Oil price volatile — two scenarios foreseen

Having fallen earlier this week, oil prices have risen again, to around £112/barrel. The reason — US commercial crude stocks fell by 7.3million barrels, ten times the forecast amount. Inventories are now at their lowest levels since January.

Prices rose after Libyan output dropped earlier this year. Full production (1.6m barrels/day) is currently forecast to resume in about 15 months, with 1mb/d possible in six months. “It is critical to get Libya back on stream again” said Adam Sieminski, chief energy economy at Deutsche Bank.

Use of the word ‘critical’ implies there is not a lot of slack in the system.

Combine that with the words of the head of Royal Dutch Shell, and the direction is clear. Over the medium/long term, the oil price is headed upwards.


Or you might think so. Another story in FT today reminds us that “the headline price for Brent [oil] futures is weakening, dropping to $110 a barrel earlier this week on the back of economic woes.”

But, the same article says, “all price indicators for the European physical oil market are strengthening to historic highs, due to low supplies of high-quality, low-sulphur crude from Libya and elsewhere.”

This explains the volatility predicted by the head of Royal Dutch Shell. The price is driven on the one hand upwards by lack of supply, on the other hand downwards by the lack of (economic) demand.

Volatility always happens when a system is finely-balanced between two opposing forces. (Imagine yourself standing on a tight-rope. One force pulls you right, one force pulls you left — you wobble.) It is what we would expect to happen during the peak of peak oil. (Before the peak the human drive for growth is stronger and pulls the supply of oil to expand. After the peak the supply of oil is physically constrained and forces economic activity smaller. At the peak they are balanced.)

The question is, as we pass the peak, should we expect volatility to remain (as Shell predicts)? Or might the price of oil then go through the roof? Or fall?

Scenario One: We invest in alternative energy sources sufficient for all our needs and more.
What happens here is that we don’t care about the price of oil. We have an alternative. Oil falls to the roughly equivalent renewable energy price, is stable, and we stop bothering to pump oil out of the ground when it costs too much.

Scenario Two: We do not invest in alternative energy.
What happens here is that our economy remains dependent on oil. The price of oil rises because supply is falling, which strangles economic activity, so demand falls, so the price falls, so economic activity picks up, so the oil price rises, to economic activity falls back again…  This is the volatility that Shell predicts.
The constraining factor in this scenario is the absolute physical supply of oil. So within the volatility the oil price creeps slowly upwards, because energy is money — it is the way to get things done. It is competitive advantage.
Economic activity and oil are locked together in a death-grip and, like two people fighting in a movie, gradually sink into the watery depths, their fingers locked around each others throats.

Which scenario are you helping to create?


Leave a comment

Your email address will not be published. Required fields are marked *