“Peak Oil”:Welcome to the Media’s New Version of Shark Attacks

The cover story of the New York Times Sunday Magazine written by Peter Maass is about “Peak Oil.” The idea behind “peak oil” is that the world has been on a path of increasing oil production for many years, and now we are about to peak and go into a situation where there are dwindling reserves, leading to triple-digit prices for a barrel of oil, an unparalleled worldwide depression, and as one web page puts it, “Civilization as we know it is coming to an end soon.”

One might think that doomsday proponents would be chastened by the long history of people of their ilk being wrong: Nostradamus, Malthus, Paul Ehrlich, etc. Clearly they are not.

What most of these doomsday scenarios have gotten wrong is the fundamental idea of economics: people respond to incentives. If the price of a good goes up, people demand less of it, the companies that make it figure out how to make more of it, and everyone tries to figure out how to produce substitutes for it. Add to that the march of technological innovation (like the green revolution, birth control, etc.). The end result: markets figure out how to deal with problems of supply and demand.

Which is exactly the situation with oil right now. I don’t know much about world oil reserves. I’m not even necessarily arguing with their facts about how much the output from existing oil fields is going to decline, or that world demand for oil is increasing. But these changes in supply and demand are slow and gradual — a few percent each year. Markets have a way with dealing with situations like this: prices rise a little bit. That is not a catastrophe, it is a message that some things that used to be worth doing at low oil prices are no longer worth doing. Some people will switch from SUVs to hybrids, for instance. Maybe we’ll be willing to build some nuclear power plants, or it will become worth it to put solar panels on more houses.

The NY Times article totally flubs the economics time and again. Here is one example from the article: The author writes:

The consequences of an actual shortfall of supply would be immense. If consumption begins to exceed production by even a small amount, the price of a barrel of oil could soar to triple-digit levels. This, in turn, could bring on a global recession, a result of exorbitant prices for transport fuels and for products that rely on petrochemicals — which is to say, almost every product on the market. The impact on the American way of life would be profound: cars cannot be propelled by roof-borne windmills. The suburban and exurban lifestyles, hinged to two-car families and constant trips to work, school and Wal-Mart, might become unaffordable or, if gas rationing is imposed, impossible. Carpools would be the least imposing of many inconveniences; the cost of home heating would soar — assuming, of course, that climate-controlled habitats do not become just a fond memory.

If oil prices rise, consumers of oil will be (a little) worse off. But, we are talking about needing to cut demand by a few percent a year. That doesn’t mean putting windmills on cars, it means cutting out a few low value trips. It doesn’t mean abandoning North Dakota, it means keeping the thermostat a degree or two cooler in the winter.

A little later, the author writes

The onset of triple-digit prices might seem a blessing for the Saudis — they would receive greater amounts of money for their increasingly scarce oil. But one popular misunderstanding about the Saudis — and about OPEC in general — is that high prices, no matter how high, are to their benefit.
Although oil costing more than $60 a barrel hasn’t caused a global recession, that could still happen: it can take a while for high prices to have their ruinous impact. And the higher above $60 that prices rise, the more likely a recession will become. High oil prices are inflationary; they raise the cost of virtually everything — from gasoline to jet fuel to plastics and fertilizers — and that means people buy less and travel less, which means a drop-off in economic activity. So after a brief windfall for producers, oil prices would slide as recession sets in and once-voracious economies slow down, using less oil. Prices have collapsed before, and not so long ago: in 1998, oil fell to $10 a barrel after an untimely increase in OPEC production and a reduction in demand from Asia, which was suffering through a financial crash.

Oops, there goes the whole peak oil argument. When the price rises, demand falls, and oil prices slide. What happened to the “end of the world as we know it?” Now we are back to $10 a barrel oil. Without realizing it, the author just invoked basic economics to invalidate the entire premise of the article!

Just for good measure, he goes on to write:

High prices can have another unfortunate effect for producers. When crude costs $10 a barrel or even $30 a barrel, alternative fuels are prohibitively expensive. For example, Canada has vast amounts of tar sands that can be rendered into heavy oil, but the cost of doing so is quite high. Yet those tar sands and other alternatives, like bioethanol, hydrogen fuel cells and liquid fuel from natural gas or coal, become economically viable as the going rate for a barrel rises past, say, $40 or more, especially if consuming governments choose to offer their own incentives or subsidies. So even if high prices don’t cause a recession, the Saudis risk losing market share to rivals into whose nonfundamentalist hands Americans would much prefer to channel their energy dollars.

As he notes, high prices lead people to develop substitutes. Which is exactly why we don’t need to panic over peak oil in the first place.

So why do I compare peak oil to shark attacks? It is because shark attacks mostly stay about constant, but fear of them goes up sharply when the media decides to report on them. The same thing, I bet, will now happen with peak oil. I expect tons of copycat journalism stoking the fears of consumers about oil induced catastrophe, even though nothing fundamental has changed in the oil outlook in the last decade.

(For those of you interested in more economic perspectives on peak oil, check out these three posts by Jim Hamilton of econbrowser: here, here, and here. And thanks to Alex from marginalrevolution for pointing me to Hamilton’s posts.)


Ripley

The hosts of this blog make several huge assumptions. First, "people respond to incentives." That's true, but the incentives to oil suppliers are not necessarily monetary. Countries like Iran or Sudan may sell to China because it can protect them with a UN Security Council veto. Hugo Chavez may lead Venezuela to stop selling to Americans because he doesn't care about maximizing profit.

The second assumption is that any "changes in [oil] supply and demand are slow and gradual... [so] prices will rise a little bit" at most. Without knowing exactly how supply or demand will change, how can that be automatically true?

The third assumption is market forces will solve the problem rationally. But doesn't that assume some sort of perfect market, with many buyers and sellers? Many responses to high oil prices would require huge initial investments, and it doesn't make sense to the individual entity to make those investments unless it's clear that they will be profitable on a long-term basis.

Also, certainty of supply is important in the real world because oil is such a critical resource. This is a long-term issue which an economic analysis should address.

The economic issue I'm the most interested in is the elasticity of demand for gasoline, which accounts for about half of U.S. oil use.

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coffee17

j-deal: could you post some links about tar sands being cheap? I remember that local producers were having to double the initial overhead to increase production a mere 0.1 mbpd (from $4.3 billion CDN to $7.8 billion CDN). Additionally, combined oil sand production by 2015 is supposed to be 2.7 mbpd ( http://cassandrasyndrome.blogspot.com/2005/07/canadian-tar-sands-fools-black-gold.html ), so even if it was cheap, that's about 2.7% of the projected oil demand at 2015. Where's the rest of the increased oil production supposed to come from.

As for people who drive their cars for 77 cents a gallon with vegetable oil, it's a question of scale. I saw a news story about one such person, and he depended on waste oil from a local restaurant. They won't be able to supply an entire city. There's a waiting time in many places to get a hybrid vehicle, and it there are multiple month long waiting lists to buy enough solar panels to power a house. Not to mention that with the increased price of oil this will be attached onto the cost to manufacture said solar panels.

Nuclear power stations take 5+ years to build, and are very energy and capital intensive. And there are no new ones coming on line in the US (yet).

Switch one's car over to natural gas? That's a great idea, considering North American natural gas production has already peaked, and the worry about oil prices is regarding the impending peak. Oh, wait, perhaps on the scale of all cars (or even 20% of all cars) that might not be the wisest long term decision.

Where are you going to get the hydrogen to fill up your hydrogen (or fuel cell) car? Remember, this isn't just your car, but everyone's car (or again, how about 20%), so the question of scale applies again.

Transitioning to all these new technologies will take a lot of oil when oil is getting scare. Additionally our economy currently depends upon cheap oil. Which means that transitioning away from oil takes a lot of capital when there will be (at least) a recession going on, multiplying the apparent cost to transition.

This doesn't even take into the fact that about 15% of the USA's oil use is for making inorganic fertilizers, without which agribuisness won't work. And don't count on cheap apples from argentia as well, shipping costs will be up. So the people in the cities will have less direct need of oil, but won't be able to grow their own food. The people in the suburbs will be densely packed enough that crime could be a real problem with a less mobile police force, but at least they have the possibility of growing some of their food. However, for those who've put the work into a successful garden realize that it cuts into the leisure time, and how many people have worm bins to make their compost faster than a compost pile? How many people are ready to grow a garden which will give them some approximately balanced nutrition? And if America has less leisure time, then the terrorists have won. Or something like that.

Yes, there are lots of small scale alternatives, but none of them currently answer the question of, "What if everyone did this?", and then there's the issue that even if we find something that ramps up well, will it ramp up fast enough. Yes, there will be demand destruction, but consider what demand destruction is for people in the suburbs, when there's no housing left within walking/biking distance to work, it's the middle of winter, and they pantry is empty. Now consider demand destruction for natural gas which has already peaked (at least it currently has lower decline rates) in Canadian cities. Touching back on oil sands again, current processing uses a lot of natural gas, and as we use more natural gas (cars and busses), what do you think will happen with the price of natural gas and how will this affect oil sands?

Lastly, decline in rate of oil recovery for individual wells varries greatly on the techniques used. Horrizontal wells run well until they peak, and then they decline sharply. New wells are energy intensive, and new fields don't contain as much oil, or as fine of a quality of oil. Which means it takes more energy to refine the oil into something useable. As EROEI goes down, effectively the amount of oil produced goes down still further.

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Dimitar Vesselinov

"Fear is the path to the dark side. Fear leads to anger. Anger leads to hate. Hate leads to suffering."
Yoda

Is there any hope? Yes, there is. Help is on the way.

http://alt-e.blogspot.com/
http://alteng.blogspot.com/
http://curtrosengren.typepad.com/alternative_energy/

wkwillis

Why do you assume that oil can't collapse in price and increase in price, say, going from 65 dollars/45 euros per barrel to 650 dollars/15 euros a barrel?
That's without US hyperinflation, either. Just a balance of payments renormalisation.
We get loaned money by the rest of the world. We buy oil. If the rest of the world doesn't loan us money the dollar collapses and it costs us more money in real terms to buy oil. So we buy lead for battery powered cars, instead.

peak oil

The inaugural meeting of the US branch of the Association for the Study of Peak Oil (ASPO) will be held in Denver, Nov 10-11
http://www.postcarbon.org/node/434

SW

People have predicted that I would die.

I haven't died.

Therefore, I will never die.

Anonymous

As a Coloradan, let me assure you that the long term problem is about 500 years. There are mountains on the middle slope that are basically horrible piles of black gunk filled with oil--no green trees, no lovely golden aspen, no pretty fuzzy cuddly deer or chipmunks--just ugly black piles of oil poisoned shale. Take the trip along I-70 from Denver to Grand Junction before you argue with me.

Our dear former President Jimmy
Carter paid me 18.73 an hour to buld an oil cracking plant at Parachute, Colo.--the site of the former city of Grand Mesa. I worked on that sucker for the entire summers of 76 and 77. It would have brought in gasoline for under a dollar a gallon. Our lovely friends in Araby decided to lower their prices before it came online, so now weeds are growing through the cracks in the concrete.

The smart boys (oaky, my chemist father) said then that there is enough oil there to supply the entire planet for 500 years. That was in 1976, so maybe there's only enough oil to supply us until, say, 2375 A.D. at today's demands. So it costs us $60.00 a barrel. That's less than we seem to be paying now.

To paraphrase Frank Zappa, those mountains are ugly and they want to die.

--Bruce Dearborn Walker

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Ralph

We'll survive peak oil, but the transition will not be pain-free. Oil is transportation. There are limited substitutes. I can buy an electric car to take me to the grocery store, but the trucks and trains that get the food to the store have no alternatives. Batteries large enough to power these vehicles long distances would make them extremenly inefficient. Planes also have no fuel alternative. Biodiesel or liquid fuel from coal is a possibility, but significant infrastructure is not in place.

Natural gas production in North America has peaked, and the LNG infrastructure to import oversea NG is hardly started, so conversions to this fuel has minimal upside for the time being.

This is not a matter of minor fluctuations in supply and demand. China had a 20% year over year increase in oil demand. This has accelerated the process. In this country, SUV purchases have fallen off the map, but efficient hybrids have long waiting lists, and many upcoming hybrid models are only slightly more efficient than the normal models.

What is really disappointing about this glib rebuttal is the ipse dixit manner in which Levitt dismisses the concept. His book and research have been focused on ignoring surface appearance and looking at what the data actually says, and this piece makes pronouncements without bothering to look at the data.

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Steven D. Levitt

To SW-

The right analogy is:

People have predicted you will die.

You haven't died yet.

You probably won't die in the next 5 minutes.

The point isn't that we will never run out of oil, it is that by the time we do we probably won't care very much.

Steve Levitt

J-Deal

Coffee17

Rereading my statement, I may of overstepped. I probably should of stated "cheaper" instead of "cheap". Generally speaking Oil reserves are considered any oil that can be drilled for $15 a barrel, much of the Alberta oil hovers right at this price, most is closer to $18 -but with $60 a barrel for oil, I would consider that pretty cheap, though not as cheap as the $2-$4 Persian Gulf oil. As for some links -I got this info from hard print, so just googled for info.

http://www.opinionjournal.com/extra/?id=110006228

http://www.gasandoil.com/goc/company/cnn40245.htm

http://www.wired.com/wired/archive/12.07/oil.html

However, if you think I was trying to imply that Alberta sands were the end all be all, you are mistaken. it's just one piece of the puzzle. You act as if it is all zero sum.

Let me ask you something, what if we learn how to shale drill cheaply? Well then all our problems go away overnight.

As for your questions on Hydrogen, Natural Gas and and propane. First of all, each one of these would lesson our demand for oil, even with a 10% decrease, this would be huge. However, hydrogen could easily become our soul source almost overnight. -We have plans just to do this, in case of catastrophe.

Hydrogen is more expensive than oil in output per unit -think mpg-, and the vehicles are more expensive. however with mass production, that could change quickly.

You ask where the hydrogen will come from. Well Hydrogen can come from any electrical source. It's one of the easiest things to make on the planet. Actually it's transportation costs that are a pain right now. Hydrogen should not be looked at as a fuel, but an intermidiatary. Much like elecrticity. If an overnight catastphee should happen, which I think is extremely unlikely. You could make the hydrogen in home units with equipment bought at Home Depot. large scale facilities would be put in place within about a 3 month period.

It can be made from any electrical source. So unless you think Oil will dry up within a 3 month period, this could be eased into to avert a mass spike in oil demand.

You act as if one day we will have oil, and the next day it will be all gone. It just doesn't work that way. If you believe it does, then there is nothing I can say that will change your mind.

You also speak of the peak in NG demand, but don't mention LNG at all, LNG is still in it's infancy. Soon we will be able to import LNG much like we import Oil. And guess what, when LNG peaks, we'll find something else, and after that, something else. And so on.

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Anonymous

We should just trust the Saudis, they love us over there. They would never let anything bad happen to us.

Anonymous

Steven:

I would agree with you completely if it was guaranteed that oil depletion would be only "a few percent a year". Unfortunately, that's not a solid assumption. Various provinces either are or are about to deplete at over 10% per year. Eg the UK:

http://www.irna.ir/en/news/view/menu-237/0505140999165001.htm

and Mexico:

http://www.greencarcongress.com/2005/03/mexicorsquos_la.html

Saudi depletion on existing oil production is estimated at 11% a year (but they may be able to make up the difference with new production for some unknown period).

It appears that a lot of provinces have been adopting technology like 4D seismic imaging of the changing oil in place and horizontal wells at the top of the oil layer which lead to maintaining production flat for a while, and then very rapid depletion on the backside of the peak.

So, the worst case scenario is global depletion at O(10%) per year in a few years. Not saying that's certain by any means, but it's not off the wall either. That's very very hard to overcome when you consider that the average lifetime for a car on the road is 9 years, a truck is twice that, and new nuclear power plants need a lead time of 5-7 years.

Stuart Staniford

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Anonymous

Sorry, that should have been average *age* of a car on the road is nine years.

Stuart Staniford

Anonymous

> new nuclear power plants need a lead time of 5-7 years.

No, they don't. The political and regulatory environment imposes that kind of delay, but the planning and construction can be done in far less time.

I predict that we'll first see the relevant cracks in US gasoline formulation regulation. There will be a production glitch that starves one area and not another and the obvious questions will get asked and the standard answers won't be accepted.

J-Deal

Peakguy, you stated

"I urge you not to make hasty comments about this subject without more deep analysis. Oil is not just a commodity, it is THE commodity that makes everything in our modern world possible, in particular food production and most forms of transportation. Barring some major innovation, there is no technology or energy source that can replace oil and it's many uses. It's like water and air. 6 Billion people need oil. 100 million maybe..."

Hmm, whatever did we do before Oil? Let me ask you, what would affect your life more, the loss of Oil? or the loss of Copper? Or maybe, lets be more fair, $600 dollar a barrel oil or $15 dollar a pound copper?

I urge you not to be hasty, think about it. What is more important to you, having cheap electricity or having cheap gas? being able to cool your food in a fridge? or having cheap plastics? heck, using wood instead of plastics? A lot of people assume Oil is more important to us than it really is, just because we buy it at the pump everyday. We never think of the importance of copper. How copper is the commodity that makes our modern homes possible.

As for the whole food production comment, I really don't even know what to say to this. Start buy learning how fertilizer is made.

http://en.wikipedia.org/wiki/Haber_process

Oil is the #1 most important substance we have for transportation, you will get no argument from me on that one at all. However, ever since the 70's, we have shifted our oil use in other applications, over to alternatives. Open up an Almanac, look at our Oil use over the past 25 years, you might be surprised. hint, it's increased about 12% from 34.20 qbtu to 39.07 qbtu while total energy use has increased 19%.

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Loren Coleman

The Copycat Effect Blog

Sharks, Gators, Oil

http://copycateffect.blogspot.com/2005/08/sharks-gators-oil.html

odograph

Just curious ... is "everyone drives a little electric car" optimistic or pessimistic? Is it the success of the invisible hand, or the end of life as we know it?

I've got a sense that a lot of SUV families would see it as the sky falling. I get the idea it might be contrary to the "lifestyle" our government thinks it must defend.

If it was me, I'd take freedom, honor, peace, and electric cars. YMMV.

J-Deal

Anon, you stated.

"I would agree with you completely if it was guaranteed that oil depletion would be only "a few percent a year". Unfortunately, that's not a solid assumption. Various provinces either are or are about to deplete at over 10% per year. Eg the UK:"

I don't disagree with this in theory at all. But the problem is, world production is still increasing. Even last year, which was a horrible year, we increased at about 2%. -And it wasn't until last year that Oil companies really started to ramp up, many still remeber the losses they took at 10 dollar oil.

Now say next year, we are flat, or go down a a few %. Then we need to get our @sses in order, and fast. If it came in as you state, and dropped 10%. Then I think we'd have a few months of Havoc, as we went into a huge burst of energy production from other sources.

Also I know it's generic to say, but kinda needs to be saying. France gets 80% of it's power from a source that was unknown 100 years ago. Whose to say that in 100 years, we won't be saying the same about the US.

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SW

"The point isn't that we will never run out of oil, it is that by the time we do we probably won't care very much".

It has bugger all to do with running out. It's all about RATES of production. You need to address that in a substantive way rather than invoking motivation. We agree that there will be plenty of motivation to inspire people to "unlock their creative genius". The question is, are you allowing yourself a realistic assessment of the physical realities that this genius is up against. I suggest not.

If you want to make the argument that mining for sand and shale and the resulting processing is going to take the place of what we are losing to depletion and increased consumption and these new sources are going to come on line quickly enough to prevent near term supply shortages, I'd like to see the numbers. Where specifically are the projects where the anticipated production in the next five years can possibly compensate for the 4 million barrels per day we are losing to depletion plus the increased demand represented by growth both here and in India and China? I just don't see the numbers working out without significant 'demand destruction'. You can't just click your heels and make it happen. You can't rely on pixie dust.

In the real world, most good leaders prepare for the worst and hope for the best. It is true that there is a real lack of solid data, particularly from the Middle East. And it is also true that a guy like Mat Simmons may be giving us what amounts to the worst case scenario. But given the implications, you would be a complete idiot not to have a plan to deal with the worst case scenario. To blithely assume that there is no chance that it could be an accurate prediction of what is to come amounts to public policy malpractice. The consequences of being wrong on this are simply too severe.

Besides, the simple obvious things to do, are undeniably good anyway. Efficiency, doing the same amount of work, with less energy, is a growth industry. It is the next wave of high tech. Disengaging ourselves from the Middle East makes sense. Limiting our carbon emissions makes sense. So getting our public policy going in the right direction is going to help even if this turns out to be a pessimistic projection and we really have more time to prepare for something that is, I'm sure you will admit, inevitable.

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odograph

"Whose to say that in 100 years, we won't be saying the same about the US."

Oh, as an engineer I have seen the "invisible hand" fuel R&D ... they've just never let me deliver an "invisible product."

Or put another way, the invisible hand is not a wishing well.