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Why “Peak Oil” Will Never Lead To $500/bbl Crude Oil

Monday, May 3, 2010, 10:56 AM

This guest post by Erik Townsend really elevates the discussion around the issue of investing in oil and energy given the realities involved in what Peak Oil truly implies politically and economically.  Few in the investing community have really fully internalized the magnitude of the predicament, but Erik has.

If we had a post rating system, this would receive the very highest mark.


By Erik Townsend ∙ May 3, 2010

Executive Summary

  • Although there’s more than 100 years’ supply of crude oil left in the ground, the resources that are “cheap and easy” to extract have for the most part already been discovered.
  • By 2012 the decline of production output from conventional sources coupled with much higher extraction cost of unconventional sources will lead to peak cheap oil, a phenomenon that will put extreme upward pressure on oil prices.
  • To a limited extent, a strong case exists for speculation on a moderate increase in petroleum prices.
  • Those who anticipate extraordinarily high prices (upwards of $300/bbl) have failed to consider what George Soros calls reflexivity. The global economy simply cannot afford such prices, and the rules will be changed before they are reached.
  • The future is likely to bring price controls, government intervention in the petroleum supply chain, and nationalization of oil resources.
  • The oil industry will face many unanticipated challenges during this period, capping the price appreciation potential of both commodity and equity plays in the oil industry.
  • Wise investors will focus on the initial price run-up expected to occur before large-scale government intervention ensues.

Background

If you’re an investor and you haven’t yet learned about Peak Oil, you need to drop what you’re doing and go find out all about it. The implications of Peak Oil are far wider reaching than the energy sector. Peak Oil is a macroeconomic story that will dramatically affect virtually all investments in the coming decade. This article is intended for those already familiar with the Peak Oil prognosis, and focuses on why I think a lot of investors are making faulty predictions about what Peak Oil will mean for future oil prices. If you’re not already up to speed on the background material, here are some resources to start with:

  • The very best basic introduction to the concepts of Peak Oil that I know of is this free video from Dr. Chris Martenson’s Crash Course.
  • From there, read Eric Janszen’s excellent articles on the subject, paying particular attention to the distinction Janszen draws between Peak Oil and Peak Cheap Oil. Some of Janszen’s articles are free while others require a subscription to his web site. Start with this free article to get a taste of Janszen’s perspective.

I find it very interesting that Peak Oil has recently begun to get a lot more mainstream attention. Previously, despite overwhelming evidence, Peak Oil was considered a “fringe idea” and not taken particularly seriously by the mainstream investment community. Suddenly the tide seems to have changed. For example:

  • Puru Saxena’s recent interview on CNBC was a milestone in my mind. Although Mr. Saxena didn’t say anything that came as any great surprise to the Peak Oil-aware community, the fact that this interview was aired on a mainstream financial station tells me we’re approaching a tipping point of Peak Oil awareness.
  • The United States military recently released a report predicting “massive shortages by 2015” as a result of a decline in conventional oil production.
  • This shocking chart from the U.S. DoE says it all:

(Source)

This chart isn’t from some radical left-wing fringe blog site. It’s from the United States Government. Conspicuously absent is any mention of where these “Unidentified Projects” are going to come from. The deepwater well that was being drilled by the recently-sunk Deepwater Horizon rig in the Gulf of Mexico would appear to be off the table, and the ensuing ecological disaster is likely to encumber the viability of similar projects in the future.

If you’ve done your homework on Peak Oil and Janszen’s Peak Cheap Oil distinction, you should have come to the following conclusions:

  • Societal complexity is a function of excess energy availability
  • Continued global economic growth is possible only if affordable energy is available
  • Alternative energy sources (wind, solar, nuclear, geothermal) will be important. However, the world’s existing systems and equipment are highly dependent on oil. Any plan to eliminate dependency on products derived from crude oil will take decades to implement fully.
  • The world isn’t running out of oil. There’s at least 100 years’ supply still in the ground
  • However, the “cheap and easy to extract” oil has, for the most part, already been found
  • Existing “cheap and easy” oil resources will or have peaked, and will be in decline by 2012
  • Declining production from existing resources must be replaced by much more complex and expensive sources, such as deepwater offshore oil fields, tar sands, and oil shale.
  • Regardless of supply-demand forces that determine end user price, cost of production of crude oil will increase considerably as “easy oil” sources are depleted

If these conclusions don’t yet make sense to you, I encourage you to follow the links above and learn the basics of Peak Oil theory from the suggested sources before proceeding. Once you have this background information under your belt, you should understand why modern society simply cannot function, and why economic growth on a global scale cannot continue, unless petroleum products are available. Although alternative energy sources will be very important, the word’s existing infrastructure (transportation in particular) will remain dependent on oil for a very long time. This leads many speculators to forecasts about the future price of crude oil that I think are flawed for several reasons. I’ll first review the argument for extraordinarily high crude oil prices and a super-profitable oil and gas industry, and then I’ll argue my case for why I believe these scenarios to be improbable if not impossible.

The $500/bbl Crude Oil Argument

I’ve heard interviews and read articles by a variety of pundits who are forecasting an escalation of crude oil prices in the next five years to $300, $400, or even $500-$1000 per barrel accompanied by a wildly profitable oil and gas industry. These commentators believe oil companies will be able to expand their profit margins with the disappearance of the historical crude oil supply glut that existed before the peak of “cheap and easy” oil production. I disagree with many of their conclusions, but let’s begin by first understanding their argument.

The world runs on oil and can’t easily change

The world literally runs on the products produced from crude oil, including gasoline, diesel fuel, home heating oil, and petrochemicals used to produce most plastics. This problem has been understood for decades, but little has been done until very recently to seriously explore alternative energy sources. Recent investments in wind, solar and geothermal energy sources are very important to be sure. But for many applications, particularly transportation, there’s just no good alternative to liquid fuels. There are no battery-powered jet airliners, because the technology to build them simply doesn’t exist. For short-haul applications like passenger cars, there are viable alternatives to gasoline and diesel. Perhaps the best alternative is natural gas powered vehicles, which are already in limited use. But natural gas is a product of conventional oil production and it too is subject to the peak cheap oil phenomenon. The recent discovery of a large natural gas reserve in North America provides some relief, but in the end, natural gas - just like crude oil, will suffer from the peak production curve phenomenon. For longer-haul applications such as cargo ships, there is no known practical alternative to liquid fuels except for an onboard nuclear reactor, which most people assume will never be viable for anything other than military ships.

Electricity and Hydrogen are not alternative fuels

Electricity and hydrogen are widely misunderstood with regard to their use as “fuels”. In many ways, both of these energy forms will be important. Electric vehicles are already in limited use and will grow in popularity with the advent of peak cheap oil. But electricity and hydrogen are not fuel sources. There are no electricity mines or hydrogen wells. The electricity or hydrogen must be produced from another energy source. Most electricity is generated from burning coal, which is also in limited supply. Hydrogen production requires electricity. Converting everything to nuclear power generation is a meaningful alternative, but would take decades to implement on a large scale. Wind and solar are promising, but here again a complete replacement of oil, gas and coal-burning systems with alternative-powered systems would take decades. Peak cheap oil will be upon us long before significant progress along those lines could be made.

Supply-demand curves from heaven

For the reasons cited above, prognosticators of $500 crude oil reason that this is a classic supply and demand problem, where supply destruction is inevitable due to peak cheap oil. In classical supply-demand analysis, demand destruction normally occurs when prices rise and consumers turn to alternative products, so large price dislocations are therefore relatively rare. The $500/bbl oil pundits reasonably argue that this is a very special situation: Demand destruction in reaction to rising prices will be limited by the absolutely essential role that transportation plays in the global economy. You can’t have a global economy without airplanes, ships and trucks. Running trucks on alternative fuel sources is a real challenge, and running ships and airplanes on those sources is not possible with current technology. The $500 crude oil pundits argue that there will be no choice but to pay the going price for liquid fuel products. As soon as all present sources of crude oil are running at full capacity and new sources involve extraction costs several times higher than the conventional sources, prices are certain to rise dramatically, they argue.

What Peak Oil experts tell us to expect

Most peak cheap oil investment prognostications I’ve heard go about the same way: Expect airline transportation to once again be the purview of the rich, and for the masses to rely on slower but more efficient rail and bus transport for long trips. Expect the prices of imported goods to increase considerably, and therefore assume that the global economy will go back to preferring locally produced products and raw materials. Everything that requires long-haul transportation will get more expensive, and therefore the globalization trend (in terms of physical goods) will reverse. Urbanization will increase as commuting long distances in private passenger cars becomes cost-prohibitive, and communities that thrived on offering luxury homes an hour’s drive away from centers of employment will decline. People will be forced to make due with less, particularly with regard to products imported from afar. Economies will become more localized, and the United States will be forced to rebuild its manufacturing capacity, as wholesale reliance on imported goods becomes uneconomic.

Some say it already happened

Some commentators believe that we actually saw the beginning of a dramatic peak cheap oil price shock in 2008, when crude oil prices ran all the way up to $147/bbl. They dismiss the popular argument that excess speculation by hedge funds caused the run-up, and argue that it was actually the world’s first taste of a peak cheap oil shock. They contend that if not for the demand destruction that resulted from the global economic crash that ensued from the U.S. housing and credit bubble collapse, crude prices might have quickly doubled again to $300 or more by the end of 2008. They tell us that another such a price shock is imminent and will occur as soon as the world economy recovers from the credit crisis.

Common conclusions: Higher oil prices, more profitable oil companies

The arguments presented above suggest that a dramatic increase in crude oil prices is on the horizon, and some say the sky is the limit. Some pundits go on to contend that the story gets even better on the equity side of energy investing. Historically, the supply of crude oil (from which virtually all liquid fuels are produced) has been limited only by the intentional actions of organizations like OPEC, which sought to artificially constrain supply in order to boost price. Relatively cheap and plentiful crude oil led to fierce competition in the downstream business of refining finished products like gasoline and diesel fuel. The U.S. oil industry has been criticized for over-building high-tech refinery capacity that is more efficient than its low-tech competitors, but not so much as to justify the enormous capital investments that have been made. As peak cheap oil is realized, higher scarcity and expense of crude oil will mean that refining efficiency has much higher economic value.

Most refineries in the world use a fairly low-tech distillation process to produce gasoline, diesel and other “distillates” from crude oil. Furthermore, they are only set up to process the easiest-to-refine variety of crude oil, which is known as light sweet, referring to its low specific gravity and sulfur content. Only relatively few high-tech refineries have the ability to process heavy sour crude, which may be the only kind plentifully available in future years. They also have sophisticated cracking equipment that makes it possible to produce a more favorable ratio of high-value products from a given volume of source product. Simply put, this means the high-tech refineries in the United States can make more gallons of expensive diesel and gasoline from a single barrel of crude oil than the low-tech refineries elsewhere can.

Taking stock of all this, it might seem like there’s a sure bet on long-dated, deep out-of-the-money calls on oil futures and the shares of companies that operate the high-tech refineries that are more versatile and efficient in their processes, expecting a windfall as peak cheap oil hits and the world is forced to change its ways. But before calling your broker, please read on as I describe the reasons I don’t things are quite so simple. There will be an opportunity to ride oil futures up from present levels, but not all the way to $500.

Why it’s really much worse than they think

My primary contention is that the peak cheap oil problem is actually far worse than even most experts have come to realize. The realization of peak cheap oil will not simply involve a classical economic reaction to a changing supply-demand balance. Rather, I anticipate a fundamental game changing event that will involve re-writing the rules of the game in ways that are likely to undermine the investment prognostications and strategies that have been outlined in the preceding section. This is what George Soros calls reflexivity. The key is not to simply apply the existing rules of the game to anticipated outcomes, but rather to contemplate how expected outcomes will ultimately change the rules of the game.

Oil is even more critical to the economy than most people realize

Most people fail to comprehend the full implications of affordable energy on the world economy. Gasoline prices are the most visible symptom of the problem, but are far from the most important aspect of peak cheap oil. The global economy is dependent on cost-effective worldwide transportation of products. The United States in particular is extremely dependent on inexpensive goods imported from China and other Asian countries. A sudden dramatic rise in prices of all those goods would cripple an already-struggling economy. But the problem is much more far-reaching than that. Many of the things we take for granted would never be possible without abundant and relatively inexpensive energy. Skyscrapers and other large construction projects would not be economically viable without abundant energy to operate excavators, cranes, and construction tools. Many areas thought to have been unsuitable for habitation before the advent of modern air conditioning and refrigeration are now major population centers. Old fashioned supply chains involving warehouses and long-term stores of inventory have been entirely replaced with just-in-time delivery systems that are highly dependent on fast and reliable long-distance transportation. In the United States particularly, millions of people are dependent on employment 50 or more miles from their homes. Energy is a component cost of virtually all products. If energy costs were to increase dramatically, so would the cost of all other items. In short, the world simply cannot continue to function in the manner we associate with “modern times” unless energy continues to be available at affordable prices.

Peak cheap oil will become a national security issue

My advice to investors dreaming of windfall profits from $500/barrel crude oil futures would be this: Pretend it’s 1940 and you have a magic crystal ball that tells you in advance that the United States will be drawn into World War II. You might start to speculate that by investing in rubber, airplane parts, materials needed to make bombs, and so forth you’ll make a killing. Those products will become so important and so valuable that you might presume you’ll be able to name your price and demand any amount you like for them. But of course you’d have been mistaken. World War II wasn’t a routine macroeconomic event. It was a game changer. Laws were re-written, often retroactively. A state of national emergency was declared and people in possession of materials essential to the war effort were ordered to hand them over as price controls were implemented to thwart profiteering from speculation on the supply needs of the war effort. I predict that the onset of Peak Cheap Oil will eventually be met with a similar re-write of the rules of the game. We’re not just talking about an “investment theme”. We’re talking about a threat to the viability of the entire global economic system, and we should expect governments to intervene in previously free markets in the name of national security. I contend that any Peak Cheap Oil investment strategy that fails to consider government intervention scenarios is flawed and likely to underperform. That’s not to say that there’s no money to be made from an early awareness of peak cheap oil. But it will be a complex puzzle and those with high-level connections in government will have an upper hand over other investors.

Perhaps you think my assertions that governments will eventually intervene in the free market system are far-fetched? If so, I’d encourage you ask yourself this question: What if governments had actually been planning for years to intervene exactly as I’ve described? Sound preposterous? Before you answer, consider this quote from a speech former Vice President Dick Cheney gave to an oil industry group while he was still campaigning for office more than a full decade ago, back in September of 1999:

 “By some estimates there will be an average of two per cent annual growth in global oil demand over the years ahead along with conservatively a three per cent natural decline in production from existing reserves. That means by 2010 we will need on the order of an additional fifty million barrels a day. So where is the oil going to come from? Governments and the national oil companies are obviously controlling about ninety per cent of the assets. Oil remains fundamentally a government business.

 (Source)

Clearly, Dick Cheney understood the looming threat of peak cheap oil a full decade ago, and he made it resoundingly clear that he considers it the government’s business to manage the problem. I strongly disagree with Mr. Cheney’s politics, but his words should make it crystal clear to investors that the government will involve itself in this matter. Some believe the entire reason the United States has pursued war with Iraq under dubious pretenses of connections to Al Queda and non-existent WMDs is precisely because Mr. Cheney understands so well just how critical the problem of peak cheap oil will be to the U.S. I humbly suggest that if invading sovereign nations is on the table, investors should consider what else might be on the table that could derail their peak cheap oil speculation strategies.

“Curve Balls” Peak Cheap Oil speculators should anticipate

In my opinion, a peak cheap oil investment thesis must contemplate several potential eventualities. Let’s explore but a few of them.

Price Controls

In the short to intermediate term, I share the view that crude oil prices are headed higher. But not as much higher as many have speculated. The $150 level tested briefly in 2008 put an enormous strain on the economy. A number of economists believe that the brief oil price shock of early 2008 may have had as much causal effect on the great recession as the subprime housing debacle. I think another run-up to $150 or maybe even $200/bbl is entirely possible in the course of the next two to three years. But the economy can’t function – and certainly cannot recover from an already deep recession – in the face of $300+ crude oil. For that reason, I expect government intervention of some kind to occur before prices get much above $200/bbl. I do expect high inflation to be part of our future, so perhaps $500/bbl is possible in nominal terms. But in 2010 dollars, I don’t think the economy could ever support prices anywhere near that high. The fundamentals are certainly in place for an escalation to such levels, but I anticipate government intervention long before such a level is reached.

Price controls have proven over and over again to lead to certain disaster, manifested primarily in the form of shortages and rationing. Readers old enough to remember waiting hours in line for gasoline from one of the few stations that had any to sell back in the early 1970s know this all too well. But unfortunately, just as price controls have proven ineffective, governments have proven over and over that they seldom learn from their past mistakes. I think that an entirely likely scenario would involve a government-dictated fixed price for crude oil imports.

Oil resource nationalizations and war casualty costs

There’s good reason to assume nations with “cheap and easy” oil resources will seek to nationalize them. The oil industry has a long history of nationalization (that’s a euphemism for theft by expropriation of privately owned assets in a given country). International oil companies have invested billions building oil rigs in foreign countries. In theory, the rights of these private enterprises to operate those assets under pre-agreed terms are protected by signed contracts. But signed contracts aren’t worth much when your counter-party is the government of the nation in question, which has the ability to pass new laws both voiding your existing contract and having your personnel executed if they resist in any way. Thus, there are only two real reasons that foreign countries allow oil companies to operate in their nation rather than just expropriating the privately owned rigs. The first reason is that they need to cultivate an ongoing relationship with the oil companies in order to drill the next well and to build the next rig that will produce revenue for the country. But when they figure out that the rigs already in place will be the last of their kind because all the conventional oil fields have been exploited, this reason becomes moot. The second reason is that military force may be used to thwart such expropriations of private property. That might solve the problem, but it also leads to significant financial loss when the oil rigs themselves are proximal to the fighting or become the targets of sabotage by either side in the conflict.

The whole point here is that the prognostication that oil companies will have an easy ride through the times that are coming is badly flawed. It may well be true that oil companies with the right senior level connections in government will have their assets and profits protected by military action in reaction to a nationalization attempt by a foreign government. But by the same token, other oil companies who are less well-connected but are direct competitors of the well-connected just might find that their rig was the one that was “necessarily sacrificed” in a military conflict, making the company the target of a distressed takeover by the better-connected competitor.

My conclusion is that there will be both extraordinary profits realized and extraordinary losses suffered by equity investors in oil companies during the peak cheap oil era. Stock picking takes on a whole new meaning under such circumstances, and so I’ll leave the equity plays to those better equipped than myself to understand the power game and which companies have the most political capital. Those with an insider’s view of the politics and policy decisions involved will make a killing.

Market force vs. Military force

One of the strongest arguments made by Peak Oil speculators is that prices will rise in large part because emerging economies (particularly China) are industrializing, radically growing their vehicle fleets, and generally likely to create enormous new demand for decades to come. On its face, this is a sound and well-reasoned argument and the fundamentals in those countries strongly support this conclusion. But this argument assumes that oil prices will continue to be set by a free-market supply and demand system. I think that a dangerous assumption.

I’m convinced that as Peak Cheap Oil arrives, a series of peak oil price shocks will cripple developed economies, including the United States. If and when rising energy prices due to peak cheap oil begin to impose a markedly lowered standard of living in the United States, I fear that this will become the justification for further American imperialism. I can easily envision Dick Cheney returning to politics, campaigning on a “take the gloves off” platform, and proposing to simply tell the middle east that their choices are to either sell the United States all the oil it wants for (say) $85 per barrel, or be annexed by military force. At present the American public would not support such an imperialistic policy, but sadly, history has shown that any time a developed, comfortable society is faced with the threat of loosing its way of life and standard of living, the rules change and the previously unthinkable becomes acceptable. The last fellow to use this phenomenon as the center of his political strategy was wildly successful in convincing his people that previously unacceptable things were now somehow “necessary”. His name was Adolph Hitler. And make no mistake; peak cheap oil will create an economic challenge for the United States very similar to the one that Germany faced at the time of Hitler’s rise to power.

Punishing those evil speculators

A recent trend in politics seems to be to scapegoat “speculators” for the policy mistakes of government. When the United States’ staggering national debt and unfunded liabilities finally bring on the greatest sovereign debt fiasco the world has ever seen, there’s no doubt in my mind that when treasury bond markets collapse, “speculators” will be assigned the blame. There’s no reason to assume Peak Cheap Oil will be much different. Investors should be acutely aware that if they make large windfall profits in a short period of time, there will likely be pressure to claw back or retroactively tax those profits in the name of the common good. No amount well-reasoned argument that the investor put capital at risk for an extended period in order to eventually reap that reward will even be given due consideration. As the economy is crashing harder and deeper than it did in 2008, the government will need a scapegoat and the peak cheap oil speculator is a likely target. Investors should consider the possibility of profits from speculation on crude oil futures being confiscated.

Forming an Investment Strategy

The “curve ball” scenarios discussed above are presented to encourage you to think about a broad array of possibilities. This is not a complete list and I have no idea whether these particular scenarios will ever come into play. The point is that peak cheap oil is going to be a big deal for the world – possibly dwarfing the Cold War as the biggest international diplomacy challenge the world has ever seen. I humbly suggest that viewing the investment opportunity in the narrow context of supply-demand economics is naïve. Nobody can possibly predict how this will go, but it’s certain to be a complex potpourri of politics, diplomacy, and economics, not to mention unknown advancements in oil exploration and production technology.

From all this, my conclusion is that the clearest and most opportune speculative investment plays will come early in the cycle. As “cheap and easy” resources go into cumulative decline by 2012, there will be price escalation and probably dramatic price shocks. During this period, speculating on crude oil futures seems a ripe opportunity, since government market intervention is relatively less likely in the near term. I’m not as comfortable with equity plays on oil companies, because I think they’re much more susceptible to reality catching up with the presently delusional equity markets. The biggest potential price shocks will come later, when the realities of Peak Oil’s implications are fully understood and the world realizes there are few alternatives for new supply creation. The few alternatives available (such as tar sands and shale) involve a relatively low EROEI and very high production costs, so the magnitude of the market reaction could be extreme. But they’ll likely be so extreme as to provoke government intervention, price controls, or even nationalization of the entire oil industry as a matter of national security.

I conclude that the key question in forming a speculative investment strategy is, At what price level does government intervention become a significant risk? I’m inclined to focus the investment strategy on deriving the maximum possible profit from the rise from present price levels to that figure. Presumably the number is at least $147, which the market already tolerated once. But I don’t think it’s a whole lot higher than that. Perhaps $200. There’s theoretically a much larger profit to be had beyond that, but I just can’t see it happening without governments stepping in and changing the rules. I’d rather lever up more profit in the $100 - $200 price target window using spreads to trade off the potential for even greater profit beyond $200 in exchange for more leverage on the rise up to $200.

Finally, I want to emphasize that any long play on crude oil futures – particularly a leveraged one – needs an economic hedge. Equity markets are presently delusional, pricing in a robust “economic recovery” when none really exists. Everyone is excited about improvements in personal consumption expenditures. Sadly, very few analysts bother to check the facts and notice that rapidly declining state sales tax receipts strongly refute the commonly accepted “wisdom” that consumers are spending again. Momentum indicators suggest that the false rally in equities has room to go much further, which means that when reality eventually sinks in, the correction will be that much deeper and more abrupt. America is not presently facing reality with respect to its economic condition. When America’s economic reality is eventually recognized, a major equity correction will occur and crude oil prices are certain to correct as well. What remains to be seen is how far long-dated oil futures correct. I expect a repeat of 2008, where near-term contracts collapse but contango blows out as long-dated contracts suffer a relatively smaller correction. For nearly a year, I had waited to enter my speculative long-term peak cheap oil trade, believing that the buying opportunity would come when economic reality set in. But the world is slowly waking up to the reality of peak cheap oil, and has been slow to come to terms with America’s economic reality. I now spend most of my time designing the optimal peak cheap oil trade – one which immediately gains long exposure to oil futures in what I call the early crisis window, of 2012-2014, while hedging the likely downside risk that oil prices will go way down before they go way up. That can be accomplished in several ways, including calendar spreads on oil futures and use of an economic hedge such as an equity short to balance long exposure to crude oil futures in the crisis window.

Erik Townsend is a private investor based in Hong Kong.

Full disclosure: Long crude oil futures and call spreads on crude oil futures

© 2010, Erik Townsend

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80 Comments

Davos's picture
Davos
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Re: Why “Peak Oil” Will Never Lead To $500/bbl Crude Oil

Super read!

Erik T.'s picture
Erik T.
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Re: Why “Peak Oil” Will Never Lead To $500/bbl Crude Oil

Thanks for the upgrade to the main blog, Chief!

Subscribers will recognize parts of this - some of the best content including that amazing chart and the quote from Cheney were actually Chris Martenson's finds. I stole them from his posts over in the enrolled member area. Chris, thanks for letting me share them with everyone here.

Erik

 

Beaver's picture
Beaver
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Re: Why “Peak Oil” Will Never Lead To $500/bbl Crude Oil

Erik

What are your thoughts on investments in natural gas.  I have been watching  Natural gas through UNG, and it appears to be carving put a bottom right now.  How do you see natural gas performing in the next couple of years.  And how do you see natural gases role in peak oil.

Subprime JD's picture
Subprime JD
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Re: Why “Peak Oil” Will Never Lead To $500/bbl Crude Oil

I also never thought that crude would reach those heights. Cant happen, wont happen. Nevertheless, $200 oil might as well be $500 as our magic economy would begin to go to sleep.

Mike Pilat's picture
Mike Pilat
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Re: Why “Peak Oil” Will Never Lead To $500/bbl Crude Oil

Yes, this was excellent and I think it was a point that needed to be made. Far too many people (including some geologists) subscribed to the delusion that oil prices will seamlessly go into the multiple hundreds of barrels range. In addition to government intervention and future wars, I think people will rapidly find that trying to live their lives the way they normally would is just not sensible. Doing "whatever it takes" to keep a guzzler in the driveway and maintain a 100 mile / day commute might prove harder than simply changing lifestyle. 

My greatest concern is civil unrest and military crackdowns at home. America seems to have one of the most "entitled" cultures around and being told that nothing can be done is politically unacceptable here. Additionally, our infrastructure systems are among the least flexible to peak oil. Perfect storm.

dcm's picture
dcm
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Re: Why “Peak Oil” Will Never Lead To $500/bbl Crude Oil

Excellent piece Erik. I applaud your point that when the time comes that our comfortable lifestyle is challenged, history shows that we all have a little Dick Cheney in us. Didn't Cheney also say "the American way of life is not negotiable." It is amazing  how apt that statement is. A couple of years back, I was arguing about the war with my brother in law who is a self proclaimed "liberal" when he said, "if they had just told me it was for the oil, I might have supported the cause." I wonder how many people truly feel this? What other principles will we give up as we start to get squeezed? It is sad ultimately, that ninety percent of our last decades energy has been spent end running around the issues, the law, and our morality. Where would be now if we would have just laid it out and got straight to work on the most dramatic transition we will ever see.       

plato1965's picture
plato1965
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Re: Why “Peak Oil” Will Never Lead To $500/bbl Crude Oil

 

  Great article Erik, one quibble...  I assume you mean $500 in today's $ ...

  The 2012 "$" may be a significantly different animal to todays "$".

 "Why Peak Oil will never lead to 200 big-macs/bbl Crude Oil ?"  :-)

 

 

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Erik T.
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Re: Why “Peak Oil” Will Never Lead To $500/bbl Crude Oil

@Beaver

I think NG will play a very important role. The problems are (1) the contango is huge, so it's hard to invest in it, and (2) the UNG ETF has serious structural design problems that make it destined to fail. Google should turn up the dirt on it. It was discussed some recently at iTulip. Try googling "iTulip UNG".

@Mike Pilat

Yeah, the unrest and crackdown stuff is what scares me the most too. The handling of people during the Katrina fiasco should send a warning message. As much as constitutionalists want to believe in their right to bear arms, the reality is the government doesn't want you to have guns and the first thing they're gonna do in a crisis is take them away. A lot of people won't give them up without a fight. That's why Haliburton built all those detention camps.

@dcm

Excellent points. They bring to mind a key concept I just can't get most Americans to think about in a constructive way. Most people think "Those Germans, how could they have done those atrocities in WWII?". That's naive thinking. We all know Germans are smart, rational people. Just look at their engineering industry. What was proved in WWII is that when human beings are put in a situation where their very way of life is threatened and they are struggling just to eat and stay alive, the rules of human morality change. The reason Hitler rose to power had nothing to do with the Germans being German. It had everything to do with Germany being in economic ruin and full of miserable, despeate people. When people are put in those circumstances, they will do and believe whatever their leaders tell them. That's human nature, like it or not. Americans are no different, and will follow America's Hitler when the time comes.

"We all have a little Dick Cheney in us" - now that's a really scary thought!

Erik

 

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Re: Why “Peak Oil” Will Never Lead To $500/bbl Crude Oil

An Eyeopener. Thank you very much.

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Re: Why “Peak Oil” Will Never Lead To $500/bbl Crude Oil

Excellent read, it landed in my in box just as I had begun to try to consider the implications of all of this.  Very timely, and scary stuff (shaking my head).  Thanks Erik.  Well done.

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Re: Why “Peak Oil” Will Never Lead To $500/bbl Crude Oil

Nice article Erik. 

I've been pondering the impact of peak oil, and I'm leaning towards a scenario where oil gets pricier, but each time there's a runnup it seriously hampers economic 'growth', and then the lack of growth results in lower prices.  Lots of ups and downs.  Eventually there is either going to be too much social unrest by all the unemployed folks out there, or a major change (currency reval?  default?  hyperinflation) will come about because of all the gov't debt out there that doesn't have growing economies to support it.  Either the unrest or currency problem will result in some sort of change for oil pricing/usage.  So I don't know if we'll ever see such high oil prices that it draws so much attention that a gov't is forced to act on it, I think the economy would slow down first and would cause the prices to subside.

 

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Re: Why “Peak Oil” Will Never Lead To $500/bbl Crude Oil

Naive as I might have been back then, I do remember a paper I wrote in high school that discussed how the failure of the Weimar Republic enabled Hitler to come to power. Numerous books (notably Ordinary Men) have been written discussing the capacity and tragedy of otherwise good people that are channeled into behaving in a morally unscrupulous manner.

Remember 2001: A Space Odyssey? What were the apes fighting over? What happened once one tribe attained a greater sense of reason?

Remember the Milgram experiments in which an authority figure persuaded an experiment subject to believe they were electrocuting someone else?

Remember the Stanford prison experiments in which individuals were given no instructions but merely assumed roles based on the titles they were given?

While I think there are a great many morally upright people still remaining in this country, I do think everyone has a breaking point. The more that we are lied to, the more likely the fallout will push more people beyond their breaking point. It is an unfortunate reality, but it would truly be historically exceptional to think that a Peak Oil crisis would not result in civil unrest and violence. People have gotten riled up over far smaller matters in the past.

I echo Chris sentiments in that we have everything we need to succeed at this. I say that because I think "success" cannot and should not be measured in terms of the number of "Quads" (that's quadrillion BTUs) of energy the earth can consume in a year. While it is true that plentiful energy provides the potential for prosperity, the presence of abundant energy does not guarantee that we will utilize the resources in a manner that promotes prosperity. That's where we find ourselves now.

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Re: Why “Peak Oil” Will Never Lead To $500/bbl Crude Oil

Thanks for this article, Erik.  Pithy stuff.  

It's just really beginning to sink in -- the engineering marvels/miracles we rely upon to get gas into the tank.  And the next thoughts after that are about the Deepwater Horizon -- and future Deepwater Horizons.  Egad.  

Viva -- Sager

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Re: Why “Peak Oil” Will Never Lead To $500/bbl Crude Oil

When I tell friends that $3 gasoline is cheap, I get strange stares.  So I tell them that I heat our home with wood and can cut, split, and transport 3 cords of wood (our annual use) using 6 gallons of gasoline.  Disregarding the energy used to make the woodstove, chainsaw, and splitter (usw), we effectively heat our home using $18 of gasoline.  If any of you have cut or split wood by hand, how much would you be willing to pay for a gallon of gasoline used for this purpose?

Most medications are derived from hydrocarbons, and some are required for living, so most of us would be willing to pay alot for these.

Transportation?  Well, that's a very different story.  $10/gallon?  Not me.

It's tough to put a ceiling on a barrel of oil, but for the most common current use (transportation), $500 in John Williams adjusted prices will not happen. 

Erik, nice job and keep the thoughts coming our way.

Nate

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Re: Why “Peak Oil” Will Never Lead To $500/bbl Crude Oil

Outstanding, ET!  Thanks very much.  You brought up many angles I had not considered.

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Re: Why “Peak Oil” Will Never Lead To $500/bbl Crude Oil

The peak oil play won't be oil.  Oil will become less profitable because there will be price controls and it will be more expensive to extract and refine.  The play will be oil service companies that have the technical abilities to access the oil at the bottom of the sea or under arctic ice, etc.  Especially the politically connected ones.  I don't want to name names, but the initials are H A L L I B U R T O N

 

 

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Re: Why “Peak Oil” Will Never Lead To $500/bbl Crude Oil

Thank God. ET just ensured us that hyperinflation will never happen in US.

 

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Re: Why “Peak Oil” Will Never Lead To $500/bbl Crude Oil

I have been looking for information and analysis that brings some wisdom to this chaos for months.  

Thank you for that, Erik!

 

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Re: Why “Peak Oil” Will Never Lead To $500/bbl Crude Oil

I am thinking about how this relates to health care. There was much gref for people wanting better health care because the people who did not want it was not wanting "nationalization."

If this is picked up by the anti-nationalition groups, then we could see $500.00/bbl. It took thirty years to get health care reform to become law. So, how long before the hurt of oil prices will cause a simular nationalization questions? I know that "national security" is a good reason to nationalize things, but I also know that there are real problems if that happens too.

 

 

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Re: Why “Peak Oil” Will Never Lead To $500/bbl Crude Oil

I am thinking about how this relates to health care. There was much gref for people wanting better health care because the people who did not want it was not wanting "nationalization."

If this is picked up by the anti-nationalition groups, then we could see $500.00/bbl. It took thirty years to get health care reform to become law. So, how long before the hurt of oil prices will cause a simular nationalization questions? I know that "national security" is a good reason to nationalize things, but I also know that there are real problems if that happens too.

 

 

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Re: Why “Peak Oil” Will Never Lead To $500/bbl Crude Oil

Using the same concept of "reflexivity", why wouldn't we expect a rather low ceiling on the future price of gold?  What is the advantage of having physical gold when the government (s) can quickly change the price, and the rules on how it can be owned and/or traded?  I understand the argument for physical possession over a paper right, but not when the rules have a high likelihood of being modified to my detriment.

The same concept applies to the question of whether or not to convert all or a portion of one's IRA assets to a Roth account.  Isn't it more likely than not that the rules will change allowing these accounts to be raided in the future?  If so, than many of  the forward-looking maneuvers we all hope to execute to preserve and sustain wealth, safety, and quality of life may be in jeopardy.

Rob

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Re: Why “Peak Oil” Will Never Lead To $500/bbl Crude Oil

Perhaps you think my assertions that governments will eventually intervene in the free market system are far-fetched?

If you think that government intervention in a free market system is a far fetched proposition I'll assume that you've been living as a prisoner of war, stranded on a remote island, or trapped at the bottom of a well since the 1920s. 

A good way to point this out (if you had to) would be to look at what has been done recently to save the financial system.  There's been some open intervention there to put it mildly.  Oil supply and money supply are one in the same.

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Re: Why “Peak Oil” Will Never Lead To $500/bbl Crude Oil
robbie wrote:

Using the same concept of "reflexivity", why wouldn't we expect a rather low ceiling on the future price of gold?  What is the advantage of having physical gold when the government (s) can quickly change the price, and the rules on how it can be owned and/or traded?  I understand the argument for physical possession over a paper right, but not when the rules have a high likelihood of being modified to my detriment.

The same concept applies to the question of whether or not to convert all or a portion of one's IRA assets to a Roth account.  Isn't it more likely than not that the rules will change allowing these accounts to be raided in the future?  If so, than many of  the forward-looking maneuvers we all hope to execute to preserve and sustain wealth, safety, and quality of life may be in jeopardy.

Rob

At some point you have to decide that enough is enough and refuse to obey.  If you hand over your guns and your gold, then what defenses do you have left? 

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Re: Why “Peak Oil” Will Never Lead To $500/bbl Crude Oil

Thanks for this great article. My only comment is that I think you may be underestimating the potential of alternative energy sources and technologies to help alleviate this situation. I agree that the time frame ncecessary to bring these alternatives to a scale large enough to affect peak oil in the next 10-15 years is not feasible, but I think that in the 15 year horizon and beyond, it is. I think this will be possible because of three factors. Firstly, as conventional energy becomes more expensive, there will emerge even more incentive to develop alternative energy systems (I'm considering mostly transportation here). Secondly, once these technologies reach some degree of mainstream adoption, they will develop and improve at an exponential rate, similar to all other new technologies that come to market like iPhones, but much much faster due to the money driving it. Third;y, the economics of these alternative technologies is already significantly better than oil, the problem is that they have been kept off the market for so long and have not enjoyed the benefits that mass production can do to bring down costs and make things competitive.

It is feasible that aviation, cargo ships, long haul trucking, and plastics manufacturing could use biofuels as an alternative feedstock. This would require altering those technolgoes to some degree to accept the different fuel types, but it`s possible. It`s all relative to the prospect of running out of oil I guess... The question is, can the agricultural and alcohol infrastructure be ramped up fast enough to accommodate thisÉ I don`t kknow, but I imagine market pressures will help speed this along fairly quickly.

Electric cars cost $25 a month to charge and that won`t change much with the price of oil. How much do regular cars cost, like $150É If oil doubles then that`s $300 a month. The extra electricity generation capacity necessary to switch over most of the vehicle fleet to electric cars is minimal. The capabilities of the new batteries coming out next year are so impressive that all of the preconcieved notions of the limitations of electric cars will be moot. And the prospects for future advancements are even more promising given the trillion dollar auto market as an incentive. I predict a massive shift in the automotive market over the next 10 years, as consumers flatly reject gasoline powered cars in favour of electrics. Why would anyone buy a gsoline powered car in the face of peak oil and rising gasoline prices, when electric cars are better in virtually every single way and cost 10 X less to operateÉ

The other technology of note is home heating using natural gas. Heat pumps are half as expensive to operate as natural gas furnaces right now, and this disparity will only increase as natural gas prices rise. Heat pumps use electricity (4 X less than an electric heater for the same amount of heating) so this would require some more electrical generation capacity. But people will be naturally switching over to this technology and isn`t too difficult to swap your furnace with a heat pump.

These are just some observations, in case you are looking to invest to take advantage of these trends (like, lithium for electric car batteries -- it will become the new oil)

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Re: Why “Peak Oil” Will Never Lead To $500/bbl Crude Oil

When peak oil reality (or hype) goes mainstream I'm thinking there may be significant interest in alternative energy companies, as the prevailing belief at first will be to keep maintaining business as usual.  There may be an energy tech bubble similar to the dot com bubble, as everyone trys to guess what will be the breakthrough technology that saves us.  One speaker I heard recently suggested the biggest success will be if someone figures out Storage - how to store energy from intermittent source like solar, wind, tides, etc.  I don't think the odds are great that technology will "save us" though, and certainly won't put all my eggs in that basket of wishful thinking.

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Re: Why “Peak Oil” Will Never Lead To $500/bbl Crude Oil

Well written.  I agree with almost everything.

I would respectfully suggest that "Peak Cheap OIl" at $147/bbl is what caused the first domino to fall, creating this current recession.

Energy inflation made it so people had to choose to fill their gas tank, or save for their mortgage payment at the end of the month.  No gas, no car, no job, no income, no mortgage, so they voted to fill the tank, and worry about the mortgage payment later.  Later never came, defaults started to happen everywhere as the contagin was already spread everywhere as all costs of living are directly & indirectly affected by energy prices.

While the energy prices are what struck a match, unfortunately the banks, Wall Street, & FedReserve had been storing gunpowder, gasoline, and nitro glycerine in everybody's home basement.  Everything blew with a single match lit in thousands of basements.  So here we are today.

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Re: Why “Peak Oil” Will Never Lead To $500/bbl Crude Oil

Excellent Erik,  thank you.

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Re: Why “Peak Oil” Will Never Lead To $500/bbl Crude Oil

Thanks Eric for a very well written article. You have added a new dimension to the unfolding of our predicament and it is easily understandable.

Coop

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Re: Why “Peak Oil” Will Never Lead To $500/bbl Crude Oil

What a great post, Erik. There's always a curve ball that may come out of nowhere, (unless you're part of this site).

Yes, I remember the 70's and crusing with some buddies up from San Diego to San Luis Obispo to watch a friend play basketball in the high school playoffs. We were about half way when we had to stop for gas. The line was at least an hour, and it felt like you hit the jackpot when you finally filled your tank. I think we paid .48 a gallon and that seemed pretty steep.

But looking at the bright side, we had Crosby, Stills, and Nash, Deep Purple, Emerson, Lake and Palmer, etc. to keep our spirits high.

Not looking forward to the lines, but I could use more time with good friends and good music.

Larry

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Re: Why “Peak Oil” Will Never Lead To $500/bbl Crude Oil

These are just some observations, in case you are looking to invest to take advantage of these trends (like, lithium for electric car batteries -- it will become the new oil)

        Although lithium will play some role in the future, mainly to make batteries, it will not be the new oil and until Jurassic Park becomes a reality nothing else will either. Try making some of these from lithium. This list is from http://www.geography-site.co.uk/pages/citizenship/oil_products.html .

                                                                       50 Things Made From Oil

Petrol for cars
Diesel for cars, lorries and ships
Aviation fuel for planes
Credit cards
Plastic bags
Hair brushes
Anti-freeze
Motorcycle Helmets
Carpets
Telephones
Brake fluid
Boats
Glue
Toilet Seats
Shampoo
Household paint
Detergent
Bowls
Fertiliser
Explosives
Car tyres
Artificial turf
Football boots
Lipstick
Weed killer
Parachutes
Umbrellas
Food wrappers
Shower curtains
Waterproof coats
Artifical limbs
Roads
Bubble wrap
Drinks bottles
Toothbrushes
Life jackets
Fishing line
Tennis rackets
Roller blades
Eye glasses
Lunch boxes
Flower pots
Toys
Car seats
Insulation
Nail polish
Hair spray
Medicines
Insect repellant
Golf balls
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Re: Why “Peak Oil” Will Never Lead To $500/bbl Crude Oil

This question was posted in the "other thread", i.e. before Chris Martenson moved this article to the main blog:

crash_watcher wrote:
Re: Why Peak Oil Will Never Lead To $500/bbl Crude Oil

Eric,

I wonder if you similarly believe that gold will never be allowed to reach $5,000/oz or $20,000/oz without some government interference and controls, or, even a return of something like the Gold Reserve Act of 1934 or Exec Order 6102?

There are plenty of pundits predicting such high prices for gold, and even higher.

In other words, is there a price tipping point where the U.S. government (or other govrnments) will succumb to the temptation to confiscate gold, or, make it a criminal offense for U.S. citizens to own or trade gold?

In my opinion, this probably would not happen unless the dollar was rapidly losing value, and, the government felt the imperative to issue a new fiat currency backed by gold. Hmmm...that could happen, couldn't it?

I'd be interested to hear your take....perhaps there simply is no investment that offers one a means of escaping from the coming loss of wealth.

I think about this quite a lot, actually. I think that oil and gold are two completely different stories, but there are some similarities.

All of us who advocate investing in physical gold bullion would do well to occasionally remind ourselves that the whole rationale for our investment (most of us anyway) is that throughout history, when paper currencies have failed, it was always gold, because of its inherent scarcity, that took over as the "hard currency" store of value mechanism after fiat currencies failed. So that's how it's always been, and how it's always been in the past is certainly something worth taking seriously. But past performance is not necessarily an indication of future results!

Society doesn't really need gold. It's nice for jewelery and for making certain electronic parts, and a few other industrial applications. But based on these needs alone, gold is already way over-priced. The reason many of us think gold will get much more expensive in coming years is that we assume that as with the past, when paper currencies fail, society will revert to what is in scarce supply (gold) as its currency and store of value. But society needs energy in order to function a lot more than it needs gold.

But just as paper money is "fiat", in a certain way so is gold. Fiat means it has value just because the government says it does, i.e. paper money. Gold is "fiat" in the sense that collectively, everyone seems to agree that because gold is scarce, it should be the thing to serve as "real money" or a store of value. But if that collective viewpoint changed and everyone viewed gold as something that has value for jewelery and electronic parts only, then the price would collapse!

There is no doubt in my mind that oil would replace gold as the de facto store of value when paper currencies fail, if you could fit a million dollars worth of oil in a safe deposit box and store it indefinitely. But you can't. So the only way oil could ever become "money" is if paper currency were backed by oil stored in a tank somewhere, the way banknotes used to be backed by gold in a vault. If paper currencies are collapsing, I doubt the population at large would feel inclined to trust the government to issue a "new kind" of paper money.

But my real point here is that the only reason to expect gold to appreciate markedly is that because it's always been true in the past, everyone will accept gold's scarcity as an implicit reason to consider it valuable.

To the question of government intervention in the gold market, it's happened before (1933) and could happen again. But I think the odds are actually lower this time. In '33, gold was still money (gold standard) and the only way to achieve the intentional debasement of the currency was to confiscate all the gold. Today you don't need to confiscate gold to debase the currency. All it takes is a few mouse clicks.

Government will intervene to affect outcomes it wants. In the case of oil, government will intervene to make sure "we get as much as we need at a reasonable price", and if that stops working because there isn't enough to go around, I expect the Military to be used to inform the other countries that "we come first, like it or not".

I certainly wouldn't "put it past" the US Gov't to intervene in the gold market. But why? I suppose the reason would be that if the USD is collapsing and headed for zero, but privately held gold is still perceived as valuable and to have purchasing power, the government might deem it "necessary" to confiscate all the privately held gold for its own use. That's why if I still lived in the USA, I'd keep my gold elsewhere.

Erik

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Re: Why “Peak Oil” Will Never Lead To $500/bbl Crude Oil

Erik,

Thanks for your detailed explanation. Super read!

If we consider the points you brought up in regards to peak oil (price controls, oil resource nationalization and war casulaty costs, market force vs military force and punishing those evil speculators) - and we relate it to the way the current financial crisis has been diagnosed and is being attempted to be "solved" - I think that before or as oil shocks appear, there will be misdiagnosing of the situation, so that proper solutions are not implemented.

For example, as the oil price runs up, there may be some failure in the banking system (due to large speculative positions taken by banks), - much like what we experienced in Sept 2008 - which then ripples through the economy, but which masks the true cause of the oil price run up. The problem will then be blamed on speculators, rather than on peak oil. For example, I envision that the government may then increase spending on the military to protect and increase the control of world oil supplies, and thus starve China and India of oil. We already see western nations (not just the US) - with military bases in the Middle East.

As you mention Erik - no one can know exactly how this will play out. But government intervention in the market is going to make it difficult to diagnose the problem, and thus proper identification of a effective solution.

John

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Re: Why “Peak Oil” Will Never Lead To $500/bbl Crude Oil
robbie wrote:

Using the same concept of "reflexivity", why wouldn't we expect a rather low ceiling on the future price of gold?  What is the advantage of having physical gold when the government (s) can quickly change the price, and the rules on how it can be owned and/or traded?  I understand the argument for physical possession over a paper right, but not when the rules have a high likelihood of being modified to my detriment.

The same concept applies to the question of whether or not to convert all or a portion of one's IRA assets to a Roth account.  Isn't it more likely than not that the rules will change allowing these accounts to be raided in the future?  If so, than many of  the forward-looking maneuvers we all hope to execute to preserve and sustain wealth, safety, and quality of life may be in jeopardy.

Rob

This echoes my thoughts as well.... we will have to think of all the ways 'the rules' can and will be changed, whether it's oil, gold, 401k's, where we can spend money, what can we spend our money on, etc.  If there is only one thing I would add to Erik's excellent piece (though he touches on it a bit when mentioning how complex the politics and economics will likely be), it would be to just take it a bit further and ask people to consider how far any given oil-hungry government's reach and influence extends and plan your investments accordingly.  We are likely to see a wide range of different investing rules depending on which nation one operates in, and price controls or nationalizations in one country are likely to create opportunities in others.   

Of course 'changing the rules' is likely to affect so much more than our investments.  If I decide to start up a business based on alternative energy, I could see my business fail despite huge demand for my product due to rules changes.  Maybe there will be a 'Making Alternative Energy Affordable' bill that will enforce price controls on my product or maybe a "Alternative Energy Agency" that will regulate my business to death because I don't have the money to buy a Congressman..er.. I mean hire a lobbyist like the big boys do.  Heck, maybe even having my business nationalized if the situation becomes dire enough.  Whether it's investing or running a business or simply how one commutes to work, it's always nice to have a contingency plan in place anticipating changes in the operating environment...

- Nick

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Re: Why “Peak Oil” Will Never Lead To $500/bbl Crude Oil

Eric,

 

 

Enjoyed reading your thoughts.

When Peak Oil hits (along with Peak water and Peak everything else) I imagine governments will go into "national emergency" mode whereby emegency powers will be introduced. Things like rationing, price controls, increasing tariffs, compulsory purchacing of strategic resources etc will be required to hold countries together. Countries could effectively be on a "war footing" where governments can control/ take what they feel fit for the national good. In short, when things get that bad everything is up for grabs;  Oil, gold land, property etc,

 

Mike

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Re: Why “Peak Oil” Will Never Lead To $500/bbl Crude Oil

Erik

Your post is incredibly sophisticated and a very generous use of your time, it is awesome,  thank you! 

Mish just posted an article on taxation of gold and oil resources today (he thinks both are a given) , one more reason to store gold offshore but then there are significant taxation issues there too!

Denise

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Re: Why “Peak Oil” Will Never Lead To $500/bbl Crude Oil

" investment strategies on initial price run-up"........sounds to me like Nero playing his fiddle as Rome burns. Make lots of money and spend it on what....guns and amunition to protect your fortune....wake up guys....its not a little bump and then continue with business as usual........we need some real in-depth useful thinking on post-petrolium strategies !!!! Not this shallow "whats in it for me" stuff.

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Re: Why “Peak Oil” Will Never Lead To $500/bbl Crude Oil
Erik T. wrote:

So the only way oil could ever become "money" is if paper currency were backed by oil stored in a tank somewhere, the way banknotes used to be backed by gold in a vault. If paper currencies are collapsing, I doubt the population at large would feel inclined to trust the government to issue a "new kind" of paper money.

Isn't the USD an oil derivative already? I thought Kissinger required that all Middle East oil transactions be carried out in USDs. Is this no longer the case?

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Re: Why “Peak Oil” Will Never Lead To $500/bbl Crude Oil
JAG wrote:
Erik T. wrote:

So the only way oil could ever become "money" is if paper currency were backed by oil stored in a tank somewhere, the way banknotes used to be backed by gold in a vault. If paper currencies are collapsing, I doubt the population at large would feel inclined to trust the government to issue a "new kind" of paper money.

Isn't the USD an oil derivative already? I thought Kissinger required that all Middle East oil transactions be carried out in USDs. Is this no longer the case?

I don't know if it was Kissinger (I thought it went much further back than that), but I do remember learning the US striked a deal with Saudi Arabia to only accept dollars.  I agree this results in there always being demand for dollars in the global marketplace.  However, that does not really mean dollars are "backed" by oil.  In order to be truly "backed", there would have to be a fixed quantity of oil that each dollar is worth, and the price of oil of course as we all know, floats.

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xraymike79
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Re: Why “Peak Oil” Will Never Lead To $500/bbl Crude Oil
skyeriquelme wrote:

" investment strategies on initial price run-up"........sounds to me like Nero playing his fiddle as Rome burns. Make lots of money and spend it on what....guns and amunition to protect your fortune....wake up guys....its not a little bump and then continue with business as usual........we need some real in-depth useful thinking on post-petrolium strategies !!!! Not this shallow "whats in it for me" stuff.

This is the typical Wallstreet mentality. I guess we should add the following disclaimer:

While I do not believe such behavior is either ethical or moral, the system in which we operate demands that I set aside those pesky issues and grab a chunk of the carcass while it's available.

 

" Peak Cheap Oil drives cycles of endemic cost-push inflation that will require a complete retooling of the entire global monetary and credit system to prevent geopolitically dangerous stresses between net oil consuming countries. Energy commodity payments are made globally with the same currency as other economic activities. As cheaply accessible oil supplies diminish along with dollar hegemony, we will experience cycles of inflation and credit bust until the system is revamped. 

At some point in the future, perhaps as soon as 2011, I expect an echo of 2007 and 2008 when oil prices increased to $147 and food riots occurred in several third world countries as commodity cost-push inflation followed high oil prices through the supply chain. The next high oil price cycle will later be followed by another economic crash through the credit system.

Governments of oil producers will exacerbate the Peak Cheap Oil crisis by attempting to extract more cash from domestic oil production via taxation and nationalization, discouraging exploration and thus putting additional stress on supplies. Central banks may attempt to manage Peak Cheap Oil using policies that reduce the credit money supply that finances energy-related economic activity. They will do this using similar methods that produced asset price inflation in the FIRE Economy, through credit money policies separate from goods and services inflation and wage inflation in the Producer/Consumer Economy, but with the opposite objective: to manage energy prices down, versus real estate prices up. The recent move by the U.S. Commodity Futures Trading Commission to restrict “speculative oil trading” is the leading edge of this development."

---- http://www.itulip.com/forums/showthread.php?p=109998#post109998

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Erik T.
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POLL: How did you react to "100 years still in the ground"?

The discussion about this article over at iTulip.com took a very different direction than it did here. Interesting how different but similar communities react differently do things.

I'd appreciate knowing whether anyone here had a strong reaction to reading "Although there’s more than 100 years’ supply of crude oil left in the ground..." at the beginning of the article. That statement is irrefutably correct, but not terribly relevant since what counts is what can be economically extracted. But for some reason quite a few iTulipers who are firm believers in peak oil took offense to that statement. Interestingly, I included that comment in an effort to appease a different bias group - those people who insist peak oil isn't a problem because there is still plenty of oil in the ground, but who don't seem to stop and think about the fact it doesn't matter what's in the ground if you can't get it out.

To my surprise, several of the iTulipers were so offended by this statement that they either didn't read the rest of the article at all, or completely misinterpreted its content. I'm curious whether anyone here took objection to reading those words, and if so, do you feel that reaction biased your openness to the rest of the article?

Thanks,

Erik

 

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Ken C
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Re: POLL: How did you react to "100 years still in the ...
Erik T. wrote:

The discussion about this article over at iTulip.com took a very different direction than it did here. Interesting how different but similar communities react differently do things.

I'd appreciate knowing whether anyone here had a strong reaction to reading "Although there’s more than 100 years’ supply of crude oil left in the ground..." at the beginning of the article. That statement is irrefutably correct, but not terribly relevant since what counts is what can be economically extracted. But for some reason quite a few iTulipers who are firm believers in peak oil took offense to that statement. Interestingly, I included that comment in an effort to appease a different bias group - those people who insist peak oil isn't a problem because there is still plenty of oil in the ground, but who don't seem to stop and think about the fact it doesn't matter what's in the ground if you can't get it out.

To my surprise, several of the iTulipers were so offended by this statement that they either didn't read the rest of the article at all, or completely misinterpreted its content. I'm curious whether anyone here took objection to reading those words, and if so, do you feel that reaction biased your openness to the rest of the article?

Thanks,

Erik

 

Erik,

It sounds like a case of letting emotion get in the way of logic.Some folks are so paranoid that anyone may try to debunk the peak oil argument they don't even read/comprehend the text of the discussion. No doubt (in my mind anyway) we now have or will soon have peak oil but that does not mean that oil will be completely non-existent.  Clearly, there will be oil in the ground long after we are dead and gone.

I did not see anything in your paper that should evoke such a response.

Ken

 

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cmartenson
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Re: POLL: How did you react to "100 years still in the ...
Erik T. wrote:

I'd appreciate knowing whether anyone here had a strong reaction to reading "Although there’s more than 100 years’ supply of crude oil left in the ground..."

Thanks,

Erik

Well, no, I took no notice of it at all because on one level it's entirely true and I knew that was the way you meant it to be read.  In fact there will always be oil left  in the ground. 

But I could see how some might exception at the word "supply" if they interpreted that was being used as a synonymous concept for "sufficient quantities to maintain our current living standards and economic trajectory for 100 years" or even "...100 years at current rates of consumption" because neither is true.   So I think the word "supply" could have benefitted from further definition.

A reworded sentence might read "The crude oil left in the ground could be pumped for another 100 years, although at steadily declining flow rates the entire time...."

Peak Oil, for me, is about flow rates and net energy (EROEI) and the fact that our money system and economic model require continuous expansion.  That's the whole story in a nutshell.

The exact date of the peak and how many years we could theortically pump until we hit EROEI unity are debates I am more than happy to leave to others because the answer to either will not change a single thing about which actions I will take.

 

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Re: Why “Peak Oil” Will Never Lead To $500/bbl Crude Oil

I didn't think much of it since CM has really harped on the fact that what matters is how many barrels it takes to get 1 barrel. iTulipers may not have a CM sage.

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Farmer Brown
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Re: POLL: How did you react to "100 years still in the ...
Erik T. wrote:

The discussion about this article over at iTulip.com took a very different direction than it did here. Interesting how different but similar communities react differently do things.

I'd appreciate knowing whether anyone here had a strong reaction to reading "Although there’s more than 100 years’ supply of crude oil left in the ground..." at the beginning of the article. That statement is irrefutably correct, but not terribly relevant since what counts is what can be economically extracted. But for some reason quite a few iTulipers who are firm believers in peak oil took offense to that statement. Interestingly, I included that comment in an effort to appease a different bias group - those people who insist peak oil isn't a problem because there is still plenty of oil in the ground, but who don't seem to stop and think about the fact it doesn't matter what's in the ground if you can't get it out.

To my surprise, several of the iTulipers were so offended by this statement that they either didn't read the rest of the article at all, or completely misinterpreted its content. I'm curious whether anyone here took objection to reading those words, and if so, do you feel that reaction biased your openness to the rest of the article?

Thanks,

Erik

 

Not offended at all.  Was somewhat offended by your politics/Cheney comments.  Although I've learned to compartmentalize that kind of "noise" and not let it interfere with my absorption of the real subject matter at hand, I humbly suggest you de-personalize that type of thing in the future, unless you are not concerned with not reaching that segment of the population that will automatically shut-off once they read that kind of message.  You could have just as easilly made the comparisons to the rise of the Nazi party without bringing Cheney into it.  By doing otherwise, certain people's "breaker-switches" will go off, and the rest of your message will be lost on them.  

PS:  I do NOT want to start a discussion on whether Cheney is/is not ______________ (fill in the blank), so before anyone replies with their laundry list of Cheney's and/or Bush's crimes, let me just say my point is that dipping even a toe into politics (at least in the manner in which it was done) detracts from the purpose of Eric's post, as any laundry list replies to this post would in themselves prove. 

 

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Buckaroojim
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Re: Why “Peak Oil” Will Never Lead To $500/bbl Crude Oil

This raises some very important, key, human issues. We (the community of individuals who have glimpsed the tremendous implications of current events and depletion of cheap energy sources) face a very real challenge. The challenge is not, "How can I make some money off of this situation?" And it isn't, "How can I and my family survive when things collapse?" Being morally prepared for what's coming means being completely honest with ourselves about who we are, what our weaknesses are and how we deal with unimagineable stress. How compassionate are we? How able are we to "endure" rather than "join the fight?" These qualities are not built just by educating, or informing, ourselves about what's coming.

I live on a 126 acre farm in the mountains of BC with a seasonal creek plenty of room to garden. My wife and I choose this for ourselves and we've spent most of our lives developing and managing retreat and meditation centers. I have a 20 year meditation practice, and still I probably won't really know what the fruits of that practice have been until I'm faced with the reality of what's coming. One thing I know for sure is that survival instinct and habits are far, far stronger than my strongest idea, vision or understanding. Being aware that radical change is coming does not alter who we are, fundamentally. So, the challenge I see before us, the work I endeavor to do, involves building new habits and managing the mind.

I feel that Chris's gentle and balanced approach to this topic is what has inspired so many to follow along, but every one of us has serious inner work to do (in addition to the outer preparation) in order to be the "arks" "beacons" "islands of sanity" "sanctuaries" etc, that we hope to be as things shift. No one can do that work for us. It is not just information that we need.

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mooselick7
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Re: POLL: How did you react to "100 years still in the ...
Erik T. wrote:

The discussion about this article over at iTulip.com took a very different direction than it did here. Interesting how different but similar communities react differently do things.

I'd appreciate knowing whether anyone here had a strong reaction to reading "Although there’s more than 100 years’ supply of crude oil left in the ground..." at the beginning of the article. That statement is irrefutably correct, but not terribly relevant since what counts is what can be economically extracted. But for some reason quite a few iTulipers who are firm believers in peak oil took offense to that statement. Interestingly, I included that comment in an effort to appease a different bias group - those people who insist peak oil isn't a problem because there is still plenty of oil in the ground, but who don't seem to stop and think about the fact it doesn't matter what's in the ground if you can't get it out.

To my surprise, several of the iTulipers were so offended by this statement that they either didn't read the rest of the article at all, or completely misinterpreted its content. I'm curious whether anyone here took objection to reading those words, and if so, do you feel that reaction biased your openness to the rest of the article?

Thanks,

Erik

I agree with that statement.   I was mentally formulating a question about it when your poll came up on the radar.    Here is the question:

In mining, engineers use an economic shell to determine the reserves which are considered viable.  If engineers and geologists were to estimate the quantity of ALL mineral reserves regardless of cost or price then the quanitity is astronomically greater than using a reasonable cost/price projection.  This is the way it works in coal and oilsands.  Although I am not a petroleum engineer, I assume a similar method is used in conventional oil extraction. 

So, my question is what oil price is the "more than 100 years’ supply of crude oil" estimate based on.  And, would this reserve quantity be greatly reduced if the govt were to intervene with price controls at say $150/bbl vs $500/bbl?  

In mining, there is another dilemna.  After the mineral is extracted to the physical limits of that economic shell, the mine personnel will backfill the pit to restore the original topography.    I assume that when the price goes up in conventional oil drilling that you would fire up idled wells and develop more wells in areas where recovery is more expensive.  However, in mining, because of backfilling, it is VERY expensive and the low cost reserves arent available to offset the higher cost.   So, will this reduce the 100 year estimate further?

Whether you answer or not, thanks for the time you are putting into this, Erik.  I know it asks a lot of you. 

 

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dcm
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Posts: 214
Re: Why “Peak Oil” Will Never Lead To $500/bbl Crude Oil

It seems like the latest tragedy in the Gulf of Mexico is an excellent example of diminishing EROEI. As we pushed the limits of our technology to reach oil at greater depths and pressures, we came up with a situation that we have never (exactly) dealt with before. No one knows how long it will take to fix and no matter who ends up "paying" for it, no one has any idea how costly this episode will become.

Buckaroojim and Farmer Brown, both your comments are excellent. We came to this impasse through our collective fault and negligence and our collective effort (and personal strength) is the only ticket through this. That said, we need to be a lot more honest with ourselves and our "leaders" and demand dramatic change from both.     

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davefairtex
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Re: Why “Peak Oil” Will Never Lead To $500/bbl Crude Oil

Erik I agree completely.  The government will not simply stand by and watch this.  They will intervene, blame speculators, hoarders (i.e. those prudent enough to see into the future), slap on price controls, nationalize, and institute rationing.

If the events of the past few years has taught us anything, its that the government will intervene any time, anywhere, any place things are not working out the way they want it to, period.  Rules get changed on the fly - the system feels quite free to reverse course 180 degrees when it suits them.  Notice that the ECB is now accepting "junk" for collateral when just a few months ago they explicitly ruled it out.

One might consider service companies as good investments, since they will be required to extract the last little bit out of all the old oil fields, and keeping up with the latest technological improvements and methods will be even more valuable.

So SLB and RIG rather than APA or CVX, perhaps?

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Durotrige
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Posts: 1
Re: Why “Peak Oil” Will Never Lead To $500/bbl Crude Oil

Interesting and thought provoking analysis (thank you), followed by depressing conclusions and advice for action!

Given the enormity of the problem - potentially civilisation ending, is the best we can do with the information really to plot 'investment strategies' to maximise our personal take from the information.  And with the economic dislocation that is likely to result what are we going to spend the profits on?

The rationale for predicting 'government intervention' including potentially price controls and rationing seem sound.  If the analysis is right what would be the best form for that intervention to take (to protect the best of our present civilisation not to increase our personal profit from the disaster)?  Anyone looked recently at David Fleming's Tradable Energy Quotas (TEQs) model (http://en.wikipedia.org/wiki/Tradable_Energy_Quotas).

Although peak oil was not, I think, his primary motivation for devising this system I don't see why it is not a highly appropriate government response to this analysis.  UK government looked at this a couple of years ago and concluded that it was technically doable, just not politically doable.  You might just have identified the circumstances that will make it politically doable as well.

Thoughts?

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JamesN
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Posts: 5
Re: Why “Peak Oil” Will Never Lead To $500/bbl Crude Oil

Good read I guess, although I'm surprised that anyone would find any of this particularly "eye opening" or controversial.  Given our ongoing military involvement in the middle east, which has been ever so thinly disguised as a "War on Terror," I assumed that everyone just presumed a potential  government takeover of essential energy markets to be a given.

The comments I found troubling were the investment advice to speculators regarding market timing, etc.  I know this is at least loosely an investment site, but such rampant speculation on basic commodities has played at least a small part in our current fix, and will no doubt be the main reason for any prospective government takeover in the future.  Given the choice of handing a future windfall to a corrupt and dying government that I despise (and indirectly to powerful operators operating within it) or a few well-heeled and well-positioned speculators, I must confess, I'll still choose the former.

Having just finished the crash course earlier today, I find it hard to rationalize such opportunistic thinking with the monumental challenges we have before us.  Believe me, when the current cheap energy, debt based economy goes tits up, there will simply be no place to hide.

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