Slow growth here and in China—as well as a recession in Europe—is reducing demand for oil. Inventories in the U.S. are at a 22-year high. The Federal Reserve Board’s QEs that pumped paper money into the economy and drove up the nominal price of oil have come to an end. And the twelve OPEC oil cartelists, who between them supply 40 percent of the world’s oil, are producing 1.6 million barrels in excess of the agreed daily quota of 30 million barrels. As a result, U.S. benchmark crude oil prices are now closer to $80 per barrel than to the $110 they reached only four months ago.
OPEC’s hawks—Venezuela, Iran and Nigeria among them—want Saudi Arabia to rein in output. They need much more than $80 to cover their budgets, while non-member, fellow-traveller Russia needs closer to $90 to avoid a problem for its rouble. The Saudis feel they can finance their welfare state, their prince’s live styles and their clerics’ call for funds to spread their misogynistic anti-Semitic version of Islam around the world with $80 oil. So that’s the new floor -- unless the Saudis decide U.S. production is becoming so great a threat that they cut prices to levels higher-cost American producers cannot meet, a real threat of which operators in the U.S. are well aware. Bill Maloney, who heads the vigorous North American development operation of Statoil, the Norwegian state oil company, told the Financial Times, “If it’s [a price drop] a flash event, the industry could withstand that. If it’s for an extended time, that is when you begin to think: ‘my gosh, what are we going to do here?’”
For now, the Saudis have several reasons for feeling that $80 oil suits their purposes -- no lower, no higher. For one thing, they do not want a severe global recession that higher prices might trigger, lest oil demand collapse and the value of their enormous investments in Western assets be impaired. For another, they want to keep producing at the high current rate to prepare to make up for any output loss should the European embargo on Iranian oil take effect on July 1, as scheduled. That ban would remove about 500,000-700,000 barrels from world markets, and the Saudis are determined to prevent a price spike that might weaken the resolve of the consuming countries to continue the ban on oil from their regional rival.
All of this makes for exciting geopolitical manoeuvring, and provides oil traders with food for thought. But it is far less important than some very fundamental changes that are going on in our energy markets. Thanks to a new technology, hydraulic fracturing (known as fracking), and horizontal drilling, production of oil and gas from shale is increasing despite the Obama administration’s reluctance to grant permits for drilling on federal lands and offshore.
America, which in 2008 imported almost 60% of the oil needed to run its cars, trucks and factories, now imports only 45 percent of its requirements. And that is likely to decline when the vast quantities of oil under the surface of American lands and coastal waters, including two trillion barrels trapped in shale and sand—100 times our currently reported reserves—are finally tapped.
That is only one of the threats to OPEC’s continued dominance of oil markets. The second is Canada, with its vast reserves of oil shale, waiting construction of pipeline connections to the U.S.—so far refused by President Obama. The third is natural gas, now available in such huge quantities as a result of new drilling technologies that prices are depressed, as seen by producers, or attractive, as seen by consumers and developers of gas-powered vehicles. Finally, there is electricity, available more cheaply from generators fuelled by cheap, abundant natural gas and, possibly, by a renascent nuclear power industry that some utilities are betting their shareholders’ money has overcome its history of cost over-runs and operating problems, and will be able to compete with cheap natural gas.
At the moment, the use of natural gas to power vehicles in America is confined largely to buses and garbage trucks: only Honda is offering a natural gas vehicle (NGV) for ordinary consumers. These vehicles do have limitations: the tank for natural gas consumes almost all of the space in the trunk of an ordinary passenger car, and infrastructure for refills has yet to be developed. But enthusiasts for this fuel, among them Robert Hefner III (“The Grand Energy Transition”), expect wider use in the transport sector to result from the current level of natural gas prices.