India needs an energy vision document

by M.S. Ramachandran

Crude oil is the single largest commodity traded in the world. If anyone could correctly predict crude oil price, he could laugh his way to the bank!
The price of US marker crude, West Texas Intermediate, surged past the $ 49 a barrel and is set to break the $ 50 a barrel barrier. Since end June 2004, US light sweet crude prices have shot up nearly 33 %.

This increase has been caused by two factors.
First, world oil consumption has been rising sharply. World demand has now reached 82.2 mm bpd compared to 76.6 mm bpd in 2000, registering a compounded annual growth rate (CAGR) of 1.8 %. World oil consumption in 2004 is estimated to grow by 2.6 mm bpd, of which China alone is expected to contribute 0.8 mm bpd.
India’s crude oil imports increased from 81.9 mm tons in 2002-03 to 90.4 mm tons in 2003-04. However, this increase was mainly due to Indian refineries taking advantage of the huge rise in refining margins, exporting 14.6 mm tons of products in 2003-04 compared to 10.3 mm tons in 2002-03. Domestic demand registered a CAGR of only 3.7 % in 2003-04 compared to 6.8 % and 4.9 % during the Eighth and Ninth Plans respectively.

Despite the steep rise in prices, there is no shrinkage in world oil consumption, thus helping prices to stay high. This is despite OPEC increasing production from 25 mm bpd in 2002 to the current level of 29.5 mm bpd.
The problem is lack of spare refining capacity. OECD inventories are 2.5 bn barrels at the end of the second quarter of 2004, which is 100 mm barrels lower than the corresponding period in 2002. The severity of approaching winter will be another factor in determining crude oil price trends.

The second factor is market sentiment. The fragile supply-demand balance makes the global oil market vulnerable to supply disruptions arising from terrorist activities, unplanned shutdowns etc. In fact, the prevailing prices are believed to have a terror or uncertainty premium of almost $ 10 a barrel attached to them.
Frequent sabotage of Iraqi oil assets and consequent export disruptions, Yukos (which accounts for 2 % of global production) imbroglio in Russia, political upheavals in Venezuela and civil unrest in Nigeria have exacerbated the already stretched supply situation. Increased speculative activity on petroleum exchanges in New York and London, particularly by hedge funds, has further driven up prices. Depreciation of the dollar against major currencies has also supported high oil prices.

Prognosticating oil price is, therefore, prone to inaccuracy. Views in the market are diverse about the magnitude of price volatility. But it is sure that the current prices are not headed downward in the next few months unless demand is affected by higher prices, or there is considerable improvement in sentiment with respect to terrorist threats.
It is revealing that the crude oil price level of $ 40 a barrel in the 80s is equivalent to $ 90 a barrel in today’s dollar terms, making the current price levels appear reasonable! This analogy has led to reports gue-sstimating price levels of $ 70-/barrel to $ 100 a barrel in a year.

A likely crucial development could be the global oil production peak between 2005-2010. Oil is becoming difficult to find, with average annual reserve addition of about 10 bn barrels against the current consumption level of about 29 bn barrels.
As per some geologists, considering that the exploration peak had occurred in the 60s, the production peak could occur in the next few years, after which production would decline. This suggests that strong oil prices are here to stay.

As per another school of thought, what is crucial is not the production peak but the crossover point when OPEC production will exceed non-OPEC output. This is expected around 2008 and would trigger a marked shift in oil market dynamics with a threat to US economic and political dominance, and increased influence of OPEC on global economy.
Currently, the combined crude and NGL production of OPEC is 32 mm bpd, against non-OPEC production of about 50 mm bpd. Besides, the dependence of West Asian monarchies on military support of superpowers is a big deterrent in their trying to exert undue influence on the global economy. Also, many OPEC members have allowed western MNCs as equity holders in their oilfields, reducing their own influence on oil production.

India is the world’s sixth largest oil consumer. Even though oil constitutes only 33 % of India’s primary energy basket, it accounts for nearly a quarter of the total import bill, thus making our economy vulnerable to oil price shocks. The proximity of oil-rich West Asia makes it the natural supply source for India. Hence, India’s energy security is particularly vulnerable to any disruptions in West Asia.
India’s oil consumption could soon touch 2.8 mm bpd by 2010 from the current level of 2.2 mm bpd. Given the political instability in West Asia, price uncertainty is a reality that cannot be wished away.

While our government has acted promptly to check inflationary trends by ad-hoc duty rationalisation, a policy that provides for duty adjustment linked to price levels should be formulated and implemented urgently. This will be a long-term solution.
Another measure is the creation of an Oil Price Stabilisation Fund. Also, it is necessary to have a comprehensive policy to mitigate the adverse impact of high oil prices, both short- and long-term.

Long-term measures could include aggressive push by Indian companies in overseas exploration, setting up of strategic storage, besides encouraging use of coal, nuclear energy, and other sources of energy. While conservation measures could be helpful, reigning in consumption is not an option, since our per capita consumption is only 106 kg compared to world average of 576 kg.
In the last decade, China and Malaysia have acquired oil acreages abroad. While ONGC Videsh also intensified efforts and acquired interests in Russia, Sudan etc, we need to take this up as a national imperative and have in place a comprehensive framework involving both the petroleum and external affairs ministries, to be co-ordinated by the PMO.

Opportunities will not last forever; fast decision-making is, therefore, essential. Renewable energy sources, like bio-diesel, also need to be tapped. There is an urgent need, therefore, for a comprehensive energy policy.
We have already prepared the Hydrocarbon Vision 2025. What we need is an Energy Vision document.

The writer is chairman and managing director of Indian Oil Corporation.