Can The World Survive Another Oil Glut?

Can The World Survive Another Oil Glut?

By

Bello Salihu, PhD

At the end of last week the dollar price for a barrel oil was slightly above  $112 for the brent blend light sweet crude and just slightly higher than $91 for the heavier West Texas Intermediate (WTI) blend. The price for a barrel of oil has almost never been this good for this long for anyone connected to the industry. The current unprecedented high investments in exploration that is helping to discover even more fields and an almost at par spending in field development and supply infrastructure that is keeping the almost insatiable energy appetite sated may make it seem that supply and demand are at last in an almost perfect harmony. So the reader will be forgiven  in thinking that talk of an oil glut and its attendant consequence of economic crises and political upheavals at this time is nothing but an academic exercise or, at worst, scare mongering.

But, historically, anytime things are this good in the oil industry, national leaders and economic managers of both producing and consuming nations must beam their full lights ahead as danger could be lurking just around the corner. Some of these dangers could, at first glance, deceptively present themselves as positives. This precarious loop of boom-bust-crises in the oil patch has happened so many times in the past that it has almost become rote. And at each time the crisis has been of a different type and the principal players, save for the United States of America, have also been different.

Let us examine a few of the possible dangers this time around. The first one, of course, is the  energy demand from India and China. The main driver of such demand is the energy needs of almost a third of the global population located in these two increasingly economically active nations of the Asia Pacific region. It is quite easy to notice that even though this presents itself as a situation that bore some good for the industry and exporting nations while it lasted, a double-whammy slowing of growth in those two countries will, due to the more connected and globalised nature of today’s world economy, present us with a more precarious version of the Asian financial crises of the mid-nineties. Which, if I may remind us, created a domino effect of reduced industrial output from the Asian tigers which led to suppressed demand for energy. That, in turn, led to the crashing of the price of energy in the world market which in turn led to unheard-of economic crises in both the producing and consuming nations. For Nigeria, the revenue loss to the country further consolidated the pains of the average citizen. 

Pains that were introduced during an earlier oil glut in the early to mid-eighties which came about because OPEC oil had new competition due to new and increased production from suppliers such as Canada, Norway, Britain and Mexico and a depressed demand from the number one consumer, the United States. These new sources came about because of OPEC’s supply constriction and the Iran-Iraq war. That crash of the 1980s manifested itself in reduced revenue to supplier nations and heralded the introduction of over the counter economic pills as prescribed by the IMF and the World Bank. In Nigeria, those pills were administered by the General Ibrahim Badamasi Babangida government as a Structural Adjustment Programme, or SAP. Overnight, the life of the ordinary Nigerian became acutely more austere and the economic power of the middle class was so severely decimated that it is yet to recover nearly thirty years later.

The second potential danger is the rise of the renewables. President Obama’s investment of over 90 billion dollars in the renewables industry in the USA is not only a fulfillment of his campaign promise of four years ago but also a possible death knell of America’s dependence on imported fossil fuels. Once America’s renewables industry is up and running, it will seem sensible or even cool by the rest of the world to jump on the green band wagon. 

Currently most developing countries are switching their public transportation to greener sources energy or other forms of cleaner travel. Because of higher gasoline prices there is currently no major car manufacturer in the world that does not have an electric vehicle in the pipeline. It does not only help the environment it also make better economic sense. In the same vein, almost all airlines and aircraft makers are working towards greener air travel using renewable fuels. It has become a race to the market of who can produce the fastest and most reliable car or plane to challenge the status quo. As soon as green transportation is seen to be on its way to becoming mainstream, high rate gasoline users such as India and China will join the revolution and, with a large chunk of global oil production going into transportation fuels, that will collectively apply a downward pressure on the price of oil or at least keep it depressed.

The third potential danger is a seemingly robust supply in the horizon. The locked in excess daily capacity of Saudi Arabia of over a million barrels of oil pera day, the production  anticipated from newly-discovered fields located mostly in Africa that are yet to fully come on stream or peak and the increasing discoveries and production from non-OPEC countries that do not adhere to any production quotas mean that global energy  production is operating on a margin that is getting wider and more robust. In other words, while whatever is being currently produced is immediately consumed, the consumer’s choice is getting broader across sources and types of energy. Leading to a situation where these days supply fears are expressed with a shrug and the headlines they create are hidden in the inner pages of newspapers as discussion points rather the than world-stopping front page banner headlines of the seventies, eighties and nineties. Hitherto, an actual or imagined production or supply disruption could trigger the oil price to go into a tailspin and the global economy to shiver. That The West could today threaten Iran with oil export sanctions over its nuclear ambitions and the global energy prices experience but a short blip is a manifestation of that point.

As an economic system unto itself, the oil industry is most fickle. A seemingly inconsequential  political or social upheaval in some remote part of the world that we have never heard of could effect the disruption of carefully laid plans that will see nations or companies that are heavily invested in oil production (and consumption) teether on the brink of bankruptcy. So it is scary to think that none of the three scenarios described above is far-fetched. Firstly, China and India cannot continue to experience near double-digit growth indefinitely, something somewhere has to give. If anything happens to drastically reduce the growth rate in these countries, the first symptom of an impending crisis will be a fall in oil price as demand  from them will fall all of a sudden.

Secondly, may be, and just may be, President Obama’s investment in renewables may  bear fruit sooner than expected and environmental consciousness, functionality, style and simple economics could combine to tilt the scale in favour of the electric car or biofuels. Thirdly, it is more likely that with current technologies it will continue to become much easier to find and produce hydrocarbons such that global demand is met and even exceeded. Even if it is for a brief period before the prices rise again due to genuine fears such as peak oil, supply disruption due to conflict or artificial supply constriction from cartels.

So back to the question above, yes, the world could survive another oil glut. The simple explanation is that consuming nations, this time around, would feel the pain much less than the producing nations as they would have diversified their sources of energy and their industrial growth will continue chugging on. But for oil producing nations whose economies have stubbornly refused diversify and their governments remain unwilling to plan for such eventuality, the loss of revenue will lead to crises better imagined than experienced. Such crises will be exacerbated by higher populations (think Nigeria and Mexico), a more crises prone and socially conscious environment (think the Arab Spring) and a fewer listening creditors ready to offer a bailout (think the European economic crises). 

Every citizen of an oil producing country, especially those countries that have not taken the wise and deliberate step to diversify their economies, will feel the effects of an oil glut. Obversely, because of the oil curse that afflicts most of such countries, few citizens therein will feel the direct effect of a global oil scarcity which, under normal circumstance, should mean more revenues to their countries and more income in their pockets.

For oil revenue dependent nations, measures such as a well managed excess crude accounts and souvereign funds dampen the effects of this boom and burst cycle at boom times and basing a national budget on an acutely conservative minimum price per barrel will do the same at burst times. But such measures can only go so far as to remain dampeners of the effects of fluctuating oil price, the only real solution is for such countries to look inwards, play on their strengths and use their hydrocarbon resources to eliminate their dependence on oil and the fluctuation of its price.

This was earlier published in my column 'Oil and Gas Weekly' in Government, 

a publication of Leadership Newspapers, Nigeria - 2012.