In the following interview, the economist / oil market analyst Maarten van Mourik says that the fundamentals suggest sustained strong pricing of oil. „Apart from the consumer,“ he argues, „there’s nobody with a real interest in lower prices.“
By Lars Schall
Maarten van Mourik (born 1967 in the Netherlands) studied micro-economics / industrial economics and shipping economics at Erasmus University in Rotterdam, Netherlands between 1988 and 1991. Afterwards he worked with the Netherlands Economic Institute on transportation policy research, mainly maritime transport. For Petrodata Ltd of Scotland he was doing offshore drilling rig and marine support vessel market forecasting. From 2000 onwards he has had his own business, doing bottom-up field by field non-OPEC supply forecasting, oil market analysis as well as forecasting offshore equipment markets. The work was supplied to OPEC as well as investment funds. As an economist he has worked on port infrastructure feasibility studies around the world. Today, Mr. van Mourik works still for his own account and as an economist for North Sea Group in Holland. He favours independent analysis, Austrian economics and an eclectic approach to analysing and predicting market behaviour. He currently lives in France.
In addition to the following interview, I would like to recommend to read also “Money Drives Everything,” an interview with Mr. van Mourik that I have conducted for GoldSwitzerland:
Lars Schall: Mr. van Mourik, what would be your best guess for the development of the oil market in 2013?
Maarten van Mourik: Looking ahead to 2013 for oil prices requires some soul searching with respect as to what sets price in the first place. Clearly, demand and supply for delivery on a short notice play a role. That is, immediate productive capacity and stock levels. Apart from that geopolitics, paper oil and monetary policy enter into the equation. For the longer term , oil reserves and resources and demand reactions start to enter the picture. Straight forward as that may seem, there happens to be a significant degree of difference of opinion on a) the numbers constituting current and future supply and demand and b) the effects of monetary and political factors.
L.S.: What do you think about the report of the IEA?
M.v.M.: The western world’s oil market watchdog, the International Energy Agency (IEA) released two of its main reports in October. The World Energy Outlook through 2035 and a medium term outlook through 2017.
In the reports, the Agency takes a shot at all the elements above. The Agency effectively declares that there is going to be ample capacity from next year onwards, as non-OPEC supply grows on the back of US production from shale oil and Canadian tar sands production, while at the same time OPEC is building more capacity in the wake of faltering demand.
The scene should be set for lower prices then. Unfortunately it is not declares the Agency, as all sorts of other factors keep prices high, not in the least the supply of high cost shale oil, which requires some 80 USD per barrel to be produced.
L.S. : Can we add some further confusion as to the conclusions when we take a look at the monetary policy that influences oil prices these days?
M.v.M.: Yes, indeed. The Agency has prepared academic looking research that torpedoes the analysis and perception of the markets via monetary policy influences. The same goes for speculative money. With the surreptitious influence of money policy out of the way, all that is left for influence on the oil price is, well, supply and demand.
What the past few years have taught is that oil demand is very inelastic indeed. With some 60-70% of oil use now dedicated to transportation and in various places in the world, for power generation in the absence of alternatives, the world has moved into a situation where only economic downturns can lower demand by substantial amounts, or very high prices. As such, demand in the US and Europe is on a gentle downward slope, apart from the places where GDP is nearly in freefall around the Mediterranean. Elsewhere, demand is growing, and fast too. China, India, Latin America, Russia and the Middle East itself all show sustained growth, and there is little reason to assume this will change anytime soon. In fact, the IEA shows a peculiar path when comparing the medium term outlook with the long term outlook. It expects demand to grow by 0.8 mb/d in 2013 (similar to 0.85 mb/d in 2012) to 90.6 mb/d, and then on to 95.7 mb/d come 2017. From then onwards, the world is definitely becoming less interested in oil, or at least much more efficient (at 2.5% per year according to the IEA), as between 2017 and 2035 annual demand growth will slow down to a trickle at 440 kb/d to reach 104 mb/d by 2035. Given the developments in the abovementioned regions, there would seem to be little reason to believe saturation will happen that soon.
L.S.: And what about the other side of the equation, supply?
M.v.M.: The supply has shown a habit of performing much less than assumed, both on a short term and a long term horizon. As a reference, below table shows the over-estimation by both the IEA and OPEC on the near-term horizon for non-OPEC excl. the US (being shale oil related). By November 2012, the tally for 2012 supply has been lowered by a massive one million barrels per day from the January 2012 expectation.
The culprit can be pinpointed with a single word: decline. Older fields, of which there are many by now, face declining production levels from loss of pressure. New wells and fields need to be added to offset this fall and compensate for demand growth. Two things are needed: profitable new fields of sufficient size. That prerequisite has not changed since the price crash of 1998. And the decline rates in non-OPEC offshore oil demonstrate that this is a real, uphill battle.
As an illustration, in 2000 Dr. Campbell famous for his work on Peak Oil predicted that deep water oil production could reach about 12 mb/d by 2010. Despite record profits, the world has managed around 4-5 mb/d. Now the IEA is again saying the deep water oil will grow fast in the near future. The person who has been identified as perhaps the most pessimistic on oil production potential was off by a factor of more than 2 too high. The reason is that decline in deep water oil fields is very high for all sorts of reasons. To underscore the point, Brazil needs to put in place one very large production unit each and every year, just to sustain output levels from its deep water fields.
L.S.: Has the cheap, easy oil peaked out in your view?
M.v.M.: Yes, it has. What is left is more difficult, and in the case of shale oil, a completely different production process. The supply curve has shifted out perhaps on the technological developments that permit shale oil. At the same time, the world has shifted up along the curve too, to make this oil available.
With that price reaction, one would expect OPEC to make mouthwatering profits and greedy for more by expanding its capacity. Well, a couple of things inhibit this rose coloured hope.
First of all, the place where capacity can be expanded is predominantly the Middle East. The governments are on a spending spree to keep the populace happy, and with it, their budget requirements have zoomed up. The swing producer of the oil market, Saudi Arabia now needs over 90 USD/barrel to balance the budget. That puts a floor under the price to some extent. Secondly, Western sanctions have lashed out at Iranian production. Even if this situation is reversed at short notice will there be damage to the oil fields, perhaps permanently. Thirdly, decline is not something that is politically confined to non-OPEC oilfields. It happens in OPEC too.
L.S.: But the Saudis are bringing forward the development of a very large field, Manifa, that may produce up to 900 Kb/d.
M.v.M.: That’s true, Lars, but that is needed to sustain capacity at current levels.
L.S.: And Iraq?
M.v.M.: Well, it would be Iraq’s role to provide growth, but politics and oil companies are at loggerheads about contractual terms and technology. The Iraqi expansion seems like slipping away into the future. That is not a new story. Effectively, every year, with one exception since the 2006 IEA medium term outlook, OPEC crude oil production capacity has been projected to reach 36 mb/d within around 2-3 years and 37-38 mb/d by the fifth year of the horizon. Well, it is 2012 and turning 2013, and that picture has not changed, but capacity is estimated to be around 34-35 Mb/d currently by the IEA.
What is even more curious is that OPEC in its latest medium term outlook suggests that by 2014, OPEC capacity may reach about 35+ mb/d while the IEA suggests 37 mb/d. The discrepancy is all the more astonishing, since one would expect OPEC to overstate its capacity, not the IEA.
L.S.: So what does this all mean?
M.v.M.: It leaves the world in a strange predicament. Apart from the consumer, there is nobody left with a real interest in lower prices in the short term. Not the oil companies in order to sustain profits, not OPEC for budget reasons, not the USA as it has become the marginal producer, not European governments given the stealth nature of oil taxes.
As demand is stubbornly strong, and supply slow to react, spare capacity margins will remain wafer thin. That suggests one thing for certain, and that is continued volatility. There can be nasty surprises to the upside on ‘unexpected’ supply outages and stronger than expected demand in the year ahead. If and when numbers emerge that suggest stronger fundamentals, expect talk of oil stock releases to intensify again in order to calm the market.
L.S.: Can anything happen that could actually substantially lower the oil price from the current levels?
M.v.M.: Yes. A liquidity issue like the market faced in 2008, and one suspects occurred also in May this year, that took the entire investment complex down. That would function as demand destruction, leaving supply wanting for demand. Such an issue may be triggered by all sorts of events, well outside the realm of the oil market. But we have not mentioned the real outside event that can create havock in the markets: an escalation of the Iran situation. 2013 seems to become a pivotal year. As far as oil is concerned, the fundamentals suggest sustained strong pricing.