The oil market's adjustment
The U.S. oil industry will learn much about its future in the coming few months. In particular, it will learn the extent of its country's commitment to market freedom.
The tightest market in years has some politicians in heavy sweat. Yapped at by several of the Northeast's neostatist lawmakers, Energy Sec. Hazel O'Leary called a meeting of oil company executives to discuss heating oil supplies and prices (see related story, p. 30).
What's there to discuss? Demand for oil is increasing faster than supply. More to the point, what is there for a cabinet officer and group of oil executives to do about the situation?
Answer: Sit tight, and let the market have its way. O'Leary followed and gave that counsel when gasoline prices jumped last spring. She should do likewise with heating oil now.
No mystery
There is no mystery about current events in the oil market. Things are tight. Very tight.
Keith Hamm, chairman of Petroleum Economics Ltd. (PEL) of London, calls it a "structural change." Last week in Houston he said worldwide oil demand has been consistently underestimated and is now much higher than anyone predicted. By this year's third quarter, there was no excess supply with which to rebuild inventories. And inventories in the U.S., Europe, and Japan have been very low. Although data inconsistencies confound historic comparisons, PEL estimates that total stocks in those principal markets last March were at their lowest level since 1979.
As a consequence, inventories head into the winter at a "massive deficit." Worldwide demand for oil, meanwhile, is about 2 million b/d greater than last year. Fourth quarter demand will require a further stock draw. For physical reasons, Hamm said, "I think there's a question mark whether we can do that."
The PEL chairman noted that low stocks of gas oil in Europe will keep trans-Atlantic trade from making up a distillate deficit in the U.S. In contrast to one popular view, he said low stocks are not the result of refiners' operating preferences but rather the simple result of supply lagging demand.
Beyond this winter, Hamm sees very low stocks again at the end of 1997's first quarter, then market balance and renewed scrutiny of gasoline prices. For the longer term, the question is refining capacity. Most spare refining capacity is now in eastern Europe and Africa, he noted. With demand growing faster than refining capacity, by 2000 "all the world's refiners will have to be running at 93% utilization."
The problem, Hamm said, is the next 6 months. To repeat, the market is tight.
The problem needs to be kept in perspective. It relates mostly to uncertainty. Skittish politicians in the U.S. can draw comfort from the certainty that supply will meet demand if the market is allowed to work.
What is uncertain is the volumetric level at which supply will meet demand-and at what price. As Hamm noted, a further but essential inventory draw in the fourth quarter will test operational minimums. Then what? Rising prices will bring forth new supply from sources that cannot now be identified with assurance. They also will suppress demand.
A shortage cycle
None of this is reason to panic. It is how things do and should go when supply becomes the market's limiting dimension. All markets progress through such cycles. No trend of supply, demand, or price lasts forever.
The phenomenon is economic, not political. There's no harm in O'Leary's meeting with oil executives, although she will learn nothing from them that she has not already seen in data from her department's own Energy Information Administration. For the government, there is only one proper response to this inevitable market swing, and it is what the oil executives should advise O'Leary: Let it happen. Let it happen. Let it happen.
Copyright 1996 Oil & Gas Journal. All Rights Reserved.