Friday, August 12, 2005
Arguing over the reason for "high" oil prices
Crude oil prices topped $66 per barrel yesterday, and people who pronounce on such things confidently described the reasons for the record nominal dollar price record (adjusted for inflation, oil will not exceed the record levels of the late seventies until it is well over $90 per barrel). American pundits emphasized geopolitical instability and refinery bottlenecks:
The Chicago Tribune, staring at that city's futures markets, agrees:
Outside the United States, the press has a very different perspective. The BBC:
That must be it: America's unquenchable thirst and unremitting propensity to pump carbon into the air.
Perhaps surprisingly, Al Jazeera has some of the most interesting coverage, even if it comes from its own Al-Jazzy perspective. It acknowledges American and Chinese demand...
...but also points the finger at non-OPEC production, which it says has fallen short:
Given all the instability in the Middle East, a war against an implaccable enemy which counts among its objectives a massive increase in the price Muslims charge for oil, the impossibility of building more oil refineries in the United States (because of environmentalists and NIMBY obstruction) and the apparently unstoppable American consumer and Chinese manufacturer, I think it is remarkable that oil prices still have to rise almost 50% to hit their previous record in inflation-adjusted dollars. Indeed, the average price of oil during the Iranian crisis at the end of the Carter Administration was over $80 per barrel in today's dollars, and today it takes a lot less oil to make another dollar of GDP than it did back then. So we know we can weather significantly higher prices.
Al-Jaz's observation that higher prices have had almost no impact on American gasoline consumption is right on, I think, and evidence that gasoline prices remain cheap as a value proposition, even if they are significantly higher than they were. A gallon of gasoline, which will carry you 25 miles if you do not insist on driving an Abrams tank to buy the groceries, costs less than a gallon of Diet Coke and a miniscule fraction of the cost of the same amount of drinking water pumped out of a spring in Vermont, much less France. More to the point, it is obvious (at least here in central New Jersey) that most people are taking essentially no steps to save gasoline. Many of our employees could car pool to the office if they were willing to endure even the slightest inconvenience, but they don't. People sit in traffic that is manifestly stopped because of a drawbridge or an accident, and do not even bother to turn off their engines (as I remember they did in the seventies). We know from the Carter years that you can save a lot of gasoline by driving a little more slowly on the highway, yet there is no evidence that people are lightening up on the accelerator. I see no anecdotal evidence that middle class Americans are in any respect tailoring their daily lives to cut back on the consumption of gasoline. They will when the price of gasoline rises to levels that are actually annoying.
There is a good reason for all of this. Suburban Americans can easily absorb the higher cost of gasoline in their budgets. Our household is a profligate consumer of gasoline, schlepping kids everywhere on the slightest whim, hauling around thousands of pounds of horse behind a Dodge Durango, and all the rest of it (the only thing we have going for us is that I have a fairly short drive to work). With three drivers and four vehicles, I estimate that our household consumes between 1500 and 2000 gallons of gasoline a year through the cars we own (i.e., not including the gas that goes into rental cars, airplanes we fly on, buses we ride in, etc.). A $1 rise in the price of gasoline, therefore, sucks a couple of grand out of our household budget. On the one hand, that is not a trivial incremental cost. On the other hand, it is a small fraction of the money we spend on any number of luxuries, including Starbucks (the family Starbucks "budget" is absurd) or "family casual dining" at the chain restaurant of our children's choice. We are blessed with more money than most Americans, but I do not think that the basic calculus is any different for most of the middle class. They prove it every day by refusing to take even the most obvious, trivial steps to cut their consumption of gasoline.
"The main force behind this surge is uncertainty" over supply, said Michael Cavanaugh, an analyst at My Futures Online. "The money going into the crude market does think that the uncertainty moving forward justifies this [crude] price level."
Tension in the Middle East -- amid Iran's restart of nuclear activities, the closure of the U.S. embassy in Riyadh, Saudi Arabia earlier this week, and following the death of the Saudi King Fahd this month -- has fueled the rally.
The "markets are focusing exclusively on supply risks (Saudi Arabia, Iran) while ignoring sound fundamentals (ample crude and distillate stock, average gasoline, near record imports, the highest rig count since the 1986 boom, etc.)," said Thorsten Fischer, a senior economist at Economy.com.
The Chicago Tribune, staring at that city's futures markets, agrees:
The increase in oil futures has been driven by an array of concerns about supply disruptions: U.S. and Venezuelan refinery outages; the Atlantic hurricane season's effect on production in the Gulf of Mexico; the death of Saudi Arabia's King Fahd; and tensions over Iran's nuclear program.
Outside the United States, the press has a very different perspective. The BBC:
The US thirst for gasoline has helped push the oil market further into uncharted territory, as US prices soar above $66 a barrel.
That must be it: America's unquenchable thirst and unremitting propensity to pump carbon into the air.
Perhaps surprisingly, Al Jazeera has some of the most interesting coverage, even if it comes from its own Al-Jazzy perspective. It acknowledges American and Chinese demand...
The heightened sensitivity comes amid strong demand in the United States and China, the world's top consuming nations, where high prices have only tempered rising fuel consumption slightly.
...but also points the finger at non-OPEC production, which it says has fallen short:
The Internarional Energy Agency ( IEA) on Thurdsay, adviser on energy to 26 industrialised nations, also nudged up its world oil demand growth forecasts for this year and the next in a monthly report.
"Until the desire to hold more stocks is sated or the conditions that cause that are changed, the market will be looking for more supply and it will be looking to OPEC," said Lawrence Eagles, head of the IEA's oil market division.
For their part, non-Opec countries are falling behind in their deliveries of new oil.
Non-Opec countries are set to pump only 675,000 barrels per day (bpd) of fresh oil this year, sharply down on the additional 1.1 million bpd in 2004, said the energy watchdog.
The Paris-based agency cut non-Opec supply growth this year by 205,000 bpd, with unscheduled outages in the US Gulf, Mexico, Norway and the UK accounting for 150,000 bpd of the lower estimate.
Given all the instability in the Middle East, a war against an implaccable enemy which counts among its objectives a massive increase in the price Muslims charge for oil, the impossibility of building more oil refineries in the United States (because of environmentalists and NIMBY obstruction) and the apparently unstoppable American consumer and Chinese manufacturer, I think it is remarkable that oil prices still have to rise almost 50% to hit their previous record in inflation-adjusted dollars. Indeed, the average price of oil during the Iranian crisis at the end of the Carter Administration was over $80 per barrel in today's dollars, and today it takes a lot less oil to make another dollar of GDP than it did back then. So we know we can weather significantly higher prices.
Al-Jaz's observation that higher prices have had almost no impact on American gasoline consumption is right on, I think, and evidence that gasoline prices remain cheap as a value proposition, even if they are significantly higher than they were. A gallon of gasoline, which will carry you 25 miles if you do not insist on driving an Abrams tank to buy the groceries, costs less than a gallon of Diet Coke and a miniscule fraction of the cost of the same amount of drinking water pumped out of a spring in Vermont, much less France. More to the point, it is obvious (at least here in central New Jersey) that most people are taking essentially no steps to save gasoline. Many of our employees could car pool to the office if they were willing to endure even the slightest inconvenience, but they don't. People sit in traffic that is manifestly stopped because of a drawbridge or an accident, and do not even bother to turn off their engines (as I remember they did in the seventies). We know from the Carter years that you can save a lot of gasoline by driving a little more slowly on the highway, yet there is no evidence that people are lightening up on the accelerator. I see no anecdotal evidence that middle class Americans are in any respect tailoring their daily lives to cut back on the consumption of gasoline. They will when the price of gasoline rises to levels that are actually annoying.
There is a good reason for all of this. Suburban Americans can easily absorb the higher cost of gasoline in their budgets. Our household is a profligate consumer of gasoline, schlepping kids everywhere on the slightest whim, hauling around thousands of pounds of horse behind a Dodge Durango, and all the rest of it (the only thing we have going for us is that I have a fairly short drive to work). With three drivers and four vehicles, I estimate that our household consumes between 1500 and 2000 gallons of gasoline a year through the cars we own (i.e., not including the gas that goes into rental cars, airplanes we fly on, buses we ride in, etc.). A $1 rise in the price of gasoline, therefore, sucks a couple of grand out of our household budget. On the one hand, that is not a trivial incremental cost. On the other hand, it is a small fraction of the money we spend on any number of luxuries, including Starbucks (the family Starbucks "budget" is absurd) or "family casual dining" at the chain restaurant of our children's choice. We are blessed with more money than most Americans, but I do not think that the basic calculus is any different for most of the middle class. They prove it every day by refusing to take even the most obvious, trivial steps to cut their consumption of gasoline.
2 Comments:
By 
Charlottesvillain, at
Fri Aug 12, 09:21:00 AM:
I saw a very interesting lecture by Peter Tertzakian, the Chief Energy Economist of ARC Financial Corporation back in May. He actually cites most of the reasons you cite for the high price of oil. He believes we'll have volatility in the $50-$100 a barrel range for the next four or five years, with long run equilibrium settling at about $43 (subject to many assumptions of course).
One interesting point he made about China: Most developing countries, when making investments, have the benefit of being able to jump to the newest standard. Developing nations are not stringing phone lines, they are building wireless networks. Once a standard is adopted, it is hard to change. Today in China, a huge amount of resources are pouring into infrastructure based on gasoline, essentially the old standard. The problem is that there is no new standard that has viability at this time.
Of the probabilities of a new standard emerging do increase with a sustained increase in the price of oil, but we're still many years away.
By 
, at
Mon Aug 15, 07:19:00 AM:
Lefty Engineer Friend: Bush evil! Gas prices too high!
Me: Quit whining. You make 80K a year and drive a BMW. This will cost you, what, $6oo extra a year? Don't pretend this is going to change your life one bit.
Lefty Engineer Friend: Yeah, but it still sucks.
Me: Whatever.
