The New Conventional Wisdom of Oil

When Foreign Policy ran an essay in September declaring that “the Americas, not the Middle East, will be the world capital of energy”, it was a novel, if questionable, thesis. Two months later it’s basically conventional wisdom. Articles in the New York Times, Washington Post, and Financial Times have advanced similar arguments.

The newest installment ran in the Wall Street Journal yesterday under the headline “Big Oil Heads Back Home”. The article puts a new twist on the already old argument by focusing mainly on what the boom in oil production in the Americas means for oil companies. In doing so, it’s on more solid ground than others have been. The shift over the past decade or so in opportunities for international oil companies has indeed been enormous, with investment increasingly directed toward stable, mature economies rather than to ones that present massive political risk. For the oil business, the recent changes have been fundamental.

Not so much, as I argued a couple months ago, for the international energy system more generally. The center of gravity of that world remains in the Middle East for some pretty fundamental reasons (discretionary investment, spare capacity, low cost supply, a volatile security situation) that are unlikely to change soon. Why, then, the persistent claims of a massive shift?

I think the Journal article inadvertently hits on a big part of the answer: people are confusing the fortunes of the oil industry with those of the international system. Our most knowledgeable oil analysts are often in or close to industry. They can become prone to occasionally conflating the fortunes of industry with those of the system more broadly. I don’t mean to suggest any taint; I’m just suggesting that when you spend a lot of your time thinking through what developments mean for industry, you’re likely to give special weight to those dynamics in your broader analyses.

To be fair to the author of the Journal article, he attempts to substantiate his assertion that the shift “could have far-reaching consequences for the politics of oil”, arguing that “with more crude being produced in North America, there’s less likelihood of Middle Eastern politics causing supply shocks that drive up gasoline prices”. That’s true, but the change is relatively small, and certainly not earth shattering. Another, say, five million barrels a day of North American production, if it displaced a similar amount from the Middle East, would cut Middle Eastern production by about a quarter, and hence reduce the threat of disruption from the region by a similar amount. In practice, larger North American volumes would have a lower impact on Middle Eastern supplies: come OPEC cuts would come from elsewhere in the world; increased North American production would also deter some high-cost production elsewhere; and, if increased production lowered prices, it would lead to increased consumption, making everyone more vulnerable to whatever supply shocks occurred.

Bottom line? Rising oil production in advanced economies is undoubtedly changing the map for international oil companies. It’s wrong, though, to claim a similarly decisive change for the world of oil more generally.