Oil Price Increases and the Energy Industry: What Role for the Majors?
Authors: Ohadi Michael , Garis Dalton 
Published: December 2007

A confluence of market forces is coming together to make commercialization of energy alternatives a real possibility.National and international oil companies, with their vast resources, have an opportunity to transition and then host the development of several generations of new energy system technology.Their decisions on this in the coming years will be critical to the direction and scope of energy technology development, which is in need of scale economies in research and development in order to become marketable.

Introduction

There is now a confluence of forces that change the future outlook for petroleum-based fuel energy systems.World petroleum demand has increased significantly in the past 18 months, while doubts have emerged about the quantity of some proven reserves, and downstream capacity to supply consumers with a sufficient quantity of refined products.The implications support the expectation that petroleum prices will remain near or above $40.00/bbl or continue to climb; that what is being experienced in these markets is not just the product of cyclical changes in an industry with short-term price discovery and long-term investments, but rather, a structural change not seen in times past1, as argued below.

Some of the current worries about oil supplies, which have added $8.00-$13.00/bl. to spot prices, according to some estimates, will diminish as the positive crude oil balance of 2 million bpd2 influences cash and futures markets; and negative developments in production regions reported in the news media become discounted by market players.$55.00 oil is not expected again soon; but $26.00 oil appears also to be a thing of the past.Thus, while fear premiums are expected to fall, there will be left a residual upward price differential resulting from expectations based on fundamental analysis only.

Available data show that some non-Gulf crude oil provinces are beginning to fall in output, e.g., North America and the North Sea provinces, and the Indonesian regions, putting pressure on Gulf States to increase supply at a time it is strained to show new crude investment results, at least according to rig counts3.With expected demand increases driven by India and China, elevated crude prices are likely to be with us for some time, all else being equal.

Several implications obtain from these results:Sustained higher oil prices will eventually induce increased investments in upstream, middle and downstream oil and gas segments.But timing of investments is important:If too little or too late investment, bottlenecks are not addressed, capacity is not increased, and prices will stay high, allowing alternatives to cover the vast start-up costs incurred in infrastructure adaptations.If too much investment—or haphazard investment—prices crash, allowing future shortages, future price spikes, etc., and market dislocations. This is the boom-bust cycle international oil companies (IOCs) fear, and the most likely reason they are holding back from investing at present.The vast increase in demand for petroleum products is coming increasingly from the developing world—China and India, for example4.This year China became the world's second largest oil consumer, after the United States, displacing Japan to the third spot.But 1.5 billion people are still without any access to energy5.With steadily rising world income more of this excluded set will also be consumers of energy because energy consumption is income-elastic in demand*.Much of the demand for petroleum is induced by a desire to become greener.Environmental concerns are a function of national income; as a nation becomes richer it becomes greener, citeris. parabus.