It has now been more than thirty years since the world last faced a major oil crisis, although there have been numerous “crisis blips” along the way. But the latest medium-term forecast from the International Energy Agency suggests the world is now approaching a major oil supply crunch within the next five years. It also warns of tight gas supplies.
In truth the fears about an oil supply crunch, or crisis, have been brewing ever since the last oil crisis ended. Western governments, and particularly that of the US, talked enthusiastically about alternative energy supplies to oil as they sought to free themselves from reliance on foreign oil. President Nixon started the process with his ‘Project Independence’ in 1973, president Carter declared that the US should receive a fifth of its energy from solar power by 2000 and the current tenant of the White House has continued this theme of trying to wean the US off foreign energy dependence.
Yet the US government’s bullish rhetoric on hydrocarbon (and in particular foreign oil) independence has not been reciprocated with action. A quarter of a century after Carter’s solar energy vision just 1% of US energy demand is met by solar. The US still remains highly addicted to oil with 97% of its transport run on oil. But the real problem lies not so much with its oil addiction as with its receding control over its oil supplies and the significant supply risks that this entails.
Currently the US is only meeting just over a third of its oil demand from indigenous supplies with the rest coming from imports, and most of its imports are from Opec member countries. And the UK fares little better. In its recent Energy White Paper the government forecast that 39% of its primary energy demands in 2020 will be met by oil (with a further 40% from gas), but that most of this demand will be met by imports.
The crux of the looming energy crisis, says the IEA, is that non-Opec oil production is expected to grow at just 1% per annum over the next five years, but that oil demand growth is forecast to be almost double this at 1.9%. Driving this incremental demand is the surging economic growth in Asia, and in particular in China and India, and this demand growth will continue long beyond the next five years. So if the world is facing a supply crunch by 2012 what will it be facing by 2017 or 2022?
There is, of course, a ‘solution’ to this looming supply-demand imbalance. The IEA believes that Opec should respond to the demand growth by increasing its production, yet the cartel remains unconvinced by the IEA’s statistics and believes there is sufficient oil to meet demand. And Opec is arguably right. Its spare capacity is equivalent to 2% of world demand and it has identified other fields to develop. But if Opec were to increase its supplies to meet the forecast demand growth the reduction in its spare capacity would remove much of the supply flexibility currently enjoyed by the cartel, which in turn allows it to influence market prices and maintain the high oil revenues essential to supporting its member’s economies.
The medium-term supply crunch may not happen, but even if it does not the real issue is not five years hence but 10 and 20 years ahead. The world’s oil and gas market is changing. The seeds of oil nationalism seen in Venezuela and Bolivia, the ongoing violence in Nigeria that is associated with nationalism, and the Russia-Ukraine gas crisis reflect the increasing economic and political importance of energy supplies. Energy supplies are being consolidated into a few regions, but these regions do not correspond to the highest demand, and the fear is at these regions will use energy as the new nuclear warhead.
Western governments are faced with a series of challenges. They have to advance technology to recover the last reserves in mature oil and gas fields such as the UK continental shelf, they have to play politics with the new ‘energy warlords’, and they have to wean themselves off their hydrocarbon addiction.
Hydrocarbon alternatives do exist. Environmentalists have long argued for energy alternatives to oil and their argument has been bolstered in the past decade by the climate change debate. But aside from the investment and time required to develop new renewable energy technologies there is an associated risk that development of these alternative energy sources will exacerbate the oil supply, and hence energy security, problem.
Following president Bush’s State of the Union address in January, when he promoted biofuels as a way of reducing dependence on foreign oil, Opec responded with threats to cut back its investment in new exploration and production, its rationale being that increased use of biofuels would reduce oil demand certainty, and thus make its planned investment in new exploration and production uneconomic.
As was the case thirty years ago during the last major oil crisis Opec seemingly holds all the aces. And some believe the only way to secure future oil supply margins is to force demand down through higher oil prices, which in turn would, they say, likely encourage Opec to invest in new production to reap the economic benefits.
The world’s hydrocarbon addiction is a difficult habit to kick. Renewable energy sources do provide a potential “oil patch” to help wean governments off oil but it is unlikely to be effective for several decades. Indeed some believe the hydrocarbon addiction will only be cured when there is none left.
For too long the world has been focused on climate change without looking at the wider picture. There have been frequent calls from sectors of the market warning of the risks to energy supply security by leading energy policy from a climate security perspective. But all too often these warnings have been dismissed by environmental rhetoric with governments, particularly in the EU, seemingly frightened to upset the powerful environmental lobby.
A good example of this is the nuclear debate in Europe.
This latest report from the IEA should not be treated as a prophesy of doom but as an important wake up call to a market that has let itself be seduced by the environmental argument, and in doing so has inadvertently directed its attention away from supply security.
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