Join us as we watch the crisis unfolding

February 26, 2003

Over the weekend of Feb 22-23, the U.S. price of natural gas doubled, from $6 to $12. West Texas Intermediate crude oil jumped from $20 per barrel a year ago to $37 on Feb 24. Even without a war in Iraq, there is now a major problem with the world energy supply.

World oil production may have peaked in the year 2000. Production in 2001 and 2002 was lower, and 2003 is not off to a great start. The problem is production capacity, not reserves or resources or potential. I can't say at the gas station, "Fill her up with reserves." World oil production is around 67 million barrels per day and the current unused capacity is around 2 million barrels per day, mostly in Saudi Arabia. Because of declining production in the rest of the world, opening all the valves wide open in Saudi Arabia after 2004 probably would not bring the world total back up to match the record year of 2000.

The precedent is a prediction in 1956 by M. King Hubbert that U.S. oil production would peak in the mid 1970s. Production did peak in the 1970s and Hubbert became something of a folk hero. The curve of oil production with time became known as "Hubbert's pimple." Several different petroleum geologists are now using Hubbert's methods to analyze world oil production. One oddity may be repeating itself: the center of the best-fitting smooth curve to U.S. production falls around 1974, but the single year of greatest production was 1970. Similarly, the smoothed mathematical peak of world production will probably be in 2004, but 2000 may stand as the highest single year.

Historians some years from now are going to get the giggles because my 2001 book (Hubbert's Peak: The Impending World Oil Shortage) failed to identify the year 2000 peak, even after it happened. My book attracted some criticism because it was too gloomy; turns out I wasn't gloomy enough. Back when I expected the peak to arrive around 2004, the thought of life in the post-peak years was frightening. So what has happened since the peak year 2000? More than a million jobs lost in the U.S.A., many retirement funds wiped out, government budget surplus reduced to deficit, interest rates near zero unable to jumpstart the economy. Even the loss of the World Trade Center was a Middle East byproduct. It exceeds my worst fears.

There are other estimates that are much more optimistic. The U.S. Geological Survey reported in 2000 on a basin-by-basin world inventory. Their expectation is about 50 percent larger than the Hubbert-based estimates. Some analysts, working from the USGS numbers, do not expect a world oil peak until 2036. There is an understandable public tendency to treat any disagreement between experts as evidence that no hard knowledge exists: all predictions are wrong. As a society, we cannot take a wait-and-see attitude. If the world production peak is upon us, we have to react quickly and decisively to avoid further disruptions to our economy.

Although the U.S.A. imports modest amounts of natural gas in liquefied natural gas tankers, most natural gas in North America is produced within the continent and is distributed through pipelines. For several reasons, the methods that Hubbert used for oil are not readily applied to natural gas. Drilling gas wells at an increasing rate has just barely sufficed to keep U.S. natural gas production at a constant level. It's the Red Queen from Alice in Wonderland, running faster and faster to stay in one place.

An acquaintance from years ago, Suzy Sachs, pointed out an additional consequence. As a systems engineer, she knew that queueing theory predicts that queues behave in a noisy and chaotic manner when demands approach the system capacity. In the grocery store, in the bank, or at the airport, queues tend to be unpredictably very long or very short. Instead of energy prices rising to a new stable level, wild price oscillations will result from short-term changes in demand. There will be a tendency, the first time that prices go down, to announce that the crisis is over and oil and gas are now cheap and abundant again.

Managers hate uncertainty, but they are being served up a double helping of uncertainty. Natural gas prices have shown increasingly large oscillations beginning around 1985. Oil prices have been partially stabilized by adjusting OPEC production. As the surplus production capacity is used up, the good news on oil prices is that OPEC will no longer be in charge. The bad news is that nobody will be in charge.

Obviously, I'm not the only person actively watching world oil production. The first analyst that I heard point out the year 2000 peak was Henry Groppe of the Houston consulting firm of Groppe, Long, and Littel. The most recent country-by-country evaluations by Colin Campbell add up to a world peak year of 2000 and a mathematical midpoint in 2004. Matt Simmons, of the investment banking firm Simmons International, posted a valuable analysis which used neither the data nor the Hubbert methodology that most of us use (The World's Giant Oilfields at Simmons concludes that the world's major oilfields, which produce more than half of our oil, are now getting old. Of the world's 60 oilfields now producing more than 100,000 barrels per day, only two have been discovered in the last 25 years. The data indicate that all those highly touted new technologies are not finding oilfields fast enough to offset the normal production decline of the older fields.

Some industries, like aviation and agriculture, are heavily impacted when fossil fuel prices increase. Farming involves a lot more than diesel fuel for the tractor. Producing fertilizer is especially energy intensive. During the 1980s it was estimated that 80 percent of an Iowa corn farmer's costs were fossil fuel costs. Alternative fuels like biodiesel and ethanol have to be examined carefully to make sure that the farmer is not consuming more fossil fuel than the biofuel yields.

The hydrogen fuel-cell automobile is 10 to 20 years in the future. Since the peak of world oil production is happening right now, we obviously can expect no help from hydrogen powered cars. We need to take advantage of the technologies that are available right now. No research, no development. Examples are the high efficiency diesel automobiles (99 miles per gallon) now being marketed in Europe, wind generated electricity, and nuclear power. Most of us find nuclear power plants to be frightening. I claim that when gasoline gets over $4 per gallon and a trip to the filling station costs me $100, nuclear plants will suddenly look less scary.

A war with Iraq could easily have unintended consequences. Iraq itself is a significant producer, but the major hazard would be an interruption of oil exports from the entire Persian Gulf. It is only a matter of transportation convenience that much of the Gulf oil goes to Europe and Japan, whereas Venezuela normally supplies a large fraction of the U.S. imports. Crude oil is a global market and a major supply interruption affects the entire market. The situation after the year 2000 peak is fragile, even without an Iraq war.

Unfortunately, the world decline in crude oil production is not a news story that will go away after a few days or months. As soon as we adjust to a reduced level of supply, production will decline some more. Welcome to the post-Hubbert world.

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