28- www. world- petroleum. org 3.1- Supply and markets Oil prices: not too high, not too low QSo oil's cheap again, right? AWhat do you mean by " cheap"? QWell, I've read everywhere that there was a crash in oil prices last year. So it's affordable again now, right? A What do you mean by " affordable"? Q I'm supposed to be asking the ques-tions here. A I'm not trying to be cryptic. But the first thing you need to know about the oil mar-ket is that categories like " cheap" and " af-fordable" are relative. If I tell you it'll cost $ 2 to drive you and three friends seven miles down the road, that sounds pretty cheap, right? That's about what it costs at the mo-ment, based on where oil prices are. But if I tell you that a barrel of oil this sum-mer cost about 25% more than its historical average price, it seems expensive, right? But then what if I tell you oil prices towards the end of 2009 have been changing hands for less than half the price they did last sum-mer? Cheap. See what I mean? Q Er . I think so. A There are other reasons to think oil prices are cheap. In autumn 2009, they were hov-ering around $ 65- 72 a barrel. But consider everything you have to do to extract one bar-rel of the stuff. In west Africa, the big oilfields sit thousands of metres beneath the seabed. And the water's deep. It costs billions of dol-lars to develop a big oil project there. Or look at Canada, where the world's sec-ond- largest oil reserves are trapped in bil-lions of cubic metres of sand in northern Alberta. You have to shift two tonnes of sand just to produce one barrel of oil. And the company gets just $ 70 in exchange? That seems like a bargain for the buyer - espe-cially when it costs about that much for the producer to extract a barrel of crude from the tar sands in the first place. Q So if the companies have to spend so much to get the oil in the first place, why don't they just raise the price of oil? A Well the short answer is that they sell oil in a market place and don't set the price - buyers do by competing with other buyers. But it's more complex than that. Think of it this way: the developed world's economy is an oil economy. We rely on oil for almost everything we buy, sell, make or eat. The richer we get, the more oil we con-sume - and vice versa. But - and it's an important but - because we rely so heavily on a steady stream of oil ( about 84.5 million barrels a day in 2008), the global economy It costs billions of dollars to develop a big oil project Courtesy Schlumberger

29- www. energy- future. com 3.1- Supply and markets can suffer if crude prices rise as they did last summer. It's basic supply- and- demand stuff: when the commodity gets too expen-sive, people stop buying it. So oil compa-nies, or producers, have to tread a fine line. They spend hundreds of billions of dollars up front, so if demand for their product falls, so do their profits. It's in their interest to keep the oil flowing at affordable prices. Q So when oil prices hit their record of more than $ 147/ b last year, people stopped using oil? A Again, not so simple. Demand for oil can fall - as it has for the past two years - but only so far. But the oil market does react very quickly to changes in demand. Last year's bumper prices persuaded people to be more efficient - everything from pumping up the tyres on the car to make it go further on a litre of gasoline, to selling the SUV and buying a bike - and prices fell quickly in response. Q What have speculators got to do with price rises? A Okay, hold steady, because it gets even more complex now. People don't just trade barrels of crude oil. They trade bits of paper that promise delivery of barrels of crude oil at a given time. So some clever investors looked at the oil market in recent years and decided that it was a one- way bet. China and India were surging and gobbling up spare oil, the economies of the West were ticking along nicely, and many oil produc-ers were struggling to keep up. It looked like oil prices would rise indefinitely. So these investors started buying paper contracts, holding them for a time while the oil price continued rising, and then selling them for a profit. You had two upward forces on the market: one connected to the " fundamen-tals" of weak supply versus strong demand; and one relating to investors buying paper contracts and pushing the prices up even further. It got pretty crazy. Q And then it crashed. A Yes. The credit crunch happened and all of a sudden everyone started feeling a whole lot poorer. The idea that the world would keep growing richer and needing more oil disappeared. A lot of the speculators were from banks, so when those banks' mortgage departments got into trouble, lots of them sold their paper contracts in the commodi-ties markets to cover losses elsewhere. Prices started to recover towards the middle of 2009 after the most powerful group of sup-pliers - those belonging to the Organization of the Petroleum Exporting Countries, or OPEC - decided that to help lift prices they would take supply away from the market. The feeling that the world economy was coming out of recession helped too. But with so much volatility in the last two years, investors are nervous. The big ques-tion now is: " What oil price will keep future supplies coming, but won't bankrupt the world economy again?" Q And what's the answer? A If I'm pushed, probably somewhere around $ 65 a barrel. But no- one can put a figure on it, really. The best thing would just be a stable oil price that allowed consumers and producers to plan ahead. ?? OPEC oil production, 2008- 09 million barrels a day$ a barrel North Sea Brent oil price ( RH scale) Source - International Energy Agency AugOctDecFebAprJunAug 27 28 29 30 31 32 30 60 90 120 150