I am not comforted by Macfarlane's longevity as Aussie Central Banker: Australia is now at the beginning of a massive real estate bubble bursting -- the kind we are convinced can't happen in the States. Macfarlane oversaw that whole thing, so I question his credibility. See article:
http://www.smh.com.au/news/national/housing-crash-puts-sellers-in-debt-crisis/2006/08/20/1156012414995.html

It's been so long since the US has had hard times that no one can imagine it might happen again. How can anyone think that such price increases in a commodity so critical to our well-being isn't eventually going to cause pain? Low interest rates, distractions such as wars, and massive debt buildup will sooner or later come home to roost.

Unfortunately I think the geo-political situation in the middle-east probably makes Macfarlane's $90 figure irrelevant.

What will happen to the price of oil when Iran is confirmed to have nuclear weapons?

What will happen to the price of oil if/when Iran uses one of these weapons against Israel and the Israeli response effectively takes the Iranian supply off the market?

When that day comes, I think we will all be looking back fondly at $90 oil.

In the 1970s oil was just another item in the inflationary picture that was spread throughout the eonomy. But the biggest difference now is unit labor costs. In the 1970s unit labor costs were also rising sharply -- at 10% -12% rates in 1974 --so firms had no choice but to pass through the higher cost oil. Now, at least until last quarter, very low unit labor cost allowed firms to absorb higher oil cost and still maintain high profit margins.

Economists claim to have studied sufficient mathematics, so presumably they are familiar with unit step functions and discontinuities.

Our manufacturing process uses ingrediants based on oil. We have sucked up the raw material price increases up to $75/bbl as best we could. We can't suck up any more; nor can we continue to suck up the transportation companies' surcharges. The next step up in oil prices will force us to take drastic action. Either raise prices (which of course won't work, cause everyone will be doing it), massive downsizing, or going out of business.

Cranky

As a result of previous embargos, oil is now used almost exclusively for transportation. We could easily reduce the number of miles driven and accept longer delivery times for goods if we wished to. However, people would rather gain the benefits of driving and reduce pruchases of other goods and services. This will reduce the price of the goods and services with lower demand and keep the general price level stable. It will also reduce economic activity and possibly induce a recession.

If the Fed still thinks it can inflate its way out of a recession we will have inflation and an economy like the 70s. If the Fed learned its lesson, we will have price stability and a recession.

The argument can be made that it was expansive monetary policy that brought on the embargos of the 70s and currently. Monetary policy has been very easy since the 1997 Asian crises to avoid a deflation such as the one that has stagnated the Japanese economy for the last decade. Oil is not the only commodity that has risen lately. Gold and copper have been steadily rising. And the housing boom. They will all probably fall together.

Richard, I may be mis-reading your initial sentence, "...oil is now used almost exclusively for transportation." But I differ.

Petrochemicals are key components of much more than the gas in our cars or trucks on highways. Check out food production alone:

* it takes about 10 calories of fossil fuels to produce 1 calorie of food eaten in the US;
* pesticides are oil-based;
* fertilizers are made from ammonia, i.e., natural gas;
* farm implements are made and powered using fossil fuels;
* food storage (fridges) run on electricity, in turn generated mostly from natural gas or coal.

Everything we touch nowadays is made using fossil fuels: the plastics all around us, computers, telecom devices, extraction of resources (copper, silver, etc). Buying a hybrid car or putting solar panels on one's roof is nice, but doesn't address the core problem. And until people don't wake up to that, we're headed towards some cold winters.

Cranky and StJ...to what extent can feedstocks be converted from oil/natural gas to coal?..understanding that this would not be quick and would require process changes and new capital equipment.

> Cranky and StJ...to what extent can feedstocks
> be converted from oil/natural gas to
> coal?..understanding that this would not
> be quick and would require process changes
> and new capital equipment.

It is certainly possible - Germany did it in 1944. Of course there wasn't anywhere near as much plastic in use then as now, but technically it should be do-able. The US Gov't built one of those plants somewhere in Missouri in 1948 and it ran for a while.

But the process is expensive and historically has been an environmental disaster. Again it should be possible to come up with a clean-sheet design that uses zero emission principles, but I kinda tend not to trust the people who build those plants to actually operate them that way ;-(

The key problem of course is that you are still pulling carbon out of the underground reservior and putting it into the atmosphere. Hozabout we raise CAFE to 30 mpg, outlaw Hummer H2s, and put a stick in eye of the Middle East and everyone favorite bad boy Hugo all at the same time?

Cranky

Well I'm all for pokin' Hugo in the eye, but in the mean time I think the food industry's business model is headed for a shift in the next generation.

Excepting those commodities that truly depend on economies of scale such as soy, wheat and beef (where biofuels may help them become energy self-sufficient), the everyday fresh fruit & veggie industry will tend towards smaller scales, with more people growing things in their back yards, more co-ops, and businesses shifting to smaller production near big cities to supply them. Very Berkeley, no?, but very likely.

I agree with StJ. Saying high oil prices haven't damaged the economy so far is all very well, but when the resilience is provided by a crazy property bubble - which rather looks as though it's running out of steam, as we've seen in recent weeks - then there's reason to worry a little more.

> the everyday fresh fruit & veggie industry
> will tend towards smaller scales, with more
> people growing things in their back yards,
> more co-ops, and businesses shifting to smaller
> production near big cities to supply them. Very
> Berkeley, no?, but very likely.

Well, I hope so. But I can't help but observe that the infrastructure that made such a way of life possible (small towns, people willing to vegetable farm, multiple railroads leading from everywhere into population centers, and local grocery stores) has all been dismantled and paved over. And I don't think it can be rebuilt.

Cranky

St. James,

We have plenty of fossil fuels. We are not at risk of running short of domestic supplies of coal or natural gas, except to the extent that law precludes production, a problem we can remedy ourselves.

The core problem is not energy or even fossil fuels. We have plenty, right here. The core problem is imported petroleum. Oil is used primarily for transportation. Some of the transportation is industrial, but I suspect most is personal.

Fertilizer & lime, fuels and oils and pesticides amount to 15% of the farmers cost of production. As farm expenses make up only 20% of retail consumer food cost, this shouldn't have an unbearable impact on our food supply. What ever increase in food costs consumers have to bear can easily be offset by reductions in meals eaten out.

What's this about the COMING effect of peak oil? The price increases of the last four years ARE the effect, or the beginning of it. We're also looking at the beginning of the response to it.
Truck and SUV sales have tanked, and the number one factor car buyers cite is fuel economy. The public has already decided that cheap gas is history and are acting accordingly.
Then there are the alternatives: coal, gas, ethanol, and old oil wells that were capped when costs were too high to compete with cheap oil. That last category could be huge.
California has large supplies of crude, but historically shut down wells when the easiest 5% was recovered. Existing processes like continuous steam injection have increased production of fields that would have been abandoned due to cheap oil economics, and new processes can keep raising recovery rates, if the price gets high enough.
There are plenty of oil wells that were capped, not because they went dry, but because they were uneconomic at $20/bbl, but at $70/bbl, they can be put back into production. The industry would have to adjust to collection of crude from many smaller fields instead of delivery from a few major ones, but that's affordable at peak oil prices.
We're just looking at the end of cheap oil, not the end of oil. On the consumption side, we don't need higher CAFE standards, $3/gal gas is is doing that more efficiently. On both sides of supply and demand, trust the market to sort it all out.

Coal conversion to gasoline:

Citing German efforts during the war isn't very comforting. Wartime concerns would certainly dwarf cost and environmental issues.

The effect of price increases:

I suspect it's too early to open the champagne bottles. Consumers, who eventually end up paying the bill, may simply go deeper into debt for a time, deferring the day of reckoning for a while longer.

Let's see how this works out. $3 Billion is real money. And if it doesn't, another will.

Ammonia is made via the Haber-Bosch process, using nitrogen from the air as a feedstock. Natural gas provides the hydrogen for the ammonia; it can be argued that a new, cheap hydrogen source may be found, but it'll be tough.

We certainly have enough coal to keep us going for a long time--the major problem is the pollution and the CO2.

Until we find a way of making $$$ off of CO2 I'm afraid nobody's really going to worry about carbon emissions.

Cranky and StJ...to what extent can feedstocks
> be converted from oil/natural gas to
> coal?..understanding that this would not
> be quick and would require process changes
> and new capital equipment.

Do you have this backwards? If not -

1) Why would one want to?

2) A byproduct of the refining process is Coke - A material similar to coal and used in coal fired power plants. The equipment is in most (if not all) domestic refiners that handle Canadian or Venezuelian crude.

Larry Faria wrote: "On the consumption side, we don't need higher CAFE standards, $3/gal gas is is doing that more efficiently."

The problem with this is that oil prices are so volatile. I don't claim to be expert about peak oil, and it may be that the real price of oil will never come down significantly. But both the World Bank and Exxon forecast sharp decreases in real price after a peak in 2007. So if gasoline drops down to $2 or less, suddenly the market incentive for consumers to buy fule efficient cars disappears.

Now, consumers, if they were totally rational, would not look at the price of gasoline on the day they buy a vehicle, but rather look at historical volatility of gasoline prices. I bet you know lots of consumers who think that way. (Just kidding.)

Changing CAFE forces consumers to buy more efficient cars by depriving them of choice, so no libertarian can be for it. But to expect the market (in the form of consumers) to act in a "rational" fashion here strikes me as fairly unrealistic. If the price of oil drops and gasoline follows suit, gas guzzling vehicle sales will increase--regardless of whether we are on the cusp of a Peak Oil world economic crisis or not.