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.
The question is no longer whether oil prices will be left to the market, but whether political interventions that override market forces will improve or worsen the situation.
The usual answer to this question is the latter, which is why Western policymakers have been reluctant to do very much so far to curb the oil price. Such, in fact, is the faith in “oil market fundamentals” expressed, for example, by Gordon Brown and the recent Treasury paper he commissioned on the oil shock that one is drawn to a surprising conclusion: the main reason for inaction in the face of the oil shock may not be the lack of political will to implement difficult decisions, such as higher petrol taxes or government guarantees for nuclear construction, but simply the ideology of market fundamentalism, expressed in such slogans as “the market is always right”.
But the market is not always right. It is usually right, but sometimes it is spectacularly wrong - as in the recent sub-prime saga. To acknowledge that governments must sometimes correct market failures is not to reject the economic lessons of the 1980s but rather to apply a proper understanding of economics.
There are three main reasons why the market cannot be trusted in the case of oil. First, there is the enormous gap between the cost of producing oil in areas where it is abundant and the cost of producing any close substitutes for this oil. Easily accessible oil in places such as Saudi Arabia, Venezuela and Nigeria costs only a few dollars a barrel to pump once an oilfield is producing. Even including exploration expenses, the total cost of production of Opec oil is well below $10 a barrel.
However, the cost of any substitute runs to $50 or $60 a barrel, whether the Opec oil is replaced by oil from more hostile environments, such as deep-sea drilling in the Arctic, or by some other energy source such as nuclear or wind power. The gap between cheap Opec oil and any other energy source creates an enormous “rent”, beyond any normal return on capital and costs of production, which either accrues to Opec as profits or to consumers as the benefit they enjoy from an energy source cheaper than any alternative in their own economies.
This rent, currently running at around $2 trillion annually, is at the heart of the perennial struggle between oil-producing and consuming governments. Either Western governments claim most of the rent for themselves by levying high taxes on domestic oil consumers, or Opec governments pocket most of the rent, as they are doing today.
But why shouldn't this rent be distributed “fairly” or “rationally” by market forces? The answer lies in the second “market failure” inherent in the oil business - monopoly power. Because almost all of the world's readily accessible oil is concentrated in a handful of nations, they have been able to achieve almost total monopoly power through Opec. With the supply of oil controlled by a monopoly, there is nothing “efficient” about the level of prices set in the market; and the competition between producers and consumers inevitably becomes an issue of politics, rather than economics.
The rational response of Western governments to this monopoly power is to lower the cost of energy substitutes by accelerating technological advances and increasing economies of scale. This can be done by imposing very high taxes on oil consumption to guarantee high profits for producers of non-oil fuels. At the same time, such taxes can ensure that most of the rent earned from the difference between consumer prices and Opec production costs stays in Western treasuries instead of going to producer governments.
The use of tax policy to capture rents for Western governments would be particularly effective if combined with regulations designed to prevent money being poured into speculative markets for “paper oil” - which brings us to the third reason why price signals are misleading in the market for oil.
The gap between physical trading in oil and the paper markets in oil futures and oil-company shares raises all sorts of financial anomalies. One is the ramping-up of oil prices by institutional investors. Another is the strong incentive for Western oil companies to invest in oil exploration, which is inherently inefficient, when competing with low-cost state-owned producers, instead of investing in new technologies to replace oil, where Western economies have a comparative advantage over Opec.
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.
Excellent article Ben.
Sometimes less is more.
Abbas lyrics are known to all - almost at birth - in a similar way the main Beatles songs are.
The writers Benny & Bjorn are having the last laugh- on the way to the bank- to all of us who would never admit to buying an Abba record in the 70s!
G Smith, Coventry, England
All my life I have loved the sound of ABBA. I don't want to hear about their private lives and it saddens me that the Media insist on trying to enlighten me. It's refreshing to read this article about the group and their unique and timeless quality.
james elliott, banbury, oxfordshire
You are correct in your analysis of lyrics, but to their credit, they did evolve to another level with “The Visitor” album. Dark and serious in their aim to move on and live after the break-ups. You can hear in it Frida’s voice “When all is said and done.” How she is hurt by the break-up, but is “Slightly worn but dignified and not too old for sex”. Just great words, as you say.
Thank you.
M. Carter, Chicago, USA
Benny and Björn were not Lennon and McCartney - they were better. Sorry, but they are more popular, have proved more durable and more accessible. It dosn't matter how revered Lennon / McCartney are; that's not the point.
Kev, Kuwait City, Kuwait
Anatole's views are very wise but also very troubling that we are very addicted to oil. Oil is so pervasive nearly everything in the home, from cosmetics to kitchenware to clothing is made/derived from oil. Remember famous Nat Geo photo (1990s oil article) of house front yard? Hence inflation spikes
David Yap, Perth, Australia
REPLY to Nisha C,London: It's very hard to feel sorry for the people of richest deserts in the world. The markets will push prices until demand subsides or potential supply is abundant. The real problem is: my Aston Martin is so thirsty.
jonny bard, monaco, monaco
It always struck me that the lack of clarity ("Tesco or Glasgow?") caused by the thick accents and over-enthusiastic use of new technology just delayed the final realisation of just how bad the lyrics were ("Oh, Glasgow").
Thank for persuading me to tune to Radio 3 and stay there for 30 years!
Ian Kemmish, Biggleswade, UK
"The rational response..." Half of it. The other half is to prevent oil companies from wasting resources.
The big foresters did not adapt to coal. The big whalers did not adapt to petroleum. Big oil will not adapt to renewables+nuclear. Time to cut our losses.
Greg, Hawera, NZ
Couldn't disagree more. The melodies are sublime, the words utterly banal. That's why you can't shake them out of your head - they're like chewing gum on the sole of your shoe.
Ken Leyland, Liverpool, U.K.
The commodities climb is not about insecurity over oil supplies. It's about insecurity over the US dollar, so investors want something tangible, not fiat paper. This is what happens when economies abandon the gold standard - fiscal madness.
shannon, cincinnati, USA
REPLY to Nisha C, Al'Queda, have done so well,the markets speculate on the fear of supply. My demand wont go away I still have to fill up my thirsty Aston Martin.
Gordon Stop the excuses, remove VAT from fuel, then the tax wont go up as the prices go up, simple
jonny bard, monaco, monaco
Saw the programme on TV last night about the up Mamma Mia film. My wife and I had forgotten how much we loved Abba. By the end of the programme we were twitching and humming the lyrics. I was amused that the trendy stars who are cast for the film disparaged Abba - and then fell for them too !
david, Ligneyrac, France
Thank you for mentioning "peak oil". You are so right. People have been predicting that the world oil production would peak about now for several decades. For a good introduction to the problem please view the talk by Caltech professor David Goodstein (google Caltech Today Streaming Theatre).
Rick Cook, Long Beach, CA, USA
I always read what Anatole has to say and understand most of it. I am a retired technologist living in S California where the prospect of large scale solar power is a no-brainer - forget PV, it's a side show. Kramer Junction (Mojave Desert) was built 17 years ago when oil was $5 a barrel or less. It's producing around 300 MW. Now, with oil at $150 a barrel, we are thinking of resurrecting the construction process. Why aren't the south western deserts blanketed in solar collectors?
michael petty, riverside, usa
How can you blame the market (i.e. bleat for Government meddling) while admitting the existence of a cartel (the right word, not monopoly)? A Statist by any chance?
The answer is fusion power IMHO. If the UK spent 1/10th, no, 100th the amount promised on daft wind, we would be streets ahead.
Roger Thornhill, London, UK
Monopolies are illegal under capitalism; offenders are prosecuted fined & jailed.
Why should it be any different for OPEC ?
Can we prosecute OPEC ? Sure
Can we put them in jail ? NO
But we can penalize them with heavy fines and sanctions.
It's the LAW.
Make it unprofitable to be an OPEC member
Nicholas, California, USA
If the world really has reached peak oil then the supply curve is nearly vertical. In these circumstances an OPIC (Organisation of Petroleum Importing Countries) could coordinate taxation on oil consumption without impacting the supply and therefore reduce the $ transfers to OPEC.
Kevin, Lancaster, UK
Ignoring that Opec supply less than 50% of the oil consumed today and the price is being raised artificially by speculative investors, mainly those from the non-Opec USA
Tim, Shanghai, China
You claim :"BP and Exxon have no special skills in nuclear power, wind turbines or photovoltaics."
In fact BP has been involved in solar power since 1973 and its subsidiary, BP Solar, is one of the world's largest solar power companies
Alan Murphy, Cheltenham, UK
Andrew,
The US hasn't hit Peak oil. We have it a Liberal Wall. The Environmental Wackos, here fight tooth and nail to keep us from drilling; even in places where the oil companies already hold leases. I'm not talking deep sea drilling either. I'm talking about drilling in the lower.
John Mack, Baltimore, USA
No one will ever "run dry", oil will remain in the ground forever because the last dregs will never give a good Energy Return On Energy Invested. These high prices have done much good in that they have created a much needed awarness about the global energy situation. Let's begin the next phase.
Bill, Seoul, Korea
Once again you are behind the curve Anatole, when you become truly bearish this is when i will buy!! Economic growth can not be sustained when you have debt to income ratios of +170% (ie Western economies), bloated asset prices and looming (current) inflationary pressures.
Hamish, London, UK
I am a 39 year old Techno & Deep House DJ, but I also will happily play and dance to ABBA. My son was born 13 days ago and by the time he is 3Yr old will know all of the ABBA songs in my collection...
I am not ashamed....
(Phew I feel better now that I have admitted all that)
Jim, oulu, finland
How about the Russian-Ukrainian theory of an "ABIOTIC" ORIGIN OF HYDROCARBONS..?
Such theory made the Russians to become EXPORTERS from being ALMOST TOTAL IMPORTERS of oil ...And the world's greatest producers of NATURAL GAS, which nowadays supplies the energy needs of Europe.
Jesús NAJERA-GARZA, Monterrey, N.L., MEXICO
It would be interesting to see the impact of a major shift in poiwer usage from oil & gas to nuclear etc, and for transport to shift back on to the rails. Combine that with Hybrid/electric cars and better overall fuel economy, oh and biofuels. What would the decline in global oil demand be?
Russ, High Wycombe, England
This argument is bordering on social justice. From a Hayekian perspective social justice is a fallacy, therefore it is no fault of the Middle East and other states for being blessed with oil wealth. For true fairness we must cut the blood ties of the monopolies and leave everything to the market.
Nisha C, London,
With the inevitable acceptance of the peak oil theory and our addiction to oil, we have two choices as logic would see it. We either cut down our usage drastically or we bury our heads in the sand and wait for the cold turkey solution.
Udo, Melbourne, Australia
How convenient Anatole how very very convenient..
Having read the credit crisis completely wrong, seriously underestimating the economic and social impact and what effect that would have on stock markets you now latch on to the oil excuse .
What credit crisis ? - oil is to blame for everything.
David Wallace, Glasgow, Scotland
Sure. Blame OPEC. How do we know what is causing the shortage. Nobody seems to know for sure but you blame OPEC.
It could be governments increasing their strategic supplies before the possible attack on Iran for all we know.
Tim, Toronto,
Monopolies are illegal under capitalism, offenders are prosecuted fined & jailed.
Why should it be any different for OPEC ?
Can we prosecute OPEC ?
What are you talking about Nicholas? Under capitalism? Who wrote this law you are talking about?
Tim, Toronto,
If the price of LCD TVs can drop 25% per year, why not the price of solar panels.
If batteries for electric cars can be improved a lot, why can't the same technology be used in houses for solar power.
We just need the Japanese to show us how to create huge, economy of scale manufacturing plants.
Tim, Toronto,
covering 3% of our planet with solar cells will give us more than enough energy for all our needs. The sooner we get going the better
Mauro Boero, Cambridge, UK
We may never reach the point that oil runs out, I think our civilisation will run out first. Shame on us to be so dependent on something so finite. It was never going to last. I think the age of "Liking nice things" is coming to an end, so we'd best get used to it!
Andrew Corr, Burton On Trent,
There are 700 million internal combustion engines in the world. What we face is a liquid fuel crisis. Talk of nuclear or solar or wind is not going to help us in the short term - the US Hirsch report says we will need at least 20 years to prepare for peak oil. We are lucky if we have 5.
Andrew Evans, London, UK
The world's largest oil producer is Russia. Some of the large funds trading Oil Futures are Russian. The countries worst affected by high oil prices are USA, China and Europe. Russia gains a lot in every way by consistant high oil prices.
Derek, Pembroke,
OPEC's monopoly was in production capacity not output (50 of 85 MB/day) and market disorder began when this ended. What price would balance demand at 50 million barrels/day ? The "rent" creates beneficial incentives to explore. Oil cos. respond to but cannot control this value. Demand destruction continues apace and prices will balance at a lower level
Paul Hahn, Perth,
The truth of the matter is that these oil wells never run dry as quick as people think. The method used in getting the oil out is a cause of the problem, because they pump it out from the surface and make a quick killing on the speed of the oil they get but damage the well in the process.
Anthony, Calgary, Canada
Yes, we need to kick our petroleum habit, but let's not get in a rush to do so. Becasuse I own shares in the one & only pipeline that transports refined gasoline from the Gulf Coast to the NE US it's evident we should approach this problem with all due deliberation.. :)
Dave Livingston, El Paso County, Colorado , USA
Monopolies are illegal under capitalism, offenders are prosecuted fined & jailed.
Why should it be any different for OPEC ?
Can we prosecute OPEC ? Sure
Can we put them in jail ? NO
But we can penalize them with heavy fines and sanctions.
It's the LAW.
Make it unprofitable to be a OPEC member.
Nicholas, California, USA
As a short/medium term solution, the major oil consumers - China, India, US, EU, Japan - should form a cartel opposite OPEC and demand lower prices, or else...
Russia is the only oil producer with the power to oppose an oil consumer's cartel and it could be bought off.
David, London,
There is no substitute for oil. It is the seedcorn of all modern human existence and practically all 6.7 billion of us depend on it totally. Understand peak oil and see the future. Governments are very afraid and are totally paralysed in the headlights of the coming crash.
C Smith, Norwich, UK
Solar Photovoltaic systems installed in Germany last year 130,000,producing 15% renewable energy,on target for 30% by 2020,adding 2 Euros per month per family on bill.
270 installed in UK last year,4% renewable energy and lagging targets badly, presently,we are incompetent.
No will,no way.
shaun, Blackpool,
Anatole just can't get his head around the fact that oil fields deplete, and new oil is ever more difficult to find and more expensive.
Check out the IEA comments in the FT.
Demand in exporters is rising, so there is less available for export.
That means higher prices.
David Martin, Bristol,
Mr Kaletsky has got it wrong as he seems to do more and more these days. The rise in oil is simply an extension of the credit bubble. As some bubbles such as shares and property burst others such as oil and commodities inflate. This has nothing to do with opec or any government.
Peter Delany, Wirral,
From my own experience of regularly driving 500 plus miles a week, I've seen a reduction in the number of road users. So in my view the demand side of the equation is reducing yet the supply side price is increasing. I'm sure this is also happening in Europe and USA so why isn't the price going down
Mike, southport, UK
If G8 decided that over 10 yrs we will reduce our consumption by 80% through increased petrol efficiency & alternate sources. All countries not meeting the standard could not sell into our markets. A carbon tax applied on imports not meeting emission standards. Would boost the west & return mfg
Jason Pearson, Toronto, Canada
The world could have kicked it's oil addiction a long, long time ago!
But the black gold is a controlable energy and can be sold at very high price.
Do you honestly think all these powerfull companies wish to offer free energy or even cheap! It's all about profits and OIL equals money, lots!
Bobby, North City, UK
Are the oil companies in the oil business or the energy business? It is reminiscent or of the railroad companies of a century ago that did not have a view about transportation developments in cars and aircraft. Maybe their resources and skills are so narrowly focussed they wont be able to help.
James, Sidmouth,
Anything that starts "something must be done" is inevitably going to lead to waffle which is exactly what this article is!
Richard, Newton Abbot,
The market is not broken because of addiction, but because, post-1974, oil consumers allowed a producer oligopoly to dominate the market.
The difficult decisions required do not concern taxation, or green incentives. A return to the stone age will not help consumers, or producers, as Yamani knows.
Albert, Paris,
Alternatives are not the same, yes you can get energy from solar and wind, but they can never compete with the low costs of digging up ancient C-H bonds and breaking them.
6% of global production comes from a 57 year old field.
The fun really begins when production starts declining 5% a year!
P Coyle, UK,
The race is on between the visionaries who wish to colonise the stars, and the Malthusians who will overwhelm it strip its resources, and destroy all wild life. The shock is how quickly the Malthusians have multiplied. The only way to the stars will be recycling tin cans, and burning waste chip oil
ged, manchester,
You first Anatole !!!
I have just come back from seeing family in Poland - they will never kick the oil habit, they like their cars too much !!!!
ian payne, walsall,
Simply...Demand for Energy will increase for the indefinite future & supply will have to increase to fill the gap.
Ignore peak oil etc, there comes a point where oil is too expensive/scarce to be the solution & another energy source is needed.
Nuclear is the only economically efficient solution!
James, London, UK
When the price of oil raises high enough because of market forces, there will be profits to be made in alternative sources of energy. Get the hell out of the way of business and let ingenuity solve this crisis, not the dead hand of government.
Richard, Middlesbrough, UK
French governement has invested massively in Nuclear power stations, high speed trains and efficient energy consumption since the 74 crisis. Other countries just began to undertstand it. And the solution is certainly not the actual renewable energies that still need a base power (nuclear or fossil)
remy, liverpool, uk
It's not about hydrogen useage in private cars, 98% of the energy from electrolysis comes from oil... Nuclear power requires more Uranium than is in the rocks to compete. Wind power is hugely costly. Why aren't we pushing forward investment in nuclear fusion?
Paul, London,
Hope in the form of the cost effective generation of hydrogen to fuel a "Hydrogen economy" as opposed to the current burdensome "hydrocarbon economy" -is in our reach - giant strides have been made by UK company ITM Power to make this possible - look out for news headlines next week!
Charles Purkess, Malmesbury,
"[The market] is usually right, but sometimes it is spectacularly wrong - as in the recent sub-prime saga."
The sub-prime mortage saga was caused by government interference in the markets, not by the markets themselves; ever heard of the Community Reinvestment Act. Your whole premise is false.
F. David del Campo Hill, Oxford, UK
Whilst the EU obsesses itself with the minutiae of needless regulation, they ignore the 'impending' energy crisis. The only meaningful long term alternative to oil is solar power and the existing technology isn't the answer. Why isn't there an European research institution looking at this urgently?
john, Oxford, England
We have the technology that enables hydrogen usage in transport but no political will to do so. When will we see meaningfull change in government policy and law makers with the balls to make the changes necessary, to legislation, to drive the hydrogen fuel economy forward.
Stephen Foward, Northampton, United Kingdom
It seems to me that changing oil trade to the Euro will stabilise the price of oil.
OPEC have been wanting to change to the Euro for a while, because of the better economic and political stability of the new currency over the US dollar.
The US is trying to avoid this happening at all cost. Why?
Erwin, London, UK
The current price of oil is an expression of fear over the security, reliability and longevity of supply, when that price becomes overly punitive alternatives will become attractive and developed.
To the extent that the world should kick the oil habit, the market is providing an invaluable service
John Lewis, London, UK
Oil. It won't last forever. A good wake-up call.
ian cheese, london, uk
Exactly Andrew, the economists are clueless, this is not like the previous oil shocks, 30 billion barrels a year should be telling us something. Alternatives, even more laughable. It takes decades to replace infrastructures and that is when we have something to replace it with. We do not.
Pete Best, Northampton, UK
I would not trust Mr Kaletsky to run any business at all. What was he saying about oil only 12 months ago - quite unable to predict the future. Nor would I trust Gordon Brown to decide the oil price. Come to think of it, Nu-Labour have controlled the UK oil price and continually milked it for tax.
Brian Lewis, Manila, Philippines
I would suggest that although markets are sometimes wrong, they are correct a lot more times than governments.
Moving away from oil dependency to other alternatives will only happen when there is an alternative, that is equal in terms of cost and usability.
Anthony, Sydney, Australia
With the possible exception of the French with their nucleur power stations, Western governments have ignored the oil time bomb since 1973. Chasing short term, expensive oil deposits is not the answer, all these resources should be devoted to replacement oil technologies.
Tony Gee, London,
"The market is not always right. It is usually right. It is wrong on oil" But Anatole, there is no 'right'; no 'wrong' only the market, IN THE MARKET SYSTEM. Where the market puts the price is where the price is! No good bleating at the clouds for raining, ITS WHAT THEY DO!
S. Barraclough, Huddersfield, W. Yorkshire
by the way Anatole, BP (and also Shell) is one of the largest producers of solar cells. Getting the tax/incentive system to work so that such companies can get large profits from renewables must be the priority
mauro boero, cambridge, uk
Who wants the oil more?
Just like 'silver prices' were controlled by 'liquidisation' regs, the price hike changes market behaviour on the basis of strategic and personal energy security for fear of energy poverty. China is going for broke on modernisation, based on cheap fuel. It will fail?
Goldfinger, Gloucester, UK
The massive dependence on fossil fuel taxes demands political action in our own backyards. Stop finger wagging at traders or OPEC. A viable 'clean' fuel would do as much to 'destroy' economies as the current crisis, by removing a major revenue source and blow a massive hole in public spending.
John Walter, Bonn, germany
The way to pop the bubble in the commodities markets is to only allow those people who can actually take possession of the commodities to bid on them.
Paul Bahre, Granby, CT, USA
It is not a matter of the oil running dry. The problem is "peak oil" -when we have consumed between 50 and 65% of conventional oil- global production will decline. This has happened in the US, UK and approx 60 countries around the world. This imminent decline means ever rising prices. Get it right.
Andrew Evans, London, UK