Australia is sleepwalking into an oil price trap

http://www.tandf.co.uk/journals/rapl

Dr Michelle Zeibots, Institute for Sustainable Futures, University of Technology, Sydney, writes:

CRUDE OIL SUPPLIES, CURRENT OIL PRICES, ELECTRICITY PRICING, GAS, PETROL PRICES, RENEWABLE ENERGY

It's happening again. Petrol prices are rising and the question on everyone's mind is how high will they go this time?

Memories of the brief period in mid-2008, when Singapore Tapis hit $US150 a barrel and Sydney petrol prices soared to $1.60 a litre, still make most people nervous.

Australia sources its oil imports from South-East Asia where prices are measured by Singapore Tapis. Most news outlets quote the West Texas Indicator (WTI), which applies to the US domestic oil market and doesn't always reflect Australian prices. The WTI is usually lower than Tapis by a few dollars. But when global supply becomes tight and struggles to keep up with demand, the difference widens to about $US10 a barrel. This happened just before the 2008 price spike. The gap is now at $US11.

Fear of another price hike is entirely reasonable. All the easy, cheap and quick-to-get-at oil is gone and we're not discovering new reserves at a rate fast enough to replace consumption. Geology is catching up with us.

Canberra has been quiet. It's just business as usual, with no evident plan to meet the gathering crisis. While the inaction continues, we're sleepwalking into a trap -- a vicious cycle of price spikes that damage the parts of the economy unable to adapt, followed by the collapse of its weakest links so that prices fall. As parts of the economy recover, the whole nasty cycle begins again. For big inefficient consumers, the cycle leads to a process economists call demand destruction, which should be avoided by well-planned transition strategies.

In the short-term, how high Australian petrol prices will climb depends on two things -- the strength of the Chinese economy and whether the US continues to recover or is pushed back into recession by rising oil prices.

The fundamental dynamics work like this: our petrol prices depend on the strength of the Aussie dollar against other currencies and for that we depend on the strength of the Chinese economy. China's growth provides a hungry market for Australian coal, gas and mineral exports, providing us with a steady income that keeps our dollar strong. This holds down pump prices by comparison with other countries.

Our petrol prices are also affected by what happens to the American economy. As the US attempts to claw its way out of recession, its demand for oil will increase, driving up global prices. The US is dependent on imports for about 60% of its domestic consumption. If the US economy recovers and grows, there'll be more competition for oil on the open markets of South-East Asia that we rely on for the 40% we currently import to make up the rapidly growing shortfall between domestic production and consumption.

So if the US recovers, we could see 2008 prices return. Alternately, if the US economy stumbles, global prices won't increase by so much. They may even fall like they did by the close of 2008 when the Tapis dropped to $US50 a barrel. Back then, demand collapsed as thousands of American households defaulted on their mortgages because of higher food and fuel prices. Cash flows were interrupted, industries went under and unemployment rose. If this happens again, domestic petrol prices in Australia will be more affordable. But relying on the economic demise of others to keep petrol prices low at home isn't really good news.

The long-term outlook is less clear because the potential for volatility is so great. Within five years we'll be importing about 60% of domestic oil consumption making us more vulnerable.

What we can be certain of is the less oil we use, the less vulnerable we'll be. About 72% of crude oil products consumed in Australia are eaten up by transport, 62% of which is for private cars.

A sound transition strategy for the next decade would see us using more gas in the short term and far more electrified transport in the longer term. While our oil reserves are starting to run low, gas is in better shape. But like oil, gas is a finite resource. Electricity can come from many sources, including renewables, but it's likely to cost more in the future so we have to find demand-side efficiencies, pointing to a bigger role for electrified public transport, walking and cycling.

We also need to be more discriminating about where we deploy investment capital. Urban motorway and tollway development needs to be dumped in exchange for all those public transport projects the community has been calling for.