Anyone living in a bubble should beware of spikes.
Between 2001 and 2008, world debt (at current market values) increased from $60tn to $117tn.
There’s a bubble.
In 2001, the price of oil averaged $24/bbl. In the summer of 2008, it peaked at $147/bbl.
There’s a spike.
Though the connection isn’t drawn perhaps as often as it should be, there can be little doubt that the massive spike in oil prices punctured the equally massive debt bubble, leading directly to the global financial crisis (GFC).
The connection seems inescapable. Dramatically higher oil prices, in themselves, drained enormous amounts of liquidity out of the same oil-importing Western economies which were merrily bingeing on debt. Just as importantly, the surge in oil prices also drove up the cost of energy-intensive commodities, including minerals and food.
Could the same thing happen again, triggering a second (and probably much worse) global financial crash?
The bubble is certainly there – and is even bigger than the last one.
Since 2008, world debt (at current values) has expanded from $117tn to $160tn. But these headline numbers are converted to dollars at market exchange rates. Converted using the more realistic PPP (purchasing power parity) convention, debt has already reached 235% of world GDP, or $260tn. The equivalent figure in 2008 was $153tn.
On top of that, there are truly gargantuan shortfalls in pension provision, shortfalls which are “set to dwarf world GDP”.
In the period before 2008, the authorities had confined themselves to deregulatory recklessness, which facilitated a big increase in aggregate debt, and an equally big proliferation in risk.
Since then, monetary recklessness has been stirred into the mix, turbocharging debt escalation as well as bending returns on capital completely out of shape. That, ultimately, is why it has become impossible to provide adequately for retirement.
So there is certainly a bubble. Should we expect a spike?
Thus far in the bubble, a saving grace has been cheap oil. The price of oil averaged $44/bbl last year, down from $109/bbl as recently as 2013.
Demand for oil has continued to grow. Between 2007 and 2009, world oil demand decreased by 1.8 mmb/d (million barrels per day). But demand in 2016 (93.2 mmb/d) was 10.4 mmb/d, or 13%, higher than it was back in 2009 (82.8 mmb/d).
By and large, supply has kept pace. Since 2009, supplies from non-OPEC countries have increased by 5.7 mmb/d. OPEC countries have chipped in an additional 1.8 mmb/d of unconventional liquids, not subject to the cartel’s quota. The world’s need for quota crude from OPEC has therefore grown only modestly, from 29.3 mmb/d in 2009 to 32.3 mmb/d last year.
But this could now change. Much of the increase in non-OPEC supply has come from shale oil production in the United States. There are now some pretty persuasive reasons for thinking that US shale output might be at or near a peak, from which it could fall away quite quickly.
Readers will be familiar with some of the weaknesses of the shale story. Where output from conventional oil wells typically declines at between 5% and 10% annually, depletion rates for shale are dramatically more severe, with rates of 60%, and above, by no means uncommon.
This puts operators on a “drilling treadmill”, having to keep drilling new wells to offset declines from old ones. This has been fine so long as investors, convinced of the eventual profitability of “Saudi America”, keep stumping up capital. The day has to come, however – and probably sooner rather than later – when investors cease to oblige.
Where the petroleum industry is concerned, the picture is becoming clearer. The world’s appetite for oil is continuing to grow at around 1.4 mmb/d (1.5%) each year. Supplies of conventional crude have already peaked, and shale supply seems fairly close to doing the same.
Logically, this points to another spike in prices. One reservation has to be the ability of the world’s consumers to pay higher prices. But these consumers will probably do what they did at the same point in the previous cycle – which is to grumble, pay up, and add the cost to their already enormous debts.
We certainly have the bubble. We may, pretty confidently, anticipate the spike.
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