Sunday, February 21, 2010

Peak demand: The cornucopians reach for a fig leaf

The world's oil supply optimists must feel as if they are in that dream that so many of us have had about arriving at work in our underwear. Oops! What do I do now to save face?

Over the past decade oil optimists repeatedly forecast a glut in oil supplies that kept failing to materialize. Now, they are reaching for a fig leaf hoping no one will remember their consistently errant predictions. That fig leaf is the idea that we have reached peak demand, and that that's the reason we have not seen oil production rise in the past several years.

Strangely, they made no mention of this theory in 2005, 2006, 2007 or 2008 as prices skyrocketed. It was only after the market crashed and a deep worldwide recession ensued--something which would be expected to curtail oil demand--that they formulated the peak demand thesis.

Archcornucopian Daniel Yergin, who kept calling for mushrooming oil supplies throughout the last decade, now tells us that flat production is really the consequence of peak oil demand. Developed nations will from this day forward require no greater quantities of oil. He does acknowledge that demand may grow in China in the years to come. His firm, Cambridge Energy Research Associates (CERA), is on record suggesting that oil production capacity will likely grow 25 percent from now through 2030. But the forecast is later hedged with this statement:
“So much will happen between now and 2030 to affect demand—from changes in the automobile engine and the electric battery to changes in demographics and values,” says [CERA senior director Peter] Jackson. “Peak demand may ultimately prove to be the main driver of long-term supply.”

The International Energy Agency (IEA) has also jumped on the peak demand bandwagon. Fatih Birol, chief economist for the IEA, told Reuters, "When we look at the OECD countries--the U.S., Europe and Japan--I think the level of demand that we have seen in 2006 and 2007, we will never see again." To be fair Birol has been sounding the alarm about oil dependence and suggesting that the world "leave oil before it leaves us." And, he has indicated that peak might come as early as 2020. Perhaps Birol is hedging his bets even further sensing that production may rise little if any from here.

A recent entrant into the peak demand sweepstakes is Saudi Arabia. Always publicly confident about its ability to produce vastly more oil for decades to come, it is noteworthy that the desert kingdom is now announcing that peak demand may be here. This comes not too long after the country announced plans to use carbon dioxide injection in the world's most prolific oilfield, Ghawar. The Saudis insist they are doing this as a public service to help spread the technology of carbon sequestration. But this type of injection is only used in fields that are in decline and for which other methods such as waterflooding are no longer sufficient to maintain production. If world demand can be said to have peaked, then perhaps the Saudis will have a perpetual excuse for why they aren't producing more oil--not because they can't, but because the world doesn't demand it.

One has only to make a superficial analysis of such claims to see that they amount to nothing more than sleight of hand. First, every economist knows that supply and demand are always equal and that it is price that makes them so. Ergo, technically speaking if demand has peaked so has supply. It is a tacit admission that peak oil is upon us.

Now, if what these people mean is that oil supply capacity could grow, but won't because we won't need it, then one must ask the complicated question of why people won't need it. Is it because the economy has been so decimated by a debt-fueled crash aggravated by high oil and other resource prices that it cannot grow? Is it simply because people across the globe on average don't feel that they need to use more oil despite the fact that population continues to grow?

Some claim that energy efficiency and the growing production of alternative fuels will depress oil demand. But no one was saying this before the crash. Why has it suddenly become relevant? Did we just discover energy efficiency and alternative fuels?

It is a truism that no one knows whether the world has reached peak oil or will reach it soon. We'll only know many years after it occurs. But the rush to announce that peak demand has arrived seems to be nothing more than an attempt to put a happy face on peak oil.

No matter what the reason, if world oil production has peaked, we are all in serious trouble. Peak means decline won't be very far away. Peak means economic recovery, let alone robust growth, may be all but impossible. Of course, we could try to run the world economy on other fuels such as natural gas and coal. But we have not prepared our infrastructure to do so, and such preparations are measured in decades, not years. Besides, there are serious questions about the longevity of these fuels as well, especially if we vastly ramp up their consumption.

The announcement of peak demand then is really designed to allow all those who made faulty oil production forecasts to keep selling their sunny optimism about future energy supplies while covering their asses for when the verdict on peak finally comes in. What the purveyors of the peak demand thesis really need to do is find some clothes to put on over their dream-time underwear and get to work figuring out where they went wrong in their analyses of oil supplies.


Michael Dawson said...

And this peak demand thing will only work while we're still in the plateau phase.

Unknown said...

Thank you, Kurt
I've been unable to clearly understand peak demand for a few weeks. I know it didn't smell right but now thanks to you I'm clear.
Steve Austin

Steve From Virginia said...

This issue arises every now and then on The Oil Drum where it gets shot full of holes. Nobody takes it seriously ... except for the business community, politicians and mainstream media.

Figures, right?

The confusion is between DEMAND and CONSUMPTION. Consumption declines with INCREASES in demand. Demand represents the potential users of fuel who use available credit to bid up the price at any given time.

Credit allows consumption to be brought forward from the future. Higher prices constrain consumption as they always have. High and increasing demand plus credit is a form or rationing.

The cornucopians have it backwards ... and don't understand that all money is a form of credit. Demand prices fuel upward and the price increase destroys consumption. We are on the upswing of demand which is increasing exponentially. The limits on demand are the availability of credit and ongoing debt deflation that is marooning credit creation.

The consequence is distortions in the credit markets. Fuel use today is not particularly remunerative. Most fuel consumption is simple waste by end users, not commerce which is increasingly stranded by high and rising - and demand driven - prices.

Lending for no return increases the commodity or speculative value of fuel in contrast to its value leveraging commerce. At some high price - below the current price - fuel is more valuable as an instrument of speculation rather than for the work that can be done with it.

This is deflationary and further erodes consumption.

I expect fuel prices in nominal terms to decline as less money circulates ... but for the real price to increase.

Rice Farmer said...

A feedback mechanism is also at work. Peak oil induced a recession, resulting in unemployment, increased debt defaults, and decreased purchasing power. Make no mistake about it: Most people want to consume, but they are forced to cut back, and that includes energy consumption. This appears to be "peak demand," but it's actually a result of peak supply. A question to be put forward here is: If it's still easy to ramp up oil production but peak demand has arrived, why isn't oil cheaper? And for that matter, why must we have recourse to "junk oil" like oil sands? Junk oil should be grossly unprofitable under the scenario of (1) plenty of reserve production capacity allowing a significant and sustained ramp-up at any time, and (2) peak demand because that would depress crude prices too much.

Any way you look at it, the "peak demand" explanation makes no sense.

Anonymous said...

The litmus test of falling demand is falling prices. If the output of oil is falling due to a lack of demand, the price of oil must fall to reflect this, as the most costly production gets shut down.
It really is as simple as that.
So, any sign of cheap oil out there lately?