Posted: Wed May 07, 2008 7:49 am Post subject: Feedback Loop in Oil Pricing
Often overlooked in the grand scheme of things, is the dependency of oil producers on their own products.
We tend to look at the downstream effect of higher oil prices on the various markets which are dependent on the products refined from oil. If this logic is correct, that as oil's price soars higher the price of these products which depend on oil also rise, then the same logic must hold true for oil production itself.
This feedback loop means that as oil becomes more expensive it becomes even more expensive to locate, extract & produce that oil. Which in turn, causes even higher oil prices, which again raises the cost of oil production.
You get the idea...
This compounding effect becomes more & more pronounced the higher the relative price of oil climbs, creating a cascading effect which will eventually lead to price "super-spikes" where large jumps in price may happen very quickly compared to traditional inflation.
Because markets can't adjust quickly to these super-spikes, the potential for collapse of markets becomes a realistic fear as oil continues it's meteoric climb skyward.
Your dog wants blissful ignorance. _________________ "When you understand why you dismiss all the other possible gods, you will understand why I dismiss yours." - Stephen F Roberts.
Joined: May 02, 2005 Posts: 3422 Location: Oh really?
Posted: Wed May 07, 2008 8:54 am Post subject: Re: Feedback Loop in Oil Pricing
Those that wave off ERoEI as not particularly important should pay close attention. _________________ "It's not demand; It's not supply.
It's coming up with credit to buy"
Posted: Wed May 07, 2008 9:42 am Post subject: Re: Feedback Loop in Oil Pricing
Aaron wrote:
....
This feedback loop means that as oil becomes more expensive it becomes even more expensive to locate, extract & produce that oil. Which in turn, causes even higher oil prices, which again raises the cost of oil production.
You get the idea...
....
BINGO!
Remember this argument back when oil was $15?
"When oil reaches $35, Canadian tar sands will become viable and flood the oil market. Thereby keeping a 'ceiling' on oil prices." *insert laughter*
Your feedback loop theory explains why that argument does not work.
//
I'd like to add to your theory Aaron.
There's also the "substitution theory".
As oil gets more expensive people will try to find a substitution and that will push up the price of whatever commodity that is suppose to take the place of oil.
for example:
1) corn ethanol will make corn expensive
2) People in China ride electric bicycles powered by lead acid batteries to save on fuel - the price of lead metal has increased 4 fold in the past couple years
3) there's not enough cheap lithium to go around for us to drive electric cars
4) switching to natural gas powered cars would make the cost of natural gas explode
Take note: this "substitution theory" should not be confused with the "inflation theory" which basically says oil is a necessary component of everything therefore if oil goes up, everything goes up.
Posted: Wed May 07, 2008 11:31 am Post subject: Re: Feedback Loop in Oil Pricing
I believe this is precisely why there has been little reinvestment into additonal infrastructure and facilities. I forget the exact statistics but the last refinery was built in the states when? How old are the tanker fleets?
This is also why the oil majors can create such massive profits - the infrastructure investments have long ago paid for themselves. The fields that are still under corporate control just pump out money. Why reinvest when you're posting earnings in excess of 10 billion dollars.
Posted: Wed May 07, 2008 12:05 pm Post subject: Re: Feedback Loop in Oil Pricing
Rage wrote:
I believe this is precisely why there has been little reinvestment into additonal infrastructure and facilities. I forget the exact statistics but the last refinery was built in the states when? How old are the tanker fleets?
This is also why the oil majors can create such massive profits - the infrastructure investments have long ago paid for themselves. The fields that are still under corporate control just pump out money. Why reinvest when you're posting earnings in excess of 10 billion dollars.
This is the largest part of the problem. Supply may be diminishing, but market strategy dictates that rather than trying to ameliorate this by actually doing exploration, building more infrastructure, you let your old infrastructure crank away, a rusting cash cow. Then you whine and complain that it's purely a supply problem, out of one side of your mouth while doing a big ka ka ka....ching!!! with the other. Mopping up record profits, while cutting back on exploration and basic maintenance should be a major red flag for those interested in their own exploration of what is actually going on here. A little basic research on how British Petroleum has conducted itself in the last decade is illuminating.
Posted: Wed May 07, 2008 12:13 pm Post subject: Re: Feedback Loop in Oil Pricing
Quote:
The refinery and petrochemical project at Paradip in Orissa was initially estimated in 2006 to cost 256.5 billion rupees (about $6.2 billion at the time), but similar projects worldwide have been scrapped due to surging contractor and material costs.
Bankapur said in an interview he was confident that the board would give it the green light to move ahead with the refinery, which is planned to be one of the world's most advanced.
He said that costs have risen, but declined to say by how much.
"We are working on the cost estimates. Steel prices have gone up by around 30 percent. In the next seven to ten days we will hopefully get a board approval," he said.
Posted: Wed May 07, 2008 1:17 pm Post subject: Re: Feedback Loop in Oil Pricing
Rage wrote:
This is also why the oil majors can create such massive profits - the infrastructure investments have long ago paid for themselves. The fields that are still under corporate control just pump out money. Why reinvest when you're posting earnings in excess of 10 billion dollars.
This seems to be a very narrow minded short-term view. Of course those projects pay off when oil prices are high but remember all those decades when it was tough to make a major poject economic.
Think about the major projects. How long do those projects take from start (an idea) to finish (selling product)??? The time frame is years and some 10+ years.
How can you justify a multi-billion dollar project that is going to take 10 years to complete all the while remembering getting burned by OPEC in the past when they flood the markets with oil.
I believe OPEC cannot do that now but majors don't want to bet billions of dollars on that.
Joined: Nov 27, 2004 Posts: 217 Location: Federal City, USA
Posted: Wed May 07, 2008 1:30 pm Post subject: Re: Feedback Loop in Oil Pricing
This phenomenon which you're describing Aaron is called "The Law of Receding Horizons." I was just thinking the same thing earlier, and it actually came up in another thread... so maybe we're all on the same page about this.
Some challenge its significance. But, my feeling is that time will show that alternatives will never ramp up significantly. They will become dogs chasing their own tail.
Check out an article on the subject of The Law of Receding Horizons. Interesting stuff. _________________ Where there once were hopes and dreams, now there is smoke and rubble. And zombies.
Posted: Wed May 07, 2008 1:51 pm Post subject: Re: Feedback Loop in Oil Pricing
joeltrout wrote:
Rage wrote:
This is also why the oil majors can create such massive profits - the infrastructure investments have long ago paid for themselves. The fields that are still under corporate control just pump out money. Why reinvest when you're posting earnings in excess of 10 billion dollars.
This seems to be a very narrow minded short-term view. Of course those projects pay off when oil prices are high but remember all those decades when it was tough to make a major poject economic.
Think about the major projects. How long do those projects take from start (an idea) to finish (selling product)??? The time frame is years and some 10+ years.
How can you justify a multi-billion dollar project that is going to take 10 years to complete all the while remembering getting burned by OPEC in the past when they flood the markets with oil.
I believe OPEC cannot do that now but majors don't want to bet billions of dollars on that.
joeltrout
The only major threat to majors is that their monumental greed, together with OPEC's shoring up of American banks, will lead to their own demise. I imagine them proceeding lemming like, over a cliff, to the sounds of ringing cash registers.
Posted: Wed May 07, 2008 2:05 pm Post subject: Re: Feedback Loop in Oil Pricing
threadbear wrote:
The only major threat to majors is that their monumental greed, together with OPEC's shoring up of American banks, will lead to their own demise. I imagine them proceeding lemming like, over a cliff, to the sounds of ringing cash registers.
I think there are a few more threats such as increased taxes from govts including the US govt, their size compared to NOCs, labor shortages, exploration restrictions, etc...
Posted: Wed May 07, 2008 2:43 pm Post subject: Re: Feedback Loop in Oil Pricing
That is, 10 billions dollars in the first quater alone.
Quote:
This seems to be a very narrow minded short-term view. Of course those projects pay off when oil prices are high but remember all those decades when it was tough to make a major poject economic.
It is narrow minded and very short term but that is, after all, what has gotten our society into this mess in the first place. When the time comes there will be further contractions and mergers in a what has been for a while a dying industry. We just don't know when it will be officially dead.
One thing we do know with certainty is that if the finances look good the job will get done. Nobody in their right mind is going to walk away from a project with a reasonable rate of return. The major concern as I have read it in the news recently are exploration restrictions as joeltrout mentions, imposed by National governments such as Russia's very one-sided profit limiting deal for exploration and production rights to Sibreian fields and exportation restrictions as Mexico will soon start to experience as they flip from a net exporter to a net importer.
Posted: Wed May 07, 2008 3:20 pm Post subject: Re: Feedback Loop in Oil Pricing
Rage wrote:
It is narrow minded and very short term but that is, after all, what has gotten our society into this mess in the first place.
I agree completely with that but it is not the oil companies fault.
Rage wrote:
One thing we do know with certainty is that if the finances look good the job will get done. Nobody in their right mind is going to walk away from a project with a reasonable rate of return.
The company I work for invests in smaller domestic oil and gas projects and one problem we have seen is other institutions are using $90+ for their price deck which is fine if oil stays over $90. But if oil pulls back then a lot of those projects are quickly uneconomical which means they will try and sell them most likely for a loss. It could also mean shutting in production which really doesn't matter when you are talking about global production but it hurts those with jobs based around those projects.
Posted: Wed May 07, 2008 8:58 pm Post subject: Re: Feedback Loop in Oil Pricing
Aaron wrote:
If this logic is correct, that as oil's price soars higher the price of these products which depend on oil also rise, then the same logic must hold true for oil production itself.
Fortunately, oil production tends not to depend on oil prices directly since there isn't much oil used in it. Oil extraction/refining AFAIK tends to depend on, for the most part, in house natural gas, and to a lesser extent electricity. While Natural gas prices have been on a roller coaster, thanks to the wild and wacky dollar, oil prices haven't driven them up much, and they've remained flat while oil has tripled in price.
Quote:
Petroleum extraction is an extremely energy intensive process, which uses about 3,700GWh of electricity yearly this is about 1.5% of all electricity consumed by the state.
[...]
Petroleum refining, SIC 2911 includes facilities primarily engaged in the production of gasoline, kerosene, distillate fuel oils, residual fuel oils, lubricants, re-distillation of unfinished petroleum derivative cracking, and similar processes. Petroleum refining is the number one consumer of energy in California's manufacturing sector. In 1997, the industry consumed 7,266 million KWh of electricity and 1,061 million Therms of natural gas.
Aaron wrote:
This feedback loop means that as oil becomes more expensive it becomes even more expensive to locate, extract & produce that oil. Which in turn, causes even higher oil prices, which again raises the cost of oil production.
That's true, not due to oil's use in oil extraction, but the use of more expensive wells and run-up in equipment costs compared to an era where wells were boarded up and staffing cut, which declines as price increases. We've seen a fairly steady run up, likely due to oil companies erring on the side of caution after being caught with their pants down last time.
Aaron wrote:
This compounding effect becomes more & more pronounced the higher the relative price of oil climbs, creating a cascading effect which will eventually lead to price "super-spikes" where large jumps in price may happen very quickly compared to traditional inflation.
To an extent, yes, although there are practical limits, and assuming the dollar doesn't drop more, I think those are around $300-400 for a spike, and $200-250 sustained.
Aaron wrote:
Because markets can't adjust quickly to these super-spikes, the potential for collapse of markets becomes a realistic fear as oil continues it's meteoric climb skyward.
Clearly, as history has shown, the last time oil prices went as high as they are now, consumption wasn't curbed at all. Except for in the US, and likely other nations, especially those who, instead of creating toothless standards, simply taxed oil appropriately.
Ironically enough, due to the limitations on range imposed by battery pack costs, in CA, drivers could likely travel about four times farther with little to no pollution if the natural gas, and to a lesser extent electricity, used for oil extraction/refining, was instead used to generate electricity for, and directly used by, efficient electric vehicles. Clearly, we're using oil because there aren't any alternatives that would relieve the burden on the consumer's wallet, help clean up the air, and limit our dependence on oil. Not because it's tremendously profitable. _________________
Posted: Wed May 07, 2008 9:06 pm Post subject: Re: Feedback Loop in Oil Pricing
joeltrout wrote:
Rage wrote:
It is narrow minded and very short term but that is, after all, what has gotten our society into this mess in the first place.
I agree completely with that but it is not the oil companies fault.
Rage wrote:
One thing we do know with certainty is that if the finances look good the job will get done. Nobody in their right mind is going to walk away from a project with a reasonable rate of return.
The company I work for invests in smaller domestic oil and gas projects and one problem we have seen is other institutions are using $90+ for their price deck which is fine if oil stays over $90. But if oil pulls back then a lot of those projects are quickly uneconomical which means they will try and sell them most likely for a loss. It could also mean shutting in production which really doesn't matter when you are talking about global production but it hurts those with jobs based around those projects.
joeltrout
Is this Big Oil Apologists.com? Sheesh. "it's not oil company's fault" If you work for smaller oil companies, you are as much or more at the mercy of the distorting market and political force of the majors.
You cannot post new topics in this forum You cannot reply to topics in this forum You cannot edit your posts in this forum You cannot delete your posts in this forum You cannot vote in polls in this forum
News
Discussions
Resources
Members
Forum FAQ
Search
Usergroups
Profile
Log in to check your private messages
Log in
