| Middle
East Economic Survey
The Outlook
For The World Oil Market
By John Browne
[The following
paper was delivered by BP Group Chief Executive Lord
Browne at the Empire Club of Canadian Toronto on 10
December and was published in the Middle East Economic
Survey in the 20/27 December 2004 edition (Vol. XLVII, No.
51/52).]
It is a great
pleasure to be back in Canada, which is a country that is
very important to us in BP and to the whole of the world
energy market. We very much appreciate the links that we
have here. We already invest some $8bn Canadian dollars
here, and I hope we soon will be able to invest a little
more.
You asked me to
talk about the outlook for the world oil market. I think
it is appropriate to start with the immediate events which
are shaping people's thinking about the market, and
raising new concerns about the question of energy
security. The price of Brent on the international market
has fluctuated over the last 12 months from around $25/B a
year ago to over $45/B for a period in the autumn to just
below $40/B today.
To understand the
reasons for those shifts, you have to look back at the
events of the last five years. What's changed and what are
the consequences of those changes? Back at the end of the
1990s, we all were accustomed to an oil price which
averaged a reasonably stable $18/B, with only very
occasional excursions into the low $20s, and one brief
fall at the end of the 1990s to $10. That was the picture
for a decade, from the end of the first Gulf war onwards.
Throughout the
1990s, technological advances had opened the range of what
was possible. Advances in seismic technology reduced the
risks and costs of exploration. Advances in deep water
technology opened up new areas for exploration and
development. Advances in reservoir management technology
pushed up recovery factors. And political change also had
opened new doors. International companies were able to
invest in areas previously closed to them - including
Russia, Central Asia, the Caspian, and China. So there had
been a series of developments which had created a
situation in which costs were falling, and in which prices
were moderate and seemed liable to decline rather than
increase.
The factor which
changed the outcome was the decision in April 2000 by the
OPEC member states to use their market power to set a
price framework for oil at around $25/B - varying up or
down from that level by no more than $3/B. That was a
major step, and OPEC's successful management of their
production set prices at those levels throughout the
period, from 2000 to the end of 2003.
The next
fundamental change came on the demand side. The growth in
demand for oil in 2003 and 2004 has been so strong that
for the first time in 30 years, the rate of oil demand
growth worldwide almost matches the growth of GDP. That is
the context in which the rise in prices we've seen over
the last 12 months has developed. That rise is driven by
demand, particularly the dramatic growth in demand in
China, which has increased its imports of oil by 400% in
just 4 years, and is reinforced by concern about supply
security. For most of the last two decades, the market has
operated with around 3mn b/d of spare capacity. This year,
that spare capacity has fallen to around 1mn b/d - an
amount less than is produced in a number of areas where
continuity of supply has been threatened by disruptions -
including Iraq, Nigeria and Venezuela. There has been no
shortage, but there has been a fear that a shortage would
develop.
Fortunately, the
market operates in a very effective way. Partly in
response to this increased price, and in response to the
confidence inspired by OPEC's effective management of the
market, the private sector part of the industry began to
increase its spending on exploration and production. The
top 30 quoted companies have increased their investment in
exploration and production by more than 15% a year during
the last five years. They now invest almost $100bn a year
between them. That already is producing increased
supplies. A whole series of major new fields are coming on
stream over the next three years - in the Caspian, in
Angola, and in the deep water of the Gulf of Mexico.
Those new
developments should help to restore stability to the
market. So will the growth in OPEC capacity. If, as can be
reasonably expected, the growth in demand resumes its
normal growth path of around 1.5% per annum, surplus
capacity should build over the next three years back to a
more comfortable level of around 3mn b/d. In the absence
of any further major disruption, prices might then revert
to a level set by the decisions of the OPEC member states
on production. Given the revenue needs of many of those
states, which have large, youthful populations and which
have not yet succeeded in diversifying their economic
development away from oil, it seems realistic to expect
that with the insecurity premium removed, prices might
stand at around $30/B.
That is a
reasonable level which will reward investment by the
private sector and generate sufficient revenue for the
producing states, but which will not do major damage to
the global economy or to those who depend on oil imports.
Such an outcome, however, is not the end of the story.
None of the developments I've described should be taken to
mean that the issue of energy security has been resolved.
There are two
substantive issues, each of which poses challenges for
energy security over the medium and longer term. The first
is about supply and demand. The demand for energy
continues to grow, with the growth underpinned by the
increase in population numbers and by the gradual spread
of prosperity. The world's population grows by almost
10,000 an hour - almost a quarter of a million every day.
In 10 years time the world will have an additional one
billion citizens - making 7.3bn in total. All those people
need food, housing and all the other basic products and
services which require energy. More and more of the
world's population can afford the energy they want to buy.
The spread of prosperity, especially in China, India, and
parts of Latin America, adds to effective demand on a
daily basis. The result is that there are tens of millions
of new consumers of commercial energy every year.
The current
projection from the International Energy Agency (IEA) is
that global demand for all forms of commercial energy will
rise from the current level of around 190mn b/d oil
equivalent (b/doe) to some 240mn b/doe by 2015. A rise of
almost 30%. That forecast is made on quite cautious
assumptions about economic growth rates. The numbers could
turn out to be significantly higher. How can that demand
be met?
Some place their
faith in renewable and alternative forms of energy supply.
Power from the wind and the waves. Power from solar
panels. We believe those are important sources of future
supply. We in BP are investing in research and development
work in photovoltaics - the technology which supports
solar power - and in various other forms of alternative
energy supply. One day, one or more of those new sources
will provide a significant proportion of global energy
demand. But the evidence is that day is still a long time
off. Today, all the renewable and alternative forms of
energy supply provide just 2.5% of world demand, the bulk
of which currently comes from biomass. Research continues
in many other countries around the world. But in every
case, we still are at the stage of research and
experimentation. We believe renewables will provide
material supplies of energy in the long term. But the long
term could be 20 or 30 or more years away. The estimate
from the IEA is that in 2015 they will provide only 3.3%
of total demand.
What sources then
will meet the demand? Some people believe that the key
lies in the potential of nuclear power. That certainly is
possible. But it seems a remote possibility on the
timescale of a decade. Nuclear currently supplies 7% of
world energy demand. The first generation of nuclear
stations are reaching the end of their natural lives. Last
year, only two new nuclear stations were commissioned and
public doubts both about safety and about the uncertain
long term costs continue to constrain new investment. In
the US, no new stations have been commissioned for over
two decades, while in Europe the forecasts suggest that on
current trends nuclear capacity will decline rather than
increase over the next 10 years.
And that leaves
hydrocarbons - coal, oil and gas - to meet the balance.
The mix will vary from one country to another. China, for
instance, will no doubt continue to use large volumes of
coal, but in terms of convenience, oil and gas seem set to
remain the fuels of choice. In reality, energy security is
about the supply of oil and gas to meet demand which could
grow, again taking the IEA figures, to around 93mm b/d of
oil and 64mm b/doe of natural gas by 2015. That would
represent a 20% increase in oil demand from today's level
and a 45% increase in the consumption of gas.
Can the oil and
gas industry meet that demand? In physical terms the
answer is clearly yes. The resources are there. The world
holds some 1,000bn barrels of oil which have been found
but not yet produced, and some 5,500 tcf of natural gas -
also found but not yet produced. At current consumption
rates, that is 40 years of oil supply and 60 years of gas.
In addition, the US Geological Service estimates that some
800bn barrels of oil and 4,500 tcf of natural gas are yet
to be found. And that does not include the very
substantial heavy oil resources here in Canada and in
Venezuela, which also are beginning to appear to have real
potential as a source of future supply.
In terms of
physical resources, then, energy security is within reach.
There is no fundamental physical reason why there should
be a shortage in the next 10 years, or indeed for many
decades beyond that. The challenge for energy security is
that supply is not co-located with demand. The fundamental
fact is that now, and for the foreseeable future, four
regions will account for the bulk of trade on the import
side of the equation - the US, Europe, Japan and China.
Even assuming that all four develop their own indigenous
resources to the limit of what is economically rational,
and diversify their energy supply sources where
practicable, they still will need substantial and growing
volumes of imported oil and gas.
Over a 10 year
period, the trade in oil, in particular, will grow as a
proportion of total demand, because production from the
mature provinces in the developed world is plateauing and
beginning to decline. Oil trade is likely to rise as a
proportion of consumption, from 50% today to almost 70% by
2015. Gas trade will also rise over the same period.
As I have
discussed, there is no shortage of resources. But the
export side of the trade equation displays an even more
powerful concentration of activity. By 2015, three areas
will account for almost 80% of all the oil traded in the
world each day. The three are Russia, West Africa and the
Gulf States of the Middle East. By 2015, on the IEA
estimates, Saudi Arabia alone will be required to export
some 15 to 16mn b/d of oil
to balance the
world market - and that assumes that both Iran and Iraq
are by then producing and exporting at something close to
their full capacity.
That is a
manageable situation, of course, but it does emphasize the
need for the development of a wide variety of sources of
supply, and of the infrastructure necessary to bring those
supplies to market. Canada is very important in that
process. The energy produced and traded from this country
- potentially including heavy oil - is a crucial element
in the overall picture, and so is the infrastructure which
can take those resources to the markets where they are
needed, in North America and internationally.
That is one
element of concern about energy security. The other
concern is the environmental challenge associated with the
growth in hydrocarbon consumption. In part, that is about
the level of pollution caused, particularly in the cities
as hydrocarbons are burnt. In part, and potentially more
seriously, it is about the impact of increasing emissions
of greenhouse gases on earth's atmosphere - the issue of
climate change or global warming. The detailed science of
climate change is still provisional. There are many things
we don't know. But science is always provisional and in
business we are used to working in circumstances where we
don't know all the facts for certain. That means we have
to make judgments in conditions of uncertainty, weighing
all the risks. On the basis of the available evidence
about climate change, the clear judgment must be that
there is a powerful case for precautionary action.
It would be too
great a risk to stand by, do nothing and to wait so long
that when the impact on the climate really does begin to
be felt, the action which has to be taken will be so
fundamental as to cause serious damage to the world's
economy. There is a very strong case for precautionary
action designed to limit any increase in the world's
temperature to around 2 degrees Celsius. That translates
into a stabilization of greenhouse gases in the atmosphere
at around 500 to 550 parts per million. That is the best
current estimate of the level of safety and, of course, as
knowledge advances that estimate could be adjusted and
refined.
Can that
stabilization be achieved? The answer is yes. It would
mean putting ourselves on a trajectory to the point where
in 2050, 50% of global needs for energy would be met by
conventional fossil fuels and the other 50% would come
from fuels with lower carbon emissions - in some cases
with zero emissions. Each of those two halves would be
about the size of today's energy industry. I believe that
is achievable. A great deal of work and experimentation
has been undertaken over the last few years - by
governments, by academics and by the business world. We
may not have a full international agreement, but we have a
great deal more knowledge and experience than we did seven
years ago. People have demonstrated that emissions can be
reduced - and at a very low cost - simply by reducing
waste and inefficiencies. We did that in BP, and we found
that we actually made money in the process. Cutting out
waste is a first step, but beyond that people have also
begun to demonstrate that there are practical ways of
managing the problem.
Some of the
possible steps involve advances in efficiency - such as
raising the mileage per gallon of vehicles from 30 to 60
or eliminating waste, for instance, by ending the process
of flaring the natural gas which is produced in
association with oil. Some of the steps involve changing
the product mix - using, for instance, natural gas to fuel
power stations rather than coal, or looking further ahead,
taking action to encourage the growth of solar power or
some other form of energy supply which does not generate
carbon emissions. There also is the possibility of
developing coal gasification technology. And some of the
steps involve the development of new techniques which are
just emerging, to capture and store the carbon so that it
never reaches the atmosphere. We in BP are developing a
project in Algeria which takes carbon out of gas which is
bound for Europe and reinjecting it into storage. That is
a large scale test of what is possible. If it works, it
will reduce emissions by the same amount as would be
achieved if we took 200,000 cars off the road.
Of course, there
are many uncertainties. The decisions that require changes
in life style may be unacceptable. The technology of
carbon sequestration may be unattainable. There are
uncertainties, but they are not all on the negative side.
Technology is moving very quickly and will almost
certainly offer new opportunities over the next half
century - possibilities we can't even envisage at the
moment. What we need above all is an agreed target - set
for the long term and supported by a trading system which
allocates resources effectively and efficiently. The
European Trading System is an important step in that
direction, and could set a global standard which leads the
way forward. So two major challenges for the world oil
market which will remain, even if prices subside from
their current levels.
What conclusions
can we draw? First, that the world needs a secure supply
of oil to provide heat, light and mobility - and that it
needs an effective market mechanism to ensure that the
supply is available when and where it is required. Second,
that there need be no shortage of oil and there need be no
damage done to the world's natural environment. We can
work our way through all the challenges. The third point
is that this is a common problem. Energy security in one
country is impossible. So is environmental security. There
is one market and one global climate. That means that we
all have to accept the reality of the challenges and the
fact that their solution will require the combined actions
of all those involved in the industry - governments and
companies, public sector and private alike. We can't live
in denial.
That need for a
collective cooperative response is true in respect of
energy security and in respect of the environmental
issues. The private sector can do a great deal, but it
can't operate effectively unless there is an effective
framework which enables infrastructure and investment to
proceed, and which incentivises innovation and the
development and application of new technology. I've spent
more than 35 years in the oil industry now, including some
very happy years here in Canada, and I've seen the market
move through many different phases. The market will never
be placid and calm. No one who wants a quiet life should
ever work in the oil industry. But it is a fascinating and
very exciting place to be. And I've always found from my
experience that the market is a very dynamic phenomenon.
It produces answers, often unexpected answers, precisely
because it stimulates innovation and creativity.
And that
experience gives me the greatest confidence that however
great the challenges answers will be found, and that the
oil market, and the industry as a whole, will be as
important to the economy of this century as it was in the
last.
[Reprinted with
permission of MEES]
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