Item of Interest - Friday, March 25, 2005

As crude oil pricing remained firmly planted above $50 per barrel and gasoline prices at the pump heated up for American consumers there has been much discussion about how we got to where we are in energy supply and demand.  It was against this backdrop that Dr. Herman Franssen, President of International Energy Associates, shared his views with colleagues in a private on-line forum.  We thank Dr. Franssen for permission to share his perspective with you. 

A combination of market forces and supply disruptions caused oil prices to increase by a factor ten between 1973 and 1981. The impact on the global economy was catastrophic and despite earlier cries of $100 oil by 1985, high prices caused oil demand in the OECD to collapse and non-OPEC oil production to rise sharply. OPEC tried to maintain high prices through supply management but, by late 1985, spare capacity had risen to 50% of OPEC production. In 1986, OPEC changed course and it took about fifteen years for the organization to return to a comfortable market position.

Until mid 2003, most oil analysts believed that modest oil demand growth, coupled with robust non-OPEC production growth would keep oil prices at around the mid-twenties through most of this decade. What went wrong?

Oil demand exploded in 2004 largely but not exclusively due to robust Chinese oil demand and, for the first time since the 1970's OPEC produced at capacity by the middle of 2004. Many oil market analysts had ignored early warning signs in the market of gradual tightening along much of the oil supply chain, from exploration and production to transportation and refining. The huge increase in demand in 2004 brought reality home and awareness spread that the price for decades of under-investment in the petroleum sector was higher prices in the end. Add to that supply disruptions due to the war in Iraq and smaller disruption elsewhere in a tight global market, and billions of dollars of speculative investments in paper barrels to complete the picture.

World Nominal Oil Price Chronology: 1970-2005

[Click on graphic for detailed view and more info.]