The End of Oil?


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March, 2008

Gasoline prices have been rising steadily for about six years now. Prices have set record highs only to break the record the next month. Airlines and trucking companies and other businesses that are highly sensitive to fuel costs are hurting. Not to mention poor people.

Some say that prices spiralling upward because we are running out of oil. It's the law of supply and demand: As oil runs out, the price goes up.

Here's a graph of the price per gallon of gasoline since 1976.

Hello?

Figure 1: U.S. Retail Gasoline Prices

Constant Dollars

But this isn't entirely fair. Prices of everything have been going up. It's called "inflation". If we want to be fair, we really should adjust for inflation. We add a blue line to this chart showing gasoline prices in constant 2007 dollars.

Figure 2: U.S. Retail Gasoline Prices, Nominal and Constant

This gives a rather different picture. Gas prices are certainly high, but not record-setting. They have not returned to the peaks set in the early 1980s. If prices continue to rise, we might see the record broken in real prices in the next couple of years. Or maybe prices will level off. I'm not going to risk predicting the short or mid-term.

Taxes

But the story doesn't end there. The government has been increasing taxes on gasoline. Let's add another line to the graph showing the price, adjusted for inflation, and excluding tax. We add this line in red.

Figure 3: U.S. Retail Gasoline Prices, Nominal, Constant, Excluding Tax

This changes the picture quite a bit. Prices are up for the last few years, but still below the prices of the 70s and 80s. The 90s were a time of cheap gasoline. Prices now are heading back up to historically normal values. But piled on top of this are hefty tax increases.

Supply

So are we running out of oil?

One measure is "proven reserves". This is defined as the amount of oil that has been discovered and which can be extracted from the ground at a profit under current market conditions. Note this is not all the oil in the world: It doesn't include any oil that has not yet been discovered. (How could it?) Nor does it include oil which exists but which is so difficult to extract that, in practice, it is not useable. Indeed, the government recently tightened up the definition so that now they only count oil if the oil companies are actively working on pumping it.

So, are proven reserves being used up? Not exactly.

Figure 4: World Proven Reserves (billions of barrels)

So proven reserves are still growing, as the oil companies continue to discover new oil sources faster than we are burning it.

Conclusion

Why are prices going up?

Economists debate the causes, but there are a few generally agreed factors. The biggest is that the economies of China and India are booming. Their energy consumption is going up, which means more demand. Meanwhile oil production in Iraq is way down because of the war and production in Venezuela is down because of government mismanagement. That means less supply. So we have higher demand and lower supply.

Production in the United States is falling because environmental regulations prevent oil companies from new drilling in Alaska and the Gulf of Mexico. And as I write this the federal government has just passed a law that prohibits government agencies, including the military, from buying most Canadian oil for environmental reasons.

So we have growing demand and falling supply. (The oil is in the ground but we can't pump it out.) Economics 101 tells us that this will cause the price to go up.

Gas prices are not skyrocketing because we are running out of oil. Gas prices are up somewhat because of a variety of factors, some long-term, some temporary. One of the biggest factors is a hefty tax increase.


Notes

I begin the graph with 1976 because that's whan the government began collecting statistics on unleaded gas: starting sooner would have had us comparing leaded to unleaded, which just complicates things, and besides, I had to start somewhere.


Sources

Statistics on gasoline prices are from the U.S. Department of Energy, Energy Information Administration, eia.doe.gov.

Statistics on inflation rates (the Consumer Price Index) are from the U.S. Department of Labor, Bureau of Labor Statistics. /www.bls.gov/cpi/home.htm.

Statistics on gasoline taxes are from "Gasoline Taxes and Rising Fuel Prices in the Aftermath of Katrina", by Kim Rueben and Sonya Hoo. (This article discusses all sorts of factors affecting gasoline prices, not just Hurricane Katrina.)

Proven reserves are from "World Proved Crude Oil Reserves, January 14, 2008", by the Energy Information Administration.


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Posted March 13, 2008.

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