May 7, 2004

The Oil Crunch

Before the start of the Iraq war his media empire did so much to
promote, Rupert Murdoch explained the payoff: "The greatest thing to
come out of this for the world economy, if you could put it that way,
would be $20 a barrel for oil." Crude oil prices in New York rose to
almost $40 a barrel yesterday, a 13-year high.

Those who expected big economic benefits from the war were, of
course, utterly wrong about how things would go in Iraq. But the
disastrous occupation is only part of the reason that oil is getting
more expensive; the other, which will last even if we somehow find a
way out of the quagmire, is the intensifying competition for a
limited world oil supply.

Thanks to the mess in Iraq - including a continuing campaign of
sabotage against oil pipelines - oil exports have yet to recover to
their prewar level, let alone supply the millions of extra barrels
each day the optimists imagined. And the fallout from the war has
spooked the markets, which now fear terrorist attacks on oil
installations in Saudi Arabia, and are starting to worry about
radicalization throughout the Middle East. (It has been interesting
to watch people who lauded George Bush's leadership in the war on
terror come to the belated realization that Mr. Bush has given Osama
bin Laden exactly what he wanted.)

Even if things had gone well, however, Iraq couldn't have given us
cheap oil for more than a couple of years at most, because the United
States and other advanced countries are now competing for oil with
the surging economies of Asia.

Oil is a resource in finite supply; no major oil fields have been
found since 1976, and experts suspect that there are no more to find.
Some analysts argue that world production is already at or near its
peak, although most say that technological progress, which allows the
further exploitation of known sources like the Canadian tar sands,
will allow output to rise for another decade or two. But the date of
the physical peak in production isn't the really crucial question.

The question, instead, is when the trend in oil prices will turn
decisively upward. That upward turn is inevitable as a growing world
economy confronts a resource in limited supply. But when will it
happen? Maybe it already has.

I know, of course, that such predictions have been made before,
during the energy crisis of the 1970's. But the end of that crisis
has been widely misunderstood: prices went down not because the world
found new sources of oil, but because it found ways to make do with

During the 1980's, oil consumption dropped around the world as the
delayed effects of the energy crisis led to the use of more
fuel-efficient cars, better insulation in homes and so on. Although
economic growth led to a gradual recovery, as late as 1993 world oil
consumption was only slightly higher than it had been in 1979. In the
United States, oil consumption didn't regain its 1979 level until

Since then, however, world demand has grown rapidly: the daily world
consumption of oil is 12 million barrels higher than it was a decade
ago, roughly equal to the combined production of Saudi Arabia and
Iran. It turns out that America's love affair with gas guzzlers,
shortsighted as it is, is not the main culprit: the big increases in
demand have come from booming developing countries. China, in
particular, still consumes only 8 percent of the world's oil - but it
accounted for 37 percent of the growth in world oil consumption over
the last four years.

The collision between rapidly growing world demand and a limited
world supply is the reason why the oil market is so vulnerable to
jitters. Maybe we'll get through this bad patch, and oil will fall
back toward $30 a barrel. But if that happens, it will be only a
temporary respite.

In a way it's ironic. Lately we've been hearing a lot about
competition from Chinese manufacturing and Indian call centers. But a
different kind of competition - the scramble for oil and other
resources - poses a much bigger threat to our prosperity.

So what should we be doing? Here's a hint: We can neither drill nor
conquer our way out of the problem. Whatever we do, oil prices are
going up. What we have to do is adapt.