by Charles Ellinas
Many major international oil companies (IOCs) now believe that peak oil demand is round the corner. Shell has suggested the peak could come in the late 2020s. Statoil believes it could be between the mid-2020s and the late 2030s and BP in the 2040s.
But not everyone agrees. The International Energy Agency (IEA) says that unless there is much more intensive action by governments to tackle global warming, oil demand is likely to continue to grow out to 2040 and possibly beyond. But even the Organisation of the Petroleum Exporting Countries (OPEC) forecasts in its World Oil Outlook that oil demand will peak by 2029.
So why does it matter?
Too much oil
According to BP’s Energy Outlook 2017, which I discussed in early February, there is an abundance of technically recoverable oil resources. With the slowing growth of oil demand, the world is facing a long-term oil glut. Estimated technically recoverable resources amount to 2.6 trillion barrels of oil, but cumulative demand in 2015-50 is estimated to be less than half, at about 1.25 trillion.
This means that not all discovered hydrocarbons will be consumed even by 2050. Increasingly, there will be strong competition between producers to capture this more limited market. As a result, mostly cheaper resources will be able to be developed, by low-cost producers, and compete. Similar arguments apply to natural gas.
In this environment, the implication of peaking demand, followed by falling global oil demand, is ominous for the oil industry.
Impact of renewables
The inexorable advancement of renewables increases pressure further. In a nutshell, electric cars, renewables and increasing energy efficiency could end the era of rising crude oil consumption.
The IOCs face a new competitive landscape as a result of the falling costs of renewable energy and governments’ efforts to combat climate change by curbing use of fossil-fuels, following ratification of the Paris Climate Agreement. BP projects that renewables will account for 40% of EU power generation by 2035.
Some IOCs, led by Total, Statoil and Shell, have been increasing their investments in renewable energy to prepare for a possible future of flat or falling demand for oil. But they also believe that diversification into renewables makes economic sense: renewables are seen as a real business that can deliver good returns for the future. Increasingly, IOCs are redesigning themselves as energy companies, not just as oil and gas companies.
With their prices continually falling, renewables are increasingly becoming cost competitive with conventional fossil-fuel sources.
Impact on crude oil consumption
It would be very unwise to ignore the signs of the factors shaping the future of global energy, leading to permanent structural change. The emerging fossil-fuel alternatives, including wind and solar power, are starting to limit growth in oil demand.
Some of the IOCs consider peak oil to be on the horizon, and regard the threat of peak demand as more pressure forcing them to become more efficient and diversify.
It is interesting to note that, during the last few years even though oil prices have remained low, in the range $40-60/barrel, global oil demand growth has not increased in response. The old theories that low oil prices result in robust demand growth may no longer apply. This would be a radical departure from historical norms.
Low oil and gas prices
Forecasts of oil consumption depend on the outlook for prices. The best hope for continued demand growth is if prices stay low.
The US shale revolution has brought another dimension into the growing abundance of hydrocarbon resources and low prices.
Even Saudi Arabia takes the view that abundant oil and low prices are here to stay.
That’s why IOCs are trying to protect their operations against a world of peak demand and sustained lower prices. They are reshaping their business for a more competitive market. Many are stepping up their investment in low-cost, quick-return assets, such as US shale.
Others are investing in the production of natural gas, which they expect to be a faster-growing market than oil, as countries such as China and India opt for it as a relatively clean energy source compared to coal. But coal is still cheap and a strong competitor to gas in power generation, especially in Asia.
Some are making investments in renewable energy, where increasingly costs are coming down, providing stiff competition to oil and gas.
But most are preparing for a world of peak oil demand by driving down production costs. In a world where energy is in abundance, with an increasing diversity of alternative low-cost energy sources vying to secure a share of a finite market, the only way producers can compete is by having the lowest cost crude oil or gas.
The majority of cost reductions are coming from working smarter and more efficiently, with a permanent shift towards leaner business. Oil and gas companies are seeking to rebalance business portfolios and reorganise for the new energy era.
And most big IOCs are planning their future on the basis of crude oil prices in $55-$60 per barrel range. Average annual gas prices in Europe are expected to stay in the range $5-$6 per British thermal units (mmBTU) and in Asia between $7-$8/mmBTU.
Energy market competition
The global energy market is experiencing a number of major trends, all contributing to an intensified, and continued, market competition.
• Alternatives to oil, especially in the transportation sector, will make oil vulnerable to technological disruptions.
• Electric vehicles, increasingly charged from renewable sources, will begin to erode the dominance of internal combustion engines.
• Oil subsidies are expected to be phased out, as already witnessed in a number of countries.
• Cheaper solar, wind and gas-fired generation will reduce oil demand in global power generation.
• Increasing energy efficiency at all levels, including transport, is reducing demand for fossil fuels.
The outcome of the above is increasing displacement of oil, leading to the conclusion that peak oil demand is on the way. And with it, low energy prices, including oil and gas, are here to stay.
In fact, if oil and gas are to resist this competition, and maintain their position, prices must remain low. Experience shows that high prices encourage the faster development of renewables.
Companies will concentrate on assets that are easier, faster and cheaper to produce and cost-effective in a low-price environment. The long-term outlook for fossil fuel prices is lower.
Implications for East Med
Natural gas is the world’s fastest-growing fossil fuel, but, as we saw earlier, to maintain this position it must compete with renewables which are becoming increasingly cheaper.
In the East Med, collaboration will be key to keeping development costs down. In a low-price environment, only integrated projects which minimise costs from well to export will stand a chance of becoming financially viable and securing export markets.
The likely markets are in Asia, where liquefied natural gas (LNG) prices are expected to be $7-$8/mmBTU on average per year. Allowing for shipping costs and profit, the all-in cost that East Med LNG must not exceed could be $4/mmBTU, if it is to break into this market. This is a challenge.
Charles Ellinas is a non resident Senior Fellow, Eurasian Energy Futures Initiative, Atlantic Council