Soaring oil price flags China’s path

The reigning and the emerging superpower are marching to their own beats, both of them in the process of long impact government elections and transitions. How the two countries handle themselves will affect the lives of millions, many beyond their borders. But there is one thing that unambiguously ties China and the US together: oil prices and oil supply. Both nations are heavy importers of oil. The US imports about 65% of its oil and oil products consumption; China imports 56% and has no other way but to increase this fraction over the next few years.

Last month, for the second time this year, the Chinese government raised the price for gasoline to ¥9980 and diesel price to ¥9130 per tonne ($4.59/gal and $4.20/gal, respectively). In the US at least six states experience a record $4/gallon for regular gasoline, which translates to ¥8700/t, and in many places diesel retails at an equivalent of over ¥9500/t ($4.50/gal). In the market-driven US these are unprecedented prices, especially over the winter and before the summer driving season. Some pundits are speculating $5 per gallon gasoline by the end of the summer (¥10,400/t). Increasing oil prices may undo the fragile US economic recovery and will certainly slow down China’s economic growth.

What is going on?

The everlasting component of supply and demand is certainly a contributor. Some countries, including the US and China – a state that seems immune to other nations’ wows – have maintained oil demand at an increasing level. The last three year trends were by no means what classic recession response would have indicated.

And then there is geopolitics, the dominant effect on oil prices since 2004; the reason for $150 oil in 2008 and the reason it now inexorably rises towards a repeat, unless something very dramatic happens to defuse the situation. In 2004 there was a perfect storm of events: the fear factor in the Middle East, the taking over of the Russian oil industry by Vladimir Putin and the re-nationalization of the Venezuelan industry by Hugo Chávez. Today there is a singular influence fueling the speculators: Iran.

The crisis with Iran is moving towards a crescendo and it is a situation that affects not only the oil price but also the relations between the US-led West and China, which has found support from Russia, a rarity since the Cold War. Israel definitely acts as though it will fulfill its public stance: Iran will not be allowed to gain nuclear weapons capability.

China has taken a position on Iran that maybe ideologically consistent but the Iranian crisis and its lack of resolution has the largest impact on the current run up in the oil prices. Iran’s neighbors in the Middle East act like they believe confrontation is inevitable and are reacting, fast-revealing where their true loyalties lie – and it isn’t with Tehran – and secondly, Iran’s oil power is already declining. The latter is far more important.

Speaking at the biennial International Energy Forum conference in Kuwait mid-March, Saudi oil minister Ali Al Naimi offered this commitment over Iranian oil exports: ‘Saudi Arabia and others remain poised to make good the shortfall, perceived or real, in crude oil supply.’ It is clear that Shia Iran does not actually have any real Sunni Arab friends.

Opec is not likely to be cajoled into another 1973-style oil embargo should Iran be attacked. Opec members understand well enough that such an action would be more than likely to trigger a political re-appraisal over energy in the West; one that would see Western public opinion swing behind fast-tracking domestic shale gas and oil developments that would be in anything but the best interests of Opec members. And the threat to Opec isn’t just coming from shale gas and oil.

According to the World Energy Council, global proven reserves of natural gas liquids and crude oil stood at 1.2 trillion barrels in 2010, around four decades at current usage. New technology, new discoveries and high oil prices are reviving previously abandoned prospects. With oil shale pitching in a further 4.8 trillion barrels of oil-in-place – around a century and half of oil at current usage – and oil sands around 6 trillion barrels more of oil-in-place, ‘peak oil’ is a distant slogan. Unfortunately for China, other than shale gas, almost all of this bonanza will be in other countries.

For China, politics aside, the path is obvious. Because the vast majority of oil goes to transportation in the form of gasoline, diesel and jet fuel, alternative fuels are in order. But this must be done intelligently, avoiding the poor decisions of the US and others on alternatives, such as corn-based ethanol which has a negative energy balance and affects food prices in a highly undesirable way.

China is blessed by what the US is cursed: a still to be developed infrastructure compared to the trillions of dollars of existing infrastructure. There are 600 private vehicles per 1000 people in the US. Adding commercial vehicles there is more than one vehicle per person. China has less than 50 cars per 1000 people. This is the country where compressed natural gas (CNG), and methanol and ethanol cars, the last two from coal- or natural-gas-to-liquids processes, need a massive and full throttle development. Oil problems are not going to go away anytime soon and their geopolitics are intractable. OE

Michael J Economides is a professor at the Cullen College of Engineering, University of Houston, and editor-in-chief of the Energy Tribune. The views expressed in this column do not necessarily reflect OE’s position.

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