Thursday, June 28, 2012

Repeating The Shale Gas Boom: How Unconventional Oil May Crush Oil Prices By 2015

The chatter is becoming intense that the unconventional oil revolution will crush oil prices, just as unconventional gas production drove natural gas prices from $13 for a thousand cubic feet in July 2008 to $2 in 2012.  Leonard Mauger of the Harvard Kennedy School has authored a paper, entitled "Oil: The Next Revolution," that offers some numbers for our collective consideration on how unconventional oil production will reshape the oil markets.  The paper also was the subject of an article in yesterday's Wall Street Journal.

Mauger projects that, as a result of booming unconventional oil, world oil production will increase to 110.6 million barrels per day (mbd) from 93 mbd currently. Mauger's supply projections assume that world oil prices remain above $70 to $80 per barrel, the pricing point needed to make most unconventional oil production economic.

No doubt, a lot of new oil from unconventional sources is currently headed to the market, since oil prices have been consistently above $80. Just look at North Dakota and its jump to the number 2 oil producing state, the Eagle Ford in Texas, the Canadian tar sands, and Brazilian deep water wells, if you harbor doubt.

And if demand does not grow with growing supply, an oil price collapse could happen. That possibility is amazing, stunning.

World oil demand is currently about 88 mbd to 89 mbd and it is being relatively comfortably met by production capacity of 93 mbd.  Yet, based on skyrocketing Chinese and Indian demand, the current conventional wisdom holds world oil demand will grow, even though oil demand will not grow in North America or Europe at all over the next 20 years, as a result of more oil substitutes and fuel efficiency.

Mauger points out that global oil demand will have to grow 1.6% every year, to prevent an oil glut from emeging, if unconventional production pushes world oil production capacity to 110 mbd by 2020.  That is not certain.

Mauger's data does create a factual case for how supply could swamp demand for a year or so, leading to many months of prices that could drop to $50 per barrel. Prices at that level, even for a year, would be a major boost to the US economy that still consumes more oil than any other fuel or any other nation. Yet, that period of rock bottom oil prices would not last, since the price of marginal production in the global market is about $80 per barrel.

While $50 per barrel oil would be fleeting, even given the possible mismatch between supply and demand that Mauger depicts, the unconventional oil boom should push into the much more distant future $125 to $150 per barrel oil.  Or unconventional oil will deliver modest global oil prices, as long as the world remains peaceful and no major disruptions happen because of turmoil in Saudi Arabia, Russia, Iran, Iraq, Libya to name a few key oil producers. 

Of course, that is a big and precarious caveat.

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