Oil’s endgame could be highly disruptive

The oil shocks of the future will be driven by demand, not supply



March 18, 2024 - 4:01 PM

This is the Conemaugh Generating Station in New Florence, Pa., March 13, 2024. Pennsylvania Gov. Josh Shapiro recently unveiled a plan to fight climate change, saying he will back legislation to make power owners in Pennysylvania pay for their planet-warming greenhouse gas emissions and require utilities in the nation’s third-largest power-producer to buy more electricity from renewable sources. Such decisions are being around the word, decreasing the demand for fossil fuels. (AP Photo/Gene J. Puskar)

For decades, the biggest fears about oil centered on its supply. The lesson was first learned half a century ago, when the Arab members of OPEC banned exports to America and other supporters of Israel in the Arab-Israeli war. 

Today you might think that the link between energy and geopolitics has been mercifully severed. Even as war has returned to the Middle East and Russia’s invasion of Ukraine has made it a pariah to the West, oil markets have been largely quiescent. 

In fact, however, a new phase is beginning — one in which oil demand, not supply, will be the primary influence on energy markets. This shift will bring with it profound geopolitical consequences.

Governments everywhere are designing policies to reduce the demand for oil and boost alternative sources of energy, as they seek to fight climate change. Technologies such as those behind electric vehicles are only becoming cheaper and more advanced. The coming peak and subsequent decline of global demand for oil will determine prices and production over the decades to come.

Perversely, this shift will grant some producers more market power. The biggest, least carbon-intensive and cheapest reserves of petroleum by far are found in Saudi Arabia and its immediate OPEC neighbors in the Persian Gulf. 

As the market for oil shrinks, their share of production will soar. Depending on the pace of the energy transition, this cabal could command a market share of half or even two-thirds of global output by 2050, according to BP, an oil firm, compared with less than 40% today. 

Already places such as Kuwait, Saudi Arabia and the United Arab Emirates are home to some of the world’s largest sovereign wealth funds and are busily deploying capital and influence in their neighborhood and beyond. Their piles of capital, and their desire to project their strength abroad, will only intensify.

Governments everywhere are designing policies to reduce the demand for oil and boost alternative sources of energy, as they seek to fight climate change. 

Meanwhile, other oil powers will be left behind. 

Today national oil firms in several dozen countries in Africa, Latin America and Asia are pumping oil that is higher-cost and more carbon-intensive than the oil in the Gulf. 

By one measure, some $1.2 trillion of the $1.8 trillion in investments planned for the next decade by national oil companies could turn out to be unprofitable if countries make good on their official pledges to achieve net-zero emissions by 2050. 

Nigeria’s NNPC, Mexico’s Pemex and Indonesia’s Pertamina are among those most at risk of being stuck with stranded assets. 

Because governments in many producing countries are often unduly reliant on commodity revenues, the failure of some national oil firms could lead to debt crises, bankruptcies and a decade of lost development. This would be a mirror-image of the debt crises that engulfed Latin America in the 1980s, after rising oil prices widened importing countries’ trade deficits and crippled their ability to repay their debts.

How to manage this disruption? 

Speeding up the energy transition is necessary to tackle climate change, but the faster the transition, the worse the concentration of market power, and the greater the shock to high-cost producers.