Many Katrinas in this oil market

I was recently invited to a lunch where a number of people related to the oil industry were present. It was strictly a social gathering but as oilmen are they have to talk shop.

The subjects were not wide and varied but centred around the current concerns in the oil market. Therefore, I heard among other things that the price of oil could reach $80 per barrel soon; the price of oil would have dropped to $50 per barrel if it was not for Katrina, the price of oil cannot be managed from the supply side and that demand will fall and prices then moderate. Notice that no one dared to predict anything bellow $50 per barrel.

On a related topic some people raised the questions of oil reserves and whether a peak in oil production is forthcoming soon and whether this is the reason for high oil prices. Some said that there was no transparency in reserves accounting and that some countries might not have what they say they have while others said that even if oil production peaks then non-conventional oil reserves (heavy oils and tar sands) will be developed to ameliorate any future fall in oil production.

All this, in my view, point to higher oil prices in the future but it also points to the need for a proper and agreed upon authority of some kind to assess reserves worldwide.

Katrina or not, oil prices soared to record levels in nominal terms five times consecutively in one week in August. They rose and fell after that and the $70 per barrel seems to be a psychological barrier that was breached and could be breached again any time. The decision to use the US strategic reserves and the activation of the IEA sharing programme in the aftermath of Katrina had something to do with the recent modest fall in prices but let no one forget that these strategic stocks and others will have to be replenished later and therefore while they may prevent further price escalation now they are unlikely to cause a permanent fall in prices.

Under these circumstances, it is evident that no one can talk with confidence about the future course of oil prices except maybe the research centres who always predict future prices to be much lower than what they are now. Of course, researchers hedge their analysis by talking about scenarios and hardly committing themselves due to so many uncertainties in the industry. The oil market now is a race to an unknown destination, as one commentator implied recently, and the winners and losers are yet to be determined. The underlying factors in this market are difficult to sort out in the short term.

The world oil supply is stretched to the limits or close to it as Opec is producing whatever it can sell and non-Opec are far behind previous expectations. The world refining capacity is short of demand in quantity and quality and the profitability of the refineries is uncertain though it has improved in recent years.

Efforts in environmental legislation are too many and too fast without adequate time for refiners to adjust. The market is driven more by the influx of funds in the futures market rather than actual physical need. The world economy is robust and growing and until now it has ignored high oil prices. Forecasters now assign growth in oil consumption very close to that of total energy consumption because there are limited options for substitution away from oil as the case was in the 1970s and 1980s.

Above all the political situation around the world, particularly in the Middle East is not helping. There is no end in sight to the occupation of Iraq, the threats to other countries or a resolution to the Palestinians' plight, which is fuelling suspicions in this important oil region, and this will hinder speedy and urgent development for a long time to come.

Incidentally, a friend of mine said that Iraq may produce eight million barrels a day in the future. I believe Iraq would have produced close to that number a long time ago if it was not for the wars, sanctions and occupation. Of course, right now Iraq is too busy building democracy, and oil production will have to wait for better times to come. The eight million barrels a day is not a challenge to Iraq as much as supplying its domestic market with petroleum products is for the moment.

All these factors and uncertainties in the oil market cannot be reversed or even ameliorated overnight, and even if they are we may still find ourselves in a situation which could be even more serious than the current one due to the fact that many Katrinas, natural and political, could still shape our future.

The writer is the former head of the Energy Studies Department at the Opec Secretariat and is currently working as an adviser.