After a few weeks during which oil and gasoline prices fell from record highs, they are both surging once again. According to Bloomberg:
Crude oil traded near an eight-week high in London after Iran rejected U.S. and European demands to suspend nuclear research and U.S. gasoline prices rose on holiday demand.
In London today, Brent crude is trading near $74 per barrel. The New York Mercantile Exchange (NYMEX) is closed for Independence Day, with light/sweet, West Texas Intermediate (WTI) crude also hovering around $74 per barrel. And the average pump price for regular gasoline in the United States hit $2.93 per gallon last week, just as "34.3 million Americans were expected to travel by car during this four-day holiday weekend."
According to Bloomberg, oil prices are likely to surge on the NYMEX after the long holiday weekend:
``Oil in New York seems ready to hit a new all-time high after the Independence Day holiday weekend in the U.S.,'' said Ken Hasegawa, a manager of international division at oil broker Himawari CX Inc. in Tokyo.
Why is this happening? Several factors:
1) Despite high oil prices, world oil demand continues to grow strongly. This growth includes China, of course, but also the Middle East, cutting into those countries' oil exports. Overall, strong world oil demand growth - including in the United States, where high prices so far haven't significantly dented consumption of gasoline, diesel, etc. - the past few years is believed by almost all oil analysts to have been the #1 or #2 factor causing oil prices to triple.
2) Along with world oil demand, the other factor cited most frequently by oil market analysts has been extremely tight spare world oil production capacity, close to zero for all intents and purposes. As if that's not bad enough, whatever minimal spare oil production capacity DOES exist is in Saudi Arabia, but that oil is heavy and "sour" (high sulfur), not the type of oil needed or wanted in order to satisfy increasing demand for light, sweet fuels (e.g., gasoline, diesel). Most importantly, the nearly nonexistent spare production capacity (also known as a "vertical supply curve") leaves almost no room for error or slack in the system as demand bumps up against it. In other words, Murphy's Law is alive and well right now, with something almost bound to go wrong.
3) Speaking of things going wrong, the standoff with Iran over that country's nuclear program looks to be nearing a critical stage. According to AP: "Western powers will reactivate efforts to punish Iran through possible U.N. Security Council sanctions unless it suspends uranium enrichment and agrees to talks on its nuclear program by July 12, diplomats said Monday." With the threat of hostilities in Iran increasing, the U.S. Navy is saying that it will keep open the vital Strait of Hormuz, through which flows around 17 million barrels per day of oil. Last month, Iran Supreme Leader Khamenei said that oil exports through the Strait could be in jeopardy if the West made a "wrong move" against Iran. A cutoff of oil exports through the Strait of Hormuz, if it lasted for a few months, could cause oil prices to hit $150 or even $200 per barrel. In addition, the potential for attacks against Persian Gulf oil facilities is frightening, and could cause oil prices to spike even without a Strait of Hormuz closure."
4) Oil production in Iraq is running below pre-war levels by about half a million barrels per day. Production in Venezuela continues several hundred thousand barrels per day below levels reached in late 2002, prior to nationwide strikes and unrest that badly hurt that country's national oil company, PdVSA. The combination of those two countries' production problems might be contributing $5-$10 per barrel to $70+ oil prices. That's relatively minor in the grand scheme of things, but a factor nonetheless.
Overall, it is unlikely that any of these situations will change dramatically in the near future, except possibly for the worse. World oil demand is going to keep surging in China and elsewhere, barring economic catastrophe. Nonexistent world spare oil production capacity and the "vertical supply curve" are unlikely to correct themselves over the next few years. The Iran standoff is likely to worsen in coming months, barring a miracle. The only question is how bad. And the oil production situations in Iraq and Venezuela are not likely to improve either.
Where does that leave us? Most likely, we're talking about higher oil prices, maybe MUCH higher, ahead. Fasten your seatbelts!
[UPDATE: The U.S. Navy's top commander in the Persian Gulf says that al-Qaeda is a major threat to sea traffic. Uh oh.]
What nobody want to hear, of course: conservation and energy efficiency. From an economic theory point of view, what's the best way to encourage conservation and efficiency? That's right, raise the price of the thing - oil, in this case - that you want to consume less of. Econ 101. You think $6 per gallon gasoline would start eating into US consumption? It certainly does in Europe, Canada, and Japan. Is this a political "non-starter?" Maybe, although I don't see why it has to be if increased gasoline prices are combined with massive tax credits for fuel-efficient vehicles/homes/etc., heavy subisidies for high-quality mass transit, a major push for "smart growth," etc. Do we want to prevent the polar ice capas from melting and save the polar bears from extinction, while cutting off revenues to countries and terrorist groups that hate our guts? Well then, let's get with the program and slash our oil consumption. If we don't care, then let's stop bitching about it, because it will be our own damn fault.