Thank you!

I think your point about wealth transferral has a high relevance. For the US it looks like when the total annual crude oil bill (volume X price) approaches 3,5 – 4,0 % of GDP (Gross Domestic Product) oil increasingly becomes unaffordable for many, who then starts to adjust the way they use oil.

For Germany (which has a higher petroleum tax than the US) it seems like this threshold is at 2,2 – 2,4 % of GDP.

During the first oil price shocks (1973/1974) and (1979/1980) the relative and total debt load for many consumer nations was lower while at the same time the savings rate was higher. This I would presume was an additional built in resilience within the big oil importing and consuming nations.

The higher relative and absolute debt level among consumers and big importing and consuming countries will, I believe, restrict future oil price growth and this time I would expect economies heavily dependent on oil imports to be more vulnerable for price increases.

Oil price growth needs GDP growth alternatively that a higher portion of GDP is allocated to paying for the oil imports and thus other energy consumption as prices for other energy seems to correlate with the oil prices. .

Isn't Saudi Arabia exporting oil to China? It seems like some country must be doing so, and a country relatively in Middle East seems much more likely than one from, say, the Americas. This, and exports to some other countries like India and developing nations, could explain a fair amount.

Thanks Gail!

Using specific data often clarifies trends.

VMT I assume is estimated based upon supplies/sales of gasoline/diesel products.

Those graphs again illustrates that at a certain point gasoline/diesel (or crude oil) becomes increasingly unaffordable for households with stretched economies.

One important point about this graph and also the declining import graphs for OECD is that the biggest price increases have happened despite falling consumption.

It took and economic collapse over a period of six month, a hurricane significantly impacting the US imports and finally a small surge from KSA to cause prices to drop.

They are already back on a rising trend. Next of course at some point demand in the US will start hitting structural limits and the overall population is still expanding. Our economy is slowly starting to bottom out in its decline and even with it still in decline oil prices are increasing.

Another collapse of the same magnitude as the bubble blow off which is now occuring will have structural impacts. Basically we simply will find it ever harder to shrink demand as the economy becomes more focused on needs not wants.

on the flip side for big ticket items such as houses the bottom is less than zero homes can and do become a liability that no one wants. All thats required is and excess in supply and they generally last a long time. We have plenty of room to reduce our expenditures on housing to offset rising oil prices long before we face another structural collapse.

Next housing construction i.e new homes are the real economic driver and new home construction has already reached the point that further declines will have little additional economic impact. Certainly we are still feeling the results of a collapse of new home construction and will for some time but the worst pain from the collapse of this industry is behind us.

Net of course is commercial real estate and the auto industry but we can and will absorb the loss. Neither of these two areas are as widespread as single family home construction and for a host of reasons the smaller number of commercial projects tend to decline slowly. Generally for commercial real estate is either stopped early or finished. Its more a case of no new projects coming on line as current ones are halted or finished. Now the biggest impact on the CRE side is rents and loan defaults but this tends to be concentrated in the wealthy classes and banks. Its a rich mans depression in CRE. Of course it spreads out into general construction but in absolute terms most of the money is lost in the upper class.

http://www.calculatedriskblog.com/2009/02/investment-contributions-to-gd...

So more pain is on its way but overall we have passed through the worst that can be offered by a normal recession. Falling rents both for residential and also just as important for commercial space will actually act to soften the blow of CRE collapse to the rest of the economy. As CRE loses its actually a positive to the rest of the economy with only normal CRE construction workers really taking a hit.

I'd argue that lost wages from the construction workers is more than balanced by lower overall commercial rents.

As far as the wealthy class and banks losing money well tough the biggest impact of this is probably in the luxury housing market since regional banks and CRE drive a lot of the demand for high end luxury homes. Again BFD.

I continue to predict that this Credit/Housing bubble induced deep recession early stage recession will morph soon into a full blown depression driven by rising oil prices as further economic decline cannot keep pace with falling oil production.

The key driver is of course the large amount of equity still locked away in housing and commercial real estate. This equity can be eroded via falling home values falling CRE values and falling rents to offset the effects of rising oil prices for several years. Once construction stops further direct economic impact of falling equity in real estate is minimal and in general instead bolsters the basic day to day economy as money is diverted from rent and mortgage payments and into paying for consumable items and other necessities.

So the economy overall can in a sense flatline with the bulk of future pain located in falling equity values until we no longer get a real gain from lower real estate costs. In general however I see this close to zero or when equity costs become equal to other expenses in magnitude. This is a really low number like 75-90% less then the current value assigned our excess of buildings.

Only at this point will continued increases in oil prices finally result in structural dislocations in the economy as we really can't afford to pay more for oil.

Assuming the trend in rising oil prices sets in by the end of the year my best guess it it will take 3-4 more years of ever falling building equity before we really hit the wall. Certainly living will get ever more painful over this period the Baby boomers close to retirement that held on to real estate to long waiting for a rebound will be especially hard hit as they see their retirement investments evaporate not to mention other losses such as in the stock market. And of course pension funds of all sorts will be bankrupt and probably not fully bailed out along with a slew of local and state governments.

But regardless the final big one only hits once we have devalued our real estate holding to zero at that point we simply have nothing left to give up in exchange for oil. We will then and only them be working for survival.

Thanks Nate!

I never intended to replace Stuart....................

Often I find that it is easier to communicate a message with diagrams/pictures (it takes a little time though), challenge is to find a format that most people easily can relate to.

I also have hard to believe that OECD petroleum consumption in the near future again will reach and surpass the levels, which recently was experienced.
I also think that availability to credit also will make it harder to develop new spigots to fuel future growth. It seems like growth in oil prices is justified when the economies grow. As economies contracts their abilities to pay for higher priced oil will have been weakened.

Thank you!

For some oil producing and exporting countries I think you are right that petroleum products are heavily subsidized by the governments (actually by the oil importing and consuming countries).
This is probably a factor we will have to live with also for the future....... either we like it or not :-(

Agree on your point 2. It looks like the middle classes of these (Non OECD) countries continue to grow and these will increasingly participate in the bidding war for oil.
I also think it is relevant to look on total and relative debt levels for many of these countries.

Less debt generally seems to increase resilience towards higher oil prices.

Hello,

I have presented the two largest regions of OECD oil consumers, USA and OECD Europe above. It seems like the trends in their oil (petroleum) consumption moves in tandem.

Looking at Japan (OECD’s second largest oil consumer) data shows that oil consumption has been on a downward trend since the second half of the 1990’s. Japans economy also seems more tied to economic developments in Southeast Asia.
Since the recent run up in oil prices (starting in 2004) Japan has shown the same trend in their oil consumption as USA and OECD Europe and Japan’s consumption had as of November 2008 declined with close to 10 % relative to consumption mid 2004.
The other thing with Japan is that the country is relatively more dependent on oil in their energy mixture which makes them more vulnerable to dramatic price increases on crude oil.

I am in the process of drafting a post that will look more into the historical developments of countries.

Generally and as of now it seems like oil prices has been too low for most OECD countries since the oil price collapse back in 1985/1986 as this ended the change of the energy mixture of these countries.
Looking at BRIC countries (Brazil, Russia, India and China) these countries have through the recent years lowered their relative dependence on oil. BRIC was as of 2007 still a net exporter of oil.

Generally, for the OECD countries data from BP Statistical Review suggests that consumption form other energy sources than oil has moved in parallel with oil since 1985/1986.

BTW, I think that the rate of change in consumption in oil exporting countries is the $64 Trillion question, and Mexico is an ongoing case history.

Their consumption as a percentage of production in 2004 was 52%. Their four year production decline rate has been -4.7%/year. Their four year rate of increase in consumption was +1.4%/year. This is all quite close to what I stipulated for the Export Land Model (ELM), and we have so far seen the accelerating net export decline rate that the ELM predicts, with net oil exports from Mexico declining at -7.6%/year in 2005 and at -25%/year in 2008, with an overall four year net export decline rate of -13.5%/year (all data from EIA). Volumetrically, their net exports went from 1.85 mbpd in 2004 to 1.08 mbpd in 2008.

At Mexico's current production decline rate, about -10%/year, their production would be down to 1.93 mbpd in 2013, versus 2008 consumption of 2.11 mbpd. If they wanted to maintain net oil exports of about one mbpd, they would have to cut their consumption to 0.93 mbpd in five years, a consumption decline rate of about -16%/year. The EIA does show a slight decline in 2008 consumption, at -0.5%/year.

To paraphrase George Orwell, IMO some consumers are more equal than others. Because of subsidies and because of a desire to take care of the home team, I expect to see consumers in exporting countries getting a better deal than consumers in importing countries (and preferential access to petroleum), but it will be interesting to see how it all plays out. All of this is further complicated by the price of oil versus the volume of net oil exports and thus the cash flow from oil exports. It is interesting however, the Indonesia, a founding member of OPEC, went to net oil importer status at oil prices below $40.

I wrote;

For OECD, historical data suggests that growth in oil consumption could be maintained while oil prices increased by about US$10/Bbl per year, and the economies continued to grow.

If we looked at a larger time span say from 1986 – 2007 it looks like OECD economies could absorb an annual price increase of around $5/bbl (but admittedly this would take a more rigid and comprehensive analysis to identify a more accurate number).

Hopefully I will come back with more later, but as of now it looks like oil prices has been too low during the last 20 (or so years) and this has not encouraged enough introduction of more and other energy sources into the energy mixture.

Yes, I think what you suggest is right that the actual price increase that OECD economies can absorb when growing is lower ($$/bbl). This may also help explain why the projections on oil price increases from organizations like EIA and IEA has reflected low growth in their scenarios. They are probably aware of that to high price increases hurts economic growth.

It certainly suggests that when the bidding war really comes, its the less well off OECD countries that will suffer preferentially. It would be interesting to see that set broken down.

How do we define less well off?

Are these countries with high debt to GDP ratio? Or countries where households debts are high relative to income? High specific GDP ($$$$/capita)?

Economies that produces few $$$/bbl (high energy intensity)?
What I have learned is that the relations between economies and energy often are complex.
Countries which energy mixture that now is dominant by oil, high energy intensity (and being highly dependent on oil /energy imports) high level of national debt/GDP ratio and high households debts to income could be some of the indicators to watch out for.

I'm with bbartloq - I think Rune is inferring way too much about the economic choices of the OECD vs the non-OECD.

Here's an example. Let's say you have two men. One (Albert) makes $50,000/year, the other (Bob) $25,000/year. Both smoke. The price of cigarettes double. Albert cuts back on his cigarette consumption, but Bob does not. Would you then infer that Albert can't afford cigarettes as much as Bob does? Would you start to worry about Albert's fiscal solvency?

Or could it be that Albert is simply less addicted to cigarettes, and is reducing his consumption because the pleasure of smoking is not worth the additional cost. In that situation, you might actually feel sorry for Bob, who is forced to pay more for something that isn't particularly good for him in the long term.

And I think this follows to oil production. The OECD countries *choose* to consume less oil. We can afford it, but we have so many alternatives that we do not need to pay more. Our businesses may still need to consume oil at the same rates, but our citizens can substitute away via carpooling, work from home, commuting and combining trips. Thus, reductions.

Whereas, in BRIC, the primary consumers are businesses, which are more-or-less cost insensitive.

I don’t look upon your comment as a quibble.

I would expect that given a more rigorous and comprehensive analysis (which would be more time consuming considering the data and numbers involved needing crunching) could show that the annual average oil price increase the OECD economies could absorb and still growing at an annual rate of 2 - 3 % could be in the range of US$ 5 - 10/Bbl.

My point here was not to exactly identify what annual growth in oil prices the OECD economies could absorb, but more to raise attention to the fact that there is a limit to what annual oil price growth the OECD economies (and most certainly other economies) are ready to absorb.
(This could of course change if the economies were willing to use a larger portion of GDP to pay for their oil consumption, but that would have an effect on others sectors of the economy which might be a matter of both political and economical nature. And of course vice versa).

Let us here and now just assume that this limit is in the US$ 5 - 10/Bbl range.

This would have a lot of consequences (just naming a few below and hopefully more to come).

1) How should analysts then justify higher annual price increases (except from the occasional spike in prices which could come from hurricanes, geopolitical events, speculators etc.)?
The annual oil price increases (or price changes) needs to be such that the economies can sustain them.

2) If there is an effective “roof” (and/or “floor”) on annual oil price movements that the consumers (meaning importing and consuming nations) can sustain this will have implications for the incentives to explore for and develop new capacities.

It is from observations like the one listed above I increasingly refer to today’s price as “The Oil Price Trap”.

Prices on oil have stayed too low for too long (oil was in other words too cheap for too long) to encourage deployment of incentives for conserving energy and deploying alternatives where these are economical feasible.

If some of the Western economies are faced with an econommic contraction (long term) this suggests that their abilities to pay for higher priced oil declines. This could be obtained by using less and higher priced oil in the future.

How do we get economies (GDP) to grow (in real terms) with less and more expensive oil?

I tend to agree with your division on car ownership as you defined it and responses to higher oil prices.

What I found interesting was that oil consumption declined about the same relative amount in the US and OECD Europe during the recent run up in oil prices. The impact from higher taxation on petroleum products in Europe did not seem to lead to a less relative decline.

I agree with your observations. Also of course in developing countries you tend to have directly subsidized fuel so the price impact is both delayed and moderated except as I noted in my long post you tend to get persistent shortages.

The shortages tend to force conservation. In general I suspect that the demand declines in the US and Europe basically at least balanced out any increases in developing countries. Its not clear to me that we had any net increase in supply and therefore any net increase in demand.

Next as far as US households using less oil probably the biggest change to date was a halt in suburban expansion leading to the average vmt traveled to at least stagnate for US households. Some conservation as you mention is probably at play. The biggest is of course discretionary summer demand.

The rest and in fact the bulk of VMT decline in the US so far is in my opinion related not to individual households actually decreasing VMT on a personal consumption level but from collapse of the private and commercial construction industries. Remember that VMT is a total for both commercial and private road traffic its not just private cars. And of course general decline of OT trucking from a variety of different industries. We ship a lot more by truck in the US.
Construction material, workers etc are a big source of traffic. And of course all the varied stuff people buy when they buy a new home from the SUV to refrigerator.

All of this business activity decline with falling construction and used home sales my opinion is this was the major driver of overall VMT decline while individual VMT decline was concentrated in pulling back on non-essential trips.

So far at least if we start tracking in mid 2008 when the steepest declined occurred and housing really tanked we are running down about 3% I suspect this summer this difference will approach zero as by the second half of the summer most of the declines where in. Basically VMT will flatten out fairly quickly this year if I'm correct and the decline itself was from collapsing housing.
Look at the 2001 recession fast drop then flat VMT. Housing did not fall as much during that recession so the 1980's is a better mini example.

If I'm right of course if VMT stops people will claim its because of low prices spurring demand but so we will just have to wait until we get high prices and VMT stubbornly refuses to decline much from its current levels.

Once people reduce personal oil consumption to only whats needed to work further reduction becomes difficult to implement regardless of the price of oil and rising gasoline costs coupled with a credit crunch make buying big ticket items like more fuel efficient cars difficult. Falling home values prevent people from easily moving closer in as the far out suburbs devalue faster than the closer in regions.

Next of course employment is far more disperse in the US with many jobs located in fringe regions unlike the 1908's where most employers where still centrally located in downtown areas or industrial parks. So carpooling will be much less effective then it was in the 1970's and 1980's. People are simply traveling in to many different directions. In fact out migration from the inner suburbs to jobs lying further out is quite common. I lived in Chicago for a while and that city had dense traffic in practically every direction you traveled with congestion in all directions.

And last but not least having mentioned congestion :)

Congestion plays a huge role in overall fuel efficiency most of the US's roads have traffic levels well beyond design leading to highly inefficient congested traffic patterns. The nominal MPG of various auto's is probably completely negated by the horrible inefficiency of stop and go driving. I'd suggest that one additional part of the large difference in fuel usage between the US and Europe is a simple result of congestion. Also note this generally applies to third world countries to which tend to have poor heavily congested road networks.
The only solution is either a major expansion of the road networks or for some people to simply stop driving. Given the current roadways in the US and congestion levels I suspect the overall fuel usage will remain quite high.

Now congestion is of course a problem in Europe don't get me wrong but I suspect even though I don't have the numbers that Americans travel significantly more congested miles vs Europeans. We both generally have longer commutes and also spend a large part of the commute in heavily congested traffic. And last but not least the lighter more fuel efficient cars used in Europe win big in congested environments as your accelerating far less mass with a more efficient engine.
Stop and go or congestion efficiency of smaller cars at low speeds is significantly better than in the US with large fuel inefficient cars.

So in my opinion the much higher US fuel usage per capita in the US is significantly impacted by two additional variables seldom mentioned our sprawling housing construction industry which is in my opinion a big part of our fuel usage. And congestion. The suburban expansion is over but congestion is going to be much harder to deal with.

But all we can do is wait in see if indeed it turns out like I suspect and VMT changes begin to level off and remain quite flat despite increasing fuel prices then I nailed it. If this is right then we see if I score a double and see relentless declines in the value of homes and rent as oil prices increase with VMT still remaining stubbornly close to flat.

Morgan,

Those are good points.

I think, too, that a reduction in vacation miles traveled has been a factor. This may affect Europe as well as the US.

Gail

Eric,
Thanks!

1: You are right that OECD countries substituted much of their oil use with mainly natural gas and nuclear following the oil price shock of 1973/1974, which gradually was brought on stream as the oil price shock of 1979/1980 hit home. In addition, gains were obtained from improving fuel efficiencies.
As of late 60’s and early 70’s more than 50 % of OECD primary energy consumption was from oil that mainly substituted for coal.

Something interesting seems to happen with the oil prices collapse back in 1985/1986, the drive to substitute for oil stopped. This means that the ratio of energy used from other sources to oil remained (for all practical purposes) constant until the most recent price spike.
Now I am afraid that the present oil price is too low to encourage more use of the grid for transportation. This could of course change with governmental involvement or regulations.
(With the above I am running ahead of future posts.)

One thought I made from observing the above diagram is; “Could it be that China presently is trading their growing coal consumption with oil?” China recently started to import some of it coal for consumption.
Coal is mainly used for electricity which runs the Chinese factories producing consumer goods that until recently contributed to a high Chinese trade surplus. This trade surplus may again be used to purchase oil for Chinese consumption. Subsidized or not the trade surplus gives some financial strength to both bid for oil and allow for growth in consumption.

Just my 2 SDR’s.

Forget gold buy oil with copper :)

Hmm why was the dollar devalued in the first place vs a lot of commodities and metals of use to a technical society ?

Until recently it was massively devalued vs housing if you want to look at it that way.

This tells you nothing about why the value of something in dollars is changing.

In the case of houses its obvious via massive extension of credit restricted to buying houses you had and artificial scarcity created with to many dollars that where only investable in houses. A bank would readily loan me half a million dollars no questions asked for a house but not one dime for a good small business plan.

Whats up with oil ?

Well there is no artificial source of money tied to oil no loans only for oil. So its not a artificial supply and demand problem hmm must be when all the money from other parts of our economy needs to be spend on oil the supply of oil vs money is short. I.e we have more money that needs to be converted into oil for other endevours than oil. The supply of dollars in and of itself is not and issue.

Plenty of commodities spent years with minimal price changes despite the rapid decline of dollars vs oil. Wheat/Sugar/Corn Soybean and even for most of the time NG never reached the same dollar vs commodity situation as oil until the very recent past. And given the amount of oil used to raise crops one wonders which came first oil price increases then general commodity price increases with the rising cost of oil inputs.

Let say hypothetically we suddenly decide to really convert our society to a renewable one then over time the number of dollars chasing oil will decline in relation to the oil supply and eventually oil would drop to both some low value and low total volume.

Similar to as refrigerators replaced iceboxes the value of iceboxes dropped to zero as their became no need to convert dollars into iceboxes.

Only four basic things have had their prices inflated via specialized lending that favors the product. Houses/Buildings, Cars, Student Loans, and Medical Insurance in the US.

All other goods and services for the most part make use of general credit worthiness or cash for transaction with no artificial support. And for the ones with specialized pricing support the government is heavily involved or in the case of medicine involved in a weird way.

These government sponsored special debt sources causes the prices of these goods to be artificially inflated forcing general inflation. And at least until the last 10 years some wage inflation. Eventually some of these dollars are of course used to buy stuff thats not artificially priced and in general you have and excess of dollars vs the good in question. Then depending on the supply of dollar demand for the good and supply of the good the price will change.

A lot of goods that where relatively easy to produce or via globalization could be cheaply manufactured actually declined in value. Many to the point that they where no longer worth manufacturing in lands that had to have high wages to buy the artificially priced goods primarily housing. This forced even more debt to be used to cover the loss of real purchasing power even as the price of goods declined.

For oil at least until it become in short supply vs dollars you pretty much had the generic bleed over price inflation causing slow price increases.

But overall given the way our economy works extreme price beyond general inflation and outside of the artificially inflated area only occur when their are supply problems.

Overall as long as credit did not get to extended you eventually had short recessions blowing off speculative excess and resetting prices a bit but as long as the system could grow it went right back to growing with everyone generally happy. Only when it reached failure and credit expansion resulted in no real growth but just a spiral of speculation in the artificial markets did the system collapse.

And its not just housing that became increasingly a target of speculation but student loans and medical care and even car loans became ever more speculative.
To some extent generic credit like credit cards also over extended.

The artificial inflation sources became the only viable investments and once that happened everything blew up. Underlying this shortages of raw materials esp oil caused other sectors of the economy to steadily decline as they faced ever rising input costs. Housing being the largest of the bubbles popped first but all the bubble venues are going down with it student loans, credit cards, medical etc.
A lot of it in the form of credit default but this still leaves us with to many dollars and not enough oil no matter how great the credit deflation is. Credit could go to zero and we still simply don't have enough oil for all the dollars we want to spend on it.

Certainly right now credit deflation and even real monetary deflation is effecting the price of oil to some extent like every other good and service. But if we are right about peak oil then it will naturally inflate because of supply and demand issues and with it oil dependent produces and services will have no choice but to increase prices even as we experience overall monetary and credit deflation.

A extremely vicious and probably deadly variant of stagflation where basic commodities become ever more expensive and the need and desire for credit for luxury items or those with artificial price supports decline.

Regardless of this and no matter what monetary games are played you still have the problem of more money than oil.

Gold and oil ?

Well gold tends to be somewhat special in that it has little intrinsic value but is excepted as a sort or form of money. In a lot of ways its anti-fiat if the purchasing power of fiat is declining then the price of gold in the fiat increases. If the risk of debt default is increasing then again the demand for gold as a form of safe haven increases. This tends to offset changes in the purchasing power of gold vs commodities. Most importantly gold is trivial to hoard and thus if the consensus is that the demand for gold is to low i.e its price does not reflect its use as a store of value gold is simply withdrawn from the market and not offered for sale until the supply and demand reaches what the market thinks is the "value" of gold in the fiat currency.

The key is no one is forced to sell gold in their possession at the current market value for gold. For something like gold thats trivial to hoard you can readily see how it tends to act as a store of value vs fiat currencies which are generally inflated. Or during times of trouble when losses through deflation esp debt deflation happen.

However since gold has little intrinsic use one big reason it made a good form of money in the past all of its value is purely sentimental. Its really just a nice form of fiat where the "Central Bank" is the willingness of gold owners to sell either directly for goods if its excepted as money or indirectly via a exchange to a fiat currency. If supply is really short mining can expand the gold supply only slowly so generally its managed to not get devalued.

Actually all metals that can be readily stored tend to have behaviors quite similar to gold and better their demand is also tied closely with the real economy not just simple sentiment this makes their value vary with the economy but so would gold if it was in wider circulation. Since its primarily hoarded its value as a store of wealth during deflation is dubious at some point gold hoarders will be forced to sell then down goes the price of gold just like any other real mens metal.

Thus my suggestion that copper is probably a much better metal to use if your discussing store of value. Nickel is another good one.

My favorite is actually platinum its got the best traits of all the metals.

Sorry there is no real magic in the metals least of all gold. If any metal possesses magical properties its platinum did I mention its my favorite :)

But I'm a chemist and most people don't know this but we tend to worship platinum figurines in private :)

We know the god metal when we see it :)