How High Will Oil Prices Rise?

Either Learn from History or be Condemned to a Worse Fate

The demand for oil is increasing steadily as economic growth speeds up in Asia, the Middle East, and in the Southern Hemisphere in general. Meanwhile oil stocks in the US are about average. Demand is falling in the US, due to slowing economic growth. Nevertheless, the global price of oil keeps rising.

Some have pointed the finger of blame at financial speculators, who, believing that the price of oil is going to continue to rise, rationally buy more of it, thereby artificially pushing up the price. This is how speculative bubbles are produced: the belief in rising prices causes greater demand, which in turn fulfils the expectation, leading to yet more speculative demand—until . . . One day, the house of cards comes crashing down and the speculators lose their shirts, or kaftans, or whatever.

Some analysts have concluded that speculation accounts for around 30% of the current price of oil at US$135 per barrel. This appears to be the view of Boeing Corporation which has recently announced that it expects the price of oil will fall back to a long term average of between US$70 and US$80 per barrel.

Maybe. It is very hard to predict successfully. Ordinarily the prognosis would be fairly simple. Oil shortages (due to increased demand from developing countries) would lead to a rise in the global price of oil (tick). Overall consumption would drop somewhat due to the rising price (tick). Global oil consumption has stabilised for the present. It has fallen slightly in the US. The higher prices, however, will mean that production will rise globally as oil producers seek to maximise their profits, and oil explorers and field developers, encouraged by the higher price, discover more oil and bring it onstream (cross). This increase in supply would lead to a falling oil price over time.

But things are not normal. The supply of oil is not increasing in response to the higher price. This implies that the problem is not one of increased consumption of oil, but of inadequate supply. According to the Economist, the output of several big exporters, such as Russia, Mexico, and Venezuela, is declining. None allow foreign oil firms access to the country to prospect or develop oil fields. The Middle East is likewise generally off limits to foreign investment.

Worse, Western nations are now in the inexorable grip of greenist global warming theories. This has led governments to stop the development of oil fields. The US Congress has declared that there will be no drilling in the Gulf of Florida or in the Arctic—which of course, includes oil rich Alaska. Thus, the US—one of the most oil rich countries in the world, as well as its largest consumer, has its supply of oil constrained by luddite, scaremongering greenism.

The oil shocks of 1973 and 1974 were caused by OPEC, the Middle East oil cartel, deciding to restrain supply. Prices shot up and the world economy suffered. It was the cause of regulated “car-less days” in New Zealand—one more governmental, bureaucratic idiocy that created more of a problem than the one it was intending to fix. It also led to Muldoon's Think Big projects, which squandered untold wealth. These catastrophic responses to the oil shocks brought the New Zealand economy to its knees.

Of course the effect of the oil shocks was exacerbated many times over by bankrupt government policies trying to cope with the problem. In the end, government fiscal discipline evaporated like the morning dew, leading to reckless overseas borrowing and huge public deficits, rapidly rising inflation, and the eventual imposition of wage and price and interest rate controls.

Ironically, the Western world broke the power of OPEC by increasing the exploration for, and production of, oil. Now, it is the lunacy of the greenist West that is exacerbating (if not creating) the problem. The greenist West is the new OPEC.

What then is likely to be the outcome? It is difficult to say. But, if this analysis is correct, Boeing will turn out to be wrong. Oil prices will continue to rise on average for the medium term. The greenist governments of West are likely to continue to exacerbate the problem by looking for scapegoats (other than themselves) , attacking oil companies with “windfall taxes” and other strategms which will have the effect of reducing supply still further.

A solution may arise in the developing world. China and India are unlikely to be hobbled by greenism. Nor are they likely to put their economies at risk. They are likely to engage in geo-political manoeuvering to secure longer term, growing supplies of oil. Hopefully, this will not be done out of the barrel of a gun, but with bilateral trade agreements that will lead them to invest heavily in increased oil exploration and production in those countries that are likely to welcome their overtures—that is, the poorer southern hemisphere countries. In exchange, they will enter into longer term price-fixed oil contracts with China and India.

The solution will not be immediate, but within ten years the greenist lobby in the latter-day pseudo OPEC West will be irrelevant. It will have succeeded only in making its host countries poorer. Meanwhile, the balance of economic and political power will have definitely tipped to the emerging giants of the Southern Hemisphere.