The Most Expensive Oil

Today the world wakes up to the most expensive oil ever. Those who believe in market dynamics of supply and demand will have an interesting time explaining this. The problem with oil is not that there isn’t enough oil around, but rather to do with where the available oil is to be found.

Of course, supply and demand does have something to do with the record price. High growth rates around the world, in places as far flung as China, India, the Middle East and Africa, have seen demand for oil grow as their economies fly. At the same time, oil firms, in particular Western oil firms, are struggling to increase production – mane still producing at the same levels as they did two or three years ago. That has left little spare production capacity and, in America and other countries, dwindling stocks. Whenever storms brew in the Gulf of Mexico or chaos erupts in the Middle East or Africa, or Russia talks nasty, jittery markets push prices higher. Part of this has to do with speculators, rather than customers.

But there are other reasons for the higher oil prices, and the lack of supply.

The fact is that oil must be running out (it takes millions of years to make, and we’re using a lot of it each day). But it isn’t about to run dry any time soon. The fact that not enough oil is coming out of the ground does not mean that there is not enough of it there.

There are other reasons for the lacklustre response to the high oil price (i.e. why are oil companies not selling more, thus bringing the price down?).

One of the most important reasons is that oil producers have created their own capacity problems. During the 1980s and 1990s, when the price was low and so were their profits, they cut back hiring and reduced investment to a minimum. Many related firms and supporting industries, such as those that built rigs, made equipment or collected seismic data similarly reduced head count, got rid of talent and even shut down. Now oil firms want to increase their output, but they do not have the expertise, staff or equipment to do so. The oil industry has done nothing to create an attractive reputation amongst today’s young talent, and so, even when it goes looking, a young generation of more ethical potential employees are reticent to enter the industry and offer their skills.

In addition, most new oil these days is found in relatively inaccessible locations, or in more difficult forms to extract. That increases the cost of extracting oil.

But, the biggest problem is political. Governments in almost all oil-rich countries, from Ecuador to Kazakhstan, and Angola to Canada, are trying to get their hands on a greater share of the industry’s bumper profits. That’s understandable, but these government desires often deter private investment – or even exclude it altogether. The world’s oil supply would increase markedly if big oil companies had freer access to Russia, Venezuela, Nigeria and Iran, for example. Simply put, the world is facing not “peak oil”, but rather facing nationalism.

None of this good news. For anyone. There are no easy, or short-term, solutions here. Oil looks set to remain more expensive than it should be for some time to come.

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