A paper published recently by the IMF gives us some insight into how oil prices and availability might affect the global economy in the next decade. The paper, entitled Oil and the World Economy: Some Possible Futures, starts with the statistic that global oil production grew by 1.8 percent annually from 1981 to 2005, then stagnated with production remaining essentially flat thereafter. In the last seven years what is called global “growth” in “oil” production has come largely from substitutes for crude such as natural gas liquids, tar sands, and biofuels. While these substitutes do have important uses, they do not have the versatility of conventional oil and in the long run, falling supplies of normal crude can and probably are acting as a brake on economic growth.
There are other, non-liquid, substitutes for oil such as coal, natural gas and even nuclear power, but to implement these as a major source of transportation energy would be a long, expensive and in some cases an impossible task. Airplanes won’t run on coal very well without a lot of expensive preprocessing.
Global oil production has been on a plateau, at historically high prices, for so long now that it seems unlikely that it will ever resume sustained growth at the rates we saw in the decades prior to 2005. The only possible outcomes are prolonged stagnation, which some like to call the “bumpy plateau”, or decline of global production. The rate of decline, of course, will be critical to the future of the global economy and is the core of the IMF’s paper.
With the world producing and burning some 31 billion barrels of oil, or some combustible liquid we call “oil,” each year, and at a relatively cheap average price to boot, our stagnant plateau is unlikely to continue much longer. Most people who are willing to hazard informed guesses as to when global oil production will start down are saying that the decline will begin somewhere between 2015 and 2020.
There has been considerable discussion in the mainstream media recently about the growing supply of “shale” oil from North Dakota and Texas, more properly termed “tight oil,” which it is claimed will soon make America the world’s biggest oil producer – free from the tyranny of imported oil. Anyone digging into this issue will find that “tight” oil will turn out to be another bubble. Tight oil wells cost several times more to drill and frack in comparison with conventional land or shallow water wells and have an average annual depletion rate on the order of 40 percent a year in comparison with 4 or 5 percent for conventional wells.
In recent months, however, thanks to an all out drilling effort, the oil coming out of the fracked fields in North Dakota and Texas has been on the order of 950,000 b/d and has been increasing at the rate of about 350,000 barrels a day (b/d) each year. This has pushed up U.S. domestic oil production to the highest level in nearly 30 years – no wonder the press is bursting with optimism for America’s future.
The true story, however, is not as good as it seems. North Dakota currently has some 4,500 producing wells pumping out an average of only 144 barrels a day per well. A good conventional well will produce 3-5,000 b/d and those big deep water platforms are designed to produce 100-200,000 b/d from multiple well holes. To produce the 8 million additional b/d that the U.S. would need to obtain “energy independence” it would take 60,000 wells pumping out 144 b/d. These and the 6,000 or so fracked wells we already have would have to be redrilled every 3 or 4 years to maintain production. This is clearly impossible as the best prospects have already been drilled and from here on we are likely to see less productive tight (fracked) oil wells.
If the price of crude in the mid-west, currently about $85 a barrel, drops another $10 or so a barrel it will be selling for less that the marginal cost of production if it isn’t already in some cases. When the value of the produced oil gets too low, the sinking of new wells will decline rapidly as it has for shale gas drilling. A good estimate would be that the “shale oil bubble,” while adding to America’s current production, only has another year or two before it begins to fizzle.
Global oil demand has been growing at the rate of circa 800,000 to a million barrels a day in recent years all though some foresee this rate of increase declining. This is the underlying reason why would oil prices are staying high.
The IMF’s first scenario has global oil production dropping by only 1 percent a year when the decline comes. Should this occur, the IMF’s model predicts that oil prices will jump by 60 percent. As supplies continue to decline each year at this rate, the real oil price would continue to climb until demand destruction caused by unaffordable oil brings supply and demand back into balance.
Another scenario considers what might happen if the decline in world oil production increases to 3.8 percent which is about the rate that existing oil fields are depleting. In this situation, the impact is roughly four times as bad as with a 1 percent annual decline. Annual growth rates in the industrial countries would decline by one full percentage point. Oil prices would have to rise by 200 percent to bring about the demand destruction required to rebalance the oil markets.
Many of us have always thought of Peak Oil as being the point in time when global oil production began its inexorable decline to lower levels, bringing on all sorts of economic turmoil. The lesson of the last five years, however, seems to be that we can have deep and perhaps insoluble economic problems merely by the inability to grow production at satisfactory rates. The next five years should prove whether this concept is correct.
Tom Whipple is a retired government analyst and has been following the peak oil issue for several years.