Cornucopia or Malthusia - a reply to John Tierney

Five years ago John Tierney agreed on a bet with Matt Simmons that by this year the average price of crude oil would average $200 a barrel. The bet is now due, although, sadly, in the interim Matt has passed away. And Mr Tierney has just posted (h/t Leanan) his comment upon winning the bet. While recognizing the impact of the recession on oil prices, after their rise to $147 in the intervening years, he points out that this year crude averaged $80. This he feels justifies the position of the Cornucopian approach to life, rather than the Malthusian.

Would that he were right! In his article he cites oil from new fields coming ashore from fields off Africa and Brazil, and increased production from the oil sands of Canada and the United States, as promising a maintenance of this Cornucopian era into the future. And he uses a historic parallel to show how in an earlier time Julian Simon won a similar bet against Paul Ehrlich, John Holdren and John Harte over the price of a basket of 5 metals.

Admittedly he is currently in good company, since the EIA is not looking for the price of crude to rise above $100 a barrel for another six years, and the IEA recently posted in their December Oil Market Report that global production increased from both OPEC (up 45 kbd) and non-OPEC (up 355 kbd) sources in November. It sees that production will continue to increase through 2011, meeting an increase in demand to 88.8 mbd. 0.5 mbd of that will come from an increase in NGL from OPEC, rising to 5.8 mbd.

Art Berman has just explained some of his concerns with the optimistic projections of the EIA Annual Energy Outlook and I agree with his line of argument. But let me take a slightly different tack in disagreeing with the Cornucopian position.

And it is true that oil companies are now gearing up for a much greater level of investment in this next year than in the recent past. The WSJ quotes a Barclay’s Capital report that levels will reach $490 billion, up 11% on last year. It also notes that the price rises of 2008 led to a boom in deepwater rig construction, and the 25 built in 2010 will be joined by 35 next year. All of which allows the Journal to end with a quote that “Higher investment now will mean lower prices than they would otherwise be in the future.” (Well yes, but . . . . ) But the reality is that the levels of investment that will be required to sustain current levels of production are likely to exceed these numbers, and we are in a time when greater prospecting will likely only lead to a diminished return. Not that we don’t need that investment.

So how does one address this issue. Well Let’s just go back to that original bet by Simon against Ehrlich et al on the price of metals. The original bet was as follows:

Ehrlich and his colleagues picked five metals that they thought would undergo big price rises: chromium, copper, nickel, tin, and tungsten. Then, on paper, they bought $200 worth of each, for a total bet of $1,000, using the prices on September 29, 1980, as an index. They designated September 29, 1990, 10 years hence, as the payoff date. If the inflation-adjusted prices of the various metals rose in the interim, Simon would pay Ehrlich the combined difference; if the prices fell, Ehrlich et alia would pay Simon.

Then they sat back and waited.

Between 1980 and 1990, the world's population grew by more than 800 million, the largest increase in one decade in all of history. But by September 1990, without a single exception, the price of each of Ehrlich's selected metals had fallen, and in some cases had dropped through the floor. Chrome, which had sold for $3.90 a pound in 1980, was down to $3.70 in 1990. Tin, which was $8.72 a pound in 1980, was down to $3.88 a decade later.
Which is how it came to pass that in October 1990, Paul Ehrlich mailed Julian Simon a check for $576.07.

Just out of curiosity I went to Infomine and looked at the price of those metals over the past 10 years (though they only plot chromium and tungsten prices for five). The plots for the 5 metals follow, and to make the calculations simple I have rounded the metal values a little.

Chromium:

$200 in 2000 would have bought 66.7 lbs (it was $3), and in 2005 would have bought 160 lbs of chrome, which would now be worth $425 roughly. Over the 10-year interval however, buying $200 of chromium would have cost you $23, not counting inflation.

Copper:

However, when we look at copper, that $200 would have bought 250 lb of copper in 2000, and over the decade that purchase has gained $862, roughly.

Nickel:

A similar situation applies to nickel, where $200 would have bought about 66.7 lbs of nickel in 2000, and that investment would have gained $533 over the 10 years.

Tin:

The same is also true for tin, where $200 would have bought 91 lb of tin in 2000, and that would sell today for about $1,090; the investment thus making $890 over the decade.

Tungsten:

$200 would have bought 6.25 lb of tungsten in 2005, which would now be worth $265 roughly. It has been difficult to find the price of tungsten in 2000, although the price is reported to have trebled from that pre-2004, suggesting that it was around $14 back then. That would give a purchase of some 14 lb, which would now be worth around $600.

So the $1,000 investment from 2000 would now be worth (in 2010 dollars) $177+$1,062+$733+$1090+$600 = $3,663

Using the Inflation Calculator there has been 27% inflation since 2000, so that the $1,000 would now be worth $1,270. The price of the metals has thus roughly trebled over the time period.

I have not been able to find an accurate value for tungsten in 2000, though I know that the price went up significantly in 2003 when the only mine in the North Americas (the Cantung mine in Canada) closed. It is now re-opening. Most of the world’s tungsten now comes from China.

This reality suggests the underlying longer-term truth to the supply situation for materials that are extracted from the earth. There is only a finite amount there, and while it is possible, due to changing economic circumstance, that a Cornucopian viewpoint might for a while appear true, the growing demand for product, as countries, particularly those in Asia, aspire to Western levels of consumption, will rapidly emphasize the Malthusian long-term condition. (Although cherry-picking specific dates may allow one to transiently make the alternate case).

One has only to consider what is happening to gold and silver, not to mention the rare earth minerals.

Matt may have been a little early in his prediction on $200 oil, but I would be very surprised if we did not see a bit more than $100 within the year. The impact that a price rise above this level will have on the global economy makes it difficult to predict what will happen after that, but we could easily see $150 a barrel by 2015, if the economy can sustain it.

"The Myth of the Oil Crisis" - Part 2

Well if yesterday was all misty ice, today was the snow cover that makes getting out of the drive a real challenge. So back to the book, and, today a little Welsh folk (music that is). If you remember yesterday I had got about half-way through “The Myth of the Oil Crisis,” the book by Robin Mills – which gives a petroleum economist’s view of the industry. But we had reached the point yesterday that I was bemoaning his inability to include either a realistic decline rate or depletion of reserve in his discussion of some of the major oil fields.

At the same time, while the book has significant value as a source for the different areas of the world from which we can anticipate getting the second half of the world’s conventional oil production, the factors of time and practicality in getting these reserves to the refinery are not mentioned. The $5 million it may cost to drive a slick-water fracked horizontal well to recover gas from a shale deposit is not given any consideration in the determination of what is still available out there, and that, for an economist is a bit of a lapse.

The second half of the book deals more with the unconventional sources of oil, with the nod given to the heavy oils and tar sands of the world. The book implies that these can be brought into massive production with relative ease, if only the Canadians would run a decent railroad up to Fort McMurray. Well yes they do need one, and a high speed commuter rail would solve a lot of the issues that the town has now with limited space and too many folk with lots of money. But that is not the only reason that production from that large hydrocarbon deposit hasn’t swamped the rest of the world with oil over the past five years. Getting parts for 400-ton trucks up to the site is not something that rail can always achieve, but the greater constraints involve things such as refinery capacity and adequate return on investment, as well as a very conscious effort to work on the environment. And this is a pity, because there is a case to be made for the increasing production that we will need to start seeing from these heavy oils, and from the oil shales of the world. This is not unrecognized (Total just made such an investment this month) but again progress and production is likely, at any significant level to be decades away. Listing and summing up the volumes of oil that might be produced from all these deposits is a useful catalog, but does not really give an honest perception of the volumes that will come into play in the next decade.

Production of biofuels is a whole aspect of fuel production that is likely to have some impact in the future, witness the mention of support that it is getting from the members of the new Administration, and so I cannot resist another quote from the book on this.

Much of biofuels policy revolves less around technology and more on providing sensible incentives that do not distort the market excessively or lead to negative social and environmental impacts.

One of the major factors constraining the advance of the biofuels industry is a current lack of technology that will yield an adequate return on investment, whether in terms of energy or cash. Cellulosic ethanol (as you will likely tire of hearing me explain) is a long way from being an economic or practical fuel source in volume.

Biodiesels are not advancing at the rate that they should, and while I consider algae, for example, to be a very likely future source, the reality is, as Robert Rapier has also concluded, that it remains for the moment more of a research initiative and set of projects. The biofuels industry still needs the heavy investment in development of new technology that the government and industry are making, in order to find viable answers. To project, as he does, a biofuel production rate of 4 mbd by 2020 is, as I have explained in an earlier post not realistic, given that date is only 11 years away. His planned excuse when we reach that time and the fuel isn’t there, will be that we did not make the required investment. This is the same excuse that we have been hearing from CERA for years as their forecasts fell flat, and it is disappointing to find that this book also falls into that mantra.

And yet he looks at the Hirsch Report, and finds that it is too conservative, feeling that it is possible to reduce the lead time for change by at least five years, from the twenty of that report. Unfortunately while this may well work as a theoretical exercise, as I have said before, the practical realities, the steps that must be gone through before, for example, there is a large switch from gasoline powered to diesel powered cars in this country will delay the program back to the more realistic time-frame that the report suggests.

And as a mischievous point I do note that he says

Norway maintains its environmental virtue by importing electricity from its Nordic neighbors to satisfy the shortfall of hydropower rather than building “polluting” gas-fired plants, but this imported electricity is generated largely by Danish coal plants.

Thus while recognizing the demands of those seeking to arrest global warming, he also adds some reality to that discussion. He does provide an estimate of CCS costs, which, at this stage, may be a bit more of a guess than reality, since we arre still waiting for more definite regulation, but the options are outlined.

So, in the end, if you are a cornucopian then this is definitely a book you would appreciate. It provides all the information to justify that position, and discusses the energy situation from that point of view in a way that, were this the only book you read on the subject, would leave you very comfortable about the future.

Unfortunately to do so it has had to gloss over the real problems with that approach. It does not really address the factor of time as it relates to when declining field production combines to swamp the increases in production from new fields. And many of the problems that those of us who anticipate the peaking of oil production can see happening already, the politics, the delays in starting production, the lack of new employees as the older ones retire, and the disappearance of the industrial memory not to mention the myriad others that impose practical limits, have been barely recognized. Had they been otherwise, then this book could not have come to the conclusions that it has.