Article reprinted with the kind permission of the author, Dr. Richard Ebeling, Senior Fellow, with the American Institute for Economic Research.
The current energy crisis has been fueled by a failure of world oil production to keep up with growing global demand. But the shortfall in production is not because of a lack of fossil fuels. There are vast quantities of supply under the ground. What has hindered their use has been a variety of government policies. Letting markets work would make those supplies available to all of us.
The present worldwide energy crisis is putting immense pressure on the pocketbooks of all users of fossil-based fuels. Every trip to the gas station or the supermarket shows how serious and frustrating the situation has become.
There have been a number of misconceptions, however, about the nature and cause of the crisis. One of these has been the fear that the world is running out of fossil fuels and that this is behind the dramatic run-up in gasoline and related prices.
It may end up being the case that the current crisis has put the world at the threshold of a technological revolution leading to the use of a new primary energy source in place of oil, similar to other such transformations over the last 200 years. But if this is the case, it will not be because of the world having used up all the extractable oil at its disposal.
In 1850, about 90 percent of America’s energy supply was wood based. But as eastern forests were partly depleted, coal-based energy became the substitute of choice. By the 1880s, coal provided nearly 40 percent of the energy for the nation’s growing industry and consumption. By 1910, coal was supplying almost 80 percent of these energy requirements.
Beginning in the 1920s, oil rapidly was rising as the preferred new energy alternative, with natural gas increasing in use as well after 1950. By 2000, coal still provided about 25 percent of the nation’s energy, with oil supplying around 40 percent, natural gas covering 20 percent, and nuclear, hydro-power, and renewable sources making up the remainder.
Fears over diminishing energy supplies have sometimes resulted in excessive responses. The well-known 19th century British economist William Stanley Jevons was so concerned that Great Britain would soon run out of wood and coal that he hoarded a huge quantity of paper bags. Thirty years after his death in 1882, his descendants were still using up his paper bag supply!
The Global Escape from Poverty as the Source of Demand
One of mankind’s greatest dreams has been the end to poverty and the human misery that comes with it. In the 21st century, the human race may be at the threshold of seeing this dream finally come true.
Many parts of the underdeveloped world are rapidly developing. Especially since the fall of communism in the early 1990s, countries in Asia, Africa, and Latin America that had been following a more socialist path have introduced market-oriented reforms. This has set loose the creative energies of millions of people as they have been allowed to obtain private property and retain the profits they may earn.
In addition, the “green revolution” that began in the 1970s and 1980s radically transformed food production in what used to be called the third world, resulting in more and better quality supplies to feed growing populations.
Between 1997 and 2007 the global consumption of barrels of oil rose by almost 16 percent. But it has been in the developing countries that energy demand has been increasing the most.
In the Asia/Pacific area, oil consumption has increased by 27 percent between 1997 and 2007. During this 10-year period, China increased its oil consumption by 87.9 percent, and India’s use went up by 50 percent.
Oil consumption rose by 40 percent in the oil-producing countries of the Middle East over the last decade. In Africa, it increased by 28 percent, in Latin America, by 14.6 percent.
In comparison, oil consumption grew by only 2 percent in the European Union during those 10 years. In the United States, it went up by 11.1 percent. Canada saw consumption go up by 22.2 percent, Mexico by 14.5 percent.
Global Oil Supplies Have Not Kept Up
The dilemma has been that global oil production has not kept up with the growing demand. During this same 10-year period, global production increased by only 12.9 percent, more than 3 percentage points below the 16 percent increase in demand. In 2007, worldwide demand was around 31.1 billion barrels, while global supply was only about 29.8 billion.
In the Asia/Pacific region, oil production increased over the decade by only 2.1 percent. While this area of the world consumed almost 9.2 billion barrels of oil in 2007, it produced only 2.9 billion. China alone consumed 2.8 billion barrels last year and India another billion. Japanese 2007 consumption was 1.8 billion barrels.
Within the European Union, oil production over the last 10 years decreased by 30 percent. In Latin America, oil production rose by only 2.1 percent. Between 2006 and 2007, oil production in Venezuela actually declined by 12.5 percent, and only increased in Brazil by 1.4 percent.
Middle East oil production rose by 15.8 percent over the decade, but as we saw, consumption in this region rose by 40 percent. However, with total production of 9.2 billion barrels in 2007 and total consumption of 2.2 billion, the Middle East remains a huge net oil exporter to the world.
The United States consumed around 7.5 billion barrels of oil in 2007. It produced about 40 percent of the oil it consumed. Around 20 percent of the oil imported into the U.S. came from the Middle East. The remaining 40 percent was imported from Canada and Mexico, and other parts of the world.
Canadian production actually increased by almost 28 percent over the last ten years. But as we saw, oil consumption in Canada rose by 20 percent. Mexico’s total oil production barely increased by 2 percent over this decade, but its consumption rose by 14.5 percent.
Proven Reserves—the World’s Underground Oil Supply
While oil production has failed to keep up with the global demand, the world is not running out of oil, at least not for the foreseeable future. According to the BP Statistical Review of World Energy (June 2008), proven reserves around the world are estimated to be in the range of 1.2 trillion barrels. At the current levels of global consumption, there is enough extractable oil under the ground to meet world demand for at least 40 years. Even if global demand were to increase to, say, 40 billion barrels a year over the next decade, known reserves would still be sufficient to meet the demand for at least three decades.
But there is no reason to think that known oil reserves have reached their discoverable limit. Just over the last 10 years, known world reserves have increased by nearly 16 percent, or by the same amount as global demand went up during this period. In Africa, known reserves have gone up by 56 percent over the last 10 years, and in Latin America by 19 percent. In the Middle East proven reserves have increased by 10.5 percent and in the independent republics of the former Soviet Union by 92 percent. In the Asia/Pacific region proven reserves have increased by 2 percent.
In the United States, proven reserves have stayed about the same over the last decade and are currently estimated to be around 30 billion barrels. But in Canada, the quantity of proven reserves has gone up by 59 percent. Only in Mexico have proven reserves dramatically declined by 33 percent, as extraction has greatly exceeded new discoveries.
The United States has an additional 81 billion barrels of “heavy oil” beneath the surface, along with 80 billion barrels of “oil sand” and another 293 billion barrels of “light oil” in place. Also, the United States has 2 trillion barrels of extractable shale oil, with the largest “pockets” in Wyoming, Colorado, and Utah.
No doubt with further geological exploration and continuing technical advancements in oil extraction methods, more proven reserves will be discovered over the coming years and decades.
Drilling of these fossil fuels is, of course, dependent on the profitability of bringing the oil to the surface and transforming them into useable forms.
With the recent rise in oil prices and the likelihood that oil prices will not fall back to their former lows in the near or medium term, each of these proven reserves becomes more attractive to bring to market.
Government Barriers to Oil Production
A leading factor behind the failure of oil production to keep up with world demand has been government policies both in the United States and around the world. More than 80 percent of all known oil fields are in countries in which governments have given control over oil production to national state monopoly companies. These companies and their governments jointly restrict output through their participation in the Organization of Petroleum Exporting Countries (OPEC).
Operating as a cartel, OPEC sets production quotas among the member states to limit supply and artificially push up world prices. OPEC currently accounts for 76 percent of the world oil reserves, and if Russia (a non-OPEC producer) is counted as well, that number goes up to 83 percent of known reserves. In general cartels are highly unstable with the members often “cheating” to gain extra business, but during times of intense demand, a cartel such as OPEC can be effective over the short-run.
OPEC’s member governments only allow limited access to Western oil companies to exploit, develop, and extract the world’s supply. This has also hindered exploration. No one knows how much larger the world’s potential known reserves may be.
Many of the state-run oil companies are managed very inefficiently, or have their revenues diverted by their respective governments to fund politically motivated activities. Hugo Chavez’s socialist government in Venezuela has diverted huge sums for its foreign policy adventures, at the expense of maintenance, repair, and improvement of the country’s oil fields. As a result, Venezuelan oil production has decreased by one million barrels a year.
The Russian government’s domestic political intrigues in recent years have resulted in many leading oil companies being brought back under direct or indirect government control. This has had its toll on the country’s oil industry. Refinery capacity is down 6 percent. While oil production in the last 10 years has increased by more than 50 percent in Russia, drilling and transportation facilities have deteriorated significantly, and will have a longer-term effect without heavy investment for future production potential.
In some cases, internal political instability threatens production. An ongoing civil war in Nigeria, for example, has recently caused at least a temporary halt to the extraction of almost 300,000 barrels of oil a day.
But even with the oil that is brought to market, there is another problem. Globally, governments have limited the expansion of oil refinery capacity, which has only grown by 12.9 percent over the last ten years. In the U.S., no new refinery site has been permitted to be constructed since the mid-1970s. In the European Union, refining capacity has increased by only slightly more than 3 percent in the decade. In the former Soviet republics, it has actually decreased by 9 percent.
Only outside the West, in general, has refining capacity significantly increased over the last ten years. In the Middle East, capacity has expanded by 25 percent. In Africa it has grown by almost 13 percent. In the Asia/Pacific region, refinery capacity has gone up by 27.6 percent and in China alone by nearly 65 percent.
Some Short-Run and Longer-Run Answers to the Energy Crisis
The world may be entering a “new energy era” in which the use of fossil fuels will diminish. The Economist magazine (June 21-27, 2008) featured a special report, for instance, in which the future possibilities of wind, solar, geothermal, biofuel, and nuclear energy are presented in thoughtful detail in terms of their respective economic viabilities.
But for the foreseeable future the United States and the world will continue to use and rely upon oil and related energy sources.
The independent and non-partisan Houston-based Institute for Energy Research (IER) has proposed a number of steps to assure a more stable and less uncertain supply of oil. Among them are the following:
• The top one is the need for Congress to accept the laws of supply and demand. Oil and related fossil fuels trade in a global market that may be heavily influenced by governments.
But the market is still one in which competitive forces set prices for the available world supplies. Looking for “scapegoats” only distracts from facing and admitting the reality of global market conditions.
• There needs to be a new and serious look at allowing energy exploration and production on the deepwater outer-continental shelf. Currently the U.S. is the only major developed country to heavily restrict market access to these potentially large supplies of oil that could be coming down the market pipeline. Modern technologies and construction methods have significantly reduced likelihoods of spills and other environmental hazards, even in the face of hurricanes.
• Congressional restrictions on shale oil leasing on taxpayer-owned government land could be lifted. With an estimated 2 trillion barrels of shale oil under the ground in the U.S., this is enough to meet all of America’s needs at current levels of consumption for 250 years. It is also seven times the known reserves of crude oil in Saudi Arabia.
• While it is a particularly delicate political issue, access to the Arctic National Wildlife Refuge (ANWAR) in Alaska cannot be left off the table.
It has been estimated that at peak production, AWAR oil would generate one million barrels a day, which is equal to the current daily production of the entire state of Texas.
• There also needs to be a willingness to allow the construction and expansion of oil refinery facilities. Getting more oil out of the ground does not fill our gas tanks and heat our home in winter if the crude has not been refined.
Besides any changes in government energy policy, each of us as individuals will have to design our own “energy plans.” You know the size of your income and what you want to spend your money on far better than the government.
You know how much traveling you need to do or can cut back on given the cost of gasoline at the pump.
You know what temperatures you and your family can live with in summer and winter as you adjust to the reality of your fuel and electricity bills. You know how best to shift your supermarket shopping in deciding what to have for dinner as higher energy costs feed into higher food prices.
There are no immediate “quick fixes” and easy answers. But the facts of history have long demonstrated that more open and competitive markets offer the best means to create the incentives for people to produce more of what consumers want. Individuals are also the best judges in deciding how to adapt to new circumstances, given their own situation—and certainly far better than those in government could do for them.
Oil and other fossil fuel supplies are out there. It is a matter of allowing market supply and demand to do their job with less political interference.
—Richard M. Ebeling, Senior Fellow, AIER
The views expressed are those of the author, and not necessarily those of the Nassau Institute (which has no corporate view), or its Advisers or Directors.
