The fossil fuel crash of 2014

Among the unforeseen (by me, at any rate) events of 2014, the collapse in the price of crude oil may be among the most significant. Prices have fallen from more than $100/barrel in mid-2014 to around $60/barrel today. This follows a more gradual fall in the price of coal. The thermal coal price peaked at $140/tonne in 2011 and has now fallen to around $70/tonne. Prices for metallurgical coal and iron ore have also collapsed.

What should we make of this? The big questions are
(i) to what extent does the price collapse reflect weak demand and to what extent growing supply
(ii) will these low prices be sustained, and if so, what will be the outcome.

The answer to the first question seems to be, a mixture of the two, with some complicated lags. Strong demand growth (briefly interrupted by the GFC) produced high prices which made new projects appear profitable. Now the projects are coming on stream, but demand has weakened. Since both demand and supply are inelastic (not very responsive to prices) in the short run, a moderate oversupply produces a big drop in prices.

Coming to the second point, if we are to reduce emissions of CO2, a necessary precondition is that the price of fossil fuels should fall to the point where it is uneconomic to extract them. Current prices are below the level at which most new oil and coal projects are profitable, so, if they are sustained, we can expected to see a lot of project cancellations and closures (this is already happening with coal to some extent).

The big question is whether sustained low prices will lead to a recovery in demand. There are at least some reasons to hope that it won’t. There’s pressure to reduce coal and oil use coming from many directions, so, even at lower prices, I doubt that we will see a surge in investment in new coal-fired power plants* or a return to oil for uses like heating.

So, the hopeful scenario is one in which the abandonment of new projects brings us the long-awaited advent of Peak (or rather Plateau) Oil and Coal** in the not-too-distant future, giving time for policy to push the global economy in the direction of decarbonization.

* Someone will doubtless point to the case of Germany. But as far as I can tell, the plants that have opened recently were commissioned around 2006, and most proposals made since then have been abandoned.

** Of course, gas is a different story, partly because there is no global market. Gas prices are rising in some places (Australia, for example) and falling in others as trade expands.

43 thoughts on “The fossil fuel crash of 2014

  1. My Google skills are not good, so- could someone please tell me what we were paying/l of fuel when last a barrel was this low? Thanks

  2. @faustusnotes
    I am with you all the way on coal, no question. I would argue that petrol is different, though.

    Petrol is not as damaging as coal, and if there has to be a transitional phase from fossil fuel reliance to a renewable-based economy – which I agree in the long term is optimal – then cheap oil in the short term has many other positive effects such as removing the perceived need by superpowers to arrange global politics around defending scarce sources of oil.

    How exactly were you expecting the world to stop using fossil fuels? Were you hoping for Peak Oil, and wishing for increasing price shocks to discourage exploration and extraction? Do you not realise how many would suffer, especially the poor? That scenario would lead to a lot of bad economic, social and environmental outcomes. I would prefer a future where energy is cheap enough to continue the uplifting of developing economies to work on third world poverty, but we in the West choose to change our economies peacefully. That is not to deny the sword of Damocles hanging over us, but to maximise economic as well as environmental wellbeing.

    As for blaggards: Iraq, Iran, Kuwait, UAE, Saudi Arabia… largely controlled by families, factions or former freedom fighters whose full histories include a lot of warlording across generations.

  3. @Ikonoclast

    ‘I will put up my hand too. I did not predict this price drop either. One person who did is Gail the Actuary.’

    Sounds like Gail had been reading Nicole Foss at the Automatic Earth, who has been banging on about this big drop since she began to blog in early 2008. Here she is at the Business Insider in Jul 2012:

    http://www.businessinsider.com.au/theres-something-much-worse-than-an-oil-price-spike-2012-7

    ‘In the case of oil, the effects of phase II of the financial crisis, and the coming demand crash, on oil prices will be exacerbated by a major shift in the perception of supply – from scarcity to glut, as a result of the unconventional oil fantasy’

    When Glenn Stevens opined a few years ago that no-one could have seen the crisis coming he was forgetting or ignoring not just economists like Steve Keen but experts in other fields like Foss, who worked in energy and edited Oil Drum before blogging and lecturing. She says the light went on for her – i.e., she realised that the sums didn’t add up and the entire system was unsustainable and would collapse – in 2004, so she is in Taleb and Engdahl territory, though they were looking more at housing’s nexus to finance rather than energy’s.

    faustusnote, you will appreciate (if you’ve not already done so) her piece from January where she covers this issue tangentially in a critique of David Holmgren’s thought (she is in general agreement).

    http://www.theautomaticearth.com/crash-on-demand-a-response-to-david-holmgren/

    ‘The future still looks very concerning and I think a New Frugality as Hermit termed it will be a new civic virtue forced on us by circumstances in the Age of Consequences’

    Ikon, you might find it interesting too. TAE is as focussed on remedies (or at least mitigating strategies) as it is accurate doomer prognostications. To that end Foss is becoming a permaculture maven.

    Some people make you feel tired just reading about them…

  4. I don’t see how we could end up with a new “enforced frugality” as some people envisage it, but I guess if you look at it we do have a new kind of frugality being enforced on us, but this is a groovy kind of frugality that no one notices and which benefits everyone. We already have stealth frugality built into our new appliances. A LED TV uses about as much electricity as a much smaller cathode ray TV and weighs less too and is far more efficient than a plasma screen. A new fridge can use a quarter of the electricity of an old clunker, a new laptop uses a fraction of the energy of an old desktop and a Nissan Leaf uses 20% of the energy an average Australian passenger car does per kilometer. Improved efficiency is a major reason why grid demand for electricity has fallen by about 8% since 2010 in Australia, despite a growing population. Since we’re not personally responsible for improving energy efficiency standards around the world I guess it could be said this new frugality is enforced from outside, but it’s not a problem. We’re still getting what we want, we’re just getting it at a lower cost in energy.

  5. Next week liquefied gas (not propane/LPG) will be exported from the Australian east coast for the first time in the bubble boat “Methane Rita”. According to AEMO’s website the current wholesale spot price for piped gas is $4 per GJ but the Japanese have paid $19 and more for liquefied gas. Australia exports about 24 Mt of liquid gas from WA and NT, domestically uses a similar amount of piped gas but the plan is to get up to 60 Mt a year of exports overtaking Qatar as the no.1 liquid gas exporter.

    However we import about 65% of our crude oil and refined fuel needs; some say we pay for it with coal. A massive switch to compressed or liquefied gas (CNG, LNG) as a diesel substitute could require perhaps another 10 Mt domestically. About 21% of Australia’s electricity is created by burning gas, notably in times of peak demand. Fertiliser maker Incitec Pivot is building its new Haber process ammonia plant in Louisiana fearing Australian gas will be too expensive

    So far the beneficiaries have been workers on the liquefaction plants. In future there will be some government and farmer royalties but the profits will go to the export companies. If the domestic piped gas price goes up dramatically everybody else loses out by paying more. Several factors may suppress the price including new PNG exports, reduced Japanese demand and oil linked contract prices. However the oil price will one day rebound and the reserves will steadily deplete. Where will we get gas from then? Can’t happen?…it’s already happened to the UK.

  6. @Peter
    Peter, when I look around at the state of capitalism in the world today I feel saddened by the fact that people other than myself still have any money whatsoever. Fortunately, despite governments interferring with the free market by not altering it to my benefit, I still manage to fatten myself on the riches of the world while less fortunate people who were born without my advantages starve and die or merely get by. Lesser capitalists than myself may complain about such things as government imposed improved energy efficiency standards, but to the truly enlightened selfish individual, all these things are just trees in the forest on which I can dab my urine of ownership.

  7. This article opines that the US fracking boom will peak 2016-2017
    http://www.resilience.org/stories/2014-12-24/fracking-fracas-the-trouble-with-optimistic-shale-gas-projections-by-the-u-s-department-of-energy
    followed by a steep decline, see Figure 9. That’s oil and gas combined. It suggest the US Energy Information Administration has created false optimism and encouraged myopic investment in new industries, including gas fired power stations and possible LNG export. On the latter fools rush in (eastern Australia) where angels (US) fear to tread.

    It should be pointed out Australia’s east coast gas exports will be mainly based on coal seam gas rather than conventional or tight gas associated with light oil as in the US. All gas types are at least 80% methane by composition. On checking image files I see the gas ship Methane Andrea Rita now docked at Gladstone doesn’t have hemispherical tanks above deck.

    If crude oil can go from $100 (WTI) to $60 a barrel perhaps that means it can rebound from $100 to $140 just like it did before the 2008 GFC.

  8. The steepness of the oil price drop is a product of a few things. The main ones are the oversupply and the inelasticity of demand. But the other key factor that influences price is the amount of product storage available at any one time, which for oil is tank storage plus ships in transit.

    The US recently announced, I believe, that their strategic reserve was full. This reserve and others can be used to manage short term production surges or demand spikes, but a sustained overproduction rate can only be cause rapid price fluctuation.

  9. Deutsche Bank getting excited about solar, according to Bloomberg

    Because of solar’s small market share today, no matter how quickly capacity expands, it won’t have much immediate impact on the price of other forms of energy. But soon, for the first time, the reverse may also be true: Gas and coal prices will lose their sway over the solar industry.

  10. The need to clear inventories rather than price elasticity seems a better explanation for recent oil price movements. A temporary 2% blip in world oil production causing a 40% price drop seems odd otherwise.

    Deutsche Bank and many other major players seem to have drunk the Kool Aid, probably via newly minted MBAs fresh from their six month courses. Even some power utility execs are talking about a ‘utility death spiral’. Fear not with 1.5% of electricity and 0% of transport from solar there’s a way to go yet. Only a year or two ago coal execs were lauding carbon capture and storage. Since that didn’t work out perhaps they moved to banking.

    As we speak the MSM is urging us to applaud the start of coal seam gas exports in liquefied form. Price aside we haven’t got enough for ourselves for even the medium term. This market economics works in strange ways.

  11. What I fear is that if the oil price can swing from ~$100 per barrel to $60 it could just as easily rebound to $140 as it did in 2008 when the GFC hit.

  12. The oil price swings illustrate something interesting and fundamental about claimed oil reserves (or any claimed mineral reserves). At prices over say $100 a barrel, Canada has the world’s largest economically recoverable oil reserves. At prices of $65 a barrel, all of Canada’s tar sand oils become unrecoverable economically and Canada slips well down the oil reserves totem pole. We already know that Canada’s tar sand oils are unrecoverable if you want to retain a viable, liveable world climate for homo sapiens.

    In other words, “Reserves aint reserves!”

    It illustrates again that claimed “recoverable reserves” is a meaningless concept without considering many other factors.

    The oil market has many manipulators, speculators and inside traders.

    “Some thirty barrels of oil are traded for every barrel produced(“Policy Brief #25 United Nations Conference On Trade and Development” 09.12), a staggering differential that has converted the oil market from actual real barrels of product production and sales to a financial paper market of oil derivatives, leaving the determination of prices to those who have the vested interest and moneyed means to manipulate the trading of oil and oil product futures to their enormous benefit at the expense of the economy and the public at large.” – Huffington Post.

    The likely cause of the oil price drop in this instance is either it was manipulated to attack Russia (most likely) or it was manipulated to attack unconventional oil production (less likely).

    In recent years we have seen LIBOR and Forex rigging proved against major corporations. To believe oil prices are not rigged would be the height of naivety.

  13. Australia is supposed to have about 90 days of oil use stored, although apparently it dropped to only 3 weeks in 2008, which makes a lot of sense given that oil prices shot up to $147 a barrel and then plunged. Not much point in having oil reserves if one never uses them. However, 90 days is huge amount by oil storage standards, so I suspect this includes Australia’s own oil production to stretch out the number of days. The US is only supposed to have about 60 days storage including their own production although that figure is proably dated. But it does seem odd as they are much more likely to murder people with bombs than we are, but their oil production is also much higher and unlike Australia their oil use has decreased. Of course, probably the most effective form of storage is to leave oil in the ground. OPEC used to do this which caused Americans to complain. However, they are not doing it now, which has caused Americans to complain. (You can’t please some people.)

    Anyway, the point I want to make is there is limited room for speculation to increase the average price of oil on the market. Speculators like to buy low and sell high, but rather than pushing up the average price, that just tends to reduce volitility. The people who do pay a premium to speculators are people who are willing to pay for the advantage of being able to get oil at a set price. Basically they are paying for insurance, which I guess is fair enough. So while oil storage facilities have to be paid for, we’d still have such facilities even if there were no such things as oil futures, so we’re probably not paying much for speculation. We’re just either suffering from less volitility when things work as they are supposed to, or we suffer from more volitility when things don’t work as they are supposed to, which is often because while we are smart monkeys we’re not very smart at this sort of thing.

  14. Some conjecture as to whether 2014 will turn out to be the all time peak year for liquid fuels
    http://www.resilience.org/stories/2014-12-31/the-peak-oil-crisis
    That’s a volumetric peak currently around 90 million barrels a day. However the mainstay fuel conventional (vertically drilled) crude oil peaked several years ago and some newer fuels like ethanol and tar sands have less net energy after deducting input effort. Don’t buy that V8 just yet.

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