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June 30, 2005

Going down (someday)

I think—hope—I’ve found an oil-price ally in Econbrowser James Hamilton:

In response to the twin supply shocks coming from the Iranian revolution and the Iran-Iraq war, oil rose to a current equivalent of $95/barrel in 1980. We then saw world oil demand decline from 63 million barrels a day in 1979 to 55 million barrels a day in 1983. Certainly the twin economic recessions contributed to that decline in oil demand along with the high price of oil, though economists are still debating the extent to which those recessions were themselves caused by the oil shocks.
That episode saw an 86% (logarithmic) increase in the real price of oil, and a 14% (logarithmic) decrease in the quantity consumed. If prices had not gone up and if there had been no recession, we might have expected to see a 12% increase in petroleum demand from 1979 to 1983. So, in that episode, an 86% price increase was associated with a drop in oil consumption of 26%.
Comparing that experience with the current data, oil prices have risen from a base of around $30/barrel (measured again in 2005 dollars) in 2003 to $61 today, which represents a 71% logarithmic increase.

Hamilton notes that today’s global economy is somewhat different from a quarter-century ago. There isn’t—yet—a recession on the horizon, and China’s vast appetite for oil didn’t have a parallel in 1980. However, as I pointed out in a previous post, there are signs that growth in China’s energy demand is starting to falter. And there is little doubt that, as China’s economy matures, its energy demand (and intensity) will fall far below most of today’s alarmist forecasts.

Hamilton agrees. And like me, he believes that it’s not a matter of if oil prices will fall, but when:

[I]t seems to me that the price increases that have already occurred should prove to be enough to make global petroleum demand stop rising and start to decline.
But the question is when. Those demand changes in part will result from adjustments in the kinds of cars consumers buy and equipment firms purchase. Most people won't buy a new car until they really need one, so the changes can take several years before they show up in petroleum demand. The effects of the price increase so far should already be in the works, even though we may see demand rise for a while further before it starts to come back down.

Which may happen sooner than most pundits seem to think—particularly given the amount of speculation in the market.

Posted by Stephen at 1:27 AM in Energy + environment | Permalink | Comments (2) | TrackBack (0)

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When people discuss energy price and demand behavior in the period from 1978-1989, they often ignore the effects of nuclear, natural gas and coal power production. During that period, nuclear plants displaced oil for electrical power production in Japan, France, Germany, the United States, Russia, South Korea, and Taiwan. Coal and gas also increased their market share in the electricial power market.

According to figures from the Energy Information Agency, the total energy consumed in the world increased fairly steadily, even as oil consumption dropped throughout the early 1980s. In other words, it was not demand reduction, it was market competition that caused the effect.

Here are some specifics - Nuclear power production increased from about 6.7 Quads in 1978 to 19.7 Quads in 1989 (despite TMI and Chernobyl); coal increased from 73 Quads in 1978 to 92 Quads in 1989; gas increased from 50 Quads to 73 Quads.

During that same period, oil started at 128 Quads in 1978 peaked at 133 in 1979 dropped to a trough of 113-115 from 1982-1985 and then gradually recovered to 128 by 1989. The world's total energy demand increased from 278 to 345 Quads during that period, with the only dip occurring between 1979 (293) to 1982 (282.5). That slight dip was less than 5% of the total world energy demand and it took three years of economic recession to accomplish it.

Posted by: Rod Adams at July 9, 2005 7:39 AM

I don't think James Hamilton is saying prices will decline, he is saying that demand will decline (due to high prices). It's not the same thing. I think he would expect demand to decline only while prices stay high, but if prices fell then demand would rise again. The upshot is that it is hard to predict what prices will do, but certainly today's high prices should put some kind of damper on the growth in demand.

Posted by: Hal at July 3, 2005 3:32 PM