Oil producers at a crossroads

Economic growth, Futures trading, Leverage, Oil markets

The blog has been thinking about last week’s leaked report from the International Energy Agency (IEA). This said that the world needs “to invest $360bn each year until 2030 to replace falling oil production and increase supply”. The IEA based this sum on a new analysis of 500 oilfields, which showed the current depletion rate was 9.1% every year, and 6.4% even if companies invested in more wells at each field.

This means that the world is currently losing nearly 8mbd each year of current oil supply due to depletion, more than double the previous 4% assumption. Even the 6.4% rate means 5.5mbd of new oil needs to be found each year, just to keep supply stable. And, of course, demand has been growing in recent years, due to industrialisation in emerging economies in Asia, the Middle East and Latin America. This demand growth means more oil has to be found.

And there is another aspect to the issue. This is that OPEC countries, who produce 44% of the world’s oil, are facing major problems from the global recession. According to Bloomberg, Dubai’s government-controlled companies owe “at least $47bn, more than Dubai’s GDP”. The money has been borrowed on the back of a huge property boom, and the expectation that tourist numbers will double to 15 million by 2015. Other oil producers, including the 2nd largest, Russia, are in similar difficulties.

This would suggest that oil prices need to rise, on a permanent basis, in order to encourage exploration and production. Equally, oil producers need higher prices if they are to balance their budgets, and avoid social unrest. But at the moment, with destocking underway around the world, prices are instead under downward pressure. OPEC has already had to announce cuts of 1.5mbd, and may be forced to announce more, just to try and stabilise prices at today’s $60/bbl.

Oil prices will probably remain under pressure whilst the current period of destocking continues. But after that, they could easily spike quite sharply, even if underlying demand is actually quite slow, as OPEC is likely to be cautious about raising production once more. And longer-term, today’s relatively tight supply/demand balances may well continue. Ongoing price volatility, and a global recession, will make it difficult to fund the large investments that the IEA says are needed.

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