Through the magic of e-mail, a panel of experts on energy, investing and global economics - energy economist Peter Tertzakian of ARC Financial Corp. in Calgary, veteran portfolio manager Nick Majendie of ScotiaMcLeod in Vancouver, and economist Carl Weinberg of High Frequency Economics in Valhalla, N.Y. - got together with Globe and Mail reporter David Parkinson to delve into what the Libyan crisis may imply for oil, the financial markets and the world economy.
David Parkinson, The Globe and Mail: Libya has obviously hit a nerve with investors - West Texas intermediate (WTI) oil is suddenly flirting with $100 (U.S.) a barrel and financial markets in general are gyrating. Is Libya really a threat that warrants all this attention? Or just an excuse for investors - in oil and elsewhere - to do some repricing that they would probably have done anyway?
Nick Majendie: Libya produces 1.6 million barrels a day, and estimates of the amount that has been shut in vary between 400,000 and 1.2 millions a day. The IEA [International Energy Agency]has said that OPEC spare capacity has nudged below five million barrels a day for the first time in two years. Saudi Arabia's spare capacity is reputed to be four million barrels a day. Thus, the fear of loss of significant amounts of Libyan production is both realistic and significant - particularly in light of concerns that unrest could spread to Saudi Arabia and that Saudi Arabia's ability to increase production rapidly and significantly is questioned by several observers.
Note that global demand has been surprising on the upside, with the IEA revising the 2011 forecast up to 89.1 million barrels a day recently. The threat of loss of Libyan production superimposes the fear of a supply shock on top of burgeoning global oil demand, and warrants repricing by oil market participants.
Carl Weinberg: What is important to global oil markets is not just the quantity of oil, but its quality.
According to sources that I trust, Libya produces a very light sweet oil. When other producers, like Saudi Arabia, offer to produce more crude oil, they are lifting all the light sweet crude that they can from the ground already.
The system is finely tuned, with refineries geared to take in crudes with specific qualities. This can be adjusted, within limits, but not without downtime and re-engineering. In the short term, substitution is impossible, and longer-term substitution of crude stocks is expensive. So simply having spare capacity to produce more "crude" around OPEC does not mean that OPEC can compensate for the loss of Libyan crude to refiners. A shortage of product is likely as/if Libya goes offline.
And for what it's worth in this conversation, Canada's crude oils are not a substitute for Libyan light sweet. In fact, there is a glut of Canadian crude in Cushing, Okla., right now. That is where the pipeline south ends. There is insufficient refining capacity - of the appropriate type - in Cushing to handle all the crude that flows there from Alberta. Thence, there is insufficient capacity to ship the products more than a few hundred miles in any direction. So Canada is experiencing downward pressure on crude oil prices and energy products offsetting at least some of the increase in overall crude prices other countries are experiencing.
In my view, elevated prices for energy products are the second-biggest threat to the global economy in the near term, after a banking and sovereign-debt crisis in Euroland. Since people cannot reduce their consumption of energy products much in the near term, rising energy prices are deflationary: Higher expenditures on more-expensive energy leaves less income to spend on other goods and services, whose prices soften with demand. As long as wages do not rise, an increase in oil prices relative to incomes and other prices - a relative price shift, not inflation - reduces real incomes.
Euroland depends the most on Libyan crude, and Japan buys a good bit of it. North America does not, so the impact on product prices will vary from country to country. So, too, will the impact of higher energy prices on CPI and on consumption of other goods and services.
DP: Does the Libyan situation, then, actually alter your outlook for the oil market for the next year? And, by extension, for the global economy? (Let's talk prices, gentlemen …)
CW: C'mon Dave. You tell me how the Libyan revolt and the crises bubbling up all around the MENA [Middle East/North Africa]countries turn out, and I'll give you an oil price forecast.
Do we get stable governments or unstable factional squabbling? Do we see Western-friendly governments or anti-Western governments? Will they be democracies that U.S. and European liberals can accept, or do we get something less palatable - a government with whom we would not want to get into bed?