FRACTIONAL FLOW

Posts Tagged ‘debt

The Powers of Fossil Fuels, an Update with Data per 2017

This post is an update and small expansion of The Powers of Fossil Fuels spanning more than two centuries of the history of the world’s energy, primarily fossil fuels (FF), consumption.

  • Between 2002 and 2017 world energy consumption grew with about 39%, world Gross Domestic Product (GDP) by 130% and world total debts by more than 160% (market value and expressed in US dollars).
  • The narrative of the growth story of the world economy (GDP) appears as a rule to leave out two participants:
    1. DEBT and the accelerating debt growth since the 1980’s, more notably since the start of this millennium and how this unprecedented growth in total world debt helped pull forward ENERGY demand.
      Post the Global Financial Crisis (GFC in 2008/2009) the continuity of economic growth became facilitated by concerted policies by the world’s major central banks by their low interest policies and Quantitative Easings (QE).
      Lower interest rates allowed room for more DEBT on most balance sheets and growth in total DEBT is important for continued economic growth.
    2. ENERGY (and primarily FFs) consumption and its strong growth facilitated by the rapid growth in DEBT.
  • Simplistic explained is GDP a monetary measure of the annual volume of transactions.
    These transactions involve the exchange of products and services which require some input of ENERGY and in recent years growing amounts of DEBT allowed for this to happen.
    This illustrates that money/currency is a claim on ENERGY.
    The orderly retirement of the growing DEBT is a claim on future ENERGY.
  • This post also takes a brief look at the recent years’ growth in solar and wind (renewables, RE) and how their growth measured up against FFs since 1990 and Year over Year (YoY) changes for FF and RE since 2000.

Figure 1: The chart shows the developments in total world energy consumption split on sources as of 1800 and per 2017.
Energy sources are stacked according to when these were introduced into the world’s energy mixture.
The black line (plotted versus the left hand scale) shows development in the world’s GDP in current US dollars since 1980 based on data from the International Monetary Fund (IMF).

In the early 1800s biomasses (primarily wood) were humans’ primary source for exogenous energy. Coal was gradually introduced into the energy mixture after the successful development and deployment of the steam engine which gave birth to the Industrial Revolution. Coal is a nonrenewable, abundant and a denser energy source than wood.

The growing use of biomasses had led to deforestation in those areas serving energy intensive industries like mining and metals.

The steam engine and its use of abundant coal as an energy source made it possible to rapidly expand the industrial production, create economic growth and thus the Industrial Revolution was made possible by fossil fuels.

With the most recent discoveries and introduction of fossil oil and natural gas there appeared to be several abundant sources of volumetric dense energy that could entertain exponential debt fueled economic growth.

Fossil fuels represent natures’ legacy stock of dense energy (ancient sunlight) that during some decades has been subject to an accelerated depletion.

Several reports in the media may now leave the impression that we are at the threshold for a smooth transition from FFs to RE (solar and wind).

How does this measure up against hard data for RE (solar and wind) versus FFs?

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Will growing Costs of new Oil Supplies knock against declining Consumers’ Affordability?

In this post I present developments in world crude oil (including condensates) supplies since January 2007 and per June 2016. Further a closer look at petroleum demand (consumption and stock changes) developments in the Organization for Economic Cooperation and Development (OECD) for the same period and what this implies about demand developments in non OECD.

The data used for this analysis comes from the Energy Information Administration (EIA) Monthly Energy Review.

  • The OECD has about half of total global petroleum consumption.
  • Since December 2015 OECD total annualized petroleum consumption has grown about 0.2 Mb/d [0.5%].
    [Primarily led by growth in US gasoline and kerosene consumption, ref also figure 6.]
  • The OECD petroleum stock building was about 0.4 Mb/d during Jan-16 – Jun-16, which is a decline of about 0.6 Mb/d from the same period in 2015. This implies a 2016YTD net decline in total OECD demand of 0.4 Mb/d.
  • World crude oil supplies, according to EIA data, have declined 1.3 Mb/d from December-15 to June-16, ref figures 1 and 2.
  • The above implies that non OECD crude oil consumption/demand has declined about 1 Mb/d since December 2015.
    This while the oil price [Brent Spot] averaged about $40/b.

This may now have (mainly) 2 explanations;

  1. The present EIA data for crude oil for the recent months under reports actual world crude oil supply, thus the supply data for 2016 should be expected to be subject to upward revisions in the future.
  2. Consumption/demand in some non OECD regions/countries are in decline and this with an oil price below $50/b.
    If this should be the case, then it needs a lot of attention as it may be a vital sign of undertows driving world oil demand.
    Oil is priced in US$ and US monetary policies (the FED) affect the exchange rate for other countries that in addition have a portion of their debts denominated in US$ thus their oil consumption is also subject to the ebb and flows from exchange rate changes.

Figure 1: The stacked areas in the chart above shows changes to crude oil supplies split with North America [North America = Canada + Mexico + US], OPEC and other non OPEC [Other non OPEC = World - (OPEC + North America)] with January 2007 as a baseline and per June 2016. Developments in the oil price (Brent spot, black line) are shown against the left axis.

Figure 1: The stacked areas in the chart above shows changes to crude oil supplies split with North America [North America = Canada + Mexico + US], OPEC and other non OPEC [Other non OPEC = World – (OPEC + North America)] with January 2007 as a baseline and per June 2016. Developments in the oil price (Brent spot, black line) are shown against the left axis.

It was the oil companies’ rapid growth in debt [ref US Light Tight Oil (LTO)] that brought about a situation where supplies ran ahead of consumption and brought the oil price down.

YTD 2016, only OPEC has shown growth in crude oil supplies relative to 2015.

Unit costs ($/b) to bring new oil supplies to the market is on a general upward trajectory while the consumers’ affordability threshold may be in general decline.

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Oil, Interest Rates and Debt

At first glance it is hard to see how oil, interest rates and debt are connected. Two of them are human constructs while oil (fossil sunlight), a gift from Mother Nature, took tens of millions of years to process. Oil is an endowment extracted from a confined underground stock and is now the most dense and versatile energy source known to man.

Figure 1: Chart that shows the development of [extraction] cost of oil and interest rates (US 10 Year Treasuries) has developed since 2000 and a likely trajectory for oil extraction costs.

Figure 1: Chart that shows the development of [extraction] cost of oil and interest rates (US 10 Year Treasuries) has developed since 2000 and a likely trajectory for oil extraction costs.

Both lines are SIGNALS, and most likely plan their future based on only one of them.

The 10 Year Treasury (or similar) rate is the reference used for amongst other things to set interest rate for mortgages. Most now, aware of it or not, base their future plans on the expectations to developments of the 10 Year Treasury.

What is now playing out in the oil market may be described as below;

Low interest rates [stimulates debt growth] => Pulls demand forward => Oversupply => Deflation

How will the interest rate develop in the future?

This is important as the present huge global debt overhang weighs heavily in the consumers’ balance sheets and their affordability for costlier oil. It is also important for oil companies’ long term planning to bring costlier oil to the market.

A lasting, low rate makes higher debt loads manageable. Interest rates works both sides of the demand/supply equation.

A higher interest rate will have serious implications for highly leveraged consumers and oil companies.

The dynamics may be described as below:

Higher interest rate => lowers demand => downward pressure on price [deflation] => makes it harder for [highly leveraged] consumers/oil companies to service their debt overhang => lowers investments to develop costlier supplies

At some point in time the present oil supply overhang will come to an end. This will become reflected in a higher price.

The timing of these events creates uncertainties and the agile and financial strong oil companies will sweat out a lasting low oil price.

Few are aware of that the costs of accessing our real capital (like oil) that runs our economies are rapidly increasing.

What is different this time is that the oil price may remain lower for longer than the estimated full cycle break even costs for new developments.

The suggested path for costs is believed in the near term to come down as oil service companies have reduced their prices to shoulder the burden from the recent price collapse. Over time, the capacities of the service companies will become aligned with the demand for their services and products. At some point, as the oil price recovers and investments pick up, the market mechanisms will bring the prices from the service companies up as the service companies also need to make a profit to stay in business.

In figures 4 and 5 are shown how the combination of lower interest rates and a lasting, high oil price encouraged the oil companies to rapidly take on more debt to develop costlier oil on the expectations that consumers had remaining ability to take on more debt/credit to pay for this, thus allowing the oil companies to retire their debts.

The oil companies’ behavior in the recent decade is reminiscent of group think. Few expected the oil price to collapse, though the oil industry itself repeatedly point out the cyclical nature of the oil price.

The aggregate of developments (primarily driven by an amazing growth in the extraction of light tight oil [LTO]) gradually resulted in a supply overhang that made the oil price collapse.

The costs of extracting real capital, like oil, has been rapidly increasing, yet we are making decisions for the future as if it were decreasing, based on the price of capital (money). This is a short term phenomenon that will last until supply and demand become balanced.

The present situation with an apparent oil glut and low prices is a temporary false signal.

This may also be the case with the low interest rates.

The near future will reveal how the competition for available funds to service a still growing huge global debt overhang fare towards the need to fund developments of costlier oil.

Can an increasingly leveraged global economy handle both higher oil prices and interest rates and still remain on its growth trajectory?

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