The man who predicted the current oil “super-spike,” Goldman’s Arjun Murti, is smart enough not to let himself get photographed (in some idiot circles, Arjun is blamed for today’s $138 a barrel), but he did consent to a long interview with Barron’s this week. Bottom line, Murti’s thesis that oil will spike to $150-$200 a barrel is perfectly reasonable. As is his belief that prices will thereafter crash.
- Unlike the 1970’s oil spike, which was the result of a supply crunch (oil taken off the market), this move is demand driven: demand is increasing, supply isn’t. Economics 101.
- This is a spike, not a permanent move to $150-$200. At some point, probably soon, oil will reach a level that will severely crimp demand (translation: economies will collapse). At that point, prices will fall.
- US demand is falling, but, so far, emerging market and other international demand has remained strong.
- Oil will keep going up until demand shrinks. Increased supply won’t save us.
- $150-$200 oil means $4-$6 gas.
- As long as $150-$200 oil permanently shrinks demand, oil prices will then drop to $75 a barrel.
Supply is Constrained…
Spare capacity throughout the energy complex seems very limited, whether for OPEC crude oil, natural gas or refining. In all of those areas, capacity is limited. And it’s getting very difficult for companies and countries to boost supply — something that became increasingly apparent to us over the first half of this decade. Our view started shifting, from one of “It is easy to grow supply,” which was the perceived view of the 1990s, to “It is going to be more difficult to grow supply.” That’s partly because some oil-producing regions, like Mexico and the North Sea, are declining. The Lower 48 states in the U.S. are very mature. There are growth areas, such as Brazil and Angola. But when we add up all those pluses and minuses, non-OPEC supply looks like it is not going to grow very much.
On the supply side, we don’t subscribe to the peak-oil view. We don’t think the world has run out of oil. We do think that the places that have large quantities of recoverable oil, notably Saudi Arabia, Iraq, Iran, Venezuela and Russia, aren’t on track to grow their supply aggressively. It is growing at a very moderate rate, and so the remaining oil resources are concentrated. And, to some degree, high prices are disincentivizing some of these countries to either open up their industry or spend the money themselves.
And demand continues to increase…
Demand has been consistently growing. [Others disagree with this, by the way. See “Goldman Oil Bull a Nutcase: Crash Coming Soon“]
Why oil will stop at $150-$200
Our view has been that the price will keep going up to the level where it meaningfully reduces demand. This is Economics 101; we need more supply or less demand. And because there are various political and geologic constraints on growing supply, we’re left with looking for the price at which demand is reduced. We’ve never thought we knew what that exact number is. But we’ve tried to look at the 1970s, notably the economic impact of gasoline prices that ultimately led to a reduction in demand.
And when will this life-saving reduction in demand arrive?
We are already starting to see a drop in demand in the U.S., but they are still having demand growth in the non-OECD countries, including China, the Middle East and Asia. The OECD [organisation for Economic Cooperation and Development] countries are mainly the U.S., Europe and Japan. The real question: At what point do the non-OECD economies slow down? The other thing about U.S. demand is, at what point do you have sustainable change in consumer behaviour?
The good news: after the super-spike, if demand drops, oil’s going back to $75:
We have always assumed that, at some point, you get a sustained drop in demand. Our long-term oil forecast looking out 20 years is [for crude] to fall back to $75 a barrel, or some lower number. The questions are: How long do prices stay high? How sharply do they rise? And do people truly change their behaviour or are they just temporarily driving less? It’s an unknown at this point.
Clusterstock on the Great Oil Debate:
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