On Oil Prices

What really influences oil prices? Is it economic factors or political factors? Or is it a bit of both? What about weather (hurricanes)? I decided to ask these questions because I find most explanations of oil price movements mainly concentrate on economic factors. However, they forget that these same economic factors are usually influenced by some underlying political factors. It is political factors that determine the determinants.

For example, currently we have very little spare production capacity, and the market is tight. Hence, prices of oil are high. Underlying reasons for tight market and the lack of spare capacity are essentially political - Iraq, Nigeria, etc. If Iraqi production was standing at 3 rather than 1.5 million bpd, there, spare production capacity in other countries would increase. Same goes for Nigeria, and political factors present there.

I understand however, that on the demand side, it is more of economic factors that are relevant. For example, growing Chinese demand is economically motivated, without much politics underlining it. However, many times politics intereferes on the demand side as well. Think of various government interventions that distort domestic oil consumption. Increasing taxes in order to curb demand, so on and so forth. If it wasn't for higher domestic taxes, do you think Germany and Japan would have lowered their oil demand by 8-10 percent in the past 10 years? I really don't think so.

I just want to highlight the importance of politics and not just economics when looking at oil prices. I wish reporters and journalists writing on oil would take this seriously.

Current World Oil Issues

I want to thank Mr Raul and Mr James on their comments. I appreciate your interest and time. Other than reflecting on Mr James' comments, in this post I will talk a bit about some issues currently on my mind - 1) China's bid for Unocal, a highly sensitive issue, 2) Australia's increasing dependency on imported oil, a highly ignored issue by Australian media.

Mr James, you asked what literary review entails? Well, let me say that it is a very troublesome thing to do, and it involves going through all the academic literature that has been written on the topic I am looking at in my PhD. In my particular case, this is oil and bargaining. Therefore, I need to critically discuss most important and relevant academic literature on oil and bargaining. It takes at least 10,000 words, or a full chapter, to do this. There has been so much written about oil, especially in the wake of 1970s oil shocks. After that, when the oil prices dropped from $36 a barrel to $12 a barrel in 1986, people lost interest in writing about oil. Interest returned lately, with high oil prices, and a lot of talk about incoming "peak oil". Since oil, as a non-renewable energy resource won't be able to be used as our main source of energy forever, experts disagree on when peak in oil production will occur. Some argue that this will be very soon - Deffeyes (author of Hubbert's Peak and Beyond Oil) argues that this is taking place now. Colin Campbell, Jean Laherrere, Paul Roberts, Matthew Simmons and others argue that it will take place by the end of this decade. ALL governments and Big Oil, and some academics (Huber, Peter Odell) argue that it will not happen until some time in future - say 2020 or later.
If anyone's interested on this issue I can refer you to a few interesting books:
1) Matthew Simmons, The Twilight in the Dessert - he offers an argument that Saudi
Arabia's production will decline very soon - very scary for the world economy
if this is true! I am expecting a compelling answer from Saudi officials.
2) Deffeyes' abovementioned books are a good read as well.
3) Colin Campbell, The Coming Oil Crisis
4) Richard Heinberg, The Party's Over
5) Peter Odell, Why Carbon Fuels Will Dominate the 21st Century - This is the
other side of debate by the most respected academic on oil in Britain. This guy
publishes a book on oil every few years and has been doing that for decades.
There's many more out there. If interested let me know and I can provide you a more detailed list.

I do not intend to offer a definitive answer to this highly debated question on "peak oil" as it is almost impossible to answer. I can say one thing though. The oil production in most of the major OECD oil producers, United States, Norway, United Kingdom, and Australia has peaked. In the US this ocurred in 1970, elsewhere it occured much later - UK (1999), Norway (2001), Australia (2000). OECD countries where production hasn't peaked as yet are Mexico, Canada, and Denmark and Italy (which are very small producers). The oil production in the US in 2004 is 64% of what it was in peak year (1970); in Norway it is 93% of what it was in its peak year; in the UK it is 70% of what it was just 5 years ago; and in Australia it is 67% of what it was just 4 years ago. I did not come up with this statistics on my own - they come from BP's Statistic Review of Worled Energy.

Other interesting current literature on oil entails connection between oil and war. The argument is that major world powers are in increasing competition for oil which is highly concentrated (for example in the Middle East and the Caspian), in the countries usually unfriendly to the West. Michael Klare argues that the US, Russia and China will go through a geopolitical struggle for control of these resources in times to come. His books "Resource Wars" and "Blood and Oil" are excellent reads on that - highly recommended. Lutz Kleveman talks about the "New Great Game" taking place in the Caspian and Central Asia, between major powers.

We can already see bits of this happening. China is trying to get hold of any oil available in the market. It is making friends with "rogue states" - Iran, Sudan, and so forth. A highly contentious issue with the US. Take a look at the countries with which China signed oil and natural gas deals with: Algeria, Angola, Argentina, Brazil, Canada, Cuba, Ecuador, Egypt, India, Indonesia, Iran, Iraq, Italy, Kazakhstan, Kuwait, Libya, Mongolia, Myanmar, Nigeria, Oman, Papua New Guinea, Peru, Russia, Saudi Arabia, Syria, Sudan, Taiwan, Thailand, Turkmenistan, Uzbekistan, Venezuela, Vietnam, and Yemen.

Now, China is trying to buy Unocal, one of the largest oil "independents" in the US, which has 1.8 billion barrels of oil and gas reserves located mainly in Asia - Indonesia, Thailand, Bangladesh. It offered about $2.6 billion dollars more than Chevron Texaco - an American major (in the rest of the world it is called Caltex, with corporate HQ in Singapore). Out of $20.6 billion offered by the Chinese National Offshore Oil Company (CNOOC) for Unocal, $7 billion comes from the government at 3.5% interest rate in 30 years - ridiculous considering US Treasuries go at 4.2% interest rates. There is a huge debate in the US about whether to sell Unocal to Chevron Texaco or CNOOC. Time will say what will happen. There is some talk that if Unocal doesn't go to the CNOOC, in retaliation the Chinese will buy European Airbus planes rather than Boeing. We will see more of Chinese assertiveness in future - I guarantee that. Until 1992, China was a net oil exporter. It started importing in 1993 and now it imports almost half of what it consumes - an amazing growth. Its production is right now peaking around 3.5 million bpd, and consumption was at 6.7 million bpd in 2004. Since growing economy means growing oil consumption and growing oil imports, China will do anything to secure oil inflows. It is building an expensive pipeline from Kazakhstan, it will build an expensive pipeline from Russian Far East, it built a port in Pakistan to monitor sea traffic passing through the Straits of Hormuz, and so forth. The American reaction is to be seen. I currently see confusion in the US over China issue. But conflict would not be out of question - American imports stand at 13 million bpd and are growing.

Other issue I wanted to touch is Australia's growing dependency on imported oil and the lack of attention paid to this issue by the media. Chack this out: in 1985 Australia was a net oil EXPORTER. In 2000, Australia produced 809,000 barrels per day, and in consumed 837,000 bpd. Hence it had to import just 28,000 bpd - not much. In 2004, Australia produced 541,000 bpd and it consumed 858,000 bpd. It had to import 317,000 bpd. While this is nothing compared to what the US (13,000,000 bpd), Japan (5,300,000 bpd), or China (3,200,000 bpd) import, Australia's economy is also smaller than China's, Japan's and America's economies. More problematic issue is that statistics show that the consumption will rise in future, and the production will fall. Hence, more oil will have to be imported. Yet, nothing about it in the media or from the government.

Till my next post, any comments highly welcome.
Vlado

International Political Economy of Oil

My name is Vlado Vivoda and I am currently a PhD candidate at Flinders University of South Australia in Adelaide. I have decided to create this blog due to my interest in oil. I have started my candidature in March 2005, and am in the process of review necessary literature.
Although I am very interested in the whole area of IPE of oil and the geopolitics of oil, I am most probably going to write my dissertation on oil and bargaining. In other words, I will try to show how different actors in the international (and domestic) arena bargain for oil-related concessions. I have already reviewed literature on interstate and state-MNC bargaining, and attempted to set up my own framework on bargaining. Currently, I am looking for examples and case studies of oil bargaining. I don't know which ones to choose - Kazakhstan, Russia, Venezuela, or others? Kazakhstan would be a good choice since its oil is in the interest of China, the US and Russia, and there is a lot of bargaining going on there. Same goes with Russia, and its Far Eastern pipeline. What about Venezuela and Chavez's decision to raise royalties in 2004. China looks good on the importers side. Its national companies are outbidding western MNCs in almost every instance. MNCs on the other hand, have considerable problems securing sufficient crude oil reserves in order to maintain a steady reserve base. They need to get hold of new reserves, and need to bargain hard for that. Do their home governments support them in their quest? Are host states cooperative or conflictual in their relationships with western (and other) oil companies? For example, does Petroleo de Venezuela (PdVSA) behave differently when negotiating with Sinopec or Petrobras as opposed to Exxon Mobil, Chevron Texaco, or Anadarko? Some argue that nowadays there is cooperation in host state-MNC relationships, and that MNCs get "sweetheart" deals. Yet, I disagree when looking at oil.
Although I am very aware of the current debate on "peak oil" and possess quite a few books from both sides, I have decided not to answer the question on peak oil in my dissertation. I assume that crude oil will remain our major source of energy in the next two to three decades even if the peak arrives before 2010. I see peak more as a plateau and slow but steady decline in world oil production will in my opinion be matched by a slow but steady increase in the use of natural gas and other energy sources.
What do I see as a major problem with crude oil? Its concentration. The problem that increasingly larger share of world production and proven reserves will be in possession of handful of Middle Eastern regimes (or rentier petro-states) is what we should be worried about. This causes panic in the west, and raises supply security concerns. Unless we go through a fundamental structural change in the world, such as natural resource western neo-imperialism, oil markets will become more volatile (a nightmare for governments).
What about rising Asian economies? China, India and others import increasingly more crude oil every year. Through their state-owned companies, they are establishing themselves as major players in the oil markets. Will they cause a final fall of the legendary "seven sisters"? Will Chinese demand continue its double-digit yearly increase? And if it does, where will China find all the oil it needs? Will that be Russia, Venezuela, Canada, Saudi Arabia, Kazakhstan, Iran, Sudan, Colombia, Nigeria, Angola and other places where Chinese already signed oil deals? What is the U.S. doing in response to China getting oil from its backyard (Canada and Venezuela)? Are we going to witness a major war for oil, or a lot of Cold War-style "proxy" wars (as Michael Klare argues)?
Where are crude oil prices heading? I am sure a lot of you ask yourself such question, especially when you are about to pay for gas as the pump. Although I think that they are rising slowly in the longue duree, in short and medium term they will be going up and down, as they did throughout their history. What will change, in my opinion is that they will be even more volatile. Since unstable Arab (Saudi Arabia, Iran, Iraq, Libya, Algeria) and other (Venezuela, Nigeria) regimes control and produce increasingly more oil relative to the rest of the world (and especially versus the OECD countries), they will be the ones with increasingly more bargaining power, and will have increasingly more power over price formulation. Hence, and especially in a situation when there is limited spare production capacity left in the market (now for example), a small instability in one of those countries will cause a major price spike.

I would really appreciate anyone's comments, questions and criticisms. I am more than willing to start correspondence with anyone interested in oil - journalists, economists, policy makers, academics, or members of general public. The only way to expand my knowledge on this fascinating topic is through conversation and correspondence with others. I hope I can benefit others too.

Vlado