In a speech on Friday, Alan Greenspan, chairman of the Federal Reserve, gave qualified reassurance on the adequacy of future global oil supplies to meet rising demand—at least through a mid-century transition to a new primary energy source. (Full text of speech is here.)
While there are concerns of seeming inadequate levels of investment to meet expected rising world demand for oil over coming decades, technology, given a more supportive environment, is likely to ensure the needed supplies, at least for a very long while.
—Alan Greenspan, 15 October 2004
Oil companies should fire their geologists and hire economists instead, since economists are so much better at finding oil.
Greenspan bases his assessment on two presumptions. First, that rising prices will encourage the development of technologies that will find and deliver the additional oil. An unstated corollary to that is that the increase in supply would push the prices back down—despite the higher costs for exploration, production and, in some cases, refining. Second, that sustained high prices will encourage more market-driven transitions away from oil.
Yet within the remarks—interpreted by most as generally upbeat—there are indicators of potential trouble.
Elevated long-term oil futures prices, if sustained at current levels or higher, would no doubt alter the extent of, and manner in which, the world consumes oil. Much of the capital infrastructure of the United States and elsewhere was built in anticipation of lower real oil prices than currently prevail or are anticipated for the future. Unless oil prices fall back, some of the more oil-intensive parts of our capital stock would lose part of their competitive edge and presumably be displaced, as was the case following the price increases of the late 1970s...
So far this year, the rise in the value of imported oil—essentially a tax on U.S. residents—has amounted to about 3/4 percent of GDP. The effects were far larger in the crises of the 1970s. But, obviously, the risk of more serious negative consequences would intensify if oil prices were to move materially higher.
The keys to avoiding such a crisis in Greenspan’s view are the factors noted above: better technology combined with market forces.
If history is any guide, oil will eventually be overtaken by less-costly alternatives well before conventional oil reserves run out. Indeed, oil displaced coal despite still vast untapped reserves of coal, and coal displaced wood without denuding our forest lands.
Innovation is already altering the power source of motor vehicles, and much research is directed at reducing gasoline requirements. At present, gasoline consumption in the United States alone accounts for 11 percent of world oil production. Moreover, new technologies to preserve existing conventional oil reserves and to stabilize oil prices will emerge in the years ahead. We will begin the transition to the next major sources of energy perhaps before midcentury as production from conventional oil reservoirs, according to central tendency scenarios of the Energy Information Administration, is projected to peak. In fact, the development and application of new sources of energy, especially nonconventional oil, is already in train. Nonetheless, it will take time. We, and the rest of the world, doubtless will have to live with the uncertainties of the oil markets for some time to come.
There are too many assumptions in this scenario for comfort: massive additional oil production through new technology pushing peak production decades away, the rate of adoption of new transportation and energy technologies and the subsequent aggregate impact on consumption being the largest.
Interestingly, last year when Greenspan spoke to Congress on his worries about the natural gas supply and pricing situation, he acknowledged that technology doesn’t always provide the magic bullet.
Recent years’ dramatic changes in technology are making existing energy reserves stretch further while keeping long-term energy costs lower than they otherwise would have been...
Moreover, improving technologies have also increased the depletion rate of newly discovered gas reservoirs, placing a strain on supply that has required increasingly larger gross additions from drilling to maintain any given level of dry gas production.
Improved technologies, however, have been unable to prevent the underlying long-term price of natural gas in the United States from rising.
—Alan Greenspan, testimony before the House Committee on Energy and Commerce, 10 June 2003
The reason for the continued rise in natural gas prices? Unavailability of supply. (And hence, in Greenspan’s view, a strong argument for rapidly building up an LNG import capability. And what happens when access to oil is similarly constrained, through an increase of continued demand growth, supply constraint, and massive volatility in key oil producing regions?
Not good. One of the problems with the Greenspan view is the lack of urgency. Strip out his assumptions on timing, and look at a more immediate scenario with a supply/demand imbalance, rapidly rising and sustained oil prices, and an enormous global fleet to convert to greater fuel efficiency—we’re in trouble.