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The Cambo limit

For more than a century, economists have speculated about what would happen when world oil production reached a peak.  The consensus view which has won out thus far is that the oil price would just keep increasing.  Indeed, there would not be a single peak of oil production, because each time production appeared to reach a limit, the increased price of oil would make previously unprofitable deposits worth drilling, causing production to increase once again.

As evidence for this, economists can point to the opening up of the Alaskan North Slope, the North Sea and deep deposits in the Gulf of Mexico in response to the oil crunch of the 1970s.  And more recently, the American shale boom appeared to confirm that so long as prices rose high enough, there would always be new oil to keep production rising.  Indeed, counting the source rock which the US drillers have been hydraulically fracturing, there may be as much oil left in the Earth’s crust as all of the oil humans have drilled so far.  Thus, once the oil price is right, there will always be new oil which can be recovered.

Critics – myself included – though, point out that the oil shocks of the 1970s were largely artificial – resulting from the US losing control of the global oil price in the early 1970s, and the Iranian revolution at the end of the decade.  More recently, critics have also pointed out that the US shale industry was a short-term and unsustainable product of the financial distortions caused by quantitative easing and real negative interest rates in the wake of the 2008 crash.  Nevertheless, oil production continued to grow through the decade following the crash, even as the oil price fell to a level far below that required to make fracking profitable.

What we experienced in the aftermath of the 2008 crash, and are again living through today, was a rebalancing of the economy away from discretionary goods and services as ever more of us are forced to fund expensive essentials.  All else being equal, the total spend would be the same, only the items bought would have changed.  But, of course, all else is not equal.  The shift from discretionary to essential spending has a massive impact on an economy which is heavily skewed in favour of discretionary goods and services.  That is, when the cost of essentials increases, then after a lag, the result is deflation and unemployment across the much bigger discretionary sectors of the economy.

So, consider what happens to the price of oil in such circumstances.  Initially, an oil shortage – even a relatively small one – can lead to a significant increase in the oil price.  It doesn’t take long for this increase to be passed on both directly – in the price of fuel – and indirectly – in the rising price of everything made from or transported using oil.  In a parallel universe in which the currency was based on saving, there might be enough of a savings buffer to cushion the impact of the price increase – which, note, has absolutely nothing to do with the volume or velocity of the currency in circulation.  But ours is a debt-based currency system.  And so, the only way of accommodating the increased prices is to switch spending away from discretionary – that is, unnecessary – items in favour of the now more expensive essentials such as housing, energy, and food.

The result of this switch in spending is what economists refer to as “falling demand.”  People begin to pay off debt rather than take on new borrowing – and banks tighten their lending policies for fear of people defaulting.  Fewer goods and services are sold, and retailers and manufacturers are left with unsold inventory.  And so, they also cut back on spending, and may begin to lower their prices in order to shift the excess stock.  Eventually, if things are bad enough, companies will go out of business, resulting in thousands of workers – who are also consumers – being fired, causing an even bigger loss of demand.

The consequence for the oil companies is that demand for oil plummets.  Even though the total amount of oil being produced may be far lower than it had been at the previous peak, the price of oil actually falls.  This gets to the heart of economists’ failure to understand rising prices.  The assumption at this point is that prices would increase, allowing previously undrilled – because the cost was too high – deposits to be brought into production.

Importantly, the “cost” of opening up a new deposit is not really about a monetary price.  Rather, it is about the energy cost of the energy and resources needed to open up a new deposit, weighed against the likely return on that oil if it is produced.  While, for example, the energy cost of the oil deposits in the North Sea was considerably higher than land-based deposits in Texas or the Middle East, it was still low enough that the wider economy could provide the producers with enough of a return to make it worthwhile.

Therein is another point worth making.  Oil corporations – like any other capitalist endeavour – are primarily in the business of making profits for shareholders.  The commodity, good or service they bring to market has to be secondary, because if they cannot return a profit they will not attract the investment they need.  Crucially, this is a long-term prospect.  Deciding to open up a new oil deposit, particularly a smaller one in a less accessible region, is a multi-billion-dollar gamble.  And so, what is required is not simply a brief spike in the price of oil, but a sustained increase which looks like it will remain high for years and even decades to come.  In this, the story of the US shale bubble is instructive, as the new oil brought on stream served to rapidly depress the price to a point where the enterprise was largely unprofitable.

In the twelve years between the Crash and the Covid, the price of oil see-sawed between the high price required by the oil industry and the lower price required by an economy which was unable to restore the rates of growth prior to 2008.  And this time – unlike previous periods of price volatility, there was no Goldilocks price which could satisfy both needs:

In the post-Covid world, the problem has worsened considerably.  Various states – particularly across the high-consuming west – have adopted policies to phase out fossil fuel consumption.  At the same time, the banking and financial sector has adopted Environment, Social and Governance investment rules which also make funding for new oil projects much harder to obtain.  At the same time, and in part as a result of the self-inflicted insanity of lockdowns and sanctions, those same western economies are far weaker, and appear to be in the early stages of a banking crash and sovereign currency crisis far worse than in 2008, strongly suggesting a decline in oil prices as demand for both fuel and goods made from or transported with oil dries up.

Throughout this period of oil price volatility and declining economic fortunes, one potential oil deposit appears to sit just over the economic – which is in reality an energetic – limit beyond which oil will never be recovered even though the geologists have already shown it to be there.  In the establishment media, the deposit in question is wrongly described as being in the North Sea – a region which in itself was always difficult to drill, even though most of the required infrastructure is already in place.  But this “new” field – Cambo – is actually in the Northeast Atlantic, where weather and sea conditions make the North Sea look as placid as your local boating lake.

Even by North Sea standards, Cambo is a tiddler – although the establishment media has used the investment brochures rather than the scientific studies to report the size of the deposit as between 1.5 and 3 billion barrels.  The “competent person’s report” to the regulator says it is technically possible to recover just 523 million barrels… and as we have seen, there is a big difference between what is technically possible and what is economically viable.

There are, of course, many similar sized small deposits in inaccessible places around the world.  But what is interesting about Cambo is that the big oil corporations keep coming back for more.  Eight years ago, it was Chevron who entered into a partnership with Hurricane Energy with the aim of building the required infrastructure on Shetland, prior to drilling the deposit itself.  That was before economic stagnation and the US shale drillers crashed the oil price.  The various licences were sold on, with Shell and Ithaca Energy emerging as the latest partnership determine to throw investors money to the bottom of the Atlantic.  But with central bankers busily crashing the western economies in the same way as they did in the months leading up to the 2008 crash, causing oil futures to fall once more, both partners have decided to throw in the towel.

The language used by Shell and Ithaca is the usual upbeat messaging of someone desperate to find rich imbeciles, pension fund managers or government bureaucrats stupid enough to invest in the mirage of future oil riches which will almost certainly never materialise.  Because the truth is that – barring some as yet undiscovered new source of energy more powerful than oil itself – the cost of recovering oil from the Northeast Atlantic will always be too high for the economy to bear.

As you made it to the end…

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