The sky-high price of oil and its effect on jet fuel

 - October 9, 2006, 11:14 AM

What goes up must come down, unless of course you’re talking about the price of crude oil. Last month, oil topped $55 a barrel after an April report from Goldman Sachs warned of a possible “super spike” period during which the price of oil could surge to as much as $105 a barrel. [To put that figure in perspective, and to correct the media’s persistent error in referring to current oil prices as “record highs,” consider that back in 1980 oil peaked briefly at about $39 a barrel in then current dollars, equivalent to $94.48 a barrel in 2005 dollars when adjusted for inflation. See chart below.–Ed.]

While oil prices have historically risen and fallen in past decades, several petroleum industry experts now believe the era of cheap oil might be over and that prices, in general, will only climb in the future.

This is bad news for the entire aviation industry, according to Avfuel president and CEO Craig Sincock. The global crude oil market sets the baseline for all refined products, including heating fuel, car gas, avgas and jet-A. In short, he said, “The price of refined products mirrors the price of crude oil, which is a market-based commodity.”

Crude oil prices are established by supply and demand conditions in the global market, in addition to capacity at the main refining centers in Singapore, northwest Europe and on the U.S. Gulf Coast. Crude oil prices are also highly volatile because of politics and several oil-producing countries’ links to religion, not to mention rising tensions stemming from a U.S.-led war on terrorism that has largely focused on the Middle East–one of the world’s main sources of oil.

Oil markets are essentially a global auction, where the highest bidder wins the supply. In strong markets (high demand, low supply) the bidder must be willing to pay a premium to get that supply. When markets are softer (low demand, high supply) a bidder can opt not to outbid competitors and wait for possibly lower-priced oil. Obviously, the current market is considered a strong one.

Of course, refinery or logistics snafus can also cause oil prices to rise, though often only temporarily. Other pricing factors include market speculation, fluctuating currencies, seasonal demand and oil stockpile inventories. Additionally, the Organization of Petroleum Exporting Countries (OPEC) attempts to keep oil prices in a “basket price range”–an average selling price of seven crude oil blends– by increasing or decreasing supply through production quotas.

Surprisingly, Sincock and other oil experts say we probably won’t run out of oil, despite the world’s insatiable thirst for black gold. This is not because we can’t exhaust the oil supply but, as Sincock said, because “oil will get too expensive to use long before we run out.”

Peak Oil Theory

While Sincock conceded to AIN that he has never heard the term “peak oil” before, his statement reflects the predicted outcome of the oil-extraction theory. About 50 years ago, Shell Oil geologist M. King Hubbert started to notice that every oil field followed a typical pattern–at first it was a little slow getting oil out, then it came quickly and eventually reached a maximum and then tapered off as it became more difficult to extract oil from the field. As such, oil extraction follows a classic bell curve, which is referred to as Hubbert’s Curve.

On the upslope of the curve, production costs are significantly lower than they are on the downslope, when extra effort–and expense–is required to extract oil from reservoirs that are being emptied. To maximize profits, oil companies always extract the best-quality and easiest-to-produce oil first.

To yield a broader picture, these individual bell curves can be added together to create one big bell curve. Knowing the amount of oil reserves in the U.S. at the time (early 1950s) and by projecting how much more might be found, Hubbert predicted that the U.S. would peak in its oil production in 1970.

His prediction was dead accurate. Since 1970, the U.S. has actually pumped less oil and found fewer supplies despite technological advancements, thus proving Hubbert’s theory.

Taking this one step further, Hubbert teamed with fellow oil-exploration geologist Colin Campbell in the mid-1950s to predict when world oil production would peak. Using Hubbert’s theory, the pair concluded that world oil production would peak in 1995, assuming there were no interruptions.

However, it’s not a perfect world and several interruptions did occur, including the 1973 oil embargo, oil-price shocks and worldwide recessions. This has merely delayed the peak to about 2010, according to Campbell’s most recent estimates. Other petroleum experts believe the peak will occur sometime between now and 2030, while the U.S. Department of Energy is perhaps the most optimistic, predicting a peak in 2037. Unfortunately, we won’t know we’ve hit the peak until after it has passed.

The fact is that peak oil is no longer considered a conspiracy theory propagated by the fringe. In fact, on March 14 Rep. Roscoe Bartlett (R-Md.) gave a presentation on peak oil to his congressional colleagues, adding credibility to the subject. Furthermore, geologists, petroleum analysts and oil executives are increasingly mentioning peak oil, if not outright ringing the alarm bells about what’s to come.

After the peak, experts say that the remaining oil is going to be increasingly expensive to extract and will tend to be of a lesser quality, meaning higher refining costs as well as higher extraction costs. These additional costs will have to be passed on in the form of price hikes or possibly even spikes, which the Goldman Sachs report warned of in April.

While there a number of gloom- and-doom scenarios about what might happen after peak oil, the bottom line is that demand will simply outstrip supply, leading to higher crude oil prices and possible shortages. During the oil embargo in the 1970s, shortages in the U.S. led to fuel rationing, and high energy prices in the past threw the world into recession and triggered several years of weaker oil demand.

Alternative Fuels

But will history repeat itself? What aviation industry analysts predict is that weaker airlines will simply fall by the wayside as oil prices climb, while the surviving airlines’ fare hikes could weaken demand for air travel. These events would naturally lead to lower demand for jet-A, though prices would certainly be higher than they are at present. How much higher nobody knows.

The good news for aviation is that turbine engines can run on a number of different fuels, including (but not limited to) biomass fuels and hydrogen. (Interestingly, in February 1937 turbine engine pioneer Hans von Ohain successfully ran his He S-1 turbojet engine using hydrogen.)

Since necessity is the mother of invention, there’s some optimism about finding prospective alternative aviation fuels for jet aircraft. In the past 40 years or so several research aircraft have been flown using hydrogen fuel, though it was deemed expensive compared with oil-based jet fuel. If crude oil prices rise, as many expect they will, hydrogen jet fuel could become economically feasible, though onboard storage is still a barrier.

Penn State researchers have demonstrated that jet fuel can be made from bituminous coal. Like jet-A fuel, however, this fuel source still relies on nonrenewable, fossil fuel supplies, which at some point could become exhausted. This would only delay the inevitable, though it would buy more time to find other alternatives.

As oil prices rise, more research money will doubtless be spent on finding alternative fuels for all modes of transportation. This research could very well lead to a cheap, renewable, clean-burning fuel that sustains the overall health of the aviation industry, as well as other transportation sectors, for many years to come.