When will the oil run out? Actually never – Amen

Dr Edward Libbey

We have been using oil for over a century and a half since Colonel Edwin Drake’s first production in Titusville in 1859. Oil rapidly replaced coal and became the indispensable industrial and transport fuel that drove industrial growth in developed economies throughout the 20th century. However, the persistent question of when it would run out troubled energy economists for decades. Academic research by King Hubbert in the US predicted in 1956 that peak global production would occur around 2000, at about 35 million barrels per day (mbpd). That number has long been surpassed. Others, like Peter Odell in the seventies, were much more optimistic, though often rebuked. Oil companies were typically valued based on their reserves cover—how many years of forward production they had commercially proven. While they might only have had 10-20 years of forward cover, it was expected that future discoveries or unconventional heavy oil reserves would bridge the demand gap. Indeed, oil production in the US peaked in the early 1970s but has now recovered to those levels with the development and exploitation of fracking. While we often discuss fracking for gas, the more valuable products are the associated liquids that feed directly into the petroleum product chain. The debate was always about whether the so-called “Peak Oil” would be driven by supply or demand.

What is now clear, post-COP26, is that oil supply will not run out in the foreseeable future, but the world is close to reaching peak demand. As the Saudi Oil Minister Sheikh Yamani famously said many years ago, the Stone Age did not end because the world ran out of stones; he added that the oil age will end long before the world runs out of oil. It is clear that the oil age will not end due to a shortage of oil.

But now that we know we have plenty of oil, the questions remain difficult. OPEC producers worry that they will have resources left in the ground and will want to maximize their use to reengineer their economies for the post-oil age. Saudi and other Middle Eastern producers have long tried to diversify their economies with some success, but they are still substantially dependent on their oil revenues. Non-OPEC producing territories such as Norway, Alberta, and Alaska have for years been growing their own sovereign funds to generate revenue streams for the next generation. Others, like the UK and the Netherlands, used their oil and gas assets to fund current expenditures without saving for the future. In retrospect, the UK extracted much of its oil at times of historically high oil prices, which at least maximized the value of the resource before depletion. Countries like Russia have used their oil and gas revenues to secure long-term national financial stability. Twenty years ago, it could be said that Russia needed European oil revenues as much as Europe needed Russian gas; today, the Russian state balance sheet is much healthier than that of most developed nations, which have funded post-financial crisis and COVID crisis relief with debt. The political consequences are evident today. Oil and gas can indeed be "weaponized," as can those financial reserves. We really do not know what the oil market will look like in a few months' time.

Western oil companies face a dilemma—they do not want to be left with "stranded assets," oil in the ground that they will not be able to sell. On the other hand, they need high oil prices and production to generate the cash to finance their energy transition. If COP26 and growing environmental pressure lead to further cancellations or deferral of oil and gas development projects, what will that do to oil prices and inflation? Everyone recognizes that oil and gas demand will be suppressed, but what will the supply-demand balance for oil be in 2050? Today, we are witnessing in Europe the impact on natural gas prices of imbalances between supply and demand, exacerbated by the impact of Russian war efforts. We have seen quite extreme oil price volatility over the past 35 years—from lows of $10 per barrel in the mid-1980s to highs near $150 (nominal prices) 20 years later. Today's price is well below the real prices of the 1980s and not far off the 100-year average. European gas prices have more than quadrupled over the past year (with much higher peaks)—but oil did that twice, in 1973/4 and 1978/9, while US natural gas prices are lower in real terms than they were in 1975! This will generate regional disparities in economic growth.

The balance is fragile, as we see all too clearly today—global politics overwhelm the supply and demand fundamentals. While oil prices rose as the Ukraine war started, they have since come back down. The Economist last week talked about $200+ oil, and other experts even mentioned $300 per barrel. We saw such predictions in 2008, but they never materialized. The futures market

tells quite a different story—oil prices falling back later in the year. I am no economist, but a chemist and oil trader who has witnessed 50 years of volatility. Will the global economy be driven to recession by today's oil prices? They are much lower in real terms than in the 1980s, and since then, the economy has become much more energy-efficient. Energy intensity has dropped, and the ONS (Office for National Statistics) suggests that energy use per capita has fallen over the past 20 years. Can more be done? Of course, but the current talk of "energy independence" from foreign supply is a distant dream. President Carter in the 1970s proclaimed it in the USA, but it was not achieved until the fracking revolution last decade. The French achieved it by building 60 nuclear plants—the UK struggles to build one, and that is years late. There are still UKCS fields that can be developed profitably, but until last month, the political support was not there. Something has to change, and it may well do now that energy is at the top of the political agenda, not the bottom, where it has been for decades.

While energy prices may not drive a recession, food prices and shortages and the consequences of war will have an impact way beyond this year. The recovery from Covid was remarkably quick, but the next few years do look fraught. Sorry—but it will not be because the oil runs out.

March 2022