	Generational Dynamics
	Forecasting America's Destiny ... and the World's

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Oil prices spiking on supply fears

There is increasing concern that Saudi Arabia's oil production is peaking, and that prices will rise significantly farther. (3-Aug-2004)

Summary Oil prices are remaining far above analysts' predictions, and are continually spiking to new highs. The causes are increased demand by China, and supply problems around the world. Research by Matthew R. Simmons, Simmons & Company International, comparing Saudi Arabian oil fields today to American oil fields of the 1970s, indicates that the Saudi production may soon start declining significantly.

Oil prices set another new record today, reaching $44.24 per barrel after OPEC said that Saudi Arabia would be unable to keep last month's promise to boost production by August 1.

Until the last year or so, there was worldwide agreement that the world economy would best be served if oil prices stabilized in the $25-30 per barrel range. The idea was that OPEC, Russia, and other oil producers would pump just enough oil to keep prices in that range. Letting the price go higher or lower would cause instability in some international markets, and so the fixed price range was deemed best for everyone.

Thanks to terrorism, the war in Iraq, and the weakening of US dollar, this "desired" range has been creeping up into the low $30s.

However, prices have averaged around $37 this year, and have repeatedly surged about $40 per barrel, confounding analysts' predictions that it would fall again to the low $30s.

Analysts give several reasons for this:

China's economic expansion has caused substantially increased demands for food and oil, raising the prices of both.

Supply interruptions caused by individual political problems in various countries: The possible nationalization of Russia's largest oil producer, Yukos; political instability caused by labor unrest and a presidential election in Venezuela; civil unrest in Nigeria; and the Iraq war.

Regulatory restrictions slowing oil production and refining in the United States.

In addition, there's something new going on: A mounting concern during the last few months that Saudi Arabia may be running out of "easy oil," and will soon begin declining in production.

These concerns have been triggered by several months of research by Matthew R. Simmons, CEO of Simmons & Company International. His most recent presentation was on July 9 to the Hudson Institute (here for transcript and here (PDF) for presentation slides).

In brief, Simmons' argument is as follows:

All of Saudi Arabia's major oil fields were discovered between 1938 and the 1960s, and there have been no major finds since then, despite intensive searches.

In order to pump oil out of an oil well, you need to pump water into the other end of the oil field, and the amount of water that the Saudis are pumping indicates an oil field near the peak of its life.

The Saudis are using very sophisticated technology to draw secondary sources of oil out of its oil fields. Once again, this is indicative of a field near the peak of its life.

Simmons compares what's happening in Saudi Arabia today to what happened to America's oil production in the early 1970s: Without warning, the overworked oil fields peaked and started producing less oil. (Incidentally, that's when OPEC was formed, and America became dependent on Saudi oil.)

His point is that the Saudi fields are showing all the signs that the American fields did in the early 70s, and that production could start dropping off at any time - next month, next year, or at most in a few years.

Of course, this is not an apocalyptic prediction. It doesn't mean the end of oil. It means less oil, and it means a further increase in oil prices to $50-100 per barrel. It would also mean a great deal more revenue to the oil producing countries, including Saudi Arabia.

Saudi Arabia adamantly denies this is happening, and claims that Matt Simmons' research is faulty, and is based on incomplete data. I'm certainly in no position to assess who's telling the more accurate story, but there's little doubt that Saudi Arabia's failure to keep its promise to boost production will only increase analysts' concerns.