To get enough oil for global demand requires expensive technologies, and expending more energy. If the price is too low those investments won’t be feasible, meaning not enough production. But too high and the world can’t afford it and we enter global recession. The ‘goldilocks’ in the middle is shrinking, to a knife edge. It’s the same story with food and metals.
Right now, the most expensive barrels of oil in the world are either from the Alberta oil sands or deepwater drilling – at around US$70-$90 a barrel. Obviously, the producers wouldn’t be extracting oil at such a massive cost if there was cheaper stuff to get at or the oil wasn’t needed to meet global demand. These most expensive sources of oil set a floor on the price that can only be lowered if demand reduces, as it did for a short time at the start of the Great Recession.
On the flipside, at some point the price of oil sends importing countries into recession. You can think of an increase in the oil price as a ‘tax’ on an importing company that flows out of the country for no additional benefit. With exporters sending something like 40 million barrels a day to importers, when the price rises by US$10 a barrel, as it did last week, that represents a US$400 million a day (US$146 billion a year) drain on those economies. That means people in importing countries have less to spend on other things and transport costs in those countries rise – paying more and getting less means entering a recession with inflation running hot, just as happened in 2008.
Most people say the point at which the oil price causes recession is somewhere above US$120 a barrel. I think its lower. Sure, oil hit US$147 in July 2008 during the last shock but the developed world was already in recession well before then. Most of the OECD countries, including New Zealand, entered recession in the first or second quarter of 2008, when oil prices were lower than they are now (and the economies were more resilient than they are now). I think the current prices are high enough to send the developed world back into recession if they last more than a couple of months.
The ‘goldilocks’ zone, where the price is not too cool to discourage needed production or too hot for economies to handle is a tiny range, between around US$80 a barrel and US$100 a barrel. As each cheap barrel of oil is used and has to be replaced with an expensive barrel, the floor on oil prices rises. With each price shock, the ability of economies to handle high prices weakens – to the point where the goldilocks zone doesn’t even exists and you need a long-term series of recessions to get demand down to a viable level. Arguably, we’re already at that point.
When it comes to food, though, the situation is worse. Most people aren’t able to cut their food intake. A food price shock doesn’t just equal global recession, it means starvation as the poorest are excluded from the market entirely while the rich can afford to continue feeding human-edible grain to livestock.
Again, the balance between production capacity at an affordable price and demand is razor thin and deteriorating. In seven of the last eleven years, the world’s annual grain harvest was less than annual grain consumption. In the past decade, 45 million tonnes more grains were consumed than produced, the first decade in the last five where the world ran down its reserves, rather than adding to them.
As for metals, the problem is the same story of the best already being gone. The densities ores have been exploited and, by a peculiar geological trait called the mineralogical barrier, ore densities don’t trail off nicely – there are dense ores that we can exploit and have exploited and there are extremely low-density ores that contain most of the planet’s metals and that would be too energy-intensive to exploit (especially with rising energy prices). At least metals can be recycled but world metal prices are skyrocketing nonetheless because there isn’t enough for new demand and rising living standards.
Ultimately, the technological solutions to these problems will require accessing solar and other renewable energy a lot more cheaply in vast quantities, and innovations in biotechnology and materials science. We don’t have those solutions yet but we do have the crisis. As a country, New Zealand can benefit both in terms of its own economic independence and as a world leader and exporter if it pours research funding into these areas. And that funding has to remain uninterrupted through a cycle of recessions. Because what we’re doing now can’t and won’t last.