OilVoice - January 2015

Edition Thirty Four – January 2015
Oil producers commit mass suicide
Why $75 is the right price for oil
The 2014 oil price crash explained

2 OilVoice Magazine | JANUARY 2015
Tech Talk - A gentle cough!
by David Summers 6
Five energy surprises for 2015: The possible and the improbable
by Kurt Cobb 9
How the U.S. could fight OPEC and win (and why it won't)
by Kurt Cobb 11
The OPEC Conundrum
by Euan Mearns 16
New York's Fracking Ban Reveals Energy Hypocrisy
by Loren Steffy 23
Oil producers commit mass suicide
by Andrew McKillop 26
Turnabout: OPEC shows U.S. oil producers who's boss
by Kurt Cobb 30
Ten reasons why a severe drop in oil prices is a problem
by Gail Tverberg 33
The oil price is all about ONE number right now
by Keith Schaefer 45
The 2014 oil price crash explained
by Euan Mearns 49
Greed explained: J. Paul Getty, Aristotle and the Maximum Power Principle
by Kurt Cobb 57
Making sense of OPEC oil market politics
by Gary Hunt 61
Why $75 is the right price for oil
by Andrew McKillop 64
The high cost of low-priced oil
by Kurt Cobb
68

Featured Authors
David Summers
Bit Tooth Energy
While one of the founders of The Oil Drum, back in 2005, he now also
writes separately at Bit Tooth Energy.
Kurt Cobb
Resource Insights
Kurt Cobb is an author, speaker, and columnist focusing on energy
and the environment. He is a regular contributor to the Energy Voices
section of The Christian Science Monitor and author of the peak-oil-
themed novel Prelude.
Euan Mearns
Energy Matters
Euan Mearns has B.Sc. and Ph.D. degrees in geology.
Loren Steffy
30 Point Strategies
A senior writer for 30 Point Strategies and a writer-at-large for Texas
Monthly. Loren worked in daily journalism for 26 years, most recently
as an award-winning business columnist for the Houston Chronicle,
and before that, as a senior writer at Bloomberg News.
Andrew McKillop
AMK CONSULT
Andrew MacKillop is an energy and natural resource sector
professional with over 30 years’ experience in more than 12 countries.
Gail Tverberg
Our Finite World
Gail the Actuary’s real name is Gail Tverberg. She has an M. S. from
the University of Illinois, Chicago in Mathematics, and is a Fellow of
the Casualty Actuarial Society and a Member of the American
Academy of Actuaries.

Keith Schaefer
Oil & Gas Investments Bulletin
Keith Schaefer is the editor and publisher of the Oil & Gas
Investments Bulletin.
Gary Hunt
Tech & Creative Labs
Gary L Hunt is an energy technology expert with deep domain
knowledge in oil, gas, power and water from 30 years’ experience. As
practice leader at Ventyx, IHS, and Deloitte he leveraged software and
analytics, data and domain expertise to provide advisory services and
insight.

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Tech Talk - A gentle
cough!
Written by David Summers from Bit Tooth Energy
When I last wrote about the global supply of oil, it was back in October, as the fall in
oil prices was developing. Since then the price has continued to fall, with prices now
below $60 a barrel. I was doubtful back then that the price would fall as far as it has,
and remain cynical that it will remain down for very long. Since this seems to go
against much current wisdom, let me explain why I remain pessimistic that the boost
to the global economy from access to cheaper fuel will continue for any great length
of time.
It depends on whose data you believe credible as to how much more oil is available
than that currently in demand. When looking at the numbers in the past I used a
number of roughly 1 mbd, but this is hard to realistically quantify. Why – well the
problem comes with the regions of the Middle East and North Africa (MENA) where
there are current conflicts. The ones of particular concern are Libya and Iraq,
although the fluctuating state of exports from Iran cannot be neglected. When the
Libyan conflict first impacted the export of oil from that country Saudi Arabia began
increasing its production to offset the loss in Libyan exports.
There came a time in September when Libyan exports, which had fallen to around
300 kbd from a high of over 1.6 mbd, shot back up to around 900 kbd. The EIA has
recently shown an inverse correlation between Libyan production and oil price:
Figure 1. Brent Oil Price and Libyan oil production (EIA )

Thus, when an additional 600 kbd suddenly appeared back in the marketplace, it is
not surprising that it had an impact on prices. However while there was already some
surplus in the market (from increased production in the US etc, as I will comment on
below) the volume of the addition had a more significant impact on prices, and when
KSA decided not to reduce production this led the market to assume that we had
returned to plentiful sufficiency, and prices have continued to fall since.
However, this perception is already unravelling. Libyan conflict has continued to
embroil their oil fields. The Sharara field, which produces 300 kbd closed in
November as conflict overwhelmed it. At the moment two of the oil export terminals
are threatened, and with them another 300 kbd of oil. But it is not possible, at this
point, to predict what is going to happen in either location. There is little sign that the
conflict is any closer to resolution, meaning the production will continue to be
threatened into the foreseeable future. Sadly it is more likely that this will have
negative impact on oil production, so that it might be wiser to assume lower rather
than higher volumes coming from the country.
The situation is a little clearer and more optimistic in Iraq, where the pipeline through
Kurdish territory has lessened the impact of the Islamic State take-over of a large
swath of the country. The recent agreement between the Iraqi Federal Government
(IFG) and the Kurdistan Regional Government (KRG) approved early this month is
already raising questions over the volumes that the KRG will put onto the market.
The agreement calls for sales of around 550 kbd, but there is an additional 100 kbd
that is available, the status of which is unclear. The country is exporting,
overall, around 2.51 mbd and the pipeline to Turkey is currently carrying 280 kbd, but
is being boosted to carry 400 kbd, with an ultimate throughput of 700 kbd. Part of the
problem in assessing the market for this, however, in the short term is that the Iraqi
crude is often heavier and of relatively lower quality than the market average. This is
currently causing some marketing problems, leading the IFG to lower prices in order
to find a market. In neither case, however, is the current conflict likely to impact the
production for export, and while it is difficult to anticipate much production above 3.5
mbd. (The December OPEC MOMR suggests that they are producing 3.36 mbd at
the moment) we are unlikely to see any significant reduction in production going
forward. The significant growth in global production to meet a still predicted rise in
demand next year (albeit down slightly from previous estimates) will, therefore, not
come from OPEC, who still anticipate that they will produce, on average 400 kbd
less than they have this year. It is still expected that American production will

continue to rise to meet expectations of increased global demand.
The problem, unfortunately, with that view, is that increases in US production are tied
to output from fracked horizontal wells that are expensive to drill, and have a
relatively short production life, with the majority of production coming in the first year
of operation. Thus, in order to sustain production, more wells must be drilled each
month to cover the loss in production from existing operations. The North Dakota
Department of Mineral Resources projects that 225 or more drilling rigs are needed
to sustain the growth of production from the state over the next three years (at which
time it will plateau at around 1.5 mbd). Presently there are roughly 180
rigs operating, with the count falling by the week, as the rewards, at present, do not
match the cost. The agency anticipates that the number will fall by an additional 40-
50 rigs by the middle of next year. Well completions are also falling by the month, as
the industry likely plans to wait out the current hiatus in prices. The impact of this on
even short term production should not be discounted. There has already been a
slight fall in production, rather than a gain, in October, and that will likely accelerate.
Without any gain in production, and in fact seeing the potential for a drop in US
production over the next year, then the anticipated surplus between oil supply and
demand will likely disappear. Remember that the MENA nations are seeing a growth
in their internal demand for oil (in the KSA this has already passed 3 mbd) so that if
they had no impetus to reduce production and exports in the face of falling prices, so
they are unlikely to increase production when prices pick up. (They haven’t before).
When will this all happen? Well I got the size of the price fall wrong, so don’t hold me
to the exact timing, but I would anticipate that when we see the start of the driving
season next year, the oil market will tighten rather quickly. Following that (given the
inertia in getting production back in the US) we will (as I have been expecting for a
couple of years) see the global concern over supply start to be a significant factor in
2016.
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Bit Tooth Energy

Five energy surprises
for 2015: The possible
and the improbable
Written by Kurt Cobb from Resource Insights
The coming year is likely to be as full of surprises in the field of energy as 2014 was.
We just don't know which surprises! I am not predicting that any of the following will
happen, and they will be surprises to most people if they do. But, I think there is an
outside chance that one or more will occur, and this would move markets and policy
debates in unexpected directions.
1. U.S. crude oil and natural gas production decline for the first time since 2008 and
2005, respectively. The colossal markdown in world oil prices has belatedly been
followed by a slightly smaller, but nevertheless dramatic markdown in U.S. natural
gas prices. The drop in prices has already resulted in announcements from U.S.
drillers that they will curtail their drilling operations significantly next year.
But drilling that is already contracted for will likely go forward and wells waiting for
completion will be completed. It can be costly to pull out of drilling contracts. And,
failing to complete already successful wells and bring them into production is
downright foolish since the costs incurred in drilling the wells including future debt
payments remain. In those circumstances, some revenue at lower prices is
preferable to no revenue at all.
Having said all that, scaled-down drilling plans when combined with what's left in
drillers' immediate inventory both to drill and complete may not be enough to
overcome the prodigious production decline rates from existing wells in deep shale
deposits of oil and gas which have provided almost all the recent growth in U.S.
production. The decline rates are 60 to 91 over three years for tight oil plays and 74
to 88 percent over three years for shale natural gas plays.
If low prices continue for a second year, the cheers for "Saudi" America will
disappear. It was never to be anyway. What America has left is high-cost oil and
natural gas. And, even at high prices both were likely to peak and decline in the next

5 years. Now, low prices may bring peak production rates in the coming year for both
U.S. oil and natural gas--peaks that may never be seen again.
2. World crude oil closes below $30 per barrel. I think that such a price would only
last a short time unless the world is in the throes of the next Great Depression. But
since OPEC has reaffirmed that it will continue to pump oil at current rates until non-
OPEC production declines, look for this game of chicken to create increasing
inventories of oil worldwide for several months. The underlying cause for rising oil
inventories is slowing economic growth in much of Asia, especially China, and
economic stagnation in Europe and Japan. Any pickup in worldwide growth would
send oil significantly higher than where it is today as oil demand increases.
3. Developments in solar thermal energy show that it can solve the storage problem
for electricity from renewable energy. The difficulty with renewable energy supplying
electricity is that electricity is very expensive to store (and so we do very little of this).
Storage is important because renewable energy production comes when the wind
blows and the sun shines, but not always when we need it. A breakthrough in solar
thermal may be in the offing that would overcome previous limits on temperatures
generated by solar thermal capture devices and make it possible to store heat
cheaply enough to run solar electric generating plants around the clock at high
output.
4. A climate agreement in Paris calls for binding greenhouse gas emissions limits.
Expectations are exceedingly low for next summer's international climate conference
to be held in Paris. The aim is to agree on binding limits for carbon emissions for the
world's nations. Few people think that will happen no matter what the urgency of the
matter.
But we cannot know what climate events might occur between now and the Paris
conference that would change the outcome. It would have to be big, on the order of
an ice shelf plopping into the ocean, dissolving and raising sea-level enough to
notice. Nevertheless, I would say that such a disturbing event becomes more likely
with time and might be necessary to move the world's nations to a binding emissions
agreement.
Even some progress in the direction of a binding agreement will have the world's
energy analysts talking about stranded assets, a reference to the oil, natural gas and
coal that would have to be left in the ground in order to avoid breaching agreed limits

on carbon emissions. That would have significant consequences for the companies
whose work is extracting and refining hydrocarbons.
5. Oil prices reach $100 per barrel before December 31, 2015. This is the other
extreme from surprise No. 3. Almost all analysts expect oil prices to remain low, and
many believe we are now entering a new era of cheap oil. (I, of course, don't buy it.)
An earlier and more dramatic drop in production than anticipated and a greater rise
in demand than anticipated could easily bring prices back above $100. I think this is
more likely to happen later in 2016. But the timetable for a return to prices above
$100 could be accelerated by many factors not now apparent.
I regard none of these events as likely which is why they would be surprises. But
even one of these surprises would result in large financial gains or losses for many.
And, either of two of them--binding greenhouse gas emissions limits or a
breakthrough in renewable energy storage--would have giant consequences for the
entire world.
Resource Insights
OPEC has declared war on American oil production with the intention of making the
country more dependent on imported oil and on oil in general. By refusing to cut
production in the face of weakening world demand, the cartel has allowed oil prices
to fall more than 35 percent since mid-year to levels that are likely to make most new
oil production in America's large shale deposits unprofitable. That could not only halt
growth in U.S. production, but may lead to an actual drop because production from
How the U.S. could
fight OPEC and win
(and why it won't)

already operating deep shale wells declines about 40 percent per year.
The United States could chose to fight back and possibly win this war with OPEC by
employing one simple, big move. But, I can confidently predict that the country will
not do it. Why? Because it involves a tax, a tariff actually.
Back in 1975 then-Secretary of State Henry Kissinger proposed that the world's oil
importers adopt a floor price for oil. The purpose was threefold: 1) encourage
domestic oil production, 2) accelerate the development of alternative energy sources
by making their price more competitive with oil and 3) encourage conservation of oil
and oil-derived products such as gasoline and diesel fuel.
The easiest way to achieve the floor price, of course, would be to slap a sliding tariff
on imported oil. The formula for such a tariff would be simple: The floor price minus
the price of imported oil unless the price of imported oil equals or exceeds the floor
price, in which case, the tariff would be zero. Imposing a tariff that keeps U.S. oil
prices above, say, $100 per barrel would only return the domestic price of gasoline
and other refined products to their level of just six months ago. Presumably, that
wouldn't be much of a shock to consumers.
I suspect, however, that Kissinger's proposal would be about as popular today as it
was when he proposed it. Back in 1975, it never got off the ground. This was, in part,
because the Europeans and the Japanese objected that, unlike Americans, the two
had few oil resources that might be exploited as a result of such a price guarantee.
In the end, America was unwilling to go it alone.
Ironically, since that time the Europeans and the Japanese have opted for high taxes
on energy including motor fuels--taxes that have had the effect of achieving
Kissinger's objectives two and three, alternative energy development and energy
conservation. Americans have maintained low energy taxes which in part are
responsible for the fact that the average American uses twice as much energy as the
average European.
An oil tariff could actually garner considerable well-heeled, heavyweight political
support from two unlikely bedfellows: the domestic oil industry and the renewable
energy industry. The domestic oil industry, of course, would love a tariff because it
protects the industry's high-cost deep shale deposits from the competition of cheap
OPEC oil imports. The cartel's price suppression strategy specifically targets the

high-cost hydraulic fracturing or fracking in deep shale deposits that has been largely
responsible for the rise in U.S. oil production from a low of 5 million barrels per day
(mbpd) in 2008 to 8.8 mbpd as of September this year.
The renewable energy industry might well join the oil industry in supporting such a
tariff because a high oil price makes alternatives to oil more attractive.
But individual, commercial and industrial consumers of oil and oil products would
object to higher prices. Industrial users, in particular, would complain that they must
compete against other industries abroad that pay less for their petroleum products
(though this might not be true in such high-tax places as Europe).
Another group would almost certainly object to such a tariff: those concerned about
the environmental damage associated with fracking for oil. High domestic oil prices
would only encourage exploitation of more deep shale deposits across America, and
that would necessarily result in broader environmental effects. These activists might
well argue that a hefty carbon which would tax oil and all other carbon energy
sources would be better targeted for reducing energy consumption and spurring
alternatives to fossil fuels--with no need for an import tariff that encourages domestic
oil production. But, recent history suggests that such a tax remains politically
implausible. So, the question is: If the tariff were to be adopted, would the support
provided to alternative energy be an acceptable trade for the damage done to the
landscape?
Of course, anti-fracking activists will retort that they'd like to ban fracking altogether
while the country speeds up deployment of alternative energy. But, the chances for
such a ban, either federal or state, while not zero, are probably smaller than the
chances that the United States will enact an oil tariff.
The beauty of the oil tariff is threefold: 1) The mechanism for collecting it is already in
place. 2) It doesn't mandate exactly how people should go about reducing their
petroleum use; it only incentivizes them to do so. And, 3) it makes significant
headway in addressing one of America's greatest vulnerabilities, our dependence on
foreign oil and on fossil fuels in general. We'd get all this with one tax.
Getting agreement for an oil tariff would be a grand bargain of the first order. It would
require a sort of Alice-through-the-looking-glass transformation across the United
States. Oil industry captains--who tend to have libertarian leanings and who have

consistently and publicly denounced excessive government regulation and taxes--
would have to champion a new tax. The renewable energy industry would have to
embrace its new partnership with the oil industry.
Environmentalists might have to be appeased with new, much stricter environmental
standards for fracking and with assurances that enforcement would be vigorous.
(The oil industry would look foolish opposing such standards when it is being given
such a big financial gift--one that would enable it easily to pay for better
environmental practices.) And, the oil-consuming industries and the public would
have to take the attitude that the tariff is the right thing for the country because it will
force all of us to do the right thing: conserve and seek alternatives to oil and oil
products.
The most likely course, however, is that no such tariff will be adopted. As a result
America's oil industry will slip into a slump. The country will become more dependent
on imports and oil in general. And, when oil prices rise again--as they surely will--the
industry will go right back to fracking America's deep shale deposits at full speed
without any additional environmental safeguards.
Where is Lewis Carroll when you need him?
Resource Insights

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The OPEC Conundrum
Written by Euan Mearns from Energy Matters
When OPEC met on 27th November they decided to leave production unchanged
and to not meet again until June 2015. This at a time of volatility in oil markets and
plunging price that leaves many OPEC member states facing budget deficits, some
large and unmanageable.
In this post I take a look at the oil production and consumption history of OPEC and
find that historically OPEC has been as much controlled by markets as to be in
control of them.

Figure 1 Oil production data for OPEC member states. Indonesia and Gabon have
both left OPEC. The situation in 1998 was very similar to that in 1973 (see text for
details). The $1000 question is whether 2014 is reminiscent of 1979?
Data
There is no satisfactory, easily accessible complete data set for OPEC oil production
and consumption. The EIA archives begin in 1980, a bit too late to be helpful. The
IEA data I have were transcribed from the monthly Oil Market Reports by Rembrandt
Koppelaar and begin in 2002. The BP data begins in 1965 providing the longest time
series and reports production for all OPEC countries. But does not report oil
consumption for 5 countries – Iraq, Libya, Nigeria, Angola and Gabon.
BP report annual crude+condensate+natural gas liquids (C+C+NGL) and I elected to
use this data since it is easy to use, even although it is incomplete. Oil exports are
deduced from the difference between reported production and consumption which is
an imperfect approach.
History
OPEC (the organisation of the petroleum exporting countries) was founded in 1960
by Iran, Iraq, Saudi Arabia, Kuwait and Venezuela. They were soon joined by several
other countries and the membership today is twelve strong. Countries have come
and gone, most notably Indonesia in 2009 since it became an importing country in
2003. Gabon left in 1995.
OPEC first flexed its muscles in 1974 in response to “western” assistance given to
Israel during the Yom Kippur War of 1973. This sent the oil price sky rocketing from
$17 (1973) to $55 (1974) (all prices adjusted to $2013). Surprisingly, OPEC at this
time, did not cut production and the punishment was delivered by an oil embargo.
But up until 1973, OPEC had been expanding production year on year to meet
growing global demand. In 1974, production was not increased and was held
constant for the following six years supporting the artificially raised price (Figure 1).
The second oil shock of 1979 actually had nothing to do with OPEC but was caused
by the Iranian Revolution that sent the price up from $50 in 1978 to $101 in 1979.
Careful examination of Figure 1 shows a slump in Iranian production from 1978
through 1979 and 1980. This was initially partially offset by increased output from

OPEC who at this time wanted to protect their markets from overpriced oil. The price
remained over $100 in 1980 but it then turned downwards, partly in response to the
recession caused by the high price and to new supplies that were coming on stream
all over the world, most notably in the North Sea and Alaska. Sound familiar?
1980 marked the end of oil shock era and the beginning of an 18 year bear market
for the oil price that would collapse to $31 by 1986 and carry on down more slowly to
$18 by 1998, actually spending some time below $10 that year. From 1979, with
prices collapsing, OPEC cut production dramatically for 6 successive years without
managing to halt the slide. But then in 1986 OPEC increased production,
precipitating the final price rout. From then on, OPEC began to exert control over the
oil market rebuilding market share despite prices that continued to slide. Sound
familiar? By 1998, OPEC production had returned to 1979 levels and the price had
almost returned to pre-1974 levels. Market equilibrium had been restored.
The nadir of 1998 was a bleak time for the oil industry. I was running a small service
company at the time and remember it well. This was pre-information age era. Few of
the people I knew in the industry then understood what had just happened and even
fewer imagined what was to follow. Enter the era of mega-mergers.
1998 marked the beginning of the great oil bull run that would see daily price peak at
$148 in 2008 and the annual price peak at $115 in 2011. This bull run was not
caused by OPEC manipulation of events or war but by a simple supply and demand
dynamic where rising price has maintained market equilibrium.
Standing back to look at Figure 1 we see some remarkable similarities between the
situations in 1973 and 1998. OPEC had just increased production significantly to
over 30 Mbpd in each case. The oil price was chronically weak in each case. And in
each case in the following years OPEC maintained constant production and the price
soared. The situation today is not identical to 1979 but it does rhyme. This time
OPEC market share and oil price are not at risk from new giant fields like Prudhoe
Bay, Brent and Forties but from US shale oil.
Consumption and Exports
While many oil watchers will be familiar with the roller coaster OPEC production
data, less are familiar with the monotonic rise of OPEC oil consumption (Figure 2),
especially in the big population countries: Saudi Arabia, Iran, Venezuela and

Indonesia – the latter leaving OPEC when consumption overtook production in 2003.
For the eight OPEC countries with data, consumption was 1 Mbpd in 1965 and has
grown to 8 Mbpd in 2013.
Figure 2 A common feature of oil producing nations is a thirst for oil. OPEC is no
different and has witnessed soaring consumption as prosperity and populations have
soared. No data for Iraq, Libya, Nigeria, Angola and Gabon.

Figure 3 Because of rampant home demand (Figure 2) oil exports from selected
OPEC countries are in decline, a trend that is expected to continue. No data for Iraq,
Libya, Nigeria, Angola and Gabon.
Despite raising production to meet rampant demand since 2005, rampant home
consumption has meant OPEC exports (selected countries) going into slow decline
(Figure 3).
The End of OPEC?
OPEC has had a huge influence on global oil markets and thereby the world
economy, but as shown here has been buffeted around by market events as much
as it has managed to control them. We have entered a new period of uncertainty.
The organisation can be divided into three groups of countries: 1) the dysfunctional –

Iraq, Iran and Libya where future production is just as likely to be controlled by
politics than by design: 2) the declining countries – Algeria, Nigeria, Angola and
Venezuela where resource exhaustion has sent production of conventional crude
into reverse (Figure 4) and 3) the super wealthy gulf states – Saudi Arabia, Kuwait,
UAE and Qatar where production is still rising to cover for falls elsewhere (Figure 1).
How long this can go on for is anyone’s guess. The power of OPEC will increasingly
be placed in the hands of these countries who have the capacity to increase
production and the wealth to withhold it as they see fit. The other countries are along
for the ride.
Figure 4 Just because a country exports oil does not make it immune to the resource
depletion that causes production to peak and then decline as observed in many
countries around the world. These four countries have all experienced production
decline in recent years. This is not necessarily terminal for these countries, but low

oil prices will likely accelerate this process.
The press release from the 166th meeting is worth reading and this paragraph
caught my eye:
Recording its concern over the rapid decline in oil prices in recent months, the
Conference concurred that stable oil prices – at a level which did not affect global
economic growth but which, at the same time, allowed producers to receive a decent
income and to invest to meet future demand – were vital for world economic
wellbeing. Accordingly, in the interest of restoring market equilibrium, the Conference
decided to maintain the production level of 30.0 mb/d, as was agreed in December
2011. As always, in taking this decision, Member Countries confirmed their
readiness to respond to developments which could have an adverse impact on the
maintenance of an orderly and balanced oil market.
This pretty well sums up the OPEC conundrum. But note the closing sentence. They
have elected to take no action but reserve the right to act nonetheless. Expect to see
the super wealthy group of gulf producers cut production well before June 2015.
Energy Matters

New York's Fracking
Ban Reveals Energy
Hypocrisy
Written by Loren Steffy from 30 Point Strategies
When I visit New York City, I often get a headache from the pollution. I notice that
the governor hasn't banned the use of cars. In fact, of all the things that cause
pollution in New York State, Gov. Andrew Cuomo last week chose to ban hydraulic
fracturing, the process used to extract oil and natural gas from shale rock deep in the
earth.
The decision came after a six-year moratorium on fracking in the Marcellus Shale
formation upstate. New York officials decided that fracking could contaminate the air
and water and pose a threat to public health.
First of all, it's important to understand that Cuomo has not banned fracking as he
claims. Instead, he's banned all oil and gas drilling activity in the state. In a report
used to justify the ban, state health officials fretted over fracking's purported dangers,
but never distinguished how fracking differs from conventional drilling in terms of its
environmental impact.
The report mentions water contamination and surface spills. In fact, the water
contamination that has occurred at fracking projects in other states has been the
result of poor wastewater disposal or failed well casings – the tubes that are
designed to project the water table as the drill bit passes through. These aren’t
problems unique to fracking, and most states in which drilling is common already
have regulations to address them.
The report also cites concern about an increase in earthquakes. While this matter
has been studied separately, even the author of that independent study called for
more research on the issue.
Given the moratorium that was already in place, the ban does little to hurt energy
companies directly. But it may encourage more cities and states to jump on the ban

wagon. The industry’s long-standing public relations failures in addressing public
concern about fracking are coming to roost.
That’s already happened here in Texas. Just last month, the town of Denton, north of
Fort Worth, banned fracking within its city limits. Denton sits on the edge of the
Barnett Shale formation. A few miles to the west, in the same formation, Houstonian
George Mitchell perfected the process we now know as fracking over an 18-year
period beginning in 1980.
The difference in Denton’s ban was that it resulted not from vague studies about
“public health” but from residents’ anger at drilling companies’ disregard for the local
quality of life. Companies argued that since they had the right to drill, they could do
so any way they wanted. They could drill next to parks and schools, they could drill
adjacent to people’s homes, and they didn’t care if the process was disruptive.
Residents of Denton are not opposed to drilling for oil and natural gas, they’re
opposed to it being done with a callous disregard for their community and their
quality of life.
That ban now faces legal challenges from state regulators and the oil industry, and
most predictions are that it won’t stand. New York, too, can look forward to years of
litigation over the issue, during which time it may have to actually provide legal proof
of the health threats it continues to claim are unique to fracking.
Of course, while it bans fracking, New York will undoubtedly continue to belch forth
pollutants from the streets of Manhattan and other cities. Neither the governor nor
the public health officials have taken steps to lessen the state’s consumption of fossil
fuels.
In fact, it may even double down on its ongoing hypocrisy of mooching the benefits
of cheap energy from neighboring Pennsylvania, which has shown far more
pragmatism in its energy policy than Cuomo has with his political pandering.
The Marcellus is primarily a natural gas formation, and natural gas prices remain
depressed. By banning fracking, New Yorkers have basically assured that additional
supplies won’t be coming to market and depressing prices further. Cuomo may have
inadvertently provided price supports for the very energy companies he’s trying to
keep out of the state. In theory, all his constituents ultimately could pay more to heat

their homes than they would have if he had lifted the moratorium.
Either way, New Yorkers will continue to enjoy lower prices for gasoline and continue
to switch from heating oil to cheaper natural gas thanks to fracking in other states.
Cuomo’s decision to ban fracking simply underscores the point that New Yorkers
remain blissfully oblivious to the tradeoffs they make every day when it comes to
energy. No wonder my head hurts every time I go there.
Loren Steffy is a managing director with the communications firm 30 Point
Strategies. He is a writer at large for Texas Monthly, a contributor to Forbes and the
author of Drowning in Oil: BP and the Reckless Pursuit of Profit and The Man Who
Thought Like a Ship.Follow him on Twitter: @lsteffy; on Facebook or
at lorensteffy.com.
30 Point Strategies

Oil producers commit
mass suicide
Written by Andrew McKillop from AMK CONSULT
Everyone's A Loser, Baby
David Nelson, former Lehman Bros chief analys speaking on Aljazeera.com's 'Inside
Story', December 11 said that at least in the short term, and possibly for the long
term, OPEC has decided to commit collective suicide by setting a strategy of keep
pumping and hope. The programme quoted a Saudi oil spokesman as saying the oil
market will sort itself out.
Inchallah, to be sure, but the high gain positive feedback of savage write downs on
inflated oil-linked assets, and oil sector de-leveraging to cut debt as loan costs soar
on risky assets could upstage that cozy philosophical approach. World Bank oil
specialist Mamdouh Salameh, also interviewed on 'Inside Story' said that Saudi
Arabia's national budget needs high priced oil to support government spending,
exactly like Russia, Canada, Iran Nigeria, Iraq, Venezuela and a list of other export
producers getting anywhere from 35% to 85% of their total government revenues
from oil. In the US its shale oil producers, according to Salameh, could perhaps live
with $65 or $70 a barrel, but not much less, although in fact that also concerns the
cost of loans to shale producers, which will certainly get more expensive.
Saudi Arabia, Salameh said, needs around $90 a barrel, like Russia, but other
producers like Iran, Iraq, Nigeria and Venezuela need as much as $125 a barrel to
keep their governments alive and kicking. Both in Iraq and Nigeria, battling Islamic
insurgents, this has a clear national security handle. For David Nelson, these are the
Loser Countries and a minority. Major importers including China, Japan and India,
and major European importers will get a boost for consumer spending in particular
and their economies in general, if oil prices stay below $60 per barrel for the next 12
- 18 months. He called this is a major transfer of wealth at the global level, and the
net upside of cheaper oil will be bigger than the downside. Other speakers on 'Inside
Story- - and a host of similar programs and features in world media at this time -
however argue that this oil price crash is not just a story of overproduction or
sluggish demand, or geopolitical action notably aimed at weakening Russia and Iran

(if not ISIS!), but a long-maturing global shift away from oil and fossil energy. Long is
the keyword.
E Sometimes Equals MC Squared
In theory and (repeat) only in theory the oil price crash should trigger a swath of
falling dominos across the so-called tradable asset space. Overpriced oil was as
critical to the financial industry bubble economy as overpriced housing and real
estate still are. Taking the example of oil and gas sector financing, overall capital
expenditure or capex in the sector, which sources such as 'Oil and Gas Journal',
Barclays and Citigroup placed at around $725 billion in 2013-2014, but only $200
billion in 2005-2006, (about 60% of it in the USA and 40% in the rest of the world),
could easily shrink back to 2006 levels. With leverage, more precisely with de-
leverage, the crash of nominal asset values in the sector could be, as they say,
awesome for the bank-broker-insurance companies feeding off the splurge. Not
only oil producers and the finance industry fear the petrodollar glut morphing to
famine - central bankers fear the deflation that will be caused by cheaper energy.
High-priced oil at least bolstered global demand, fed whatever inflation still existed,
and gave the financial industry easy pickings like making no brainer bets on rising
oil prices - that always rose. Until very recently, overpriced oil was forever.
Financial spillover and knock-on from a rapid crash in oil prices could also be
awesome for national debt funding, for example rising bond rates on OPEC and
nonOPEC country loans, with the pain intensified by currency devaluation of the
petromoneys. But sectors favored by cheaper oil - like airlines and shipping - could
lever up in an impressive way, measured as increased equity prices for airline
companies and a slowing of the rout in world shipping. Food producers and retailers
of low-grade meals for the masses like McDonalds or Burger King, who convert oil
to pseudo-food, could get a fillip for their bottom lines, like the equity prices for any
other high BTU economic sector such as carmaking.
Claims by some analysts like Salameh in the Aljazeera programme, are an article of
faith for the International Energy Agency (IEA) and for OPEC's Secretariat. They say
that cheaper oil will rapidly pull global oil demand upwards, despite a host of reasons
to doubt that. The simplistic argument is that falling capex in oil and gas, plus rising
demand on the back of cheaper oil firing economic growth will soon cause another
oil price explosion.

As it did (not do) following the 1986 oil price crash? Looking for models and
precedents, the 1986 oil price crash and its sequels including about 15 years of
cheap oil could be tried - and found wanting. In theory an awesome event, the 1986
price crash had dramatically little impact on the world economy - or on geepolitics.
Cheap oil for example and notably did nothing to slow the deindustrialization of the
“mature western economies and the rise to industrial supergiant status of China -
which in any case was fuelled by coal, not oil.
The financialization of the economy proceeded and today's financial leverage built
from overpriced oil is vastly bigger than in the cheap oil era of about 1986-2002.
Another major and perverse impact of cheaper oil was in economic policy.
Following the 1986 oil price crash (a 67% decline in 6 months), sweet-and-low oil
prices merely served to bolster a decade of slow economic growth in the mature
economies at growth rates which themselves slowly declined. But this process was
called the Clinton boom years for equities due to equities de-linking themselves
from the real economy and floating high and free.The crisis years of 1998-2001
period, starting with the Asian and Russian meltdowns were a partial correction.
Keep Equities Growing
Today, the financialized meta-economy or degutted husk economy is vast, and so
detached from the real economy that a 1986-style oil price crash, on prima facie
grounds should have absolutely no impact, except to stimulate equity growth! In
particularly financialized empty husk economies like the UK, the heroic struggle will
continue to keep house prices rising despite the minor price-shaving impact of
cheaper energy on construction industries, and crony governments will siphon the
benefit of cheaper oil by holding back on any tax and duty cuts on energy, or raising
tax and duties on energy until the bitter political end.
The real and major impact of the current oil price crash is likely to be financial and
geopolitical, not economic. Falling dominos in the finance industry, triggered by oil
price falls could be impressive in their impact, even impacting broad-brush indexes
like the FTSE and SP 500. The OPEC states and Russia are in the firing line for
being forced to install their own austerity programs, which for Saudi Arabia and other
Gulf producers could mean less generous funding for the gory civil war they finance
in Syria.
One unsurprising impact of the 1986 price crash was a massive retreat from oil

sector development - from exploration and development through downstream
petrochemicals, surely fitting the IEA and OPEC Secretariat narrative of cheap oil
setting the scene for another oil price explosion. However, geopolitcal claims for the
benefits of an oil price crash include the sequels following the 1986 price slump. The
1980-1988 Iran-Iraq war was shortened due to both sides losing oil revenues, and
the crash accelerated the collapse of the USSR in 1989. Concerning the Iran-Iraq
war (Iran is now aiding the Baghdad government in its life and death struggle with
ISIS) , both protagonists were starved of petrodollars, but Iraq was bailed out by the
Gulf states, including Kuwait. Everybody knows the sequels of Kuwait demanding full
repayment of its war loans to Saddam Hussein's Iraq! The demise of the Soviet
Union is difficult to attribute mainly to falling oil and gas revenues but the experience
on Russian society of a long, lost decade of economic hardship through the Yeltsin
years likely included the later price hawk attitude to oil by Putin's administrations.
What we might conclude at this time is that a series of financial, economic and
geopolitical events and processes driven by the oil price rout will unfold. Overall,
deflation and a further slowing of economic growth may take the driver's seat, as well
as a major shake-up in the financial sector. However, the geopolitical impacts may
be large and long-term, this time around, but will need time to exert themselves.
AMK CONSULT

Turnabout: OPEC
shows U.S. oil
producers who's boss
To paraphrase Mark Twain: Rumors of OPEC's demise have been greatly
exaggerated.
Breathless coverage of the rise in U.S. oil production in the last few years has led
some to declare that OPEC's power in the oil market is now becoming irrelevant as
America supposedly moves toward energy independence. This coverage, however,
has obscured the fact that almost all of that rise in production has come in the form
of high-cost tight oil found in deep shale deposits.
The rather silly assumption was that oil prices would continue to hover above $100
per barrel indefinitely, making the exploitation of that tight oil profitable indefinitely.
Anyone who understood the economics of this type of production and the dynamics
of the oil market knew better. And now, the overhyped narrative of American oil self-
sufficiency is about to take a big hit.
After weeks of speculation about the true motives behind OPEC's decision to
maintain production in the face of declining world demand--which has led to a major
slump in oil prices--the oil cartel explicitly stated at its most recent meeting that it is
trying to destroy U.S. tight oil production by making it unprofitable.
One of the things a cartel can do--if it controls enough market share--is destroy
competition through a price war. Somehow the public and policymakers got fixated
on OPEC's ability to restrict production in order to raise prices and forgot about its
ability to flood the world market with oil and not just stabilize prices, but cause them
to crash.
The industry claims that most U.S. tight oil plays are profitable below $80. And,
drillers say they are driving production costs down and can weather lower prices.
OPEC's move will now test these statements. The current American benchmark

futures price of about $65 per barrel suggests that OPEC took into consideration the
breakeven points cited in the linked article above.
It is largely Saudi Arabia which enables OPEC to have production flexibility since the
kingdom maintains significant spare capacity, declared to be in the range of 1.5 to 2
million barrels per day (mbpd). OPEC says in its World Oil Outlook 2014 that all of
OPEC has about 4 mbpd of spare capacity, though one analyst recently put the
number at 3.3 mbpd.
Whatever the precise number, in practical terms Saudi Arabia is the Walmart of
world oil markets, able to affect a price drop at the turn of a few valves or through
failure to turn them off in the face of falling demand. In this case, the country did not
turn off any of its production in response to weakening world demand. Nor did other
OPEC members. Having twisted enough arms in the most recent OPEC meeting,
Saudi Arabia got its way with a commitment from OPEC members to hold production
steady, thus putting further pressure on the oil price in the wake of falling
demand. Both of the world's major oil futures contracts fell by 7 percent after the
announcement.
The effect has been far greater in North Dakota than the ongoing drop in futures
prices would indicate. That state, which is at the center of the U.S. tight oil boom, is
far from refineries and pipelines. Oil producers use expensive rail transport to carry
their oil to market. The result is that North Dakota producers face a significant
discount at the wellhead. For October the average discount was $15.40 per barrel
below the U.S. benchmark Light Sweet Crude futures price. If we take that discount
and apply it to last Friday's close, that would imply that North Dakota producers are
now receiving $50.59 per barrel--a level unlikely to be profitable except for the most
prolific wells.
If prices remain that low, OPEC will almost certainly achieve its objective of
preventing significant investment in new production in the state. Other major tight oil
production is centered in Texas, closer to pipelines and thus not subject to discounts
of this magnitude. Still, with oil around $65 per barrel, it is likely that production
would rise very little in Texas in the tight oil plays, if at all. Deposits outside
the sweet spots currently being drilled are almost certainly uneconomic at such
prices.
If a prolonged low price leads to painful and permanent losses for owners of shares

and bonds of the tight oil drillers--and for those invested directly in actual wells--there
will be less appetite among investors to rush in even when oil prices recover. That's
precisely what OPEC is counting upon. It knows that free cash flow (cash earned
from operations minus capital expenditures) for independent drillers has been wildly
negative since 2010. The furious drilling of the past few years has been financed
largely by share issues and debt rather than earnings from previous wells.
At these new low oil prices, it's unlikely that many investors will be willing to put more
money to work in the tight oil deposits of America. That will make it hard for drillers to
fund new drilling since they have insufficient cash being generated by current
operations. In addition, with oil prices significantly down, many independent drillers
may have a hard time paying off their debts, let alone paying the costs of drilling a
large number of new wells. And with yearly field production decline rates in tight oil
areas of about 40 percent--which simply means that no drilling for a year would
result in a 40 percent decline in production--drillers have to drill a large number of
new wells just to make up for production declines in existing wells BEFORE they get
to new wells that actually add to the overall rate of production. A significant drop in
the rate of drilling in U.S. tight oil plays could actually result in lower overall U.S. oil
production.
Lower oil prices tend to increase demand for oil as people can afford more energy
for consumer and industrial purposes. So, OPEC is fully expecting demand and then
prices to rise over the medium term--but not, it hopes, soon enough to bail out tight
oil drillers.
All things being equal, lower oil prices tend to increase economic activity and may
help Europe and Asia avoid a recession by lowering energy costs significantly. But
all things may not be equal since at least one analyst believes the current rout in the
oil markets could lead to cascading defaults that start with the junk bond debt of oil
drillers and move through banks heavily invested in oil company debt. That, in turn,
could cause a general stock market collapse. Thus, instead of promoting economic
growth, low oil prices would be the cause of the next stock market crash and the next
worldwide recession.
Such a recession would likely sink oil prices further, putting extreme financial
pressure on OPEC members less well-endowed than Saudi Arabia. And, it would
upset OPEC's timetable for a return to higher prices and profits--delaying it perhaps
for years. It would also put another nail in the coffin of the American oil

independence story--one that even the ever-optimistic U.S. Department of Energy
never believed at high prices--by moving many of the U.S. oil plays previously
considered viable into the uneconomic category.
Resource Insights
Ten reasons why a
severe drop in oil
prices is a problem
Written by Gail Tverberg from Our Finite World
Not long ago, I wrote Ten Reasons Why High Oil Prices are a Problem. If high oil
prices can be a problem, how can low oil prices also be a problem? In particular,
how can the steep drop in oil prices we have recently been experiencing also be a
problem?
Let me explain some of the issues:
Issue 1. If the price of oil is too low, it will simply be left in the ground.
The world badly needs oil for many purposes: to power its cars, to plant it fields, to
operate its oil-powered irrigation pumps, and to act as a raw material for making
many kinds of products, including medicines and fabrics.
If the price of oil is too low, it will be left in the ground. With low oil prices, production
may drop off rapidly. High price encourages more production and more substitutes;
low price leads to a whole series of secondary effects (debt defaults resulting from

deflation, job loss, collapse of oil exporters, loss of letters of credit needed for
exports, bank failures) that indirectly lead to a much quicker decline in oil production.
The view is sometimes expressed that once 50% of oil is extracted, the amount of oil
we can extract will gradually begin to decline, for geological reasons. This view is
only true if high prices prevail, as we hit limits. If our problem is low oil prices
because of debt problems or other issues, then the decline is likely to be far more
rapid. With low oil prices, even what we consider to be proved oil reserves today
may be left in the ground.
Issue 2. The drop in oil prices is already having an impact on shale extraction
and offshore drilling.
While many claims have been made that US shale drilling can be profitable at low
prices, actions speak louder than words. (The problem may be a cash flow problem
rather than profitability, but either problem cuts off drilling.) Reuters indicates that
new oil and gas well permits tumbled by 40% in November.
Offshore drilling is also being affected. Transocean, the owner of the biggest fleet of
deep water drilling rigs, recently took a $2.76 billion charge, among a “drilling rig
glut.”
3. Shale operations have a huge impact on US employment.
Zero Hedge posted the following chart of employment growth, in states with and
without current drilling from shale formations:

Figure 1. Jobs in States with and without Shale Formations, from Zero Hedge.
Clearly, the shale states are doing much better, job-wise. According to the article,
since December 2007, shale states have added 1.36 million jobs, while non-shale
states have lost 424,000 jobs. The growth in jobs includes all types of employment,
including jobs only indirectly related to oil and gas production, such as jobs involved
with the construction of a new supermarket to serve the growing population.
It might be noted that even the “Non-Shale” states have benefited to some extent
from shale drilling. Some support jobs related to shale extraction, such as extraction
of sand used in fracking, college courses to educate new engineers, and
manufacturing of parts for drilling equipment, are in states other than those with
shale formations. Also, all states benefit from the lower oil imports required.

Issue 4. Low oil prices tend to cause debt defaults that have wide ranging
consequences. If defaults become widespread, they could affect bank deposits
and international trade.
With low oil prices, it becomes much more difficult for shale drillers to pay back the
loans they have taken out. Cash flow is much lower, and interest rates on new loans
are likely much higher. The huge amount of debt that shale drillers have taken on
suddenly becomes at-risk. Energy debt currently accounts for 16% of the US junk
bond market, so the amount at risk is substantial.
Dropping oil prices affect international debt as well. The value of Venezuelan bonds
recently fell to 51 cents on the dollar, because of the high default risk with low oil
prices. Russia’s Rosneft is also reported to be having difficulty with its loans.
There are many ways banks might be adversely affected by defaults, including
 Directly by defaults on loans held be a bank
 Indirectly, by defaults on securities the bank owns that relate to loans
elsewhere
 By derivative defaults made more likely by sharp changes in interest rates or
in currency levels
 By liquidity problems, relating to the need to quickly sell or buy securities
related to ETFs
After the many bank bailouts in 2008, there has been discussion of changing the
system so that there is no longer a need to bail out “too big to fail” banks. One
proposal that has been discussed is to force bank depositors and pension funds to
cover part of the losses, using Cyprus-style bail-ins. According to some reports, such
an approach has been approved by the G20 at a meeting the weekend of November
16, 2014. If this is true, our bank accounts and pension plans could already be at
risk.1
Another bank-related issue if debt defaults become widespread, is the possibility that
junk bonds and Letters of Credit2 will become outrageously expensive for companies
that have poor credit ratings. Supply chains often include some businesses with poor
credit ratings. Thus, even businesses with good credit ratings may find their supply
chains broken by companies that can no longer afford high-priced credit. This was
one of the issues in the 2008 credit crisis.

Issue 5. Low oil prices can lead to collapses of oil exporters, and loss of
virtually all of the oil they export.
The collapse of the Former Soviet Union in 1991 seems to be related to a drop in oil
prices.
Figure 2. Oil production and price of the Former Soviet Union, based on BP
Statistical Review of World Energy 2013.
Oil prices dropped dramatically in the 1980s after the issues that gave rise to the
earlier spike were mitigated. The Soviet Union was dependent on oil for its export
revenue. With low oil prices, its ability to invest in new production was impaired, and
its export revenue dried up. The Soviet Union collapsed for a number of reasons,
some of them financial, in late 1991, after several years of low oil prices had had a
chance to affect its economy.
Many oil-exporting countries are at risk of collapse if oil prices stay very low very
long. Venezuela is a clear risk, with its big debt problem. Nigeria’s economy
is reported to be “tanking.” Russia even has a possibility of collapse, although
probably not in the near future.
Even apart from collapse, there is the possibility of increased unrest in the Middle
East, as oil-exporting nations find it necessary to cut back on their food and oil

subsidies. There is also more possibility of warfare among groups, including new
groups such as ISIL. When everyone is prosperous, there is little reason to fight, but
when oil-related funds dry up, fighting among neighbors increases, as does unrest
among those with lower subsidies.
Issue 6. The benefits to consumers of a drop in oil prices are likely to be much
smaller than the adverse impact on consumers of an oil price rise.
When oil prices rose, businesses were quick to add fuel surcharges. They are less
quick to offer fuel rebates when oil prices go down. They will try to keep the benefit
of the oil price drop for themselves for as long as possible.
Airlines seem to be more interested in adding flights than reducing ticket prices in
response to lower oil prices, perhaps because additional planes are already
available. Their intent is to increase profits, through an increase in ticket sales, not to
give consumers the benefit of lower prices.
In some cases, governments will take advantage of the lower oil prices to increase
their revenue. China recently raised its oil products consumption tax, so that the
government gets part of the benefit of lower prices. Malaysia is using the low oil
prices as a time to reduce oil subsidies.
Most businesses recognize that the oil price drop is at most a temporary situation,
since the cost of extraction continues to rise (because we are getting oil from more
difficult-to-extract locations). Because the price drop this is only temporary, few
business people are saying to themselves, “Wow, oil is cheap again! I am going to
invest a huge amount of money in a new road building company [or other business
that depends on cheap oil].” Instead, they are cautious, making changes that require
little capital investment and that can easily be reversed. While there may be some
jobs added, those added will tend to be ones that can easily be dropped if oil prices
rise again.

Issue 7. Hoped for crude and LNG sales abroad are likely to disappear, with
low oil prices.
There has been a great deal of publicity about the desire of US oil and gas
producers to sell both crude oil and LNG abroad, so as to be able to take advantage
of higher oil and gas prices outside the US. With a big drop in oil prices, these hopes
are likely to be dashed. Already, we are seeing the story, Asia stops buying US
crude oil. According to this story, “There’s so much oversupply that Middle East
crudes are now trading at discounts and it is not economical to bring over crudes
from the US anymore.”
LNG prices tend to drop if oil prices drop. (Some LNG prices are linked to oil prices,
but even those that are not directly linked are likely to be affected by the lower
demand for energy products.) At these lower prices, the financial incentive to export
LNG becomes much less. Even fluctuating LNG prices become a problem for those
considering investment in infrastructure such as ships to transport LNG.
Issue 8. Hoped-for increases in renewables will become more difficult, if oil
prices are low.
Many people believe that renewables can eventually take over the role of fossil fuels.
(I am not of view that this is possible.) For those with this view, low oil prices are a
problem, because they discourage the hoped-for transition to renewables.
Despite all of the statements made about renewables, they don’t really substitute for
oil. Biofuels come closest, but they are simply oil-extenders. We add ethanol made
from corn to gasoline to extend its quantity. But it still takes oil to operate the farm
equipment to grow the corn, and oil to transport the corn to the ethanol plant. If oil
isn’t around, the biofuel production system comes to a screeching halt.
Issue 9. A major drop in oil prices tends to lead to deflation, and because of
this, difficulty in repaying debts.
If oil prices rise, so do food prices, and the price of making most goods. Thus rising
oil prices contribute to inflation. The reverse of this is true as well. Falling oil prices
tend to lead to a lower price for growing food and a lower price for making most
goods. The net result can be deflation. Not all countries are affected equally; some
experience this result to a greater extent than others.

Those countries experiencing deflation are likely to eventually have problems with
debt defaults, because it will become more difficult for workers to repay loans, if
wages are drifting downward. These same countries are likely to experience an
outflow of investment funds because investors realize that funds invested these
countries will not earn an adequate return. This outflow of funds will tend to push
their currencies down, relative to other currencies. This is at least part of what has
been happening in recent months.
The value of the dollar has been rising rapidly, relative to many other currencies.
Debt repayment is likely to especially be a problem for those countries where
substantial debt is denominated in US dollars, but whose local currency has recently
fallen in value relative to the US dollar.
Figure 3. US Dollar Index from Intercontinental Exchange
The big increase in the US dollar index came since June 2014 (Figure 3), which
coincides with the drop in oil prices. Those countries with low currency prices,
including Japan, Europe, Brazil, Argentina, and South Africa, find it expensive to
import goods of all kinds, including those made with oil products. This is part of what

reduces demand for oil products.
China’s yuan is relatively closely tied to the dollar. The collapse of other currencies
relative to the US dollar makes Chinese exports more expensive, and is part of the
reason why the Chinese economy has been doing less well recently. There are no
doubt other reasons why China’s growth is lower recently, and thus its growth in
debt. China is now trying to lower the level of its currency.
Issue 10. The drop in oil prices seems to reflect a basic underlying problem:
the world is reaching the limits of its debt expansion.
There is a natural limit to the amount of debt that a government, or business, or
individual can borrow. At some point, interest payments become so high, that it
becomes difficult to cover other needed expenses. The obvious way around this
problem is to lower interest rates to practically zero, through Quantitative Easing
(QE) and other techniques.
(Increasing debt is a big part of pumps up “demand” for oil, and because of this, oil
prices. If this is confusing, think of buying a car. It is much easier to buy a car with a
loan than without one. So adding debt allows goods to be more affordable. Reducing
debt levels has the opposite effect.)
QE doesn’t work as a long-term technique, because it tends to create bubbles in
asset prices, such as stock market prices and prices of farmland. It also tends to
encourage investment in enterprises that have questionable chance of success.
Arguably, investment in shale oil and gas operations are in this category.
As it turns out, it looks very much as if the presence or absence of QE may have an
impact on oil prices as well (Figure 4), providing the “uplift” needed to keep oil prices
high enough to cover production costs.

Figure 4. World “liquids production” (that is oil and oil substitutes) based on EIA data,
plus OPEC estimates and judgment of author for August to October 2014. Oil price is
monthly average Brent oil spot price, based on EIA data.
The sharp drop in price in 2008 was credit-related, and was only solved when the US
initiated its program of QE started in late November 2008. Oil prices began to rise in
December 2008. The US has had three periods of QE, with the last of these, QE3,
finally tapering down and ending in October 2014. Since QE seems to have been
part of the solution that stopped the drop in oil prices in 2008, we should not be
surprised if discontinuing QE is contributing to the drop in oil prices now.
Part of the problem seems to be differential effect that happens when other countries
are continuing to use QE, but the US not. The US dollar tends to rise, relative to
other currencies. This situation contributes to the situation shown in Figure 3.
QE allows more borrowing from the future than would be possible if market interest
rates really had to be paid. This allows financiers to temporarily disguise a growing
problem of un-affordability of oil and other commodities.
The problem we have is that, because we live in a finite world, we reach a point
where it becomes more expensive to produce commodities of many kinds: oil
(deeper wells, fracking), coal (farther from markets, so more transport costs), metals
(poorer ore quality), fresh water (desalination needed), and food (more irrigation

needed). Wages don’t rise correspondingly, because more and more labour is
needed to provide less and less actual benefit, in terms of the commodities produced
and goods made from those commodities. Thus, workers find themselves becoming
poorer and poorer, in terms of what they can afford to purchase.
QE allows financiers to disguise growing mismatch between what it costs to produce
commodities, and what customers can really afford. Thus, QE allows commodity
prices to rise to levels that are unaffordable by customers, unless customers’ lack of
income is disguised by a continued growth in debt.
Once commodity prices (including oil prices) fall to levels that are affordable based
on the incomes of customers, they fall to levels that cut out a large share of
production of these commodities. As commodity production drops to levels that can
be produced at affordable prices, so does the world’s ability to make goods and
services. Unfortunately, the goods whose production is likely to be cut back if
commodity production is cut back are those of every kind, including houses, cars,
food, and electrical transmission equipment.
Conclusion
There are really two different problems that a person can be concerned about:
1. Peak oil: the possibility that oil prices will rise, and because of this production
will fall in a rounded curve. Substitutes that are possible because of high
prices will perhaps take over.
2. Debt related collapse: oil limits will play out in a very different way than most
have imagined, through lower oil prices as limits to growth in debt are
reached, and thus a collapse in oil “demand” (really affordability). The
collapse in production, when it comes, will be sharper and will affect the entire
economy, not just oil.
In my view, a rapid drop in oil prices is likely a symptom that we are approaching a
debt-related collapse–in other words, the second of these two problems. Underlying
this debt-related collapse is the fact that we seem to be reaching the limits of a finite
world. There is a growing mismatch between what workers in oil importing countries
can afford, and the rising real costs of extraction, including associated governmental
costs. This has been covered up to date by rising debt, but at some point, it will not
be possible to keep increasing the debt sufficiently.

The timing of collapse may not be immediate. Low oil prices take a while to work
their way through the system. It is also possible that the world’s financiers will put off
a major collapse for a while longer, through more QE, or more programs related to
QE. For example, actually getting money into the hands of customers would seem to
be temporarily helpful.
At some point the debt situation will eventually reach a breaking point. One way this
could happen is through an increase in interest rates. If this happens, world
economic growth is likely to slow greatly. Oil and commodity prices will fall further.
Debt defaults will skyrocket. Not only will oil production drop, but production of many
other commodities will drop, including natural gas and coal. In such a scenario, the
downslope of all energy use is likely to be quite steep, perhaps similar to what is
shown in the following chart.
Figure 5. Estimate of future energy production by author. Historical data based on
BP adjusted to IEA groupings.
Notes:
[1] There is of course insurance by the FDIC and the PBGC, but the actual funding
for these two insurance programs is tiny in relationship to the kind of risk that would
occur if there were widespread debt defaults and derivative defaults affecting many
banks and many pension plans at once. While depositors and pension holders might

try to collect this insurance, there wouldn’t be enough money to actually cover these
demands. This problem would be similar to the issue that arose in Iceland in 2008.
Insurance would seem to be available, but in practice, would not pay out much.
Also, I learned after writing this post that bail-ins were mandated for US banks by
the Dodd Frank Wall Street Reform and Consumer Protection Act of 2010. In the
language of the summary, bank depositors are “unsecured creditors,” and are thus
among those to whom the burden of loss is transferred. The FDIC is not allowed to
borrow extra funds, beyond bank funds, to cover this loss.
[2] LOCs are required when goods are shipped internationally, before payment has
actually been made. They offer a guarantee that a buyer will be able to “make good”
on his promise to pay for goods when they arrive.
Our Finite World
The oil price is all
about ONE number
right now
Written by Keith Schaefer from Oil Gas Investments Bulletin
There is only ONE number in the oil price saga that’s important to investors. It’s the
same number the Saudis are tracking.
That is: how much did US oil production increase in the last week.
That number is released every Wednesday morning at 10:30 EST in the weekly EIA
(US Energy Information Administration) put out by the US government.

Investors can find that data right here—the direct link is: Weekly US Oil Production
Increase (just scroll down to the bottom or click on the excel file)
The global oil price will have its biggest 30 minute move of the week right at 10:30
am right then—both the international Brent benchmark and the US domestic WTI
(West Texas Intermediate) price.
Why is this number so important?
Because it’s very clear in Saudi communications they want to put a bridle on
galloping US oil production.
(Notice I didn’t say OPEC. The Saudis don’t care a whit about other OPEC countries.
Members like Nigeria, Algeria, Venezuela are either so corrupt or so unable to cut
production that the Saudis ignore them—as they should.)
The Saudis are watching this US production number like a hawk—as they should.
The unbridled oil production growth in the US from the Shale Revolution has
disrupted oil flows and prices like nothing else since the OPEC embargo in the early
1970s.
Everyone has seen this chart of US oil production:
That’s a very steep upward curve right now. US oil production is on a RAPID
increase. Here’s the excel file from the weekly EIA report, and I added a third column
and calculated the weekly change in production for the last few months:

There have been a couple times that US production has dropped a couple weeks in
a row this year.
For the Market to begin to think the oil price has bottomed, it has to see US
production drop AT LEAST THREE weeks in a row.
Only God knows when that might happen.
Improvements in fracking are STILL increasing flow rates per metre drilled—five
years after the Shale Revolution really took off.
This is increasing cash flows and reducing break-even costs for tight oil producers.
Exports of US refined products continue to hit new highs—now over 4 million barrels
a day.
Personally, I don’t think the Saudis start to collect other OPEC members to talk

about cutbacks until the price is low enough that American oil production growth
slows down—a lot.
By the way, this number is always a true surprise to the Market.
Gas production can be estimated with pipeline flows (in fact US energy consultant
Bentek out of Denver Colorado puts out a daily estimate of US natural gas
production) but with the weekly Wednesday morning oil number—there is no way to
“game” that number.
What are not-so-relevant numbers?
1. Overall, all-in costs for oil and gas production. These numbers are great for
PhDs, academics or first year college economics students. But for investors
they are meaningless. In the short term during a rout like this, there is no
bottom—especially with financial derivatives deciding much of the price
movement.
2. The price that various OPEC countries need to balance their budgets. Like I
said, the Saudis are the only relevant producer in OPEC and they don’t care
about the other countries in the cartel (yet)—so investors need not bother with
this statistic either.
EDITORS NOTE–The lower Canadian dollar has shielded close to half the drop in
the price of oil. So their cash flows could surprise the Market in early 2015. I have a
new report which outlines my Top 3 Juniors that will the biggest and fastest inflows
as oil finds a bottom. It’s where the easy money will be–and soon. Click Here to be
positioned to profit.
Oil Gas Investments Bulletin

The 2014 oil price
crash explained
Written by Euan Mearns from Energy Matters
 In February 2009 Phil Hart published on The Oil Drum a simple supply
demand model that explained then the action in the oil price. In this post I
update Phil’s model to July 2014 using monthly oil supply (crude+condensate)
and price data from the Energy Information Agency (EIA).
 This model explains how a drop in demand for oil of only 1 million barrels per
day can account for the fall in price from $110 to below $80 per barrel.
 The future price will be determined by demand, production capacity and
OPEC production constraint. A further fall in demand of the order 1 Mbpd may
see the price fall below $60. Conversely, at current demand, an OPEC
production cut of the order 1 Mbpd may send the oil price back up towards
$100. It seems that volatility has returned to the oil market.

Figure 1 An adaptation of Phil Hart’s oil supply demand model. The blue supply line
is constrained by data (see Figure 4). The red demand lines are conceptual. Prior to
2004, oil supply was fairly elastic to changes in price, i.e. a small rise in price led to a
large rise in production. This is explained by OPEC opening and closing the taps.
Post 2004, oil supply became inelastic to price, i.e. a large change in price led to
marginal increase in supply. This is explained by the world pumping flat out. Demand
tends to be fairly inelastic and inversely correlated with price in that high price
suppresses demand a little. Supply and price at any point in time is defined by the
intersection of the supply and demand curves. 72 Mbpd and $40 / bbl in 2004
became 76 Mbpd and $120 / bbl in 2008 as demand for oil soared against inelastic
supply.
Figure 2
Followers of the oil market will be familiar with the recent evolution of oil supply and
price shown in Figure 2.

Figure 3
What is less widely appreciated is that a cross plot of the data shown in Figure 2
results in the well-ordered relationship shown in Figure 3. Oil supply and price are
clearly following some well established rules. This relationship led to Phil Hart
developing his model shown as Figure 1.

Figure 4
Separating the data into two time periods brings more clarity to the process at work.
The data define a fairly well-ordered time series beginning at January 1994 at the
bottom left rising slowly to January 2004 and then steeply to the Olympic Peak of
July 2008. The financial crash then caused the oil price to give up all of its gains
returning to 2004 levels by December 2008.

Figure 5
The second time period from January 2009 to the present shows some different
forces at work. Starting in 2009 some new production capacity was built. This was
not in OPEC and is concentrated in N America where the light tight oil (LTO) boom
took off supplemented by steady expansion of tar sands production. Prior to 2009,
the production peaks were of the order 74 Mbpd. Post 2009 peaks of the order 77
Mbpd were achieved. About 3 Mbpd new capacity has been added. In May 2011
there is a significant and curious excursion to lower production not accompanied by
a fall in price. This coincides with Libya coming off line for the first time and the loss
of 1.6 Mbpd production. It seems possible that this coincided with weak demand and
the fortuitous loss of production cancelling weak demand leaving price unchanged.
The EIA are always running a few months behind with their statistics these days, not
ideal in a rapidly changing world. Thus we do not yet have the data to see the recent
crash in the oil price. But we know the price has fallen below $80 and production is
unlikely to be significantly changed. So, how do we explain production of roughly 77

Mbpd and a price below $80?
Figure 6
Figure 6 updates Phil Hart’s model (Figure 1) to take account of the oil supply and
price movements of the last 5 years. Capacity expansion is achieved by adding 3
Mbpd to the former, well-defined supply-price curve (blue arrow). There is no a-priori
reason that this curve should hold in the new supply-price regime, but for the time
being that is all I have to work with. The red lines, as described in the caption to
Figure 1, conceptually represent inelastic demand where high price marginally
suppresses demand for oil. The recent past has seen oil priced at $110 with supply
running at about 77 Mbpd as defined by the right hand red coloured demand curve.
Reducing demand by about 1 Mbpd brings the price below $80 / bbl (red arrow).

The Recent Past and the Future
Old hands will know that it is virtually impossible to forecast the oil price. The
anomalous recent price stability of $110±10 I believe reflects great skill on the part of
Saudi Arabia balancing the market at a price high enough to keep Saudi Arabia
solvent and low enough to keep the world economy afloat. The reason Saudi Arabia
has not cut production now, when faced with weak global demand for oil, probably
comes down to their desire to maintain market share which means hobbling the N
American LTO bonanza. Alternatively, they could be conspiring with the USA to
wreck the Russian economy? But Saudi Arabia is not the only member of OPEC and
the economies of many of the member countries will be suffering badly at these
prices and that ultimately leads to elevated risk of civil unrest. It is not possible to
predict the actions of the main players but it is easier to predict what the outcome
may be of certain actions.
1. If demand for oil weakens by about a further 1 Mbpd this may send the price
down below $60 / bbl.
2. If OPEC cuts supply by about 1 Mbpd at constant demand this may send the
price back up towards $100 / bbl.
3. Prolonged low price may see LTO production fall in N America and other non-
OPEC projects shelved resulting in attrition of non-OPEC capacity. This may
take one to two years to work through but with constant demand, this will
inevitably send prices higher again.
4. Prolonged low price may see many specialist LTO producers default on loans,
risking a new credit crunch and reduced LTO production. This would likely
lead to a major consolidation of operators in the LTO patch where the larger
companies (the IOCs) pick up the best assets at knock down prices. That is
the way it has always been.
5. Black Swans and elephants in the room – with conflict escalation in Ukraine
and / or Syria-Iraq and a new credit crunch, all bets will be off.
Energy Matters

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together further

Greed explained: J.
Paul Getty, Aristotle
and the Maximum
Power Principle
Regular readers know I often write about energy, and while this piece may not at first
blush seem like an energy story, you'll soon see that the quest for an ample supply
of energy is, in fact, at the heart of human greed.
Greed is often said to be a central cause of our ecological and social ills. It motivates
excessive and injurious exploitation of the planet and thus threatens the existence of
many species including humans themselves. It leads to excessive economic
inequality and the social ills presumed to be associated with that inequality. And, of
course, greed is regarded as not just bad for the biosphere or society; it's bad for the
soul and therefore earns a place on the list of the seven deadly sins.
Many people are convinced that greed is learned and therefore can be unlearned or
not taught in the first place. Others believe that greed is simply an inherent evil in
humans, part of the human condition.
Someone once asked oil tycoon J. Paul Getty how much money is enough. He
replied, A little bit more. The fictional financier Gordon Gekko in Oliver Stone's film
Wall Street--who is best known for the phrase greed is good--gives a different
answer: It's not a question of enough, pal. It's a zero-sum game - somebody wins,
somebody loses. Money itself isn't lost or made, it's simply transferred - from one
perception to another. Finally, I offer the words of Noah Cross, a character played
by John Huston in the film Chinatown. Cross is asked what else such an
enormously wealthy man as himself could possibly want, and he replies: The
future.

In these three quotes we have the essence of Howard Odum's Maximum Power
Principle. (See, I told you we would come back to energy!) Essentially, what Odum
observed is that living systems--humans, for example--seek to maximize their energy
gain. Now, in modern society, the way humans primarily gain access to energy is
through money. Money, it turns out, is merely what allows us to command energy--in
the form of humans, machines, or even animal power--to do what we want it to do.
Money is essentially a method of assigning energy credits. And, energy, of course,
can used be to make us a product, render us a service, or provide either of these to
someone else as a gift or in fulfilment of a contractual obligation. Without energy,
nothing gets done.
Many people believe as J. Paul Getty did--that one can never have enough money
(read: energy). But, Gordon Gekko enunciates an important implication of the
Maximum Power Principle: People will compete with one another for the available
energy supplies (in the form of money or other types of wealth). And, Noah Cross, in
ways both literal and figurative, shows us just how far people are willing to go to
have an impact on the future, to insure the continuation of their genetic line and their
vision for their community.
Despite our modern pretensions, we humans are still all part of an evolutionary
process that pushes us to compete for survival and for the propagation of our genes.
Access to energy (and all of its products and services) confers advantages in this
contest. And, energy in the form of wealth provides a special intangible advantage:
increased social status which can be an asset when pursuing sexual partners.
Wealth attracts members of the opposite sex because it implies the ability to care for
a spouse and for any offspring and provide many advantages such as ongoing
access to better health care, nutrition, education and social opportunities.
Aristotle noted that the desires of men are unlimited. He also claimed that the
amount of household property which suffices for a good life is not unlimited. Aristotle
is most often associated with the notion of the golden mean. Simply stated, it
signifies not too much and not too little in all things.

Thus, Aristotle's vision seems contrary to the Maximum Power Principle. Why would
anyone intentionally limit the amount of energy available to oneself? There is
probably a theoretical limit to the amount of energy that might be useful to any one
human being. The entire energy output of the Sun, for instance, would likely be
beyond the capability of one human to manage and use to gain advantage. But, the
world has many billionaires who find no end of ways to spend their accumulated
energy credits and who often populate the world with many heirs from many
marriages.
What possible force could counteract the drive for dominance and self-propagation
and thus the desire to maximize one's energy gain to facilitate that dominance?
There is research which suggests that beyond a certain point of energy consumption
(around 100 gigajoules per year per person), quality of life measures for modern
societies barely improve. But that's for society as a whole, not the individual.
As it turns out, we humans have a long history of contemplative traditions, both
religious and secular, traditions that preach simplicity and often poverty as a way of
life. These traditions eschew worldly goods or at least maintain that each person
should have just what he or she needs for a good life and no more. How do such
traditions square with the Maximum Power Principle? The people who adhere to
these traditions, after all, voluntarily and consciously choose to consume less energy
than they might otherwise be able to.
There may be a clue in that. Our default instinctual response is to seek advantage
over others. Yes, we may cooperate where that seems the wisest course or where it
is apparent that we cannot dominate the situation. But, even within one group or
nation, there is simultaneous cooperation AND competition. But, we do not ordinarily
cooperate to REDUCE our access to resources.
So, we might say that such voluntary and conscious choosing is the next step in
evolution. But, how can it be? Such a way of life has been a feature of many
civilizations throughout history. It is already a feature of evolution in that those who
choose such a way of life have not died out. It may be that such a path is an
adaptive response which optimizes human survival over time. This is merely
speculation. But it would explain why self-abnegation is so persistent across cultures
and across time. When humans need the gene that tells them to reduce their
resource use, it is there.

But there is another claim made for the simple life, for a life which seeks only what is
sufficient to thrive rather than to dominate. Quite often those following this path say
they are happier than they were when following the path of continual acquisition of
wealth and status. That claim, however, would seem to make millions of years of
human evolutionary development appear pathological--unless you realize that
natural selection optimizes life for survival and propagation, not happiness.
Therefore, our default behaviors are tuned to help us survive and pass on our genes,
not necessarily bring us contentment (as is evidenced, in part, by the modern divorce
rate).
That is not to say that there isn't some happiness in mere survival and certainly
some in the process of creating and rearing new life. But, this is not the kind of
happiness that those preaching simplicity mean. They mean an enduring, deeply felt
and persistent sense of satisfaction in an entire way of life.
A friend who used to serve very wealthy clients for a Wall Street brokerage firm once
remarked that even as clients doubled or tripled their wealth, they seemed no
happier. Such is the drive for dominance that many people continually seek invidious
comparisons with others. Even though such comparisons may bring about enhanced
social status, they do not seem to result in any deeper contentment.
Whether that part of us which allows us to find happiness with less, which allows us
to loosen the chains of our drive for dominance and replace them with cords that
bind us to others for mutual benefit--whether such an outlook will be awakened
among more than a small sliver of the population is an open question. The evidence
is not promising. The ruthless tend to get ahead and are often held up as examples
of how to live.
But the story isn't over. With the challenges that humans now face in climate change,
resource depletion, soil degradation, water scarcity and myriad other issues
impinging on human survival--all of which have their origins in excessive energy use-
-we may find that the cooperative and abstemious strains within us may be called to
the fore. Or we may find that these problems simply lead to a Hobbesian war of all
against all.

So, the question is: Do we--meaning the human species as a whole--have any
choice in the matter? Or are we as a species destined to live by the Maximum Power
Principle to its seemingly inevitable and calamitous conclusion--a story in which the
drive for maximum energy gain is no longer adaptive, but rather dangerous to the
continued existence of humankind?
Our actions will be our answer.
Resource Insights
Making sense of OPEC
oil market politics
Written by Gary Hunt from Tech Creative Labs LLC
SOURCE Chatham House
Saudi Arabia has always provided the adult supervision among the 12 OPEC
members. The November 27th meeting in Vienna was no different as OPEC refused
to cut production targets from the present 30 million barrels a day. But the reality that
global oil prices have fallen more than 30% is hitting OPEC members in their wallets

making for more tension going into this meeting.
Saudi Arabia and its Gulf allies Kuwait, UAE, Qatar stood their ground saying they
wanted to let the market find its own balance and that meant lower prices for a while.
For the Saudi’s and the Gulf states this is an inconvenience but for many oil
producing states lower sustained oil prices are a crisis.
Iran, Venezuela, Mexico, Algeria, Libya, Iraq and other OPEC members depend
more heavily on oil income and lower oil prices are hurting their budgets hard. They
argued strongly for a production cut to bring the price of oil back nearer to $100 per
barrel. All OPEC’s members would like to see oil prices stay in the $100 per barrel
range but there is a big shift underway in oil markets and the Saudi’s are also
making a big shift from defence to offense to deal with it.
OPEC is caught in the a big shift in world oil markets reflecting fundamental
changes:
1. Market discipline among OPEC members. The Saudi’s grew tired of being
taken advantage of by their OPEC partners who often cheat on production
targets taking Saudi market share. Leaving production targets in place forces
all OPEC members to face the music of lower prices.
2. OPEC and Non-OPEC member competition. Non-OPEC crude oil
production growth is coming largely from the Caspian region, Russia and the
United States. Russian and Caspian crude is finding a market in China
because of their locational advantages. But it is the US supply growth from
the shale revolution under way that presents the biggest threat to OPEC
market power.
3. Regional energy competition between the West, Russia and China. Even
though China’s economic growth is slowing its energy appetite is still huge.
Lower oil prices are like winning the lottery for China. It will strike hard
bargains with Russia stung by Western sanctions. China is pouring capital
into Caspian infrastructure to assure its access. US shale supply growth is
reducing its oil imports and only infrastructure congestion and political
correctness prevent the North America from further expanding crude oil
exports. These factors limit the use of energy as a political weapon by Russia
and other Middle East oil suppliers changing the market dynamic in the
Kingdom’s favour.

4. Weak Global Economic Growth Increases Oil Market Competition. The
economic fundamentals tell us that world oil demand growth has weakened in
China, the EU, Brazil and Russia. Overall world crude production is projected
to grow at an annual rate of about 1%, with OPEC production expected to
grow at annual rate of 1.4% but so is its domestic demand. But OPEC faces
increasing global competition from North America and fears the spread of the
shale revolution worldwide.
By letting prices fall, Saudi Arabia is forcing price discovery to test the real price
band for the current market conditions. The Kingdom is betting the market will find its
own equilibrium—they just don’t know where or when. Current speculation is oil
prices may fall another $10 before the squeeze sets in—we’ll just have to ride this
out and see what happens—that seems to be the prevailing view.
Meanwhile, since the Saudi’s can afford the lower prices better than most others this
price discovery process brings other advantages for the Kingdom. It reduces market
share erosion from the inevitable cheating after OPEC production cuts. It squeezes
weaker players out of the market and puts pressure on the US onshore producers to
defer CAPEX, cut OPEX, and sets up a distracting consolidation wave as weaker
players sell acreage or themselves to stronger players.
Who gets hurt by lower oil prices?
The US EIA reports that the December 2015 WTI futures contract price decreased
by $7.56/bbl, less than the decline in futures contracts for WTI crude oil delivery in
December 2014 and June 2015. The market seems to be baking lower oil prices into
its short term hedging calculus.
For the Saudi’s there are geopolitical calculations in this multidimensional game.
Both inside OPEC and out the biggest impact of lower crude prices is to opponents
of Saudi Arabia especially
 Iran (negotiating a nuclear deal with the West the Saudi’s do not want);
 Russia (meddling in its near abroad as Putin attempts to put the Soviet
superpower toothpaste back in the global power tube);
 Iraq and Syria (seen as proxies of Iran given the US weakness in the region);
and the
 US (where slowing down the shale revolution threat is a bonus).

OilVoice - January 2015

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OilVoice - January 2015