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American Account: Irwin Stelzer: Soaring oil price lubricates the advance of Kerry

TimesOnLine: American Account: Irwin Stelzer: Soaring oil price lubricates the advance of Kerry

Posted 2 August 04

VLADIMIR PUTIN may have done John Kerry a big favour. When the Russian president threatened Yukos, which accounts for 20% of the country’s oil production, with closure for failing to pay the taxes he now says it owes, oil prices temporarily hit a 21-year high. Never mind that any sensible observer knows that Russia’s treasury would drown in red ink, and the rouble collapse, if Yukos were forced to suspend exports for any protracted period. So tight are oil supplies that even the threat of a temporary loss of about 2% of world production was enough to panic traders.

Russia is, after all, the world’s second-largest oil exporter, right behind increasingly unstable Saudi Arabia, and Putin’s politicalisation of the industry worries those who look to his country to help meet growing demand.

This is a triple dose of good news for John Kerry. First, high oil prices slow the economic recovery, on which President George Bush is relying to create jobs in the 94 days left until the voters go to the polls.

Second, a spurt in oil and petrol prices hits lower and middle-income voters hardest, giving the Kerry-Edwards duo an opportunity to cry even more loudly that there are two Americas. These, they are saying, are the privileged who support the president, and the hard-pressed, driving-to-work masses for whom higher petrol prices are only one of many woes.

Finally, even a passing threat such as the shutdown of Yukos emphasises America’s dependence on foreign oil. Like every president and presidential candidate since the days of Richard Nixon, Kerry is promising to end that dependence so that, as the Democrats put it, America will never again have to go to war for oil.

No matter that independence from imports is an unattainable goal, and that it is a lot cheaper to buy even high-priced oil than to conquer a country that produces it. At this time of year, perceived political advantage trumps sensible proposals every time.

The Yukos incident is less significant for its immediate political implications than for what it tells us about oil markets in the longer term.

Demand for oil is rising rapidly, at the fastest rate in more than three years in America. And this despite the fact that high petrol prices “caused growth in US gasoline demand to stall out . . . for a second straight month in June”, according to the American Petroleum Institute.

The high prices are doing wonders for the international oil companies’ bottom lines. Exxon Mobil last week reported that it had earned almost $6 billion in the second quarter of the year, an all-time record for any company in a three-month period. But the oil majors are not responding to higher prices and earnings by increasing their search for oil.

Exclude Russia, and BP’s output is declining. So are Shell’s and Chevron Texaco’s. Production at Exxon Mobil is more or less flat. Only Total, with its commitment to Africa and Asia, seems to be stepping up production.

Bijan Mossavar-Rahmani, chief executive of Mondoil, an independent international company, and a close student of the production side of the business, says that despite high oil prices and technological innovations that have driven down exploration and production costs, the largest oil companies have in recent years replaced only three-quarters of their production.

The result of burgeoning demand and the companies’ unwillingness to plough more into finding oil is a tight supply situation. Purnomo Yusgiantoro, the Indonesian president of Opec, the producers’ cartel, continues to claim — not very convincingly — that the cartel is eager to push prices down to below $30 a barrel. But as Rafael Ramirez, Venezuela’s oil minister, told Reuters: “Most of the countries are near their production limits.”

Yet there is no significant increase in the hunt for oil, despite the conviction among Middle East producers with whom I have spoken that demand will rise by more than 50% in the next 20 years. Industry executives tell me that prospects for increased supply from West Africa or the Central Asian Republics are not as glowing as press reports suggest.

Government officials in Europe point out in private conversations that they fear Russia’s exports will be curtailed by continued government intervention.

That leaves the Middle East, which experts in the region say will have to meet two-thirds of future increases in the demand for oil.

My conversations with executives from companies and countries around the world turned up several reasons why high prices seem unable to elicit more oil.

One British executive repeated what several Americans told me at a private dinner in Washington: “Prices go up, and prices go down.” The fear of a price collapse induced by a decline in demand, the outbreak of peace and the consequent removal of the $7-$10 per barrel risk premium, or a move by Opec to open the taps to deter investment in alternative energy, is a real deterrent to long-term investment.

Add to that a powerful insight by a shrewd representative of a leading Middle East producer. He claims that the problem is not a lack of investment by international oil companies (IOCs) because the national oil companies (NOCs) in the Middle East can raise capital on their own.

Rather, the problem is that the NOCs need technical assistance and project management skills that only the IOCs possess, but cannot work out deals with them to acquire those human resources. To national pride add the inability of the Saudis and others to protect foreigners, and the result is an ongoing skills shortage.

There you have it. Demand is likely to grow at what the International Energy Agency calls “a breakneck pace”, but investment in new supplies is unlikely to follow suit. That means higher prices for the foreseeable future, and a stick with which Kerry can beat Bush.

Irwin Stelzer is a business adviser and director of economic policy studies at the Hudson Institute

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