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<strong>China</strong> & <strong>Energy</strong>:<br />

Two Powerful Forces That Will<br />

Unite Or Collide<br />

Institute for Geopolitics & <strong>Energy</strong> Economics<br />

Shanghai<br />

June 18, 2004<br />

Presented By:<br />

Matthew R. Simmons


Modern <strong>Energy</strong> Is<br />

The Basis For Prosperity<br />

• Oil, natural gas, coal, nuclear<br />

and hydro underpin all aspects<br />

of 21 st Century prosperity.<br />

– Clean water<br />

– Food production<br />

– High technology<br />

– Health care<br />

– Globalization and economy<br />

• No other resource is as important.<br />

• To grow and prosper modern energy must be available<br />

and reliable.<br />

SIMMONS & COMPANY<br />

INTERNATIONAL


The World’s <strong>Energy</strong> Experts Made<br />

A Big Mistake<br />

• Over the last decade, conventional<br />

energy wisdom said:<br />

– Global GDP uses less energy.<br />

– Global energy growth is slowing down.<br />

– Price to extract oil and gas will steadily fall.<br />

– “High Prices” would create surge supply<br />

and kill demand growth.<br />

– Technology will create easy access to<br />

abundant energy.<br />

• Every concept was wrong!<br />

SIMMONS & COMPANY<br />

INTERNATIONAL


What The Experts Missed<br />

• <strong>Energy</strong> demand was about to<br />

soar because of two powerful<br />

drivers:<br />

– Prosperity (OECD)<br />

– Poverty (5 billion people<br />

using little energy)<br />

• Cost to keep oil and gas<br />

production flat was about to<br />

double.<br />

• Decline rates in too many regions was eroding spare<br />

capacity.<br />

• Technology to create energy was misunderstood.<br />

SIMMONS & COMPANY<br />

INTERNATIONAL


Revisiting<br />

“<strong>China</strong>’s Insatiable <strong>Energy</strong> Needs”<br />

Early 1990’s: My skepticism of<br />

“Flattening <strong>Energy</strong><br />

Demand” grew.<br />

Mid 1990”s:<br />

My study of “per capita<br />

energy/ oil use” began.<br />

Spring 1997: My 16-day <strong>China</strong> visit<br />

awakened me to <strong>China</strong>’s<br />

real energy demand<br />

issue.<br />

Fall 1997:<br />

I completed my white<br />

paper.<br />

SIMMONS & COMPANY<br />

INTERNATIONAL


The 1997 Issues<br />

• Will <strong>China</strong>’s plan to create prosperity succeed?<br />

• If so, what will their energy<br />

mix become?<br />

– Can coal use stay so high?<br />

– Is it feasible to develop<br />

gas so fast?<br />

– Will domestic oil supply grow<br />

or stay flat?<br />

• Is it possible to expand GDP without similar growth in<br />

energy use?<br />

SIMMONS & COMPANY<br />

INTERNATIONAL


Wildest 1997 Demand Forecasts<br />

Chinese Oil Demand<br />

2005 2010 2015<br />

EIA 5.5 6.9 8.6<br />

East West Center 5.3 -- --<br />

Hydrocarbon Asia 5.0 -- --<br />

Petro Consultants 5.5 -- --<br />

<strong>China</strong> State Planning -- 6.0 10.0<br />

SIMMONS & COMPANY<br />

INTERNATIONAL


My “Simple” 1997 <strong>China</strong> <strong>Energy</strong> Model<br />

Case 1:<br />

Case 2:<br />

4.3% compound energy growth.<br />

7.0% compound energy growth (Taiwan Experience).<br />

BOE/Day<br />

CASE 1 CASE 2<br />

2005 2015 2005 2015<br />

Coal 16,500 23,200 21,300 38,700<br />

Oil 6,345 10,000 8,200 16,800<br />

Natural Gas 1,523 3,900 2,000 6,500<br />

Total 24,365 37,100 31,500 62,000<br />

SIMMONS & COMPANY<br />

INTERNATIONAL


Access To Modern <strong>Energy</strong><br />

Is Critical to Asia<br />

• <strong>China</strong> is the leading nation in its need for reliable modern energy.<br />

Ideally it is also:<br />

– Affordable<br />

– Clean and efficient<br />

• India and “other Asia” long term energy needs are even greater<br />

than <strong>China</strong>’s:<br />

Current <strong>Energy</strong><br />

Consumption<br />

(Per Capita)<br />

<strong>China</strong> 5.8<br />

India 2.3<br />

Pakistan 2.2<br />

Bangladesh 0.7<br />

Source: BP <strong>Energy</strong> Statistics.<br />

SIMMONS & COMPANY<br />

INTERNATIONAL


What Is Happening In<br />

Global <strong>Energy</strong> (2004)<br />

• <strong>Energy</strong> “circa 2004” looks way different than<br />

a decade ago.<br />

• Or even in 1997.<br />

• Many conventional<br />

energy myths were<br />

simply illusions.<br />

• We are now entering “Unchartered <strong>Energy</strong><br />

Seas”.<br />

SIMMONS & COMPANY<br />

INTERNATIONAL


“Spare Me From Interesting Times”<br />

(Attributed to Chairman Mao)<br />

• These are “interesting energy<br />

times”.<br />

– Crude oil prices recently hit 20-year<br />

high.<br />

– Natural gas prices soared even higher.<br />

– Land rig count edges towards old<br />

2001 “record”.<br />

– Offshore drilling in Gulf of Mexico and<br />

North Sea is moribund.<br />

SIMMONS & COMPANY<br />

INTERNATIONAL


Surprises Are Steadily Rising<br />

• High oil and gas prices.<br />

• Lack of visible production growth.<br />

• Low offshore drilling in GOM/North Sea.<br />

• Lack of significant jump in oil service pricing.<br />

• Strong energy demand.<br />

• Proven reserve write-downs.<br />

• Low inventories.<br />

• Little spare capacity.<br />

SIMMONS & COMPANY<br />

INTERNATIONAL


Questions Are Growing<br />

• What are “fair” oil and gas prices?<br />

• What is actual shut-in supply and where?<br />

• How fast is demand growing?<br />

• When is capacity gone in:<br />

– Tankers<br />

– Refineries<br />

– Rigs<br />

• Can demand exceed daily supply?<br />

SIMMONS & COMPANY<br />

INTERNATIONAL


The “Risk Premium” Of Oil<br />

Causes:<br />

• War in Iraq<br />

• Terrorism in Saudi Arabia<br />

• Hedge funds are “too long”<br />

• Refinery “jitters”<br />

• Gasoline tightness<br />

All will likely “end” next season.<br />

SIMMONS & COMPANY<br />

INTERNATIONAL


45<br />

40<br />

35<br />

30<br />

25<br />

20<br />

15<br />

10<br />

5<br />

0<br />

Does Watching The “Price” Help?<br />

• Are current prices aberration?<br />

• Or are we into a new energy era?<br />

Crude Oil<br />

8<br />

Natural Gas<br />

7<br />

6<br />

5<br />

4<br />

3<br />

2<br />

1<br />

0<br />

1991<br />

1992<br />

1993<br />

1994<br />

1995<br />

1996<br />

1997<br />

1998<br />

1999<br />

2000<br />

2001<br />

2002<br />

2003<br />

2004<br />

2004<br />

2003<br />

2002<br />

2001<br />

2000<br />

1999<br />

1998<br />

1997<br />

1996<br />

1995<br />

1994<br />

1993<br />

1992<br />

1991<br />

SIMMONS & COMPANY<br />

INTERNATIONAL<br />

$/bbl<br />

$/mcf


What Are The “S/D” Fundamentals?<br />

• S = Supply of oil is flattening out.<br />

Supply of natural gas is in decline.<br />

• D = Demand of oil and natural gas is<br />

growing too fast.<br />

• I<br />

= Inventories are too low.<br />

SIMMONS & COMPANY<br />

INTERNATIONAL


Non-FSU/Non-OPEC Supply<br />

Has Flattened Out<br />

• In high price environment, non-FSU, non-OPEC<br />

supply has been flat for 5 years.<br />

– Declining production is offsetting all supply gains.<br />

– North Sea has clearly peaked.<br />

– Production growth is becoming rare.<br />

• The numbers are illuminating.<br />

Non-FSU/Non-OPEC<br />

Oil Supply<br />

Million Barrels Per Day<br />

2000 2001 2002 2003 2004E<br />

36.5 36.4 36.9 36.8 37.2<br />

SIMMONS & COMPANY<br />

INTERNATIONAL


FSU Supply Gains Were<br />

Enormous Surprise<br />

• Growth came “out of the blue”.<br />

• Some numbers are hard to believe.<br />

• Some gains could not be sustained.<br />

• At some point, FSU demand will soar.<br />

2000 2001 2002 2003 2004E<br />

FSU Supply 7.9 8.6 9.4 10.3 11.1<br />

FSU Demand 3.7 3.7 3.5 3.6 3.8<br />

Exports 4.2 4.9 5.9 6.7 7.3<br />

SIMMONS & COMPANY<br />

INTERNATIONAL


Saudi Arabia’s Exports To<br />

OECD Never Soared<br />

• While Saudi Arabia claims it added approximately<br />

2 million b/d in 2003, little arrived in OECD.<br />

1999 2000 2001 2002 2003<br />

Dec-<br />

Feb<br />

2004<br />

2Q<br />

2003<br />

Rest<br />

Of<br />

2003<br />

OECD<br />

North America 1.51 1.63 1.70 1.60 1.82 1.48 2.16 1.71<br />

Europe 1.31 1.39 1.25 1.16 1.31 0.98 1.54 1.23<br />

Pacific 1.65 1.83 1.84 1.72 1.80 1.83 1.90 1.77<br />

Total 4.47 4.85 4.79 4.48 4.93 4.29 5.60 4.71<br />

Source: IEA Regional OECD Crude Imports by Source, May 2004.<br />

SIMMONS & COMPANY<br />

INTERNATIONAL


FSU Exports To OECD Create Questions<br />

• Could exports outside FSU have doubled<br />

without more oil coming to the OECD?<br />

2001 2002 2003 2003/2004<br />

(Dec/Jan/Feb)<br />

North America -- 0.09 0.16 0.02<br />

Europe 2.68 3.12 3.49 3.74<br />

Pacific 0.05 0.07 0.06 0.03<br />

Total 2.73 3.28 3.71 3.79<br />

SIMMONS & COMPANY<br />

INTERNATIONAL


IEA’s Supply/Demand<br />

Revisions Are Stunning<br />

• Month-by-month “revisions” to global oil S/D<br />

are getting serious.<br />

• In last 10 months, 2004 estimated oil changes:<br />

Demand Growth: Increase of 1.6 million<br />

barrels per day<br />

Non OPEC/FSU Supply: Decrease of 0.6 million<br />

barrels per day<br />

Net Change: 2.2 million barrels per day<br />

SIMMONS & COMPANY<br />

INTERNATIONAL


Oil Demand Is Gathering Steam<br />

• “<strong>China</strong>” is the “one-line story.”<br />

• But the real story is different.<br />

1999 - 2004<br />

(mmb/d)<br />

<strong>China</strong> 2.19<br />

North America 2.13<br />

Middle East 0.94<br />

Rest of World 1.83<br />

World Oil Demand Growth 7.09<br />

SIMMONS & COMPANY<br />

INTERNATIONAL


The Nub Of <strong>China</strong>’s <strong>Energy</strong> Use<br />

<strong>China</strong>’s<br />

Car<br />

Ownership<br />

(Thousands)<br />

1993 700<br />

2001 1,800<br />

2002 3,300<br />

2003 4,500<br />

2004 7,000+<br />

SIMMONS & COMPANY<br />

INTERNATIONAL


Has <strong>Energy</strong> Demand Become A<br />

Run-Away Train?<br />

• <strong>Energy</strong> “experts” assumed oil demand was peaking and gas demand<br />

growth would be slow.<br />

– Oil demand stayed at 66 million<br />

barrels per day for 5 years.<br />

– Warm winters stifled natural<br />

gas demand.<br />

– Developing countries’ growth<br />

was “suspect.”<br />

• <strong>Energy</strong> demand growth proved<br />

extremely durable.<br />

• Its drivers are “Poverty and Wealth”:<br />

– India 0.7 bbl oil use per person<br />

– U.S. 25.0 bbl oil use per person<br />

• Between 1994 and 2004: Growth spurt totaled 14 million barrels per day.<br />

SIMMONS & COMPANY<br />

INTERNATIONAL


World Demographics:<br />

Far More People Than "Things"<br />

7<br />

6<br />

5<br />

Is this gap permanent or about to change?<br />

4<br />

3<br />

2<br />

1<br />

0<br />

6.3 Billion<br />

People<br />

1 Billion<br />

TV Sets<br />

600 Million<br />

Cars<br />

480 Million<br />

Mobile Phones<br />

350 Million<br />

Computers<br />

SIMMONS & COMPANY<br />

INTERNATIONAL


Oil Stocks Consumed To Rectify<br />

S/D Imbalance<br />

• The OECD oil stocks cushion got consumed:<br />

– 2 nd Q 1993 66 Days<br />

– 2 nd Q 2004 51 Days<br />

Difference 15 = 15 X 48 mmb/d = 720 million<br />

• This was not “efficiency gains” but accidental.<br />

• It is equivalent to a 180,000 b/d new oilfield.<br />

SIMMONS & COMPANY<br />

INTERNATIONAL


Growth In Non-OECD Demand<br />

Another Reason For Strained Stocks<br />

• The world has no oil stock data outside OECD.<br />

• But growth in oil use requires minimum levels of<br />

inventory and more “oil at sea.”<br />

• Last decade’s non-OECD/non FSU-demand growth:<br />

-----MMBL-----<br />

1994 2004<br />

Oil Demand 24.0 28.4 per day<br />

30-Days’ Supply 720 850<br />

Probable increased oil in storage = 130 Million Barrels<br />

SIMMONS & COMPANY<br />

INTERNATIONAL


The Oil Markets Are Running<br />

Out Of Spare Capacity<br />

• Market still believes world has 2.0 to 2.5 million b/d of<br />

shut in capacity.<br />

– This is not much of an energy cushion.<br />

– There is no evidence it actually exists.<br />

• The global tanker fleet now operates at 100% most of<br />

the time.<br />

• Refineries that make the right products from available<br />

grades of crude are approximately 100%.<br />

• Our global “wiggle room” is gone.<br />

SIMMONS & COMPANY<br />

INTERNATIONAL


The Problem: A Clash Of Ages<br />

• Demand is still gathering steam:<br />

– 5.0 billion people just starting to use oil.<br />

– 1.2 billion people using more and more each day.<br />

• Oil supply is anchored by very old supply<br />

– 70+% of daily supply comes from fields found<br />

before 1970.<br />

– Giant oil fields are very old.<br />

– Young fields are very small.<br />

SIMMONS & COMPANY<br />

INTERNATIONAL


World Has An<br />

Inverted Oil Pyramid<br />

• 14 giant oil fields account for 20% of<br />

daily supply.<br />

• All these giant fields are old. Some are<br />

now ancient.<br />

• ≈ 120 oil fields produce 47% of world’s<br />

oil. (10% are new and all are small.)<br />

• Other 53% = 5,000 small to tiny<br />

oilfields.<br />

• Good gas data is not available but<br />

probably almost this old.<br />

Number Of<br />

Oilfields<br />

5,000+ Other Fields<br />

(53%)<br />

61<br />

(12%)<br />

29 (9%)<br />

12 (6%)<br />

14<br />

(20%)<br />

SIMMONS & COMPANY<br />

INTERNATIONAL


Why Oil Supply Has Flattened Out<br />

• Most companies now<br />

struggle to maintain flat<br />

oil and gas production.<br />

• Same companies are<br />

spending 2 to 3 times<br />

more CAPEX.<br />

• Most countries now face<br />

declining production.<br />

• Most new supply additional barely offset “depletion”.<br />

• The fury of depletion now eats up most new supply sources.<br />

SIMMONS & COMPANY<br />

INTERNATIONAL


56% Of Current Oil Supply<br />

Is In Decline<br />

• Growing list of key oil producers<br />

now in decline or about to begin<br />

steep decline.<br />

• Some countries declined<br />

decades ago:<br />

USA<br />

Venezuela<br />

Iran<br />

Russia<br />

Indonesia<br />

Argentina<br />

Columbia<br />

Egypt<br />

Cameroon<br />

India<br />

• Some are just beginning:<br />

Norway<br />

Oman<br />

Middle East?<br />

SIMMONS & COMPANY<br />

INTERNATIONAL


Global Natural Gas Issues<br />

Are Also Serious<br />

• Conventional wisdom assumes the<br />

globe has vast amounts of<br />

“stranded gas”.<br />

• 98% has never been properly<br />

explored.<br />

• 65% of current gas production is<br />

in decline.<br />

• LNG is growing but consumes 35%<br />

of wellhead gas to create LNG.<br />

• GTL consumes 65% of wellhead gas.<br />

SIMMONS & COMPANY<br />

INTERNATIONAL


How Secure Are Global<br />

Oil And Gas Resources?<br />

• The issues are important and complex.<br />

• The data/answers are very “fuzzy”.<br />

• Big issues include:<br />

– Amount of spare capacity:<br />

At wellhead.<br />

At point of export.<br />

At finished product levels.<br />

By type of crude.<br />

– Proved reserves:<br />

Paper barrels or real proven reserves?<br />

Independent audit or internal wish?<br />

– Amount of incremental production growth.<br />

SIMMONS & COMPANY<br />

INTERNATIONAL


Proved Reserves Are Complex<br />

• Shell’s proven reserve “bombshell” exposed fuzzy<br />

nature of “proved reserves”.<br />

• Estimating proved reserve science is still an art.<br />

• Many country-by-country reserves have no support<br />

data:<br />

Billion Barrels<br />

1982 1992 2002<br />

Middle East “Proved Reserves” 369.0 661.8 685.6<br />

• No great fields found in Middle East since 1970!<br />

• Are most of these increases merely “paper barrels”?<br />

SIMMONS & COMPANY<br />

INTERNATIONAL


Proved Reserve Overstatement<br />

Might Be “Systemic”<br />

• Shell, et al., could be “tip of the ice berg”.<br />

• Root problem: Oil and gas prices were too low.<br />

– Cost cutting reduced:<br />

Skilled people<br />

Third-party “second set of eyes”<br />

Multiple appraisal wells<br />

Testing appraisal wells by:<br />

– Core samples<br />

– Flow rates<br />

• Instead, cheap “technology” saw what was there!<br />

SIMMONS & COMPANY<br />

INTERNATIONAL


Reserve “Estimators” Are Still “Seers”<br />

• 2000: “Undiscovered recoverable gas in<br />

Western Canada”.<br />

– 15.6 tcf (according to USGS)<br />

– 122 tcf (according to Canadian Gas<br />

Potential Commission)<br />

• USGS assessment of Mexico’s<br />

reserves (billion barrels oil equivalent)<br />

1998 2003<br />

Oil 49 12<br />

Natural Gas 35 6<br />

Total 84 18<br />

• Both sources are just over the border<br />

SIMMONS & COMPANY<br />

INTERNATIONAL


Does Greatest Vulnerability<br />

Reside In Middle East?<br />

• For decades, all supply/demand models have<br />

assumed Middle East oil is “inexhaustible” and cheap.<br />

• Saudi Arabia (with 90 years<br />

proven reserves and little<br />

exploration) is the inexhaustible<br />

<strong>Energy</strong> King.<br />

• Middle East oil has been the<br />

world’s most reliable supply<br />

(other than geopolitical jitters).<br />

• Everyone has assumed this cornucopia of oil lasts<br />

“forever”!<br />

• There is no data to support this belief!<br />

SIMMONS & COMPANY<br />

INTERNATIONAL


Saudi Arabia Epitomizes The Fuzzy<br />

Nature Of Middle East Oil<br />

• No country has been more important to world oil markets<br />

(1970 forward).<br />

• Five old giant oilfields have produced<br />

approximately 90% of Saudi oil.<br />

• All are old and face stiff production<br />

challenges.<br />

– Rising water cuts.<br />

– Emerging secondary gas caps.<br />

– Obsolete ability to drill vertical wells.<br />

• Saudi ARAMCO is sure the Miracle will live another<br />

50 years.<br />

– “Disruptive oilfield technology” has changed the game.<br />

– 700 billion barrels of oil in place will rise to 900 billion.<br />

• I fear this will not work.<br />

SIMMONS & COMPANY<br />

INTERNATIONAL


The Nub Of The Saudi Arabia Oil Issue<br />

• There is no data to support whether proven reserves<br />

are > 100 billion or < 260 billion.<br />

• There is no public data on field-by-field production.<br />

• Massive water drive reserve drainage will soon drain<br />

all easily producible reserves.<br />

• Once the “cheering stops”:<br />

– The cost of energy rises.<br />

– The need to drill Saudi wells rises (exponentially).<br />

– The volume per well and water per well does too!<br />

• Is this view overly pessimistic?<br />

• The world needs better data.<br />

SIMMONS & COMPANY<br />

INTERNATIONAL


It Is Time For A New Era<br />

Of <strong>Energy</strong> Transparency<br />

• <strong>Energy</strong> demand can never exceed energy supply.<br />

• Proved reserves are a concept, not a “countable<br />

piece of information”.<br />

• Decline curves are now vicious as a result of oilfield<br />

technology.<br />

• The world is badly in need of a worldwide series of<br />

“Audited <strong>Energy</strong> Annual Reports”.<br />

– Field-by-field production, well count and reserve data.<br />

– Third-party verification that the numbers are real.<br />

• Suppliers unwilling to furnish such data should be<br />

considered “a shaky energy supplier”.<br />

SIMMONS & COMPANY<br />

INTERNATIONAL


Can Reform Work? Is It Too Late?<br />

• Data reform can work if vested interests take the<br />

issue seriously.<br />

• Banning the drilling bans can work if interested<br />

parties get involved and press for change.<br />

• The world needs a new form of energy to begin<br />

replacing limits to adding fossil fuel energy.<br />

• We need a “Plan B” when (or if) oil and gas<br />

production peaks (or has peaked).<br />

• Have we waited too long?<br />

SIMMONS & COMPANY<br />

INTERNATIONAL


Could <strong>Energy</strong> Ever Fail?<br />

• Is energy supply safe, reliable and cheap?<br />

• Could energy ever hit a brick wall?<br />

• <strong>Energy</strong> demand is insatiable.<br />

• <strong>Energy</strong> use will never exceed<br />

energy supply.<br />

• Most forms of energy are<br />

not fungible.<br />

• No form of energy is easily<br />

transportable.<br />

• <strong>Energy</strong> was never cheap to create.<br />

• Unstable pricing created awful energy returns.<br />

SIMMONS & COMPANY<br />

INTERNATIONAL


Oil Demand Is About To<br />

Exceed Available Supply<br />

• If global demand growth<br />

continues, it will soon outstrip<br />

available supply.<br />

• Stock draws have been the<br />

biggest new oilfields.<br />

• Just in time inventory is fine<br />

until “min-op” is reached.<br />

• The system is then on “RED ALERT.”<br />

• In electricity, a blackout is necessary to cool demand.<br />

• In oil, physical shortages are “blackout equivalents.”<br />

SIMMONS & COMPANY<br />

INTERNATIONAL


Are There Special Solutions<br />

For <strong>China</strong>?<br />

• <strong>China</strong>’s need for reliable energy in massive supply is<br />

profound.<br />

• Securing safe long-term supply is sound planning:<br />

– Eastern Siberia<br />

– Central Asia<br />

– Full exploitation of Bohai Bay<br />

• <strong>Energy</strong> Efficiency needs to<br />

be top priority.<br />

• <strong>Energy</strong> R&D is barely done today.<br />

<strong>China</strong> could become global leader.<br />

• Houston could be <strong>China</strong>’s R&D sister city.<br />

SIMMONS & COMPANY<br />

INTERNATIONAL


The World’s Biggest Questions<br />

• Can the planet work without abundant and reliable<br />

energy?<br />

• What should future energy cost?<br />

• When will fossil fuels peak?<br />

• What comes next?<br />

• Can we close the rich/poor gap?<br />

• Can we create a genuine energy central control<br />

tower/early defense system?<br />

SIMMONS & COMPANY<br />

INTERNATIONAL

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