Monday, April 23, 2012

Has China’s oil production peaked? What are the implications?


            In the past decade, perhaps the most prominent story in regards to oil was the rise of Chinese consumption.  They went from consuming 4.8 mb/d in 2000, to 9.4 mb/d in 2010.  Their increase was equivalent to half of all extra global demand added in the past decade  Oil imports made up the bulk of the supply increase during this period, but a rise from 3.3 mb/d to 4.4 mb/d in Chinese production, helped dampen the demand for imports.  So while consumption rose by 5 mb/d, imports rose by 4 mb/d.  Many people believe that in the current decade, China’s rate of growth in oil consumption will decrease. I believe they are right, in fact I believe that consumption growth might be less than many anticipate.

Consensus is that demand growth should average about .4 mb/d per year. 

I believe average demand from China during this period will not exceed .3 mb/d, giving us an approximate consumption rate of about 12.5 mb/d by 2020.

This should be good news for the strained global oil industry, except that as the graph below shows, there is a chance that Chinese demand for oil imports will be pushed up not only due to increasing consumer demand, but also because of declining supplies.

Data source:  EIA


            The EIA projected that this year, Chinese oil production will average 4.5 mb/d.  They did not release their data for the first month of this year yet, but in December of 2011, average daily production was about 4.2 mb/d.  Given that the year will start off with a weak number, the full year average will most likely leave those hopping for a robust continuation of growth disappointed.  I do believe that Chinese oil production peaked in the fourth quarter of 2010.  To clarify what I mean by peaked; we are unlikely to ever see production that will be substantially higher than the average we had during that quarter.   We might however see it go down by a few hundred thousand barrels by 2020.

Implications:

            As I said, I expect Chinese demand to be dampened somewhat, compared to the past decade as well as compared with most projections out there.  If demand growth will be about .3 mb/d per year, while instead of the average 100,000 b/d increase per year we had during the past decade, we will have a 50,000 b/d yearly decline, the drop in demand growth for imports from China will not be very substantial, compared to the last decade.  While growth in demand will be .3 mb/d less than during the previous decade, the drop in demand for imports will be a less substantial decline of .15 mb/d.

            This is highly problematic in today’s world.  Demand increase for petroleum consumption coming from the world’s main exporting region, the Middle East can be as much as 3 mb/d by 2020.  This means that export capacity growth from this vital region will be limited, if any.  Production in Africa is set to increase, but so is demand, so export growth from this region will be dampened as well.  Same can be said about Latin America.  Russia is an important oil exporter, but there is a good chance that Russian oil production will also start declining during the current decade.  That, combined with a slight increase in internal oil demand means that Russian exports will likely decline.

            The only bright spot is North America, where unconventional projects should increase overall production, while demand is relatively stagnant.  This means that demand for imported oil from outside the region will likely decline.  This decline however will most likely only make up for production declines we expect to see from the North Sea region.  

            Bottom line is that China and its Asian neighbors will continue to drive demand for oil imports, while there are fewer opportunities to find new net exporters, who will not have their capacity swallowed up by their own consumption or that of their immediate neighbors.  If indeed China’s production has peaked, the task of supplying the global economy with the needed fuel has just become a little bit more challenging.

Need for acknowledgement of the situation:

            The mainstream media has lately been very much gripped by a wave of optimism on fuel.  Shale gas, oil shale, oil sands, apparently solved all our challenges for many, many decades, so we should stop worrying and go on with our lives.  The not long ago increasing awareness of the reality of the peak in conventional oil production, which is likely something we are living through right now, has faded away now, and the new story line is all about hundreds of years worth of unconventional fossil fuels, which magically made our fuel problem disappear.  Yet, the reality is not as rosy as the mainstream media tries to make it.  The 2011 downgrade of the Marcellus shale by the USGS, which was also accepted by the EIA as a fact, never made it on the radar screen of mainstream cable and newspaper outlets.  Overnight, 80% of the gas we thought we had in the largest US shale gas play, disappeared.  There is evidence that the other plays were also overhyped.  I never saw acknowledgement in the mainstream media of it.  We are bombarded with claims of oil reserves that are currently not technically feasible, like the Powder River kerogen deposits that do contain more “oil” than Saudi Arabia ever did, but none of it has ever been shown to be commercially viable, no matter what the price of oil, because it is a net energy sinkhole.  In other words, it takes more energy to produce it than we can get out of it.

            Reality is that in the absence of demand dampening economic events, the oil story will continue to be one of very tight supplies, despite all the hype about unconventional sources.  In North America, there is an especially strong trend towards leaning towards the optimistic storyline when it comes to energy, because thanks to the fracking revolution, natural gas prices have plummeted to levels not seen in over a decade.

It is unfortunate that people have such a short memory.  It was just over a decade ago that the “experts” were worried that there was so much new supply of crude coming online that, they will have a hard time sustaining the price over $10 a barrel for perhaps decades.  Now, reaching such a low price is unthinkable, because most fields cost substantially more to produce than that.  In the absence of recessionary pressures, we are actually having a hard time keeping the price bellow $100 for very long.  When It comes to the North American gas market, I don’t expect prices to skyrocket in the very near term, but as new demand is created to soak up the extra supply of gas, it will eventually become inevitable for prices to rise, because supply will eventually fail to keep up with demand, and there will be nothing else to substitute as a replacement for the gas.  It is very important to understand that it does not take much of a glut or shortage to make the price of such an inelastic commodity make very big moves in price.  So what may seem like a market swimming in natural gas, can very quickly become a market facing shortages.

The possible peak in Chinese production is yet another one of those negative stories on energy that the mainstream media seems to have become allergic to reporting.  We have instead people like Sarah Palin, and Larry Kudlow tell us stories of trillions of barrels in reserves that only await our will to pay a small environmental price to harness their benefits, which as I stated in regards to these so called reserves such as kerogen, are nothing more than a very old story that once in a while resurfaces for political purposes.  These are stories based on citations of reports prepared by organizations that are less than what one might call reputable and impartial, but the citations are given legitimacy due to the mainstream status of the above mentioned messengers, so enough people believe it.  As a result, the average consumer, investor, even policy maker is left to suffer from one of the most basic causes of market failure, which is the lack of reliable information to base decisions on.  The much needed relief that the global economy needs in order to have a chance of re-emerging out of the current stagnation and disfunctionality, will not come in the form of lower oil prices.  We need therefore to start thinking of new ways of redressing the situation urgently.   

2 comments:

  1. this is freakening .. I do not know much about oil industry.. but I doubt china may be trying to keep all limited resources of world under its control for future growth.. I watched another show where china was heavily investing in African Mines..

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  2. In Africa they are investing in resources ranging from oil to farmland. In the disputed South China Sea, they are currently trying to do more than that. It should be interesting to see how they will go about trying to claim the maritime area as their own, against the claims of five other neighbours. It could end with violence.

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