Royal Dutch Shell Plc  .com Rotating Header Image If it smells like peak oil, it probably is

The first sentence of the executive summary of the International Energy Agency’s (IEA) influential “Medium Term Oil Market Report,” released today, states the broad outlines of the problem baldly: “Despite four years of high oil prices, this report sees increasing market tightness beyond 2010, with OPEC spare capacity declining to minimal levels by 2012.”

Demand for oil products — primarily transportation fuels — is growing fast. You can blame all those developing countries whose populations are approaching the critical $3,000 per capita GDP level — that magic moment when, according to the IEA, “a middle class usually emerges, eager to purchase cars, fly in aeroplanes, install air-conditioners and, more generally, use energy-consuming appliances.” Don’t blame a lack of refinery capacity — the IEA says investment in refinery upgrades is proceeding apace, and is not likely to be a problem in the near future. But overall, supply of the raw product — oil and gas — is having a harder and harder time keeping up with demand.

This would seem to be the definition of a world approaching “peak oil” — that moment when supply stops growing and begins to decline, while demand continues to chug along. But it is not until Page 30 of the IEA’s very detailed 82-page report that those all important words are even mentioned. Here are some excerpts from the critical section:

The concept of peak oil production and its timing are emotive subjects which raise intense debate. Much rests on the definition of which segment of global oil production is deemed to be at or approaching peak. Certainly our forecast suggests that the non-OPEC, conventional crude component of global production appears, for now, to have reached an effective plateau, rather than a peak…

While there might be a temptation to extrapolate this trend, citing a peak in conventional oil output, a degree of caution is in order. Firstly, the concept of “conventional” oil changes with time, technology and economics. In the early 1970s, much offshore production was deemed unconventional, but this portion of global supply has since grown to account for 30 percent of the total. Evolving economies of scale and infrastructure development could do the same for [gas-to-liquid], oil sands and ultra-deepwater reserves in the future, shifting today’s unconventional resource into tomorrow’s conventional supply category…

Finally, we note that focusing on non-OPEC crude alone is a rather selective way of considering the sustainability of global oil production. Peak or plateau production is frequently taken as shorthand for impending resource exhaustion. While hydrocarbon resources are finite, nonetheless issues of access to reserves, prevailing investment regime and availability of upstream infrastructure and capital seem greater barriers to medium-term growth than limits to the resource base itself.

To drastically summarize the report: The problem is not that the world is running out of oil, but that right now, offshore oil rigs are scarce and expensive, skilled labor is tight, transport infrastructure is limited, and political considerations such as “resource nationalism” in states such as Venezuela and Russia and geopolitical risk in Iran and Nigeria are hampering investment and development. Logistics are the real problem, the report seems to be saying, and not the actual amount of oil in the ground. This leads to the conclusion that even though nearly 3 million barrels of new supply will be needed each year just to offset the decline in established oil fields, “above-ground supply risks are seen exceeding below-ground risks in the medium term.”

But there’s a problem with this formulation that demonstrates a very careful, if not disingenuous, attempt to skirt the troubling implication of “peak oil.” Peak oil does not mean, as has been emphasized a thousand times before, here and elsewhere, that “the world is running out of oil.” It means that “the world is running out of cheap oil.”

And that interpretation seems to be completely justified by the IEA report. Take, for instance, BP’s much delayed “Thunder Horse” Gulf of Mexico offshore oil project. The IEA report notes that the project has faced a “perfect storm” of problems, including technical issues related to the new challenges of ultra-deepwater oil drilling, hurricanes and more mundane bumps in the road. Then the report notes that “Other projects may not face the same litany of problems as Thunder Horse, but as incremental non-OPEC supply becomes increasingly concentrated in technologically challenging areas, so cost over-runs and delays will remain part of the industrial landscape.”

That’s the most important sentence in the report. New supply is going to be harder to get, posing greater technological challenges and requiring higher levels of investment.

The world’s oil companies and national governments will no doubt respond to this challenge. All those new middle-class citizens driving in their air-conditioned cars to their air-conditioned offices will demand it. But it’s not going to be cheap. It’s going to get more and more expensive.

Ironically, or tragically, there appears to be only one thing that can effectively dampen growing demand for oil. And that would be a collapse of economic growth, which, quite possibly, could be a result of the ever-higher prices for fossil fuel products that economic growth mandates.

Meanwhile, crude oil futures sit tight around $72 a barrel.

— Andrew Leonard and its sister websites,,,,, and are all owned by John Donovan. There is also a Wikipedia article.

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