It’s all about supply and demand–the first, last, and everything for estimating the projected path of prices. Geopolitics can and does intrude, of course. This is oil, after all. But the raw numbers of economics have the last word eventually—even for the world’s most valuable commodity.
The price of crude has been trending higher this year, but three key events on the supply side will create new headwinds for the bulls. In particular, expectations for higher output in three crucial oil-producing nations: Iraq, Iran, and the US. The catalysts for increased supply are different for each country, but the expected results will be the same: more oil. Say bye-bye to the peak-oil narrative, at least for now.
Global production, by the way, has already been bumping up against all-time highs recently, based on the Energy Information Administration’s latest data through October 2013. Total world output of crude oil (including lease condensate) was just a touch under 76 million barrels per day, or just below the peak, which was set earlier in 2013.
Even greater heights are likely in the near term for at least three key reasons. First, Iraqi production will increase by substantial amounts as a major oil field comes on line. “Russia’s Lukoil has opened a giant untapped oil field in Iraq that will play a major part in driving up production to new highs in the Middle Eastern country and potentially force down the price of crude,” according to The Telegraph.
Spigots in the West Qurna-2 field, Iraq’s second-biggest, were opened officially over the weekend in a move that will release 120,000 barrels per day of crude oil onto international markets. The field in Southern Iraq near Basra will eventually pump out 1.2m barrels-per-day (bpd) of oil.
Iraq’s oil minister Abdul Kareem Luaibi has said that West Qurna-2 will enable the country to hit its target of pumping 4m bpd by the end of the year. Already the second-largest producer in the Organisation of Petroleum Exporting Countries (Opec) after Saudi Arabia according to Reuters, Iraq pumped 3.5m bpd last month.
Meanwhile, the easing of sanctions on Iran will boost supply from this key Middle East supplier. In fact, that’s already happening. “Iran’s oil exports have stayed above levels allowed under Western sanctions for a fifth month, according to sources who track tanker movements, in a further sign that a deal to ease some restrictions is helping Tehran sell more crude,” reports Reuters. More of the same is coming, and probably with the West’s approval. Tehran, of course, is eager, to ramp up sales. “The revival of Iran’s lost share in the oil market is my top priority,” says the country’s new oil minister via the Oil & Gas Journal (OGJ). “Under no circumstances will we give up our rights on this issue; we will reach 4 million b/d [of oil] production, even if the crude price falls to $20/bbl, and we will be able to reach our presanctions level of exports early next year,” he said in late-2013.
A few weeks after taking office last August, Iranian President Hassan Rouhani invited western oil companies to meet him at United Nations General Assembly sessions. The Islamic Republic has desperately invited international oil companies to return to Iran under deals more attractive than they had been offered before and to showcase officials to American and European energy companies, including Zanganeh. At the end of the OPEC ministerial meeting, he signaled a new era of contract terms intended to be more appealing to international operators than those offered in his earlier term as minister.
According to a Financial Times report last October, Iran hopes to attract at least $100 billion in western investment in oil and gas development over the next 3 years. Details of new terms of participation were expected to be announced in London, where Iranian officials were to meet with mainly European international oil companies in April. But the meeting was later moved to November. Mehdi Hosseini, an advisor to the oil Minister, revealed that the government would reach out to old oil buyers and is ready to cut prices.
In addition, the shale oil boom in the US is putting the world’s largest consumer of crude back into the game in terms of lifting supply and reducing dependence on foreign imports. As the LA Times reported earlier this month:
For the first time since 1995, U.S. oil production surpassed oil imports, according to the U.S. Energy Information Administration. Predictions are that the trend will continue, eliminating the ‘oil deficit’ between what we drill ourselves and what we take in, and making the U.S. the number one oil producer in the world by 2020.
The International Energy Agency predicted last week that the U.S. will continue moving “steadily toward meeting all of its energy needs from domestic resources by 2035.” The drop in imported oil was attributed to the recession and higher fuel costs leading to lower consumption, and to automobiles getting better gas mileage.
Yes, there are risks that could derail the projections for higher output. That includes the potential for supply disruptions linked to the Russia-Ukraine crisis. Meanwhile, the Middle East is as a volatile as ever in political terms and so all the usual caveats apply for assuming that exports will flow smoothly from the Persian Gulf to the rest of the world. Also, if demand growth exceeds the rise in supply, lower prices may elude the global economy after all. But that’s a low risk at the moment given the estimates for a modest expansion for the global economy. In sum, barring some unforeseen event, the economics of supply and demand imply that global oil production’s headed for a new peak.
That doesn’t mean that prices are destined to fall, at least not in the immediate future. Indeed, the oil market reflects more than simple supply and demand factors. It’s safe to assume that a geopolitical risk premium will remain a constant for the foreseeable future. But on the margins, the oil market is moving into a new period of rising supply.