Global Oil Trends: The Asia-Pacific Market in the 1990s 9789814379397

Table of contents :
Contents
List of Tables
List of Figures
Foreword
Acknowledgements
1. Introduction to the Global and Asia-Pacific Oil Markets in the 1990s
2. Understanding the 1990 Oil Crisis
3. The Shape of World Oil Markets in the 1990s
4. Prospects for Oil Product Trading in the Asia-Pacific Region
5. Development of the Oil-Refining Industry in the Asia-Pacific Region: Trends and Outlook
6. Oil and the Environment
Keynote Address
Keynote Address
Glossary and Acronyms
Contributors

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GLOBAL OIL

TRENDS

The ASEAN Economic Research Unit (AERU) is an integral part of the Institute, coming under the overall supervision of the Director who is also the Chairman of its Management Committee. The Unit was formed in 1979 in response to the need to deepen understanding of economic change and political developments in ASEAN. The day-to-day operations of the Unit are the responsibility of the Co-ordinator. A Regional Advisory Committee, consisting of a senior economist from each of the ASEAN countries, guides the work of the Unit. The Energy Project undertakes studies on energy demand situation and supply options including trading opportunities of energy sources and evaluates the various energy and oil security policies in the region. The focus of the project is on ASEAN countries, but the issues are examined in a broaderregional and international perspective. The Institute of Southeast Asian Studies (ISEAS) was established as an autonomous organization in 1968. It is a regional research centre for scholars and other specialists concerned with modern Southeast Asia, particularly the many-faceted problems of stability and security, economic development, and political and social change. The Institute is governed by a twenty-two-member Board of Trustees comprising nominees from the Singapore Government, the National University of Singapore, the various Chambers of Commerce, and professional and civic organizations. A tenman Executive Committee oversees day-to-day operations; it is chaired by the Director, the Institute's chief academic and administrative officer.

GLOBAL OIL TRENDS The Asia-Pacific Market in the 1990s edited by

Shankar Sharma Joseph L.H. Tan

1~111!!! ASEAN Economic Research Unit liilliilliiiiNSTITUTE OF SOUTHEAST ASIAN STUDIES

Published by Institute of Southeast Asian Studies Heng Mui Keng Terrace Pasir Panjang Road Singapore 05 11 All rights reserved. No part of this publication may be reproduced, stored in a retrieval system, or transmitted in any form or by any means, electronic, mechanical, photocopying, recording or otherwise, without the prior permission of the Institute of Southeast Asian Studies.

© 1991 Institute of Southeast Asian Studies The responsibility for facts and opinions in this publication rests exclusively with the authors and their interpretations do not necessarily reflect the views or the policy of the Institute or its supporters.

Cataloguing in Publication Data

Global oil trends : the Asia-Pacific market in the 1990s I edited by Shankar Sharma and Joseph L. H. Tan. l. Petroleum industry and trade--Asia. 2. Petroleum industry and trade--Pacific area. 3. Petroleum industry and trade--Environmental aspects. I. Sharma, Shankar. II. Tan, Joseph Loong Hoe. HD9576 056 1991 sls91- 142553 ISBN 981-3035-96-X (soft cover) ISBN 981 -3035-92-7 (hard cover) Typeset by International Typesetters Printed in Singapore by Kin Keong Printing Co. Pte. Ltd.

Contents

List of Tables List of Figures Foreword Acknowledgements 1.

2. 3. 4. 5.

6.

Introduction to the Global and Asia-Pacific Oil Markets in the 1990s Shankar Sharma and Joseph L.H. Tan

VI

vii viii

ix

1

Understanding the 1990 Oil Crisis Philip K. Verleger, Jr.

17

The Shape of World Oil Markets in the 1990s John L. Kennedy

38

Prospects for Oil Product Trading in the Asia-Pacific Region Kiyoshi Takahashi

56

Development of the Oil-Refining Industry in the Asia-Pacific Region: Trends and Outlook Shankar Sharma

69

Oil and the Environment Onnic Marashian

87

Keynote Address by H.E. Datuk Dr Sulaiman Hj. Daud Keynote Address by H.E. Korn Dabbaransi Glossary and Acronyms Contributors

107 114

122 132

List of Tables

1.1 Oil Demand by Region, 1973, 1979, 1983, and 1989 1.2 World Energy Demand by Source, 1973 and 1989 1.3 World Energy Production, 1973 and 1989 2.1 Comparison of Changes in Retail Prices Exclusive of Taxes in Gasoline and Heating Oil in Eight Countries 2.2 Comparison of Spot Prices of Light Petroleum Products in Rotterdam and the U.S. Gulf Coast 3.1 World Oil Reserves 3.2 Post-Invasion Forecasts 3.3 Non-OPEC Production 3.4 World Gas Reserves 5.1 Development of the Asia-Pacific Region's Refining Capacity and Configuration 5.2 Asia-Pacific Region's Oil Demand 5.3 Ratio of the Value of Output to the Value of Inputs, Singapore Refineries, 1975-88 5.4 Product/Crude Price Ratios, Singapore/United Arab Emirates 5.5 Asia-Pacific Region's Oil Demand by Product Group

3 7 8 30 32 42 44 46 54 72

73 75 76 78

List of Figures

1.1 Al.l Al.2 2.1 2.2 2.3 3.1 3.2 3.3 3.4 3.5 4.1 4.2 4.3 4.4 4.5 4.6 4.7 4.8

Chart of Events in the Oil Industry Steps in Petroleum, Gas and Oil, and Petrochemical Industries Oil Products and Uses Tenn Structure of Crude Oil Prices, End of January, June, and April 1990 Supply-of-Storage Curve Relationship between Stocks and Spreads Supply-of-Storage Curves: Comparison of Pre-Crisis and PostCrisis Relationships U.S. Import Dependency OPEC Supply and Demand Supply Outside the Centrally Planned Economies U.S. Oil Production Asia-Pacific Crude Production versus Export Availability Oil Product Demand for the Asia-Pacific Region, 1988 versus 1995 Demand Structure by Country in the Asia-Pacific Region, 1988 versus 1995 Oil Product Demand for the Asia-Pacific Region by Product, 1988 versus 1995 Crude-Refining Capacity in the Asia-Pacific Rim, 1990 versus 1995 Grading-Up Plans of Refining Units in the Asia-Pacific, 1990-95 Product Demand versus Topper and Upgrading Capacity, 1995 Inter-Regional Oil Product Trading Flows, 1988 Increases and Decreases in Inter-Regional Oil Product Trading Flows, 1988-95

2 12 13 20 21 28 40 43 45 47 49 57 59 60 61 63 64 66 67

Foreword

Even after two decades of dramatic changes in oil supply and prices, there are no signs that this volatility in the oil market is diminishing. Countries are still vulnerable to upheavals in energy prices and supply, as demonstrated by the energy problems triggered by the Iraqi invasion of Kuwait in 1990. Among other things, the crisis disrupted oil supply, raised oil prices, fuelled inflation, and adversely affected economic growth, especially in oil-importing developing countries in the Asia-Pacific and beyond. Market volatility adds to the complexity of analysing and predicting the oil market. Non-economic factors, such as the Gulf crisis, further complicate the analysis. Nevertheless, the strong relationship between oil and the economy makes evaluation of the oil market essential. This book, one of the first few volumes about the oil market published in the aftermath of the Gulf War, provides insight into current issues and challenges facing the oil market. It focuses on the Asia-Pacific, an economically dynamic region. The region's oil demand has been the highest in the world for the last two decades and this is expected to continue into the future. Although the region accounts for only about one-fifth of world oil consumption, almost one-half of the increase in world oil demand is expected from this region. We hope that the book will be of use to those interested in the global oil market in general and the Asia-Pacific market in particular. K.S. Sandhu Director Institute of Southeast Asian Studies Singapore

Acknowledgements

The editors take this opportunity to express their gratitude to all those who provided help and encouragement in various ways and at different stages in the publication of this volume. We are most appreciative of the time and effort committed to the revision and polishing up of the regional conference papers by the authors (in alphabetical order): John L. Kennedy, Editor, Oil and Gas Journal; Onnic Marashian, Editor-in-Chief, Platt's Oilgram News; Kiyoshi Takahashi, Chairman, Showa Shell Sekiyu Kaihatsu K.K., Japan; and Philip K. Verleger, Jr., Visiting Fellow, Institute of International Economics. The original versions of the papers (with the exception of Shankar Sharma's contribution) were first presented at the Sixth Asia-Pacific Petroleum Conference, 17-19 September 1990, Singapore, organized by Times Conferences (a member of the Times Publishing Group, Singapore), under the auspices of the Institute ofSoutheast Asian Studies and supported by the Singapore Economic Development Board, Singapore Trade Development Board, and the Port of Singapore Authority. We would also like to thank particularly Mr Michael Liew, Senior Vice-President, Education, Conference and Travel Division of Times Publishing Group, for his help and co-operation in this endeavour.

1 Introduction to the Global and Asia-Pacific Oil Markets in the 1990s SHANKAR SHARMA AND JOSEPH L.H. TAN

The global oil industry, indeed the largest industry in the world, has gone through profound and dramatic changes since 1973 (see Figure 1.1). Undoubtedly, the latest and most dramatic crisis is that of the Middle East, precipitated by the Iraqi invasion of Kuwait on 2 August 1991 and its aftermath. 1 Oil is, and will be, the single most important source of energy in the world for the foreseeable future, mainly because of the more than ample global supply and reserves, easy transportability, and unavailability of economically and technically feasible substitutes for most oil products. In 1989, oil accounted for 39 per cent of the total primary energy consumption as against 28 per cent for coal and 21 per cent fornatural gas. The combined share of nuclear and hydropower was only 12 per cent. The Asia-Pacific region has been of vital importance to the world oil market for various reasons. The economies of the region have demonstrated general, sustained dynamism. Most of the countries have adopted relatively successful market-oriented, outward-looking policies and have achieved higher economic growth rates. This region's demand for energy, especially oil, in the last two

FIGURE 1.1 Chart of Events in the Oil Industry r------~

1 1

0 years (mid-1 970s)

1 1

Consumption decreases

Conservation Product switching

I_----- _I High prices Lack of supply

Investment increases and new exploration, production, reserves increase

World economic growth slows down (Inflation rises _ ,.. world central banks increase interest rate unemployment rises foreign exchange volatility increases)

I

>--

I

Consumption decreases

r------ ~

1 1

±10 years (mid-1980s)

1 1

I_- ---- _I

World economic growth rises 1 - - - - - - - - - - - - - - - - - -- --.,

Investment decreases and new exploration, production, reserves decrease r------~

1

1

±20 years (mid-1990s)

-------

I

1

1 I

SouRcE: Koutsomitis ( 1990, p. 326).

~

3

Introduction to the Global and Asia-Pacific Oil Markets in the 1990s

decades has been the highest in the world, and this trend is expected to continue. Significantly, there is agreement even in the forecast that about half of the future increment in world oil demand is expected to come from the Asia-Pacific region.

The Global Oil Market Even before the oil shock of 1973, world oil demand was rising rapidly. For instance, the demand for oil grew by almost 9 per cent in 1970, most of the incremental demand coming from the Western European countries and Japan. The United States was the biggest consumer of oil, accounting for 30 per cent of world consumption, followed by Western Europe with 27.5 per cent, and the Asia-Pacific region with 15.7 per cent. World oil demand grew by more than 7.6 per cent in 1970-73; but the growth rates were smaller during 1973- 89 than before (Table 1.1).2 The quadrupling of oil prices in 1973-74 forced several distrupti ve changes and adjustments in the oil market, the most important impact being on oil demand. 1974 saw the first decline in the demand for oil, the first since World War II, this decline in demand being mainly in the developed countries. As oil is a strategic commodity, which is vital in fuelling industries, the oil crisis generated recessionary traumas throughout the world economy in 1974-75. With the dramatic and sharp rise in oil prices, there was concerted effort to look for alternative energy resources and efforts to conserve energy became widespread. Higher oil prices provided the incentive for oil exploration even in areas that did not look promising earlier. With the second oil shock of 1979-80 oil prices escalated by two-and-ahalf times. These oil crises curtailed not only the world demand for oil but also that for primary energy, and the share of oil in energy consumption thus declined even further. Conservation programmes were intensified. Driven by the prospects of greater profits, oil exploration and production in the non-Middle Eastern

TABLE 1.1 Oil Demand by Region, 1973, 1979, 1983, and 1989 (In thousand barrels per day) Region

1973

1979

1983

1989

1973- 89*

North America Western Europe Asia-Pacific Others

18,625 14,905 9,310 14,205

19,825 14,650 11 ,140 18,510

16,220 11,940 10,025 19,875

18,345 12,510 13,060 20,820

-0.1 -1.0 3.1 2.5

Total

57,045

64,125

58,060

64,735

0.8

*Average annual growth rate. SouRCE: British Petroleum (various issues).

4

Shankar Sharma and Joseph L.H. Tan

countries increased tremendously. The Middle East share in oil production declined, from about 30 per cent in 1980 to 19 per cent in 1985. The second oil crisis triggered another recession in 1980-83, the longest in fifty years. Although the impact of the oil crises was felt with varying intensities in different countries, in general, the world economy slowed down considerably and the economic stability of many countries was threatened, if not seriously disrupted. However, while the oil price collapse of 1986 was disastrous for countries of the Organization of Petroleum-Exporting Countries (OPEC), it triggered off some positive repercussions on the world economy as a whole. But conservation efforts were slowed down, the competitiveness of alternative energy resources was eroded, the demand for oil made an upturn, and high-cost oil exploration did not look as promising as it did earlier. Diverse changes and adjustments have pervaded all sectors of the international oil industry - from upstream activities of prospecting for oil, its discovery and production, to downstream activities of refining and marketing a wide range of products derived from oil (see Appendix Figures Al.l and A 1.2).3 Major institutions involved in the international oil business have also experienced substantial and substantive changes. Most notably, the global oil industry has been transformed from one dominated by a few relatively large, fully integrated, multinational oil companies to one in which governments in both producing and consuming countries play extremely significant or strategic roles in a market consisting of a large number of small buyers and sellers. 4 Large oil companies (like Exxon, Royal Dutch Shell, British Petroleum, and so forth), however, continue to maintain a key role in exploration and developments outside OPEC,5 and in the refining and marketing of refmed products globally and in the Asia-Pacific region (Fesharaki and Yamaguchi 1991). The full impact of the Iraqi invasion of Kuwait is not yet known but the world oil market was again temporarily in a turmoil. The crisis pushed oil prices up again and the economies of net oil-importing countries suffered varying degrees of severity. The crisis of 1990/91 turned out to be of short duration, fortunately; but it created a multitude of problems- pressure in balance of payments, inflation, and the curbing of economic growth in many oil-importing developing countries. In contrast to the oil shocks of the past, this crisis inflicted greater adversity, such as reduced remittances as a result of the loss of millions of job held by workers from developing countries. In relative terms, however, the overall impact was not as disastrous as it was in 1973- 74 or 1979-80, for mainly two reasons. First, the extent of oil price increases was only about 50 to 60 per cent compared with the quadrupling ofoil prices in 1973-74 and the two-and-a-halftimes increase in 1979- 80. The high oil prices came down to the pre-crisis level around the end of the 1990-91 Gulf war. Second, efficiency in oil use improved substantially after 1973; for example, oil intensity declined by about 40 per cent in countries of the Organization for Economic Co-operation and Development (OECD) between

Introduction to the Global and Asia-Pacific Oil Markets in the 1990s

5

1973 and 1989. Verleger's contribution in this volume provides insightful and cogent analyses of the energy crisis of 1990. Some of his conclusions are as follows: 1.

In contrast to earlier crisis, the oil commodity markets continued to function well despite the disruption. The problems associated with the October 1987 stock market crash did not happen during the first two months of the oil crisis. 2. Developed countries cannot rely on a free-market policy to deal with an energy crisis. Political priorities dominate economic reasoning even in the best of circumstances. 3. The existing mechanism ofco-operation developed by consuming nations to deal with market disruptions remains to be corrected and improved upon. 4. Consuming nations need to develop much larger strategic stocks to meet future crises. 5. Strategic stocks have to be supplemented with a strategic refining capacity that is capable of upgrading heavy residual fuel oil into light products. What is the general outlook and specific features of the future oil market, at least for the 1990s? This is a complex and difficult question. The global oil trend is indeed a matter of informed conjecture and gutsy speculation: Predicting the oil market, even in the short term, is a hazardous business, more forcasts made in the past ten years have been very much in error. None the less it can be useful to estimate the range of possibilities and analyze what combinations of circumstances are likely to produce one outcome versus another.6 (Deagle 1983 p. 13)

However, when their limitations are recognized and always borne in mind, the various trends and forecasts presented in the chapters in this volume are useful. Indeed, at the heart of the difficulties in forecasting pulsate a number of imponderables in the behaviour of supply and demand of the international oil market, including the following: 1. uncertainties in determining the global expansion of production capacity of oil and gas; 2. development potential and progress in alternative sources, particularly coal, nuclear power, and heavy oil; 3. OPEC members' "desired" level of production and capacity utilization; 4. non-OPEC suppliers' expected supplement to OPEC production; 5. the uncertain economic growth rate in the major oil-consuming countries, and, to a lesser extent, the trends of development within OPEC and the other developing countries; 6. the unclear trend in energy conservation in terms of both increasing

6

Shankar Sharma and Joseph L.H. Tan

7. 8. 9. 10.

energy efficiency and changes in life-styles; the unpredictable behaviour of oil prices; the effects of price and income elasticities of the demand for oil; nuclear accidents such as that at Chemobyl in 1986; and political turmoils such as the Gulf crisis of 1990.

Supply and demand uncertainties are associated with a variety of noneconomic variables which render projections particularly hazardous. Compounding these difficulties is the reality that the determinants of supply and demand are not unrelated. For instance, economic growth in developing as well as industrial countries are dependent on the price ofoil and its efficiency in use. The development of alternative energy sources in oil-importing countries and the output targets of the OPEC countries are also dependent on a certain sustained level of crude prices. None the less, the contributions by Kennedy and Maharashian (especially on oil and environmental issues) have provided detailed analyses of the future global outlook of the oil market under different scenerios. But, what one can see is that despite problems and short-term fluctuations, the world has plentiful supplies of fossil fuel. Oil reserve is high and the price of oil is expected to remain competitive. An adequate oil supply and reserve and the presence of alternative energy resources (even though to a limited extent) will allow oil prices to rise only moderately. The global demand for oil will grow modestly (about 1.7 percent per annum) in this decade. Transportation will be the sector with the fastest-growing demand for oil; and developing countries will have the fastest growth in the demand for oil. The pressure to reduce oil consumption (for that matter, fossil fuel) for environmental reason will intensify in the 1990s. On average, the burning of petroleum-based liquids produces 50 per cent more carbon dioxide than the burning of natural gas. On the other hand, the combustion of coal produces I 00 per cent more carbon dioxide than oil. As a consequence, the contribution of natural gas in world demand is expected to increase in future. Environmental constraints could be the greatest challenge to the petroleum industry in future. 7 It is expected that the rising global oil demand and declining non-OPEC share in the world oil market will make the world more dependent on the Middle East for its future oil supply. The world's dependence on OPEC is expected to increase from 60 per cent in 1990 to 80 per cent in 2000.8 Therefore, for the sake of world peace and economic growth, stability in the Middle East is of vital importance.

The Asia-Pacific Region The role and importance of the Asia-Pacific region in the global oil market is increasingly being recognized. The region has experienced and will continue to

Introduction to the Global and Asia-Pacific Oil Markets in the 1990s

7

experience the fastest growth in oil demand in the world. In 1989 the Asia-Pacific region accounted for about 21 per cent of world energy consumption, but more than 52 per cent of the world's population. The average per capita energy consumption of the region was thus only 530 kg. of oil equivalent (kgoe) in 1989 compared with the world per capita consumption of 1,345 kgoe. The per capita energy consumption within the region varies, however, from about 20 kgoe in Nepal to more than 5,000 kgoe in Australia. Energy consumption in the Asia-Pacific region grew by an average annual rate of about 5.6 per cent per annum as against the world demand growth rate of 2.5 per cent between 1973 and 1989 (Table 1.2). There were a number of reasons for the higher energy demand. The economies of the region grew rapidly; the industrial sector expanded significantly; the agricultural sector became more commercialized. The increase was also due to higher population growth and rapid urbanization. The substitution of commercial energy for traditional fuels - wood and charcoal substituted by kerosene and liquefied petroleum gas [LPG]) - also raised the share of energy demand. However, in the Asia-Pacific region, average growth rates of energy demand during 1973-89 were smaller than growth rates in the 1960s. Coal is the major source of energy in the region, accounting for 47.4 per cent of total energy consumption in 1989. China is a major consumer and producer TABLE 1.2 World Energy Demand by Source, 1973 and 1989 (In percentages) 1973 World

Oil Natural gas Coal Nuclear energy Hydroelectricity Total

1989

Asia-Pacific

48.5 18.6 30.6 0.4 1.9

47.7 2.4 45.7

100.0

100.0

4.2

World

Asia-Pacific

38.7 21.3 27.8 5.6 6.6

35.9 7.1 47.4 3.9 5.7

100.0

I 00.0

Total demand in million tons of oil equivalent

5,705.3

911.2

8,013.3 (2.5)

1,722.2 (5.6)

Nom: Numbers given within parentheses are average annual energy consumption growth rates between 1973 and 1989. SouRCE: British Petroleum (various issues); United Nations (various issues); Asian Development Bank ( 1989).

8

Shankar Sharma and Joseph L.H. Tan

of coaJ. The country accounts for 62 and 67 per cent in the production and consumption of coal in the region. If China and India, which are the major consumers of coal, are excluded, then oil is the major energy source for almost all countries in the region. Countries such as Singapore depend 100 per cent on imported oil for its energy consumption. The oil shocks of the 1970s forced oil-importing countries of the Asia-Pacific region to increase their oil exploration activities to expand production, to develop and increase the use of alternative energy resources, and to diversify the source of imports to minimize supply disruption. The oil and non-oil energy production in the Asia-Pacific region in 1973 and 1989 is given in Table 1.3. The table shows that oil production in the region increased from 165 million tonnes of oil equivalent (toe) in 1973 to 307 million toe in .1989. The increase in production was mainly in China, Malaysia, and India. Similarly, between 1973 and 1989 the production of non-oi l energy resources increased from about 472 million toe to 1,065 million toe in the region. The most remarkable growth of production was observed in natural gas and coaJ. A rising oil consumption in the region and the forecasted decline in production beginning from J 995 will raise the import-dependence of the region in future. Oil reserves in the Asia-Pacific region amount to only 6.2 billion to ones, accounting for only 4.5 per cent of world reserves. At the present rate of production, the reserve life of oil is only about twenty years. The region 's dependence on oi l imports from the Persian Gulf is forecast to increase from 73 per cent in 1990 to 90 per cent in 2000.9 Conservation efforts have not been very successful in developing countries of the Asia-Pacific region. Between 1973 and 1988, energy intensity in the AsiaTABLE 1.3 World Energy Production, 1973 and 1989 ( In million tons of oil equivalent) 1973

1989

World

Asia-Pacific

World

Asia-Pacific

Oil

2,872

165

3,090

307

Non-oil Natural gas Coal Nuclear energy Hydroelecrricity

2,725 1, 108 1,538 79

472 31 388 53

4,915 1,707 2,231 451 526

1,065 13 1 768 67 99

Total

5,597

637

8,005

1,372

SouRCE: British Petroleum (various issues); United Nations (va rious issues).

Introduction to the Global and Asia-Pacific Oil Markets in the 1990s

9

Pacific region declined by less than an average of 2 per cent. This is very small compared with the energy intensity decline of about 30 per cent in the OECD countries during the same period. On the other hand, oil intensity declined by more than 20 per cent, achieved mainly by pricing instruments and technological adjustments. The greater number of oil-efficient vehicles used after the oil crises was the result of a direct shift in the technological characteristics of the vehicle stock. 10 Diverse yet complementary perspectives to the Asia-Pacific region's oil market situations are presented by Kiyoshi Takahashi and Shankar Sharma in this volume. A number of salient trends 11 and expected characteristics of the future regional oil market can be summarized as follows: 1. This region, having the biggest population and the highest potential for economic growth than any other region in the world, will boost energy and oil demand. 2. The oil demand in the region is expected to grow by 3 to 4 per cent per annum under a moderate price scenario in 1990-2000. Almost 50 per cent of the incremental world oil demand is expected to come from this region. 3. Regional production will increase in the near term but is expected to decline gradually from the mid-1990s. 4. Since demand is rising much faster than production, exports could begin a very sharp decline after 1992, even before production starts declining in the mid-1990s. 5. The imbalance in supply and demand of petroleum products is expected to intensify due to differences in production and consumption patterns and refining capacity. These gaps will promote intra-regional oil product trading and interdependency will increase. 6. The Middle East will continue to play a major role in balancing the gap in regional oil demand and supply. 7. Refinery capacity surpluses will be tightening through 1995 and refining margins and profitability will continue to rise. 8. Almost 90 per cent of the ~olume of incremental demand will consist of the white cut of the barrel. 9. Rising environmental concerns will put emphasis on the production of more oil products that are "friendly" to the environment. Many countries have started tightening up standards on various oil products, and the region as a whole will further tighten standards on oil products. 10. Substantial investments are required for the improvement of the quality of oil products and the expansion and upgrading of such products. 11. Declining oil production, rising environmental concerns, and a relatively high reserve life of natural gas provides better prospects for the

10

Shankar Sharma and Joseph L.H. Tan

development, domestic utilization, and export of natural gas in the region. The share of natural gas is expected to increase in the future. In addition to the above general observations, a number of notable points or observations raised in the keynote addresses at APPEC '90 by two prominent ASEAN Energy Ministers, H.E. Datuk Dr Sulaiman Hj. Daud and H.E. Korn Dabbaransi (the full text of these addresses are given at the end of this book), concerning regional co-operation for the ASEAN/Asia-Pacific region can be highlighted for consideration: 1.

2.

3.

4.

5.

The Asia-Pacific region should not only explore but provide a lead in energy diversification. The region has a substantial and varied energy resource base (including oil, gas, hydroelectricity, and geothermal sources). As for oil, it is unlikely that regional production capacities will match the increasing demand. On energy production and utilization, policy-oriented as well as academic research must continue or even be intensified. This applies to techniques of extraction, transformation, and use. The Asia-Pacific region must prioritize concerns ofenvironmental impact arising from carbon monoxide emissions. Continued research is necessary to enable energy resources to contribute fully to maintaining sustainable development in the longerterm future. A large amount of capital is required for investment in infrastructure to diversify and to reduce the reliance on oil and to embark on an effective programme on environment protection. Mobilizing such an amount of capital calls for stability in the capital and currency markets, which developed countries can help by influencing international fmancial markets through their macroeconomic policies. The development of the energy economies of the Asia-Pacific region can be helped by regional co-operation and co-ordination in technology development to promote the flow of technology transfer and by increasing co-operation in training and human resource development. The private sector can perhaps be given a greater role in contributing to energy development not only in individual countries (such as Thailand) but in the regional context as well. Hence, attempts to remove or relax any regulatory restrictions will promote private investment in the oil industry.

Conclusions As oil accounts for 39 per cent of the global energy requirement it is difficult to change the dominant position of oil in the foreseeable future. However, changing production patterns and the export capability of individual countries will bring about changes to the market. The importance of OPEC, and especially the Middle

Introduction to the Global and Asia-Pacific Oil Markets in the 1990s

II

East, for future oil supply is expected to increase because of the projected decline in non-OPEC oil production. Environmental implications of energy uses will be among the major debates of the 1990s. Since more than 85 per cent of the global energy requirements are met by fossil fuels and as it is difficult to change the structure of energy supply over the medium term, developed countries will be actively involved in seeking technological possibilities to help reduce the detrimental impact of the usage of fossil fuel on our environment (Ott 1990). This will also be the greatest challenge for the petroleum industry in the 1990s. The world is now better prepared and able to minimize the impact of fluctuations in oil prices than it was in the 1970s. Countries, especially oil importers, have intensified efforts to replace oil by alternative energy resources and have significantly reduced oil and energy intensity. Similarly, many oilexporting countries have diversified their economies and are now better equipped than they were in the 1970s to absorb the shock of lower oil prices. But industrialized countries have been more successful than developing countries in these respects, as demonstrated by the energy problem of 1990. Developing countries are still highly vulnerable to fluctuations in oil prices. Environmental issues as well as problems of vulnerability to oil prices and supply are global concerns. It would be helpful, even desirable, if oil producers as well as consumers can co-operate and come up with a certain mechanism by which they can minimize the adverse effects of disruptions in the oil market and reduce the detrimental impact of fossil fuel uses on the environment. The significance of the Asia-Pacific region is expected to increase even further in the world oil market in future. The region's oil demand will continue to grow at rates higher than that of any other region in the world. High proportions of white cut of the barrel in the incremental demand, tightening product specifications, rising oil demand, and declining export availability would attract investment in the energy sector and promote intra-regional trading in oil products. The scope of co-operation for ASEAN and the Asia-Pacific region exists in the linkage between energy, economic development, and the environment. And in this context, the challenge contained in the following words of Indonesian Oil Minister and Secretary-General of OPEC bears reiteration: A regime of international co-operation, involving governments, industry and many other bodies and institutions will be needed to come even close to the results currently seen as being required. Furthermore, human society will expect more of the oil industry over the next decade. Now that ideological barriers are being dismantled between the East and the West, it is surely conceivable that there can be a transfer of capital and technology from the North to the South, so that we can arrive at an energy system where energy, environment, growth and development proceed in harmony. (Subroto 1990)

12

Shankar Sharma and Joseph L.H. Tan

APPENDIX FIGURE A l.l Steps in Petroleum, Gas and Oil, and Petrochemical Industries

E

Ill

cu.!!

... -

G>-

-Ill;; >

Q.U :::)c(

Natural gas

liquids: naphtha, natural gasoline, gas oil, etc.

Wholesalers

liquids: natural gasoline, LPG, etc. Basic petrochemicals

j

1

Filling stations

Consumers

Processing/finished products

I

Consumers

SouRcE: Sippanondha (1991, fig. 3).

j

APPENDIX FIGURE AI.2 Oil Products and Uses Cooking Heating Motor fuel Metal cutting Welding Refrigerants Fruit ripening Propellants

Poly( ethene) Poly(phenylethene) Polyester fibres Anti-freeze Paint solvents Inks Paints Rubber

Liq uified gas

Petrol Aviation fuel Gas generating Lighter fuel White spirit Rubber solvent Lacquer diluent Seed extraction Dry cleaning Fly sprays Aromatics Nylon Perspex Paints Lacquers Foams

Tractor fuel Farm machinery fu el Lamp oil Home heating Greenhouse heating Incubating Cattle sprays Metal extraction Medicinal oils Salves and creams Food machinery oils Fruit preserving Egg preserving Orchard sprays Transformer oils Capacitor oils Circuit breaking oils Electric cable oils

Kerosene

White

Chemicals

Road diesel Railway diesel Marine diesel Industrial fuel Carburation oil Absorber oil

Electrical

Metal cutting Metal working Quenching Tempering Hydraulic oils Heat transfer oils Texti le oils Leather oils Floor oils Printing ink Motor oils Aviation oils Marine oils Diesel oils Gear oils Transmission oils Journal oi ls Spindle oils Automotive greases Turbine oils Extreme pressure Compressor oi ls grease Refrigerator oils Open gear grease Household oils Ship launching Cable grease Waterproof grease

Waxed paper Waxed board Can linings Matches Candles Grafting trees MedicaVdental use Waterproofing Polishers Insulating

OILS

Chemicals

Marine fuel Industrial fuel Power station fuel Metallurgical uses Wood preservatives

Petroleum jelly Petrolatum Ointments ....._,-=~"-=-­ Cosmetics Rust preventives Lubricants Road asphalt Paving Floor coatings Waterproofing Soil stabilization Briquetting Paints Insulation

Plastics Synthetic fibres Synthetic rubbers Detergents Dyestuffs

Carbon electrodes Carbon brushes Fuel

Bitumen

-.....=..~..;.;...---,

Sludges

Sulphonates Saponifying agents Emulsion breakers

SoURcE: Sinclair ( 1984, diagram 2.5, p. 22).

14

Shankar Sharma and Joseph L.H. Tan

NOTES

I. SeePetroleumEconomist ("Gulf Conflict Special"), September 1990, which contains seven wide-ranging and succinct analyses. 2. For a detailed historical analysis of global oil trends and energy market, see Evans (1986). 3. For a good overview illuminating the details of oil, oil products, and oil refining, see Sinclair (1984, chaps. 2 and 3). 4. See Tetreault (1985), particularly chap. 2, "The Changing Structure of the World Oil Market". 5. See "The History of Evolution of OPEC" in Pachauri (1985, pp. 53- 76); Merchant (1990). 6. This reflects the consensus of views of thirty most influential decision-makers in the global oil industry. 7. Increased production, distribution, and consumption of all commercial energy contribute negatively to the environment. For the explanation on how increasing environmental awareness and concerns may affect the pattern of energy consumption mix in the future, see Ott (1990) and Klass (1990). 8. For a discussion of the global and Asia-Pacific oil supply/demand balance and their dependency on OPEC, see Fesharaki and Yamaguchi (1991). 9. For further discussions, see Fesharaki and Yamaguchi (1991). 10. For energy intensity in the OECD countries and in the Asia-Pacific region, see Tabti and Brennand (1988) and Asian Development Bank (1989). 11. See the article by Bourne (1990) for a similar perception or prognosis of demandled trends for the 1990s in the global oil market for reasons including the following: Firstly, the oil market is essentially responsive to global demand whether for the purposes of immediate consumption or for longer term stockpiling. Secondly, the impact of August 2 Iraqi invasion of Kuwait, and the sudden and substantial oil price spi.ke, might actually reduce supply in the near/short term. The initial reaction to the Gulf conflict was a rush by refiners and users to boost inventories as well as planning to switch out of oil to alternative energy. Attempts to reduce oil consumption in the U.S. and Western Europe, and marked increase in product prices in the Far East, coupled with widespread retail gasoline price hikes globally in the wake of the Iraqi invasion could strongly stimulate conservation measures. Thirdly, the influence of environmentalists since the 1979 oil crisis has grown tremendously and under present circumstances the environmentalist lobbies are a force to contend with in many countries (Bourne 1990, p. 11).

SELECT BIBLIOGRAPHY Amuzegar, Jahangir. Oil Exporters' Economic Development in an Interdependent World. Occasional Paperno. 18. Washington, DC: International Monetary Fund, Aprill983. _ __

. "Oil and a Changing OPEC". Finance and Development, September 1990.

Introduction to the Global and Asia-Pacific Oil Markets in the 1990s

IS

Asian Development Bank. Energy Policy Experience of Asian Countries. Manila, 1987.

_ _ _ . Energy Indicators of Major Developing Member Countries. Manila, 1989. Borpujari, Jitendra G. and Melhem F. Melhem. "Adjustment in Major Oil Exporting Countries". Finance and Development, September 1990, pp. 39-45. Bourne, Ian, ed. "Wither OPEC Production Now?" Petroleum Economist 51, no. 9 (September 1990): 8-14. Braden, J.B. and C.D. Kolstad. Measuring the Demand for Enviromental Quality. Amsterdam: North-Holland, 1991. Bradley, Robert L., Jr. The Mirage of Oil Protection. Maryland: University Press of America, 1989. British Petroleum. BP Statistical Review of World Energy. London, various years. Conoco. World Energy Outlook Through 2000. Houston, 1989. Deagle, Edwin A., Jr. The Future of the International Oil Market. New York: Group of Thirty, 1983. Evans, John. OPEC, Its Member States and the World Energy Market. London: Longman, 1986. Fesharaki, F. and N. Yamaguchi. "A Decade of Change in the Asian-Pacific Region: The Energy Outlook and Emerging Supply/Demand Imbalance". In Energy Market and Policy inASEAN, edited by Shankar Sharma and Fereidun Fesharaki. Singapore: Institute of Southeast Asian Studies, 1991. International Energy Agency. Oil and Gas Information 1986-1988. Paris: International Energy Agency, 1989. Klass, D.L. "Fossi I Fuel Usage and the Environment". Paper presented atthe Asian Nat ural Gas II Seminar, 9-11 April 1990, Singapore. Koutsomitis, Dimitrios. "Petroleum Price Trends to the Year 2000". OPEC Review: An Energy and Development Forum XIV, no. 3 (September 1990): 295-326. Lambert, Jeremiah D. and Fereidun Fesharaki. Economic and Political Incentives to Petroleum Exploration: Developments in the Asia-Pacific Region. Maryland: University Press of America, 1990. Lapillonne, B., ed./nternational Energy Policy Seminar on Energy Development in SouthEast Asia and Cooperation with the European Communities. Bangkok, Thailand: Asian Institute of Technology, for Centre International de Formation en Politique Energetique (CIFOPE), France, 1990. Merchant, Keith. "OPEC in the Third Decade: Coping with the Glut". OPEC Review XIV, no. 3 (Autumn 1990). O'Brien, D.J. "Outlook for the Asia-Pacific Oil Markets and the Implications for the

16

Shankar Sharma and Joseph L.H. Tan Downstream Sector''. Paper presented at the Asia-Pacific Petroleum Conference '90, 17-19 September 1990, Singapore.

Olorunfemi, Michael A. "Future Oil Supplies". OPEC Review: An Energy andDevelopment Forum XIV, no. 3 (September 1990): 275- 94. Ott, Gerhard. "The Current Global Energy Scene". WorldEnergyCouncilJournal, December

1990. Pach~uri, R.K. The PoliticalEconomyofGlobal Energy. London: Johns Hopkins University

Press, 1985. Pereira, Armand, Alistair Ulph, and Wouter Tims. Socio-Economic and Policy Implications of Energy Price Increases. Aldershot, Brookfield: Gower, 1987.

Petroleum Economist ("Gulf Conflict Special") 57, no. 9 (September 1990): 5-7. Reed, Robert G. III and Fereidun Fesharaki, eds. The Oil Market in the I990s. London: Westview Press, 1989. Sharma, ShankarandFereidun Fesharaki. Energy Market and Policy inASEAN. Singapore: Institute of Southeast Asian Studies, 1991. Sidney, Reso J. "Petroleum and Petrochemicals: The Outlook". Paper presented at the

international conference on The ASEAN Countries and theWorld Economy: Challenge of Change, 3- 5 March 1991, Bali, Indonesia. Sinclair, Stuart. The World Petroleum Industry: The Marketfor Petroleum and Petroleum Products in the 1980s. England: Facts on File, 1984. Sippanondha Ketudat. "Petrochemical in ASEAN: The Outlook". Paper presented at the international conference on The ASEAN Countries and theWorld Economy: Challenge of Change, 3- 5 March 1991, Bali, Indonesia. Subroto, H.E., Secretary-General of OPEC. "Towards Harmonization of Sustainable Development and Environment: An OPEC View". Paper presented at the Fourth Symposium on Pacific Energy Co-operation, 29-30 January 1990, Tokyo. Tabti, Mohamed-Tahar and Garry Brennand. "Energy Indicators". OPEC Review XII, no. 3 (1988). Tetreault, Mary Ann. Revolution in the WorldPetroleumMarket. Westport, CT and London: Quorum Books, 1985. Wijetilleke, L. World Refinery Industry. World Bank Technical Paper no. 32. Washington, DC: World Bank, 1984.

2 Understanding the 1990 Oil Crisis* PHILIP K. VERLECER, }R.

The cause of the Iraqi invasion of Kuwait on 2 August 1990 - and hence of the world-wide energy crisis that it precipitated - was economic, although the issue was one that might not appear immediately relevant to consumers at the pumps. For several months preceding the invasion, Iraqi President Saddam Hussein had been asserting, with some justification, that Kuwait was in effect engaged in an economic war with Iraq, stealing oil from the disputed Rumaila field and producing in excess of its OPEC (Organization of Petroleum-Exporting Countries) quota. The validity oflraq 's assertions has never been adjudicated by the international community, before or since the invasion. Instead, on 6 August the United Nations imposed an immediate and nearly total embargo on oil exports from Iraq as well as on Kuwait, which Iraq had by then absorbed. This embargo removed almost 5 million barrels per day of oil from the world market. Most of the lost supply was in the form of crude oil. However, the embargo also forced the shutdown of sophisticated export refineries in Kuwait that at the time of the invasion were producing 750,000 barrels of refined products per day, including a large share

18

Philip K. Verleger, Jr.

of the industrial countries' supply of light products such as gasoline, jet fue l, and heating oil. The embargo provided consuming nations with their fi rst opportunity to test the emergency programmes designed and implemented in the last two decades to deal with just such a sudden loss of oil supplies. Today, more than sixty days after the embargo began, it is clear that these programmes have failed. Prices of crude oil almost doubled in the wake of the invasion. Prices of jet fuel tripled. Yet the officials of consuming nations did not act. Indeed, in many countries one could observe an all too familiar pattern of behaviour. As in 1973 and 1979, government representatives blamed "speculators" for the rise in prices. Some even went so far as to call for the closure of the futures markets. At the same time, the political leaders of several countries demanded "responsibility" on the part of companies, discouraging increases in prices and interfering with free trade. As in the past, this shortsighted market interference drove prices even higher. Government officials also proved unwilling to use the single best tool at their command: strategic stocks. The Governments of Gennany and Japan dragged their feet, stubbornly maintaining that there was no physical "shortage". The U.S. Government was immobilized by the need to declare a "severe energy emergency" before it could act. This ill-advised behaviour on the part of high government officials of several supposedly market-oriented nations leads to three very uncomfortable conclusions. First, policies that rely solely on free-market mechanisms cannot be used during a crisis. Politicians in most countries find the resulting sharp increases in prices simply too painful to accept. Second, strategic stocks must be greatly enlarged so that there is absolutely no fear of using them in a crisis. The demonstrated inability to rely on the market may ultimately lead consuming nations into a price stabilization agreement with producing nations, as abhorrent as the concept is to many economists. Third, to complement strategic stocks, consuming nations must promote the development of some strategic refining capacity that could be used in a future crisis. This capacity should include facilities capable of processing heavy crude oils and producing a high percentage of light products.

Background Iraq's invasion of Kuwait followed six months of extreme turbulence in the world oil markets. Crude oil prices had climbed to three-year peaks in January 1990 and then plunged to levels comparable with their 1986 lows by June. During this period, supplies of the bench-mark crude known as West Texas lntennediate (WTI) sold for as much as US$23.40 per barrel and as little as US$15.30 per barrel on the market for immediate delivery (spot market). The primary cause of the decline in prices was overproduction by Kuwait and the United Arab Emirates (UAE). The cavalier attitude of these nations

Understanding the 1990 Oil Crisis

19

towards their OPEC commitments naturally aroused the anger of the other oilexporting countries, particularly Iraq. By the end of June, President Hussein and his Oil Minister Issam Abdul-Rahim al-Chalaby were making their feelings public. The price of oil began to increase in spite of the oversupply. The decline and later rise in crude oil prices were concentrated in prices quoted for "prompt" supplies for crude: crude to be delivered within the next thirty to ninety days. 1 Prices for oil to be delivered twelve to eighteen months in the future - so-called "far forward" prices - actually increased while prices for prompt delivery were falling. This pattern can be observed by examining the term structure of oil prices since the beginning of 1990. The term structure of oil prices compares prices of crude oil for various delivery dates at a particular moment in time, just as the term structure of interest rates compares short-, intermediate-, and long-term rates at a moment in time. The three curves in Figure 2.1 show the term structure of crude oil prices on 19 January, 20 June, and 1 August 1990. Reading from left to right, one observes the price quoted for the first or immediately expiring contract (equivalent to the spot price), then that of the second or next expiring contract, and so on into the future. The decline in spot prices from January to June was associated with an unusually large increase in inventories. In effect, the oil market was sold into what is called "contango", in which spot prices are less than forward pricesa situation analogous to the standard yield curve in finance (the opposite condition, in which forward oil prices are lower than spot prices, is called backwardation). Economists such as Williams (1986) and Working (1949) have noted that spreads between spot and forward prices are linked to the level of stocks. This relationship could be observed in both the U.S. and the world oil markets through 1989 up to August 1990, as may be seen in Figure 2.2. This figure presents the supplyof-storage function, comparing the weekly level of U.S. crude oil inventories (exclusive of strategic inventories owned by the U.S. Government) with the spread between spot and twelve-month forward crude prices (for example, the difference between the May 1990 spot price and the price quoted in May 1990 for May 1991 forward contracts). It may be observed from this figure that spot supplies of crude would be expected to trade at a premium of about US$3.00 per barrel to twelve-month forward crude if companies are holding only 325 million barrels in inventory. On the other hand, spot supplies would be expected to trade at a discount of about US$2.00 per barrel if companies are holding 385 million barrels. The decline in spot prices from January to June coincided with such an increase in stocks. Stocks were drawn down to 342 million barrels in January, and at that time the premium for spot supplies to twelve-month forward oil was US$3.00 per barrel. Stocks then increased to 386 million barrels by the end of June, while spot prices sank to a US$3.35 per barrel discount to twelve-month forward supplies.

~

FIGURE 2.1 Term Structure of Crude Oil Prices, End of January, June, and April 1990 23.00 -r------------------------------------------------------------------~

21.00 ~

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End January "o

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SouRCE: Petroleum Argus and NYMEX.

12

15

18

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