In June 2008 the price of a barrel of oil briefly hit US$145, sparking questions about an impending global shortage. But then the recession hit, demand dropped and prices plummeted to US$30. There’s no question the economic downturn resulted in idled factories and fewer gas-guzzling family summer vacations in the SUV, but it still doesn’t come close to explaining how the price of a barrel can fluctuate by more than US$100 in just a few months, raising the question of how much the precious resource is actually worth in the first place. The answer, says analyst Peter Beutel, the president of energy consultancy Cameron Hanover, is not much more than $10, based on a pure supply and demand calculation.
Beutel offered the lowball estimate during an interview with CNBC last week, arguing the price of oil is generally elevated because it’s treated as an investment—something bought with an eye to making money, not simply a resource to be consumed. “The volatility comes from speculators,” agrees Frank Atkins, a professor of economics at the University of Calgary.
“People are basing their view on the price of oil on expectations of demand.” That’s why prices, now around US$75 a barrel, are once again on the rise in anticipation of a global economic recovery, even though oil supplies are at their highest level in more than a generation, with some 50 million more barrels of crude on hand than two years ago—the result of oil companies rushing to increase production during the last boom.
The current abundance of crude also suggests concerns about “peak oil”—the idea that global production is about to hit its zenith, sending prices skyrocketing and causing economies to crash—could be overblown. Part of the problem is that the “peak” itself is a moving target. As existing supplies dwindle, prices go up and oil companies are coaxed into spending more money on new exploration and new technologies to recover oil that was otherwise believed to be uneconomical. That was the case with Alberta’s oil sands. At the same time, consumers change their habits by driving less or buying more fuel-efficient vehicles while governments push to develop alternative energy sources. The result? More available oil and lower prices—at least for awhile.
Atkins points to a recent study by fellow University of Calgary economics professor John Boyce that challenges the legitimacy of peak-oil models and the economic calamity they predict.
Boyce argues that current models ignore important variables, such as the likelihood that energy substitutes will make tapping new, hard-to-reach oil reserves uneconomical long before oil supplies are at risk of being physically exhausted. “This is not to deny that oil production may eventually peak,” he writes. “But it does suggest that the peak-oil model has little, if anything, to say about that eventuality.”
It has been said that the world did not move beyond the Stone Age because of a shortage of stones, and that the same is likely true of oil. “From a practical perspective, what I expect will happen is that oil will become increasingly obsolete,” says Atkins. In the meantime, expect to continue paying more for the black gold than it’s actually worth.