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COLUMN-Peak oil and other fallacies: John Kemp

Source: Thomson Reuters Foundation - Mon, 21 Jan 2013 12:58 PM
Author: Reuters
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(John Kemp is a Reuters market analyst. The views expressed are his own)

By John Kemp

LONDON, Jan 21 (Reuters) - "The limit of production in this country (the United States) is being reached, and although new fields undoubtedly await discovery, the yearly (oil) output must inevitably decline, because the maintenance of output each year necessitates the drilling of an increasing number of wells.

"Such an increase becomes impossible after a certain point is reached, not only because of a lack of acreage to be drilled, but because of the great number of wells that will ultimately have to be drilled."

This assessment could have been written recently about the outlook for oil production from North Dakota's Bakken formation or by any member of the Association for the Study of Peak Oil (ASPO).

In fact, it was written by Carl Beal at the U.S. Bureau of Mines in 1919.

Beale dramatically warned his readers: "At present the country is facing a serious shortage of petroleum ... favourable territory has become scarcer, competition has increased and the demand for petroleum and its products has created a market that cannot be adequately supplied."

When Beale was writing, the United States was pumping 3.8 million barrels per day and had produced a total of 4 billion barrels over the previous 50 years. The bureau expected domestic reserves to run out by the 1930s ("Decline and Ultimate Production of Oil Wells" 1919).

By the end of 2012, however, U.S. wells had produced about 205 billion barrels, 50 times as much, an amount that would have been unimaginable in 1919. And daily output was almost 7 million barrels, twice as much as in Beale's time.

MALTHUS REDIVIVUS

Fears about declining output from old fields, lack of new discoveries and peaking oil supplies crop up every few decades, almost always in the same form and usually at times when oil prices are rising strongly.

There were similar oil scares in the 1970s (associated with the oil shocks, the limits to growth study and Hubbert's peak) and again between 2005 and 2008 (again associated with a spike in prices).

In every case, price rises were followed by a surge in new discoveries and field developments that brought prices back down in real terms and pushed fears about peaking supplies back to the margins of the debate. Exploration found substantial new deposits, while improvements in technology allowed more oil to be recovered from existing and new reservoirs.

In the most recent case, horizontal drilling and hydraulic fracturing have resulted in a big upward revision in reserves and ultimately recoverable resources. The shale revolution has already doubled estimates of global gas resources and will probably have the same impact on the oil industry.

Peak oilers emphasise the total amount of oil and gas below ground is fixed. While that is true in a fundamental sense, the volume of hydrocarbons is so vast it will last for centuries - long after the planet has been cooked by global warming.

As a result, hardly anyone currently believes in peak oil theory (though it will make a comeback at some point in the next 20 to 30 years).

Peak oil assumptions nonetheless still lurk, hidden and unexamined, behind many predictions about future oil and gas production, causing substantial forecasting errors.

RESERVES KEEP GROWING

The total volume of hydrocarbons in a field (the original oil in place) is fixed. But the amount that can be technically and economically produced (reserves) is a more elastic concept. In many cases it has increased dramatically over time.

"In the United States, crude oil discovery peaked in 1930, when proved reserves were 13 billion barrels. Over the next 60 years, the United States, without Alaska, produced 130 billion barrels. The inventory turned over ten times," MIT Professor Morris Adelman explained ("Genie out of the bottle: World oil since 1970", 1995).

Most of the extra reserves were added in existing fields rather than new ones. Remaining reserves in California's giant Kern River field were estimated at just 54 million barrels in 1942 (after 43 years of depletion). Over the next 44 years, however, Kern River produced 736 million barrels, and still had another 970 million barrels remaining in 1986.

"The field had not changed, but knowledge had: science, technology and not least the detailed local geology learned by development," Adelman wrote.

The same is true in other parts of the world. An expert survey of the Middle East Gulf in 1944 put proven reserves at 16 billion barrels, with another 5 billion probable. By 1975, those same fields, excluding new discoveries, had already produced 42 billion barrels, and were estimated to have 74 billion remaining.

Recovery estimates for old formations are still growing, even today. In 2012, the U.S. Geological Survey (USGS) estimated another 32 billion barrels of oil could be added to reserve estimates for existing fields in the United States as a result of improvements in geological understanding and technology ("Assessment of Potential Additions to Conventional Oil and Gas Resources in Discovered Fields" Aug 2012).

RESERVES AS INVENTORY

Reserves are not a gift of nature. They are an inventory paid for through expensive exploration activity and improvements in knowledge and technology.

In fact, reserves/production ratios have actually been rising strongly in recent years as the industry adds new reserves faster than it depletes old ones. Buoyant oil prices and strong corporate cash flows have certainly sharpened the incentive to do more exploration activity. But oil companies also have an existential reason to keep finding new reserves, since without them they would shrivel and eventually disappear.

Proved reserves have continued to rise steadily over the last 30 years, even as record amounts of oil have been produced from new and existing fields. Proved reserves hit a record 1.65 trillion barrels at the end of 2011, up from just 683 billion barrels in 1980, according to the BP "Statistical Review of World Energy".

Once reserves are understood to be a created inventory, not a natural endowment, several other fallacies about the outlook for the oil industry explode.

The first is that oil will become ever more expensive in future as reserves run out and oil production shifts to ever more marginal and expensive fields.

This assumes (wrongly) that reserves are fixed and declining. It also assumes new oil is much harder to find and develop than the reserves it replaces. But plenty of the reserve additions have been of oil that is only moderately expensive (such as U.S. shale deposits) once adjusted for inflation.

Nor is it inevitable that the global economy will become ever more dependent on the enormous reserves in the Middle East. Production controls and conflicts have kept output from OPEC members in the Middle East artificially low over the last 40 years, which is why the reserves/production ratio in the region is so much higher than in any other part of the world.

During the long period of very low oil prices in the 1990s and early 2000s, reserve growth stagnated. But higher prices have changed the dynamics of the industry.

High prices and the continuing lack of access to the major Middle Eastern fields have encouraged oil companies to turn to other areas to add reserves: shale, deepwater and the Arctic. Recent exploration and production activity has begun to add reserves much faster in other areas, especially North America, Latin America and Africa.

Peak oil has proved an enormous distraction. The world is not running out of oil. It will not become more dependent on the Middle East. And prices will not necessarily have to keep rising to ration out the dwindling stock of oil remaining and fund extraction of increasingly marginal deposits.

It is time for analysts and policymakers to concentrate on real problems, such as the climate impact of burning all those hydrocarbons. (editing by Jane Baird)

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