Friday, January 4, 2008

What Am I Trying To Do Here? (Parts I and II)

Part I

Anonymous suggested that I superimpose a Top 20 Importers graph on the Exporters to show who were the losers in what is becoming a bidding war for exported oil. This is an approach I’m considering, but feel at this time that it is beyond the scope of what I’m trying to do here. I appreciate the feedback and will probably at some point post some stuff on imports.

What am I trying to do here?

Clearly there is something going on in the world of energy and oil. It’s hard to say when it began. 2003, maybe, when oil prices started their climb to what is now $100 – a one hundred year record (at least, I’ll have to look that up) both nominally and in inflation-adjusted real terms. Although at $100, oil in the United States is still well below it’s peak in the early 1980’s when measured as a percentage of GDP. It will probably take $150 to pass that mark.

When I first started tracking the numbers, the focus was strictly on supply and whether we had reached or were near a definitive peak in global production. Talk of demand has always been tempered by a fact that the vast majority of analysts and commentators seem to completely miss. This is that you can’t measure demand. At least not in any realistic, timely manner. Measuring production/supply on such a vast scale is hard enough.

Once oil is extracted from the ground (produced) it enters a global supply chain that moves it through pipelines, onto tankers, to refineries, through pipelines, maybe onto more tankers, then into tanker trucks for the final delivery as gasoline to the station. This entire process is interspersed with storage of various lengths of time at different point along the route.

The consumer doesn’t demand oil. The consumer demands gasoline, or jet fuel, or one of several other refined, finished products.

Part II

My personal belief is that we cannot consume more oil than we produce. Some might say this is rather obvious, however the ramifications of this problem aren’t entirely appreciated until you start trying to track the numbers and make sense of what is being said about rising demand and stagnant supply. Invariably those concerned with future oil supply will invoke the 200-year chart plotting supply and demand. The timeline usually starts around 1860 when oil was discovered in Pennsylvania, or maybe 1900, and goes out to 2050 or 2100. At first there is one line which plots yearly oil production (supply) until the present and which was also consequently the demand (also known as consumption or “amount supplied”). We cannot consume more oil than we produce.

There is usually a vertical line drawn at the present or at some year in the recent past when the chart was produced. Maybe the areas to the left and the right of this line are shaded differently to emphasize the point and there is a label saying that everything to the right of the line is “projected” or “forecast.” But then something happens that makes me cringe every time I see it and makes me call into question the sanity of whoever was responsible. The line tracking supply and demand splits. From about that point a line representing supply begins to curve downward in a smoothed mirror version of the jagged line to the left of the present and tapers off somewhere around 2100. This would complete what is usually Hubbert’s curve or some variation representing the dying days of a finite resource. Now, in addition, and always starting the day after the chart was drawn, there is a second line, usually fairly straight, which shoots up into the heavens at about the rate of 2 or 3 percent per year. This is forecast demand.

It's hard to see the split here, because they don't project a peak
until 2010 and the "actual"production line is smoothed. It looks
like this one was made in mid-2006.

I have never understood this line and the conclusions that some draw from it because I don’t see how it could possibly ever exist. If we were to take two versions of the chart I describe, one produced in 1997 and one in 2007, the upper “demand” line from the former would have magically disappeared in the latter. Why? Because the “projected demand” for those ten years would have turned out to be exactly the same as the amount actually produced and supplied, overlapping, and thus becoming the single line that always exists in the past.

There may be good reason to produce charts like this. The creator is usually trying to warn of stark realities in our energy future. But they are using a sleight of hand to do this and ultimately I don’t think that is a good tactic. Usually the area between the upper demand curve and the lower supply curve is highlighted the way one would an Economics 101 supply and demand chart to note a shortage or surplus. The further into the future we move the worse the discrepancy becomes. Of course, as I demonstrated above with the example of the two version’s of this chart, real life doesn’t work this way. Just as in an Economics 101 chart, supply and demand always meet at one point which represents a single amount corresponding to a price (which I will get to soon).

I don’t mean to suggest that shortages and surpluses don’t exist. They certainly do. Whether it was gas lines in the Seventies or stories presently about China:

A shortage of gasoline and diesel fuel has led to long queues and rationing in some Chinese cities, and even civil unrest, causing some service stations to request police protection. The shortages began in October, and now Premier Wen Jiabao has called for increased refinery production. In mid-November, Wen said that the country needs “comprehensive measures to increase crude oil production and refining, to realistically ensure supplies of refined oil products."

The shortage can be blamed on one thing: excessive government intervention in the market. By setting prices artificially low, the Chinese government prevented refiners from making a profit on much of their production. That led many independent refiners to reduce production or else shut down completely, rather than suffer ever-increasing losses on their output.

Our thirst or demand for oil and petroleum products can certainly outstrip the supply. Some may want to believe that 10 years from now demand will be 10 or 20 million barrels more than supply. And in some theoretical way they may be right. My point is simply that nobody has figured out a way to measure this demand. It always ends up being what was supplied (unless you look at the official data, then you’ll be even more confused, but more on that next).


Demand always exists at a certain price. This is why we have the issue of price and demand destruction.

On BP’s numbers the Oil Drum story on consumption in response to anonymous
Demand Destruction: Myths and Reality

Monthly numbers

To be continued...


john macklin said...

we'll look forward to it.

Anonymous said...

Your good work has shown that there was in fact a peak in exported oil. Now we'd like to know how it's playing out. That's why it would be great to know what's happening to the importers.

A couple of day's ago the Oil Drum showed a graph of importers. That's the sort of association we need.