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AN ALMOST FRIENDLY UPDATE ON WORLD OIL

By Ferdinand E. Banks

Perhaps the best way to begin is to say that I find it difficult to accept that there are still
serious students of the oil markets who believe that the crust of the earth is flush with
oil, and a global output peak will not take place for many decades, if ever. Other
observers aggressively maintain that technology can take the place of natural resources,
by which they mean in the short as well as the long run. I mentioned several of these
pundits in my energy economics textbooks (2000, 2007), but one escaped my attention.
His ‘approach’ will be given some attention below, because recently the prominent U.S.
publication ‘Newsweek’ devoted an entire issue to energy matters, and this conspicuous
‘optimist’ provided the first major article in that very ‘special’ issue. I want to make it
clear, however, that I am not as concerned with what will happen with oil as I am with
what could happen. I know what would happen if I were pressing the buttons and
pulling the strings, but for reasons that cannot be gone into here, I would be very
surprised if the ‘con’ were placed in my friendly hands. (The ‘con’, as readers or
viewers of ‘The Caine Mutiny’ know, generally refers to the command of a navy vessel.)
To my way of thinking, the ideal written or spoken discourse on world oil does not
avoid theoretical issues, but at the same time is easily absorbed. It attempts to provide
anybody and everybody having a genuine interest in the topic with enough information to
impress at any hour of the day or night friends, colleagues, and potential employers.
An effort would also be made to keep esoteric concepts at a minimum, although when
these are essential the presentation remains within the framework of mainstream
economic theory. Higher mathematics are not taboo, but would be carefully isolated,
because it is – or should be – clear that the learned journals of economics have lost a
great deal of their shine due to an excessive reliance on symbolic materials.
An example might be useful here. Professor Franklin Fisher of MIT and myself
were perhaps the first economists to provide a meaningful discussion of the role of
inventories (i.e. stocks) in the pricing of mineral resources, where the initial objects of
our attention were tin and copper. Inventories figure in almost all of my work on oil, but
occasionally without much enthusiasm, because I have always believed that long-term
phenomena were crucial for understanding the oil market. I still consider this to be true,
although I have come to recognize that short-term pricing can no longer be discounted.
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Among other things, I have noticed that global oil inventories often increase
without causing a weakening of oil prices. Employing the kind of logic associated with
yield curves in financial economics, this might be attributed to an anticipation of supply
disruptions. Davies and Nerurkar (2006) have concluded that the oil price is not always
determined by what they call ‘fundamentals’, but it was unnecessary for them to
propose that the main issue here is an increase in the risk premium. Instead, it is the
size of rather than the change in risk premia that is the best explanatory factor for the
behaviour of inventory holders. If I believe that the price of oil will reach 200 dollars per
barrel (= $200/b) next week, I wouldn’t require an increase in my aversion to risk
before commencing to fill my front yard and every room in my house with motor fuel.
All the pertinent oil consumption and import statistics for 2006 are not yet
available, but they will not differ too much from those given in BP’s ‘snapshot’ for 2005.
The total global energy use was 2.7% higher than the previous year. About 90% of
commercial energy came from fossil fuels (36% oil, 24% gas, 28% coal), with coal the
most rapidly growing energy medium: 5% globally in 2005. Preliminary figures for 2006
indicate that world oil demand increased by 980,000 b/d (or 1.2%) to slightly more than
84 mb/d. Oil demand growth is forecast to be from l.1 mb/d by the Centre for Global
Energy studies in London, to 1.5 mb/d by the U.S. Energy Information Agency (EIA).
Where price is concerned, expectations at the present time seem to focus on a $55-65
range, although in its September 2006 World Economic Report, the International
Monetary Fund cautioned that outages Iraq, Iran and Nigeria could result in $70-75/b
oil. Something to note here is that global excess production capacity is no more than 2.5-
3mb/d, most of which is in Saudi Arabia. This is generally considered inadequate.
Readers should keep in mind that according to the EIA, OPEC’s net oil export revenues
were about $522 billion dollars in 2006, as compared to $180 billion in 2002.
According to statistics in the tenth edition of Energy Politics, the 5 largest energy
users consumed almost 70% of the world’s primary energy, which was an important
input for producing 80% of the global GDP. The largest energy users (in descending
order) were the U.S., EU, China, Russia, Japan and India. The countries to notice on
this list are China, Russia and India, because although their per-capita consumptions
are still very low, if present growth trends are maintained, both per-capita and
aggregate consumptions will increase by very large amounts in the next 10 years or so –
so large in fact that it is highly unlikely that the supply of oil and natural gas can
expand to the extent that large price increases can be avoided. (Primary energy is energy
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obtained from the direct burning of coal, gas, and oil, as well as electricity having a
hydro or nuclear origin. By way of contrast, electricity obtained from burning fossil
fuels is a secondary energy source.)

WHO’S GOT THE (OIL MARKET) ‘CON’?

According to Leonardo Maugeri, the people who have it now are identical to those who
enjoyed its possession before the first ‘oil price shock’, or for that matter most of the
years after that traumatic episode. By that he means consumers, firms and governments
in the major oil importing countries. The editors of Newsweek almost certainly share this
opinion, because otherwise Maugeri’s contribution would have been relegated to a less
conspicuous position in their magazine, regardless of the fact that Signor Maugeri is an
officer of ENI – which not only is one of the largest corporations in Italy, but for many
years has been a noteworthy international player in oil, gas, electricity, petrochemicals,
etc. He is also the author of a book about oil called ‘The Age of Mythology’, which on
select occasions I have described as a half-baked, unscientific song-and-dance designed
to expose the ignorance of persons like myself in the matter of “the world’s most
controversial resource”.
‘Game Theory’ has become a very important subject in academic economics,
however not as important as I thought it was when I taught it many years ago. For
instance, Professor Erich Röpke was far from being completely wrong when he called it
‘Viennese coffee house gossip’. As Chris Skrebowski (editor of The Petroleum Review, a
monthly review published by the Energy Institute in London) has indicated, there are so
many untruths and misunderstandings where oil is concerned that it is almost
impossible to carry out a straightforward economic analysis, however the systematic use
of deceit and deception is what an appreciable part of game theory – or ‘interactive
decision theory’ – is all about. (A number of valuable insights into this topic can be
gained from perusing an elementary textbook such as Dixit and Skeath (2004).
The fabrications alluded to by Skrebowski, and launched by many self-appointed
oil experts, are often intended for consumption by the major oil producing countries,
particularly those in the Middle East. Their ulterior purpose is to convince the
governments of those countries that if they do not ‘open’ their economies to direct or
indirect foreign influence, they are riding for a fall. Of late this crank contention has
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also been forwarded to some important movers-and-shakers in Russia, although it needs

to be emphasized that while President Putin openly disregards this foolishness, the
governments of the Middle Eastern countries have skillfully managed to conceal their
disdain for the advice, disinformation and bizarre claims of Signor Maugeri and his
admirers. I can also reveal that the ENI stronghold in Milan is well known to this
humble teacher of economics and finance, since I have attended conferences there and
lectured at the ENI Corporate University, but even so I have never encountered a single
ENI employee of any rank, in that city or anywhere else on the face of this good earth,
with the same twisted vision of world oil as the one that Maugeri posted in Newsweek. I
feel it necessary to confess though that in the light of my long and intensive study of
energy economics, it would hardly make any difference to me if the testimonials of Mr
Maugeri’s supporters – if he has any – were accorded the status of holy writ.
As I make clear in an early chapter of my new textbook, the large oil producers
have the oil market ‘con’, and are in position to make the most of it. Whether they will
do so or not is quite another matter, and if they do the likelihood of it conflicting with the
energy requirements of the major oil importing countries, and how, cannot be examined
in this brief discussion. First and foremost it needs to be recognized that our political
masters would do almost all of us a favour if they took the liberty of ignoring the greater
part of what Signor Maugeri and Newsweek’s in-house experts have to offer.
Consider the following. Maugeri states that the average global recovery rate for
oil 30 years ago was 20%, when actually it was 32%, as compared to 35% at the present
time. The purpose of this spurious comparison is to convince readers that improvements
in recovery technology are accelerating, when the opposite is probably true. He is also
attracted to the “dim but intriguing prospect” that oil might be a “renewable resource”.
To clarify this ludicrous prospect the editors of Newsweek called on the Harvard
chemist and Nobel laureate Dudley Hershback. Unfortunately however their interviewer
asked Professor Hershback one question too many. When pointedly requested to
comment on whether it was possible to significantly increase oil reserves or to endlessly
regenerate oilfields in accord with the looney-tune logic developed by Thomas Gold
(1999), Hershback’s answer – while appropriately flippant – was more suited to the
type of offbeat rambling that might be found in a store-front university than in the
seminar rooms of an Ivy League institution of higher learning. “It may be that you
have to go to pressures and temperatures 500 miles down in the Earth, and there’s no
prospect of drilling. It may take 1000 years to percolate to the surface. I would not be
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surprised if that’s the actual outcome. It would be charming if, after our generation has
burned up all the oil, 1000 years from now our successors, if there are any, say ’Gee, all
of a sudden we have all this petroleum again. Now we can have cars again. It’s nice that
there are a few left in the museums.’ But if that’s the case it’s not a practical use for
humanity in the foreseeable future.”
500 miles down into the earth, and 1000 years to “percolate to the surface”. This
sort of thing is reminiscent of the “miracle weapons” that Adolf Hitler promised the
German people toward the end of WW2 in order to convince them to continue accepting
the devastating punishment that was being inflicted on Germany by the U.S. and UK air
forces and the Russian army, except that even at the most flamboyant and irrational
stage of his career, Der Führer would hardly have dared to request the faithful to wait a
full millennium for their dreams to come true.
Experts and pseudo-experts provided about half of the articles in this special
edition of Newsweek. The remainder originated with ‘regular’ columnists in that
periodical, as well as some individuals whose position in the scheme of things is difficult
to describe. As an example of this remainder, the submission of the Newsweek columnist
Fareed Zakaria features what is known in Sweden as a ‘nid-bild’, which is a caricature
designed to show the most unfavourable aspects of a subject’s physiognomy. The persons
in this cartoon are the presidents of Iran, Russia and Venezuela.
Mr Zakaria is greatly annoyed by the flouting by Iran, Saudia Arabia, Russia and
Venzuela of what he calls “rules” Exactly what rules are these? They are stipulations
fashioned outside these countries that are designed to make fools of gentlemen like those
shown in the aforementioned cartoon, their constituents, and especially millions or
hundreds of millions of persons on the buy side of the oil market who might be gullible
enough to believe that the presence of a few corporate jet setters on the sidewalks of
Teheran or Moscow will make the nonsensical energy forecasts of Mr Maugeri come
true. Although there are a few exceptions, the dialectics of mainstream economics is as
remote to many Newsweek employees (and stringers) as that of quantum physics.
Zakaria apparently believes that the governments of the OPEC countries and Russia
should have the decency to invest their oil windfalls in expanding production and
exports, but the time when such departures could be regarded as part of a sensible
agenda by the owners of these assets is probably past.
The fundamental message that needs to be considered here is as follows. The rich
invariably have more options than the poor, and as a result of the oil price increases that
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began about two years ago, many of the oil exporters are no longer afflicted with an
uncontrollable compulsion to play Father Christmas for the motorists of the oil
importing world. Saudi Arabia, for instance, should have recorded the kind of surplus in
2006 that made it possible to greatly increase foreign assets, while at the same time
substantially reducing public debt. Equally as significant, that country and others have
finally come to appreciate that resource nationalism isn’t just a good thing – it’s the
only thing for those who have the means to practice it! This is something I learned and
later taught at IDEP – i.e. the African Institute for Economic and Development planning
in Dakar, Senegal. (IDEP) – where I spent a large part of my time examining the
brilliant work of the late Harvard economist Howard Chenery. Unfortunately the
mathematics used by Chenery, together with my general disbelief in the leadership and
curriculum of that establishment, were strongly unappreciated by many colleagues and
a few students, however it soon became clear to me and most of the others that resource
nationalism may make a great deal of sense as a means for initiating sustainable growth.
Having gone that far, it might be appropriate to proffer an optimal strategy for the
governments of the main oil importing countries. There has been an extensive discussion
about replacing oil imports by environmentally ‘friendly’ fuels such as ethanol and
hydrogen. If this were done the right way, it might help everyone, because as pointed out
on a number of occasions in both articles and comments in the important energy forum
EnergyPulse (www.energyforum.net), exports of oil and gas are of crucial importance
for many energy exporters, even if the increase in their wealth over the past few years
means that they are no longer under the same pressures to expand their supply as
earlier. The point then is to make sure that there is always sufficient production capacity
for alternative resources available to the oil importing countries to dampen undesirable
and potentially hazardous oil price escalations. In the long run this capacity conceivably
makes more sense than trying to contain oil price escalation with inventories, where the
latter is apparently a belief of the present U.S. Energy Secretary.
According to Björn Lindahl (2006), that gentleman also wants China (and
presumably a few others) to place more reliance on the international oil market than
initiating or joining a frenzied bidding for equity positions in certain oil producing
countries. I would be very surprised indeed if a country like China was willing to base a
significant portion of its energy future on the possible uncovering of bonanzas in
Central Africa or, for that matter, on the established petroleum exchanges in New York
and London, although in the short run these options might be attractive. The expression
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‘workshop of the world’ that one hears these days must sound divine to the ears of the
Chinese leadership, and they realize that adequate energy in all forms is necessary to
perpetuate this characterization. Apparently China has granted about 3 billion dollars
in credits and oil-backed loans to Angola, but since the World Bank believes that
Angolan output will peak in 2011, and begin to decline in 2012, some question might be
put as to how realistic their expectations are.
The OPEC countries have recently declared their willingness to defend a price of
$60/b, however there is undoubtedly an opinion in some quarters in OPEC as well as
some of the oil importing countries, that even in the near future a price of $70/b is both
inevitable and tolerable. I don’t recommend accepting this opinion at the present time,
and feel that it was a wonderful thing that the price of oil retreated to $60/b before the
international macroeconomy was put to the test. The thing to remember here is that if
the sustained/equilibrium price was $70/b, price spikes could exceed 80 dollars, as
compared to the peak of $78.65 in August, 2006. This is something that nobody in their
right mind wants to have any part of.
Exactly how the capacity mentioned about should be accumulated or deployed
cannot be discussed in this brief paper, although I am sure that many readers have a
few ideas on this subject. If so, these ideas or suggestions should be forwarded as soon as
possible to the proper authorities, because there are many observers of the world oil
economy who feel that the present optimism about the oil price is unjustified.

OLD QUESTIONS ABOUT OIL, BUT A FEW NEW ANSWERS

A sharp and alert fly on the wall in the Newsweek editorial offices would have discovered
at an early stage of the discussions about the above noted energy ‘project’ (labelled
“Breaking Out”) that the editors of that publication were engaged in slightly more than
impartial reporting. Their special issue was produced in cooperation with the World
Economic Forum, which is an annual conclave of well-dressed movers-and-shakers from
the exclusive turf of money and influence. To ensure that their eulogies to globalism
and technology are given the widest possible publicity and/or dissemination, that elegant
talk-shop is held in the marvellous Swiss skiing resort of Davos.
To keep up appearances, Newsweek allowed Matthew Simmons – author of
Twilight in the Desert: The Coming Saudi Oil Shock and the World Economy – to present
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a fragment of the oil pessimists argument. Just as relevant was the article by Bruce
Sterling, who emphasized that oil is an input for everything from “hair gel to home
appliances”, but that could change if the price of oil escalates. In his opinion, this change
would not be something to look forward to, and would carry an odor of “mild decay”.
I presume that he is talking of economic decay, which in turn could lead to the
kind of unappetizing scenarios that feature painful and extensive political, sociological
and cultural disruptions. The Nobel Laureate Sir Harry Kroto once mentioned this sort
of thing while discussing what an oil price escalation would mean for the price of
fertilizers. This is a topic that has not received the attention that it deserves, although
the former Shah of Iran was arguably correct in insisting that oil was too valuable to be
used primarily as a motor fuel, by which he meant that a too rapid exhaustion of oil
reserves would eventually be very bad news for the consumers of petrochemicals – who
happen to be all of us, whether we dress our hair with Brylcreem or axel grease.
In my lectures and books I never miss an opportunity to point out that regardless
of the amount of money being spent on exploration and production, and regardless of
the advances of technology, each decade sees a sharp decrease in the discovery of
reserves. Simmons indicates that the last super-giant oil field discovered was the
Cantarell Field in the shallow waters of the Gulf of Mexico, in l976. He did not bother to
mention that that field has already peaked, and its production will comparatively soon
be approaching one-half of its maximum output. We can encounter disturbing
phenomena of this nature everywhere. Oil production in the U.S. peaked in late 1970,
but later the huge Prudhoe field in Alaska came on stream. The declining production
curve then turned up, however well before it reached the previous peak it turned down
again, following which the import of oil by the U.S. escalated.
This peaking of individual fields is something that was studiously ignored in the
Newsweek presentation, but it happens to be of vital importance for almost all of their
readers, to include those who prefer Frank Sinatra to Daddy Romance. 70 percent of
the world’s oil production reputedly takes place in fields with a falling output. A year
ago Chris Skrebowski said that 18 large oil producing countries, and 32 smaller ones
have falling production, and they will be joined by Denmark, Malaysia, Brunei, China,
Mexico and India soon. Note that in the case of e.g. China and India, although output
may still be increasing, imports of oil are already increasing by ever larger amounts.
Something to be noticed here is what I call ‘Campbell’s Proposition’, by whom I
am referring to the well-known Irish petroleum geologist Colin Campbell. He says that
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for a given region, production curves for oil will approximately resemble discovery
curves. This is definitely not good news. U.S. oil discovery peaked in l930, and
production in l970-71. Discovery peaked in the UK North Sea about l975, and output
close to the end of the 20th century. The global discovery peak for conventional oil was
1965, which has made some observers claim that a global output peak could come at any
time. I don’t believe this because I suspect that some large oil importers are prepared to
use their military assets to prevent this from happening, however it seems useful to
record that the very competent analysts at Deutsche Bank have predicted that the global
peak will come in 2014. To witness oil fields in every part of the world peaking, but yet to
claim that there will never be a global peak, requires an explanation completely divorced
from conventional logic.
China was self sufficient in l993, but in the following year imported 135 million
tonnes of oil. Norway has been a major exporter of oil for the last decade, and has
always done its part to prevent the oil importing world from being discomforted. Their
oil output recently peaked, and since discovery in their part of the North Sea peaked
many years ago, nobody really believes that they will be able to live up to the occasional
bombastic claims about large new finds. An impressive new discovery was made in India
several years ago, but even so domestic supply is only about 25 percent of requirements
in that rapidly growing country. Perhaps the most important reference for this
discussion is the Oil and Gas Journal. Its editors do not believe that the oil peak can be
delayed past 2020, and will likely come sooner. In addition, according to the important
consulting firm IHS Energy, there are few if any major discoveries still to be made.
The other side of the oil story is presented by the Cambridge Energy Research
Associates (CERA) in Boston. It goes like this: large increases in the oil price would
precede or coincide with a peaking of production. This would encourage efficiency,
substitution, and conservation. New oil discoveries would take place and there would be
added emphasis on investments in alternatives to oil. Accordingly, those researchers
believe that the concept of a peak is misleading. As far as they are concerned we will
witness an undulating plateau.
A few influential students of the oil market say that this picture is correct, while a
large majority say that it is wrong. In reality it doesn’t make any difference, even if it is
more wrong than right. Undulating means that a global peak will arrive, followed
eventually by recovery, and at some point after that there will be another peak, followed
by…. The problem is that in the valleys after the peaks, the international macroeconomy
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could suffer convulsions on the order of those experienced during the great depression
(1929-1936). I also think it necessary to suggest that this pseudo-scientific concept of an
undulating peak is the kind of thing that turns up late at night in working dinners or
client ‘encounters’ that feature a heavy consumption of expensive alcoholic beverages.
When could this peak arrive? Somewhere around one trillion barrels of oil have
been extracted so far in human history, and Colin Campbell believes that another
trillion will become available sooner or later in known fields or fields in the yet-to-find
category. Numbers like these have led a French government analysis to predict a global
peak in 2013 or thereabouts. The oil ‘major’ Chevron also seems inclined to use these
figures in their advertisements. They say that while it took us 125 years to use the first
trillion barrels of oil, it will take us just 30 years to use the next trillion. As I explain in
my new textbook, it might actually take us several thousand, although it hardly makes a
difference, because these numbers immediately suggest that it might be very difficult to
delay the global peak for oil past 2020. While Campbell prefers an ultimate reserve
estimate of 2 trillion, there are organizations which believe that this figure should be 3
trillion or more, with well over a trillion consisting of ‘hypothetical’ discoveries. My
opinion is that regardless of the truth, 3 trillion is not a healthy estimate to work with or
bandy about at the present time, because it fosters an unhealthy optimism.
I can also mention that whatever the peak output turns out to be, it will involve
both conventional and unconventional oil . As indicated by Aguilera in his informative
Dissertation (2006), all varieties of unconventional oil are steadily receiving more
attention, but unlike several of Dr Aguilera’s ‘references’ (e.g. Sir Alan Greenspan and
Michael Lynch), I believe that in the near future liquids from tar sands, coal and gas,
heavy oil, etc have much less to offer than commonly believed, and under no
circumstances will be available at the low prices occasionally advertised. I have also
heard it suggested that thanks to scientific progress, “unconventional oil has become
conventional”. Behind a claim of this type can only be fantasy or ignorance.
For example, Venezuela contains a huge amount of reserves in the Orinoco ‘heavy
oil belt’, and given his various ambitions and the cash flow at his disposal from
conventional reserves, there is little doubt that Major Chavez would spare no effort to
exploit these reserves if the cost were not excessive – which it is. The same thing can be
said about the shale of North America or e.g. Sweden, where there is not only money but
world class technologies. Something else to remember is that enough oil must be
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produced every year to provide for both the rate of growth of consumption and the (little
understood) natural decline rate (which will be explained in the appendix).
An interesting point here is that while many observers claim to be able to judge the
extent of discoveries that have not been made, they are not completely certain about the
composition of those which were verified years ago. A good example is the giant Kazakh
oilfield, which according to some commentators is set to smash forecasts, and whose
exploitation involves such big names as Total, Royal Dutch Shell, ExxonMobil and
Conoco-Phillips, as well as a few smaller enterprises who have judged the prospect a
worthwhile investment. Whether we are dealing with dubious forecasts or hype is very
uncertain, because Kashagan has sometimes been labelled the most complicated field in
the world, and only a few years ago it was suggested that its prospects were highly
overrated. One thing is certain: given the likelihood that it will be an enormously
expensive project, and given the bad odour into which some of the directors of big oil
have fallen, it is easier to deal in over-optimistic and/or mendacious claims than to stick
to the truth. Just as important, even if Kashagan lives up to its billing, it and all the
other fields in the Caspian cannot pull the center of gravity of global oil production
away from the Middle East, as some observers have mistakenly chosen to believe.
The IEA has announced that 120 mb/d of oil will be produced in 2030, while the
CEO of the French oil major Total insists that 120 mb/d will never be produced. The
latter sounds right on the money to me, if only because Saudi Arabia will never produce
the 20 mb/d that are implicit in the IEA’s estimate. Kenneth Rogoff, a Harvard
Professor and the former chief economist of the IMF, thinks that speculation about peak
oil is a waste of time. In The Economist (April 22, 2006) he says that “the oil market is
highly developed, with worldwide trading and long-dated futures going out five to seven
years. As oil production slows, prices will rise up and down the futures curve,
stimulating new technology and conservation”. Where futures are concerned his
numbers are right, but the units are wrong. The correct maximum is 5 to 7 months.
Beyond that Rogoff should be made aware that liquidity is completely inadequate, and
there have been periods when liquidity was insufficient beyond 3 months.
Unfortunately this is not the place to launch a discussion of substitutes (in one
sense or another) for oil, nor am I particularly qualified. I cannot help believing though
that Governor Schwartzenegger of California has the right idea, although many very
knowledgeable participants in the forum EnergyPulse question his partiality for
biofuels and hydrogen, etc, since these have been the object of some intensive debunking
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exercises by a number of highly qualified researchers. Even so, I cannot submerge my

belief that – on the basis of information coming my way over the past few years – it
makes more sense to place a modest bet on these assets than oil from tar sands, heavy
oil, and very definitely shale. Needless to say, I could be very wrong here, however I
expect this matter to be given a thorough investigation in the next few years, since most
of the decision makers have decided to recognize that a new departure is appropriate
where motor fuel and environmental matters are concerned.

A STOCK-FLOW MODEL OF THE SHORT-RUN PRICING OF OIL

Some of the background for the following discussion can be found in recent issues of the
(London) Financial Times, where there is a short discussion or mention of the oil price at
least several times a week, and generally with a reference to inventories.
About the diagram below. I have used this is many of my courses in economics,
and all my courses in international finance, where I carefully explained to my students
that if they fail to understand its simple mechanism, they are almost certain to receive a
failing grade. The problem elsewhere, and particularly in my articles, is that readers do
not realize how simple this diagram is. What will be done here is to begin by making
clear that we have a simple stock-flow arrangement, where what is known in economics
as equilibrium is attained when existing inventories are equal to desired inventories.
This is commonly called a stock equilibrium. What about the flow supply and demand
curves that you were introduced to in your first course in economics? It turns out that
when flow demand is not equal to flow supply, these inventories are changing. This is a
very uncomplicated process, and it will be explained to some extent before a small
amount of serious mathematics appears. The important observation here is that the
stock equilibrium takes precedence over the flow equilibrium, and given a stock
equilibrium we have a flow equilibrium – but not the opposite.
In any event, readers of this paper can and should review the discussion below until
they arrive at the mathematics! At that point they can decide whether to examine the
equations that are presented, or go directly to the conclusions.
One more thing. The diagram below is not intrinsically related to those interesting
diagrams that you encountered in your electrical engineering textbooks , although there
is a passing resemblance. This is because the ‘circuit’ containing p and DI is equivalent
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to what is known in electrical engineering as a first-order servomechanism. No big deal

will be made of this observation in the present discussion, however if readers become
interested enough to solve and examine the differential equation that will be formed
later, this property has much to do with the presence of unstable outcomes. Let’s also
notice the following: s, h, DI, and AI are physical items, while e.g. ‘p’ and GNP are
financial items.
In looking at the physical circuit we need to understand that just as oil can move
into inventory, as shown on the diagram, it can also flow in the other direction. The
reader might want to add another arrow to indicate this. Note also that while DI is
labelled a physical item, this is because of its units – which as in the case of AI are
barrels. There are no barrels of oil going into DI as there are in AI, but inventory
holders might wake up one morning with a belief that oil prices will increase (i.e. pe ↑)
because of e.g. recent (correct or incorrect) information they received about the
movement of future prices, and so they want larger inventories. In the mathematics
below no complicated behavioural equations will be formulated for inventory holders
for the simple reason that the result would deserve the classification of pseudo-scientific.
Note that DI is influenced by both price and expected price. If a decision was
reached to increase inventories of oil, and in doing so the oil price increased by a large
amount, a decision might then be made to reduce the speed at which inventories were
being increased – depending on the pattern of expectations. There are many possible
scripts that can be written for this drama. Something that needs to be appreciated is that
a diagram such as Figure 1 is most useful when used to describe price formation in the
global oil market, even though it would be very difficult to develop an expression
describing the formation of a ‘global’ expected price (pe). I don’t worry about that any
more however. What I want is for my students to be able to understand that when AI ≠
DI, inventories will change. If, for example, DI > AI, then present (i.e. flow) production
must exceed present (flow) consumption in order to permit oil produced during a given
period to move into inventories. How do we get this? Well, as in the first course in
economics, beginning with an equilibrium (DI = AI), the oil price must increase: this
raises flow production (s) and reduces flow consumption (h). The difference between the
two is the amount, per period, going into inventories.
David Cohen (of The Oil Drum) has mentioned the origin or location of these
inventories. These can be taken as consumer, producer and ‘official’ inventories that are
constantly referred to by e.g. the Financial Times, other publications, and often in
 14

financial news reports on television. Cohen has however extended this discussion
slightly in his article ‘Angola joins OPEC’ which can be found at http;//www.the oil
drum.com/story/2006/12/18/112945/56.

s Commodity (oil) Income (GNP)

h

AI DI pe, r s: flow supply

p
h: flow demand
p: price
AI: actual stocks
DI: desired stocks
pe = f (p) r: interest rate
pe: expected price
Figure 1

Even in elementary mathematical economics textbooks such as Chiang and

Wainwright (2006), the discussion above suggests the formulation of an equation in
which the change of price with respect to time is a function of the difference between AI
and DI. In the future these will be designated A and D, and at this point we can
remember some advice of Professor Lipman Bers (1975), which is that whenever
possible we should be on the hunt for differential equations. The relevant equation might
be dp/dt = f(D – A). Let’s write this in the following explicit way: dp/dt =  λ(A  D) .
The following expression should be self explanatory if we take for the flow values s = s(p)
and h = h(p), A0 as the initial value of actual stocks, and D* the desired inventories.

t
dp
= −λ[ A0 − D* + ∫ ( s − h)dt ] (1)
dt 0

A differentiation of (1) with respect to ‘t’ will then immediately yield:

d2p/dt2 = – λ[ s(p) – h(p)] (2)

What about a solution for this simple differential equation? My answer on the
present occasion is to compare it with the differential equations we might encounter in
ballistics – for instance those for the trajectory of mortars and recoilless rifles. These
 15

relationships are well known to students of analytic geometry, and have been well
confirmed experimentally. They also provided the basis for some very useful range
tables for myself and colleagues at Camp Gifu (Japan), Fort Lewis (Washington State)
and Hardt Kaserne (Swaebisch Gmuend, Germany), way back in the Dark Ages.
In my present academic work I invariably take linear equations for s(p) and h(p) –
e.g. s = α + ap and h = β + bp. These are of course approximations, and perhaps not very
good approximations. In addition, λ has to do with the ‘speed’ with which the (s – h)
‘gap’ is closed, and in no circumstances could any numerical value that we assigned be
more than an approximation. What we are heading for here is a question as to the
optimal extent of this exercise, and probably the correct answer is formulating equation
(1) and understanding the logic behind it. As for (2), there might be some small utility in
solving this comparative simple second order differential equation and showing how the
values of the parameters (i.e. a, b, λ, α, β) determine the stability of the price.

SOME PRELIMINARY CONCLUSIONS AND EXTENSIONS

As I unexpectedly discovered when I was circulating a few chapters of my new textbook,

certain people deeply resent my making statements such as “oil is scarce” and “the main
oil producing countries do not require the ‘hands-on’ assistance of Big Oil”. The simple
truth of the matter is that these countries have discovered this by themselves, and for the
most part my advice is neither solicited, needed nor appreciated. Moreover, they are not
interested in the opposite point of view, although they know enough game theory (or
possess enough ‘street smarts’) to give the impression that they are attentive.
A useful inclusion in the Newsweek issue frequently mentioned above is a short
comment by U.S. Energy Secretary Samuel Bodman. It is highly interesting that at no
point did he refer to oil. My deduction here is that since Mr Bodman is very likely on a
first name basis with the gentlemen in the executive suites of Big Oil, he would consider
it impolitic to convey their privately expressed opinions of the world oil market to the
TV audience or the readers of news magazines, which almost certainly do not resemble
those that the Newsweek big-wigs are trying to foist on their clientele. One thing however
is certain: at virtually no point in modern times has Big Oil been able to revel in the kind
of profits that they are realizing at the present time, nor expect to receive, and they are
in no hurry to terminate this delightful situation by going on expensive hunts for oil
 16

which they believe does not exist – nor for that matter oil which they believe they could
find it they looked hard enough.
In December, 2006, the Chinese government invited four of the largest oil
consuming countries to Beijing to discuss the future of oil. These countries and their
consumption (in percent of the global output of 85 mb/d) were the U.S. (24.7%), Japan
(6.0%), India (3.1%) and South Korea (2.5%). China’s percentage consumption is 8.6
percent of that output. It was remarkable that Russia was not on the guest list, because
one of the points emphasized in my new textbook is that if Russia continues to develop at
the present rate, and in particular if the number of vehicles in that country continues to
increase at the rate now experienced, their domestic consumption of oil will ensure that
the revenues of all oil exporters will not be threatened by such things as the increase in
the production of biofuels now taking place in many parts of the world, or even a sharp
economic downturn in the U.S. and the EU, because regardless of changes in the global
macroeconomy, Russian oil exports are more likely to stagnate rather than expand.
The United States EIA recently offered a forecast of the real (i.e. inflation adjusted)
oil price in 2030 of $59/b. Employing an inflation rate of 2%, this implies a nominal (i.e.
money) price of oil of $95/b. In Hollywood a film about economists being asked to
determine the oil price in 2030 would be called Mission Impossible, although I’m not
sure that this title would be accepted by my former colleagues at the University of
Stockholm, because those ladies and gentlemen probably know only slightly more about
the oil market than full-time rappers and meringue dancers in the less distinguished
studios of the film capital. The EIA has also decided that the real oil price will fall until
2015, after which it will increase. Readers of this article are strongly advised not to take
these forecasts seriously, because neither the EIA nor anyone else is in possession of
statistical or other methods which would permit the generation of usable forecasts over
more than a limited time horizon. These forecasts may well be elements of the great oil
market game, although I have not given any serious thought to the identity nor the
rationality of all the participants.
This might be the place to mention that according to the Oil Depletion Analysis
Centre (ODAC), which is one of the most important sources of up-to-date information
on oil and gas, the UK Treasury has announced that UK oil output will decline by 3
percent a year until 2011. But according to ODAC it was falling by 10 percent a year
between 2002 and 2005, and this figure will probably be valid for 2006. The question
must then be asked as to whether the downturn indicated by the Treasury is feasible,
 17

and if it should take place, would it be durable. My conclusion is that somebody in

London or elsewhere has either lost their compass, or decided that it is best for oil
consumers in the major importing countries if they ignore the economic, political and
geological realities behind the present oil price, and elect to believe that at some point in
the not too distant future they will not only have all the oil to which they believe they
are entitled, but that it will be available at modest prices.
Finally, I would like to point out that my previous energy economics textbook
(2000) did not receive the all-inclusive appreciation that I expected. To my great
surprise a negative review was fabricated by the book review editor of the Energy
Journal, Professor Richard Gordon. Eventually I concluded that one of the reasons for
his pique was that I never – and I mean never – miss an opportunity to reveal that in
faculties of economics in virtually every part of the world, both teachers and students of
resource economics are being forced, or forcing themselves, to confront the bizarre and
utterly hopeless model of Harold Hotelling (1931). Please let me assure you that
Professor Hotelling was a brilliant economist, even if he did the great world of
theoretical economics a disservice by producing that article. I reveal this because on the
occasion of a lecture that I gave in wonderful Copenhagen, I was told that even if
Hotelling’s model is without an iota of scientific relevance, it must still be taught
because of the purported absence of a suitable alternative. Do yourself a favour and try
to avoid being on the receiving end of that so-called ‘teaching’.

APPENDIX: A MATHEMATICAL NOTE ON THE NATURAL DECLINE

RATE

I begin this appendix on a fairly low level. For some readers this should suffice, however
if they want a strictly non-technical presentation I suggest that they look up the ‘decline
rate’ or ‘natural decline rate’ on GOOGLE. It is also likely that they can get some help
from a publication like ‘The Oil and Gas Journal’, and the excellent article of Dennis
Moran (2006). Regardless of where they get their information, the natural decline rate
should be regarded as an increasingly important topic in oil/energy economics, and it
very definitely makes sense for all genuine students of the subject to take it seriously.
Among other things I put together a semi-formal exercise of the kind I employed in
my lectures on oil and gas in Stockholm and Milan (Italy). What I am aiming for here is
to say something meaningful about investment as well as production. The point is to
 18

work my way up to a function of the type ψ(q1, q2, ….,qT ; I1, I2, ….., IT), where the ‘q’s
are production, and the ‘I’s are investment. I was influenced in this project by a
contribution of the late Thomas Stauffer (1999), although I am was not satisfied with
some (theoretical) aspects of Stauffer’s exposition. One of the more attractive features
of Stauffer’s approach is his recognition that mainstream academic economics is filled
with implicit references to annuities. In both my intermediate and forthcoming
elementary energy economics textbooks (2000, 2007) I pay considerable attention to this
topic, because it is extremely important in examining the cost of nuclear energy.
There are some loose ends here, however I see no reason to excessively burden
students of economics and finance with details. The simple fact of the matter is that
students of energy economics – like myself for instance – are constantly exposed to a
great deal of information of dubious value on both the empirical and theoretical level,
and given the increasing importance of energy, it might be time to show some
intolerance for pedagogically sub-optimal presentations. I want to make it clear however
that my knowledge of petroleum engineering is very definitely limited, and the analysis
below originated in a faculty of economics. While not certain, I believe that I saw a few
oil wells when I lived in Los Angeles, and it is possible that I identified what might have
been another of these items from the window of a train crossing what I think was a
desert somewhere in the great American West, but for one reason or another I was not in
very good form on that occasion.

SOME BACKGROUND

Several years ago Mr Lee Raymond – the former CEO of Exxon-Mobile – gave an
interview in which he emphasized the importance of the natural decline rate of oil
deposits. Like many persons who read that interview, I mistakenly shrugged it off,
however in examining the work of Matthew Simmons dealing with the likely peaking of
the global oil output, it is clear that this is a topic whose basic elements should be
understood by everyone concerned with the future of world oil.
As suggested above, rather than turning to the technical literature, I consulted
GOOGLE, where I found several useful examples by Simmons. He cites an oil field in
which individual wells are declining at a rate of 18%/year, while the output of the field is
only declining at 10%/y. What is happening is that if the inputs being used are held
constant, then instead of the production of a well remaining constant, or nearly constant,
 19

it declines by 18% on the average. This is where ‘natural decline’ comes into the picture,
and one way it can be described is in terms of the loss in capacity that would occur in a
given structure/asset if no remedial or offsetting action is taken.
The 10% decline of the field (instead of 18%) can thus be explained by the fact that
inputs are not constant. In other words, remedial action takes place in the form of
drilling new wells and/or taking steps to increase the output of existing wells (via, e.g.,
injecting water or carbon dioxide or the use of surfactants to increase viscosity). These
procedures can be labelled investment, and in monetary terms have the same
significance as the investment required to produce, process and transport in one
manner or another the output of an oil field.
A few equations might be useful for continuing the discussion. If we had no natural
decline, we could think in terms of a capital good without depreciation. Positing uniform
monetary returns ‘A’ to this asset over a time horizon ‘T’ and with τ ≥ t, then
discounting of the kind introduced in Economics 201 will yield for value (V) of the asset:
t+T
A
V = A ∫ e-r(τ – t) dτ = r
[1 – e-rT] (A1)
t

The discount ‘rate’ is r, and this a result for which students of mine were promised a
failing grade if they were unable to reproduce it on request. (As easily confirmed, if T
approaches ‘infinity’, then we get V = A/r).) Even more important however is the
following approximation of (1). With erτ ≈ (1+r)τ we obtain:

Vr (1 + r )T
A= (1 + r )T − 1
(A2)

How do we use this? Suppose that we buy an asset for which V = $1000, r = 10% and
T = 2 years. Among the ways of paying for the asset are $1000 on the day that it is
purchased, 1000(1+r)2 = $1210 after two years, and A = $576 at the end of the first and
second years. Note also that δA/δT ≤ 0, and δA/δr ≥ 0. This is one of the most important
expressions in economics, and it can easily be derived without calculus! It also needs to be
pointed out that as in Stauffer’s work, the asset discussed below is an oil deposit rather
than a conventional capital good. Now let’s examine a case that in economic theory is
called “depreciation by evaporation”, where an asset is subject to a constant force of
mortality ‘Ө’. In this situation (1) would take the following appearance:
 20

t+T
A
V = A ∫ e-(Ө + r) (τ – t) dτ = θ+r
[1 – e- (Ө+r)T] (A3)
t

Equations (1) and (3) could serve as an interesting starting point for an exposition if
many readers were not allergic to integrals, but even if they were madly in love with the
calculus, the presentation below should at least be satisfactory, because the emphasis in
this note is on the natural decline rate. Here it might be useful to mention that,
according to information at my disposal, annual decline rates for Iran may be as high as
8%/y onshore and 13%/y offshore, while for Saudi Arabia the figure is ostensibly 2-4%.
Determining the suitability of these estimates however will be left to somebody else.
We can notice though that if e.g. Saudi Arabia’s decline rate averages 3%/y, then
capacity must be boosted every year by almost 300,000 barrels per day in order to
maintain an output of 9-10 million barrels/day (mb/d). A problem here is that the
deposits of that country are old, and investments required to maintain output could
become very costly because of damage sustained by fields due to (among other things)
production processes which involve the extensive use of water. As a result, given the
expected demand for oil, Saudi oil field managers may have concluded that optimal
behaviour on their part is to minimize the expansion of output. The government of Saudi
Arabia has promised the oil importing countries that it will raise its production to 12
mb/d, which they might do – although it is not certain; however given the requirements
of oil importers in a decade or so, 12 mb/d is patently inadequate.

THE BASIC MODEL

I will start this section with a simple model that I employed in the first lecture that I
gave on oil, which was at the Australian National University in Canberra, in what now
seems like several centuries ago. This model will then be extended somewhat to take into
consideration the natural decline rate.
First of all we need to understand the fallacy in a statement such as “With all the
reserves in place now, we have a 40 year supply of oil even if we do not find another
drop.” This statement originated with observing that the global reserve-production (R/q)
figure is 40, however the important issue is not the R/q ratio, but when production in a
 21

field, region, or for that matter the entire oil producing world turns down. As should be
obvious from a consideration of the example below, present reserves should last
hundreds or even thousands of years, however once the production peak has been
reached the number of years that oil ‘lasts’ is of considerably reduced interest.
This is not to say that the R/q ratio should be ignored, but a statement such as the
above (about a 40 year availability) is meaningless. In looking at a deposit or field the
important thing is that if the R/q ratio falls below a certain level – probably somewhere
between 10 and 15 – then the deposit is being ‘damaged’ in the same manner that
sucking too hard on a straw will damage an ice-cream soda. This particular R/q ratio
can be designated the critical R/q ratio, or θ*, and for simplicity I always take it as 10 –
although Flower (1978) prefers the higher figure (for reasons spelled out with some
simple algebra in my previous textbook). The damage will be manifested by a reduction
in the total amount of oil that can ultimately be removed from the deposit.
Now for the important point. When the R/q ( = θ) ratio reaches the critical value, the
critical value will determine production in the sense that production should adjust in such
a way as to hold the critical value approximately constant. (Should and not will, because
there might be valid economic reasons for hastening depletion. Moreover this is a
theoretical point in economics rather than physics, and so from time to time it may be
possible to see large exceptions.)
An example is useful here. Assume that we have a field with 225 units (= R) of oil
reserves, and we desire to lift 15 units per year, and our critical R/q ratio (θ*) is 10.
Using the logic expressed in the previous paragraph, it is obvious that we can have an
output of 15 units/year for five years. During this period the R/q ratio falls from 14 (at
the end of the first year) to 10 at the end of the fifth year, while reserves fall to 150 units.
After that, however, if we continue to remove q = 15 units/year, we are violating our
constraint: the R/q ratio will fall under ten. For instance, if we removed 15 more units
(q = 15), then reserves would fall to 135, and R/q decreases to 135/15 = 9.
To keep this ratio at 10 (= θ*), production in the sixth year should not be larger
than 13.64. (Thus R/q = (150 – 13.64)/13.64 = 10.) Continuing, in the seventh year
production cannot be larger than 12.4. Readers should be able to get these results by
simple trial and error, however this exercise may be generalized to show that 10 ≤ R t/qt
≤ (Rt-1 – qt)/qt. In turn this expression may be solved to give qt ≤ Rt-1/11 (or, more
generally, qt ≤ Rt-1/1+ θ*). As explained in my forthcoming textbook, this operation is
 22

merely another way of saying that in any (e.g.) year, the percentage of reserves
extracted should be less than or equal to 10%.
The above is an important example, and after making sure that they understand it
perfectly, readers should confirm that there is a large amount of oil in the ground when
output turned down. Moreover, when we look at the production profiles of actual major
oil or gas regions like the United States, what we see is that when peaking takes place
(and production sooner or later begins to decline), there is still a huge amount of the
resource in the ground, and in addition much of this is immediately extractable. The
interpretation here is as follows: the peak is explained by economics and not geology.
More is not extracted – and the peak delayed – because in the interests of profit
maximization, the optimal behavior is to extract it later! As explained in Banks (2004,
2000), geology essentially functions as a constraint. This is a crucial point that everyone
reading this note should make every effort to understand.
But something is missing here, and that something is the natural decline rate. In
the above example, sufficient investment was made to obtain an output of 15 units/year.
But what would happen if the natural decline rate was 20%, and the intention was to
keep output at this level. Then next year more investment would be necessary in new
wells or increasing the output in existing wells. And the year after that: still more
investment would have to take place. The decline rate being used here is probably
excessive, however it makes the arithmetic simple. I have also kept the decline rate
constant, however it is very likely that this rate is influenced by the extraction program.
In addition, although in the example below I am operating exclusively on production,
this business of holding production constant almost certainly causes stresses on reserves.
I don’t treat this however because making assumptions about how reserves are affected
by production is beyond my capacity as a modest teacher of economics and finance.
In continuing with the example with which I began this section, but taking into
consideration a decline rate of 20%, and electing to hold production at 15 units/year, we
have the scheme shown below. I will however increase the initial reserves available from
225 to something much larger. The reason is that I am not involved with any peaking in
this note. I simply want to make a point about the natural decline rate.
Please let me repeat. Readers would do well to concentrate on the materials in this
section, and for the rest of the story they can examine my paper ‘Logic and the Oil
Future’ which is directly below, and also was published in the first edition of the journal
 23

‘ENERGY SOURCES II, where the intention is to publish as much economics as

possible.

YEAR 1: 15 (I1)
YEAR 2: 0.8 x 15 0.2 x 15 (I2)
YEAR 3: 0.82 x 15 0.8 x (0.2 x 15) 0.2 x 15 (I3)
3 2
YEAR 4: 0.8 x 15 0.8 x (0.2 x 15) 0.8 x (0.2 x 15) 0.2 x 15 (I4)
4 3 2 2
YEAR 5: 0.8 x 15 0-8 x (0.2 x 15) 0.8 x (0.2 x 15) 0.8 x (0.2 x 15) 0.2 x 15 (I5)
………………………………………………………………………………………
YEAR T: 0.8T-1 x 15 ………………………………………… 0.2 x 15 (IT))

If we look at this tableau what we see is that in YEAR 1 investment of I 1 was made
to obtain 15 units of output. Because of natural depletion, in YEAR 2 additional
investment of I2 was necessary to obtain an additional output of 0.2 x 15 – i.e. the decline
rate times 15 – in order to bring the total output up to 15 [ = (0.8 x 15) + (0.2 x 15)].
Mathematical induction could be useful here if the logic behind this scheme was
not so simple. Let’s take the decline rate as (1 – Ө), which in the example means 0.20,
which in turn means that Ө = 0.80. Now let’s see what we have for YEAR 4 in symbolic
terms: 15(1 – Ө) [1 + Ө + Ө2 + Ө3]. The expression is the large parenthesis can be
simplified to [(1 – Ө4)/ (1 – Ө)], and so in YEAR 4 we have 15(1 – Ө4) + 15Ө4 = 15.
Nothing has been said here about the size of the ‘I’s (which represent additional
investment in e.g. wells for the purpose (in this example) of holding output at 15
units/year) but on the basis of the work of Simmons and others, it involves more than
walking-around money. (Something like this kind of program may be relevant for Saudi
Arabia, where for the time being the intention seems to be to hold output in the 9-10
mb/d range.) Note also that if we had numerical values for the ‘I’s, we could fill in the
expression mentioned at the beginning of this note, which was given as ψ(q1, q2, ….,qT ;
I1, I2, ….., IT). Thus far, if we had T = 5, then this expression might be ψ( 15, 15, 15, 15,
15 ; I1, I2, I3, I4, I5 ). Putting together an example with explicit ‘I’s which also said
something about the depreciation of the deposit due to additional investment is a
comparatively simple matter algebraically, but it would involve a degree of arbitrariness
relating to the decline of the deposit that I prefer to avoid.

ANOTHER EXAMPLE, AND ANOTHER CONCLUSION

 24

I would now like to present a partial simplification of Stauffer’s model. What I prefer
doing is to provide a complete simplification, because if this were possible I would be
able to extend my work on the R/q ratio, but unfortunately I am unable to believe that
this ratio is influenced by monetary factors in the way that they are in Stauffer’s
analysis. I could be wrong on this, but that is for somebody else to demonstrate.
Following Stauffer, I assume that output in physical units depends on investment
via an inversion of the equation Iτ = vgqτ. What happens here is that gqτ is an increase in
physical output, where g is a growth rate. v relates investment to the desired increase in
output. Here I deviate from Stauffer’s model in order to underscore the natural decline,
and therefore specify something that I call the Gross Investment (= G τ) for period ‘τ’ as
Iτ + Dτ. Dτ is investment that compensates in the manner specified for the natural
decline, rather than the decline itself. And observe, in the model below we are looking
back rather than forward, and so I alter the notation somewhat.
The mathematics then becomes more or less trivial. If we have G τ = Iτ + Dτ, I will
specify that e.g. Gτ = Iτ + λ(Iτ-1 + Dτ-1), with 0 ≤ λ ≤ 1 for the degree of compensation λ. If
we introduce v and g into the analysis in an appropriate manner we obtain:

Gt = vgqt + λvgqt(1+g)-1 + λ2vqt(1+g)-2 + ……+ λN vgqt(1+g)-N + λNDt-N (A4)

If N is large enough the last term can be dropped, and to complete the derivation we
can take (1+g)-1 = Φ. It is then possible to write (4) as:

Gτ = vgqτ[1 + λΦ + λ2Φ2 + … + λNΦN ] = vgqτ[1 + λΦ + (λΦ)2 + ..+ (λΦ)N] (A5)

In street language this would probably be called “yesterdays news”, because if

desired an annuity-type expression can be obtained. The expression in the parenthesis is
easily summed, and from (5) we obtain vgqτ{[1 – (λΦ)N+1]/[1 – (λΦ)]}. If desired this can
also be turned into an annuity, which Stauffer might call A[vgqτ , λΦ , N]. Once we have
the annuity we can find the integral to which it corresponds. That integral might have a
place in some future book or paper I write, though at present I have my doubts.
For what it is worth, Stauffer arrived at a similar (though not identical) result via a
succession of integrals, after which he tried to fit the R/q ratio (in physical units) into the
 25

analysis. I’m afraid though that I had a problem with this part of his derivation, and so I
leave it to interested readers.
An appropriate conclusion for this appendix might be that what appears to be
complicated – thanks to the presence of a few integrals – is actually very simple. Thus
the question asked so often by American soldiers during WW2 – ‘Is this trip necessary?’
– might be answered in the present case by both ‘yes’ and ‘maybe’. Very definitely ‘yes’
to the basic model and the slight extension offered in this paper, as well as the presence
of equation (A2), and ‘maybe’ to the rest.

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_____ . (2006). ‘Logic and the oil future’. Energy Sources II, No 1.
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_____ . (1974) ‘A note on some theoretical issues of resource depletion.’ The Journal of
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_____ . (1972) ‘An econometric model of the world tin economy: a comment’.
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Bers, Lipman and Frank Karal (1975). Calculus. New York: Holt, Rineheart, Winston.
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Cassidy, John (2003). ‘Beneath the sand.’ The New Yorker (July 14 & 21).
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Duffin, Murray (2004). ‘The energy challenge 2004 – petroleum.’
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Fisher, Franklin, P.H. Cootner and Martin N. Bailey. ’An econometric model of the
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