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News and Views

- Sept. 21, 2006 -


$1.15 a Gallon? Leading Oil Industry Analyst Says Prices Could Plummet


Philip Verleger called the spike; now he’s says it’s going the other way; so does supply and demand still work in a world of “peak oil”?



SCDigest editorial staff

The News: A leading oil industry analyst, Philip Verleger, believes we are going to see continued reductions in the price of oil and at the pump, perhaps to as low as $1.15 per gallon for regular gasoline.

The Impact: In addition to the overall economic benefits, continues reductions in oil would reverse much of the significant upward pressure on transportation costs, and once again cause companies to rethink network strategies and transportation/inventory trade-offs. The move would also greatly benefit companies in industries from plastics to candles that have materials with high petroleum-based content.

The Story: Philip Verleger was one of the few oil industry analysts to predict dramatic price increases in the cost of oil a few years ago, but his estimates proved accurate as the price per barrel soared to nearly $80 this year. With the increase came significant upward pressure on transportation costs, heavy fuel surcharges by carriers, rising costs for petroleum-based raw materials.

Companies have embarked on a variety of strategies to cope with these rising costs, such as Wal-Mart’s goal of improving the fuel efficiency of its truck fleet by increasing overall fuel efficiency by 25% over three years, and to double it in ten. See As Wal-Mart Goes Green, What’s the Impact on Suppliers?).

But Verleger is now predicting the current reduction in oil prices is no temporary aberration. According to a story in The Seattle Times, Verleger believes a combination of financial market twists and fundamental supply and demand forces will keep driving oil lower – much lower. Verleger said it's not unthinkable that oil prices could return to $15 or less a barrel, at least temporarily. That could mean gasoline prices as low as $1.15 per gallon.

Oil prices were rising to levels not justified by pure supply and demand, according to most experts, as futures contracts for oil were driven as much by anticipation about future events and disruptions as they were about the true underlying dynamics. (See Why is Oil at $72 per Barrel, with Inventories at Record Levels?)

Now, that pressure is unwinding in the opposite direction. Oil traders may fear the downward price pressure will get worse, and aggressively sell off contracts, accelerating the spiral.

In addition, the raid rise in oil has spurred more drilling and supply, which has recently moved more in balance with global demand, despite continued high rises in oil consumption by countries such as China and India.

“Peak oil” theorists believe that such impacts are temporary at best, and that the combination of growing demand and a supply base that is or soon will be at its peak means an era of rapidly rising oil prices over time. Others believe peal oil claims about the current supply situation are inaccurate, and that rising prices will spur new production from areas like shale and tar oil that will rebalance supply and demand. (See Is Saudi Arabia Running Out of Oil?).

While Verleger believes we could see oil reach as low as $15 per barrel, he does not believe it will stay at that level. The market will have over-corrected, and eventually OPEC would cut production, and other drilling projects would halt due to economics.

“That takes six to nine months. If we don't have a really cold winter here [creating a demand for oil], prices will fall. Literally, you don't know where the floor is," Verleger said. "In a market like this, if things start falling ... prices could take you back to the 1999 levels. It has nothing to do with production."

Do you think will see a continued retreat in oil and fuel costs? Will supply and demand forces continue to work to promote price stability, or will any price reduction be temporary in the face of "peak oil?" Let us know your thoughts.

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