THE WORLD OIL MARKET

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THE WORLD OIL MARKET

• Where does our oil come from?
• How much of it do we use?
• How much of it do we produce?
• Who controls the world oil market?
• How are prices set?

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To paraphrase Will Rogers

• Buy land (oil)they aint
• making any more of it.

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OIL RESERVES AND PRODUCTION( redOPEC blue
non-OPEC)
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TEN MAJOR OIL EXPORTERS 1991 and 2000(1,000
BARRELS PER DAY)
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OIL IMPORTS TO U.S.
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OPEC AND NON-OPEC

• The members of the Organization of Petroleum
  Exporting Countries (OPEC) are Algeria,
  Indonesia, Iran, Iraq, Kuwait, Libya, Nigeria,
  Qatar, Saudi Arabia, United Arab Emirates, and
  Venezuela.
• In addition, seven countries produce more than 2
  million barrels per day yet are not part of OPEC.
  These are the U.S. (the world's largest total
  oil producer for 2001), Russia, Mexico, China,
  Canada, Norway, and the United Kingdom (Britain).

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U.S. OIL IMPORTS AND EXPORTS
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SELF SUFFICIENCY?DOMESTIC USE AND PRODUCTION OF
OIL
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U.S. OIL USE AND IMPORTS
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SOURCES OF US PETROLEUM IMPORTS
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And how much will drilling in the Arctic National
Wildlife Refuge Help us with our importing of oil?

• Lets take a look

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SHARE OF TOTAL U.S. ENERGY USE, BY SECTOR (1999)
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Average Gas Prices 2000(U.S. Dollars per Gallon)
Japanthe worlds second largest per capita
importer of oil.
U.S.the worlds largest per capita importer of
oil
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U.S. ENERGY CONSUMPTION OVER TIME
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TIME SERIES OF CRUDE OIL AND GASOLINE COSTS
CRUDE OIL COSTS
GASOLINE COSTS
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WHAT ABOUT STATE LOCAL GASOLINE TAXES 2001?
2003 in WISCONSIN 28.5 cents 3 cents
environmental tax 31.5 cents.
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WHAT ABOUT FEDERAL GASOLINE TAXES?
NOW 18.4 CENTS
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GAS MILEAGE
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What is in A Barrel of Crude Oil?

• Products Gallons per barrel
• Gasoline 19.5
• Distillate fuel oil(Includes both home heating
  oil and diesel fuel) 9.2
• Kerosene-type jet fuel 4.1
• Residual fuel oil(Heavy oils used as fuels in
  industry, marine
• transportation and for electric power
  generation) 2.3
• Liquefied refinery gasses 1.9
• Still gas 1.9
• Coke 1.8
• Asphalt and road oil 1.3
• Petrochemical feedstock's (primarily for
  plastics) 1.2
• Lubricants 0.5
• Kerosene 0.2
• Other 0.3
• Figures are based on 1995 average yields for
  U.S. refineries. One barrel contains 42 gallons
  of crude oil. The total volume of products made
  is 2.2 gallons greater than the original 42
  gallons of crude oil. This represents "processing
  gain."

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The Crude Economics of Crude Oil

• Notice that a barrel of oil costing 30 will
  yield approximately 20 gallons of gasoline and 22
  gallons of other products.
• A rough calculation would suggest that this
  implies a cost of 15 for 21 gallons of crude oil
  that will yield 20 gallons of gasoline
• That is approximately 0.71 per gallon. Of
  course there are processing costs required to
  bring forth that 20 gallons of gasoline, and then
  transportation costs to get it to your corner gas
  station (or PDQ store..)
• At the moment (March 27, 2003), crude oil prices
  are hovering around 28 per barrel.

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FUEL ECONOMY
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TRENDS IN END USES OF PETROLEUM
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TEN HIGHEST NATIONS IN PER CAPITA CONSUMPTION OF
OIL (BARRELS PER YEAR)
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THE TEN LARGEST OIL IMPORTERS 1991 and 2000
(1,000 BARRELS PER DAY)
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World Oil Price Chronology 1970-2000
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Legend to Figure of World Oil Prices 1970 - 2000

• 4 Arab oil embargo begins (October 19-20, 1973)
• 6 Arab oil embargo ends (March 18, 1974)
• 17 Iran takes hostages President Carter halts
  imports from Iran Iran cancels US contracts
  Non-OPEC output hits 17.0 million b/d
• 23 First major fighting in Iran-Iraq War
• 40 Exxon's Valdez tanker spills 11 million
  gallons of crude oil
• 42 Iraq invades Kuwait Oil embargo ends (March
  18, 1974)
• 43 Operation Desert Storm begins 17.3 million
  barrels of SPR crude oil sales is awarded
• 44 Persian Gulf war ends
• 51 Extremely cold weather in the US and Europe
• 59 Oil prices triple between January 1999 and
  September 2000 due to strong world oil demand,
  OPEC oil production cutbacks, and other factors,
  including weather and low oil stock levels.
• 60 President Clinton authorizes the release of
  30 million barrels of oil from the Strategic
  Petroleum Reserve (SPR) over 30 days to bolster
  oil supplies, particularly heating oil in the
  Northeast.

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A CLEANER VERSION
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The Economics of World Oil Markets

• Recall from our discussion of world timber that
  the world market is assumed to have several
  (many) suppliers and several (many) buyers.
• This condition gives us the sort of diagram shown
  below

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THE INTERNATIONAL TIMBER MARKET
PW
XS
MD
QW QUANTITY
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This figure depicts a somewhat competitive
situation in which more timber can be sold on the
world market only if suppliers are willing to
lower their price.

• And of course this would require some change
  since they are now unwilling to sell more timber
  unless the price is higher than at present
  (notice this from the existing supply curve XS).

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Returning to world oil markets, the existence of
OPEC means that eleven of the worlds major oil
producers are united in efforts to control
production in the interest of controlling price.

• Recall that the members of OPEC are Algeria,
  Indonesia, Iran, Iraq, Kuwait, Libya, Nigeria,
  Qatar, Saudi Arabia, United Arab Emirates, and
  Venezuela.

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How Does OPEC control world oil prices?

• It controls price by controlling the production
  and sale of oil by its members.
• That is, the OPEC Ministers meet regularly to
  coordinate exactly how much oil in total, and
  also how much from each of the eleven countries,
  will be offered for sale over the coming 3-4
  months.

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We have here the world demand for oil at various
priceslower prices leading to greater total oil
sales, and higher prices having the opposite
effect. Now consider the OPEC suppliers. They
wish to shift the supply curve UP thereby
restricting supply and thus raising prices from
PW to POPEC.
SOPEC
POPEC PW
XS
DW
QOPEC QW
Quantity of Oil
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Notice that the action to restrict production and
thus crude oil coming onto world markets does
indeed give them a higher price. They are able
to maintain this happy situation only by imposing
strict compliance on the part of their 11 members.
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Holding Together A Cartel

• The most difficult challenge is to keep the
  solidarity of a cartel.
• This is hard because each member has a strong
  incentive to defect and offer more of its oil
  for sale at the prevailing higher price. Most
  members could not add to sales enough to drive
  down price and so they could possibly gain some
  significant short-run advantage by, perhaps,
  increasing their own sales by 20 to reap this
  higher price.

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Two key factors render OPEC a successful cartel

• 1. Oil is not a perishable commodity (such as
  fish that have been caught, or grain that has
  been harvested) and oil can be easily controlled
  by holding it in storage tanks or releasing it
  for sale as needed.
• 2. Saudi Arabia is the trump player. That is,
  Saudi Arabia has so much oil that it can punish a
  defector who decides to exceed agreed-upon sales
  limits by immediately dumping (or indeed by
  threatening to dump) enough oil on the market to
  sink the price and defeat the hoped-for profit of
  the rogue country (one who threatens to defect
  from the agreement over production targets).

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OIL RESERVES AND PRODUCTION( redOPEC blue
non-OPEC)
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So OPEC has survived for a very long time by
exercising tight control over its members and, in
essence, forcing them to remain loyal to the club.
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One sure way to wean ourselves from the gasoline
habit is to raise the price of that habit.

• At 1.60 per gallon, we pay 1.416 per gallon
  NOT including the federal gas tax of 0.184 per
  gallon.
• Let us see what would happen if gas prices were
  to rise by 10 each year over the next decade.
• This increase would come in the form of an
  increased federal tax (moving from 0.184 to
  2.734 per gallon).
• The revenue from this tax would be devoted
  exclusively to increased mass transit options.
• Research suggests that the price elasticity of
  demand for gasoline is approximately -0.025.
  This means that a 10 increase in the price of
  gasoline will induce a drop in gasoline sales of
  2.5.

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If this gradual increase in the price of gasoline
were implemented each year over the next ten
years, it would only then bring U.S. gasoline
prices in line with current prices in the U.K.
(5.13), Norway (4.88), Netherlands (4.26),
Sweden (4.22) and Finland (4.17).Consider the
following picture
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1.84
1.81
1.79
1.76
1.74
1.72
1.69
1.67
1.65
1.62
1.76
1.94
2.13
2.34
2.58
2.83
3.12
3.43
3.77
4.15
By 2013 we would use 51.3 billion gallons LESS
per year than we would otherwise use. This
amount is 40 of our CURRENT use. This reduction
is close to our current dependence on imported
oil.
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New federal tax revenue
Federal tax revenue with no increase is gasoline
tax
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In 2000, federal transportation grants to state
and local governments totaled 32.5 billion.
This was allocate as Highways 26.1
billion Air 1.9 billion Busses 4.5
billion Rail 0.061 billion