Iraq: It Really Is All About the Oil
Time for An Energy Plan B

Posted on February 26, 2008
Posted By: Stanley Gold
 
President Bush’s cautious drawing down of US forces has done little to quell the debate over US military presence in Iraq. It continues to dominate and polarize the political agenda. Views range from “get out now” all the way across to “no withdrawal without victory”. In between these extremes, finely nuanced positions of excruciating delicacy are crafted and argued at every point across the spectrum by our leaders and presidential aspirants.

However, the chatter over benchmarks, surges, troop levels, timetables and Iraqi political accomplishments, or lack of, is dangerously misleading. It is misleading because it diverts our attention from the real threat America faces as a nation; and dangerous because it obscures the profound nature of the problem. The truth is that we in the West can’t fix the situation in Iraq until we fix our addiction to oil. Put more directly, America can’t leave Iraq until there’s a robust enough energy strategy in place to make us reasonably energy independent at home.

* * *

Few of our leaders today seem willing to address the deeper reasons for our active involvement and presence in the Middle East. It was not borne out of some altruistic notion of bringing freedom and democracy to a distant land riven by centuries of tribal and sectarian conflict, but plain old-fashioned self-interest. We needed to protect and keep a steady and relatively inexpensive flow of petroleum coming our way to fuel the engine of our booming post-war economy, a need that has only intensified over the last 60 years to a point where every aspect of our life and our economy today is based on the assumption of a plentiful supply of cheap oil that will continue to be readily and indefinitely available.

Say what you like about Dick Cheney, but you can’t accuse him of not giving us fair warning about the strategic importance of oil to American interests. In an oft-quoted speech made in November 1999, while he was still Chairman of Halliburton, the oil-services company, he warned that oil – the “basic building block of the world economy” – was in danger of becoming extremely scarce. So where were future supplies going to come from? The Middle East is, he said, “where the prize ultimately lies.” The inconvenient truth is that we are critically dependent on the continuous flow of Middle East petroleum into the world markets. Without it our economy would be severely damaged; so severely that it could change our way of life.

The balance between supply and demand has never been tighter, and to further complicate the matter India and China, with two of the largest and fastest growing world economies, are between them driving demand to near capacity for suppliers. Globally, oil makes up no less than 90 percent of all fuel used in transportation. Lack of new oil reserve discoveries, little increase in lifting capabilities (Russia being the exception), and almost no new refining capacity has made the supply for petroleum very tight.

But what does all this have to do with our future in Iraq? Given our national dependency on oil, we need access to Iraq’s massive oil reserves, the third largest in the world with an estimated 1.5 billion barrels waiting to be extracted. A precipitous pull out from Iraq without a long-term plan for energy independence in place could bring catastrophic economic consequences. That means we can’t get out until we develop an energy policy that makes us significantly less dependent on Middle East oil as a whole.

At least some Islamic extremists are aware of this reality and regard it as our Achilles heel. A quick exit from Iraq without a Plan B for energy independence will embolden the dark forces of chaos to create more havoc in a region that possesses 75 percent of the world’s oil reserves. It does not take a great imagination to foresee an Iran, in its drive to be a regional super power, to wreak chaos in the oil fields of Saudi Arabia and the small gulf states adjacent to it (whose people are mostly Sunni, as opposed to Iran’s Shia population). While it is fashionable these days to criticize the al-Maliki government for failure to form a cohesive and effective political administration, our real criticism should be focused on our leadership for failure to develop a Plan B… a plan for energy independence that will provide us with flexibility in dealing with Iraq and the entire Middle East.

For the last six years, energy independence has been featured in the President’s State of the Union message, and it receives applause from all members of the Congress. But no one puts forth a comprehensive energy policy to finally cure us for what President Bush has accurately diagnosed but lacks the political will to treat: (and that is) our addiction to oil. Our leadership seems forthcoming enough to make the connection between energy independence and national security, but no one seems willing to make this a condition to a disentanglement from Iraq and the Middle East. Special interests of all types (oil companies, auto industry, unions, environmentalists) frustrate and delay any meaningful policy.

America needs a robust Plan B, a plan that will free us from our economic dependence on the Middle East. Putting one in place will be no easy task. It will cause widespread pain and difficulty, it will take time … and most importantly, it will take political courage to confront the special interests.

A PLAN FOR ENERGY INDEPENDENCE
Four Steps, 10 Years

Any serious approach for energy independence would have to have, at its core, not just a plan for using less oil but a strategy to de-carbonize the entire US economy. It needs to have the urgency of a Manhattan Project and the leadership commitment that put a man on the moon. What could such a plan look like?

Hybrid vehicle legislation would require that all passenger cars, light trucks and SUV’s sold in the U.S. within 5 years will be powered by gasoline-electric hybrid engines which achieve a minimum of 40 miles per gallon. Within 10 years, all such vehicles will be powered by non-gasoline fuel sources.

A national energy independence body. Developing viable non-gasoline alternative fuels to run our passenger vehicles will require a huge commitment to research and development. A National Institute of Energy Independence (NIEI) needs to be legislated to provide criteria and funding to researchers in the disciplines of engineering and physics. Grants from the NIEI will fast track the research needed to develop cost-effective alternative fuels and insure energy independence. The NIEI will function like the National Institute of Health which provides funds for medical research at our leading Universities. This new NIEI research would be funded with a small additional tax on the sale of gasoline at the pump. Even with this additional tax, the price of gasoline at the pump will still be significantly lower in the US than elsewhere in the Western World.

Nuclear Power. We need to develop a plan, including incentives, to construct new nuclear power plants as an alternative fuel resource to supply home, office and factory energy. Fortunately, nuclear power has been somewhat rehabilitated in the generation since the Three Mile Island incident in 1979. Nuclear energy provides more than 16 percent of the world's total electricity. It has the potential to contribute much more, especially if the rising cost of oil and natural gas leads to a change in the relative economic disadvantage of nuclear electricity.

There is considerable popular appeal in the proposition that we should develop "renewable" technologies to harness more of the sun and the wind. While they certainly have their place in a balanced energy solution, many experts agree that we need also to recognize that such sources alone are intrinsically unsuited to providing base-load electricity, which requires reliable and continuous supply on a gigawatt-day (million kilowatt day), rather than kilowatt-hour, scale. On the whole, nuclear power is the only environmentally-friendly viable option (the issue of waste disposal notwithstanding).

Energy Efficiency Education. While there are many individual energy efficiency initiatives being undertaken by the energy utilities and state energy commissions, we need a comprehensive national energy efficiency education program and standards. The sacrifice has to be nationwide. At home, using energy efficient appliances can also have a positive effect on national security, (as well as, the economy and the environment). The efficient use of oil, gas, and electricity improves U.S. economic competitiveness. Lighting, for example accounts for approximately 20% of the average home's electric bill. Replacing regular light bulbs with ENERGY STAR-labeled compact fluorescent light bulbs (CFLs), energy-efficient alternatives that last up to 10 times longer than incandescent bulbs would mean an electricity bill savings of around $1,000 over the life of the bulbs. These statistics need to be, literally, brought home to every family in the United States and their use mandated. Commercial building owners in the United States spend almost $100 billion per year on their energy bills. In California alone implementation of available technologies and practices for both new and existing buildings could reduce overall commercial sector electricity consumption by 22 percent by 2015.

* * *

What is stopping us from pursuing these initiatives? There will be many, for their own special interests, who will oppose some or all. But true leadership will address this opposition with a forthright vision. Neither can we wait, as some suggest, for market forces to find a solution or wait over time as gasoline becomes too expensive for the average American. This is now an urgent matter for government action -- not just the marketplace. We are dealing with our national security.

We must get serious about reducing demand for foreign oil and in so doing cut the energy that fuels the current war. An effective Plan B will be nothing less than a comprehensive plan for energy independence. Without one we will be stuck in Iraq and Middle East indefinitely.

 
 
Authored By:
Stanley P. Gold is President and Chief Executive Officer of Shamrock Holdings, Inc., a privately owned Burbank, California-based investment company. Shamrock Holdings, Inc. is a diversified investment company wholly owned by the Roy E. Disney Family. Shamrock through its wholly-owned affiliate, Shamrock Capital Advisors, Inc., manages in excess of $2 billion in seven investment funds for institutional investors, as well as high net worth families. Prior to joining the Shamrock
 

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Comments

February, 26 2008

Ferdinand E. Banks says

I don't see how anyone could disagree with this article. Alan Greenspan said that the people he came into contact with at the upper reaches of American political and bureaucratic life understood that the war in Iraq was about oil, and that's good enough for me. Of course, Nobel Laureate Gary Becker said that this was not the case, but Professor (of economics) Becker is almost always wrong, as are the parasites who gave him his prize.

Presidential hopeful John McCain has said that the war in Iraq is successful both militarily and politically. I doubt whether this is true, but even if it were it wouldn't make any difference. Iraq is a member of OPEC, and the very smart directors of OPEC would almost certainly be able to explain to the very smart oil people managing oil in Iraq and elsewhere that it was in their interest to adhere to OPEC quotas. How would these quotas be adjusted if there were peace in Iraq and other countries joined OPEC? The answer is that they would change in such a way that the aggregate of oil supplied by OPEC would remain the same. Why shouldn't it? Wouldn't you prefer expensive to cheap oil if you were on the sell side of the market, given that oil is a depletable asset? Everybody is talking about Dubai these days, and the fantastic achievements of that state serves as a roll-model for the other countries in the Middle East. Oil at close to $100/b can make a lot of dreams come true.

Vice President Chaney is not my favorite politician, but on the subject of energy he knows what he is talking about, and here I mean nuclear as well as oil. Where this matter of waste disposal is concerned, a number of persons in this forum have referred to nuclear waste as a possible input instead of waste, and in a paper that I will soon send to EnergyPulse I mention that the French intend to store toxic waste in such a way that it can be comparatively easily accessed and recycled. Everyone should be thinking in these terms in case it is true that there might be a shortage of nuclear fuel. Arn't there some security problem with storing waste? Answer: not when a few battalions of the Foreign Legion are guarding it.

Personally I hope that there are a wide variety of comments on this article, and that commentators stick to the subject. I also hope that decision makers, the high-and-mighty, movers-and-shakers, etc are tuned in, and as I liked to say to my students in Bangkok, they are prepared to learn PERFECTLY the contents of this article as well as the valuable information in the comments.

Fred

February, 26 2008

Bob Amorosi says

Stanley,

Very well written and comprehensive article. There are many other authors on this website who may generally agree with it but have widely disparate views on how to achieve this energy independence.

Of particular contention is the stated need for government action, since there are many that loathe government interference in the public's fundamental lifestyle choices. But, in my view, there will be no other choice than to have government intervention because there is overwhelming inertia in the existing monopolies in the electricity industry, and in the existing massive industrial and market infrastructures that support oil-based transportation.

There is already government intervention taking place outside the US to do exactly what you are talking about, particularly in Canada, Australia, and elsewhere. We in Canada already have consumer and industrial incentives in place to promote CFL lighting, higher mileage vehicles, residential and commercial building energy efficiency upgrades, and to attract investment in renewable sources for electricity generation like wind and solar.

"National security" however is not the predominant phrase being touted for all of it, rather it's the looming energy crisis from skyrocketing fossil fuel prices combined with apparent climate change and global warming that both threaten our industries and our economy.

This may seem odd to someone outside Canada because the province of Alberta is a major oil exporter to the rest of the world, suggesting Canada should be somewhat sheltered. But Alberta's oil is not nationalized to protect Canadian interests in the event of global oil shortages - it's for sale to anyone abroad willing to pay the going price for it. Moreover the riches garnered from record oil prices are confined to Alberta, and not redistributed to the rest of Canada. Consequently it's the other Canadian provinces like Ontario with established manufacturing industries that have the most incentives in place for consumers and industry.

The incentives in Ontario are working. There are record numbers of wind and solar investments underway or on the table in Ontario. CFL lighting and Energy Star residential appliances are doing a booming commercial business here. All 5 million residential consumers are slated to have smart electricity metering in place by 2010, and nuclear generation is a big part of the province’s plans for future generating stations. The impacts of incentives on oil-based transportation however are taking much longer since generally people cannot replace their vehicles overnight that easily. So to complement this, the Ontario government is investing considerable public funds in leading-edge vehicle technologies at our universities, including the materials sciences to investigate lighter weight automotive materials and manufacturing processes.

It's nice to see people in the US are finally waking up too.

February, 26 2008

Len Gould says

Overall good article, and expecially important because it points out not only the problem(s) but also the hurdles confronting those looking for solutions, primarily vested interests.

One additional point which could be added would be that it's practically certain that for a small sliver proportionally of the research investment proposed for nuclear, solar thermal with thermal storage and fossil backup could be commercialized as baseload and, at least regionally, out-compete even nuclear. See cover story Jan 08 Scientific American. Potential to economically provide significant percentages of total US energy use, even without addressing distributed micro-CHP, which has the additional hurdle to overcome of disrupting business plans at existing electrical utilities.

February, 26 2008

Bob Amorosi says

The hurdles confronting commercial investment in solutions are an understatement by Len. These hurdles are precisely why (some) governments feel they must intervene to effect change in a timely manner.

Using consumer incentives can be very effective at letting regular commerce successfully commercialize new more expensive technologies. However this applies only to existing commercial products, it gets far more complicated for research and development because consumers generally do not do research and development of new technologies.

Since governments are looked towards to fund or subsidize R&D in industry, decisions on which R&D projects to fund are often heavily influenced by vested interests all too often. Large vested interests in the energy or automotive sectors have the advantage in that their cases are often made in the name of preserving or creating more employment, which is very powerful in getting a government to listen to it.

February, 26 2008

Bob Amorosi says

Stanley,

If one views electric vehicles as the solution to future oil independence, then surely the widespread commercialization of electric vehicles would have a huge impact on the electricity industry - to replace oil as the prime source of vehicle transportation energy.

This is a sobering view because our electricity industry is already strained to its capacity limits in many jurisdictions in North America, from politically motivated chronic underinvestment over the last many years in infrastructure maintenance and growth in generation capacity. Government regulation of the electricity industry has failed the public from its short sightedness - often because investment with short term goals are politically more palatable with voters than longer term infrastructure investment. It is the same story in here in Ontario as it is in the US.

Research and development has always been a risky business in private enterprise, so it is unrealistic to expect someone to come forward and finger the best technology up front to the exclusion of all others. Those who are searching for a magic pill energy technology or marketing structure are bordering on wishful thinking.

Our governments and energy sector industries should be pulling out all the stops to research and develop any new electricity generation, distribution i.e. smart grid, conservation and efficiency technologies as there are on the current radar screen, knowing fully well that some will not pan out as necessarily viable in the future. This includes the solar thermal and thermal storage ideas along with other renewables that Len Gould talks about above.

In the meantime consumers should (continue to) be provided incentives to take up as many affordable new technology products that are already out there to promote energy conservation and efficiency. Financial incentives alone however will not be enough to effect consumer behavioral changes over the longer term, cultural changes would also be needed. Providing consumers with a positive learning experience every time they invest in new technologies would go a long way to foster this. Consumer information technology to track and quantify their energy usage and costs, and then automate their residential energy use through demand response technologies are an obvious way to promote this kind of learning.

Lastly, energy consumption from transportation could be reduced significantly if industries were given more financial incentives to adopt far more telecommuting for office employees. I don't have statistics but I'm certain employment commuting on roads and highways every day contributes massively to the amount of (oil) energy used in America.

February, 26 2008

Todd McKissick says

Stanley, Interesting article but you yourself make the exact point of why your plan can not and should not be tried. The government should never be in charge of manipulating what choices we have in any way. There is too much influence clouding their sight.

I fail to see how any government assigned agency can be staffed by non-partisan members. When filling these positions, they will go to the 'experts' in the field and we all know who they will choose. Those people will come from the ranks of the now-entrenched industries who's influence has caused the majority of our current problems. Case in point, Cheney, who completely killed the solar thermal that Len mentioned and set that technology back more than 5 years. This panel will not have the country's and consumer's best interests solely in mind.

Even the simple decisions like mandating CFLs becomes tough when forced to deal with the details. Given my limited experience with them only lasting half as long as incandescents at 5 times the cost, I shudder to see them mandated. Any time you mandate something, you've just set the bar that no one will risk money to surpass. This goes for auto mileage as well. Currently, the auto market is beginning to offer 80, 100 and higher mpg cars and they are selling. Within a year or so, we will have hydrogen, biofuels, pure electrics, compressed air, multi-fueled, Stirling hybrids and very high mileage turbo diesels to choose from. We're seeing these kinds of innovation popping up from private R&D around the world. Even the newest companies offering solar thermal I mentioned above are due to private R&D. Why stifle that by letting some paid-off government panel choose who gets the prize?

Just the mention of a Manhattan Project type program tells me that everything I just listed will be traded for whatever some expert favors most. My vote goes to the guy who will level the playing field by reducing the government's role in all of energy the most and stop insulating the consumer from today's high prices.

February, 26 2008

Bob Amorosi says

Todd, your comments are music to my ears. Government panels routinely fail the public's better interests by letting industry experts from large vested interests influence them.

Private R&D has a lot to contribute and often does. Our problem is the large vested interests tend to be primarily the only parties that can afford private R&D. Also, private investment in R&D requires a reasonable payback period in its later commercialization. This typically translates into a relatively high price on any newly introduced innovation in the marketplace which slows the take up by the marketplace if existing entrenched technologies are much cheaper.

The proper thing would be for governments to give any new technology with promising benefits, whether from vested interests or not, a fair opportunity to access funds for R&D and initial commercialization. Once launched in the marketplace after a set period of time, then let free market forces determine the winners. Unfortunately this doesn't happen often enough because the losers in the marketplace are then considered a frivolous waste of R&D investment. It is human nature to therefore want to predict and choose the "winner" well before spending big on many horses in the race.

February, 27 2008

Todd McKissick says

Bob, Thanks for your reply. While I do agree with you on what 'should' happen in theory, I have gone round and round and can't find a way to actually make it fair. The problem comes in that little phrase you tacked on, "...with promising benefits". That's still letting the panel decide up front who has to take his ball and go home.

Case in point, right here on the campus I work at, a large new R&D facility was proposed for a long time. When I inquired before and after it was set up, they were very interested in a promising new technology and had many encouraging things to say about how they would assist it. At these times, their mission statement was more or less 'to bring promising new technology to fruition'. Soon afterward, they received this wonderful grant of $5M from the state ran utility company but it came with one caveat. They required 2 seats on the board. Their first deed was to change the mission statement to 'continuous improvement and research in viable energy technologies'. This raised a red flag for me and when I asked again, they flat out said that they were not interested in anything that their expert board members didn't think was viable. My previous proposal obviously fell into that group. This all transpired over the course of only 2 months.

I see lots of dollars going toward private development, probably more than in the public sector. Many of them should actually be classified as research but that doesn't sell as well to investors. These transactions do have a bias toward marketability but there are still ones that chase that pipe dream. That, to me, seems to be the best solution because it pits the promotion by the innovator vs. the risk taking (or gullability?) of the investor to make the decision. Since both of these groups come from all walks of life, the system balances out.

However, there is still one problem with it. That is the legacy system of R&D in energy still influences opinions of what works and what doesn't. The private investors still keep their eyes out for those grants and golden subsidies that could move a good investment into the 'great' column. Seems to me this is why everyone's so ga-ga over PV. (I'm not saying it doesn't have it's place, but there are way too many 'also needed' things for it to make much of a dent in our crisis.) Even the high upfront costs of nuclear could get funding privately if it was left to creative financiers. Think mortgage hedge funds.

The last problem I see is the imbalance between utility solutions and private ones, whether on commercial or residential scale. If you're not a utility, you can't compete fairly. No offense to Ed's past posts on the utility's POV of net metering, but if someone generates power onsite that relieves the local grid's peak AND the utility's spinning reserve, they should get credit for that full value. Currently, they are discouraged from even trying by over-valuing the miniscule 'connection cost'. Definitely a case of covering their future business. What would be so bad with some resource heavy region migrating toward every customer net-surplussing to the grid and the utility company simply acting like an electron traffic cop? Environmentally and customerwise, it's a goldmine.

So I keep going back to just getting the regulation out of the market completely. People will pay for what they want, i.e. quantity, then reliability, then convenience. If the big guys charge too much, people should be allowed to decide to go it without them. Nothing short of that will place as much downward pressure on all prices.

February, 27 2008

Xuguang Leng says

A small detail:

"Iraq’s massive oil reserves, the third largest in the world with an estimated 1.5 billion barrels waiting to be extracted."

According to an article in June 2004 National Geographic, the estimated proven reserves for Iraq is 115 billion barrels. The war may have demaged the reserve somewhat, but unlikely all the way to 1.5 billion.

February, 27 2008

Jeff Presley says

To quote the immortal Grateful Dead, "Every silver lining's got a touch of gray".

We start moving en masse to CFC bulbs mandated and we have a new mercury pollution problem

We start moving en masse to hybrid cars, and we have a new nickel metal hydride pollution problem

We start building more nuclear facilities and we have a new radioactive spent fuel problem (thanks in part to that "greatest president of all time", Jimmy Carter)

To those market enthusiasts here, I can only state that the market has its own mandate, survival of the fittest. Only when government intervenes with mandatory mandates of its own is the invisible hand of the market shackled, and we have the walking wounded and otherwise inefficient systems we see all around us. More government mandates? No thanks!

February, 28 2008

Len Gould says

"The latest in NYMEX product chic: $200 oil options

Posted Jan 7th 2008 10:22AM by Joseph Lazzaro Filed under: Other issues, China, Commodities, Oil

The fastest-growing position -- or calculation -- in the oil market is that oil prices will double, reaching $200 by the end of 2008, Bloomberg News reported Monday.

Options to buy oil for $200 on the NYMEX rose ten-fold in the past 60 days to 5,553 contracts, a record increase for any period."

http://www.bloggingstocks.com/2008/01/07/the-latest-in-nymex-product-chic-200-oil-options/

February, 28 2008

Bob Amorosi says

I commented to a recent Energy Central article wondering how gas guzzling consumers who own SUVs in the US might feel when oil eventually reaches $200l, and Dr. Fred Banks then replied this price level would prompt another war by the time it was reached. I wonder if he still thinks so.

February, 29 2008

Ferdinand E. Banks says

A fairly short time ago the big boss of the Federal Reserve System said that he wasn't worrying about the oil price, since the futures market indicated that it would be low in three years. Well, a futures price for three years - if there is such a crazy thing - is not a price but a fantasy, so Mr Bernake might actually be suited for another line of work.

As for an options price of 200 dollars at the end of 2008, that is just another example of somebody acting on their dreams. Of course, I have seen predictions along this line from some smart people, but I still don't believe them, because the oil price is already too high. This 'judgement' doesnt have anything to do with OPEC, who have the right to get as much money for their oil as they can obtain, but with the state of the US economy - and therefore the world economy. Given the sub-prime mess and fall-out, a steadily rising oil price is very very bad news.

February, 29 2008

Len Gould says

"Last nite i had the strangest dream i've ever dreamed before I dreamed the world had all agreed to put an end to war." -- apologies to McCurdy (and everyone should hunt down Serena Ryder's recent ablum rendition - smoky).

Two interesting question come out of the above: 1) What set's the upper limit on the price of oil?

2) Are there "wizards behind the curtains" who are actually smart enough to deliberately orchestrate these repeated messes? (sub-prime, savings-and-loan, etc. etc.)

On 1) I realize the short answer is "ability to pay" but am not convinced, given how high a price some people, eg. places in Europe, are willing to pay. The present process appears to be a deliberately controlled system with minor deviations about the trend line. So then, to me, the question becomes "Who could that be?" eg. what group(s).

On 2) I go with "follow the money". Haven't got there yet, but am becoming convinced "it" is out there, though the full implications are very scary.

February, 29 2008

Len Gould says

For doubters on 2), just consider how transparent are the core causes of the recent conflicts in Africa, given our distance. Simple power struggles among competing elites, esp. the increasing financial flows from resource development. One of the greatest sales pitches we were given in school on the advantages of representative democracy is how it provides elites an alternative means to power/control than violence. BUT, note how that justification says nothing about the reduction of power or control of elite's. If we had a distant perspective on our own situations, what similar circumstances might we be able to discern? What, in our "democracies", has become the substitute weapons arsenal for those people prepared to use any methods available and without any moral compunctions?

February, 29 2008

Len Gould says

Could a nice five-year economic meltdown simply be just punishment for a voting public uppity enough to a) start complaining about being forced to compete in the labour market with everyone from places with no environmental or labour standards b) get socialist thoughts like universal medicare etc. (and convenient means for refusing to implement)?

Anyone ever wondered why the military adventures of US democratic presidents always go foul?

February, 29 2008

Xuguang Leng says

The purchasers of $200 oil call option are not acting irrationally. The oil price doesn’t need to reach $200 in order for the purchasers to make money. All it takes is for the chance of reach $200 increase from today’s level. Suppose today the market thinks there is 1 in 100 chance oil will reach $200 by end of 2008. Next month, oil price might be at $120, and market thinks there is 1 in 50 chance oil will reach $200, the purchasers will make 100% profit.

What the option market says is, in the past, $200 is an impossibility; now, $200 is a possibility.

February, 29 2008

Len Gould says

Xuguand: Understood and agreed. To me the significant issue is the choice of that price.

March, 01 2008

Ferdinand E. Banks says

Xuguang, I think that somebody has got the 'exercise price' and the 'premium' of an option mixed up. However, it doesn't make any difference: oil isn't going to $200/b in 2008 - even if there is a war. Stop and think about it. A couple of years ago the so-called experts were arguing about whether oil would reach $28/b, and here we are discussing the possibility of oil spiking to 200 dollars. That's dreamsville, isn't it. And by the way, the price of oil isn't increasing because the value of the dollar is falling. That's another of those fantasies whose purpose is to suggest to the TV audience that when the dollar strengthens, we won't have to worry about the oil price any more.

March, 02 2008

Roger Arnold says

Fred, did you perhaps mean to say the price of oil isn't increasing merely because the value of the dollar is falling? I find it hard to credit that the plunge in the dollar's value would not be a factor at all.

March, 05 2008

Ferdinand E. Banks says

Roger, the fall in the dollar's value might be a factor. I don't think so, but it's possible. But even if it is I cant see it as a direct factor.

The important thing is that at last the OPEC countries are in the driver's seat and they know it. Once the oil price got above fifty or sixty dollars it put wind in their sails, steel in their stride. It told them that they were on the winning side. They didn't have to read the lousy (UK) Economist any longer to find out what blunderers they supposedly are. They are thinking the way you and I and some of the other people in this forum would think if we were in their place.

They interviewed the Big Boss of Dubai a few weeks ago on 60 Minutes. Why cant we have people like that running the countries that we live in? I don't see him making a mistake where this oil thing is concerned, by which I mean tying the oil price to the value of the dollar.

March, 05 2008

Todd McKissick says

I don't really think there's much of any link left between supply and demand. We've reached that point where demand reductions hurt bad, so there's lots of room for price escalation.

It seems to me that it's not so much any of the hard facts that drives the price of oil as it is the perception of where it will go. When speculation warned us of $60 prices, the price went to the $56 range. Then $80 was warned and it shot straight to $77. Then yet again we were warned of $100 prices and you guessed it, it shot back to $96-97. Talk of arbitrarily 'rising' prices has now opened the barn doors for it to top $100 and we're fairly steady at $102-103. It's almost like the traders are scared to go higher because they haven't 'received word' yet of how high it will go so they're staying just over the $100 mark.

Obviously, you can see where I'm going with this since we've all heard the latest warnings of $200/bbl prices. Taken with Professor Banks' last comment, this could be rough.

March, 05 2008

david austin says

I have no problem with Nuclear. What I have a problem with is the wholesale conclusion that it's the fastest and cheapest solution available. There are plenty of competing technologies that I think will give Nuclear a run for it's money, and can be ramped up much more quickly.

We need to annually invest up to 20 billion (1/5 of the annual Iraq-war budget) to fixing this problem, and it should be awarded to those technologies who provide and energy solution in the fastest and cheapest ($/kWh) possible. Let these technologies compete in the open market for the $20 billion as the X-prize money, with consumers doing the rewarding.

Instead what we see today is that renewable energy funds are distributed largely on a good-old-boy system with practically nothing going to the technologies that could have the fastest impact with the minimum amount of cost.

Fore xample, why does geothermal HVAC get nothing? In the next 10 years HVAC will be mandated to be 13 then 15 SEER. Why don't we instead make it worth it and affordable to use underground piping instead of inefficient (even 15 SEER is comparatively inefficient) heat-transfer units? If everyone did this it would cut our carbon consumption by 20%. But Bush removed all incentives for people to invest in that technology, while claiming to throw money at things as ridiculous as the fabled "hydrogen economy".

Also, why has CSP been relatively ignored when it seems reasonable that it can produce electricity at grid costs and doesn't require radioactives, expensive 100% pure silicon, or exotic compounds that breakdown within 10 years?

What we need is to create a market-driven engine that will force the best technologies rise to the top instead of obfuscating them by continuing to fund pie-in-the-sky or good-old-boy technologies.

March, 05 2008

david austin says

"many experts agree that we need also to recognize that such sources alone are intrinsically unsuited to providing base-load electricity"

Many experts also disagree with that assessment. It's an assessment based largely on looking at the bulk of renewable technologies, instead of focusing on those technologies specifically designed to provide base-load electricity at grid-level costs.

It has been the sad fate of renewables to be defined as a homogeneous technology instead of an incredibly disparate collection of technologies where only a few meet the criteria for base-load electricity. It is treatments such as this one the further promote that misperception.

March, 05 2008

david austin says

I've a bit of a free-markets capitalist streak, and yet even I think something has to be done about the oil companies posting record profits when supply outstrips demand and prices are still unbelievably high.

One of President Bush's press secretaries also once said nearly 8 years ago that the only way to break our oil dependence is for the price of oil to go through the roof, almost as if that was his goal (I sure wish I remembered who it was that said that). We'll he succeeded.

There are layers and layers to the current pickle we're in, and every layer needs to be peeled back, analyzed and treated.

March, 06 2008

Len Gould says

david austin: Well said. I would add "research on PHEV battery technology / cost reduction", and "rapid bevelopment of urban / interurban personal maglev vehicle systems" also. Theryre really the only realistic near-term alternative to oil available.

March, 06 2008

James Hopf says

Dave,

I believe that renewable sources, that can be deployed faster than nuclear in the near future, will be able to meet SOME of our future energy needs. However, due to their limitations related to intermittentcy, these sources will not be enough by themselves to meet all our needs over the mid and long term. Thus, we should agressively persue both nuclear and these other options.

I agree with you about letting the market pick winners as opposed to having the govt. decide, by fiat, what we will persue or build. We should just tax or limit air pollution, CO2 emissions, and oil/gas imports and let the market decide what happens. We should still do govt. research, however. This should be as broad based as possible.

We may have different personal opinions about how well various sources (e.g., nuclear vs. renewable) will do under such a fair (market) contest. (You probably feel that the intermittentcy problem is less significant, and therefore that renewables potential share is larger.) But this doesn't matter much as long as we generally agree on the policy. You don't seem to be so biased against nuclear that you would not be able to accept the result of such a market competition. I would certainly be willing to abide by the result.

March, 08 2008

Jeff Presley says

Many of you might find this article interesting, I certainly did. I was surprised to learn the CEO of an oil company wasn't an engineer, but an economist. The fact that his opinions aligned with mine didn't surprise me however.

March, 11 2008

Randy Park says

Regarding $200 per barrel oil, I was interviewed today by a reporter asking about gas prices. I pointed out our Gas Price Calculator at www.EnergyPredicament.com. You can enter a typical trip, the vehicle you drive, your alternative transportation, how long it takes, and what your time is worth. It calculates what you should rationally be prepared to pay for gasoline. The stats from the Calculator reveal a median value of 8 times current prices. Not everyone can afford that, but many can, and certainly many can afford much higher that current prices. To Bob Amorosi, I too am a resident of Ontario, and while I appreciate your comments and optimism, I don't think the public or the politicians are anywhere near aware of the predicament we are in with energy.

March, 12 2008

Len Gould says

Randy: An interesting calculator. According to it, i'd be willing to pay up to $9.66 / litre ($38.70 / gallon). I think it may estimate somewhat high, but not far off.

March, 12 2008

Len Gould says

Also interesting are some of the consumption graphs at EnergyPredicament.com . Some strange and disconcerting data, eg. China consumption is presently 3x that of Russia (you know Russia will catch up), Mexico currently consumes as much as all South America (they too will catch up). Saudi Arabia now consumes more than India and Africa together (they too will catch up).

Regardless of supply, consumption / demand WILL exceed, soon if not already.

March, 13 2008

Edward Silliere says

This is a very interesting discussion and I think some of the oil dependence solutions are being addressed here. However, one point I think has been lost is that we need the high prices we are now seeing to spark private sector investment. The higher the price oil goes the more investment money will flow into commercially viable alternatives. The very last thing we need is a Manhattan project and the big-govt. policy and associated new government bureaucracy that would surely follow. Look at the ethanol disaster! This came from a big government idea and has only led to soaring commodity prices.

We need the free market to steer us in the right direction, and it certainly will. I am very optomistic that we are finally on the right path with tremendous investments being made in alternative energy sources. And we can thank high oil prices for making it happen. We still need an aggressive approach to upstream oil investments, ANWAR, offshore and new refining capacity. These needs are immediate and critical. President Bush offered to allow new refineries to be built on closed army bases but Conress has done nothing to make it happen. They need to act now! Nuclear is also a great long-term solution to reducing dependence on natural gas and coal. I don't buy into the global warming hype but it can't be a bad thing to reduce smog and acid rain from burning coal.

March, 13 2008

Ferdinand E. Banks says

Edward Silliere, I too am willing to accept that the free market will steer us in the right direction, but it needs help, and some important industrialists in the US and elsewhere agree. As for ANWAR and offshore, forget about it - and if you can't forget try bugging the executive suites of Big Oil. Those people know the score, although they prefer to keep it to themselves. I also wouldn't write off a new Manhattan Project, although I haven't figured out yet just what they would work on. And as for global warming I buy into it, because I don't see anything at all wrong with buying into it.

March, 13 2008

Edward Silliere says

High oil prices help reduce the value of the dollar, not the reverse. The only way a weak dollar exacerbates rising oil prices is if the Saudi's fail to raise production to offset soaring oil prices because a weak dollar has negated, to a degree, the rise in prices. Or, if those with much stronger currencies, say Europeans, are taking advantage of a weak dollar by hoarding dollar demonated oil. The former can be argued while the latter can't. One could also argue the Saudi's are simply greedy and are taking advantage of our ability to pay these prices.

The real culprit is actually Wall Street. They have been aggressively pushing "commodities as an investment class" quite successfully for several years. It began with Goldman Sach's early this decade with the Goldman Sachs Commodity Index. Billions have been invested in their index by retirement fund managers, etc.

And this has grown now to where every investment bank and brokerage firm now aggressively sells structured commodity investments to their high net worth investors, and all their managed portfolio's, as a hedge against inflation or simply as a good trade. And most of these structured products are heavily weighted in oil. This new class of investor has overwhelmed the futures market and driven crude oil higher despite bearish fundamentals.

Other commodities have been driven through the roof by this same investment group. This is distinctly different than headline chasers, who created added volatility in the 80's and 90's. This new group has only one natural offset, mega producers like Saudi Arabia and Russia, and they don't hedge. So we have an imbalance in the market that won't be resolved until we get beyond the peak of the potential investment pool. Once that occurs crude prices will crash - last one in shut the door - and they won't stop falling until the last of the pension funds has been squeezed out. I am describing a market dynamic, not supply/demand. The long-term fundamentals are still bleak for consumers.

March, 14 2008

Ferdinand E. Banks says

I'm sorry Edward, but although you obviously are moving in the right direction, you don't see the bottom line at all, nor understand the groovy rhythms of the oil market. And the funny thing is that while you may have the answers somewhere in your comment, you haven't put them together correctly. Why is that? It's because you let a few things that are very wrong work their way into your thinking.

The oil price is driven by supply and demand, and not - as Bill O'Reilly mistakenly put it - by little guys in Las Vegas, or for that matter in New York. That market has been headed where it is now for a long time, and demand from China gave it the push that sent oil to $100/b many years before it would have arrived there otherwise.

But it would eventually have arrived there, because all along the Middle East countries have been looking for an opportunity to NOT increase their production of oil, and countries like Saudi Arabia have found that opportunity. You, by the way, pointed this out, and by not raising production they show that at last they have learned how to play the game. And the Saudis and others are NOT greedy - they are simply doing what comes naturally. And if they continue to do what comes naturally, then as you say, the long-term fundamental are indeed bleak for consumers.

Wall Street! I taught international finance for about 15 years This was my favorite subject, and I was a great teacher - not one of those academic stumblebums that you often see pouring through the Journal of Finance. Among other things, my students were told that they HAD to see the film Wall Street, and read the books by Nancy Goldstone ('Trading Up') and Michael Lewis ('Liars Poker'). The lesson in those books and in that film is that the people in the financial districts of NY, London, etc are just like the rest of us, only they love money more, they are willing to put more effort into making it, and as they used to say in the part of Chicago where I was born, they believed that "when you find a fool you bump his head."

I told my students that when they got on a plane, they should always take copies of the Wall Street Journal and Financial Times, and not those lousy papers that they usually pass out. That's what many of them do, and that's why when they get on a plane they turn left, and when I get on I turn right.

Fred

March, 14 2008

Len Gould says

Interesting parallel. Where have we seen this dynamic before? In the Roman Empire (some say) the collapse was precipitated by Rome's loosing the ability to import sufficient grain to manage the price of bread used to pacify the polis. Was it because the population outgrew the import or financial capacity, or the homeland lost sufficient coercive powers on it's colonies, or something else altogether? Will history judge the move of the empire's capital from London to Washington similar to the Roman's move from Rome to Constantinople?

March, 14 2008

Edward Silliere says

Fred, I have been an oil trader and analyst for over the last 25 years so I certainly understand the "groovy rhythms" of the oil market. The fundamentals of the oil market are ingrained in me, so you haven't enlilghtened me with news that demand from China is behind the rise in oil prices. What you are apparently unaware of is; 1) the price of crude is normally driven by the demand for refining, which is driven by the crack spread - the relationship between crude and refined products prices, and the crack spread is normally driven by the supply/demand balance, or lack thereof, of gasoline. And 2) the dramatic inflow of investment money coming from pension funds, etc.

As to point 1, gasoline stocks are busting at the seams right now and spot prices are sliding fast. This means refiners profit margins have disappeared and they will now accellerate their spring maintenance programs - and that translates into rapidly rising crude stocks, which are already plentiful. Point 2 was well described in my previous message but you apparently either don't believe it or discount the effect of the imbalance. I assure you it is true. As to the effect let me explain it this way; if the Saudi's and the other rich oil countries took all their vast new wealth and decided to invest in IBM stock for example, the price would rise to many multiples of reason. Do you agree? This is basically what has happened in the oil market. A portion of the vast wealth of the retirement pools of the U.S. has been unleashed on the oil futures market. I have no doubt this has been made possible by the compelling story about demand growth from China and India that Wall Street has been selling, but the fact remains that billions have been pouring into the crude futures market with no offsetting selling from those benefitting most from the rising prices.

And by the way, the Middle East producers have NOT been looking for an opportunity to NOT increase production. They produce flat out. They have been looking for a reason for the Saudi's NOT to increase production - the only OPEC member with spare production capacity. The others that could produce more - Iran, Venezuela and Nigeria - need huge infrastructure investment to boost production but lack the ability to make the repairs, etc, that are needed. And the major oil companies of the world won't go there due to govt. or terror risk. Iraq's potential to increase production is substantial, and once things settle down the major oil companies of the world will scramble in and spend the money to rebuild infrastructure. Look at Russia. Their production at the end of the cold war was down to under 1 million b/d and now stands at roughly 10 million b/d.

I'm certain there are many things we agree on but how the price of oil got to $100 is not one of them.

March, 14 2008

Ferdinand E. Banks says

Edward, I'm sure that there are many things we agree on too, but definitely not your theory of the oil price.

Everything in your first paragraph above is wrong. It sounds good, and maybe you believe it, and also maybe you got some good results thinking that way when you were trading or analyzing or both, but it's still wrong. And 25 years back isn't enough. When the Seven Sisters were calling the tune in Saudi Arabia and surrounding countries, they expressed plans to raise Saudi output to 20mb/d. The Saudi government had no intention to raise it to more than 10 mb/d, which they made clear at that time, and regardless of what they say now, sustainable capacity will not be raised to more than 12 mb/d. That is their supply, global demand is still increasing, and putting those two things together with the supply from other parts of the world, we have a large part of the explanation of how we got to $100/b for oil.

As for this business with crude stocks, Franklin Fisher of MIT and myself developed the first theoretical and econometric stock-flow models for various commodities. Those models explain short-run prices. They do NOT explain trend prices, which are determined by supply and demand. What about the unleashing of a flood of money from retirement funds on the oil futures markets as a factor for explaining present prices? Maybe. This might be something that deserves some consideration; however since I have studied the relation between futures prices and spot prices in the future I am not ready to agree witout doing some thinking.

You say that the Middle East producers are producing flat out. Probably, but what they are not doing is what President Bush and friends want them to do, which is to invest in more capacity. Why should they? Would you if you were in their place? And in case you have been talking to the wrong people, the Iraq government has NO intention of allowing foreigners into their country to upset the oil apple-cart. They, like you and Adam Smith, prefer more money to less.

The Russian production was NOT under 1 mb/d at the end of the cold war. And even if I am wrong about Eye-Rak, which is unlikely, I can assure you that Mr Putin and his friends do not need the services of anybody from anywhere in order to increase their production of oil or gas. Maybe the production of vodka, but...

March, 16 2008

Roger Arnold says

Somebody correct me if I'm wrong, but it seems to me that oil lacks the essential attribute of a commodity whose price can be influenced by speculation: namely, the ability to be bought and held. The only people who can hold oil to any extent are the producers--by withholding production. Which puts them firmly in control of the price.

An oil futures contract HAS to mesh with supply and demand, because it ultimately translates into a physical transaction between an oil producer and an oil consumer (i.e., refiner) that WILL occur on the specified date. The contract itself may be traded multiple times before its delivery date at prices determined by the market, but come the contract date, somebody is going to have to deliver, and somebody take delivery of, the specified amount of oil. The party taking delivery will have to be a refiner or distributer (i.e., a "real" constomer) because the logistics of the system make it impractical for a speculator to take delivery and hold the oil, waiting for its price to go up.

Put another way, the price that traders may be willing to pay for oil futures has no ability to influence the price that a refiner or distributer will be willing to pay, because the oil traders do not have the option of withholding the oil if they don't like the market price.

At least, that's how it looks to me. But I know next to nothing about the trading business. If I'm all wet, I'd welcome an explanation.

March, 17 2008

Ferdinand E. Banks says

Sorry Arnold, but the position can easily be closed without delivery - at least it can in a liquid market. I think that I have a simple but - as someone said -an overly dramatic explation in my new textbook 'The Political Economy of World Energy'.

Fred

March, 18 2008

Edward Silliere says

Roger, only a tiny fraction of oil futures contracts end in delivery. Most contracts are liquidated or rolled forward before expiration. You are right that producers can move prices around by withholding or raising production. However, the futures market IS the market. Producers and refiners price their purchase/sales against the futures market. It is the liquid benchmark that contains all information. Speculators can have an enormous effect on prices, particularly over the short-run. As investors have poured into oil futures market they definately have driven prices higher. They hold positions for the long-term by rolling forward from one month to the next.

Fred, sorry I meant to say Russian exports dipped below 1 million b/d - production fell to around 6 million from over 10 million.

March, 18 2008

david austin says

Edward-

I wasn't aware of Bush's proposal to turn closed army bases into refineries. I wonder what the details of the proposal are.

Somehow we have to make it attractive enough for Big Oil to build refineries here. I keep hearing that there isn't any money in it, but as far as I can tell Valero (I believe the only major stateside refiner) is doing extremely good business. Are they floating these rumors to keep a corner on the market?

The problem I see coming down the pipeline is that when it becomes obvious that we need to turn on the spigot for shale-to-oil or tar-to-oil or ANWR oil, etc. we won't have anywhere to refine the stuff. At least not fast enough to avoid complete financial collapse of the country if and when foreign oil becomes out of reach.

March, 19 2008

Edward Silliere says

David, the major's would like to build new refineries but have been unable to do so because of "not in my back yard" issues. Instead they have been adding capacity to existing plants where they don't have to meet the requirements of "New Source Review." Valero bought up older plants that either had the capacity to run sour, or high sulphur, crude or converted them to do so. This was a brilliant move. They saw that sweet crude production was sliding while sour production was climing. With most refineries set up to run on light, sweet crude the spread between sweet/sour wouold widen significantly. When Valero jumped in with both hands the spread was roughly $3, sweet over sour, and it widened to $10 in short order. This means they showed an additional profit of $7/barrel.

Having said that the refining business is generally not a very profitable one for a variety of reasons. First, regular changes in mandated gasoline specifications has caused tremendous investment with the only reward coming when the crack spread - the relationship between crude prices and refined products prices - widens significantly. This occured many years after the investments were made and only after imports of finished product fell, which happened because foriegn refiners hadn't made the same upgrades. More importantly the crack spread soared due to serious and long-term damage to Gulf Coast refineries from hurricanes Katrina and Rita.

Back to MIMBY for a moment. I recently worked for an oil company that owned a refinery in California. We took the plant down to make the investments nescessary to meet California's stringent standards and filed a plan to have the plant down for one year. It took us some 6 months longer to make the improvements and when we filed to restart the plant we wre told that since we missed the planned restart date that we were subject to New Source Review. They informed us we would have to reclaim the land first before refiring! That would mean removing the refinery, clean the land and then replace the plant before restarting. We stripped the plant down and sold it for parts. And California has a very serious shortage of refining capacity. This is insane!

I'm not a Bush basher but he really didn't fight hard for his plan to add refineries on closed bases. He proposed it to congress and left it to them to followthrough. And since congress can't see past the next election nothing has been discussed much less done.

To your point about shale-to-oil, tar-to-oil and ANWR, these are still good projects that need to be pursued aggressively while the forward curve for oil still supports these projects. The oil produced could replace imports from Venezuela and other hostile govts.

March, 19 2008

Edward Silliere says

David, sorry I forgot a couple of points. A refinery generally soaks up money - they constantly need repair and maintenance. And with over 30 different grades of gasoline in the U.S. refiners either have to become niche producers, like in California where gasoline standards are unique to the state. Or, they regularly have to liquidate old inventory to make room for a new spec. And this occurs several times a year. This increases the cost of doing business, sometimes significantly. When we move out of winter gasoline season the old product often slides hard in relation to the new grade or production costs, causing losses. Because of this refiners will sometimes run down their inventory early, fearing getting caught with unwanted product, and prices can surge in response to a shortage. So in short refining is not just an expensive process it is a very complicated and risky business made dramatically more so by unruely and disjointed govt. regulations.

March, 24 2008

Rick Morrow says

This was a great article.

It is the patriotic duty of the author to forward it to all of the prospective U.S. presidential candidates...regardless of his personal political affillation.

After its receipt by each candidate...let's see whom has the guts to incorporate into their respective election bid process.

Unfortunately, none at this juncture appear willing to get serious about the article's topics.

I would love to be proven incorrect.

J.R. Morrow

April, 19 2008

Stanley Gold says

First, let me thank all who have commented on this article. Some of you have advanced some very good ideas that I want to incorporate into my future thinking about these issues.

Second, Todd, I think your early comments about government sponsored R & D being hijacked by the political process misses the point of the NIEI, that I envision. NIH which distributes medical research dollars to the approximately 200 leading research universities in the US works very well and relatively free from a political agenda. It is administered by academic experts in medical research and its grants to Principle Investigators are done on the merits. Accountability and transparency are built into the grants and there is peer pressure to do meaningful work. I envision similar types of research grants from the proposed NIEI, but to Engineering and Physics departments, instead of Medical Schools and Chemistry departments. As many of you have pointed out it is critical that the R & D be done by independent researchers (hence, the need for employing university research) instead of industry research, which is not likely to develop technologies that will seriously obsolete the core business of the corporations employing the researchers.

Third, Rick, the article has been distributed to all the presidential candidates and all of the leadership in both houses of Congress. I know their has been some discussion of its contents within the Democratic Leadership of the House, but to what end I can't say.

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