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Energy in America - Living in a state of denial
BY TONY ALLISON
The nature of humans is to assume everything is okay until the day it isn't. Then of course it's too
late and we all look for someone to blame, except ourselves of course. Americans started the "age of
petroleum energy" in 1859 in Titusville, Pennsylvania, and have come to expect cheap and abundant
energy ever since. Even today, a quart of oil is cheaper than milk, or even bottled water. However,
the earth's one-time gift of oil is at or near its peak of giving, and most Americans are not even
remotely aware or prepared for the changes ahead.
The level of awareness for most of us only extends to grumbling at the gas pump and blaming the
"greedy" oil companies for the inconvenience. Most are unaware that "Big Oil" controls about 17% of
world oil production. The other 83% is controlled by national oil companies, representing countries
such as Saudi Arabia, Russia, Iran and Venezuela.
Fifty years ago, America easily supplied its own energy needs, and much of the rest of the world as
well. Today, we import nearly 70% of our energy from outside our boarders. As much as we would like
to believe in alternative energy sources, they currently represent only 2-3% of our energy needs. We
are a carbon-based society, and will likely remain so for the next few decades.
For many years our politicians have spoken confidently of once again becoming energy independent.
However reality seems to be gradually creeping into the halls of government. The Assistant Energy
Secretary Alexander Karsner recently was quoted that "the places where oil can be found and
extracted and brought to bear in the world are decreasing. It will get harder, and demand will
outstrip supply for probably the rest of my lifetime." The government realizes there is no magic
bullet right around the corner, but is reluctant to call for dramatic action unless a crisis is at
hand.
Global Demand- Why it will not level off
According to the CERA Report, world oil depletion is approximately 4 million barrels per day, per
year. That amount must be discovered every year just to replace what we've lost. Excess capacity,
mainly in Saudi Arabia, is also shrinking, and it would clearly not be in OPEC's best interest to
max out their oil fields just to keep the world oil price stable.
The larger problem is demand, however. The CERA Report also projected global demand to grow to an
additional 59 million barrels per day by 2017. That means adding the equivalent of six Saudi Arabia's
in one decade! This does not appear remotely feasible given the decade lead times between discovery
and production, even if enough oil had been discovered, which it hasn't.
Ultimately it comes down to mathematics. The global population was roughly one billion people when
the oil age began in the 19th century. Today the global population is 6.6 billion, and rising
rapidly. As long as the world population keeps expanding and developing, it will be very difficult
to curtail demand without much higher prices.
Developing World- demand growing rapidly
Currently new oil demand is coming from China (390 thousand barrels per day growth in 2008), India
(140 kbpd), Saudi Arabia (150 kbpd) and other Middle Eastern countries (330 kbpd). India and China
consume only a third as much oil as the US. If the Chinese and Indians ever consumed as much oil per
capita as Americans, world oil demand would rise from the current 86 million barrels per day to 200
million barrels per day. For some perspective, ConocoPhillips CEO James Mulva was quoted in November
that he doubted world oil producers would be able to meet forecast long-term energy demand growth.
Also, Total SA CEO Christophe de Margerie said in October it was "optimistic" to expect oil
production to ever surpass 100 million barrels a day.
What these developing countries have in common are young populations, rapidly expanding economies
and incomes, and heavily subsidized oil prices. Even with the world oil price hovering around $110
per barrel, it is unlikely these countries will risk social unrest by removing the massive oil
subsidy. These are all creditor nations with large trade balance reserves, and each can afford to
stimulate domestic oil demand for the foreseeable future.
In addition, other subsidized countries such as Venezuela, Mexico and Russia are exhibiting soaring
domestic demand growth and are beginning to cannibalize oil exports. That is indeed the crux of the
issue. If this rapidly growing demand in the developing world continues, then demand must fall
rapidly in the developed world, or shortages will be upon us.
Food prices rise with energy
The industrial food supply system is one of the biggest consumers of fossil fuels. Massive amounts
of oil and gas are used in the manufacture of fertilizers and pesticides. All stages of food
production use fossil fuels; from planting, to irrigation, feeding, harvesting, processing and
distribution. As the demand for energy and food continues to rise, the price to deliver both is
likely to rise as well.
As of this month, there are food riots in over 30 countries, as basic food costs around the world
have skyrocketed in the past year. This phenomenon may be relatively short term in nature, but it
should serve as a shot across the bow as one of the critical issues related to the peaking of global
oil production. The potential for future widespread geopolitical strife is very real.
Mexico's declining production
Mexico, the second largest supplier of crude oil to the US after Canada (1.5 million barrels per
day), is facing a crisis with no easy solutions. Mexico's proven oil reserves are expected to run
out in approximately 9 years with the rapid depletion of the Cantarell oil field. Pemex, the
government controlled oil company, is on the verge of bankruptcy and has neither the resources nor
the technology to carry out critical exploration for new oil discoveries.
According to the Inter Press Service News Agency (IPS), the government of Mexico continues to siphon
off nearly all of the Pemex revenues, which finance 40% of the government budget. A new draft law
has recently been introduced to allow Pemex greater freedom with respect to making decisions on its
budget, re-investing earnings and contracting out to private companies. The early debate was met by
threats of social uprising by the left wing opposition. The bill has an uncertain fate, according to
the IPS.
Time is running short, and the implications of Mexico as a net importer of energy will directly
affect the US. Mexican oil output now stands at 2.9 million barrels per day, down 300,000 barrels
per day in just two years. As Mexico's production declines, the US will look to Canada to fill the
gap. However, the extremely high production costs of the Canadian oil sands will make oil available,
but at high prices that will likely stay that way.
Time to get started
As Europe, China and Japan have done, the US needs to expand nuclear power capacity. It will still
likely take a decade from start to finish per nuclear plant, but the longer we delay, the more
dependent we become. How many refineries, nuclear power plants and new drilling rigs are on the
drawing board in the US? China is planning to build 2-3 nuclear power facilities every year for the
next 20 years. Wind power, solar and Biofuels have roles to play as well, but they cannot come close
to replacing fossil fuel in a decade, and certainly Biofuels can't power all our trains, planes and
automobiles anytime soon.
If we don't move beyond the "denial stage" as a country to the "realization stage" and begin to
transcend politics and take action, we are likely to move directly to the "panic stage" with very
little preparation. America will not run out of energy, but it will likely be less abundant and
considerably more expensive in the future.
As the world's largest debtor nation that borrows $2.5 billion per day from foreign sources to pay
our bills, and imports 70% of our energy needs, the US can't afford the luxury of waiting for
technology to eventually save the day. We must begin to take steps immediately.
Even the White House is admitting the hour is growing late. Edward Lazear, chairman of the White
House Council of Economic Advisers recently stated: "We could have been thinking about all of this
10 or 15 years ago when it comes to alternatives or new exploration, and we weren't." Look for
massive conservation efforts in the future. But since so much of our energy use revolves around
transportation, conservation will not be the silver bullet, unless we resort to draconian measures
such as mandatory gas rationing.
Living in a state of blissful denial is only a viable strategy until the day reality pulls into
town. Realization and preparation are strategies that make more sense in dealing with the waning of
the Petroleum Age.
Make the best of it as an investor
As the lifeblood of global commerce, energy will be in great demand, even as the price rises. I have
had my clients in the energy sector for many years, and continue to see great opportunities in the
years ahead. Investors should focus on high quality exploration and production companies, oil
service companies, as well as uranium, solar and wind producers for the long term. Capital will
continue to flood the critical global energy sector. The best companies, with the best prospects, in
relatively stable geopolitical areas, will be extremely profitable in the years ahead.
Today's Markets
U.S. stocks on Monday finished the session slightly lower with investors still digesting the poor
results from General Electric, while receiving further evidence of the ailing financial sector from
Wachovia Corporation.
The Dow Jones Industrial Average fell 23.36 to close at 12,302.06. The S&P 500 Index closed down
4.51 to close at 1,328.32. The Nasdaq also closed lower, ending at 2,275.82, down 14.42.
In another sign of trouble in the embattled financial sector, Wachovia said that it would raise $7
billion in capital and slash its dividend after posting a $350 million first-quarter loss.
Crude-oil futures were up more than a dollar to close above $111 a barrel on Monday, propelled by
the dollar's decline against other major currencies. Also pushing crude prices higher were supply
disruptions in both a US pipeline and in Nigeria. Gold futures finished slightly higher Monday, as
weakness in the US dollar underpinned demand for the precious metal.
Jan Rasmussen