The Oil Drum

Great post, Dave. Economists take a beating on TOD, often undeservedly so. This is evidence that there is good economic thought being produced on peak oil.

"In this paper we ... support the counter-argument that technology, rather than "increasing" the lifetime of present reserves, masks increasing absolute scarcity, in accordance with Hotelling's theoretical predictions. Technology does have the effect of increasing extraction initially, but it does so at the cost of increasing the rate of depletion - and the lifetime of the resource. Temporary low prices may be then misleading indicators of the ability of the economy to adjust to resource exhaustion."

There is an important point here. Everybody basically agrees that today's flows of oil are larger than they would be without enhanced recovery, but this information is interpreted in two diametrically opposed ways. The CERA/Lynch argument is that better technology actually increases available reserves, and total recovery. Under this scenario, higher current flows (and the resulting lower prices) are accurate signals that the resource is large, or even increasing.

The Gowdy and Julia argument is that higher flows and lower prices are a short-term aberration: higher current flows mask faster depletion, and are therefore inaccurate signals. We are lulled into believing that the resource is larger than it is, we use it too quickly, and we don't plan until it is too late.

There is a central issue here. Everybody sees the same data: strong current oil flows, and somewhat moderated prices. CERA sees the data as correct indicators in an efficient market, which implies that future supply is acceptable. Gowdy and Julia argue that the exact same indicators are spurious. It's like climate change research: one set of data, two very different interpretations.

One argument to resolve this impasse: economic theory assumes that oil is traded in completely free markets with accurate information equally available to all parties. We know this isn't so. Since we violate assumptions, we have a market failure. Therefore we can't work backwards and say that price signals tell us anything accurate about the long-term situation.

Should we live in a more rational, fairly-priced oil world? Absolutely. But who has the nerve to impose short-term pain for longer-run benefits?