Sunday, August 31, 2008

Drilling our way to happiness...

One persistent theme by both campaigns is feeding the dream of supplying all the energy we want at "affordable" [read: cheap] prices by drilling more holes in the US. This could find new supplies, but those supplies are certainly not cheap.

Rising marginal production costs for additional barrels of oil put a pretty high long term floor on oil prices.

    Last year analysts estimated it cost around $60 a barrel to produce light oil from here. The most recent estimate from the Canadian Association of Petroleum Producers (CAPP) now puts that number at $75 to $90. Comparatively, Saudi Arabian crude is said to cost around $1 a barrel.

The oil tar sands in Alberta are not the only expensive place to produce oil. The deep water Gulf of Mexico oil has a similar cost.

    Peter Robertson, vice chairman of Chevron, recently told lawmakers that the cost of new production in the deep water Gulf of Mexico could exceed $95 a barrel.

I would expect Tupi and other deep water fields off of Brazil to have similar or even higher costs.

One can find a similar trend across the fossil fuels extraction industries. Chesapeake Energy, a big natural gas outfit, reports more than a doubling in the cost of natural gas extraction from 2Q 2003 to 2Q 2008.

A deep recession could cause prices to fall below marginal costs. But prices will eventually rise up to or above marginal production costs. The age of cheap fossil fuels has ended. We can't enter a new era in cheap energy prices without breakthroughs in solar, nuclear, and biomass energy. [Apologies for excerpting the whole post from Future Pundit, but check out the comments]

I can't see gasoline prices falling back to the $3 region anytime soon - even with a major global economic slump.  Oil supplies would fall due to cost of production, just like the crops we grow.  While this seemingly helps to put a floor under corn prices at least, it doesn't ensure profitablility every year - just enough to get the needed supplies.

I could see corn (and due to shadow prices, soy) prices echoing oil prices as our new paradigm in the Corn Belt.  This is fundamental change in what our industry is about, and how it operates.

More subtly, it will reward producers who can intuit how this new influence will affect future profits more than farmers who have simply mastered the old game.

No comments: