Shale Revolution Not So Simple

August 8, 2013 Topic: EconomicsEnergy Region: United States

Shale Revolution Not So Simple

More oil at home won't necessarily improve the U.S. position abroad.

By the end of this year, oil-production capacity (which includes crude oil, natural-gas liquids and biofuels) will probably surpass 97 million barrels per day, including a spare capacity (unused capacity) of more than 4 million barrels per day.

Conversely, oil demand is growing sluggishly, a consequence of the troubled global economic situation, the slowdown of China’s growth, the unsolved problems of the Eurozone, as well as the impact of energy-efficiency legislation across the world. For all these factors, it is unlikely that daily demand will exceed 90–91 million barrels in 2013. That will cause a widening gap between production capacity, actual production, and demand.

At the same time, the exploration and production spending spree of the oil and gas industry goes on, with investments that will continue to exceed $600 billion in 2013, or more than $2 trillion from 2010. High oil prices, the need of most companies and countries to replace their reserves, and the extensive application of new technologies to oil recovery, are the major factors driving this unprecedented investment cycle that is now in its fourth year, and it will have particularly strong consequences on new production in the next few years.

Not only the United States, but also the biggest oil producers such as Saudi Arabia and Russia, are continuing to increase their production capacity—defying the dire predictions of most pundits who deemed those countries destined to face an irreversible decline of their oil output.

In this framework of growing supply capacity and sluggish demand, the price of oil is not determined by the strict logic of supply and demand, but by the recurring fears of supply disruptions coming from the instability of several Arab and African countries.

Yet the problem remains.

Global oil-production capacity is growing much more rapidly than demand for oil, and in order to manage this imbalance OPEC is currently relying on two pillars: on the one hand, Saudi Arabia’s willingness not to inundate the market with its full production capacity—that is obliging the kingdom to preserve a spare capacity of more than 3 million barrels per day; on the other, Iran’s inability to export a sizable amount of its oil production potential—or more than 1 million barrels per day—due to international sanctions.

The coming years will show if OPEC possesses the ability to manage this imbalance, against African countries looking for new outlets for their oil, an Iraq struggling to become one of the world’s top producers, the great potential of the United States, Canada and other countries—and an oil demand still stagnating due to a global economic crisis which shows little prospect of improvement.

The U.S.-Saudi dance

Whatever OPEC, and Saudi Arabia in particular opt for, however, will impact also the U.S. oil boom.

Should Saudi Arabia decides for producing oil at full capacity in the short term, like the Kingdom did in 1986, the oil price will likely face an abrupt fall. In this case, U.S. shale-oil production also will be endangered, depending on the extent of the oil price decrease.

In fact, the full development of shale oil in the United States requires an oil price higher than $80 per barrel in the short term, and higher than $65 per barrel in the longer term (five years). Lower price levels would result in a dramatic drop in drilling intensity—and consequently in oil production.

By converse, if a political crisis should endanger the oil production of Saudi Arabia or another big oil producer in the short term, the oil price will skyrocket, no matter how much oil America could produce.

The last two scenarios suggest that, whatever the degree of energy independence the United States can achieve through the shale revolution, the country will always be dependent on what happens across the global oil market, and should align its foreign policy with this reality.

Leonardo Maugeri, Ph.D., is a Senior Associate at the Harvard Kennedy School, Belfer Center for Science and International Affairs, and a former top manager of the Italian oil & gas company Eni.

Image: Flickr/L.C. Nøttaasen. CC BY 2.0.