Friday, November 26, 2010

What is going on in the world of oil supply and demand?


I am never shy of copying data from other websites as part of my investment 'research' for this blog. One of the most informative sites is http://www.theoildrum.com/

So from time to time I crawl over this site and combine their data with my own knowledge and experience to come up with an idea about the future of oil. So let's first have a look at Canada's significance in the world's oil supply. Figure 1 shows world oil production from 1980 until 2009. Oil production increased for most of the 20th century but has flattened out in the first decade of the 21st century at 85 to 86 million barrels per day. Assuming an oil recovery factor from a typical reservoir of 50%, we empty a decent sized oil pool of close to 180 million barrels each day.

For comparison a typical S.Alberta pool, the Horsefly Lake Lower Mannville has been on production since 1965 in S. Alberta. Since then the pool went from primary production through a successful water flood production scheme. Starting in 2005, enhanced oil recovery (EOR) in the form of a Polymer flood has been attempted with mixed results. The pool counts 216 wells of which 51 are injectors and the remaining 164 wells are producers. Total oil produced from this pool as around 2007 was 14 million barrels.

Fig.1

 So obviously OPEC constitutes the largest group of producing countries producing 35 million barrels per day or so. The next largest group of producers are the countries of the Former Soviet Union. The OECD countries (including Mexico) produce around 20 million barrels. Canada is part of the OECD. Figure 2 shows its contribution to OECD exports. Canada exports to the rest of the world a whopping 1.2 million barrels per day compared to the OECD's largest exporter, Norway, which exports some 2 million barrels per day.

Fig. 2
   However, Canada is one of the few countries in the world whose oil exports are actually on the increase and if you believe future extrapolations we may export as much as 3 million barrels per day not that far into the future. In North America, Canada may be an energy superpower and we even may be so when compared to the other OECD countries, but we pale in comparison with OPEC and the Former Soviet Union. Currently Canada's total production is around 3.4 million barrels per day (Fig. 3) while it consumes just over 2.2 million barrels.

Fig. 3
  Let's dig a bit deeper. Many oil producing countries such as Venezuela, Saudi Arabia, Libya, Iran are dictatorships, or unstable budding democracies such as Indonesia and Mexico. Not only that, but in every single one of those countries, the oil industry is controlled by the state. That is why it is increasingly more difficult for the large traditional oil companies such as Exxon-Mobil to find and develop new reserves in the private sector. Canada is one of the last bastions of 'unfettered' oil capitalism. Yet, together with the U.S. and Europe we are also the leaders in hydrocarbon producing technologies. Strange, because many large research departments of the large oil companies, so prevalent in the 1970-1982 era, have been decimated. The oil industry seems to develop new technologies on a very empirical basis. Over the last decades numerous new technologies have been successfully implemented ranging from 3-D seismic, to horizontal drilling, multi-stage frac'ing and now SAGD and the resurgence of fire flooding (Petrobank's Heel to Toe technology). Still, Canada is one of the last free markets for oil and gas exploration and development. Coincidentally, we also have one of the most vibrant oil industry sectors where it is still possible to set up your own junior oil company with relatively little capital.

The dictatorships and budding democracies are facing a conundrum. Their populations demand fast economic growth and cheap oil prices. So in order to stay in power, these governments are forced to sell oil and gas to their population for virtual free. Iranian and Venezualan governments are in a similar situation, in that they have to fund subsidized, artificially low energy prices from their oil and gas export revenue. The combination of artificially low fuel prices; poor quality oil industry; declining oil reserves; a fast growing economy and a fast growing middle class that aspires western type prosperity results in an explosive demand for energy, in particular oil. Exports from those countries are diminishing rapidly. Here are some relevant graphs (Fig. 4A-E) showing the effects:


Fig.4A
 

Fig. 4B

Fig. 4C
 


Fig. 4D

 
 Fig. 4E

The results of these developments can be observed in figure 5. OPEC's oil consumption is on the increase. After the collapse of the Soviet Union (1989-1991), the combined FSU consumption first decreased and has now stabilized; but oil consumption will likely recover over time along with the FSU economies. OECD countries are the only group of countries where oil demand had decreased due to its population's increasing concern about the environment and sustainable economies. This trend, accelerated by the 2007-2008 Great Recession will probably continue into the future. This OECD consumption decrease will be more than offset by the growing oil needs the BRIC countries, in particular Chine and India, whose combined imports have doubled over the last 8 years. Straight line extrapolation of this trend to 2020 shows that China and India alone would import close to 20 million barrels per day. This exceeds today's consumption by the OECD. Figure 6 is a forecast of total world oil demand by the IEA.

Fig. 5

Fig. 6

With oil production (using today's technology and economics) stable, or possibly already on the decline and with demand on the increase, it is hard to foresee lower oil prices in the near future (is that an understatement or what?). Some pessimists foresee oil and resource wars. This is in my mind not likely, today's communication and the existing global network of politicians and business leaders would make this unlikely, other than local conflicts. Will we have oil prices of $200 or higher? Not likely either.

The economy can tolerate only a limited increase in energy prices after which we will see declines in economic growth until the energy price balance is restored. Also, at high oil prices, the world would look for substitutes such as environmentally friendly natural gas, geothermal, solar, wind and nuclear energy. We may return to the use of coal combined with CO2 reinjection into the earth. But adaptation to a new energy regime will not be achieved in a couple of months, more likely this will stretch out at least over a decade if not longer. Apart from temporary price spikes and crashes as experienced in 2007-2008, I guestimate oil prices will be ranging from $85 to $110 per barrel in the near future and this price range will likely increase over time with inflation. This combined with a stabilizing world population in the 2nd half of this century, the impact of an ever changing climate, environmental concerns, less reliance on leverage and growing demand for food will make for a very interesting future (Chinese curse). Man will have to learn to prosper in a sustainable world economy.

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