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June 2006

Vol. 11, No. 26 Week of June 25, 2006

$40 oil may be just around the corner

Herrera calls Browne’s anticipated dip in crude prices ‘short-term aberration;’ points to enduring troubles in global industry

By Rose Ragsdale

For Petroleum News

Will crude oil prices really plummet to $40 a barrel in the foreseeable future as BP CEO Lord John Browne recently predicted?

“That’s quite a reasonable proposition,” says energy consultant Roger Herrera. “But if price pressures ease and oil drops to $40 a barrel, it will be a short-term aberration. I have a hard time believing that it will last for any length of time. Months? Fine. But years? No way.”

Herrera’s reaction comes about two weeks after Browne told reporters that oil prices could not only drop to about $40 a barrel in the medium term as new supplies are found, but also dip even lower to $25 to $30 as more new supplies are discovered, according to an interview published June 12.

Browne cautioned that “we cannot really expect that prices will drop back sharply in the short term,” the interview with German weekly Der Spiegel said.

However, he noted that large new oil fields are still being found in some regions of the world and unconventional sources such as Canada’s oil sands will add to the mix.

Oil prices have risen recently, after a lull earlier this spring. Alaska North Slope crude sold for $68.53 a bbl June 21, up $1.09 in the spot market. Light crudes sold for $1.50 to $2 a bbl more.

Demand eases in China

One factor, said Herrera, is the rip-roaring annual economic growth of 8-10 percent seen in China recently. It could slacken as the country struggles with internal debt.

Celebrated economist Daniel Yergin also noted in recent testimony before Congress that China’s hot demand for oil appears to be cooling.

As late as 1993, China was self-sufficient in oil. Since then, its gross domestic product has almost tripled and its demand for oil has more than doubled. Today, China imports 3 million barrels of oil per day, almost half its total consumption. China’s share of the world oil market is about 8 percent, but its share of total growth in demand since 2000 has been 30 percent.

The impact of growth in China, India, and elsewhere on the global demand for energy has been far-reaching.

In the 1970s, North America consumed twice the oil that Asia did. In 2004 and 2005, for the first time ever, Asia’s oil consumption exceeded North America’s.

Yergin said Asia’s increasing impact became widely apparent only in 2004, when the best global economic performance in a generation translated into a “demand shock”— an unexpected surge in petroleum consumption that was more than double the annual average growth rates of the preceding decade. China’s demand in 2004 rose by an extraordinary 16 percent compared to 2003. It was driven partly by electricity bottlenecks, which led to a sharp rise in oil use for improvised electric generation.

U.S. consumption also grew strongly in 2004, as did that of other countries. The result was the tightest oil market in three decades (except for the first couple of months after Saddam’s invasion of Kuwait in 1990).

Demand slackens in 2005

But the growth in demand did not continue into 2005.

Last year China’s demand grew by only 1.7 percent and world demand grew just 1 percent, Yergin said.

If the trend continues, China’s diminished demand “will throw 1 million b/d of crude back into the world market and will undoubtedly depress world prices,” Herrera said.

Of course, China’s economic troubles may not be temporary.

When Japan’s economy ran into trouble nearly 10 years ago, it took a decade for the country to rebound, Herrera said. “Only now is Japan’s economy beginning to see some life. That means Browne’s prediction is more realistic,” he said.

Diminishing discoveries

Herrera said most of the world’s governments are overly optimistic in their predictions of future oil supplies, but inevitably reality will come crashing in.

Moreover, geology does not support the outlook as new oil discoveries appear to be smaller and smaller.

“The major fields in Mexico are in trouble … The major Saudi fields are old and increasingly producing water. We have to be concerned whether Saudi Arabia can do more than maintain the status quo,” Herrera said. “Sure, more oil fields are coming on line in the Caspian region and a few more places. But I don’t think we can be optimistic, and think you can spend money and get more crude production.”

And to expect unconventional sources of crude such as heavy oil to fill the gap is unrealistic. Even the Athabasca tar sands in Canada, which is producing 1 million b/d offers much less positive benefit than appears because it takes so much energy to produce the heavy oil, he said.

“Clearly, oil prices have the capability of wandering up and down by $20 a bbl. It looks like we’re in a period where that could happen,” Herrera said. “But we should be looking for increasing oil prices in the future rather than a bonanza of decreasing prices.”

Publisher’s note: Roger Herrera has accurately predicted oil prices for Petroleum News for the last 10 years.






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