WASHINGTON, May 30 (UPI) -- For Americans experiencing sticker shock at the gas pumps, the major question is when oil prices will drop. A year ago oil cost $62 a barrel, while at the beginning of the Bush presidency it cost $20. What happened?
The brief answer to the above question is that in the short term things will only get worse, due to a perfect storm of tapped-out capacity, lack of significant new developments coming online, speculation, inclement weather and terrorism.
The free market so relentlessly touted inside the Beltway is hitting global energy consumers with a vengeance. The prime directive of Capitalist Economics 101 is price and demand -- the greater demand for a limited item, the price rises.
The nasty little secret about production is that despite record-high prices global oil production is essentially flat, despite fiscal incentives to pump more. U.S. Department of Energy statistics for 2007 recorded a 2.5 percent decline in petroleum production, even as prices increased 57 percent, with global production of approximately 83 million barrels per day matching consumer rates.
The good news is that there are massive new fields. The bad news is that they will take years to develop and come online. Kazakhstan's offshore Kashagan Caspian field is the largest oil field discovered in the last 30 years, with potential reserves estimated to be as high as 70 billion barrels. Initial production is estimated in 2011 at the earliest.
Brazil has also announced recent offshore oil discoveries -- Tupi with an estimated 5 billion to 8 billion barrels and Carioca, whose estimated 33 billion barrels make it the third-largest oil field ever discovered.
The bad news? Both fields are beneath a salt layer, parts of which are 32,000 feet below the ocean's surface, and will require boring almost twice as far down as the world's deepest producing offshore well with equipment that can withstand 18, 000 pounds per square inch of pressure, along with drill bits that can penetrate layers of salt more than one mile thick and pipes capable of carrying oil at temperatures above 500 degrees Fahrenheit. First production from Tupi is slated for 2009 at the earliest, Carioca in 2013-2014. Similar sites share startup costs in the billions; according to Lehman Brothers Holdings, in 2008 the top six Western oil companies will spend $98.7 billion on exploration and production.
Are speculators helping to drive up prices? The short answer is "yes." Oil is the world's most fungible commodity -- for every $1 a barrel of oil increases, $40 billion changes hands. On May 29 the Commodity Futures Trading Commission acknowledged that since the beginning of the year it had been investigating oil trading practices. As oil is now a globally traded commodity, however, foreign exchanges will simply ignore any such probes.
Another unpredictable factor on U.S. oil prices is weather, most notably in the Gulf of Mexico, home to a quarter of U.S. crude-oil production and many refineries. Earlier this month the National Oceanic and Atmospheric Administration estimated a 65 percent probability of an above-average hurricane season with 12 to 16 named storms, including two to five major hurricanes of Category 3 or above. In 2005, damage from hurricanes Katrina and Rita caused a 30 percent increase in crude oil prices.
A final unpredictable factor in oil prices is terrorism; unfortunately for the developed world, many energy resources are located in unstable areas of the world. The respected "Iraq Pipeline Watch" of the Institute for the Analysis of Global Security lists 469 attacks on Iraqi oil installations since June 2003, and the list has not been updated since March. In Nigeria, persistent attacks since 2006 by Movement for the Emancipation of the Niger Delta have reduced Nigeria 's total production. MEND carried out four attacks in April and one in May, causing Nigerian Oil Minister Odein Ajumogobia to say on May 26, "We had about 470,000 barrels per days shut in even before these incidents, which is a direct result of security issues." In Colombia FARC guerrillas have attacked the Cano Limon pipeline so many times that its local nickname is "la flauta" (the flute) because of its punctures, while, closer to home, last year Mexico's Popular Revolutionary Army (EPR) began bombing state-run energy company Petroleos Mexicanos energy installations.
Increasing demand for petroleum is also being driven by the emerging Indian and Chinese economies, which are undergoing a historic shift from agrarian to industrial societies. Aside from the fact that industrialization requires more energy, diet also influences oil consumption, as citizens become more accustomed to a meat diet. In the United States, about 10 calories of oil are burned to produce each calorie of food. Furthermore, besides having massive trade surpluses, both nations shield their populations from energy increases via massive subsidies.
In an exercise steeped in futility, U.S. Treasury Secretary Henry Paulson is about to embark on a voyage to the Middle East, where he will inform oil officials that rising oil prices are placing a "significant burden" on the world's economy. Paulson's trip is likely to have as much effect as President Bush's two visits to the Custodian of the Two Holy Places, the second of which ended earlier this month with King Abdullah granting his thirsty supplicant a munificent increase of 300,000 barrels a day. Paulson should remember what Iranian Oil Minister Gholam Hossein Nozari said during Bush's visit; "The market is oversupplied, and increasing production will not affect prices." U.S. Treasury Undersecretary for International Affairs David McCormick said that Paulson would be urging all oil-producing countries "to open up their oil markets to investment that boosts yields, exploration and production," as a number of them are "walled off to private investment."
Memo to Paulson: Russia, Bolivia, Ecuador, Kazakhstan and Venezuela, among others, have reasserted growing control over their energy resources, a move popular with their populations.
Washington's solution? More free markets.