Oil shocks and responses (or lack of responses)

"At the time of the last energy shock in the 1970s, Sheikh Yamani, the shrewd Saudi Oil Minister, famously told his greedier Opec colleagues that they would encourage replacement of oil by other energy sources and kill the golden goose that had made them wealthy if they kept pushing the oil price too high. "Remember," he said, "the Stone Age didn't end because the cavemen ran out of stone."

The last three global recessions - in 1974, 1980 and 1991 - were all triggered by an oil shock and it looks as if Opec is now determined to repeat this experience. How many such shocks will it take before we control our addiction to oil? Cynics will say that all the world's oil will have to run dry before we see any decisive action in the US or China to reduce and ultimately eliminate their oil demand. But a confluence of economics, politics, diplomacy, environmentalism and finance has suddenly been created which may unexpectedly prove the cynics wrong. An oil price of $140, never mind $200 or $300, is simply too economically damaging to be tolerated much longer.
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As a result of these perverse incentives, Western energy executives invariably insist that there is no plausible alternative to oil. For example, Rex Tillerson, chairman of Exxon, remarked last year that he wasn't interested in biofuel research because "I don't have a lot of technology to add to moonshine". Tony Hayward, chief executive of BP, wrote a few weeks ago that "humankind remains dependent on fossil fuels" because renewable sources now account for only 2 per cent of global energy use. This is hardly surprising, since companies such as BP and Exxon have no special skills in nuclear power, wind turbines or photovoltaics, and they have strong vested interests in political and fiscal support to explore for oil in ever more difficult and hostile regions of the world. But such support cannot be economically justified since Opec will always have an unbeatable comparative advantage in producing oil.

If Western governments play their cards correctly, people such as Mr Tillerson and Mr Hayward will be proved wrong - and ironically Sheikh Yamani will eventually be proved right. The world will wean itself off oil long before the sands of Saudi Arabia run dry."

Anatole Kaletsky, "The world must kick its addiction to oil", Times On Line (3 July 2008)

Anatole Kaletsky is one of Britain's leading commentators on economics. He was formerly Economics Editor and is now an Associate Editor of The Times.

Kaletsky (and Yamani) is right to say that the world will end its dependence long before the sands of Saudi Arabia run dry. At current rates of usage, there are thousands of years of petroleum upon which the world can draw, if the price is allowed to rise to cover the rising marginal cost of its extraction. It will be increasingly expensive to develop petroleum resources in the future, to be sure, but that does not mean that the oil is not there and it would not be economic to bring it to market. In this regard, it is important to note that the higher the price of oil, the more conservation is encouraged and the more competitive alternative energy sources become economically viable.

The reason to limit our dependence on oil is not that the world will run out of oil. It will not. The reason is we are increasing vulnerable to the whims of foreign producers and burning oil is damaging to the environment. Therefore, we should promote conservation, encourage substitution to other forms of energy, and seek alternatives to oil and gas as the most important energy source in most areas.

We should not fool ourselves about how difficult this will be. We are decades away from having a diversified mix of energy sources and we must expect our dependence on oil to remain high for many, many years. For this reason, and for the foreseeable future, we have no choice but to continue to explore for oil and develop any fields we find, especially here in the U.S.

I must say I do not understand why Congress is not pursuing every option to expand production and expand it as quickly as possible. In recent years the world economy has grown rapidly, and the higher incomes have generated a rapid increase in the demand for food, energy and other primary commodities. Supply has simply not kept up with the increased demand, and prices on international commodity markets have therefore risen sharply. Accelerating the pace of capacity creation in food and energy must now be seen as a key domestic economic objective to weaken the grip of an increasingly tight international market with the potential to cause a major recession.

By failing to remove impediments to increased drilling at home and encumbering domestic producers with endless environmental restrictions, Congress has made increasing domestic energy supplies impossible and placed the country in an increasing vulnerable position. I'm beginning to believe the rumor that Congress has become OPEC's newest member. How else does one explain an entire array of American energy policies only Sheiks and oil ministers can love?