Why Oil Prices Skyrocketed

Jasmin Malik Chua

Date: 20 June 2008 Time: 07:37 AM ET

With the cost of crude oil surging to record highs, a heated battle of blame is in full swing, with a lineup of suspects that includes the oil industry, Congress, commodity speculators, environmentalists and developing countries in Asia.

Meanwhile, predictions that we've reached a peak in oil production or will very soon — dismissed only a few years ago as being alarmist and without merit — are receiving more serious consideration.

The problem is, nobody really knows how much oil is down there. The only thing that's certain: Dead organisms produced a limited amount of oil long ago, and eventually there won't be enough to sustain the current rate of consumption.

Further complicating matters, global consumption is spiking. An average of 86 million barrels of oil are guzzled per day across the globe, according to the U.S. Energy Information Administration, up from 74 million barrels 10 years ago. World demand for oil is expected to increase by 37 percent to a staggering 118 million barrels per day by 2030, the agency estimates. Assuming, that is, there's enough to go around.

Peak oil?

Peak oil, followed by a permanent decline in global oil production, is a "reasonable hypothesis," according to David Goodstein, a physics professor at Caltech and author of "Out of Gas"(W.W. Norton, 2004).

"If we've reached the peak, then that's it," Goodstein said this week, echoing a March 2007 report by the U.S. General Accountability Office speculating that oil resources would begin to dwindle sometime between now and 2040. "I think you can invest as much as you want in new exploration and it won't improve matters."

A study last year by a Swedish researcher predicted oil production will peak sometime between this year and 2018.

Other analysts, however, say that we've barely explored our energy potential, much less run the risk of being tapped out completely.

"New field discoveries are only about 25 percent of the source of most of the reserve additions of oil," said William Fisher, a geologist at the University of Texas at Austin. "About 70 percent of it comes from oil through increased recovery out of existing fields. Around the world, up to this existing point, we have already discovered about 7 trillion barrels of oil in the ground."

Increasing the current rate of recovery from 35 to 45 percent, said Fisher, could yield an even greater surplus of petroleum. "Ten percent of 7 trillion barrels is a lot of oil," he said. "But peak-oil advocates just concentrate on new discoveries and put that aside."

Supply and demand

By Fisher's reckoning, rising oil prices are more likely due to an old-fashioned case of supply and demand — as well as the faltering U.S. dollar.

"We've just had a red-hot increase in demand in the emerging economies of Asia, particularly China and India," he said. "The other contributor is the weakening value of the dollar compared with the Euro, since oil is priced and sold in dollars."

A third offender: commodity speculation. "When you see a commodity like oil that will vary by 2 to 3 percent of its value in a day's time, you suspect that there's some speculation that's going on," Fisher said. "And I'm not saying it's a nasty word — people speculate in margins all the time — but that would, in my view, have some secondary role."

Still, the growing demands of a fuel-hungry planet obscures a different, self-imposed problem, said David Cole, chairman of the non-profit Center for Automotive Research.

"We have failed to develop our resources due to the inability of Congress to permit drilling in high-probability petroleum regions," he said, arguing that the United States has had an "absurd energy policy" for years.

"The only thing Congress has done over the years is promote the development of corn ethanol, which doesn't make any sense because it has very low energy potential," Cole said. "I think our broad energy capability is still very substantial, but we really need to bridge the gap between our existing resources and alternative technologies, including cellulosic biofuels and lithium batteries."

Another looming issue is the sizable chunk of change that is being spent on foreign oil each year.

"We're basically sending billions of dollars to people in the world we're not very comfortable with, because of our own inability to develop our own resources," Cole said.

Fisher agreed: "If you're forever growing and you're that much of an importer of a commodity, you don't get a whole lot to say about pricing," he said. "We can scream and yell all we want to, but we're at the mercy of the market."