?As oil prices continue to rise, so does uncertainty, says Standard & Poor’s Ratings Services chief economist David Wyss, who recently reported his study findings on the credit impact of rising energy costs. Oil prices topped $140 a barrel in late June.


“Although many observers believe oil prices are higher than supply and demand justify, they continue to rise. Moreover, the normal symptoms of too-high commodity prices—building inventories and significantly declining usage—are not appearing,” Wyss says. S&P analysts believe oil prices will come down in the short run but they are cycling around a rising trend.


“Demand for oil continues to rise because of economic growth in Asia. The oil output is rising only slowly, in part because so much of the world’s oil supplies are now in the hands of national oil companies, which have less incentive to raise production. The amount of oil still in the ground, though unknown, is clearly finite.


“Demand, ignoring any global warming issues, isn’t.”


Total world energy consumption was up 2.4% in 2007, a slight slowdown from 2.7% in 2006, but still an above-average increase, he says. Every major region had higher consumption, with Asia up the most and Europe the least. With China accounting for more than half the total world increase, it is hard to see much slowdown, even with more recent declines in Eurozone and U.S. energy consumption.


“The good news is that energy is a smaller part of the U.S. and world economies than it once was,” Wyss says. “Even this year, we expect the average U.S. household to spend 6.7% of its income on energy, which is about the same as in 1971, before OPEC.”
In 1980 and 1981, energy was 7.9% of income. This reflects a greater efficiency in energy use relative to GDP.


Even with that, however, per-capita use of energy has lifted, he says. In the U.S., higher per-capita GDP has increased energy use per person 2.0% (1971 to 2005). For the world overall, energy use per head has risen 15.7% (1971-2004). The average American used 4.7 times as much energy as the world average in 2005 and nearly twice the average of Western Europe and Japan.


There are signs of a belated response to the higher oil prices. In the U.S., the number of miles driven dropped 1.8% in April from a year earlier and was down 2.1% for the first four months of 2008. The 12-month moving average is down 0.9% from a year earlier.
Rural interstate travel was down 1.1 billion miles (5%) from a year earlier in April; urban interstate travel was down 1%. And car sales have shifted. Total light-vehicle sales fell to 14.3 million units in May. More importantly, cars outsold trucks for the second consecutive month—for the first time since 1997.


The U.S. remains the world’s largest energy consumer, accounting for 22% of world energy use in 2005.


“Because it has relatively low taxes on gasoline, it has also had one of the largest percentage increases in energy costs,” Wyss says. “As a result, demand is dropping more sharply than in most of the other developed economies, and the U.S. is feeling more economic pain, though it is hard to tell whether energy costs or home prices are the primary cause.”


He adds that although the overall energy intensity of the U.S. economy is near the world average, it has the highest per-capita energy consumption of any major economy.


“As economies develop, they tend to become less energy intensive, reflecting shifts in industry mix,” Wyss says. “However, there is a tendency for countries with low population density to have higher energy costs because of higher transportation costs.”


Canada and Australia have similar energy intensity to that of the U.S., and all are well above that of Japan and European countries, which have similar GDPs but much more concentrated populations. The EIA expects U.S. energy consumption to rise 0.7% per year for the next 25 years, in line with the OECD average. Coal will claim a greater share of energy production, while oil will drop to 37% of production from the current 40%. The increase implies nearly flat per-capita energy use during the next 25 years, he says.


“Where the energy will go is easy to estimate,” Wyss says. “The harder question is where will it come from?”


The U.S. Energy Information Administration expects three sources to supply this growth in demand: daily OPEC production is expected to increase by 12 million barrels, non-OPEC conventional by 9 million, and nonconventional sources (tar sands, shale oil, heavy crude and biofuels) by 9 million.


“Whether producers can actually achieve these increases is highly questionable,” Wyss says.


The EIA puts out alternative forecasts based on differing price trajectories, he adds. Under a high-price case ($186/barrel by 2030), daily demand would be only 99 million barrels, still up 15 million from 2005.


“The bottom line is that the future of oil prices remains very uncertain,” Wyss says. “No one knows how much oil is available or how expensive it will be.”

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