The Great Oil Swindle

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by Chris Martenson, Peak Prosperity:

When it comes to the story we’re being told about America’s rosy oil prospects, we’re being swindled. 

At its core, the swindle is this: The shale industry’s oil production forecasts are vastly overstated.

Swindle:  Noun  – A fraudulent scheme or action.

And the swindle is not just affecting the US.  It’s badly distorted everything from current geopolitics to future oil forecasts.

The false conclusions the world is drawing as a result of the self-deception and outright lies we’re being told is putting our future prosperity in major jeopardy. Policy makers and ordinary citizens alike have been misled, and everyone — everyone — is unprepared for the inevitable and massive coming oil price shock.

An Oil Price Spike Would Burst The ‘Everything Bubble’

Our thesis at Peak Prosperity is that the world’s equity and bond markets are enormous financial bubbles in search of a pin. Sadly, history shows there’s nothing quite as sharp and terminal to these sorts of bubbles as a rapid spike in the price of oil.

And we see a huge price spike on the way.

As a reminder, bubbles exist when asset prices rise beyond what incomes can sustain.  Greece is a prime recent example. In 2008 when the price of oil spiked to  $147/bbl, Greece could no longer afford imported oil. But oil is a necessity so it was bought anyway, their national balances of payments were stressed to the point that they were exposed as insolvent and then their debt bubble promptly and predictably popped.   The rest is history.  Greece is now a nation of ruins and their economy might as well be displayed alongside the Acropolis.

What happened to Greece will happen to any and every financially marginal oil-importing nation. As a reminder, the US still remains a net oil importer (more on that below).

Well, if you thought that world debt levels were dizzyingly high back at the beginning of the Great Recession in 2008, then you might want a fainting couch nearby before looking at this next chart:

(Source)

Global debt is a full $68 trillion higher in 2017 than it was in 2007(!). In terms of global GDP that represents a whopping increase of ~50% (from 276% to 327%). 

At approximately 96 million barrels per day of oil consumption, each $10 rise in the price of oil per barrel means that oil consumers have to redirect an additional $960 million dollars each day(!) away from such things as profits, discretionary spending, and debt payments. Instead, that money is sent to the oil producers. 

So a future price shock that tacks on an addition $50/bbl to the current price (bringing the total price of oil back over $100/bbl) would translate into $4,800 million ($4.8 billion) per day. That’s some $1.7 trillion per year of “redirected spending” that used to go to some other purposes but will now go to oil producers and oil producing nations.

Without belaboring the details, at the margin plenty of economically viable companies, countries and individuals would suddenly become ‘unviable’ and go bankrupt. Their debt and equity holders, employees, and communities that service these companies, will be wiped out. 

This is why I love quoting Jim Puplava’s observation that the price of oil is the new Fed Funds rate.  It has more ability to determine the future of the economy than interest rates.

For example, if you want to bring credit growth into a screeching halt, just jack up the price of oil. That’s exactly what happened in 2008.

And it can — and very predictably will — happen again.

For reasons I’ll explain shortly (in Part 2), I project the next major upwards-surprise oil price spike to arrive somewhere between the second half of 2018 and 2020.  

The Middle East Is Now A Lot More Volatile

Now, if there’s a war in the Middle East that accelerates my timetable. Higher prices would arrive within weeks of the outbreak of hostilities, especially if they impact shipping traffic through the all-critical Strait of Hormuz.

As a quick reminder, roughly one third of all exported oil in the world passes through the Strait of Hormuz:

It’s a critical bottleneck. Even one missile flying towards one oil tanker will halt all oil shipments for quite some time.

Maritime insurers do not cover acts of war (see Rule 58) and the ship owners themselves will quickly stop shipments if it worried about taking massive losses on sunk tankers. 

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