(ANALYSIS)
(Part of UPI's Special Report reviewing 2002 and previewing 2003)
LOS ANGELES (UPI) -- Major changes in the world energy picture continue to loom but the forecast for the coming year remains dominated by the ongoing face-off between Saddam Hussein and President Bush that will one way or another lead to Iraq's complete return to the market.
United Nations inspectors have been bustling about in Iraq looking for evidence Saddam secretly is developing weapons of mass destruction, which, if found, likely will lead to a war in the Persian Gulf; but if not, theoretically clears Baghdad to seek the lifting of sanctions and return to full crude exports for the first time in more than a decade.
As of early December, it was nearly impossible to tell which way the winds of war were blowing and how soon it would be before Iraq became an influential source of crude.
"Basically, George Bush is going to determine energy prices in the coming year," Dennis O'Brien, head of the Institute for Energy Economics and Policy at the University of Oklahoma, told United Press International. "That's going to be the key driver next year."
The United States and Iraq have appeared to be on the brink of war for much of the year since the U.S. military ousted the Taliban from Afghanistan and began looking to oust Saddam as the next step in eradicating the ubiquitous terrorist threat.
The tense situation injected some upward price momentum into the New York Mercantile Exchange, pushing the price of the front-month contract from below $20 per barrel at the beginning of the year to above $30 in September, before retreating to a $27-$28 per barrel range in early December.
"If you strip the political externalities ... you would probably be seeing prices in the lower $20s per barrel," O'Brien said. "But there is always volatility and there is always a range of prices."
While conventional wisdom holds that a shooting war in a sensitive region such as the Persian Gulf should send prices higher, peace and a return to full production by Iraq would cause prices to fall -- possibly to the point of collapse -- as huge volumes of oil hit the market at a time when the world economy remains sluggish and the International Energy Agency projects demand growing a relatively modest 970,000-1.4 million barrels per day (b/d) in the coming year.
"My prediction is the industry will be erratic due to uncertainty in world events as the year progresses," Mark Baxter of Southern Methodist University's Maguire Energy Institute told UPI. "Crude oil prices will have short-term volatility as certain events unleash, but I believe stability as a whole will prevail as the year moves forward."
Although crude prices promise to remain stable overall in 2003, the winds of change continue to blow through the oil market out of Russia, where the huge, largely undeveloped oil and gas reserves of the Caspian Sea region promise an energy source largely free of Middle East turmoil and OPEC's hands-on control.
"If concrete plans of Russian oil firms and their Central Asian counterparts come to fruition in the coming years, growing oil exports from the former Soviet Union could rise by another 2 million b/d in the next five years and equal those of Saudi Arabia," concluded a report issued this autumn by Rice University's James A. Baker III Institute for Public Policy.
The Caspian region holds proven reserves of around 10 billion barrels of crude, and estimates of its total reserves have topped 230 billion barrels. That compares to Iraq's 112 billion barrels of proven reserves and Saudi Arabia's 264.2 billion proven barrels.
The Caspian, however, lags well behind the Persian Gulf region in terms of infrastructure. It will take a few more years to complete the pipelines that will carry Caspian crude and gas to markets in Europe and Mediterranean oil tanker terminals.
"Although the Caspian region has seen large investment over the past eight to 10 years, it will continue to be a long a bumpy ride for western investors," predicted Doug Glass, London-based partner with the law firm Vinson and Elkins.
In Azerbaijan, he said, the situation still hinges largely on the ability of the British Petroleum-led consortium to finance and build the oil pipeline to Turkey, which is supported strongly by the U.S. government. While things look promising, the deal is not done yet, but moving oil out of the Caspian to European ports while bypassing Russia and Iran is still the name of the "Great Game," he added.
Prospects for many new projects, such as natural gas lines running from the Caspian through Afghanistan, and from Alaska to the lower 48 states, remain at the mercy of the world economy.
"Latin America and the Caspian region will maintain its present pace of development, but additional activity will be somewhat curtailed until the world economy becomes more stable," Baxter noted.
Another possibility for Caspian producers are oil and gas pipelines to far-off China, where an improving economy already has made China the world's third-largest oil consumer and has led Beijing to expand its relationships in the Middle East, including Iraq and other nations the United States has sanctioned.
"Beijing will also develop stronger ties with oil power Saudi Arabia, potentially offering Saudi Arabia an expanding alternative market to the United States and Japan," the Baker Institute concluded. "The challenge for the United States and its allies will be to convince an ambitious, energy-hungry China that a secure energy supply for all concerned will be dependent on cooperative foreign policy that seeks to ... lessen the chances for disruptive armed conflict inside oil production areas."
While the oil-producing Middle East and Caspian regions likely will be key to the supply side of the crude market for the coming year, the United States will remain the voracious leader on the demand end.
The United States will continue to buy increasing amounts of crude from Canada and West Africa as it seeks to diversify its suppliers, but how much crude is purchased depends a great deal on the direction of the nation's economy.
The U.S. Energy Information Administration predicts that at the end of the day, U.S. petroleum demand will have come down about 0.4 percent in 2002, due mainly to a decline in manufacturing and the relatively warm weather last winter. Those trends have been offset by a growing demand for gasoline caused, in part, by "continuing consumer preference for large vehicles."
"One result of this trend has been an ongoing reduction in overall fuel efficiency," the EIA said.
O'Brien noted an El Nino will dominate the nation's weather this winter, causing warmer-than-average weather in the critical natural gas-consuming markets in the Midwest.
"If it's a warmer winter, natural gas prices will continue to moderate," O'Brien noted.
Lower gas consumption in the winter means more gas can be stored for the summer air-conditioning season.
El Nino also is expected to reduce winter precipitation in the Pacific Northwest, which depends on hydroelectricity for much of its power supply, and also acts as a source of megawatts for California.
Meanwhile, California bolstered its gas-fired power plant fleet in the days after the brutal bull market that caused a series of rolling blackouts in the state in 2000-2001 and gave birth to the current scandals and allegations of market manipulation that have staggered the once high-flying merchant power sector.
El Nino also should bring more rain to Brazil, which has been enduring a serious drought that past year and depleted hydro resources in the Amazon Basin to the point that blackouts became frequent and more extensive than California ever imagined.
Betting on the weather is hardly a sure thing, however it appears in the final days of 2002 it is easier to get a handle on El Nino than it is the future prospects of peace in the Middle East.
