Monday, October 7, 2013

Tech Talk - complacency does not see the slow erosion of supply

There has been some talk this week over the volumes of oil and natural gas that is being produced in America, with the WSJ, for example, noting that the US is on track to surpass the volumes produced by Russia. Given that Russia is the leading producer of crude oil at the moment, in August OPEC noted that their production was running at 10.51 mbd, in which month they noted that Saudi Arabia was producing 9.96 mbd. OPEC carefully give two numbers for US oil production, total production is given, for August, as 10.88 mbd, but of this only around 7.2 mbd is crude oil. (While the 9.96 mbd of Saudi production is their crude output, and they also produce some NGL’s from their gas production, as well as seeing some refineries gains as their processing capacity increases). However the WSJ notes that the grand total for the US also contains oil, natural gas and other related fuels to reach the 22 mbdoe, relative to the 21.8 mbdoe that Russia is estimated to be producing.

While the overall impression that is being bandied about, that the US will become energy independent, has been shot down more than enough times (see for example Chris Nelder, last year) there remains, however, a broad complacency that, with increasing production from tight rock, in both oil and natural gas, there is no reason to have concern over future supplies.

If one looks at the make-up of the US supply of energy, natural gas has been steadily increasing its share, as has crude oil, to the cost of the coal market.

Composition of the US energy supply sources, supply shown in quadrillion Btu’s (EIA )

The break-out for June gives more explicit figures:

Figure 2. US Energy supply by Source for June, 2013.

The gap between supply and demand for petroleum products (particularly for transportation) can then be assessed by looking at the consumption side of the equation.

Figure 3. US energy consumption by sector (in quads, EIA )

The bull stirring in our China shop (pottery variety) continues to be the levels of petroleum that we need, and that is unlikely to decline all that much in the intermediate term.

The problem that the world faces is that the balance between available supply of crude oil and the demands for it now lie within very narrow range of production. It is still not that much more of a concern that additional oil this month comes from the US, rather than the Kingdom of Saudi Arabia (KSA) since, give or take a few weeks, supplies can still be purchased from different sources and rapidly shipped by tanker to where it is needed. But if the US were to be asked to meet an additional production need of 1 mbd over existing supply, because of even a short-term failure of supply from another country, it would not be able to meet that demand. (Short, that is, of draining the strategic supply).

Most of the other countries in the world are in a similar predicament. And that includes Russia. Russia gets more than half of its budget from oil and gas revenues, and with their economy flattening out it needs more revenue. It would help considerably if that help came in increasing volumes of oil and gas for export. But the remaining oil and gas deposits are being found in more remote parts of the country, where the expense of not only drilling the wells, but also of getting the product to market, requires a very large capital and time investment. Thus, while it would be nice if they could, they can’t be expected to meet an upsurge in external demand by turning the odd tap on an oilfield to produce additional supply.

And if one goes around the world, as I have been noting recently, outside of the KSA, there is virtually no-one else who can relatively rapidly respond to bring the global market into balance. But even the KSA capabilities to meet that demand are limited. I would suspect that they would get uncomfortable if they had to produce over 10 mbd for any length of time.

And this is where the kicker in the story lies, because, if that is the case, and conflicts around the globe continue to nibble away at the production capabilities in places such as Sudan, Iraq, Libya and their neighbors, then the additional global reserve between available supply and demand is going to increasingly tighten. It is a relatively imperceptible change every month. A little less oil flows down the Alaskan pipeline (439,686 bd in August against the average ytd of 528,572 bd); South Sudan is running about 100 kbd behind the figures for January 2012; Libya continues to suffer from the actions of the militia that control two of their oilfields to the point that production is now around 1 mbd below normal production for the country. There are some indications that the situation is now improving, with flows returning to around 700 kbd but this is still only half of the original volumes. And while the problem is political, rather than technical, the optimism of the Libyan oil minister who projects a return to production levels of 1.6 mbd is perhaps difficult to justify realistically.

Figure 4. Recent changes in Libyan oil production (WSJ )

Libya is, perhaps, with Iran, an exemplar of the nations with the potential to produce more, but who are constrained by immediate political problems. Iraq, who might otherwise also be in the group, is challenged also to develop the fields that are required for it to bring in the additional volumes of oil to the world market.

If these countries remain at their current levels of production, and there is little to indicate any positive change in the near term, then the narrow band over which KSA production fluctuates to keep the balance may not be enough for much longer.

Complacency that there is currently enough oil and natural gas to go around, at current levels of price, lets the market focus on other, more immediately pressing issues. But the slow erosion of the remaining global production surplus continues, and accumulates, and the time when this becomes evident may only be when that reserve no longer exists. And that may not be nearly as far into the future as most seem to expect.