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An Oily Concern

High oil prices are bad not just for consumers but also for producers. And there is a reason to believe that. In a recent interview with CNN, Saudi prince Al-Waheed expressed his fears about the high oil prices and that they might accelerate the US and the European attempts to go and find alternatives and bring in the ultimate demand destruction for oil. Being at the helm of an economy that still gets 80 per cent of its budget revenues from oil, he knows what that means. He would want the prices to be in $70-80 per barrel while the current prices are hovering at $100.

Given the highly inelastic nature of oil demand, it is a double edged sword for the oil kingdom. Automobiles are not like soaps which you could change every month but once you've bought a car, it stays with you for three, four or even ten years. Therefore even if the prices are oil prices are high, people cannot junk their cars at once.  This is why the higher oil prices can sustain. But the other side is once a consumer picks up an alternative energy car he would not return as an oil customer for many years, even if the oil price reduces. And therefore as and when the side-effects of high oil prices will become evident, they will do so in a very sudden manner.

Infact OPEC officials have often expressed their concerns about the alternatives becoming more competitive due to higher oil prices. But there is nothing new about these worries. Such fears have cropped up after each oil shock and yet there has really been no alternative to oil till now. And this time could be no different except for the fact that the alternatives today are much closer to reality than they were any time before.

Oil shocks have happened in past. After the oil shock of 1970s, countries around the world started contemplating to reduce their dependence on oil, US congress even introduced a 55 mph limit on highways to save oil, but that was back then. After the oil shock much of that focus disappeared. And none of that was because of any love for oil but for the lack of any practical alternatives. And that is where things are no longer the same.

From fuel cell vehicles and electric cars to biofuels and renewables- a score of alternative energy technologies are expanding and inching closer to being competitive with oil. Daimler and Linde are on their course to put up enough hydrogen refueling stations in Germany that fuel cell vehicles would be able to move anywhere in Germany. Hybrids and even pure electrics are already available commercially with some latest offerings available at competitive prices. According to Deutsche Bank, Hybrid electric vehicles will attain economic cost parity with gasoline cars when the oil reaches $ 110 per barrel. Oil was hovering at $100 on the last count. This explains why there is a very small margin of comfort for the oil producers. This also explains why prince Waheed would want lower oil prices. Alternative energy platforms like fuel cell vehicles and electric platforms will be much cheaper in running costs when the technology scales up. Per kilometer cost for electric vehicles can be just one-tenth of the cost incurred for gasoline vehicles.

By keeping the oil prices low, the oil nations can keep the alternative energy technology away from maturing faster. Deutsche bank believes that due to falling prices for hybrid-electric car technology the point of economic parity for hybrid cars would reach at only $80 by 2015. And if the alternative energy vehicles keep selling encouraging numbers — as some are doing —the platform might achieve scales much faster and therefore gain competitiveness even faster. Automakers currently making electric vehicles want to build volumes faster to reduce costs. The high oil prices are just helping that cause. Infact oil producers would do great by using some low prices to restrict the alternative vehicles achieving scales they need to compete with oil. This will buy them some time that they need to adjust to the eventuality.

Nobody doubts that eventually we will run out of oil or that we would move beyond it eventually but the crucial question is how soon will that happen. Saudi Arabia which has an economy heavily dependent upon oil is already making attempts to diversify itself. But that is not an easy task to do. UAE another oil producing nation dependent on oil is accelerating its attempts to move away from oil. It is diversifying into financial services, hospitality, and retail in order to keep itself running when the oil runs out. Yet after years of efforts, 25 per cent of its GDP is still based on Oil & Gas. Perhaps the real estate and construction sector that today accounts for a large share of GDP went bust in 2009 and threw the desert economy into a tizzy. It only underlines the fact that how difficult is to reinvent the economy and perhaps for that reason the oil kingdom of Saudi Arabia would want as much time as it can get to adjust. This also explains its intransigence on any international climate treaty.

Therefore at the end while rising oil prices may be good for producers in the short term but they are risky in the long term. On the other hand rising oil prices would be painful for consumers in the short term but good in the longer term -as it will get us to shift to alternative energy platforms which are way more economical to run.

In spite of the spectre of alternative energy platforms destroying demand, it will be difficult to cool off the prices. Oil is getting costlier to drill out and oil discoveries are now being made in terrains where its costlier to drill for oil.

Yash Saxena is a sustainability consultant with Emergent Ventures, a climate change mitigating consultancy. He also works on innovation evangelism with Techpedia

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