. Fuel cells are around the corner. But contrary to common misconception, hydrogen for fuel cells will have to come from hydrocarbons, first and foremost natural gas.

In spite of all the rhetoric on alternative energy sources, over the next 20 years, while world energy demand will increase by 50%, the contribution from oil and gas is slated to increase from 61% today to about 67%. Sunshine is free but solar energy is very expensive.

I would like to next discuss OPEC. I think that this organization is NOT what it used to be. It does not have the power it had to manipulate the market. Here is why

Others have muddled the scene, namely Mexico and especially Russia with very ambitious communists-turned-capitalists such as Mikhail Khodorkofsky, the Chairman of Yukos. Yukos and Lukoil produce almost as much oil as the largest multinationals and Gasprom is by far the largest natural gas company in the world, six times the size of Shell.

OPEC does not have the excess capacity that it once had. From a demonstrable excess capacity of over 10 million barrels per day, a decade ago, it has been reduced to a very debatable near zero today. This is not what OPEC’s potential production capacity could be but what it is now “behind the valve”, i.e., oil they can turn off and on at will.

The reason is that it takes huge re-investment to maintain production capacity, massive exploration and production budgets to sustain and replace lost and declining production. I think the recent worldwide economic downturn, exacerbated by the September 11, 2001 events, actually had a double-edged effect: Reduced incremental demand has veiled OPEC’s nakedness. It would have shown a great inability to meet world demand with its current production capacity. The other edge of the problem is that their own economic downturn, evident in almost all countries but especially in Venezuela, Indonesia and even Mexico (not an OPEC country but a big player) has forced these countries to dip deeper into their oil revenues to maintain their welfare state, further reducing re-investment.

My own study suggests that Venezuela needs $4 billion per year to re-invest for oil production to be sustained. The Hugo Chavez government has allocated only $2 billion. This is one of the reasons of the ongoing conflict in Venezuela (the USA’s largest oil supplier) between the government and the technocrats, headed by the oil company, PDVSA. This does not bode well for future oil supplies.

The optimism for the transition to natural gas as the premier fuel for the world economy within the ongoing decade is not only because there is abundant supply of natural gas around the world but it is also a far more diverse supply. There are three-dozen countries that are legitimate potential suppliers of world-class volumes of natural gas. This will de-emphasize OPEC further. For the United States and Europe it will reduce considerably major geopolitical vulnerabilities, directly related to the Middle East, where one finds five of the six countries in the world with over 75 billion barrels of oil reserves.

However, supply of oil in the world today and the foreseeable future still means almost singularly the Middle East. Saudi Arabia is in a class by itself, by far the world’s largest exporter of oil with a capacity, after massive investment, to increase supply far beyond past levels.

Let us discuss then the events of September 11, 2001 and the political rhetoric since then, not only because they have shaped the entire international rancor, but also because of their impact on the world energy future.

Those events pointed towards a cultural and social war, accentuated by historical and religious conflicts, the worst possibility of them all. The West and the developed world positively ignored the brewing danger, perhaps because of now-defunct but still lingering colonial superiority complexes, perhaps because of lack of sensitivity, perhaps because of pervasive disregard of lessons from history.

Yet, it is probably not the Crusades and thousand year old history but more recent events that held much larger sway in the evolution of the region, perhaps the last 80 years, more pervasively the last 30 years. Much of the situation today is more a case of a chasm between the West and Islamic nations because of an abysmal cultural failure of the latter to adjust and absorb modernity.

The impact on the energy industry and the energy welfare of the world will be enormous and lasting. It is not just the profound changes to economic and social norms within our society such as the style with which we travel and the constant refrain of newscasts the events will surely bring. Even more important is the intimate connection between critical sources of world energy and terrorism. Saudi Arabia, by far the world’s largest producer of petroleum and the home of the most imposing oil and gas reserves was also the origin of almost all of the 19 identified hijackers.

Past United States and Western Policy in the Middle East centered around: A) Containment of the Soviet Union. B) Petroleum supply and C) Domestic pressures and moral premises, especially with regards to Israel.

The Israeli presence has been a very convenient reason to explain away Arab and Moslem failures. In the name of the struggle against the West and its proxy, Israel, there has not been a single democracy in Islam from Morocco to Pakistan and beyond. Originally, the “defense of the Arab nation” brought about secular regimes in many countries: Qadhafi in Libya, Assad in Syria, Saddam Hussein in Iraq. This situation was not limited to regimes hostile to the West, regimes that found reluctant support form the Soviet block during the Cold War. Islamic nations, presumably friendly to the United States, such as many of the oil producers, the Kingdoms of Jordan and Morocco and non-Arab Iran were not even close to being bastions of democracy. Simply, “our sob’s were preferable to their sob’s”.

The end of the Cold War, removed a crutch from which a semblance of support could be drawn and brought about the only natural alternative, Islam, whose application lacks the western “dissociation” of religious and political authority.

“In an almost unthinkable reversal of a global pattern, almost every Arab country today is less free than it was 30 years ago. There are few countries in the world of which one can say that.” (Fareed Zakaria, Newsweek, 2001).

Mix in poverty-driven civil unrest, lack of jobs and a huge “youth bulge” and there is a recipe for disaster. More than half of the population of Arab countries is under the age of 25. History has demonstrated repeatedly that a huge increase of restless young men in any country leads to social upheaval. A fundamentalist resurgence is the answer for the Arab youth.

The Saudi royals stayed in power deftly walking a tightrope was made easier by oil money. It bought a semblance of stability for years but dangerous signs are everywhere, the most striking of which is just this: the per capita income of Saudi Arabia with a population whose average age is 25 has dropped from a high of $17,000 a decade ago to $7000 today.

Here are my suggestions for a new Middle East policy: Lacking the geopolitical significance and with their recent social changes, central among which is the dominant appearance of a militantly virulent and exclusionary form of Islam, all Middle East countries (other than oil producers) have become quite unattractive for any form of meaningful transnational engagement.

I believe disengagement from Egypt, Syria and Jordan, and from lesser countries such as Sudan and Somalia should be immediate and decisive

Oil and natural gas are what the United States and the developed World want from the area and the multinational oil companies should become the vehicles for any new policy.

The first political step should be the rapid courting of Iran, a country that is pivotal in any Middle East policy. There are ample signs that Iran is ripe for such a role and although the country’s journey into militant Islam is the one that started it all, recently a far more mature face has emerged.

The first economic policy step in the Middle East should be to “encourage” privatization or re-privatization of the oil sector in the five major producing countries. The relationship should be clear from the start, just business. If oil and natural gas production should be done and transported in military style settings, the developed world can support lavishly the necessary security.

Reliance on highly accessible and affordable Middle East oil is now, and for the foreseeable future, an irreplaceable element for world economy. There should be no doubt that any military doctrine by the United States clearly must have an uninterrupted flow of Middle East petroleum as a central theme. It is not really relevant whether the recent US invasion of Iraq was overtly for that country’s oil or for “regime change”. The end result would guarantee for the world the desired and uninterrupted oil supply, unburdened by the implicit threats of the recent hostilities.

Finally, the ongoing transition to natural gas will serve both as a means to reduce dependence on oil and also open up a much more diverse group of countries with natural gas resources, prominent among which is Russia. Countries such as Peru and Bolivia in South America and Namibia and of course Nigeria in West Africa are suddenly “discovering” huge reserves of gas. Venezuela may have more gas than oil.

I am prudently optimistic but I never lose sight of the importance of energy abundance and energy security to our economy, our way of life. Energy wealth has replaced industrialization as the national characteristic that separates rich from poor nations, Adam Smith, 200 years ago notwithstanding.