Why “supply and demand” doesn’t work for oil

The traditional understanding of supply and demand works in some limited cases–will a manufacturer make red dresses or blue dresses? The manufacturer’s choice doesn’t make much difference to the economic system as a whole, except perhaps in the amount of red and blue dye sold, so it is easy to accommodate.

Figure 1. From Wikipedia: The price P of a product is determined by a balance between production at each price (supply S) and the desires of those with purchasing power at each price (demand D). The diagram shows a positive shift in demand from D1 to D2, resulting in an increase in price (P) and quantity sold (Q) of the product.

Figure 1. From Wikipedia: The price P of a product is determined by a balance between production at each price (supply S) and the desires of those with purchasing power at each price (demand D). The diagram shows a positive shift in demand from D1 to D2, resulting in an increase in price (P) and quantity sold (Q) of the product.

A gradual switch in consumer preferences from beef to chicken is also fairly easy to accommodate within the system, as more chicken producers are added and the number of beef producers is reduced. The transition is generally helped by the fact that it takes fewer resources to produce a pound of chicken meat than a pound of beef, so that the spendable income of consumers tends to go farther. Thus, while supply and demand are not independent in this example, a rising percentage of chicken consumption tends to be helpful in increasing the “quantity demanded,” because chicken is more affordable than beef. The lack of independence between supply and demand is in the “helpful” direction. It would be different if chicken were a lot more expensive to produce than beef. Then the quantity demanded would tend to decrease as the shift was increasingly made, putting a fairly quick end to the transition to the higher-priced substitute.

A gradual switch to higher-cost energy products, in a sense, works in the opposite direction to a switch from beef to chicken. Instead of taking fewer resources, it takes more resources, because we extracted the cheapest-to-extract energy products first. It takes more and more humans working in these industries to produce a given number of barrels of oil equivalent, or Btus of energy. The workers are becoming less efficient, but not because of any fault of their own. It is really the processes that are being used that are becoming less efficient–deeper wells, locations in the Arctic and other inhospitable climates, use of new procedures like hydraulic fracturing, use of chemicals for extraction that wouldn’t have been used in the past. The workers may be becoming more efficient at drilling one foot of pipe used for extraction; the problem is that so many more feet need to be drilled for extraction to take place. In addition, so many other steps need to take place that the overall process is becoming less efficient. The return on any kind of investment (human labor, US dollars of investment, steel invested, energy invested) is falling.

For a time, these increasing inefficiencies can be hidden from the system, and the prices of commodities can rise. At some point, however, the price rise becomes too great, and the system can no longer accommodate it. This is the situation we have been running into, most severely since mid-2014 for oil, but also for other commodities, dating back to 2011.

Figure 2. Bloomberg Commodity Index from Bloomberg", reflecting a combination of 22 ETFs in Energy (35%), Agriculture (29%), Industrial Metal (15%), Precious Metals (16%) and Livestock (5%)

Figure 2. Bloomberg Commodity Index from Bloomberg, reflecting a combination of 22 ETFs in Energy (35%), Agriculture (29%), Industrial Metal (15%), Precious Metals (16%) and Livestock (5%)

The higher cost of producing oil and other energy products affects the economy more than a shift from chicken to beef.  

The economy is in a sense more dependent on energy products than it is on our decision whether to eat chicken or beef. If the cost of producing oil rises, and that higher cost is carried through to prices, it affects the prices of many things. It affects the cost of food production because oil is used in the production and transport of food. The higher cost of oil also affects nearly all transported goods, since oil is our primary transportation fuel.

Some of the impacts of higher oil prices are clearly adverse for the economy.

If higher oil costs are passed on to consumers as higher prices, these higher prices make goods less affordable for consumers. As a result, they cut back on purchases, often leading to layoffs in discretionary sectors, and recession.

The higher cost of oil products (or of other energy products) also tends to reduce profits for businesses, unless they can find workarounds to keep costs down. Otherwise, businesses find themselves in a situation where customers cut back on purchasing their products. As we will discuss in a later section, this tends to lead to reduced wages.

Some of the impacts of higher oil prices are somewhat positive.

Rising oil prices clearly encourage rising oil production. With this, more jobs are added, both in the United States and elsewhere. More debt is added to extract this oil, and more equipment is purchased, thus stimulating industries that support oil production. The value of oil leases and oil properties tends to rise.

As noted previously, the cost of food supply depends on oil prices. The cost of producing metals also depends on oil prices, because oil is used in extracting metal ores. As the prices of metals and foods rise, these industries are stimulated as well. Values of mines rise, as do values of agricultural land. More debt is taken out, and more workers are hired. More equipment is purchased for producing these products, adding yet more stimulation to the economy.

The higher price of oil also favorably affects the many countries that extract oil. Part of this effect comes from the wages that the workers receive, and the impact these wages have, as they cycle through the economy. For example, workers will often want new homes, and the purchase of these new homes will add jobs as well.  Part of the effect comes through taxes on oil production. Oil production tends to be very highly taxed, especially in parts of the world where oil extraction can be performed cheaply. This tax money can be put to work in public works programs, providing better schools and hospitals, and more jobs for citizens.

It is inevitable that the price of oil must stop rising at some point because of the adverse impact on spendable income of consumers.

The adverse impact of higher oil prices on the spendable income of consumers comes in many ways. Perhaps one of the biggest impacts, but the least obvious, is the “push” the higher cost of oil gives to moving manufacturing to locations with lower costs (cheaper fuel, such as coal, and lower wages), because without such a change, higher oil prices tend to lead to lower profits for many makers of goods and services, as mentioned previously.

The competition with lower-wage areas tends to reduce wages in the US and parts of Europe. This push is especially great for jobs that are easily transferred to other countries, such as jobs in manufacturing, “call-centers,” and computer tech support.

Another way businesses can maintain their profit levels, despite higher oil costs, is through greater automation. This automation reduces the number of jobs directly. Automation may use some oil, but because the cost of human labor is so high, it still reduces costs overall.

All of these effects lead to fewer jobs and lower wages, especially in the traditionally higher-wage countries. In a sense, what we are seeing is lower productivity of human labor feeding back as lower wages, if we think of the distribution of wages as being a worldwide wage distribution, including workers in places such as China and India.

Normally, greater productivity feeds back as higher wages, and higher wages help stimulate higher economic growth. Lower wages unfortunately seem to feed back in the reverse direction–less demand for goods that use energy in their production, such as new homes and cars. Ultimately, this seems to lead to economic contraction, and lower commodity prices. This is especially the case in the countries with the most wage loss.

The drop in oil prices doesn’t do very much to stop oil production.

Oil exporting countries typically have relatively low costs of production, but very high taxes. These taxes are necessary, because governments of oil exporters tend to be very dependent on oil companies for tax revenue. If the price of oil drops, the most adverse impact may be on tax revenue. As long as the price is high enough that it leads to the collection of some tax revenue, production will take place–in fact, production may even be increased. The government desperately needs the tax revenue.

Even oil companies in oil-importing countries have a need for revenue to pay back debt and to continue to pay their trained workers. Thus, these companies will continue to extract oil to the best of their ability. They will aim for the “sweet spots”–places that have better than average prospects for production. In some cases, companies will have derivative contracts that assure them of a high oil price for several months after the price drops, so there is no need to reduce production very quickly.

The drop in oil prices, and of commodity prices in general, makes debt harder to repay and discourages adding new debt. 

We earlier noted that a rise in the price of commodities tends to make asset prices rise, making it easier to take out more debt, and thus stimulates the economy. A drop in the price of oil or other commodities does the opposite: it reduces asset prices, such as the price of the property containing the oil, or the farmland now producing less-expensive food. The amount of outstanding debt does not decline. Because of this mismatch, companies quickly find themselves with debt problems, especially if they need to take out additional loans for production to continue.

Another part of the problem is that on the way up, rising prices of oil and other commodities helped lift inflation rates, making debt easier to repay. On the way down, we get exactly the opposite effect–falling oil and other commodity prices lead to falling inflation rates, making debt more difficult to repay. Commodity prices in general have been falling since early 2011, leading to the situation where interest rates are now negative in some European countries.

The costs of producing commodities continue to rise, as a result of diminishing returns, so this fall in prices is clearly a problem. Low prices make future production unprofitable; it also leads to an increasing number of debt defaults. There are many examples of companies in financial difficulty; Chesapeake Energy is an example in the oil and gas industry.

Where oil supply and demand goes from here

The traditional view of the impact of low oil prices seems to be, “It is just another cycle.” Or, “The cure for low prices is low prices.”

I am doubtful that either of these views is right. Falling prices have been a problem for a wide range of commodities since 2011 (Figure 2, above). The Wall Street Journal reported that as early as 2013, when oil prices were still above $100 per barrel, none of the world’s “super major” oil companies covered its dividends with cash flow. Thus, if prices are to be sufficiently high that oil companies don’t need to keep going deeper into debt, a price of well over $100 per barrel is needed. We would need an oil price close to triple its current level. This would be a major challenge, especially if prices of other commodities also need to rise because production costs are higher than current prices.

We are familiar with illnesses: sometimes people bounce back; sometimes they don’t. Instead of expecting oil prices to bounce back, we should think of the current cycle as being different from past cycles because it relates to diminishing returns–in other words, the rising cost of production, because we extracted the cheapest-to-extract oil first. Trying to substitute oil that is high in cost to produce, for oil that is low in cost to produce, seems to bring on a fatal illness for the economy.

Because of the differing underlying cause compared to prior low-price cycles, we should expect oil prices to fall, perhaps to $20 per barrel or below, without much of a price recovery. We are now encountering the feared “Peak Oil,” because much of the cheap oil has already been extracted. Peak Oil doesn’t behave the way most people expected, though. The economy is a networked system, with high oil prices adversely affecting both wages and economic growth. Because of this, the symptoms of Peak Oil are the opposite of what most people have imagined: they are falling demand and prices below the cost of production.

If low prices don’t rise sufficiently, they can cut off oil production quite quickly–more quickly than high prices. The strategy of selling assets at depressed prices to new operators will have limited success, because much higher prices are needed to allow new operators to be successful.

Perhaps the most serious near-term problem from continued low prices is the likelihood of rising debt defaults. These debt defaults can be expected to have a very adverse impact on banks, pension plans, and insurance companies. Governments would likely have little ability to bail out these organizations because of the widespread nature of the problem and also because of their own high debt levels. As a result, the losses incurred by financial institutions seem likely be passed on to businesses and individual citizens, in one way or another.

 

 

 

 

 

 

 

About Gail Tverberg

My name is Gail Tverberg. I am an actuary interested in finite world issues - oil depletion, natural gas depletion, water shortages, and climate change. Oil limits look very different from what most expect, with high prices leading to recession, and low prices leading to financial problems for oil producers and for oil exporting countries. We are really dealing with a physics problem that affects many parts of the economy at once, including wages and the financial system. I try to look at the overall problem.
This entry was posted in Financial Implications and tagged , , , , , . Bookmark the permalink.

1,389 Responses to Why “supply and demand” doesn’t work for oil

  1. Ed says:

    As the effort to get a unit of energy increases society grow poorer. The amount of effort needed to get one unit of product (food, cloths, cars, houses) increases. Since there is a limit to how much one person or family can work there is a decline in the amount of stuff they can buy. Less buy cars, less buy houses.

    I have read article that propose the young live in apartments 250 sq ft in size with a little common area because it will be fun (meaning that is all they can afford and the developer plans to make a profit). Being urban they can walk to work and the grocery store.

    • J says:

      Having your own apartment is BAU even if it’s 250 sq ft IMO. Walking to work is probably something that <1% can do today. Bike to work would be more realistic but today we're far from bikeable communities in the USA. Denmark and Holland lead there.

      Having a job and a grocery store is definitely BAU.

      As Gail pointed out, the big risk is that ROI on human labor goes to 0. That's when unemployment truly goes bananas. Lots of bridges to nowhere will be needed to dampen the fall, but even such projects require energy.

      I recently went to a guys house to check out some salvage building materials. He was about to demolish his 3500 sq ft house overlooking a lake in a very desirable neighborhood. IMO the house was lavish. A bit dated, but new carpets and paint job would have done wonders. No the house was to go down.

      A woman stopped by to pick up a mattress. At $20, she had the same feelings as I had. Mis-allocation of capital. Rich too rich. Poor too poor.

    • Another approach seems to be several young people sharing an apartment. If one person moves out, they place an ad in the paper and interview for replacements. The people in the apartment have sign-up lists for when they want to use the living room. There are assignments for who cleans what when. The various people aren’t particularly friends, and don’t share meals together. Each on is assigned certain shelves in the cabinets and spaces in the refrigerator.

  2. Javier says:

    I’m putting this here because I realised the other comment thread was closed after I hit publish!

    “Kurt says:
    November 21, 2015 at 8:17 pm

    Slow collapse? All right, I’ll take a crack at it. First, the history of the human race when you get right down to it is “I’m going to kill you and take your stuff.” It has been some time since we have faced that gritty truth given MAD. We are actually in the midst of a slow collapse. The emerging nations are being jettisoned and are going back to extreme poverty — South America, Africa, and soon to be India. The demand for oil will continue to decrease bringing the price down so that Fast Eddy’s favorite scenario, BAU can continue in the developed nations for quite some time.
    Any nation that has a problem with that will be slowly eliminated. Wake up!!! This isn’t about the failure of a financial system and this isn’t Rome. This is hardball. Eventually, USA, Russia, Europe, China, Japan and a few other nations will be living pretty much as we do now. Everyone else will be starving. But, when I was growing up, that was BAU and I don’t think the developed countries will be morally conflicted in the least.”

    You make a good point. We have the upper bracket of BAU dwellers and the lower bracket and all the nodes in between. Upper middle class with BMWs and hedge funds on the one hand and Indian children swimming through cess pools of waste to earn a few pennies on the other.

    One of these brackets throws a hissy fit if they have to take a small hit in living standards. The other would probably welcome a change of scenery away from their particular flavor of BAU.

    What you suggest sounds more like a dramatic movie scene to me – a climactic decision – one where the handsome lead (developed nations) has to make a tough call and cut the rope to lose some “dead weight” (third world). The rest of the group are stunned but it was the righteous thing to do given the circumstances. The survival of the lead protagonists is paramount. All secondary role players are expendable!

    Great movie plot. I can picture the “winning” nations defending against wave after wave of refugee ships entering their ports, scaling the walls of their cities a la World War Z. Something tells me that the preferred movie plot outcome will not make the final cut…

    The vast hordes of poor will continue to be poor only no more toxic sludge dumped on their coast by the BMW owners abroad, possibly freeing them up to get back to subsistence farming, climate allowing.

    Either way, I predict more wailing and gnashing of teeth from the well-heeled brigade than the other crowd. And you’re quite right, in their hour of darkness, they may decide to do something rash. Not that it will help them in the end, but sore losers have a way of ruining everybody’s game.

    • what the ‘gentle downsizers’ fail to grasp is the humankind has taken about 80k generations to evolve to where we are now.
      evolution has meant survival of the fittest—and you can add whatever unpleasant flavour you like to that. it means that those of us here now, and arguing about all this exist because all those ancestors fought to put us here by surviving to reproduction age.
      the refugees crossing the med are doing the same thing–risking all for a chance to survive agains all odds to make sure their kids have at least a chance of a future.
      those who suggest we are entering a period of benign downsizing into a gentle bucolic lifestyle, are, in effect saying that we should reverse 80k’s worth of genetic selection within a single generation (which is all the time we have left) and start being nice to one another.
      this article from Time magazine shows what can happen in a 24 hour powere outage.Imagine what will happen in a permanent one
      http://time.com/3949986/1977-blackout-new-york-history/

      • I am not a “Gentle Downsizer” to use your term but I am certainly not a complete doomer and forecaster of the “Mad Max” Scenario either. I don’t necessarily even think Mankind has any real interest other than self preservation. At best I think maybe 2% or less actually care for their fellow man when the rubber meets the road….

        BUT.

        History has proven time after time cooperation and community trumps chaos, violence and looting and therefore equals a greater chance of individual survival and most will come around and realize that. Certainly there will be hot spots of complete violence and death but ultimately it will be those areas that escape the violence that will rebuild and eventually take over.

        Conquering and attacking one’s neighbors takes a lot of resources and will be just as handicapped with a decline as everything else. In fact from a simple logistics stand point that type of activity will take an even harder hit and become almost impossible without the above mentioned cooperation and supply/chain of command. In fact it would need to develop a society before it could do much more than prey on itself.

      • Fast Eddy says:

        That is a superb example of what will happen the moment the electricity goes off — forever.

        There’s another article attached:

        THE BLACKOUT: NIGHT OF TERROR

        But what shocked the city, and much of the world, was that tens of thousands of blacks and Hispanics poured from their tenements and barrios—in 16 areas—to produce an orgy of looting. In Brooklyn’s Bedford-Stuyvesant ghetto, in Manhattan’s Harlem, in the South Bronx, the violence and plundering approached the levels of the 1968 riots after the assassination of Martin Luther King Jr. The cry echoed through the ghettos: “It’s Christmastime, it’s Christmastime!” But to Abe Beame, and countless other New Yorkers of all races, it was “a night of terror.”

        Roving bands of determined men, women and even little children wrenched steel shutters and grilles from storefronts with crowbars, shattered plate-glass windows, scooped up everything they could carry, and destroyed what they could not. First they went for clothing, TV sets, jewelry, liquor; when that was cleaned out, they picked up food, furniture and drugs. Said Frank Ross, a black police officer in Bedford-Stuyvesant: “It’s like a fever struck them. They were out there with trucks, vans, trailers, everything that could roll.”

        Looters looked on anything movable as desirable boodle. Police caught one man in Bedford-Stuyvesant with 300 sink stoppers and another with a case of clothespins. Two young boys were spotted carrying away an end table. “Where’d you get that thing?” a cop shouted. “My momma give it to me—you can have it,” said one of the kids as they dropped their loot and dashed into a crowd that was happily watching a blazing furniture store.

        At Hearn’s department store in Brooklyn, youths stripped clothing from window mannequins, broke their limbs and scattered them on the floor. Said Miguel Ten, a Viet Nam veteran who stood guarding Arnet’s Children’s Wear store: “This reminds me of Pleiku in 1966. There was a war out here. And the mannequins remind me of the dead people I saw in Nam without legs and arms.”

        At the Ace Pontiac showroom in The Bronx, looters smashed through a steel door and stole 50 new cars, valued at $250,000; they put the ignition wires together and drove off.

        Young men roamed East 14th Street in Manhattan, snatching women’s purses.

        Adults toted shopping bags stuffed with steaks and roasts from a meat market on 125th Street in Harlem.

        At an appliance store on 105th Street, two boys about ten years old staggered along with a TV set, while a woman strolled by with three radios. “It’s the night of the animals,” said Police Sergeant Robert Murphy, who wore a Day-Glo blue riot helmet.

        “You grab four or five, and a hundred take their place. We come to a scene, and people who aren’t looting whistle to warn the others. All we can do is chase people away from a store, and they just run to the next block, to the next store.”

        9 pages describing more mayhem: http://content.time.com/time/subscriber/article/0,33009,919089,00.html

      • richard says:

        Ftom Time Magazine:
        “The ’77 blackout presented a rare opportunity for the powerless minority to suddenly seize power, TIME concluded, quoting the head of the National Urban League as saying, [The underclass] in a crisis feels no compulsion to abide by the rules of the game because they find that the normal rules do not apply to them.”

        • Fast Eddy says:

          Joe Sixpack will see the collapse as an opportunity to get out of his parent’s basement and live large (as a looter) … collapse will empower Joe …. it will give him meaning…. to ‘be all that he can be’

          Lock n Load Joe…. your time has come … you are ready for greatness….

    • dolph9 says:

      Right now, it’s the rich in every country vs. the general populace of their own countries. That’s the way it works currently.
      May be changing soon. History shows that when breakdowns occur, humans reorganize geographically and tribally. It’s already happening in America, on the ground the blacks/whites/mexicans, conservatives/liberals, religions/nonreligious etc. are coalescing around their own, no matter what the media wants to portray. This is not just divide and conquer, people actually do prefer to be around their own kind in times of uncertainty and decay.

    • Some of the immigrants may be local–say water immigrants from California. I am not sure that the will be any more warmly welcomed.

  3. robert wilson says:

    Be patient. Give Figure 1. time. As we have discussed previously, in nature die-off can be a market mechanism. Are we not part of nature?

  4. Christopher says:

    It’s not just oil that’s suffering from falling productivity. The following interesting talk is concerned with mining.

    It would be interesting to know what fraction of the gross world product that corresponds to the cost of natural resources? I guess that fossile fuels is something like 90% of that cost, but it’s just a guess. It would be interesting to have a time series on this fraction of GWP. It has decreased from 1800 up until maybe 1990-2000. From there on my guess is that this fraction has increased. If anyone know of research in this field I would be happy to have a link.

    In the talk I linked to above the speaker claims that 10% of the global energy consumtion is used to produce raw materials. It’s not clear if smelting for instance iron ore to steel and producing cement from lime stone is included or if it’s only the production and shipping of iron ore and lime that is included.

    • Fast Eddy says:

      You need to factor in all the indirect oil burned in the process… workers driving to the mines… the oil used to manufacture their cars … the petrol in the engines… then carry this across to every activity that supports the extraction and refining of oil and other resources… the list quickly becomes enormous….

    • We would have to look at how gross world product breaks out, but I would expect human labor to be a good-sized piece. Payments for debt and dividends to stockholders are part of the cost of doing business, but seem to get left out of analyses.

      Mining is very energy intensive, so a big sure of its cost is really a fossil fuel energy cost, I would think. Of course, fossil fuels are minerals as well.

  5. Stilgar Wilcox says:

    Thanks Gail for keeping the articles coming and the interaction of posters to look at and scrutinize the issues pertinent to the topic of peak oil. If I ask questions or support a different idea, just take it as constructive debate.

    The question at hand is; Did oil price drop due to reduced capability of the consumer from diminishing returns or oversupply? Iraq, Canada, Russia and the US increased their oil production greatly once oil increased to over a hundred a barrel. Even though price recently has been more than halved, Iraq is still pumping more, Iran is now coming back on board, the Saudi’s have not decreased production – adding up to a market share war. No producer seems willing to reduce production except by way of being forced to by way of lower prices.

    Once over-supply is drained sometime presumably in 2016, price will begin to rise again. Even if it does not reach the level it did before due to reduced consumer affordability, a price of $70-80 a barrel will insure future supply for several years.

    No doubt peak oil is real and we are in the throes of diminishing returns, but my observation after watching this situation since 05, is it’s a longer process than many originally thought. A good analogy I think is the tides. The situation ebbs and flows, as oil price spikes, then drops, while production rises, then descends, boom-bust swings, with diminishing returns in full view, and just when it seems like the tide has gone out (flow), it ebbs back in some manner to kick the can down the road for a while longer.

    • Stilgar Wilcox says:

      Reverse that; flows in and ebbs out.

    • Tides, nice analogy to visualize it.
      Also I think it was a bit unfortunate that many of the PO/finite world/LTG people made relatively solid case and arguments, but dropped the ball when added cold faced annoucement of ~2014 as almost the end of the world as these effects kicking in. That’s how a good valuable message has been lost by association with unrealistic timing speculations.
      Simply, the dying superorganism doesn’t have sudden stroke, instead and rather in zombie like fashion is still walking around the room, kicking into the furniture, to the horror of family bystanders.

      • dolph9 says:

        Lol, that’s an interesting image.
        This is also what makes America such a frustrating place.
        In America my overwhelming thought when dealing with people is “give it a rest already” but they won’t. They just go on and on, as if on autopilot.
        It’s also why Americans are obsessed with the apocalypse. We subconsciously need to see this whole thing shut down, because in real life it never does.

    • Ed says:

      Part of the story is free money or rather zero interest rate money. If frackers had to calculate the risk of paying a loan at 6% they would have been slowed down from their irrational build out of a system that can only supply expensive oil/gas.

    • bandits101 says:

      Stil…… I really think it’s a mistake to think that the supply of oil increased with unconventional oil such as fracking. Prior to full scale fracking taking off, the price of oil had been steadily rising, those higher prices allowed for the parasites to feed off the dying carcass. There was in increase in supply of VERY EXPENSIVE oil, made possible by debt. The oil being produced though had a low and lower EROI ratio. The oil that was produced was being added to the overall production amount but energy required to produce the oil was/is not accounted for.

      Similar to growing potatoes, if after I consumed what I needed then accounting for preparation, harvesting and marking there was only the small and half rotten left to sell…… Well you get the point. With higher prices and loans maybe I could produce more but it would still require higher inputs of energy. The problem with oil though and especially fracked oil, the wells flow high for a short period and deplete quickly……the red queen syndrome rears its ugly head.

      So what we needed more of was inexpensive oil, we got the opposite. Business needs to offset high costs with higher prices, that drives away discretionary consumers. Businesses could depend on rising populations to deliver more consumers to buy latte’s and useless stuff. Rising populations consumed more energy though and the cheap energy we, by far mostly use is of a finite nature and we naturally used the easy, cheap resources first.

      • Stilgar Wilcox says:

        Yeah, I agree Bandit, the cheap stuff got used first and the cheap stuff is what made life easy at one time. I remember it wasn’t that difficult to earn enough to live in the 60’s, 70’s even the 80’s, but now a person really needs to kick butt along with his wife to live good. There was a time I had a studio apt. in Sausalito that included utilities for 250 a month. Those utilities included tv cable, water, sewer, garbage & electricity. That was in 1980. I had so much left over each month it got stuffed into a savings account at 5.6% interest. I was actually getting somewhere quickly as opposed to today in which that same place would cost 1750. a month and not include utilities.

        Nonetheless, when the current glut of lower eroei oil descends, the price will rise along with incentive to produce more expensive oil. That will kick the can down the road for several years. In other words, we know the dynamics of peak oil at this point pretty good, but what is the timing of the long descent? I’m just saying the oil business will ebb & flow right along with the economy for some time to come. My original notion of a sudden collapse has been replaced by an idea of a slower, erratic, very harsh for the disenfranchised, descent, while those still in the game go on with their lives. Those that can will. Those that can’t will watch and wait.

        Something I see taking place out of this harsh descent arising from diminishing returns is people are getting angry and desperate. How else can we account for such an interest in someone like Trump who seems like he would be a fascist. It doesn’t seem like he could get elected, but those kind of people do get elected when people get frustrated.

        • Adolf Hitler got elected on the promise that he would become a dictator
          Germany in 1933 was in such a chaotic and desperate state that Hitler’s politics were welcomed as the only solution. He did exactly what he said he would do.
          All he needed was a group of like minded thugs to do his dirty work in the first few weeks/months after he was elected, after that the majority of Germans fell into line behind him and cheered him on. After all–he solved the unemployment problem and put everyone back to work
          It was just another Ponzi scheme though, and collapsed after 12 years.
          It may not be Trump this time around, but by 2020 or 24, with the economy tanking, a real lunatic will get elected. All it takes after that is (again) a few hundred thugs to do some dirty work and you have a fascist state again.

        • I think the big uncertainty is when and how the financial system gets drawn into our current problems. It doesn’t necessarily give us much advance warning.

    • Fast Eddy says:

      “a price of $70-80 a barrel will insure future supply for several years”

      I don’t see this happening when break even for most is well over $100 per barrel…

      Also — given that corporate profits are being hammered with oil at $40 — any increase would act as a further drag on an already weak consumer… accelerating the deflationary death spiral….

      • psile says:

        Back in 2014 the breakeven slated for future projects started at $99 and topped out at $167 per barrel. This is before the wheels fell off the caboose. These are/were the hardest of the hard of oil plays meant to replace the stupendously difficult ones already in existence in shale, tar sands and ultra-deepwater, at the right edge of our technological expertise.

      • Stilgar Wilcox says:

        “a price of $70-80 a barrel will insure future supply for several years”

        I don’t see this happening when break even for most is well over $100 per barrel…”

        The plea for $100 dollar oil from producing countries and corps is their claimed need publicly but I suspect on closer examination behind closed doors with their accountants, 70-80 will do just fine. Some countries won’t get all their spend wish list completed, but they will do just fine at that price.

        So let’s just put it out there that we have different expectations and let’s see what happens. I’m not going anywhere and from how much you post, you’re not going anywhere – lol. However, I don’t expect a price move for a few months more. Should be fascinating going forward especially with a planned interest rate hike in Dec.

        • psile says:

          Ok, let’s see how well we all do on 40mbs p/d which is the production that is viable below the $70-80 threshold. The rest will be underwater:

    • With so many producers of oil having (1) low cost of direct production and (2) governments desperately needing tax money, even if it is more barrels at less per barrel, a lot of exporter actually ramp up production with low prices. Some of the US and Canada get squeezed out, and a lot of Norway’s potential additional production is eliminated. Investment in unconventional in China gets squeezed out, as it does here. So we lose the high cost oil, but ramp up the low-cost oil more, unless prices drop really low. Governments of oil exporters become less and less stable, with the lower tax revenue. Banks in the US and Europe become more subject to loans defaults.

      How this all balances is out is not as obvious as it might be. I am still guessing oil prices (as well as other commodity prices) drop lower.

      If interest rates are raised, it will be a push toward lower prices. Also, some of the new banking requirements that phase in at the end of the year seem to keep down lending, relative to capital available, so tend to push toward lower prices as well.

  6. MM says:

    Thank you Gail for this article 🙂
    I bet we are currently exactly in a Wile E Coyote moment. You mention commodities prices fell from 2011. So please check out this article on the automatic earth :
    http://www.theautomaticearth.com/2015/11/the-great-fall-of-china-started-at-least-4-years-ago/
    This describes that the world was out of buying power in 2011 and only the chinese bubble kept the system afloat. The people ask “will there be a recovery”? I bet if there was cheap oil maybe, there are gazillions of items in the world that need to be connected to the internet! But if there is no more purchasing power available, there is no more grip and we are not “around the next corner is a thriving economy” but much more “threre is no more corner as we have left the road”
    One comment says it all: “If the chinese debt is internal, we do not have to worry. If the debt is external, we have to worry.” Either way: Nobody except China purchased any “big ticket items” since 2011. Seems like we have a pretty far view in the rear window …

    • dolph9 says:

      I agree that purchasing power for the proletariats is probably gone forever. But remember how the game works. There are always movers and strivers in this world, who will step over anyone to increase their share of the pie.
      Much of it depends on what the system managers plan to do. Believe it or not I actually think they are doing a poor job, unless they really do want to boil humanity to death.

    • China really has been a big manufacturer of goods of all sorts. So even if the demand that is being cut back is indirectly coming from Europe, Japan, and the US, China ends up cutting back its imports, and that brings down prices. There is of course the big demand that came from China, with all of their new homes and skyscraper commercial buildings. That growth could not continue; it is a big reason for the drop in commodity prices since 2011, I expect.

  7. Great Post as usual Gail!!!

    One question I would ask kinda along the same lines is a point I have seen many anti-peak oil commenters make lately. They conclude that the actual price of oil when adjusted for inflation and balanced out against all other costs has not in fact increased by any measurable amount in proportion of spending. Another words we are not spending any more today than we did 50 years ago on oil or gas except in the overall amounts used not the price per unit.

    What do you think of that claim?

    • Stilgar Wilcox says:

      PP, Who posted that claim? Was it on this website or another? Who are the anti-peak oil commenters?

      • I have seen it on several sites and blogs but only ever in comments. .I wish I could go back and find one in particular to copy and paste it. Generally speaking the run down goes that oil and therefore the refined end product gasoline has not increased in price any more or any less than any/all other commodities when inflationary adjustments are added in average not taking into account price spikes etc. just yearly averages. The final premise being that the price average of say .30 per gallon that I remember from the early 70’s is in ratio about equal to paying say the $1.98 per gallon price it is going for in my neck of the woods today. Therefore their claim being that oil and be proxy gasoline isn’t any more expensive today than it has ever been since at least the 70’s.

        They do not deny we are buying more fossil fuels just claiming the base price has remained constant compared to other commodities.

        I am sure this claim cannot be true but for the life of me I cannot find the numbers to prove it is false.

        • marmico says:

          In 1964 Joe Sixpack (production and non-supervisory worker) earned $2.53 per hour, leaded gasoline cost ~$0.31 per gallon and the average fuel efficiency (AFE) of a light duty vehicle (short wheel base) was ~14 miles per gallon (mpg). Joe could travel ~115 miles per hour of work.

          Fifty years later in 2014 Joe earned $20.60 per hour, unleaded gasoline cost ~$3.50 per gallon and the AFE was ~24 mpg. Joe could travel ~140 miles per hour of work.

          Gasoline was more affordable per vehicle mile in 2014 than in 1964. In 2015 Joe will be able to travel ~200 miles per hour of work.

          https://research.stlouisfed.org/fred2/series/AHETPI

          http://energy.gov/eere/vehicles/fact-835-august-25-average-historical-annual-gasoline-pump-price-1929-2013

          http://www.rita.dot.gov/bts/sites/rita.dot.gov.bts/files/publications/national_transportation_statistics/html/table_04_23.html

          THE OIL NON- AFFORDABILITY MEME IS GROSSLY DISTORTED..

          • Fast Eddy says:

            7.25 USD per hour : minimum wage in America.

            That’s what university grads — with 100k in debt on graduation – are pulling down slinging coffee are earning.

            Meanwhile…. Joe Sixpack lost his construction job and is living in his parents basement surfing porn day and night.

            • marmico says:

              FE, undo your zipper, pull out your plutonium rod, and spray the thistles.

              If Joe purchased a 2015 model year AFE automobile, he would be able to travel ~300 miles per hour worked.

              THE OIL NON- AFFORDABILITY MEME IS GROSSLY DISTORTED.

            • Fast Eddy says:

              64 million dollar question:

              When the spent fuel ponds explode post collapse …. will the toxins kill gorse and barberry?

              Death to you!

          • There are several issues involved. The economy is gradually self-organizing to use what energy is available. In 1968, distances traveled were shorter, homes were smaller, etc. A big problem is increases in costs per barrel, and their adverse impact on the economy. This happened in 1975-1982 and in 2003 – 2012. The economy must change to accommodate higher prices. In 1975-1982, there really was a big drop in oil consumption for a number of reasons (home heating off of oil, cars getting better miles per gallon using already-available changes by Japanese, electricity off of oil). At the same it was possible to start getting more oil online, not terribly expensively (but still with more debt than in the past). This time, we haven’t been able to “fix” the problem, except with more and more debt, at ultra low interest rates. Also, manufacturing has shifted to lower wage/more coal use/less concern about polluting countries. It still needs a fix–low prices seem to be the fix.

            A big part of the problem is all of the debt outstanding. Low commodity prices likely mean defaults on commodity related debt.

            The problem is that the economy is not good at shrinking without “breaking,” when the price rises, even if was perfectly able to accommodate that price in the past. We can find example of how the economy worked with horse and buggy, but we can’t go back there, either.

            • marmico says:

              In 1968, distances traveled were shorter, homes were smaller, etc

              Precisely. That translates to greater not lesser affordability. And in 2014 the cost of household energy spending relative to total household spending was below average relative to the last ~55 years.

              https://research.stlouisfed.org/fred2/graph/?g=2FYe

              Anyone who views that chart and concludes that debt was taken on starting in 1980 to offset or compensate for declining household energy spending is misinformed.

              THE OIL NON- AFFORDABILITY MEME IS GROSSLY DISTORTED.

            • Fast Eddy says:

              No it’s not.

            • And in 2000 to 2014, jobs were going abroad, because we live in a competitive world. The percentage of the US population with jobs was dropping. Jobs were being added where costs are lower–less concern about pollution, more use of coal, lower wages.

              I am not a person that concludes, “. . debt was taken on starting in 1980 to offset or compensate for declining household energy spending.” It is more complicated than that.

    • Fast Eddy says:

      Oil was $11.91 a barrel in 1998.

      In July 2008 it was $145.

      Price of Big Mac 1998 $250

      Price of Big Mac 2008 $3.57

      Of course the price of oil has cratered recently …. but the thing is… people were able to afford oil at $147 only because they were running up massive amounts of debt …. money printing and other stimulus policies kept the hamster running post 2008….

      And now we are pushing on a string — people are tapped out — they have no jobs or low paying jobs — so they are unable to afford oil at $40 … never mind the $120 or so required to keep the oil companies in business…

      • Eddy please see my comment above. The argument as I remember reading it doesn’t take in the spikes but the overall average and focuses more on the average price per gallon of gasoline to make their point. Which comes down to we on average still spend about same for gasoline per unit but simply purchase more and more of it.

        As I said I don’t think the claim is correct but cannot find the data to really disprove it.

    • First, I am not sure that this is the way to look at the problem. If oil is high priced relative to other fuels, then economies that don’t use much oil in their energy mixes will be much more competitive. This is what creates a major share of the problem. Manufacturing leaves the high-cost locations, and goes to the low-cost locations, regardless of what percentage oil is of the mix.

      In fact, the fact that oil was cheap probably was what allowed us to burn a lot of oil for electricity that was used for manufacturing. Once oil became expensive, our economy switched to a service industry model. We used a lot less energy in total, and certainly less oil in running our industry.

  8. Pingback: Why "Supply & Demand" Doesn't Work For Oil | Timber Exec

  9. Pingback: Why “Supply & Demand” Doesn’t Work For Oil | DailyDeceit

  10. Pingback: Why "Supply & Demand" Doesn't Work For Oil | QuestorSystems.com

Comments are closed.