Seacoast NRG

With this post I am starting a series that examines the phenomenon of Peak Oil, starting with some historical background. In later posts in the upcoming weeks, I’ll discuss in greater detail the methods used by some researchers to model and predict oil production, and construct some similar models using publicly available data.

Everywhere, Oil
Crude oil is seemingly a miraculous resource. Used by the ancient Chinese and Egyptians for lighting, oil became an industrial resource only as recently as 1859, when Edwin Drake struck oil in Pennsylvania, with the intent of using the oil to create and sell kerosene for lamps. In less than one hundred years, oil grew from being a source of lighting fuel, to one of the most ubiquitous industrial resources on the face of the earth. Consider: home heating; electricity generation; lubricants; chemicals, exotic (benzene) and commonplace (dish washing soap); health and beauty products; asphalt; building products (everything from tar paper to roofing shingles, foam insulation, pvc pipe and vinyl siding); fertilizers and insecticides; pharmaceuticals; and, of course, plastics, found in nearly every consumer product from simple foam coffee cups to high-density, high-strength plastics used in appliances, automobiles and aircraft—all of these depend, at least in part, on oil. And then there is gasoline. Fully 57% of all oil is refined into gasoline for automobiles or kerosene fuel for jet aircraft¹. Oil, oil products, and their derivatives touch every aspect of our lives in modern Western culture.

And according to some, the world’s oil is more than half gone.

Peak Oil
Ever since the discovery of oil and its adoption for commercial and industrial uses, oil producers have
raised the questions: how much is there, how much can we get, how long will it last? The development of oil as a
resource grew and continued to grow rapidly, especially so in the first half of the 20th century. These early years
saw the discovery of enormous, “supergiant” fields in Texas, the former Soviet Union, and the Middle East.

In that earlier period, worldwide production capacity far exceeded demand, and reserves seemed, to consumers at
least, to have no practical limit. The US alone produced far more oil than it could use, and was a net exporter of
oil to Europe (particularly during the Second World War) and the Far East. Despite the excess capacity, oil
producers carefully controlled production levels so as to keep the sale of oil and gasoline very profitable, even
when sold at seemingly low prices. The potential for high profits spurred exploration and development of new fields,
and the Western oil companies responded by thoroughly exploring most of the world looking for oil, save only those
regions that were at the time either technically unfeasible (such as the poles and very deep oceans), or politically
inaccessible (such as the former Soviet Union and communist China). As far as consumers of oil were concerned, oil
was unlimited in supply—until the oil shocks of the 1970s proved otherwise.

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But while consumers were enjoying the benefits of cheap and apparently endless oil, the oil companies knew better.
One researcher in particular took a strong interest in the question of oil supply. M. King Hubbert was a geologist working for Shell’s research lab in Houston. Hubbert developed a statistical method of analysis that would predict total reserves and peak production based on historical production data. In 1956, Hubbert predicted that after decades of steady increase, US oil production would hit its peak (the point at which half the recoverable oil had been consumed) and then quickly decline, following a bell-shaped curve. Hubbert predicted that US production would peak in 1975². Often controversial, Hubbert’s methods and predictions subjected him to some ridicule, even by his peers within the oil industry.

Nonetheless, as is now widely known and documented, actual US oil production peaked in 1970².

In 1969, Hubbert then applied his method to world oil production, and predicted the peak—the point at which half of
all the world’s oil would be depleted—to occur in 2000. This prediction became known as Hubbert’s Peak. More
generally, the phenomenon itself, that world oil production followed a bell-shaped curve that would peak and
decline, became known as Peak Oil.

Supply and Demand—The Economic Implications of Peak Oil
Hubbert’s predictions, and those of Hubbert’s followers, such as Kenneth Deffeyes, are hotly disputed by many
industry and government experts. Some, such as the consulting firm href="http://www.cera.com">Cambridge Energy Research Associates (CERA) question the idea that a definitive peak
exists; many more are skeptical of the methods employed by Hubbert and Deffeyes to predict when the peak will occur.
Most, but clearly not all, detractors challenge when the peak will occur, not if. Estimates for the peaking of
worldwide oil production range from the year 2005 (Deffeyes), to 2037 or far beyond (US Geological Survey href="#ref2">²). Although Deffeyes uses Hubbert’s same techniques for calculation of the peaks,
Deffeyes updates his calculations annually to incorporate the latest year’s production data. As such, Deffeyes has
the advantage of having accumulated almost 30 additional years’ worth of data for his statistical analyses (Hubbert
died in 1989).

The economic implications of Peak Oil, regardless of when the peak occurs, are profound, and extend far beyond the
fact that oil itself is a limited resource, and will one day run out (I for one do not believe that abiogenic
petroleum will ever prove to be a substantial resource). Estimates of remaining proven worldwide oil reserves,
including oil from more exotic sources such as the heavy oil sands of Canada, vary widely depending on the reporting
agency. The US Government reports that estimated reserves are in the range of 1.1 to 1.3 trillion barrels href="#ref1">¹, whereas CERA puts the reserve estimate at href="http://cera.ecnext.com/coms2/summary_0236-821_ITM">roughly three times higher. At current worldwide
consumption rates (approximately 84 million barrels per day in 2005¹), reserves of
1.3 trillion barrels will be depleted in another 42 years. Assuming a conservative demand growth rate of only 1%
annually, with no change in the proven reserves, yields depletion in approximately 35 years.

However, both of these simple analyses ignore the statistical nature of oil production, which, according to the Peak
Oil theory, is turning out to be very much like the rise and fall of a biological population. The mere existence of
a bell-shaped peak and decline–as opposed to an extended, decades-long, undulating plateau (predicted by CERA), perhaps with a sudden drop
as the ground gives up the last of its oil–has frightening implications. Consider for example that unlike some
resources, such as gold, oil is wholly consumed and is generally not “banked”. That is, oil inventories are
relatively small and turn over quickly—typical US oil stocks, excluding the Federal Strategic Petroleum Reserve, are
on the order of 1 billion barrels, which is approximately 50 days’ supply at current US consumption rates href="#ref1">¹. Oil production and consumption rates are nearly identical, and production is usually
ramped up or slackened to meet the current demand. In the days of large overcapacity for production, such as in the
US well-prior to 1970, production could quickly be increased by opening the taps on oil wells in Texas href="#ref2">². More recently, particularly in the 1980’s, the Saudis, through their state-owned
production company, Saudi Aramco, could similarly flood the market with oil, and drive prices down to the point that
other producers (such as the state run companies of the former Soviet Union), could not compete on the open market.

Since then, however, worldwide oil demand increased by over 22 million barrels daily (>37%) during the 20 year
period ending in 2004¹. This increase in demand equates to an annualized growth rate
over that period of approximately 1.6%. The production overcapacity that did exist has since been absorbed by the
rising demand. By definition, at the point of Peak Oil, overcapacity for production will be zero (Deffeyes claims
that currently there is no country in the world that has unused production capacity href="#ref3">³, but again this is hotly disputed). Beyond the peak point, production declines—-but
crucially, current worldwide demand is still growing at 1-2% per year. This growth rate threatens only to
accelerate, particularly as the rapidly growing economies of China and India seek more oil href="#ref4">⁴.

Thus, we arrive at the crux of the matter: if we are now at or near the peak, oil demand and oil supply are poised
to rapidly diverge. Deffeyes’ model predicts that 10 years past the peak, worldwide oil production will only be 90%
of that during the peak year. If Deffeyes is right, worldwide oil production in 2015 will have dropped to
approximately 76 million barrels per day, at a time when (assuming a continuing growth rate of 1.6% annually)
worldwide demand will have climbed to 97 million barrels per day, yielding a deficit of over 20 million barrels
per day. The promise of new fields and production sources does little to alleviate the deficit: at this
rate, the reserves of the Arctic National Wildlife Refuge (ANWR), totaling an estimated 5.7 to 16 billion
recoverable barrels¹ would be entirely exhausted in approximately 9 to 26 months. And
the Peak Oil model offers us no relief, as each year then progressively produces less and less oil.

Beyond the Peak
The Peak Oil model, even if only qualitatively correct, has severe economic implications for a
world population increasingly reliant upon cheap, petroleum-based energy. As the demand for oil dramatically
overshoots the peaked supply, the comparison of oil production to the rise and fall of a biological population
becomes even more interesting (the Hubbert and Deffeyes studies are based on logistic models of oil production
history, and logistic models are often used as a basis of population studies). Population models for predator-prey
(or consumer-consumable) interactions often show the predator population crashing when the prey is in decline. And
indeed, the internet is rife with dire predictions of Peak Oil bringing about the fall of our technological
civilization⁵. Such speculation is likely unwarranted. However, the increasing
mismatch between the sagging supply and the surging demand will undoubtedly drive the prices of oil and petroleum
products ever higher. Hopefully the high demand and potential for great profit will stimulate the development of
other energy sources, and the more efficient and balanced use of energy in general. What is immediately required is
not simply a drive to acquire more oil, but a better understanding of the world’s dependence upon energy, and an
honest, reasoned reckoning of the limits of economic growth, and with it, worldwide energy demand.

References

1 The US Energy Information Administration website, href="http://www.eia.doe.gov/">http://www.eia.doe.gov/.

2 Deffeyes, Kenneth S., Hubbert’s Peak: The Impending World Oil Shortage, Princeton
University Press, Princeton, NJ, 2001.

3 Deffeyes, Kenneth S., Beyond Oil: The View From Hubbert’s Peak, Farrar, Strauss and
Giroux, New York, NY, 2005.

4 Roberts, Paul, The End of Oil: On the Edge of a Perilous New World, Houghton Mifflin
Company, New York, NY, 2004.

5 See, for example, the Surviving Peak Oil website, http://www.survivingpeakoil.com/.