I'd like a time machine to see into the future. If 'oil' includes oil substitutes the supply curve has to get
steeper as EROEI --> 1 and the demand curve has to shift left due to recession induced lower income. In other words one set of forces tends to raise the price and another wants to reduce it. My guess is that it will never sustain over $200 per barrel.

I'd have to second that price limit. I'm not sure on the specific price, but since oil is a/the foundation upon which the economy is built, a sustained limit in supply would move the demand curve left, and eventually (after initial inflationary effects) cause major deflation, lowering the 'price' of oil, but not relative to gdp (or whatever macroeconomic measure is most appropriate). This sound like the correct logic?

Also, thanks for the article! I have an engineering and sociology background, so explanations of the economic side of this debate is always helpful. Clear and succinct.

thanks
-Matt/PObookman

The x-axis is the price, and the y-axis is the demand.

Is that the right way round?

We can still get absolute oil shortages if behavior changes overnight. In the 70s they talked about the 'rolling reserve'. Drivers responded to potential shortages by trying to keep their gas tanks as full as possible. A real shortage was thus created. There is a lot of air in all the gas tanks out there.

WHERE DOES THE PRICE AND QUANTIITY OF LIBERTY CROSS?
WHEN THE MARKET FOR DIGNITY "CLEARS"

Oh boy, oh boy....:-)
At last a piece I could sink my teeth into!

This article by Robert Smithson is a little masterpiece, and while it seems brief and self explanatory, it explains SO MUCH that so many seem to find unexplainable. A keeper. But the struggle is now about something bigger, far bigger, even than "price" and "quantity" of energy. What price for control of the future, for HUMAN DIGNITY?

The closing line is exactly on:
"Each boom in the oil price sows the seeds of its own destruction."

The interesting thing that is always overlooked and underexamined even by the economists however is this one.

WHAT PRICE LIBERTY?

Of so many things discussed here at TOD since I first started reading and posting here, the question of liberty has been the least seriously discussed, and when it is, it is usually as something to be made fun of. Liberty is seen as something the right wingers use as an excuse to invade Iraq or Granada or Panama, or something some poor dumb joe six pack uses to defend his right to be assured of driving a giant pick up truck into infinity. Liberty, which was once considered valuable enough to die for is now considered a joke, or a concept of the immature who do not understand the OBLIGATION that each person owes to the world, to give away all individual choice, supposedly so that the world may survive, and not fry in the horrors of ecological catastrophe and global heating, as humankind starves away in an energy deprived world.

But liberty is less a joke when it's yours at stake, isn't it? Imagine the intellectuals who will so gladly proclaim that "only legislation" or compulsion can make the simple masses do right by the world having their own liberty challenged. We saw the reaction on the campuses of America and France in the 1960's.

Now let us go back to the economic topics so perceptively discussed by
Robert Smithson, and ask in the literal sense, "What price liberty?"

I speak of this in relation to recent history. During the so called California energy crisis of a few years ago, the thing that seemed to absolutely grate on the pride of the Silicon Valley business class was the way in which the fate of their business could be decided by the electric power providers. Companies such as Dell and Apple and Sun Micro and the thousands of high tech companies that KNEW technology first viewed the energy crisis that could shut them down with brownouts and blackouts as a technical issue, and found it very annoying. This should not be that difficult to find a way out of, to fix, with alternative and better engineering and design, they reasoned. For the first time, wealthy and powerful people and companies felt powerless, at the mercy of forces outside themselves. Their liberty to continue their businesses and live as they had lived was threatened. Many of the founders and funders of the "high tech" revolution of the last 30 years began to look at the REAL construction of energy, not just oil or gas or coal, but energy in the largest sense.

Imagine their fury however, when they found that it was NOT a technical issue in the true sense, but that they had been being held hostage and caught in the schemes of firms such as Enron, Aquilla, Calpine, Duke Power, Williams, Dynergy, and the people who ran them. The wealth, power and LIBERTY of the richest and brightest class of talent in the world had been put at risk by the games of thugs, theives, con men, and petty traders. Can you imagine the rage?

The high tech billionaires fought to build their firms to give themselves LIBERTY through wealth. In the world today, money has replaced clashing armies and swords. That is the secret of the success of free enterprise. Every person can play at being king or queen, or prince or princess, legally, through wealth. He or she can build a fiefdom, a fuedal realm in business, and control it, pulling the strings, and managing the work of others, sometimes thousands of others. Would not any ancient king have dreamt of the power and access that Microsoft can buy?

Imagine the rage of these people being treated like a lowly middle class rent payer by the utilities, having their power shut off or browned down at the will of the energy utilities, no explanation given. All they had built was being put at risk!

In interviews in the media, in the directives and memos of these business power brokers, one could hear the absolute FURY, and the pledge that they would take control, and NEVER be put in this position again.

But, how do you price something like that, how do you put a price on rage and revenge? What would the venture capital billionaires and the silicon valley powers pay to be freed, to return to a state of liberty from the energy providers? How do you calculate the value of freedom economically? It is a fundamental question.

Within months, silicon valley began to come alive. Office space is again at a premium, and technicians and young talent are returning. New start ups are going public, new publications emerging, thousands of websites, patents, and technical papers written.

This is what the media has been calling the "greening of silicon valley" and the "clean power" revolution. The growth of PV solar, nano solar, advanced batteries, plug hybrid drivetrains are now the new high tech products to be developed. Billions are pouring in. Whatever the price that the prideful and rich silicon valley entreprenuers and investors will pay for liberty, it looks as though it will exceed billions.

"Each boom in the oil price sows the seeds of its own destruction."

True. But the energy industry has gone further than a "boom in the oil price."
They have managed to slap the wealthiest most technically astute most decisive class of people in the world in the face, to spit on their freedom and liberty, and in the case of Enron, to laugh on tape about it, to humiliate the buyers of energy, to be listened to later, over and over and over.

Now, as Robert Smithson points out, the breakpoint is price. Because the technology is ready. The alternatives exist. And America's talent pool has the bit between the teeth. These are people who are already rich beyond the dreams of most humans. They are not in this for the money alone. The money is simply the way to fuel the development. They are in this for freedom, for liberty, for CONTROL of their destiny and the destiny of their rich and privilaged families.

And while the poor may be swayed by the humiliation of the idea of liberty, make no mistake, the rich and powerful will not laugh away theirs. They will not laugh at the tools that can free them from the monopoly control of the current entrenched and corrupt energy oligarchs. THEY WILL FIGHT, with all the tools at their disposal, and the tools are very powerful.

Alvin Toffler described this 30 years ago when he wrote a chapter heading in his book "The Third Wave".

"The Coming Super-Struggle" he called it. But this was not a struggle simply between groups of people. As he described it, it would be a struggle between "radically different ways of wealth production." What PRICE will be payed for control of the future, for destiny, for liberty? And remember, on the demand side, the wealthy and powerful technicians DO NOT accept that they will have to do on less. They believe that they simply have to find ways to produce alternatives that allow them to HAVE MORE. They do not view the winning of the superstruggle, the fight for the future as the opportunity to see their children grow up to walk in ox shiit down on the farm.

THAT will be the fate of the losers of the superstruggle.

The interesting thing is, more and more of the public agree with them, and are choosing sides. Few are prepared to be consigned to the role of yeoman farmer and laborer. They will be willing to PAY, and pay through the nose, if that's what it takes, to retain liberty and dignity.

Each boom in the oil price, each slap in the face of the public has the same effect with the middle class that it had with the wealthy powerful technicians of California...it "sows the seeds of its own destruction."

The difference is, the wealthy silicon valley entreprenuers and technicians possess the skill, the will, the money and the knowledge to do something about it. HOW MUCH WILL THEY PAY FOR LIBERTY? How do you put an economiic price on dignity? Is FREEDOM worth a few extra pennies a kilowatt? A dime extra? a half dollar extra? At what price does "the market clear" when the commodity is MORE than energy, much more?

It is important not to be one who knows the price of everything, but the value of nothing. We will pay, in dollars or in freedom. It is ours to choose the price of our freedom and dignity. I will now request that Mr. Smithson attempt to price that into his portfolio, as we all must price it into ours.

Thank you.
Roger Conner Jr.

Remember, we are only one cubic mile from freedom

'Each boom in the oil price sows the seeds of its own destruction'

This has always been the case in the past but is it necessarily going to be true in the future?

Certainly I can see a recession now or in the next few years still resulting in this pattern. But jump forward to say 2020, when say maximum production is down to 60mbd. Will it still hold?

Thanks for your post Robert. Most people here, however, do have a college degree and understand the economics of the oil industry.

I personally am not a 'doomer' and believe adaptation can occur but I do not believe it will be market lead. The level of decline in conventional oil assets could be too severe (5% p.a.).

The alternative fuels you discuss were evaluated by Robert Hirsch in his report for the EIA. He found that when they are fully untilised they could replace approx 25m barrels per day of oil. In the long term this 25m bbd plus a little deep water and new conventional might take the supply to 40m bbd. This reality is simply too extreme for the market to respond too. Peak Oil is not an adjustment in the oil market, made possible by the laws of supply and demand, but a global emergency that will require a global warlike response by governments around the world.

Thanks for this tutorial, we are missing a TOD contributor with a good background in economy.

And over the long-term, high oil prices will tend to encourage consumers to either reduce energy consumption or shift to other forms of energy. Similarly, investment in either inhospitable areas or in developing technologies will result in greater quantities of oil or synthetic crude coming on to the market. Each boom in the oil price sows the seeds of its own destruction.

I agree but it seems to be more complicated than that. Two days ago, a CNBC analyst interviewed Daniel Yergin and asked the following question:
Where is the demand destruction? Where is the increase production because you can sell it at $70?

and Yergin said:

Delays and rising costs are now the name of the game

What you are describing is a kind of business cycle:

high prices -> more exploration -> more supply -> lower prices

But there are also other cycles:

high prices -> investment in alternatives -> more supply -> lower prices
high prices -> lower demand -> -> more supply -> lower prices

From the viewpoint of an investor, price instability is probably a major risk factor. In a free market, Alternatives are economically viable if oil stays above a certain value so that market substitution can occur.

There is some discussion at Mish's Market Traders site on the Energy and Energy Stocks bulletin Board about crude oil contracts dated in excess of 3 years.
I figure we will pull out of Iraq and am trying to figure how that will impact the prices of these contracts.

From the initial posting:
"J.P. Morgan was chosen to head up the “new” infantile Iraqi Central Bank. They quickly moved to “collateralize” Iraqi assets [what else does Iraq have that the world needs besides OIL?] to rebuild [or redistribute the rubble, perhaps?] the country.

Funny, isn’t it; that this “COLLATERALIZATION” just happened to coincide with an “explosion” in trading volume of “LONG DATED” [greater than 3 years maturity] crude oil futures contracts."

The link:
http://forum.themarkettraders.com/read-m/25/1020/1020#msg-1020

Regards,
Gunga

“The world is consuming more oil than it is producing.” --The Economist, July 14-20 print edition.

Wow, that’s a shockingly foolish statement.

No, it isn't. It's the very cusp of truth.

The "world" is indeed "producing" oil at a rate much, much slower than it is consuming it.

Oil is "produced" by geological forces that care not one bit about our sacred supply and demand curves. It happens over millions of years.

Consumption happens at a much faster pace. It happens over decades.

Woe to us all.

Folks, I am leaving this comment thread here, but there's something funky going on with the post, so I am creating a new thread up above this on the front page.

Sorry to make you click back and forth.

Also here's a new reddit link:

http://reddit.com/info/2gmrl/comments

http://digg.com/business_finance/The_Economics_of_Oil_Part_I_Supply_and_...

http://slashdot.org/firehose

if you are so inclined...

And over the long-term, high oil prices will tend to encourage consumers to either reduce energy consumption or shift to other forms of energy.

About these "other forms of energy".

Electrified rail and electrified road transport being the first candidate.

At some point, someone will work out that overhead electrification for rubber tyred vehicles is cheaper per mile than diesel. At that point we may well see large scale construction of standardised electric gantries & lines that trolleybus operators and truckers will pay (possibly per mile with a kWh charge) to use. At first it won't be universal so trucks will be dual capable.

In Glasgow in Scotland, pre 1960 there was significant over head electric provision all over the city. This ran one of Britain's largest trolleybus network (in parallel with a very large tram network).

There is no reason that it can't be rebuilt but this time with significant A-road, and perhaps motorway provision as well for truck hauling capability.

We'll still have major overland road transport in 100 years time, it'll just look a bit different from today.

Andy

Robert:

I have taken some micro and macro economics courses, but am by no means an economist.

Lets agree that:
1) At any given time Oil "supplied" = Oil "demanded" = Oil "produced" i.e. that we are using the economists definition of these words, understanding that there are other definitions extant in the language

2) Oil sells for a particular price at any given time. I know there are several standards traded in the markets, but lets simplify it to pick 1 as they seem closely related to each other.

This being said it seems to me that there is little point in saying much about supply and demand curves unless they have some predictive or explanitory power with respect to the amount of oil produced at some time, or its price. i.e. can we use them to decide what level of taxation would reduce global carbon emmisions a certain amount, or explain why oil consumption was growing at about 6% year over year just prior to the 1973 embargo?

Wherever I have looked for this info. I have failed to find it, so I was wondering if you could provide [a link to] actual supply - demand curves for oil for any time in say the last 100 years, or speculative curves for any time in the future, and the data / methods that were used to construct them.

Thanks