Why is oil so expensive, anyway? Angry Bear has a great post on the subject, covering two of the most popular explanations:
1. Inflation is pushing up commodity prices
2. Oil is becoming more scarce.
Of the two, I find the latter much more convincing. But I'll let Stormy explain:
Rapier offers an entirely different approach to the cost of oil. The real cost of oil is directly connected to the cost required to extract it. He explains clearly and concisely the implications of EROIE (Energy Returned on Invested Energy).Before I turn to his explanation, I wish to make two preliminary points:
1. Oil is the lynch pin of our world. The cost of everything, and I mean everything , is tied to it: from cabbages to cars, from light bulbs to plastic containers, from the cost of fertilizer to the production of iron. Oil is required to make plastic products, even fertilizer. Global transportation depends on it. A sizable chunk of production depends upon the energy oil supplies, to say nothing of our electricity and heat.
2. As the world becomes increasingly populated, more and more people depend upon it. According to the U.N., in 2000 the world was adding 79 million people each year. That means, since 2000, the world has added one country whose population is the equivalent of the United States. While fertility rates in the developed world are decelerating, not static or falling, the developing world continues its rapid growth.
Rapier offers two equations that have important bearing on the cost of oil.1. EROIE = Energy Input/Energy Output.
2. Net Energy=Energy Output - Energy InputThe first equation is a ratio between the energy used to extract oil and the energy that oil provides. The larger the ratio, the more efficient the extraction is. And, it goes without saying, the cheaper the oil should be.
The second equation measures net energy. Similarly, the larger the number, the cheaper the oil should be.
Bob Lloyd, physicist at the Otago University, asserts that the concept of EROIE is not new. Anyone familiar the first law of thermodynamics understands it. But, because oil has seemingly been so inexpensive to extract, we have neglected the reality of EROIE. Oil has become a commodity similar to pork bellies, as if it were renewable or as if the cost of its creation were static.
The actual cost of oil extraction, in fact, is growing increasingly more expensive. Initially, the cost of extraction was ridiculously cheap. As Matt Simmons is fond of saying, a glass of oil was cheaper than a glass of bottled water... still is.
Texas oil in the 1930's had an EROIE of 1 to 100. It's EROIE was 1/100--very nice ratio. Similary, the Net Energy was 99. These numbers tell us that in the 1930's oil was very inexpensive to extract.
In the 1970's EROIE was 1/30 with Net Energy at 29, three times more expensive, but still ok.
Today, EROIE is at 1/15 with Net Energy at 14. In absolute terms, the cost of extraction is six times more expensive than in 1930.
Now consider the Canadian Tar Sands. Fort McHenry is booming; everyone, including the Norwegians and the Chinese want a piece of the action. Something is happening, for if you consider the actual EROIE of the tar sands, you will understand what I mean.
A report to the legislative leaders and governor of Connecticut concluded that the actual EROIE of the tar sands is 1/3, with Net Energy of 2. In other words, it takes the energy equivalent of one barrel of oil to produce three barrels. The report points out that shale in the Wyoming-Utah-Colorado area has the same EROIE as tar sands oil.
Between 1930 and 2008, the EROIE of oil increased over thirty fold, from 1/100 to 1/3. Net energy has gone from 99 to 2.
One of the things I worry about is this: if oil keeps getting more expensive, what happens to the Green Revolution? It was predicated, in part, on cheap fertilizer--and cheap fertilizer is made possible by petrochemicals. What will replace them when the oil starts running out? I assume the world supplies of bird guano and horse manure are shrinking, not increasing.
I assume the world supplies of bird guano and horse manure are shrinking, not increasing.
The world's supply of bird guano is in fact very small, since bats, although capable of flight, are technically mammalian and therefore not birds.
I'm not sure what that has to do with anything, #1, since guano can also come from birds (seals, too, if Wikipedia is to be believed).
But it was a good attempt at obnoxious pedantry.
I remember reading about islands in the pacific whose economy collapsed with they ran out of bat crap.
But does scarcity really apply in this context? Its more of a low hanging fruit thing; most of the fruit is harder to get too, but there is still plenty of fruit. I imagine that drilling tech in 1930 only allowed for getting to oil that was nearly begging to get drilled.
For instance, we already know about enough tar oil deposits to last for centuries, and nobody was really looking for it since it hasn't been economical until now.
So my question is this: does scarcity in economic terms refer to the difficulty of harvesting, or only the quantity of product available?
"...the concept of EROIE is not new. Anyone familiar the first law of thermodynamics understands it."
Gawd, I hate this kind of goofy invoking of science. "Anyone familiar with the first law of thermodynamics" understands in fact that EROIE is 1:1, always. That _is_ the first law of thermodynamics. What varies is, how much energy that's in a form you can easily "spend," do you get back in the form you want. It's tangential but it was annoying.
I'm not sure what that has to do with anything, #1, since guano can also come from birds (seals, too, if Wikipedia is to be believed).
Turns out you're correct, I was always taught in school-long-past that guano actually meant "bat crap" and that it was collected primarily in caves. The sea birds thing is new to me.
But it was a good attempt at obnoxious pedantry.
And that was a poor attempt at an insult. I recommend coffee and friends -- take two of each and call me in the morning!
Oil is one of those commodities that can surge in price when people get anxious. Especially if you doubt that the US dollar will retain its worth.
Oil, coal, gold, copper, have all spiked pretty much in parallel since the subprime mess came to light last fall.
These times--when polticial and economy uncertainty are both high--remind me of the 1970s. Megan I think is too young to remember.
We thought the price would go up forever then too. Instead it spent the whole decade of the 90s drifing downward.
I remember reading about islands in the pacific whose economy collapsed with they ran out of bat crap.
Bird crap, actually, but yeah. Not only have their economies collapsed but the islands themselves are physically collapsing from having been trashed during mining.
Fairly stagnant supply plus increased demand = higher price of oil, no?
Oil Economist Philip Verleger:
"Verleger thinks that the increasing demand for oil securities as a hedge against volatility in equity markets and the weakening dollar explains the bulk of the price run-up between 2003-2007 and that the United States government – via its insane buy-orders for the SPR – is largely responsible for the near-doubling of oil prices since last August."
http://www.cato-at-liberty.org/2008/03/12/blame-opec-not-so-fast/
"What will replace them when the oil starts running out?"
Many oil producers in less well developed areas have almost no market for their natural gas. Where pipelines are not feasible, it is too expensive to ship. They vent it or burn it off. If fertilizer becomes valuable enough to warrant shipping it, they will use natural gas to manufacture it. It is actually better than oil for that purpose, but is presently only profitable if done very near the target destination.
One very simple reason the price of oil is rising is that it is priced in dollars.
As the value of the dollar plunges, the price of oil in dollars will naturally go up.
The price of oil hasn't go up nearly as much for those countries that use the Euro.
A salient concern Megan, but here is more food for thought:
Oil's scarcity is as much ado about production as it is about consumption. If China were to suddenly use oil at the same rate per person as the US, and oil production were flat, prices would skyrocket as the supply and demand curves readjust. Well, China is quickly closing the gap on oil usage. It reminds me of something I was taught in elementary school: the US is about 10% of the earth's population but uses something like 50% of its resources. What would happen if the whole world tried to live like us? The answer is that we would be priced out of the market.
Megan,
Nice post, but there's one minor error in the source material you quoted - it's Fort McMurray, not McHenry. Fort McHenry is in Maryland.
Just to throw in another pendantic observation, but it is Fort McMurray, not Fort McHenry, that is the center of the Tar Sands universe that is Alberta.
And while the 1/3 ratio for energy extracted may be the case today (I don't know), we shouldn't rule out future advances in efficiency. Currently, natural gas is used to generate the jules necessary. Some companies have talked about building a nuclear reactor for this (a hedge on the natural gas market?), and with next-door Saskatchewan brimming with uranium, this may be more cost-feasible.
I don't know how to increase guano supplies, but I think it is fairly safe to say that we will never run out of excrement.
Umm--the cost of creating pork bellies is not static. Indeed, the cost probably varies much more than any other commodity--just track the ups and downs of the price of corn over the last 30 odd years.
Duncan, the energy crisis of the 70's was caused by a peak in domestic oil production. It was abated by commoditiztion of the global oil market.
Toxic, do you have a reference for that? Sources I've read say that global oil production will peak in 5 to 50 years. I've never heard anyone say we have enough to last hundreds.
Duncan, the energy crisis of the 70's was caused by a peak in domestic oil production. It was abated by commoditiztion of the global oil market.
Toxic, do you have a reference for that? Sources I've read say that global oil production will peak in 5 to 50 years. I've never heard anyone say we have enough to last hundreds.
The first attempts at fixing nitrogen artificially used hydroelectric power. There's no reason we can't use nuclear power to manufacture fertilizer.
For some reason, most of the discussions of oil (or biofuels or "alternative" energy) seem to take place in a universe in which uranium has disappeared.
It's not so much that we're running out of oil but that we've peaked in oil production. As an analogy, say we have a swimming pool full of oil...for the past 100 years we've been sucking it out with progressively larger straws...now our straws are getting smaller. BTW, we probably peaked in global oil production in 2003. Prices will probably get a lot worse than everyone is thinking at this time, since it takes time to work on alternatives (ie nuclear).
Nutella, I believe domestic oil production--if that's what you mean, peaked in the mid-1980s. The Energy Information Administration of the USDOE has excellent statistics under the heading of "Annual Energy Review."
So basically we're screwed and civilizational collapse is inevitable. What a horrible horrible planet we live on
http://www.seacoastnrg.org/2007/03/05/us-crude-oil-production-falls-to-57-year-low/
It looks like it peaked in the 70's, but stayed relatively stable until the 80's, when it began a marked decline.
It still holds that the 70's energy crisis was caused by peak in domestic oil production. Depending on the shape of the curve, prices will increase before or at the peak (that is, when the increase in production begins to slow). does that make sense?
My understanding is that nitrogen based fertilizers are made using the Haber process, which depends mostly on air and energy, and could be made using not fossil fuels.
But the energy used to extract oil can (and quite possibly does) come from coal. EROEI for coal or nukes might be relevant; EROEI for gasoline is about as relevant as for AA batteries.
minturn,
It's scary how right you just might be. Don't worry, though, the invisible hand will save us!
NoT,
Those are not mutually exclusive. Oil production peaking in 5 years just means that if our current rate is, say, 80 Million Barrels Per Day, in 5 years we'll produce, say, 85 MBPD, and 5 years later only 85 MBPD (or back to 80, depending on which source you listen to). But that's not the same as "running out". Toxic is pointing out that, at our current rate of 80 MBPD, we could keep producing oil for hundreds of years.
The cost of production probably goes up steadily (as the "low hanging fruit" disappears) and the price probably goes up steadily (as demand keeps growing and production holds still), but that's not "running out" - we still have oil to "last" for a long time.
Well, who cares when we "run out" then? The prices will go up dramatically as production fails to increase an our lives will be moderately to severely disrupted.
It doesn't matter when we pump the last drop, it matters how many drops we can pump each year. If we are peaked right now (as an example) at 80 MBPD (I take your word on that number) then it won't stay at 80, it will start to go down, and the shit hits the fan.
even if it stayed at 80, the shit still hits the fan as population increases.
even if population doesn't increase the shit hits the fan as China modernizes.
Even if China stops modernizing then it hits the fan as India moder.... of fuck it. you get the point. The point is that the shit hits the fan :).
As has been pointed out, Nitrogen fertilizers can be fixed from the atmosphere using nuclear, geothermal, or any other source of energy. I'd worry, but not too much.
Instead, worry about phosphorus. It's a key ingredient in things like DNA and ATP, so all living things including ourselves and our food sources depend on it. Phosphorus has to be mined, and we are going to run out of it in the next couple hundred years. On a global scale, phosphorus is being moved from the concentrated geological deposits where it is mined, through our systems, and out to the ocean where it is dilute enough to make any attempt to retrieve it extremely costly.
If by "the shit hits the fan", you mean "the price of oil continues to rise, does not fall, and costs across the board go up gradually as well" then yes, I agree, and that was basically the point of the post.
But there's various factors that make things a gradual adaptation, rather than "ZOMG DISASTER STOCKPILE POTABLE WATER!"
Tar sands and oil shale stuff means that it's probably closer to 50 years than 5, since as the price crosses various thresholds, new sources become viable. Nobody was going to spend $90/barrel to extract it and sell at $90/barrel, but at sale prices of $150/barrel, that's highly profitable and worth investing infrastructure in. But that's still just talking about "when is peak", not "what happens at peak"
As for what happens, like you say, price of oil keeps going up, and just as different source of oil became viable at $150/barrel, different sources of energy become viable at $200/barrel. If you REALLY need oil, like to make plastic, you still buy it at $200. But if you just needed it for your car, you buy one of VolksYotaMobile's new electric/natural gas/solar/fusion/human powered cars, which everyone told you was a silly idea back in 2010, but which is the number one seller in 2050, with gas at $50/gallon.
The peak oil clique persists in believing that oil is different from othr commoddities. It's not.
As it grows more scarce people will find cleverer ways to use it, motivated by the rising price.
There was an interesting article in the NY Times today (p. 1 I think) about the habitual volatility of oil prices and those of some other commodities.
...and that goes for China and India too. Today China is pushing windpower hard.
The Economist has a detailed survey of China's resource requirements. The short answer: Don't panic.
...and that goes for China and India too. Today China is pushing windpower hard.
The Economist has a detailed survey of China's resource requirements. The short answer: Don't panic.
I don't know. I agree that we'll start inovating when it becomes pricey, but I think there's a lot of warrant to the fear that by then it will be too late. I'm not arguing for either one, but I don't think you should dismiss the idea that it could lead to catastrophe. Resource scarcity has destroyed civilizations before.
We almost literally eat, breathe, drink, and sleep oil. Alternative energies, from what I've seen, aren't very likely to close the gap. Most people who've studied this say that window and hydro are infeasible, and solar is pretty daunting. A 100% effecient solar cell would need to cover 100 x 100 meters per person, by my back of the envelope calculations a while back (using energy consumption in America by joules and assuming ~400W of solar energy).
Coal and fission are good alternatives, but I think it's a better idea to start encouraging less rampant energy consumption, or else we just delay the inevitable.
Not saying we should live in grass huts, but could we at least pack the suburbs a little tighter?
Nutella wrote: A 100% effecient solar cell would need to cover 100 x 100 meters per person, by my back of the envelope calculations a while back (using energy consumption in America by joules and assuming ~400W of solar energy).
Using figures from wikipedia, insolation at the Earth's surface in North America is about 250 W/m2 (net of night, clouds). US per captia energy use is 11.4 kW/person, so you need 45.6 m2/person of 100% efficient solar cells (with a 100% efficient storage system), or about 500 square feet. My house has about 5 times that roof area. Make it cheap enough, safe enough to clean and maintain, and I can replace my home electricity use with a solar system. Probably would need to lose one of my 55 year old oaks though. The best solar cells are about 15% efficient, but I expect that to go up dramatically.
So, combined with conservation (low hanging fruit: right now 22% of the energy use in the US is for lighting and LEDs could cut that by quite a bit, maybe 25-50% as LEDs are 8-10x more efficient than incandescent - I already use them for Christmas lighting outside), nuclear power (for electricity and powering the making of petrochemicals out of air and/or biomass), and eventually a mix of fusion and solar power satellites - we've got a way out.
If this is a topic that sucks you in, I strongly recommend J. Hamilton's Econbrowser. It's co-written with M. Chinn, but it's Hamilton who is the oil guy (and also the guy who literally wrote the graduate textbook on time-series econometrics). Incidentally, a few months back, Hamilton wrote a piece on the Atlantic about the Ghawar oil field, one of his favorite topics ever. He prowls the web and distills his findings into a nice read about the extreme end of the supply side of oil (how much is still out there, given the tech we have to extract it). He also does a nice job at explaining some aspect of the related finance markets (I learnt all I know about cotango thanks to JH!). Finally, although he doesn't tie it to oil, he is of the school of thought that the current speculative boom in commodities is a result of loose Fed policy. Undoubtedly, some of that must spill into oil prices too.
Megan, have you only just started thinking about this now? Economic growth is driven by energy. As the oil gets more expensive there will be pressure to use more CO2-dirty fuel. There are some serious challenges ahead.
Hmm, when I did my calculations I got something a lot more pessimistic, but like I said, it was back of the envelope.
I sure hope you're right.
Duncan Brown: have you taken in what Megan has written above? Megan might be young but she is sharp. Since 1970, despite years of denial, US Oil peaked and the US is now sucking it in from anywhere all over the globe. This will happen to global oil production too, almost certainly some time well inside the next 10 years, and then where is the world going to import it from? In fact some think it might be happening now. Actually Megan has just posted some pretty telling data that suggests it might be happening. Why oh why would everyone be piling into the tar sands with its astonishingly atrocious inefficiency if there were any other more efficient alternatives--it makes no sense.
This is what happens with mature fields as they pass their peak, you end up spending more and more energy and cash extracting the oil. Think of the world's oil as one big field--it is still just, despite Chinese moves, one big market so the same dynamics will operate. it is looking like it is going though its peak.
We have no reason at all to think that the price of oil is not going to float back down again. We are now going to start paying more than the cost of extraction of oil. we are going to have to start paying for the oil itself. However our economy is (as others have said) utterly dependent upon oil--as we are dependent on air. That is going to be some adjustment.
Back in the '80s when I was taking the core-curriculum science-for-dummies classes, the engineering types who taught section were pooh-poohing the viability of wind and solar because of its low EROIE.
The flaw in that reasoning is of course that wind and solar are INEXHAUSTIBLE. You could have an EROIE of 9/10 and it'd still be a perfectly practical energy source if the supply were infinite. That's not even taking into account the environmental side effects.
Most people who've studied this say that window and hydro are infeasible - Nutella
Actually, most people who've studied this say that wind power can be expected to supply about 20% of an electric grid's total power. If you're France or Japan, put together nukes and wind power and you're pretty much done, with 0 carbon emissions.
Oil this, oil that...blah blah blah...
When will the conversation turn to how we must each make personal choices to affect change?
Oil will run out. Period. Start your change now!
Oil burning causes pollution, regardless of whether or not you believe it is also instigating global climate change, the pollution itself is a problem.
Decide to orgnize your driving needs and make as few trips as possible. Decide you don't need a HUGE vehicle just to get to and from work. Decide you don't need every light on in the house in the evening. Decide you DON'T need to watch television every day. Decide to get out and walk a nature trail more often. etc.
Coal can bet turned into gasoline/diesel for much less than $100 a barrel equivalent, with a positive net energy return. (And hydrocarbons are so useful for vehicle fuel that they still make sense as an alternative to batteries even if the net is mildly negative, and subsidized by burning coal or uranium.) China and the U.S. have plenty of coal. If the problem with oil prices is oil scarcity, then oil will be replaced by coal as the feedstock for hydrocarbons, and the price of oil will fall below $100/barrel because the demand for the non-fuel uses will not sustain the price.
If the problem with oil were real and permanent scarcity, then it would be clear that oil would remain expensive in the long run, and every major oil company would be busy running up improved versions of Sasol's Secunda and buying rights to coal. You may notice this is not happening, which tells you what the oil companies actually believe about oil scarcity.
Oil prices right now are not being driven by scarcity or inflation. They're being driven by a speculative bubble. The oil companies know the speculative bubble won't last long enough to cover the costs of massive capital investment in alternatives to oil, so they're standing mostly pat and waiting for the bubble to burst, instead of building capital-intensive coal conversion plants.
(Why are oil companies responding rationally to the oil bubble? The executives remember the late Eighties, when cheap oil demolished the balance sheets of anyone who made major long-term capital investments on the basis of the high oil prices in the Seventies.)
-brooksfoe
ERIOE still matters for wind/solar/etc. because they are not inexhaustable, at least not in the way that you imply. First, there is a real capital cost in the installation and upkeep of the panels/turbines. What the myriad ratios say is that if I have $10M and want to make some electricity, wind or solar will give me a lot less bang for the buck than some other options.
Next, neither solar or wind will last forever - panels degrade, turbines break, etc. Not saying that coal plants don't need repair, just, again, that solar in not inexhaustable.
I agree much more with the 2nd half of your post, but fail to see how it follows the 1st.
Dear Lunatic. I agree with you about the speculative bubble in many key commodities. People are bailing out of the stock market into what would be cash, but US cash is too shaky right now, so they are speculating on commodities (many of which have spiked up in parallel since the subprime mess hit the fan). And a lot of so-called smart money (hedge funds and like) are moving the same direction.
It's largely a matter of uncertainty about the dollar, and doubts about the US political will to address our gaping budget deficit. Especially in this populism-driven election year.
You could also implicate the ethanol/Farm lobby in this problem. They have put corn and soybean proecesers in competition with oil and diesel refiners.
And Nutella. You are right too. The environmental impacts of energy use will need to be addressed in a more intelligent way. I vote for a carbon tax.
Two words: Ray Kurzweil. I'm not as optimistic as he is, but he is probably within a factor of two of being right.
http://www.livescience.com/environment/080219-kurzweil-solar.html
"Solar and wind power currently supply about 1 percent of the world's energy needs, Kurzweil said, but advances in technology are about to expand with the introduction of nano-engineered materials for solar panels, making them far more efficient, lighter and easier to install. Google has invested substantially in companies pioneering these approaches.
"Regardless of any one technology, members of the panel are "confident that we are not that far away from a tipping point where energy from solar will be [economically] competitive with fossil fuels," Kurzweil said, adding that it could happen within five years.
"The reason why solar energy technologies will advance exponentially, Kurzweil said, is because it is an "information technology" (one for which we can measure the information content), and thereby subject to the Law of Accelerating Returns.
"We also see an exponential progression in the use of solar energy," he said. "It is doubling now every two years. Doubling every two years means multiplying by 1,000 in 20 years. At that rate we'll meet 100 percent of our energy needs in 20 years."
Not sure if I buy the EROI argument.
Roughly speaking, the EROI in coal to liquids is about 2 -- it takes 2 BTUs of coal to get a BTU of liquid fuel. But coal (in the U.S., right now) remains that cheap in relation to oil that the cost of mining enough coal to make the synthetic oil is not the problem.
The problem is 1) coal-to-liquids is a much more expensive chemical plant than an oil refinery with light crude oil feedstock, and 2) the CO2 emission concerns of an EROI of 2 -- that you get 2 units of greenhouse gas (or more on account of the energy in coal being heavily in carbon) for every unit of liquid fuel.
On the other hand, if we have an EROI of 2 for coal-to-liquids, tar sand, oil shale and we can tolerate the CO2 because of either carbon sequestration or by ocean iron fertilization, what is the problem. All this EROI thing is saying that we have used up the (smaller) qualities of rich energy ore and are moving over to the (one hopes larger) quantities of less rich energy ores. Has happened with iron, copper, and perhaps other things.
Morning lads and lasses,
If EROIE drops significantly the price of oil will start to rise. Since expensive oil will have to be used in order to mine expensive oil you could wind up with an up spiraling oil price! Expensive oil mined with ever more expensive oil and so on until the oilprice reaches a level were price elasticity at consumer level is broken. This will be at a petrol price of what per gallon (in Holland a liter of petrol costs a staggering 2,00 dollars and we are not stopping traffic). So if we keep this up we won't have an economical catastrophy untill we reach a point in which EROIE drop to 1 in which the extraction of a barrel consumes a barrel. Then it's curtains baby. Now the question is are we selfish arrogant bastards who will hand over that problem to our children (by consuming less and less oil) or are we reponsible adults and consume ourselves to kingdom come within our own lifetime?
Greetings, Ed