Is Cheap Oil Compatible with Growth?

In one of Gregor's latest posts, he lays out a simple premise that cheap oil is incompatible with growth. He writes the following:

...The price signal given to the world from oil since 2002, in a context of flat global oil production, more than strongly indicates that oil at 45.00 dollars a barrel is not even remotely close to a sustainable price–unless a collapse in global industrialism maintains for some time to come. Thus we arrive pretty easily at a conclusion many now suspect: growth and cheap oil are incompatible...

click to enlarge

So, if the price of oil is dependent on supply and demand, then you have an increasingly difficult time arguing against cheap oil prices for the future. On the demand side, it would seemingly take a prolonged global recession/depression to keep demand down. On the supply side, it would mean that somewhere in the world there would need to be a discovery large enough that it could fend off demand for years to come. While this potentially could happen, the outlook for this scenario is still bleak. Just look at the chart above. While there have been some bountiful discoveries every 10 or 20 years, each subsequent discovery has provided less production than the last.

Then there is the wrench that is alternative energy. Throw that into the mix, and you could potentially see it affect oil. But, the main caveat with that argument is scale. Alternative energy would truly take years to bring to scale, and, we would argue that for it to be implemented en masse, it would require high oil prices in the first place. After all, now that we're seeing relatively 'cheap oil' again these days, the alternative energy buzz has noticeably dropped off. Sure, many (us included) still advocate pushing for green energy, but the catalyst for such an event is more than simply buzz or increased awareness. It is expensive oil. Only when the masses are emptying out their pocket books for gas (as they were this past summer) does the spark ignite the fuse.

Comments

[Michael Fit...:]

the only way to save the US economy in the long term is adoption of a strategic long-term comprehensive energy policy:

thefitzman.blogspot.co...

we are entering an era in which worldwide oil supply will simply not keep up with worldwide oil demand. the current low prices of oil and gasoline are simply due to the drastic demand destruction as a result of the financial crisis, the US, which imports 70% of its oil from foreign sources, is the most exposed economy on earth to the realities of future oil supply/demand realities. yet, our politicians, media, and the public in general just keep ignoring the magnitude and challenge of this oil crisis. you'd think $145/barrel and $4.50/gallon gasoline would have taught them something. on the other hand, i think obama "gets it", but his windfall profits tax comment and lack of focus on domestic natural gas and NGV's as a great way to reduce oil imports still leave me with lingering doubts.

2008 Dec 18 09:51 AM

[TomF75:]

I agree Fitzman, here are some stats that both disturb me & boggle my mind:

Canada 24.98 bbl per capita/year
USA 24.82 bbl per capita/year
Korea 16.12 bbl per capita/year
Australia 15.31 bbl per capita/year
Japan 15.30 bbl per capita/year
Germany 11.63 bbl per capita/year
Britain 10.86 bbl per capita/year

I just cannot fathom how the US & Canadian economies can be so vastly innefficient that they consume nearly DOUBLE per capita the oil the rest of the industrialized world does (including the Australians who love big fast cars as much as we do). Granted these stats are based on 2005 consumption, and hopefully the gap has closed somewhat, but something tells me it is probably bigger!

2008 Dec 18 10:50 AM

[Pent up demand:]

Looking at barrels of oil per capita is a nonsense measure. Look at barrels per unit of GDP. The picture is probably a lot more sensible. Even then, if country A derives most of its GDP from energy intensive industries and country B does not, there can still be an imbalance.

It's similar to pollution. Most pollution has gone down over the last few decades in western countries while exploding in China and India. We pat ourselves on the back for being so responsible, when in fact all we really did was shut down our dirty industries and send them overseas.

2008 Dec 18 11:02 AM

[David White:]

For the US economy, cheap oil is definitely compatible with growth. In fact the US economy is dramtically hurt by high oil, since we are the biggest oil gluttons in the world (more oil per capita by far than any other country). All the money we pay to foreign countries for this oil flows out of the US economy. This is a severe drag on the economy. The low oil prices are a boon for the US, even if they are only temporary. We should use this time to move as quickly as we can to alternative energy such as solar. Otherwise we will soon be in dire economic straits again. If you recall the last really bad recession wa brought on by the oil crisis of the early 1970's. You could well argue that this one was too to a large extent. We say real estate now. However, the depressing effect of high oil on the economy may have exacerbated the real estate problems until they became a crisis. It could well be argued that high oil was again the culprit in a bad US recession. It is time we wake up to the fact that we need a good long term solution for this -- alternative energy. Also the greenhouse gas's effects are a serious problem which are largely due to oil use. That has to be dealt with quickly too.

As an aside, it very much looks like the Bush administration will try very hard to deliver a pre-Christmas Christmas present to the markets (of saving the Big 3 automakers). If anyone can pull it off, Paulsen should be able to. He has those great negotiation skills from his time at Goldman Sachs.

2008 Dec 18 11:24 AM

[retired358:]

TomF: The pure stats of per capita consumption are misleading in that GDP and climate (e..g., Canada) are a major component.

One needs to look at the consumption of the developing world (China, India, others are a tiny fraction of OEDC - Industrialized countries consumption). What is really scary about those numbers is that they are so small - and does anyone think they do not want to improve their standard of living?

Having spend years in the industry, I do not see where this supply will come from short term (next 20 years).

Crude prices will go up.

The US needs a comprehensive energy policy and congress is incapable of understanding or doing anything constructive in this area.

2008 Dec 18 12:11 PM

[Steven Hansen:]

Cheap oil always occurs in economic recessions. Higher priced oil occurs during economic expansion. it is not a cause and effect relationship.

But when oil prices fall below the profit level for expanding the oil supply, the 'cheap' oil becomes one of the causes of economic contraction.

When oil prices rise to the point where the activity it is being used for must be stopped as it is uneconomic, then oil becomes one of the causes of economic contraction.

for everything in between, oil prices do not effect economic growth.

2008 Dec 18 11:27 PM

[john s. gordon:]

tomF - back out the barrels per capita used for heating and chemical feedstocks (e.g., rubber tires, plastics, whatever) & you might have a more meaningful comparison.
> jack

2008 Dec 19 09:10 AM

[Ferdinand E...:]

I agree with Fitzman: a strategic, long-term comprehensive energy policy is the way to go. The question is, who is going to design that policy? I also agree with the author of this article that getting the 'right' energy policy will take time, and so the thing to do is to get started now, regardless of what happens to the oil price.

2008 Dec 19 10:33 AM

[Old Wizard:]

The new administration has a golden opportunity to jump-start a broad effort to create significant alternatives to oil energy generation projects. So far, however, there seems to be a refusal to set significant near term goals for the import of less oil. I don't understand how any progress can be made to an implementable plan without setting specific targets with specific dates. Interminable discussions could ensue and have occured over the best way to proceed, but as has been said before, best is often the enemy of good. I believe that several good alternatives are understood well enough to create significant pilot projects now. Only the government can be the money primer, if we are to set aside the cost-effective arguments. A government with vision cannot wait for the economic stangulation point to occur before it acts because of the lead times required to solve the problem. Speaking of lead times, contrary to popular opinion, it is the political process which is often the longest pole in the tent and if the new administration gives into the tower of babel legal hurdles that pressure groups have and will employ, we can expect little or no progress until a depression or war changes priorities.

2008 Dec 19 02:24 PM

[perceptions...:]

It's all about perceptions & reality!

Price rose, on the perception that demand would exceed supply, because oil had Peaked and OPEC could only influence supply, at the margins!

Whereas price has fallen, on the reality that demand is slowing dramatically, due to the global economic downturn and even massive supply reductions by OPEC would only influence Price at the margins!

There are a number of causes for global economic slowdown, with Peak Oil Price hike being one, but other causes include Climate Change perceptions and driving everything Global Demographics (Population – Total & Aging) and the perennial favourite, GREED.

We can largely forget old remedies, as we have entered a new paradigm, one in which the old economics of Growth will have no place.

The future will be more about reductions, in our effect on our climate, in consumption of Oil and in the Global population.

However, in the short term, there is one more big increase to endure and that is in our aging population, in the number of Baby Boomers that will first cease their peak earning & spending years and then retire, before leaving us forever.

Finally, time is shorter than thought, it will take a long time, if indeed it is possible, to replace oil, for all of its uses.

2008 Dec 20 08:29 PM