The so-called ‘financial community’, notably the presidents of the US, European and Japanese central banks claim that high or ‘extreme’ oil prices can only depress economic growth, which would lead to a fall in world oil demand growth, or even to zero growth of world oil demand, with actual contraction of demand possible if the ‘recession due to high oil prices’ becomes a ‘hard landing’ longer.
In fact the real world, real economy does not operate this way.
Increasing oil prices in fact tend to reinforce and increase economic growth at the world level, leading to further oil demand growth. Incontrovertible proof of this is provided by world economic trends through 1999-2004. As oil prices have increased, world oil demand growth rates have consistently increased – not decreased. This process will continue, especially because of its gradual and progressive nature (not sudden ‘oil shock’ price explosions) until oil prices exceed 75 US dollars/barrel, which in constant dollar terms (corrected for inflation and world purchasing power of the dollar) is still below the most recent peak price of about 85 USD -100 USD/barrel, attained in late 1979-early 1980. At the time, and before use of the so-called ‘interest rate weapon’ (extreme interest rates) to strangle economic growth and depress oil demand, producing a ‘crash landing’ of the economy, world oil demand growth was not affected by these price levels. In the 1976-1980 period world oil demand was growing at a long-term rate of close to 4%-per-year.
Annual per capita oil demand (PCOD) rates are entirely dependent on economic development, urbanization and personal consumption. Rates are above 10 – 25 barrels/capita/year (bcy) in the USA, the EU nations, Japan, South Korea, Taiwan and Singapore, that is ‘conventional’ developed, high-consumption societies. Only in poor and very poor nations are PCOD rates far below 4.7 bcy (which is the world average, currently increasing, albeit slowly). Both China and India currently have PCOD rates below 2.5 bcy, increasing rapidly. Current and conventional economic infrastructures are close to entirely dependent on oil and gas energy, and hydrocarbon raw materials and derived products (from farm machinery, fertilizers and insecticides for food production, to ‘modern’ habitat, industry and transport systems). This results in potential world oil demand being close to ‘unlimited’. If the world was able, by miracle, to attain the US rate of oil demand (about 25 bcy) world oil demand would at present run at around 445 Mbd, a totally impossible supply figure. We can note that US oil demand, and US oil imports are currently increasing faster than US population growth, or oil consumption.
The imperative need for restructuring
It is necessary, and urgent to consider ways and means to reduce world oil demand growth to zero, and then reduce world oil demand, at latest from the date of world peak production, and much preferably before. The lead time available is very short.
On the one hand there is the need to cut oil and gas burning to limit climate change, as embodied by the Kyoto Treaty, but this set of ‘good intentions’ is easily sidelined, fudged or thwarted by effective ‘transfer of oil demand’, through so-called Clean Development Mechanisms and by carbon trading. Conversely, the strengthening likelihood of oil prices going well above 75 US dollars/barrel (USD/bbl) when world oil markets are exposed to ‘structural undersupply’, almost certainly by 2007-2008, will powerfully draw attention to study and action for firstly slowing the growth of oil demand, then reducing demand.
Increasing shortage of oil supplies will ensure that oil producers are not be exposed to catastrophic falls in the oil price, and especially if these producer nations choose to husband their non-renewable resources, and cap their oil production before reducing it, so enabling a longer ‘plateau period’.
In the present, notably due to regional destabilization of the Middle East by the Iraq war and probably declining menaces of ‘surgical bombing’ of Iran’s ‘illegal’ nuclear installations and ‘Tehran regime change’ by US and Israeli armed forces, oil prices can easily continue their relatively smooth upward progression towards 75 USD/bbl. Given the current situation, as well as the emerging outlook of world peak production capacity not being much above 90 Mbd, with world demand easily able to attain 90 Mbd by end-2007 at current rates of growth, there is little real chance of cheap oil returning. In this context it is unwise to count on oil prices below USD 50/bbl ever returning. This loss of cheap oil will not in any way compromise conventional economic growth, as already noted, above. Higher priced oil, at least to about 75 USD/bbl, will in fact increase world economic growth – but it will also and inevitably increase the ‘visibility’ of, and support for energy economic restructuring and reduction of oil intensity.
This action will necessarily be international and multilateral, the Iraq war proving, if proof is needed, that war and military occupation are not effective ways to increase oil production by, and exports from Iraq or any other Middle Eastern producer country.
Globalization and autarchy
It is important to understand that any kind of economic factor limit or constraint (eg. increasing energy costs) does not instantly place the world economy into an ‘either-or’ context of either total globalization or total autarchy, defined here as local, national or regional self-reliance. Emerging oil supply, and then natural gas supply limits will however impose a very different form of ‘globalization’ from that of today. These limits will also encourage or enable a different form of ‘autarchy’ from that described by economic historians and theorists, including Ricardo and Marx, both of whom rejected autarchy as a ‘primitive form’ of economic development.
Study of ‘de-globalized’ and more energy efficient econimic organization will necessarily include scenarios where de-integration, that is reverse globalization of the world economy can occur with the minimum friction and conflict. This is for the simple reason that current or ‘conventional’ globalization accelerates urbanization, energy-intensive agriculture, and increases dependence on transport. In short, ‘conventional’ globalization generates near unlimited potentials for the increase of personal energy consumption and the ‘ecological footprint’, or space and natural system resource demand, of each person. World population growth rates are falling, quite rapidly and consistently since their all-time peak of the 1960s, and annual world population increase by number of additional persons has fallen quite fast from its all-time peak of 1995 (at around 95 Million-per-year additional population, worldwide). Despite this, and as noted above, world oil and energy demand per person is currently increasing, and the ‘ecological footprint’ per person, in the high-energy, urban industrial nations, has attained extreme levels that are unsustainable and impossible to replicate at the world level.
This can be understood by noting that a 10% cut in oil demand by the OECD group of countries would cut world oil demand by about 5 Mbd, while a 10% cut in the combined oil demand of China and India (with a total population over two times that of the OECD) would reduce world demand by less than 1.3 Mbd.
OECD economy restructuring
One scenario can therefore feature continued economic growth but at lower rates than present, in the developing world, with initial effort towards reducing oil- and energy-intensity being concentrated in the OECD nations. This can be understood through closely analyzing economy-wide (not sectoral) energy intensities of GDP. These are far lower in low income nonOECD or ‘South’ group of countries, helping to explain why these countries are not ‘the first victims’ of higher oil prices. Conversely, economy restructuring in the OECD group, to accommodate the oil production capacity ceiling, is unavoidable and urgently necessary. World oil prices rising beyond 75 USD/bbl will almost certainly trigger huge interest rate hikes in the OECD countries, leading to monetary inflation, increasing economic or factor cost inflation, and result in deep recession. The sane choice, therefore, is energy economy restructuring in the OECD countries, aimed at rapidly and effectively cutting oil and gas demand per person, without creating social chaos through seeking a ‘hard landing’ with massive unemployment, through reliance on ‘unfettered market forces’.
Reducing average PCOD in the advanced industrial nations will necessarily begin to attract serious attention when oil prices rise to 60 USD-75 USD/bbl, but few studies and analysts set out the range of possible targets. These targets will necessarily be ‘heroic’, that is very high. One example would be a target of reducing per capita oil demand of the USA by 50% in 10 years, and reducing EU-15 (the highest energy members of the EU-25 group) PCOD by 33% in 10 years.
It can be noted that ‘Kyoto compliance’ for a few EU nations which have experienced quite fast economic growth through the 1990s to date (all EU nations have ratified the treaty), such as Ireland and Spain, will require these countries to reduce their oil and gas burn by as much as 30% in the ‘compliance period’ of 2008-2012. We can note that ‘Kyoto compliance’ also includes ‘tradeable licenses to pollute’, that is the potential for buying credits from low-energy, low-polluting nations. This however is effectively the same process generated by delocalization and outsourcing of industrial production (the net result being export of oil and gas demand). It is questionable if this form of globalization can generate sustained reductions in world oil demand, and will likely tend to increase world average PCOD.
International energy cooperation
The most important aspect of energy restructuring is the treatment of the ‘demand side’, rather than attempting to find ‘supply solutions’. World average PCOD is only about 4.7 bcy in 2004, and well over 70% of the world’s population utilises less than 3 bcy. This low or ‘modest’ oil consumption in fact shelters the economies and societies of low-consumer nations from the impacts of ‘oil shock’, again reinforcing the argument that reducing average PCOD inside the OECD group of countries is the most urgent task and priority – for the strict benefit and interest of OECD citizens. Economic and technical solutions to overdependance on oil and gas (and electricity) in the OECD nations may in fact be found in the low-consumer, nonOECD countries, and will necessarily include more extensive (instead of intensive) agriculture, more collective forms of transport, and utilization of biomass, solar, and other renewables.
Specifically concerning hydropower, it is noted that the very highest-possible EROI or ‘net energy yield’ (total energy output against energy required to build and operate installations) is with hydropower, and the lower-income, lower-energy countries have the greatest reserves of presently undeveloped hydro potential. Large-area, world regional electric power grid supply is therefore both rational and feasible, especially where smaller scale, more sustainable but higher capital cost hydro installations are built. It can be noted that OTEC or ocean thermal energy conversion is yet again a ‘tropical country resource’, or potential resource especially suited to integration with ocean fish farming or mariculture. Current interest in, and development effort in both these domains (large-scale regional hydropower, OTECs and mariculture) are almost non existent but this in no way reduces their huge potential, as with geothermal energy. Energy infrastructures will by necessity become ever more multiform or polyvalent, that is integrated with food and habitat support systems, requiring more detailed and integrative study of costs and payback.
Laisser-faire solutions are the road to ruin
Alternatively, we can wait for oil depletion signals to cause runaway price rises, triggering ‘panic’ or ‘defensive’ interest hikes in the OECD bloc. This will be a quick acting process leading first to monetary inflation, and then to economic inflation. The final result, which will also come rapidly, will not only be economic recession, but long-term economic depression similar to the 1929-36 period. Entry to long-term depression will surely cut world oil demand growth to zero, but actual contractions in demand will not in fact be lengthy or very significant. This can be appreciated by the ‘oil-shaving’ impacts of the 1980-82 recession, which was second only to the 1929-31 entry to, or slide into the Great Depression by the rate at which economic activity, business profits, employment, and merchandise trade were slashed. The 1980-82 recession yielded ‘only’ about 9.6% less oil demand at the world level over 3 years.
After peak oil it is likely that world oil supply will fall at around 3%-3.5% annual for several years, before accelerating to much higher annual rates.
Of course history ‘never repeats itself’, and the 1929-36 Great Depression may or may not have made World War 2 inevitable. Given the current and certainly continuing ‘clash of civilizations’ it can be suggested that subjecting the world economy to another great depression would be like throwing oil on an already bright-burning fire. If there is any lesson to learn from fast emerging limits on world oil and gas supply it is that oil is too precious to waste on fanning the flames of war.
Conclusions
Increasing oil and gas prices, up to levels around USD 75/bbl or barrel-equivalent (10-13 USD/Million BTU for natural gas) will certainly be called ‘extreme’, but will not in fact choke off world energy demand. The likely net impact of price rises to 75 USD/bbl, if interest rates in the OECD countries are not ‘vigorously’ increased to double-digit base rates, will be increased world oil demand due to continued and strong economic growth. This ‘perverse’ impact of higher prices will therefore tend to reduce the time available for negotiating and planning energy and economic transition. Only at genuinely ‘extreme’ oil prices, well above USD 100-per-barrel, will the pro-growth impact of increasing real resource prices be aborted by inflationary and recessionary impacts on the world economy.
This will come too late to offer any chances of organized and efficient economic and energy restructuring, especially in the OECD economies and societies, which are the most oil-dependent due to their high or extreme average per capita rates of oil demand.
Laisser-faire scenarios will necessarily include a new ‘Great Depression’ to a backdrop of already serious tension and low-level international warfare (‘war on terror’). Increased local self-reliance or ‘autarchy’, and de-globalization will necessarily feature in longer-term restructuring of the world’s energy and economic systems. The sooner that frameworks and structures for managing transition can be set and agreed, on a world wide basis, the more fossil energy resources can be retained for smoothing adjustment in the necessarily long-term projects and programmes that will be needed for achieving sustainability.
Making the case for energy transition and sustainable development is difficult, if not impossible, with political leaderships in the richworld drugged by the irrational slogans of ‘New’ Economics and the supposed inevitable and welcome effects of ‘conventional’ globalization. The likely, near-term oil spikes and shocks due to emerging supply deficits (which also apply to natural gas) may break the policy stranglehold that has descended like night on serious study, and following action to head off irremediable crisis.
Table 1: World per capita average oil demand and oil price trends 1965-2004
(estimated 2004 outturn)
Data sources for Table:
Population data/ UN Population Information Network (year average or « June » population estimate)
World daily average oil demand each year : BP Statistical Review of World Energy, various edns.
Peak annual oil price (2-month basis) for volume traded light crudes. World oil prices and deflators 1965-2004, and price forecast for 2004 are calculated by this author using multiple sources., including 'Oil economists handbook' Vols 1 & 2, G Jenkins, Elsevier Applied Science, various editions, Platts Oilgram, OPEC bulletin, Bloombergs, California Energy Commission ‘Delphi oil price forecasting series’, etc. See Table at end of article.
Table 2: Demographic rate of oil demand, 2004
TABLE 3: World per capita average oil demand and average natural gas demand 1965-2004
(estimated 2004 outturn)
Data sources as for Table above
World gas consumption in Million tons oil equivalent: as above. Conversion at rate 6.9 barrels = 1 ton
Price elasticity, inelasticity or ‘reverse elasticity’?
This question is merited by any serious analysis of actual, real world demand trends over the long period 1965-2004, shown in the above Tables. In addition, the large increase in physical availability of gas, starting and continuing through the 1980s, together with the extreme low price of gas (often below 1.75 USD/Million BTU, equivalent to oil at under 10 USD/bbl), contributed to oil demand shifting to gas, and not being eliminated through energy economic, or economic change. See Figure, below.
