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Peak Oil - The Missing Demand Side Discussion

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By elan19
December 23, 2008

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Like most professional investors, I have followed the peak oil arguments with great interest and tried to determine in my own mind what this means from an investing perspective and what the impact will be on society should all these predictions come true. My overall conclusion is that there are so many variables in play (and some big ones hardly discussed), that I really have had no idea for the past 5 years which way prices would go short term, medium term, and even long term. Here are my points to consider:

SUPPLY

The supply side of the equation (Simmons et al) seems hard to refute and while nobody knows the precise timing, I am personally convinced that supply is close to peaking, and will go into decline at some point, likely before 2015 and almost certainly before 2020.

DEMAND

In my opinion, the demand side of the equation has been poorly argued by Peak Oil theorists, and because I have not been convinced by arguments on either side of the demand forecasts, I find it impossible to form much of an opinion about the future direction of oil prices. More detail:

1) It has been obvious to me for years, and is obvious to most people now, that a portion of the past decade or two of economic activity was due to a number of unsustainable asset bubbles, all fueled by excessively cheap credit). GDP for the past decade (or more?) has thus been unsustainably high and by implication the demand for oil as well.

2) I've lost track of how many times I've heard that China alone will cause demand for oil to increase rapidly over the coming decades. Yet a substantial portion of the oil demand due to China has to do with (1) above - supplying consumer goods to U.S. and other countries at an unsustainably high rate. Oil is used both to produce and to transport these goods.

3) Supply shocks can and do cause changes in behavior. If it cost X dollars ($200? $300?) to fill a car with a tank of gas for several years in a row, then radical changes will occur by users of gas/oil, particularly in the U.S. where oil/gas use is so wasteful.

4) I will pick on one thing I think is particularly lacking in the demand arguments: conservation. Skimming through the Hirsch report, the ideas for conservation are few and not particularly creative - the primary emphasis is on more fuel efficient vehicles. Here are some things that might happen if oil is at a really high prices for a few years ($200/barrel? $300/barrel?):

* Videoconferencing will replace face-to-face meetings as standard business practice. The technology for this keeps getting better and the price keeps falling - perhaps even projected holograms will become affordable and reliable within the next decade.

* Telecommuting will become far more prevalent.

* Car sharing services (i.e. ZipCar) will become far more prevalent.

* Cars will change from being a necessity to a luxury (in countries like the U.S. where cars are considered a necessity by most). This can't happen quickly in the U.S. specifically because so many communities have been built in such a way so as to require auto transport - but there are many towns in which one can live without a car and there will be a rapid change in how towns are zoned and built so that corner grocers and restaurants are residential housing are intermingled. Many people will make the choice to move to homes where a car is not required, and the price signals this sends will hasten the move to intermingling small retail establishments with residential housing.

* The economics of self-generated energy will become so compelling that most people will have things like solar panels on rooftops, passive solar water heaters, solar collectors built into clothing to power portable gadgets, etc.

* The economics of shipping things across the world will become so poor that it will be restricted to smaller and/or higher value items - meaning that low cost items which are not necessities will be sourced locally whenever possible.

* Technology companies will rush to develop and provide simulated experiences that allow people to get 90% or more of the enjoyment possible from traveling to an exotic locale.

I could add many more ideas to this list. I'm sure some of these ideas won't ever happen, some will happen only partially, and some will happen in a way that wildly exceeds what I had in mind.

Backing up to my original point, though: I really don't have a clear idea of how high the price of oil needs to be, and for how long, before an avalanche of demand destruction happens from numerous different directions. And that is why I steer away from making any investment bets that require forecasting how declining oil production will play out in terms of oil prices, demand destruction, etc.

If I am missing something obvious about demand destruction, I'd like to hear about it.

P.S. If you want to see how to really cut down on auto/energy use, study some of the better organized communes in the U.S., such as Twin Oaks community. Roughly 1 vehicle per 10 people, and shopping happens with daily town trips with one driver and a requisition system. If one Van is used to shop for every 100 people, that is a LOT LESS gas used.