National Commentary

The Peak Oil Crisis: Decision at Abu Dhabi

For those of you who came in late, it might be useful to recall that 35 years ago marginal world oil production (and therefore prices) was controlled by the Texas Railroad Commission. In those days, most oil production in the U.S. was hauled off by trains so by mandating how much could be moved the Commissioners could effectively control the price by preventing over production. This, of course, was based on the premise that plenty of oil was available to pump so that if you wanted the price to go down you simply pumped more. In the early 1970’s, however, production in Texas and the U.S. as a whole went into decline so the Commission could no longer lower prices by shipping more oil.

Ten years before production peaked in Texas, however, several of the then major oil exporters, who were tiring of the international oil companies dictating what they were paid for their oil got together. In 1960, they formed the Organization of Petroleum Exporters (OPEC) and the world was off on a different course. After oil production in the U.S. peaked, OPEC controlled the world’s marginal oil tap. The Arab producers soon figured out that not only could they control the price they got for their oil, but they had a potent weapon that could be used to influence Middle Eastern policies in the U.S. and Europe who were the major importers.

Over the last 30 years, the influence of OPEC has waxed and waned. Major new oil discoveries in Alaska, the North Sea and the Gulf of Mexico reduced OPEC’s influence for awhile. Internal troubles such as the Iran-Iraq war and Baghdad’s invasion of Kuwait made it difficult for the organization to agree on policies.

As the century turned, however, so did the fortunes of OPEC. Around the world giant oil fields started to decline leaving only a few OPEC members with much or any spare production capacity or prospects for growing output. More importantly, the world’s two most populous countries, China and India, which had been dormant for centuries, got their economic acts together and began to import ever increasing quantities of oil. The price of oil that in 1998 was $10 a barrel soared to nearly $100. OPEC members were not only getting rich, they were back at the center of world affairs.

Now the OPEC of 2007 is not your grandmother’s OPEC. Its 13 members are an eclectic group with widely varying amounts of oil production and, more importantly, widely varying prospects for ever producing more oil. A few members have large dirt-poor populations and a few are small and filthy rich. Most of those clustered around the Persian Gulf need the U.S. and the EU to protect them from militant Islam, in both the Shiite and the Al-Qaida forms, as much as the OECD needs their oil. Feeling their oil wealth, one member is off on a militant-religious crusade and a couple are even on a 20th century socialist kick.

Upon gathering every few months at an OPEC meeting, they all bring with them a much baggage and widely varying amounts of “clout.” Nearly all agree that non-OPEC oil production has just about finished growing. If world production is ever going up much further (a dubious proposition from the peak oil perspective) then it is going to come from within OPEC. Unfortunately, only Saudi Arabia may have the capacity to significantly increase production immediately. There are a few other members such as Iraq, Nigeria, and Angola that still have some prospects for increasing production. However, the Iraqis and Nigerians are busy shooting at each other and Angola can’t carry the whole world by itself.

When OPEC gathers in a closed room to discuss a production increase, only one country (the Saudis) can do much about increasing production. Most of the rest just want to see higher and higher prices, in some stable currency, so as to get the most real return for their oil before it runs out. Thus, it is the Saudis who carry the trump card for only the Kingdom (or so they would like us to think) can increase production. The other 12 are really just there for window dressing that gives the appearance of a “group” decision.

In the build-up to this week’s meeting the wire services were filled with speculation about what would happen. Each of the 13 oil ministers had his minute of fame on the world’s stage. One of the services was told authoritatively that as oil was nearly at $100 a barrel OPEC was studying a 750,000 barrel a day increase in production. Shortly after this story made the rounds oil prices dropped by $10 a barrel on expectations of a big production increase and concerns about a really bad economic situation next year. By the end of last week a poll of financial analysts showed that most expected at least a 500,000 barrel a day increase.

As the meeting drew closer Iran and Venezuela (who can no longer increase production) were busy telling anybody who would listen that there was no need for a production increase. This time around Indonesia, who has 235 million increasingly hungry mouths to feed, called for a production increase in hopes that the Saudi’s would step up production and mitigate oil prices. The Saudis as usual kept their own counsel saying they had to review the latest data.

During the meeting a highly placed, but anonymous, official spread the story that the Saudis were asking for a 500,000 barrel a day increase and were arguing with those who were opposed. This of course made the Saudis look like good guys to Washington and the OECD no matter what the “decision”. When the doors opened, it was announced that production would stay the same and that the matter would be reviewed on February 1.

That should settle the matter for another couple of months. If it is a cold winter and demand really goes up than we could see our economy-damaging $100+ oil after all. If the credit crunch reaches the levels that some fear, then OPEC made a good decision as demand will drop.