Why oil prices will come down

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August 26, 2000

Why oil prices will come down

Peter Foster National Post 'Quiet" oil diplomacy is in the air. President Bill Clinton, currently visiting Nigeria, is due to have a word in the ear of President Olusegun Obasanjo about oil prices, which rose above US$32 a barrel again this week on news of low U.S. inventories. The problem is that Nigeria's rusty spigots may be about as open as they can be.

But then there are rumours of the "oil weapon" being surreptitiously unholstered elsewhere. Saudi Arabia -- which has spigots to spare -- may be holding back additional supplies because it is unhappy with what went on recently at Camp David. Venezuela's President, Hugo Chavez, who is due to host the next OPEC meeting on Sept. 10, is reportedly all for state control and cartels. And then, of course, there's always Saddam Hussein's benign intentions toward the West. Doesn't it seem only reasonable to have someone go and have a chat with leading OPEC members? Talk a little sense into them?

President Clinton recently declared that he would be "happier" with prices around US$20 to US$25 a barrel, and pointed out that such a price was ultimately in the interests of OPEC, since an oil price-led recession would ultimately hurt oil producers as much as consumers. But as a Saudi Arabian official was recently quoted as saying, telling OPEC producers that excessively high prices weren't in their interests was like "preaching to the pope."

To the extent that oil diplomacy does have any effect, it is likely to have a perverse one. The efforts of U.S. Energy Secretary Bill Richardson earlier this year to jawbone OPEC producers into lowering prices may have stiffened their resolve to keep them up. In any case, according to the automatic pricing mechanism OPEC claims it now operates under, if the price of a basket of different types of crude stays above US$28 for 20 consecutive working days, the organization will automatically boost supply. The price of the basket has been above US$28 since Aug. 14. That means the OPEC ministers' meeting on Sept. 10 should increase output by 500,000 barrels a day. But whatever the ministers decide, barring some political catastrophe, the price will be lower next year.

What we are currently seeing is the unexpectedly long continuation of unsustainably high oil prices from a level that was unsustainably low, an example of the phenomenon of market overshoot. Since oil refiners didn't believe the high prices would last, they deliberately ran down oil stocks this year, believing they could buy oil cheaper later. The American Petroleum Institute this week announced that U.S. crude oil stocks were close to a 24-year low. Cause for panic? Hardly. However, this may have led to an effect similar to that of short-sellers being forced to cover their positions, thus driving prices temporarily up.

Oil prices will come down for two reasons. First, higher prices are already having at least a marginally adverse impact on economic activity, which will in turn lower demand. Second, high prices have also already had an impact on exploration and production activity and prospects, which will increase supply. The result of the price increases of the past year is already abundantly clear in Canada. The number of rigs drilling in Canada reached an all-time high this past February, and upstream capital spending is estimated to hit a record high of around $20-billion this year. As Claudia Cattaneo reported in yesterday's Post, the industry is currently experiencing manpower shortages.

Nevertheless, despite the booming level of activity, the oil industry still believes prices will come down. The Conference Board of Canada estimates the oil price will be US$23 a barrel by the end of next year, and that sky-high natural gas prices, which recently hit an all-time record, will also decline. According to the Conference Board, this will lead Alberta's growth to fall back to a still respectable 3.4% next year, versus a red hot 5.8% this year.

Still, oil will be the factor behind Newfoundland's leap to the front of the provincial growth statistics in 2001. Hibernia, producing at 180,000 barrels a day, is currently a money machine. Terra Nova, due to produce at the rate of 115,000 barrels a day, is due to come onstream in the spring of 2001, while White Rose could produce a further 100,000 barrels a day in 2003-2004. Then there are other potential producing fields, such as Hebron and Ben Nevis. Even if the oil price were to fall as far as US$20, these fields should still be viable, and should make a significant contribution to the province's economy.

There is a possibility that a still-booming North American economy and the continuing recovery of the Asian economies may lead to a surge in home heating costs this winter, as well as a continuation of high gasoline prices. But the "solution" to that "problem" is already in the market pipeline. And it can't be hastened by diplomacy, quiet or otherwise.

http://www.nationalpost.com/home/story.html?f=/stories/20000826/372229.html



-- Martin Thompson (mthom1927@aol.com), August 26, 2000

Answers

Now here's a novel analysis. It's egghead, all the way--right out of a text book. It's a SUPPLY problem, Stupid. Last year there were 24% FEWER wells drilled, worldwide, because of the price collapse the year before. It takes TIME for these subsequent supply shortages to reach the consumer.

THIS IS WHAT WE ARE SEEING RIGHT NOW.

-- JackW (jpayne@webtv.net), August 27, 2000.


Yes, it won't be before 2003 at the earliest that the supply channels will fill up adequately again.

-- Wellesey (wellesley@freeport.com), August 27, 2000.

Can the guy....or gal....who wrote this be serious? This is about the dumbest analysis I've ever seen. This is right out of a textbook all right....the way things are supposed to work....in a perfect world.

-- R2D2 (r2d2@earthend.net), August 27, 2000.

About the only thing the writer got right here is that the Arabs probably got their backs up over Richardson preaching to them.

-- Billiver (billiver@aol.com), August 27, 2000.

I think we can say goodbye to 95 cent gasoline. It went the way of the nickel cigar. We'll never see that again in our lifetime.

-- Loner (loner@bigfoot.com), August 27, 2000.


I believe new oil well drilling activity was way down in 1997, too. At that time oil prices were below $20 and dropping like a rock at the end of the year. Also, the first three months of this year new drillings for both oil and natural gas were still going down. It was only about April that the pickup, in response to the rising prices began. Yes, this means the pipeline will not fill up again until, at least, 2003, maybe even 2004.

This guaantees a recession somewhere along the line, probably soon.

-- Chance (fruitloops@Hotmal.com), August 27, 2000.


Why is it nobody in the oil business seems to know anything about the oil situation? I've asked several service station owners about it and all I ever draw are shrugged shoulders and blank stares.

-- LillyLP (lillyLP@aol.com), August 27, 2000.

It's a Big Oil Company rip-off, don't you know? The same tired answer we used to hear, over and over again, during the big oi crises of the 1970s.

This is an easy answer. It keeps non-thinking people from having to think.

-- Uncle Fred (dogboy45@bigfoot.com), August 27, 2000.


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