Oil demand poised for a big fall

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North America's thirst for oil has reached a turning point, as high gasoline prices and slow economic growth finally force consumers to cut back on their use of fuel.

The International Energy Agency chopped its forecast for oil consumption in the region on Thursday. The Paris-based group now says the United States, Canada and Mexico will use 23.7 million barrels a day this year, 190,000 fewer than last year - the first decline since the recession.

The lower forecast reflects a profound shift under way in the United States, the world's largest consumer of oil. High prices as well as recessionary scars are reshaping consumer behaviour, prompting Americans to drive less and buy smaller cars, while factories are switching to cheaper types of fuel and cutting energy use.

It's a change that Canada, which sells an estimated $200-million of crude oil a day to the U.S., had better get used to, said Peter Tertzakian, chief energy economist at ARC Financial, who believes the twin trends of driving less and buying smaller cars mark a permanent gearing-down in demand.

"We have become accustomed, since World War II, to a customer that continuously needs more and more of our energy and all of a sudden, they don't need as much," he said. "I personally view this as a declining market."

Global oil demand slowed markedly in March, partly because of the tsunami in Japan. Preliminary estimates suggest near-zero annual growth for the first time since the summer of 2009, the IEA said. Worldwide, the agency cut its estimate for demand to 89.2 million barrels a day - 190,000 barrels less than its previous estimate, though still 1.5 per cent higher than last year.

Three key factors are curbing demand in the United States, said Fadel Gheit, a senior oil analyst at Oppenheimer & Co. Inc. First, the price of gasoline has stretched above the psychological breaking point for American drivers - hovering around $4 (U.S.) per gallon - prompting motorists to leave the car keys at home.

"It is demand destruction based on higher gasoline prices," he said Thursday. Indeed, the IEA predicts an "anemic" U.S. driving season.

Second, several major centres are suffering from massive floods, making highways impassable, again hampering driving habits. States in the Mississippi River Delta are staring down the threat of record floods as water spills over the banks of powerful rivers, with some Interstates closed and cities under water. Southeastern Missouri and southern Illinois have also been hit, and earlier this spring parts of northern states including Minnesota and North Dakota were under water.

Third, a soft economy is once again hurting oil demand, Mr. Gheit said.

Adam Sieminski, chief energy economist with Deutsche Bank, puts the reasons for muted U.S. demand on high prices and lowered economic growth expectations. Those factors are intimately related, he said.

Among U.S. consumers, "[demand]elasticity is low, but it's not zero. We've learned in the past that there tends to be a break point somewhere near $4. And I think we sort of got there."

But while expectations of demand weakness may be a temporary cure for high prices - witness the double-digit tumble in crude prices in recent weeks - it's still a fragile situation, Mr. Sieminski said.

He is "very concerned" about geopolitical risk in Algeria, which "has the same kind of light sweet crude oil that is produced and exported in Libya. And if anything were to happen in Algeria, it would be a second very serious shock to the market," he said.

Yet there is little doubt that crude demand continues to suffer in the U.S., which is struggling to pull itself from the economic mire after its most severe recession in decades.

Katherine Spector, a commodities strategist with CIBC World Markets in New York who tracks historical patterns for gasoline and diesel demand, said current numbers remain far below those expectations: Gasoline is down by a million barrels a day, and diesel by 500,000.

It's a remarkable discrepancy, with gasoline demand 10 per cent under those expectations - enough that it's stirring significant "Do we expect it will get back to some normal?" Ms. Spector said. "Or have there been permanent changes in behaviour over the last couple of price cycles plus the recession?"

What's clear for now, she said, is that gasoline and diesel demand appear to be following their respective economic indicators.

"Industrial production and those kind of indicators have staged a pretty decent recovery since the peak," she said, a fact that has propelled demand for diesel fuel. "But things like unemployment and consumer confidence have been the laggards" - factors in muting a recovery in gasoline demand.