Tuesday, September 05, 2006

THE CYCLICAL SPECULATIVE CHANGES DISTORTING THE FUNDAMENTALS OF THE PRICE OF OIL,
Over the last 18 months cost changes to most commodities or tangible assets have been upwards due to the strengthening of most economies and the increasing demands for energy and commodities from China, India, and other developing economies.

This has caused demand supply shortages for both services (eg.shipping) and raw commodities to supply the rising demands. Supply never precisely matches demand. Either it exceeds demand or it falls short. Those who provide supply are attentive to signals indicating the size of demand, and when the signals show more supply is required they either supply more or increase costs to provide capital to increase supply. Contrarily when the signals indicate demand is low they will cutback on supply. Through this cybernetic adaptive behavior, fluctuations in supply and demand occur constantly in cycles, normally seen in narrow boundaries of variation.

The boundaries of variation of supply-demand are normally narrower for renewables, services and manufactured commodities then for nonrenewables such as oil, or iron ore.
The cost for example of a factory making 1 million TVs per annum will have the same cost for the first as the last. With a nonrenewable commodity such as oil normally the cost for extracting the first barrel closer to the surface is less costly then further barrels from a greater depth, thus limiting the total supply, alternatively as demand price increases so does supply.

Non renewable minerals have their own demand supply characteristics in so far as non fuel minerals have a proportion that can be recycled and reused thus limiting demand at the top of the demand-supply cycle. This has been a major factor in limiting price increases in copper, aluminum, and even with paper products.

Whilst there are limitations on the recyclables of the oil industry, there is increasing reuse of byproducts such as asphalts, plastics, and lubricating oils. We also see improved efficiencies in oil production with gas flaring being used in platform energy production, and gas capture enhancement.

Cost increases for low end oil products have also meant competing alternative energy sources or substitution becomes increasingly viable, such as using coal for heating in emerging and developing markets. The price differential has meant that savings can be used to mitigate pollution from using coal by increased use of new technology.This can be seen in interesting new technologies of coal bed gasification, and cogeneration. These have enhanced VOC removal, higher thermal efficiencies,and multiple downstream ouputs,such as heat, gasification for liquid fuels, and electricity,and applications in tar sand recovery.(two pilot plants for coalbed methane recovery are under construction in China with outputs of around 500mw each.

Over the last 30-40 years there have been dire predictions based on flawed assumptions on the cost of energy,the upper production limits and the consequences of peak oil ,Some interesting examples are the Global 2000 report to the President made in the early 80’s.
If present trends continue we will see overpopulation, resource depletion, food shortages,etc.There we will stop as trends did not follow as they never do, they may change in the short term, they trend up or down, but prediction is always subjective. Demand fell, substitution occurred as coal replaced oil in generation and the price of oil and demand trended down for the next 20 years.

To view changes in demand as a constraint ,we will use the China market as demand and supply substitution ,closing faster then predictions.

As discussed in previous posts, a key factor suppressing oil demand growth is China’s amazing
66 GW (14.9%) increase in power generation capacity in 2005. This is the equivalent of adding some 1.4 times Australia’s total power generation capacity in a single year. This addition has quickly closed the demand/supply gap and lessened the need for relatively expensive oil in power. According to recent government projections, China’s power shortage will shrink from 35 GW in 2004 to an estimated 10 GW in 2006. China plans to add another 72 GW of capacity in 2006, and capacity growth should exceed the growth in power demand by some 3%. The fact that water levels at key hydropower reservoirs are some 18% above levels of a year ago is also contributing to this optimistic outlook. It is thought that a capacity surplus will emerge in 2007, which could grow over time as construction of an estimated 100 GW of installed capacity was launched in 2005. By the end of 2005 some 250 GW of capacity was under construction.as well as the 80GW contracted through the Moscow-Beijing energy cooperation agreement.

The decrease in energy generation oil use is around 250000 bbl per day of heavy fuel oils.The completion of the Kazak-China oil pipeline with capacity of around 1.2mbbl day will see the reduction of oil dependency from the middle east .In addition the agreement with TKN-Bp for the oil pipeline from the NEW Siberian oilfields will see additional supply of 80mt of oil per annum.

The increased domestic supply will bring on around 1mbbper day by 2010,Also the accelerated introduction of lpg and cng into the transport fleet of around 4 M vehicles by 2008 will further reduce market requirements.The substantial decrease in VLC Tanker charges in the last 12 months shows constraint adaption.

Another major structural change is the agreement for transportation of freight on the BAM and Transiberian railways this with capacity of 4Mtuv will further reduce shipping demands and transport pricing and time 12 days to Europe from Asia.

Upgrading of the energy distribution grid,gas reticulation and improved railway freight handling,will also produce efficiencies that will see Chinas energy-gdp Ration stabilize at 2007 levels.

Similar efficiencies in the RF are also being enacted as Russia becomes the transportation and energy conduit for the east asian economies.

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