It is important to understand how and why we landed in this current situation, and more importantly what can we expect when we look into the future. This is a schizophrenic market that we have here. What is going on? In my opinion, the most important factor that has a weight in this is the erosion of spare capacity. Back in 1985, spare capacity was about 15 MMb/d. In 1991 when we had the first war in the (Arabian) Gulf, it was about 9 MMb/d. Still as recently as 2002 when the year began we had about 8 MMb/d. I’d like to remind you that when 2002 began, the forecast for the price of oil was between $22 and $23. Right now we’re seeing increased demand and that capacity is about 2 MMb/d and most of that oil, which is essentially owned by Saudi Arabia, is sour and relatively heavy.
Perhaps in the past we took for granted that spare capacity, which we do not have now. There is an important question before we get back to this point. Will we again have a large spare capacity when we look into the future? The first impulse is to say we will not have it. What we had in the past was not by design, but it was an overshoot of the expectations of demand that did not materialize. That is why when the world began seeing increased demand, the supply could increase without a great impact on the underlying cost. We had a cushion of comfort. We even could have the luxury of more and more environmental restrictions.
In the longer view, if the spare capacity is not going to be there in the amounts that we had in the past, how is the market going to find comfort? If there is no spare capacity planned because it is too costly to maintain, maybe we are going to be in a different world with the perceptions of the market.
We have 1.3 Tbbls in proven reserves and about 1 Bbbls more of probable reserves. If you add those together, and you presume the EIA demand profile is the right one, you would have 40-50 years of oil. There is an important question which is not in the research: Will the reserves be made available to come up with the supply? Because after all, who is in charge with supplying oil and gas to the world? Nobody is in charge. Everybody has an agenda. When you see every exercise you see whatever is missing in the supply is brought in not even by OPEC, but by Saudi Arabia. Saudi Arabia ends up with 18-20 MMb/d. Has anybody asked Saudi Arabia if they are really planning for that?
There is a big task ahead of us and because nobody is in charge, the only thing that governments and the private sector can do is create the conditions that make it attractive to develop these reserves and bring them into the system. If you look at the total of unrestricted reserves, you see only about 7% of the total demand. Partially restricted access come up to 25-30%. The rest is controlled by national oil companies.
Most of the question marks we would like to know about are the national oil companies.. The big issue is the divergence between the national oil company managers and their shareholders - the government and the people of the country. The manager wants a balanced portfolio with growth, he wants to use the best technology, he wants to train his people, and expand his market. What does the shareholder want? Maximize foreign revenues and fiscal revenues, use the company for social programs and even as a political weapon. Unless you can reconcile this divergence, it will be really difficult for these companies to operate at the same level as an international oil company. The high prices have made national oil companies believe they do not need the international oil companies. The national oil company has had the resources in the ground and the international oil company has had what was called the “above ground” resources, which are technology, operational expertise, managerial capacity, access to cheap financing, and marketing savvy. Some of the national oil companies have developed these capacities, but not all of them - only a very few. The high price (of oil) has created a smoke screen about what they can do. Petrobras, Statoil, Petronas, and Saudi Aramco are the only ones which can compete with the international oil companies. There is always a risk of political interference, but it is more difficult when you have this strong institutional framework.
Paradoxically, some problems that exist at $70 a barrel might disappear at $50 a barrel. At the lower price, the need for cooperation is recognized.
--This is an excerpt from a presentation to the World Affairs Council of Houston on Sept. 6, 2006
Luis Giusti
Senior Advisor
Center for Strategic and International Studies
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