Why We Can’t Stop $100 Oil

I'm posting this article not because I necessarily agree with anything in it, in fact some of the numbers are clearly wrong or irrelevant - but I think it touches on a number of topics important to the study of supply and demand numbers and their relationship.

Why We Can’t Stop $100 Oil

It's becoming evident that the rising price of oil has little relationship to anything Americans do, or don't do.

By Daniel Gross
NEWSWEEK
Updated: 11:40 AM ET Jan 5, 2008

When the price of a barrel of oil briefly hit $100 in trading last Wednesday morning, it was basically a nonevent. After adjusting for inflation, $100 per barrel in 2008 still isn't a record. And really, what's the difference between $99 and $100? (If you answered $1, come to the front of the class.)

It functioned more as a Rorschach test. For presidential candidate John Edwards, it was "just another example of how corporate greed is squeezing the middle class." American Petroleum Institute spokesperson Karen Matusic noted that oil's hitting the century mark should spur efforts to "explore for more oil and natural gas. After all, 80 percent of our potential domestic resources are cut off from drilling." For Renewable Fuels Association president Bob Dinneen, the event highlighted (wait for it!) the importance of recently passed legislation that subsidizes ethanol production. And for Treasury Secretary Henry Paulson, it was an occasion to marvel at just how well the U.S. economy has held up in the face of such challenges. "When you look at the structural changes in our economy, we're using oil more efficiently and it has a smaller overall impact on our growth," he told NEWSWEEK.

A hundred factors—production disruptions in Nigeria, speculators in Singapore, the pathetic dollar—helped push the price of a barrel of oil to $100 (or roughly what lunch at McDonald's in London costs, thanks to said pathetic dollar). But it's safe to say that oil's breaching three figures last week was explicitly not due to the venality of ExxonMobil's bosses, or to our inexplicable hesitancy to drill for methane in the Grand Canyon, or to the lack of subsidies for schemes to process bacon fat into diesel. In fact, it's becoming evident that it's not about anything Americans do, or don't do.

As we are endlessly reminded, Americans, about 4.5 percent of humanity, account for about 25 percent of the world's oil consumption. Historically, the consumption habits of these power users have had a huge effect on the commodity's global price. But we matter less and less each year, macroeconomically speaking. Oil nicked $100 the same day the Institute for Supply Management reported that the manufacturing sector—you know, that energy-intensive sector that burns up lots of oil—contracted in December. In theory, it should be hard for the price of oil to rise at a time when the world's economic engine is idling and plotting a shift into reverse. But that's exactly what happened in 2007.

Prices in the market are determined by supply and demand. Even with demand in the United States stagnating, global demand for oil is booming. "A big part of the oil story has to do with demand globally," says Henry Paulson. "There is strong growth in many countries around the world." Indeed, according to the World Bank, 104 countries grew at more than 5 percent in 2006—a modern record—and most of them powered through 2007 at a similar pace. Americans may have reacted to higher oil prices by buying smaller cars, but businesses and consumers in Asia, South America and Africa haven't been deterred in gobbling up oil. In 2007, according to OPEC, world demand for crude oil rose by 1.4 percent, or 1.2 million barrels per day. But the United States and its fellow industrialized firms in Asia and Europe—the 30 nations that make up the Organization for Economic Cooperation and Development (OECD)—actually reduced consumption. According to OPEC, non-OECD countries accounted for all of 2007's oil-demand growth.

Obviously, China has a lot do with it. Its consumption of crude oil rose from 5.6 million barrels per day in 2003 to 7.6 million in 2007. Thanks in part to China's growth, Asia in 2004 surpassed the United States as the largest consumer of oil in the world, according to Daniel Yergin, chairman of energy analyst Cambridge Energy Research Associates.

But demand is booming elsewhere, especially in the Middle East. The nations that have grown rich on petrodollars aren't just spending money on champagne and lavish hotels on the French Riviera. They're plowing cash into diversifying economies, building things that use lots of energy—condominium towers in Dubai, an indoor ski resort in Bahrain and petrochemical plants in Kuwait and Saudi Arabia. In the past, OPEC could calm oil markets by increasing supply. But OPEC members are now eating a lot more of what they grow. Between 1997 and 2007, notes Yergin, six Mideast OPEC members—Iran, Iraq, Kuwait, Qatar, Saudi Arabia and the United Arab Emirates—boosted production by 2.5 million barrels per day. But they increased consumption by 1.9 million barrels per day. In effect, three quarters of the production increase stayed in the region.

The trends that boosted demand in 2007 are still intact. OPEC projects that in 2008, world oil demand for crude will rise by 1.3 million barrels per day, but that non-OECD countries will account for 1.1 million barrels per day, or 80 percent of the total. China alone is expected to boost consumption by 400,000 barrels per day. Lehman Brothers analysts project that this year OPEC countries will increase their use of oil by 350,000 barrels per day, or 4 percent.

It's beyond our control. Using less gas, running factories at fewer shifts and redoubling efforts to conserve and find alternatives may save us some money. But it won't result in lower prices at the pump.

URL: http://www.newsweek.com/id/84530