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The new gold

DOES THE present phase of oil-price inflation constitute a bubble? If it is one, then it probably won't burst in the immediate future. Oil, for now, looks reasonably well supported at $100 a barrel. There are more reasons for rises than for a fall: the market has had months to contemplate weaker demand stemming from a slow-down in the overall US economy and, yet, oil prices are still above $100/b. This suggests that unless there is a significant change for the worse in the state of the world economy – with weakness in the US spreading to Europe and China, for example – prices are more likely to depend on other factors.

There is not much bearish news on the supply side, with non-Opec oil-supply growth likely to be marginal this year. On the demand side, global oil consumption remains robust, particularly in Asia and the Middle East. And economic news from the US might change for the better.

A shift in the way oil is viewed by the investment community is also providing support. Cambridge Energy Research Associates (Cera), a consultancy, says oil has become the "new gold" – a financial asset in which investors seek refuge as inflation rises and the dollar weakens. The flight to oil and other commodities will last until the dollar strengthens or the recession becomes more pronounced, it says.

$100 oil – get used to it

A downside readjustment is, of course, possible: the dollar might bottom out. Investors might shift funds out of oil and into another asset class. The world economy might lurch into crisis. But many analysts expect oil prices to hold firm around present levels, or even increase. Cera says oil prices could reach new record levels this year – perhaps above $120/b. Stephen Schork, editor of the Schork Report, suggests $120-125/b oil is possible before the end of 2008. Barclays Capital predicts an average for WTI futures of just over $100/b this year.

And if oil prices were to decline, there would be less scope for a fall than in the past, because of the significant increases in recent years in the cost of producing oil: higher oil prices are needed to enable the development of new projects than has historically been the case.

Over the very long-term, meanwhile, the trend for prices is upwards: oil will be increasingly difficult to get hold of and increasingly in demand and – as long as no short-term alternative exists and as long as China and India continue to grow – prices are likely to remain on an upward trajectory. Price increases will be exaggerated as the rich world takes financial responsibility for reducing carbon-dioxide emissions from energy produced from fossil fuels.

Indeed, over the long term, the Association for Peak Oil & Gas has such pessimistic views over long-term oil supply and over the inability of the world to control its voracious appetite for oil that, should its forecasts prove accurate (see p40), today's oil prices will, within a few years, probably look exceedingly modest.

Even if more optimistic assumptions about the world's oil-supply prospects are made, the long-term outlook is for a tightly balanced market, unless, perhaps, very large quantities are discovered in the Arctic and can be produced at an acceptable economic, political and environmental cost.

BP, for instance, says it should be able to keep production above 4m barrels of oil equivalent a day to 2020 and may do better, depending on exploration success (see p27). But, given the small size of discovery generally being made and poor upstream access in many resource-rich countries, it is unlikely to be able to generate a rate of production growth commensurate with envisaged demand. That means greater responsibility falling to national oil companies and that only ratchets up the uncertainty over the stability of long-term supply.


A clean pair of hands

THE TREATMENT of foreign energy companies in Dmitry Medvedev's Russia is likely to be more benign than it has been under Vladimir Putin. A good thing, because upstream growth in recent years has been disappointing and Russia is likely to need more foreign investment, technology and expertise if it is to continue to meet the needs of its export and domestic markets.

Improved relations will not necessarily occur because Medvedev is any nicer – although he has expressed a desire to strengthen the country's legal system and its respect for contract sanctity (see p4) – but because Putin will have done most of the dirty work before he takes over.

The parts of the energy economy that, under Boris Yeltsin, temporarily escaped the Kremlin's clutches – such as Yukos, Sakhalin-2 and the Kovykta gasfield – have been forced back under state control. The Shtokman gasfield, meanwhile, has set the template for future co-operation with foreign companies: Total and StatoilHydro will be involved as glorified service providers, taking a share of production as payment, but leaving Gazprom full ownership of the reserves.

One piece of Russia's corporate energy sector that has, so far, eluded Putin is TNK-BP – 50% owned by BP and 50% owned by three Russian billionaires. But, here again, Medvedev may be able to avoid getting his hands dirty: Putin seems likely to get the job done before he leaves office.

The company has, in recent weeks, been destabilised by various investigations and inconveniences. The interior ministry has launched a criminal investigation into allegations of "large-scale tax evasion" at Sidanco, formerly part of TNK-BP. Oleg Mitvol, the environmental watchdog whose investigation into alleged environmental abuses presaged Gazprom's take-over of control of Sakhalin-2, is investigating TNK-BP's record at the Samotlor field. In a separate incident, Russian police recently searched the company's Moscow offices, detaining two men connected with the company on industrial espionage charges. More recently, BP had to temporarily withdraw 148 employees seconded to TNK-BP following a dispute over visas.

Not a complete disaster

It seems only a matter of time before Gazprom takes the 50% stake in the venture held by BP's Russian partners. And yet the outcome may not be a complete disaster for the UK major. Its pliancy over the government's programme to restore ownership of TNK-BP's Kovykta field to Gazprom means BP may well be rewarded by being allowed to keep an equity share – even if it is a minority one – in the refashioned company. That would not be a bad result, given the Kremlin's sky-high self-confidence and the poor state of relations between Russia and the UK.

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