Oil Prices: Past, Present, & Future

Oil Prices: Past, Present, & Future Gulf Research Center November 23, 2005 A. F. Alhajji*, PhD Gulf Energy Program - Moderator Gulf Research Center Dubai, UAE *A. F. Alhajji, PhD is also George Patten Chair of Business and Economics, College of Business Administration, Ohio Northern University, USA

Outline Historical Overview of Oil Prices Recent Development Short Term Factors Long Term Factors Future Prospects

$/b 50 45 40 35 30 25 20 15 10 5 0 Politics and Oil Prices Start of Iraq-Iran War Invasion of Kuwait The Gulf War Oil-for-Food Iraq & UN Invasion of Iraq Iraq Russia Venezuela Saddam becomes president Embargo Iranian Revolution Saudis increase production Major destruction to Iraqi and Iranian oil facilities Iraq-Iran war ends Iraq Nigeria Indonesia The Asian Crisis Oil-for Food Terror Iraq Venezuela September 11 1973 Jan 1974 Jan 1975 Jan 1976 Jan 1977 Jan 1978 Jan 1979 Jan 1980 Jan 1981 Jan 1982 Jan 1983 Jan 1984 Jan 1985 Jan 1986 Jan 1987 Jan 1988 Jan 1989 Jan 1990 Jan 1991 Jan 1992 Jan 1993 Jan 1994 Jan 1995 Jan 1996 Jan 1997 Jan 1998 Jan 1999 Jan 2000 Jan 2001 Jan 2002 Jan 2003 Jan 2004 Jan 2005 Jan 2006 Jan

Two conclusions This is the only time in history when oil prices increased substantially without a major political event Minor political events lead to daily price volatility Political events exist even with low oil prices

The Impact of Iraq in 2001 35 Bush Threatens Iraq Iraq The Terrorists' Attack 33 31 29 27 25 23 21 19 17 15 5/12/2001 2/1 11/1 1/23 2/1 2/12 2/22 3/5 3/14 3/23 4/3 4/12 4/24 5/3 5/14 5/23 4/6/2001 6/13/01 6/22/01 3/7/2001 7/13/01 7/24/01 2/8/2001 8/13/01 8/22/01 8/31/01 9/17/01 9/26/01 5/10/2001 10/16/01 10/25/01 5/11/2001 11/14/01 11/26/01 12/14/01 12/26/01 Arab Light Brent WTI Attack on Iraq Bush Threatens Iraq Bush orders filling the SPR Return of Iraqi Exports Increase in Iraqi Exports Return of Iraqi Exports Iraq Data source: IEA, 2002 Iraq

Politics & Oil Prices in 2003 $/b 40 38 36 34 Bush issues ultimatum to Saddam Some Iraqi Resistance The fall of Baghdad Brent The Official end of war WTI OPEC maintains quotas Pipeline explosions Labor strike in Nigeria Terrorist attack in Jakarta OPEC announces production cut 32 30 28 26 24 22 Start of the invasion Iraq resumes production in the north 20 12/31/02 1/14/03 1/28/03 2/11/03 2/25/03 3/11/03 3/25/03 4/8/03 4/22/03 5/6/03 5/20/03 6/3/03 6/17/03 7/1/03 7/15/03 7/29/03 8/12/03 8/26/03 9/9/03 9/23/03

Daily Spot Oil Prices in 2004 $/b 58 56 54 52 50 48 46 44 42 40 38 36 34 32 30 28 26 1/1 1/16 1/31 2/15 3/1 3/16 3/31 4/15 4/30 5/15 5/30 6/14 6/29 7/14 7/29 8/13 8/28 9/12 9/27 10/12 10/27 11/11 11/26 12/11 12/26 OPEC Brent WTI Source: EIA and OGJ

72 68 64 60 56 52 48 44 40 36 32 28 24 20 16 12 8 7/2/2005 1/2/1998 4/2/1998 7/2/1998 10/2/1998 1/2/1999 4/2/1999 7/2/1999 10/2/1999 1/2/2000 4/2/2000 7/2/2000 10/2/2000 1/2/2001 4/2/2001 7/2/2001 10/2/2001 1/2/2002 4/2/2002 7/2/2002 10/2/2002 1/2/2003 4/2/2003 7/2/2003 10/2/2003 1/2/2004 4/2/2004 7/2/2004 10/2/2004 1/2/2005 4/2/2005 10/2/2005 Daily Spot Oil Prices (1998-Present) $/b Brent WTI The Invasion Source: EIA, 2005

Short-term vs. Long-term Short-term factors are those political, economic, technical, and natural factors that cause short term fluctuations in oil prices around their average. They do not determine the longterm direction of oil prices. They determine the upper and lower limits in the short run. Examples: Pipeline explosions, changes in weekly stocks, hurricanes,..etc Long-term factors are those political, economic, technical, and natural factors that determine the long-term direction of oil prices. They shift the average of prices for an extended period of time. They do NOT determine the upper and lower limits Examples: Major wars sanctions, oil market collapse, new technology..etc

Short-Term Factors Political Factors Iraq Venezuela Nigeria Russia Terrorism

Short-Term Factors Economic Factors Economic Growth OPEC Inventories Speculation Price of Natural Gas Labor Strikes The US Strategic Petroleum Reserve

Increase in Economic Growth Rates % 12 11 10 9 8 7 6 5 4 3 2 1 0 Adv. economies Euro area World China India United States 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 Source: International Monetary Fund, World Economic Outlook Database, April 2005.

Change in World Petroleum Consumption 000 b/d 3000 2500 2000 1500 1000 500 0 1998 1999 2000 2001 2002 2003 2004 Source: IEA, 2005

Why Demand Increased? China Economic Growth Migration of IT Companies to China (transferred demand) Electricity Sector and Private Generation United States Economic Recovery Rise of Price of Natural Gas SUVs SPR

Why Demand Increased? Japan Maintenance of nuclear power plants Europe Economic recovery The increase in the value of the Euro

Oil Prices in Dollar and Euro 60 50 40 30 20 10 0 1/4/1999 4/4/1999 7/4/1999 10/4/1999 1/4/2000 4/4/2000 7/4/2000 10/4/2000 1/4/2001 4/4/2001 7/4/2001 10/4/2001 1/4/2002 4/4/2002 7/4/2002 10/4/2002 1/4/2003 4/4/2003 7/4/2003 10/4/2003 1/4/2004 4/4/2004 7/4/2004 10/4/2004 1/4/2005 $- /b WTI in $ Brent in Euro $ Source: EIA and Federal Reserve Board, 2005.

Oil Prices in Dollar and Yen $ Oil Price Oil Price $/b /b 45 10000 40 $ 35 30 25 20 15 9000 8000 7000 6000 5000 4000 3000 10 5 0 2000 1000 0 Oct-73 Oct-74 Oct-75 Oct-76 Oct-77 Oct-78 Oct-79 Oct-80 Oct-81 Oct-82 Oct-83 Oct-84 Oct-85 Oct-86 Oct-87 Oct-88 Oct-89 Oct-90 Oct-91 Oct-92 Oct-93 Oct-94 Oct-95 Oct-96 Oct-97 Oct-98 Oct-99 Oct-00 Oct-01 Oct-02 Oct-03 Oct-04 Source: EIA and Federal Reserve Board, 2005.

Short-Term Factors Technical factors Refinery outages Adjustment for new environmental laws The UN Shipping and Port Security Code

Short-Term Factors Natural Factors Storms in the US and Europe Hurricanes in the Gulf of Mexico Sandstorms in Iraq High wind in the North Sea

In the Long Run Major Political Events The Iraq-Iran War (1980-1988) The Iraqi Invasion of Kuwait (1990) The Gulf War (1991) The War on Terrorism (2001-present) The US Occupation of Iraq (2003-present) Economic sanctions on oil producing countries (Iraq, Iran, Libya, Myanmar, Sudan, and Syria)

In the Long Run Major Economic Events The price collapse of 1986 The price collapse of 1998 Growth in IT Technology Dollar depreciation (2002-present) Predictions of growth in non-opec production

World Excess Capacity Vs. Oil Prices mb/d 12 11 10 9 8 7 6 5 4 3 2 1 Embargo The Iranian Revolution World Excess Capacity Invasion of Kuwait Nominal Price Economic sanctions Strengthening the sanctions Price ($) 50 45 40 35 30 25 20 15 10 5 0 1970 1972 1974 1976 1978 1980 1982 1984 1986 1988 1990 1992 1994 1996 1998 2000 2002Dec 2004Jan 2004June 2004Aug 2004Oct 2004Dec 2005Feb 2005Apr 2005June 0

Additions to Reserves 000 b 120000 100000 91529.4 ME 80000 60000 40000 20000 ME 55235 LA 62037.3 24455.2 18692.0 ME Middle East Latin America 0 1972-1981 1982-1991 1992-199

The Future??

The Future Macroeconomic variables in the consuming countries Expansion of production capacity in the producing countries

Interest Rates & Oil Prices % Discount Rate Federal Fund Rate Oil Prices $/b 25 45 40 20 35 30 15 25 10 20 15 5 10 5 0 0 1973 October 1974 October 1975 October 1976 October 1977 October 1978 October 1979 October 1980 October 1981 October 1982 October 1983 October 1984 October 1985 October 1986 October 1987 October 1988 October 1989 October 1990 October 1991 October 1992 October 1993 October 1994 October 1995 October 1996 October 1997 October 1998 October 1999 October 2000 October 2001 October 2002 October 2003 October 2004 October Source: EIA and Federal Reserve Board, 2005.

Changes in Government Expenditures Vs. Changes in Oil Prices % Change in Government Consumption % Change in Oil Price % % 0.018 0.016 0.014 0.012 0.01 0.008 0.006 0.004 0.002 0 Average Increase in Governmnt Consumption 0.7 0.6 0.5 0.4 0.3 0.2 0.1 0-0.002-0.1-0.004-0.006-0.008-0.2-0.3-0.01-0.4 1980Q1 1981Q1 1982Q1 1983Q1 1984Q1 1985Q1 1986Q1 1987Q1 1988Q1 1989Q1 1990Q1 1991Q1 1992Q1 1993Q1 1994Q1 1995Q1 1996Q1 1997Q1 1998Q1 1999Q1 2000Q1 2001Q1 2002Q1 2003Q1 2004Q1 Source: IMF, 2005 and EIA 2005

US Per Capita Income vs. Oil Prices Real Oil Prices Real Per Capita income Price ($/b) Linear (Real Per Capita income) Linear (Real Oil Prices) Income ($) 70.00 30,000 60.00 28,000 26,000 50.00 24,000 40.00 30.00 22,000 20,000 18,000 20.00 16,000 10.00 14,000 12,000 0.00 10,000 1973q1 1974q1 1975q1 1976q1 1977q1 1978q1 1979q1 1980q1 1981q1 1982q1 1983q1 1984q1 1985q1 1986q1 1987q1 1988q1 1989q1 1990q1 1991q1 1992q1 1993q1 1994q1 1995q1 1996q1 1997q1 1998q1 1999q1 2000q1 2001q1 2002q1 2003q1 2004q1 Source: EIA and BEA, 2005

Current and Real Oil Prices ($2000) $/b $70 Real $2000) Current $60 $50 $40 $30 $20 $10 $0 71 72 73 74 75 76 77 78 79 80 81 82 83 84 85 86 87 88 89 90 91 92 93 94 95 96 97 98 99 00 01 02 03 04 05 Year Source: EIA, 2005 and the author's calculation

Saudi Real Per Capita Income $ (1999) للفرد SR ريال 50,000 45,000 40,000 35,000 30,000 25,000 1970 1971 1972 1973 1974 1975 1976 1977 1978 1979 1980 1981 1982 1983 1984 1985 1986 1987 1988 1989 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 Source: EIA, 2005

OPEC s Current and Real Oil Revenues $ Billion مليار دولار Current Real 600 500 400 300 200 100 0 1971 1972 1973 1974 1975 1976 1977 1978 1979 1980 1981 1982 1983 1984 1985 1986 1987 1988 1989 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 Source: EIA, 2005

$ per capita OPEC s Real Per Capita Oil Revues ($2004) Current Real 14,000 12,000 10,000 8,000 6,000 Real One-third 1980 4,000 2,000 - Current 1971 1972 1973 1974 1975 1976 1977 1978 1979 1980 1981 1982 1983 1984 1985 1986 1987 1988 1989 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 Source: EIA, 2005

$ per Capita Saudi Real Per Capita Revenues Current Real (2004) $25,000 $20,000 $15,000 Real $10,000 One-fifth 1980 $5,000 Current $- 1971 1972 1973 1974 1975 1976 1977 1978 1979 1980 1981 1982 1983 1984 1985 1986 1987 1988 1989 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 Source: EIA, 2005

25 20 15 10 5 0-5 -10-15 Saudi Real Economic Growth (1970-2006) 1970 1972 1974 1976 1978 1980 1982 1984 1986 1988 1990 1992 1994 1996 1998 2000 2002 2004 2006 % %11 %5

Saudi Crude Oil Production (mbd) 11 10 9 8 7 6 5 4 3 2 1 0 يناير 1973 يناير 1974 يناير 1975 يناير 1976 يناير 1977 يناير 1978 يناير 1979 يناير 1980 يناير 1981 يناير 1982 يناير 1983 يناير 1984 يناير 1985 يناير 1986 يناير 1987 يناير 1988 يناير 1989 يناير 1990 يناير 1991 يناير 1992 يناير 1993 يناير 1994 يناير 1995 يناير 1996 يناير 1997 يناير 1998 يناير 1999 يناير 2000 يناير 2001 يناير 2002 يناير 2003 يناير 2004 يناير 2005 Similar Pattern? Source: EIA, 2005

Future Prospects Short-term Fundamentally Tight Market No marketable excess capacity Demand still growing, though at a slower rate. Hurricane season Demand will grow if China revalue its currency. Concerns regarding the adequacy of heating oil in the US during the 4 th quarter. Stock build is not enough to avoid price spikes: 2 days of demand cover for crude (stocks and capacity) 1 day for products Not evenly distributed Crude, mostly heavy

Future Prospects Medium-term Fundamentally Tight Market with Possibility of Downturn. Planned capacity expansion is not enough Slow growth in Russian production with possibility of decline Continued decline in US crude oil production Continued decline in North Sea production Continued maintenance and the planned shut down of nuclear reactors in Asia (Japan) would increase demand for oil More nuclear reactors in China will increase its demand for oil The role of new technology and renewables will be very limited

Wars, Oil Crisis, and Economic Growth Real GDP per person (1996 dollars) Great Depression 33,000 28,000 23,000 18,000 13,000 8,000 World War II Real GDP per Person in the US Economy Korean War Vietnam War First Oil Price Shock Second Oil Price Shock 3,000 1929 1932 1935 1938 1941 1944 1947 1950 1953 1956 1959 1962 1965 1968 1971 1974 1977 1980 1983 1986 1989 1992 1995 1998 Gulf War Year

So Can the past explain the future?