Three important factors – supply, demand and oil prices – can enhance the economies of the fifteen major crude oil exporting countries and browbeat those of the more than 175 importers. These parameters significantly influence the global economy, testified by hundreds of articles published in the last 18 months trying to understand the effects on world growth of the 65% plunge in oil prices since mid 2014. According to the EIA, oil is the most popular fuel source of world energy consumption accounting for 31% in 2013, followed by coal 29%, natural gas 21%, biofuels 10%, nuclear 4.8%, hydro 2.4%, and 1.2% for ‘others’ (solar, wind, geothermal, heat, etc.). Oil and natural gas account for more than half (53%) of the energy mix.
Long-term forecasting of oil supply and demand at the micro level evidently presents formidable but quantifiable challenges within a rational range of certainty whereas forecasting oil prices – the most volatile of commodities – tends to be strongly judgmental. Here we discuss briefly the results of an analytical approach that simplifies forecasting supply and demand at the macro level, while enhancing our understanding of the behavior of these two factors. The discussion then extends to the notorious unruly behavior of the third factor, oil prices.
Fig. 1 shows historical trends of global oil supply and consumption from the 1980s – era when oil ‘just became another commodity’. The upper part of the graph highlights the reality that supply and demand essentially overlie throughout the entire diverse period that covers the recession of the 1980s through 2008, and continuing throughout the tight oil revolution until today. Markedly, the trend is a simple straight line (r2=0.99) over nearly four decades, logically implying that world demand will continue on this course. ‘The global energy landscape won't be radically different in 2040 than it is today’ asserts ExxonMobil’s recent energy outlook. Demand is increasing annually at about 1.1 million barrels per day or a little over 1 % per year. Most outlooks (IEA, EIA ExxonMobil et al) essentially use this trend to arrive at a projection of around 121 million b/d by 2040.
Although supply and demand have historically worked in-tandem, supply is very unique in that its prime basis is crude oil which is a non-renewable resource found in oil fields that depletes with time. This merits we look at it in more detail. As shown in the lower part of Fig. 1, world crude oil supply has had a diminishing role in total oil supply over the past three decades. In 1985 it accounted for 91 % compared with 84% today. The other sources of oil supply are natural gas liquids (NGLs), refinery gains, and biofuels – this suite of liquids including crude oil is generically referred to as oil and in some cases as petroleum liquids. Of the ‘other’ fuels, NGLs is the dominant component now contributing 11% to the supply mix compared with 6.6% in 1985. Refinery gains and biofuels together account for the remaining 5%, split almost evenly between the two. Effectively, NGLs has been the fuel picking up the slack – the growing gap between total oil and crude oil supply. It is obtained mainly from natural gas fields.
Fig. 2 shows the cumulative crude oil produced globally over the last 100 years. The curve follows the classic S-shape, typical of non-renewables. Almost 1.3 trillion barrels of crude oil have been produced so far, and probably a similar volume should be produced over the next 80 years or so. Production capacity, however, will decline slowly and continuously as the oil fields grow older.
We have seen that oil demand and supply both follow stable trends and standard models so why do crude oil prices behave in a roguish pattern as illustrated in Fig. 3? Here we see crude supply growing slowly through the 1990s and up until 2004. Oil prices likewise grow slowly as the perception is that crude production capacity may not be capable of keeping up with demand growth. Fairly quickly this perception proved to be correct as production capacity remained flat, at around 74 million b/d, over the next seven years. This triggered a steep climb in oil prices reaching $145 in 2008. By 2012 development of tight oil eased concerns as production capacity regained some growth and has now reached an all time high of 80 million b/d. We can only wait and see what long-term effects the fall in oil prices will have on future production capacity. In summary, oil prices certainly respond to investors’ perceptions and to daily nuances that disrupt otherwise normal business decision-making. Examples are sudden regulatory and policy shifts, and crude oil supply disruptions at country, regional and global levels. The recent Brexit is a case in point.
Massive spending cuts are already showing their effects: curtailment of NGL projects, cutback of production capacity of tight oil, and a return of conventional oil decline that had been restrained for several years by large investments in exploration and production (E&P). These hidden consequences will soon impact total oil supply while demand continues on a steady increase course of 1.1 million barrels b/d. Oil prices have already began to respond and should reach $100 by 2018.