Oil and Iraq

Oil and Iraq

“The Truth About Oil” is the title of a long and fairly useful article that was published in the April 2 (2012) issue of Time. I think that I can – and in reality often have – done a lot better, but the author of that article (Brian Walsh) has performed almost as well as I could if I encountered a fanatic crew of Time subscribers and/or devotees at a conference, or perhaps even in a seminar room.

I was recently asked to give lectures on nuclear energy and oil, and participate in a general debate about energy, at the Singapore Energy Week. My lecture on nuclear was highly commended by many members of the audience, although where the debate was concerned, the environmentalist Jeremy Leggett informed a friend of his – Professor Kjell Aleklett (of Uppsala University) – that my posture was insulting, and I couched my arguments in “the disgusting language of conflict and belittlement”.

Guilty as charged, because conflict and belittlement are sometimes essential when dealing with academics who interfere in things they choose not to understand. Aleklett is a professor of physics who has hit the oil trail because that is where the money is, but unlike my good self he has only marginally contributed to the international energy literature, and even is a total stranger to the Swedish academic energy scene. Of course, despite his affectations, I have never called him a charlatan, because I save that word for persons who suggest that I am without the academic status I occasionally claim.

The question now is what does the above have to do with the present topic, and the answer is everything. Neither my audience in Singapore, nor my friends and colleagues in the United States, have got the Iraqi oil intentions correct. For the most part these friends and colleagues and others are being manipulated into believing that the fundamental hypothesis of neo-classical economic theory – which is that rational human beings prefer more to less – does not apply to the Iraqi oil managers, and they will provide enough oil to international markets to make the dreams of motorists in Europe and North America come true.

This is not going to happen, because the bottom line on the oil scene happens to be the maximization of individual country incomes that has been achieved by the formation and success of OPEC – a cartel whose standard operating procedure has become routine, and amounts to the following: when the oil price dips below what might be called in game theory a focal price, then a meeting takes place for the purpose of determining how much production is to be reduced. Note – how much, not if! The most important aspect of Walsh’s article is his understanding of the importance of oil – and oil-like liquids – although he suffers from the usual journalistic fault of believing that a knack with language is a passable substitute for academic excellence. He mistakenly believes that “billions” of dollars in investment and “human ingenuity” will not only extend the age of oil, but allow for it to mellow, and eventually to end on the “terms” of oil importing countries like the United States.

If you go to a reference such as GOOGLE, or the usual commercial literature, you will read or hear (or possibly be called a fool if you do not believe) that in the next five years Iraq will increase production by a large amount, and in the next ten or fifteen years by a very large amount. Please note that I do not bother to present any numbers, because as a student and teacher of game theory and energy economics, I know that numbers are without any significance when they are not supported by economic logic.

As John von Neumann and Oscar Morgenstern make clear in their famous book (1944), firms that can form a cartel without being interfered with by the anti-cartel authorities, would be foolish if they did not do so. I also want to point out that OPEC receives crucial though perhaps not intentional support from the ‘oil majors’. In case you do not know, these large firms are in the profit maximization business you read about in your favourite Economics 101 textbook, and because their strategy does not have a social component – other than the salaries of their executives – find it economically correct to vary output in tune with the actions of OPEC, if and when that happens to be possible, which means most of the time.

In the lecture on nuclear that I gave at the Singapore Energy Week, I assured the faithful that they can learn everything they need to know about the nuclear future by studying the achievements of the Swedish nuclear sector, by which I meant the ability to construct 12 nuclear reactors in only 13-14 years. It was this statement that brought outrage to the face of Mr Leggett, and not the manner of speech that I developed teaching weapons and tactics in the U.S. Army, and teaching financial economics to high achievers at Uppsala University.

Where oil is concerned, I believe that the next day I made it clear that the power of oil is revealed by the impact on the oil price of a decline in the oil production of Libya caused by the recent war. Of a global production of oil of about 88 million barrels per day, the absence of a Libyan supply of 1.7 million barrels per day, resulted in the oil price to increasing by about 17 percent. This says more about the power of oil than trite contentions like ‘oil is the life blood of the global economic system’ (which also happens to be true, though for reasons that cannot be gone into here). I can also mention that I became aware of this power in the aftermath of the oil price meltdown in 2008, when one of those famous OPEC meetings raised the oil price by about $40 per barrel.

Alan Greenspan, former governor of the U.S. Central Banks (The Federal Reserve System) in his book ‘The Age of Turbulence’ stated in non-ambiguous terms that the war in Iraq that began in 2003 was about oil, which suggests that not only could “The New Prize” of copious Iraqi oil could be made available, but OPEC could eventually be taught a lesson. None of this is going to happen, and as they might say in the financial district of New York: “No, Ingrid, Iraq will not spoil that party.” To which I can add, I cannot possibly understand how anyone could believe otherwise.

REFERENCES

Banks, Ferdinand E. (2012). Energy and Economic Theory. Singapore,
London and New York: World Scientific (Forthcoming).
______ (2008)’The sum of many hopes and fears about the energy resources of the
Middle East’. Lecture given at the Ecole Normale Superieure (Paris).
Bezat, Jean-Michel (2008). Petrole: le pouvoir a chang’e de camp. Le Monde (20, Mai)
Hunt, Tam (2011). ‘The peak oil catastrophe in waiting’. Energy Pulse (03/10/11).
Saunders, Harry D. (1983). ‘Optimal oil producer behaviour considering
macrofeedbacks’. The Energy Journal, Volume 4, Number 4.
Von Neumann, John, and Oscar Morgenstern. (1944), The Theory of Games and
Economic Behavior
. Princeton: Princeton University Press.
Walsh, Bryan (2012). ‘The Future of Oil’. Time (April 9, 2012)

© 2013 Energy Tribune

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