Encyclopedia
The price of standard
crude oil on
NYMEX was under $25/barrel in September 2003. By August 11, 2005, the price had been above $60/barrel for over a week and a half. A record price of $78.40 per barrel was reached on July 13, 2006, due in part to
North Korea's missile launches,
Middle East Crisis, Iranian nuclear brinkmanship and reports from the U.S department of energy showing a decline in petroleum reserves. While oil prices are considerably higher than a year ago, they are still roughly $14 from exceeding the inflation-adjusted peak of the 1980 shock, when prices were over $90 a barrel in today’s prices .
In the United States gasoline prices reached an all-time high during the first week of September 2005 in the aftermath of
Hurricane Katrina. The average retail price was nearly $3.04 per gallon. The previous high was $2.38 per gallon in March 1981, which would be $3.20 per gallon after adjustment for inflation.
Supply
There are a number of reasons why oil traders feel that oil supplies might be reduced. One of the most important is growing turbulence in the Middle East, the world's largest oil producing region. The
war in Iraq, Iran's nuclear program, and internal instability in
Saudi Arabia could all lead to a dramatic fall in the supply of oil. Outside the Middle East other oil producers with their own issues have caused worry for investors, such as the strikes and political problems in
Venezuela and potential instability in
West Africa.
In late August, 2005,
Hurricane Katrina crippled the supply-flow from off-shore rigs in the
Gulf Coast, the largest source of oil for the domestic U.S. market. Short-term shutdowns because of power outages knocked out two major on-shore pipelines, and at least 10% of the nation's refining capacity was not operating in the wake of the storm. Gas prices in the region, normally 70 cents below the national average, were at $3.12 on August 30.
World supply came in at 83 million barrels a day during 2004 in department of energy EIA calculations . This rate of increase is faster than that of any other date in the past. Despite this increase in supply, prices have continued to rise, leading to increasing discussion of
peak oil and the possibility that the future may see a reduced supply of oil.
Even if oil supplies themselves are not reduced, some experts feel the easily accessible sources of light sweet crude are almost exhausted and in the future the world will depend on more expensive sources of heavy oil and alternatives.
The short term price of oil is partially controlled by the
OPEC cartel and the oligopoly of major oil companies. One other important cause is the
United States dollar's slump against the
Euro. Since oil is traded in dollars, the price must increase for OPEC to maintain purchasing power in Europe.
Causes
Some people and news agencies argue that labor strikes, hurricane threats to oil platforms, fires and terrorist threats at refineries, and other general problems are not responsible for the higher gas prices. Critics argue that these problems periodically push price higher, but that they are not fundamental or long term enough to cause the large jump in gas price. A more fundamental problem that some believe is causing the price to rise is the probability of
peak oil already or soon being reached. Not only is there a limited amount of
fossil fuel which has been burnt as fuel, but the remaining accessible supply will be consumed more rapidly by a growing, industrializing
Third World. What fuel remains will be more difficult to extract since the easiest wells have been tapped. Producing many remaining known reserves is more technically difficult and therefore more expensive, so it is only economically feasable in high oil price environments. The remaining sources have not been discovered or at this point in time are unable to be utilized due to political turmoil or other reasons of instability in the countries of discovery.
Others believe that the price of oil is almost entirely speculative, and that the increase in price is due to oil speculation extending into the long term. These people argue that speculators foresee increasing demand, decreasing supply, or both, leading to a long term increase in the price of oil. If these speculators are wrong, current prices may actually be a
price bubble, and the price could thus collapse. A July 14, 2005
Morgan Stanley report suggests that opinions of the oil market could burst just like a bubble if indications of declining Asian demand continue.
Still others suggest that the main issue is a lack of energy efficiency in general. These analysts believe the problem would be solved by increasing the efficiency of factories, homes, transportation and easing the demand crunch by using less energy and more renewable energy.
The
United States has the largest demand for oil by far, using around 25% of the world's total oil production and 40% of the world's gasoline production-- with only about 5% of the total
world population. Due to depleted domestic reserves and expanding demand each year, aproximately 2/3 of the oil and gasoline consumed by the U.S. is being imported from foreign countries. This dependency leaves the U.S. highly vulnerable to any supply disruption and/or ratcheting up of prices.
Hidden cost of oil
Critics of the oil industry argue that the true cost of oil and subsquently gasoline are much higher than wholesale oil markets or retail gasoline prices reflect. Some estimates put the The hidden oil/gasoline costs consist mainly of tremendous spending on military protection of world oil supplies.
The argument comes down to this: if such hidden costs were reflected in the wholesale and retail prices, instead of being subsidized by the general taxpayer, oil and gasoline would be far more expensive than they are today. This hidden cost has the effect of providing oil and gasoline a competitive market advantage over other alternative energy schemes.
Spring and summer 2005 increase
After retreating for several months during the winter of 2004/2005, prices rose to new highs in March 2005. The price of light, sweet
crude oil on
NYMEX has been above $50/barrel since March 5, 2005. On March 16, 2005, the price surpassed the October 2004 high of $55.17 to close at $56.46. In April 2005 the price began to fall, reaching $53.32 on April 9. It then reversed course and headed to an all time high of $58.28, driven mainly by lingering concerns of a prolonged weak dollar. In June 2005 crude oil prices surged to record highs eventually breaking the psychological barrier of $60.
Hurricane Katrina
Hurricane Katrina had a major impact on oil and gas prices, especially within the United States. The Gulf Coast is home to a major portion of America's refining capacity. The port of Louisiana is one of its most important inlets for oil imports, and the gulf itself is a major oil producer.
Port Fourchon has also suffered long term damage. Louisiana Offshore Oil Port has not.
Gas prices soared after the closing down of the major pipelines connecting the gas of the Louisiana region to the entire East Coast. In Stockbridge, Georgia, regular gas prices came to $5.87 at a BP station. Shortages were feared or experienced in several states including Tennessee , Alabama , and South Carolina. Many of these were blamed on panic buying. Airports began to report shortages in aviation fuel on 2 September. A shortage could lead to a decrease in food production. Higher prices for heating oil and natural gas were expected as the winter heating season set in.
On 5:10 p.m. EDT, on 31 August, President Bush announced the Energy Department was approving loans from the Strategic Petroleum Reserve; additionally, the EPA announced a nationwide waiver on fuel blend requirements. Bush stated, "This storm has disrupted the ability to make gasoline and deliver gasoline," and "This is going to be a difficult road." Many people have observed however that stores of crude oil do little to address inadequate
refinery and
distribution capacity due to environmental and NIMBY concerns.
In order to stabilize world energy supplies, the
International Energy Agency offered to sell two million barrels of crude oil and other refined products from national supplies. These supplies would begin entering the US markets within two weeks of 2 September. The press release from the IEA states, "... the implications for the oil market are global."
Winter 2005/2006 increase
On January 17, 2006 crude oil for February delivery rose by $2.38 to $66.30 a barrel. This was the highest increase since early October 2005. Observers believe that violence in Nigeria, and Iran's friction with the West are responsible for this price increase. Continued concerns about Iran raised the price to $68.38 on January 31. However, due to rising stockpiles of crude oil and an abnormally warm winter, as of February 14, the price of crude had hit a 2006 low of $59.60.
Spring/Summer 2006 increase
Regular gasoline prices were averaging $3.04/gallon across the U.S. in August, 2006. Adjusted for inflation, this U.S. price is the highest in 25 years. The all-time U.S. inflation-adjusted record is approximately $3.20/gallon, set in March, 1981.
In July 2006, crude oil for August delivery traded over $79/bbl , an all-time record. The early and mid-summer 2006 runup is attributable to increasing gasoline consumption, up 1.9% year over year in the U.S., and geopolitical tensions as North Korea launched missiles, the Iran nuclear standoff drags on, and
Israel and Lebanon went to war. The early spring 2006 runup in prices has been attributed to a number of factors, including continuing supply disruptions from the summer 2005 hurricane season , supply disruptions from the changeover from
MTBE to
ethanol, lingering concerns over
Iran and
Nigeria, and anticipation of higher summer demand. Hostilities in Nigeria alone have caused a supply disruption of 675,000 bbl/day. On August 7, BP shut down its Prudhoe Bay, AK field due to pipeline corrosion, bringing supply down by up to 400,000 bbl/day or about 8% of total U.S. production.
"Rationing by price" is a reality because near-stagnant world crude supply is not meeting ever-increasing demand, as witnessed by oil shortages in Africa, India, and China. It is possible that the apex of
peak oil production has or will soon arrive, and an
energy crisis is possible in the U.S., by far the world's biggest oil consuming nation. With approximately 5% of the world's population, the U.S. uses about 25% of the world's oil and 40% of the world's gasoline produced each day -- about 2/3 of which are imports. This dependency leaves the U.S. highly vulnerable to any supply disruption and/or ratcheting up of prices.
The Iranian situation is particularly troubling, as the possibility of an attack on Iran by Western powers looms due to their alleged
nuclear weapons ambitions. Such an attack could create serious oil supply disruptions, because Iran sits on the eastern flank of the
Straits of Hormuz, the channel in which almost all of the oil from the
Persian Gulf flows through on tankers to industrialized nations. Iran could take measures to disrupt that supply if they are attacked. A blockage of the Straits of Hormuz would disrupt a significant percentage of world oil supplies, and could potentially send oil prices to $100.00/barrel or more, which would put gasoline in the $5.00/gallon range in the U.S.
The higher price of oil has yet to cut world-wide demand, as witnessed by ever-increasing year-over-year worldwide oil consumption. Robust demand growth continues in the U.S., China and India in spite of higher oil prices. Substantial
energy conservation and demand destruction will probably take place only after average U.S. gasoline prices are sustained in the $4.00-5.00/gallon range. This would equate to the psychologically-significant level of $100.00 or more per fillup of an average
SUV or full-size pickup truck.
Oil prices began to decrease at the end of the summer of 2006, closing below $66/barrel on September 11. The national average gas price dropped to $2.70/gallon in early September, down $0.11 from the previous week. Some cities were seeing average prices below $2.40/gallon.
As of September, prices continue to fall, and the average cost of gasoline per gallon is below $2.50. On September 19th, crude oil fell $2.14 to a 6-month low of $61.66. The recent significant fall in the price of crude oil has led some to speculate that price of gasoline may fall to as low as $1.15/gallon
Effects
There is controversy regarding the potential effects of oil-price shocks. Some see these increases in the price of oil leading to a recession comparable to those that followed the
1973 and 1979 energy crises or a potentially worse situation such as a global
oil crash. Most economists see this as unlikely, partly because all developed countries have high fuel taxes that decrease as oil prices increase and can be eliminated in the event of a dramatic price spike. Nevertheless, that loss of revenue would put a strain on government balance sheets. The American Strategic Petroleum Reserve could on its own supply current U.S. demand for about a month in the event of an emergency, unless it were also destroyed in the emergency. This could well be the case if a major storm were to hit the gulf, where the reserve is located. While total consumption has increased , the western economies are less reliant on oil than they were twenty-five years ago, due both to substantial growth in productivity and the growth of sectors of the economy with little oil dependence.
In the United States, for instance, each $1000 dollars in
GDP required 2.4 barrels of oil in 1973 when adjusted for inflation this number had fallen to 1.15 by 2001.
For calendar 1981, United States oil consumption was 5,861,058,000 bbl and GDP was $5,291.7 billion , a ratio of $902.86/bbl. In 2005, consumption was 7,539,370,000 bbl and GDP was $11048.6 billion, a ratio of $1465.45/bbl.
Oil's historically high ratio of Energy Returned on Energy Invested continues a significant decline. Despite the rapid increase in the price of oil, neither the
stock markets nor the growth of the global economy have been noticeably affected. Inflation has increased. In the
United States, the
Consumer Price Index rose by 0.6% compared to 0.2% for September 2005. This was driven by a 4.2% increase in energy costs. As a result during this period the
Federal Reserve has consistently increased
interest rates to curb inflation.
Economists say that the
substitution effect will spur demand for alternate energy sources, such as
coal or liquified natural gas. For example, China and India are currently heavily investing in
natural gas and
coal liquefaction facilities. Nigeria is working on burning natural gas to produce electricity instead of simply flaring the gas, where all non-emergency gas flaring will be forbidden after 2008. Outside the US, more than 50% of oil is consumed for stationary, non-transportation purposes such as electricity production where it is relatively easy to substitute natural gas for oil.
The increased price of oil also makes previously impractical sources of oil attractive to businesses. The most prominent example of this are the massive reserves of the Canadian
tar sands. They are a far less cost-efficient source of heavy, low-grade oil than conventional crude, but with oil trading above $60/bbl, the tar sands have recently become attractive to businesses. Recent months have seen billions of dollars invested in the tar sands.
Prior to the runup in fuel prices, many motorists opted for big, fuel-thirsty
sport utility vehicles and full-sized pickups in the United States, Canada and other countries. This trend is now reversing due to sustained high prices of fuel. The September 2005 sales data for all the vehicles vendor indicated SUV sales dropped while small cars sales increased compared with 2004 sales. There is also an ever increasing market for
hybrid vehicles and
diesel engine vehicles since they are more fuel efficient; since the
1973 energy crisis, the four-cylinder
front-wheel drive passenger car has replaced
rear-wheel drive as the preferred layout for energy efficient cars. There is increasing demand of "crossover" sport utilities which are marginally more fuel efficient than traditionally heavier truck-based SUVs.
For the working class , those who have older vehicles averaging less than 20 MPG usually face several alternatives - commuting via public transportation , carpooling, motorcycling, scootering, bicycling or walking and/or relocation into the inner city if one resides in suburban/exurban areas.
Many businesses are moving away from 24-hour operation since the higher prices discourage past lifestyle trends. Some restaurants close their doors at 9 or 11 p.m., and/or neighborhoods known for a 24 hour culture reduce their operating hours. Airlines, trucking and delivery-intensive service businesses are introducing fuel surcharges and/or scaling back their operations in an effort to trim spiraling fuel costs.
Many school districts have been particularly impacted by the high cost of fuel to run their large bus fleets. Child advocates envision a return to the traditional method of walking or bicycling to school, helping to mitigate the growing
childhood obesity epidemic in the U.S.
Rail shipping is gaining a greater market share over commercial trucking because of lower costs per ton-mile and better fuel efficiency. Over long hauls, rail is up 9 times more efficient than trucking. Modernizing the rail system in the U.S. to European standards would save enormous quantities of fuel as goods and passengers shifted away from trucks and cars respectively.
USA stock markets
The increase in oil prices over two years was mirrored by an increase in stock values in the energy sector. Energy ETFs like XLE and OIH did well during the period, with XLE's price increases from $26 to $54 , and OIH's price increases from $60 to $143. These two remains the diversified energy stock play should oil price continue to hold or rise.
The value of the stock in companies such as Apache and Conoco-Phillips rose sharply during this period. These prices increased more rapidly toward the end of August, particularly after
Hurricane Katrina.
Wal-Mart shares continued their decrease in value that began with the increase in the oil prices. Over two years, stock in Wal-Mart dropped in value by 25% from $60 per share to under $45 per share. Earlier in August, Wal-Mart announced that higher than expected oil prices cut into the corporation's profits for the 2nd quarter of 2005. Since oil prices after the end of the 2nd quarter continued to rise, 3rd quarter profits from Wal-Mart are expected to be small. Because Wal-Mart's distribution system relies on the customer to drive to a large discount
big-box store, increases in the price of fuel might discourage some customers from making the trip as often. Wal-Mart, like all retailers, will also face higher shipping costs to get goods from the factory to the stores. This will likely cause inflationary pressures.
Asia Pacific region
The
Pacific rim had been experiencing oil shortages on an ongoing basis prior to Hurricane Katrina. Some countries are increasing production of biofuels to offset the higher costs of oil.
Sub-Saharan Africa
High oil prices are hurting many countries in
Africa, including
Zimbabwe,
Eritrea and
Tanzania. High oil prices have created an oil supply instability, per barrel price instability or both. In some cases this has led to fuel rationing being enacted. Many countries in Sub-Saharan Africa lack the foreign exchange reserves to purchase enough oil products at the ever increasingly higher prices. These nations must resort to limiting imports or rationing their existing supplies.
Latin America and Caribbean
Venezuela's president,
Hugo Chávez, came under increasing scrutiny as he began selling oil at lower-than-market prices to cash-strapped U.S. consumers, as heating oil, and to island nations in the Caribbean such Cuba. At the same time,
Cuba has experienced electricity shortages.
Gulf States and Eurasian Arab-Islamic regions
Iran came under increasing pressure from the
European Union in regard to their program to build nuclear power plants.
Some stock markets in
the GCC, notably in
Saudi Arabia and
Dubai, experienced a boom, roughly 100% index increase in the Saudi stock market. However, this boom was followed by a market crash. A number of planned projects to stir development, such as
King Abdullah Economic City, have been proposed due to $29.3 billion surplus. On May 1, 2006 Saudi Arabia lowered prices on all hydrocarbon fuels for local consumption; 95
octane gasoline costs 0.65 USD/gallon .
See also
Notes
External links and sources
- How derivatives drive oil prices up, despite ample supply in physical oil market, .
- Andy Xie, MorganStanley economist for Asia, commenting on possibility that oil is financial bubble,.
- , An analysis by Henry C.K. Liu in Asia Times Online, details the economic impact of high oil prices.
- "261 billion barrels in reserve..."
- Graph of oil prices in relation to other fossil fuel prices.
- an Economist article about oil price inflation and concerns
- with diesel and gasoline prices of 172 countries
- Fuel prices in EU countries updated weekly, includes information on taxes and VAT.
