|
If 2005 were a conventional economic environment, we could invest as we
have in the past. Look for industry and market trends, check out the
economic indicators, keep an eye on the politicians, and then with
this information in hand - evaluate individual stocks and bonds. But
2005 is not a conventional economic environment. The old rules of
investing are useful, but they ignore an essential truth - petroleum has
become a wild card.
Investing
in 2005 is like walking across a minefield. The landscape may look
benign, we may think we know what is happening to us, but then boom!
Investors are blindsided by an unfavorable political event, or a SNAFU
in oil production, transportation, or refining. Consuming nations are
threatened with a worldwide oil shortage that rattles the stock and bond
markets.
So
we have to look at the stock market in two ways. There is the
conventional "everything goes right" approach, and the
"what if" approach. Conventional stock market evaluation
assumes we know that the past, however deviously, will tend to repeat
itself. If everything "goes right" our economic environment
follows old familiar conventions. By contrast, the "what if"
approach adds the paranoia of the unexpected or unwanted surprise that
promises to blast away all conventional thinking.
The "Everything Goes Right" Numbers.
We
humans collectively produced just over 29.7 Bbl of oil in 2004. Of this
amount, 5.2 Bbl (17.5% of the world's production) was extracted and
refined in North America (United States, Canada and Mexico). We consumed
29.6 Bbl of oil during this period, and this left us with a little
surplus at the end of the year. North American users accounted for 9.0
Bbl (30.4%) of world consumption. The big news was the sharp increase in
Asia/Pacific oil consumption (including China and India) which grew at a
rate of 6.8 percent. The price of light oil averaged $41.00 per barrel.
If
geology, transportation and refining are the only challenges to
production, the oil industry can plan on delivering 30.4 Bbl in 2005.
Assuming projected economic growth rates are correct, users will consume
about 30.2 Bbl in 2005. And again, assuming no disruptions to
production, transportation and refining, and given the surplus currently
in the "pipeline", we should have a narrow but workable
margin of production over consumption. Asia/Pacific consumption is
projected to increase by 4.1 percent. The price of light oil should drop
to an average of $37.00 per barrel.
During
2004, the United States experienced an inflation rate of 2.7 percent, an
unemployment rate of 5.4 percent, and a GDP growth of 6.6 percent (all
in current dollars). Gasoline prices for all grades averaged about $2.00
per gallon.
Looking
ahead to 2005, the United States can reasonably expect an inflation rate
of 3.5 percent, an unemployment rate of 5.1 percent and an annual GDP
growth of 6.7 percent (or about 3 percent in "real" inflation
adjusted terms). Gasoline prices, for all grades, should average $1.84.
Unfortunately, 2005 Will Not be Perfect.
The
ghosts of anxiety lurk around the corner. The "Everything Goes
Right" forecast is based on the mathematics of an econometric
model. Unfortunately, economic history which provides the data for
any model is unable to account for the foreword dynamics of an ever
changing global economy. Cultural forces (including those of politics
and religion), resource depletion, population migration, consumer
confidence, international cash flows, debt financing, and technological
innovation are all examples of change that are difficult to quantify.
They are, never-the-less, a very real part of our economic future. We
thus have to make an evaluation of the individual elements of our model
against these dynamics in order to interpret our economic forecast.
-
The
Dollar. The American dollar will continue to decline against the
currencies of its primary trading partners. Worries about America's
load of government, corporate and consumer debt will increase.
-
Inflation.
The current account deficit will continue to grow. A weakening
dollar will increase the price Americans pay for imported goods and
services. Limits to world resource production will drive up the
price of basic commodities. Wholesale prices have been increasing
and this will continue into 2005.
-
Oil.
Further disruption in the production, transportation and refining
chain is highly likely, sending oil prices considerably higher until
the fear of shortages subside. This will retard GDP growth, have a
mild upward impact on inflation, and exacerbate unemployment
problems. The bigger the disruption, the larger the economic impact.
Oil shortages, real or perceived, could unleash recessionary forces
on the economies of the industrialized nations.
-
War.
The psychological pain and increasing costs of war will weigh
heavily on the American economy in 2005. The Islamists have drawn a
line of blood in the sands of Iraq. They have a clear objective:
drive the infidel out of the Middle East. Western politicians are
divided, spineless, and unprepared for the consequences. Further
terrorist attacks are being planned against European and American
targets. The potential economic impact of these events are a wild
card we hope will stay in the deck.
-
Debt.
If the American housing market experiences a substantial dislocation
(i.e. tank), then the market for mortgage debt will implode, sending
the value of Mortgage Backed Securities downward. International
lenders are already wary of America's capital and consumer debt. Any
dislocation in any debt market could easily spread into treasury,
public and corporate bonds. The ensuing chain reaction will trigger
debt instrument defaults. If this scenario happens, the entire
global banking system will be under an enormous financial stress.
Let's
evaluate the odds. Further deterioration in the dollar: 100%. But we
don't know how far it will slide, or if it will recover. Higher
inflation: 100%. But we don't know how high it will go before the end of
2005. Oil disruptions: 100%. But we don't know if there will be
sufficient damage to cause oil shortages or how long these shortages
will last. War and terrorism: 100%. But it is difficult to assess their
impact on the economy. Debt crisis: 70%. If all goes well in 2005, there
will be no debt crisis. But in order for this to happen, everything else
has to work. No economic or political screw-ups to shake investor
confidence.
The
net impact of these scenarios does not bode well for the American
economy. Under the best of circumstances, the decline of the dollar,
higher prices for goods and services, and a loss of confidence in
American debt will send inflation well over 3.5 percent. The American
Federal reserve will be forced to raise interest rates. Unemployment
will exceed 5 percent. GDP growth will be less than 6.7 percent (in
current dollars). World stock and bond markets will bobble like a cork.
Oil in 2005.
Although
short term oil shortages are probable in 2005, they will not be caused
by a depletion of oil resources. In 2003, seven new large scale oil
projects were brought on line and another 9 projects were added in 2004.
In 2005, up to 18 new projects will come on line. New drilling projects
in Saudi Arabia promise to increase that nations capacity to more than
10 million Bl per day by the end of 2005. Assuming relative peace in
Iraq, that nation's capacity should increase by 1.7 million Bl per day
by 2006.
Our
conclusion. Producers will have the capacity to ship enough oil to cover
growing world demand in 2005. Weather or not they will be able to get it
to the consumer is another matter.
Oil Beyond 2005.
Unfortunately,
we humans are running out of new large scale drilling projects. We might
see 11 new projects in 2006 and another 3 projects in 2007. That makes
2007 a pivotal year. At this point (or perhaps we should say by that
year), existing worldwide well production will be dropping faster than
new capacity is coming on-line. A study published by Petroleum Review
points out that about a third of the world's oil production is currently
coming from mature oil fields that have a projected production decline
of four percent per year. Global production from existing wells is
therefore contracting at a rate of over 1 million Bl per day every year.
We should also note that approximately 70 percent of the world's oil now
comes from basins that were discovered and drilled over 25 years ago.
Although there will be enough capacity to satisfy demand in 2006, the
excess of capacity over consumption will begin to shrink. A study by
Exxon-Mobile shows that non-OPEC crude and condensate production will
plateau by 2010 and begin to decline by 2017. Any new increase in oil
production will have to come from Natural Gas Liquids, tar sands and
shales, OPEC condensate, and OPEC oil wells.
Will
the discovery of new large scale oil projects save us? In 2000, there
were 16 discoveries of 500 million Bl of oil, in 2001 there were 8 large
scale discoveries, and in 2002 there were 3 such discoveries. In 2003
there were no large scale discoveries of oil. Furthermore, the rate of
depletion has exceeded the rate of discovery since the 1980s. We consume
more than 2 barrels of oil for every one found in a new discovery.
Going
forward, higher oil prices and recessionary economic activity will put a
downward pressure on consumer demand. The Best Case scenario described
in my book "Oil, Jihad and Destiny" assumes no disruptions
occur from cultural conflict and a relatively modest annual increase in
Middle Eastern production. In this scenario, reduced demand delays peak
oil production until 2021. However, the Production Crisis described in
"Oil, Jihad and Destiny" makes according to most of my
peers a more realistic assessment of world oil production. Peak oil
production occurs much sooner.
That
said, we should be aware that any qualified economic scenario
will show that production, transportation and refining disruptions will
cause transient oil shortages long before we humans have reached the
theoretical peak of oil production.
And
it's all downhill from there.
ฉ
2005 Ronald R. Cooke
The Cultural
Economist
Author, "Oil, Jihad &
Destiny" and "Detensive Nation"
Editorial Archive
CONTACT
INFORMATION
Ronald R. Cooke | 13365 Via Del Sol,
Auburn, CA 95602 | Website
|
