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The Sunday Times: American Account: Irwin Stelzer: Who knows what $50 oil means? Nobody, it seems: “HURRICANES hit America’s offshore oil rigs, temporarily closing down about 10% of the nation’s production. Insurgents hit Iraq’s oil facilities. Rebels led by Alhaji Mujahid Dokubo-Asari hit Nigerian oilfields. Terrorists hit foreign oil workers in Saudi Arabia. President Putin hits Yukos.” (


October 03, 2004


HURRICANES hit America’s offshore oil rigs, temporarily closing down about 10% of the nation’s production. Insurgents hit Iraq’s oil facilities. Rebels led by Alhaji Mujahid Dokubo-Asari hit Nigerian oilfields. Terrorists hit foreign oil workers in Saudi Arabia. President Putin hits Yukos.


All unrelated events, all with the same effect: higher oil prices, proving that the industry’s production, transportation and processing facilities are stretched to the limit.


With prices now hovering at the psychologically significant level of $50 per barrel, economists have retuned their models, politicians have re-examined their nations’ energy policies, and finance ministers are using the IMF-World Bank meetings that officially start today to examine the implications of $50 oil for inflation, interest rates and the US balance of payments.


All these reappraisals suffer from a very important difficulty: lack of reliable information. The Saudis say that they can and will quickly produce 1.5m more barrels of oil daily, but many observers think this is a wild overestimate.


The Russians say that their assault on Yukos will not interfere with the company’s exports, but observers note that shipments to China have been curtailed because Yukos does not have enough money to pay the railroads.


China says it welcomes foreign investment to develop its oil and gas fields, but the country’s largest producer, PetroChina, has aborted two years of talks with Shell, Exxon and Russia’s Gazprom. Opec claims victory against high oil prices immediately before prices jump several dollars per barrel.


Traders, presumably with up-to-the-minute information, predict a 3.4m barrel draw-down in US inventories in a week in which inventories rise by 3.4m barrels.


Most confusing of all are the statements by those who should know what is going on in the oil markets: the chief executives of the major international oil companies. Lord Browne, chief executive of BP, denies there is a worldwide shortage of oil.


He told the Financial Times: “There isn’t really a supply crunch at the moment . . . Supply can be forthcoming in significant quantities. Opec is being very determined and if you look at non-Opec capacity additions, they’re going to come on pretty strong starting at the back end of the year.” Not so, responded David O’Reilly, the chief executive of ChevronTexaco: “There is a lack of spare capacity out there.”


And the differences of opinion among the industry’s top executives relate to future prospects as well as to the current situation. Browne says the Opec countries are quite capable of expanding output without help from international oil companies. But Lee Raymond, Exxon’s boss, told a meeting of Opec officials that the world’s growing need for oil could be met only if the international oil companies were allowed to explore in the producing countries now closed to them.


To add to the confusion, experts are sharply divided as to the consequences of $50 oil. The International Monetary Fund responded to the 30% rise in oil prices since its last forecast by cutting its new forecast of world economic growth in 2005 by one-half of a percentage point to 4.3%.


But consider this: the US government a few days ago revised its estimate of this year’s second-quarter growth up by one-half of a percentage point — from 2.8% to 3.3%, as predicted in last week’s column.


If revisions to already-reported data can be in the order of half a percentage point, one wonders why any forecaster believes it worthwhile to try to wring half-point accuracy from his models of future growth.


Finally, we have the confusion sown by the financial markets. Economists expected that high oil prices, which push up the costs incurred by electricity generators, airlines, chemical companies, car makers, steel companies and other fuel-intensive industries, would be reflected in fears, if not the fact, of higher inflation.


That, they reasoned, would drive up interest rates. But high oil prices have coincided with a drop in interest rates because investors reckon that $50 oil will slow economic growth and so reduce inflationary pressures.


Making sense of all this is no easy task — but a few sound conclusions are possible. The level of oil prices is due in part, but only in part, to the threat of supply interruptions, as Browne argues. But there is no question that the industry is under stress: production capacity is struggling to keep up with the growing demands of China and of the recovering US.


That capacity cannot be expanded unless the Middle East countries open their industries to international oil companies’ capital and skills, and the oil majors make those resources available by revising upwards their estimate of the prices they will be able to realise for newly discovered oil.


The strains on the system do not stop at the production level. US refiners are struggling to meet demand, and unless environmental restrictions are eased and long-term price expectations are raised so that new capacity is built, America will have to choose between rising product prices and a substantial increase in imports of refined products.


That would exacerbate a trade deficit already at levels that will be difficult to sustain, threatening a devaluation of the dollar, which is much on the minds, and in some cases on the lips, of the finance ministers meeting in Washington today.


Later this month Opec’s long-term planners meet in Jeddah to decide whether $50 oil represents a new price level, or a bubble about to burst. The results of that meeting might just provide a clue to whether those in the cartel are willing to open their countries to foreign capital and expertise.


Shortly thereafter, the US elections will be concluded, forcing the winner to concentrate on a sensible energy policy rather than campaign nonsense about independence from Saudi oil. 


Irwin Stelzer is a business adviser and director of economic policy studies at the Hudson Institute

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