Saturday, January 20, 2007

The Supply-Demand Irony

We all agree on one point. We want clean, cheap, replenishable energy. But in watching the process unfold during these last few years, there are two ironies that work against that result.

The cost to extract oil is very, very low. Most of the cost today has to do with supply-demand issues and specific issues that create fear in the market place with regard to future supplies. For example, crude sold at an average of $25 per barrel in 2003, and even less than that prior to 9/11. The current price of $51 is not due to higher costs of extraction, transportation, or any other cost. Merely the fact that there are lots of buyers, and a cartel that purposely limits supply to keep prices high. That, and a premium for fear of interruption in that supply due to international political issues.

When the cost was over $70, lots of folks jumped into the markets trying to make a buck on alternative energy or ways to conserve. This is a good thing. But, as the price drops below $50, some of these alternatives will no longer be economically viable, and folks who were ready to buy conservation methods will be less inclined to do so. The very fact of these new supply lines, and a drop in demand from more efficient use of energy is part of the reason for the drop in selling price of crude.

If the price of oil dropped back to $25, almost no one would be making buying decisions based on fuel savings, because any additional cost could not be recovered. And those who are creating alternative fuels that would have to sell at above $25 would be out of business.

Here is where the irony gets a bit deeper. As alternative fuel companies drop out of the market, the selling price of oil will go up, since there will be less overall supply of energy. As we become more and more efficient, and use less of any kind of energy per person, we will create less demand for alternative fuels.

These market forces working both for and against cleaner methods will have many winners and losers, and the market is a sometimes cruel teacher. But the market will eventually find its way. I'm betting on a major breakthrough in batteries or in biofuels. But, it could just as easily be that we find a way to use oil in a cleaner way.

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