Analysis: Crunching the numbers: are we heading for an oil supply shock?


World Energy Outlook
16 November 2018

The main reason why new investment is required in all WEO scenarios is because supply at existing fields is constantly declining (Photograph: Getty Images)

In the detailed energy model that underpins WEO 2018, new sources of oil supply steadily come online at the right time to meet changes in oil demand and keep the system in equilibrium. This smooth matching of supply and demand minimises oil price volatility, which is why our price trajectories in each scenario are smooth, and would likely be a desirable outcome for many of the world’s oil consumers (it could also be better in the long run for many of the world’s producers).

But commodity markets don’t work this way in practice. The oil price drop in 2014 led to multiple widespread impacts on markets, not least of which was that the number of new upstream projects approved for developments plummeted. With the rapid levels of oil demand growth seen in recent years, there are fears that supply could struggle to keep up, bringing with it the risk of damaging price spikes and increased volatility.

On the flip side, with shale production in the United States continuing to grow at record levels and increasing attention on executing upstream projects that can quickly bring oil to market, there are also arguments why a future oil supply “crunch” be safely ruled out. What does the WEO 2018 have to say on this matter?

Why invest in new supply?

The discussion about investment in oil projects typically focuses on the outlook for demand. But this is only a small part of the story – the main reason why new investment is required, in all our scenarios, is because supply at existing fields is constantly declining.

In the New Policies Scenario, there is a 7.5 mb/d increase in oil demand between 2017 and 2025. But without any future capital investment into existing fields or new fields, current sources of supply (including conventional crude oil, natural gas liquids, tight oil, extra-heavy oil and bitumen, processing gains etc.) would drop by over 45 mb/d over this period – this is known as the “natural decline” in supply.  If there were to be continued investment into existing fields but still no new fields were brought online – known as the “observed decline”– then the loss of supply would be closer to 27.5 mb/d. A 35 mb/d supply-demand gap would therefore still need to be filled by investments in new fields in the New Policies Scenario in 2025 (there’s also a 26 mb/d gap in 2025 even in the demand-constrained world of the Sustainable Development Scenario).

	Natural decline	Observed decline	SDS demand	NPS demand
2010	86.5735	0	86.5735	86.5735
2011	86.6915	0	86.6915	86.6915
2012	88.0329	0	88.0329	88.0329
2013	89.6583	0	89.6583	89.6583
2014	90.7119	0	90.7119	90.7119
2015	92.4755	0	92.4755	92.4755
2016	93.3613	0	93.3613	93.3613
2017	94.8103	0	94.8103	94.8103
2018	85.70697112	4.893448184	95.7898	96.2526
2019	77.98135765	8.744220817	96.6911	97.7183
2020	71.55638869	11.34813997	97.1065	98.9416
2021	65.96090469	13.23591365	96.661	99.6461
2022	60.98239019	15.00195852	96.1395	100.372
2023	56.47737227	16.59728174	95.4766	101.05
2024	52.22723434	18.00105891	94.7437	101.745
2025	48.37162261	19.28100192	93.8725	102.44
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Note: supply includes processing gains

Part of this 35 mb/d gap is filled by conventional projects already under development. There is also growth in conventional NGLs, extra-heavy oil and bitumen, tight oil in areas outside the United States, and other smaller increases elsewhere. In total these sources add around 11 mb/d new production between 2017 and 2025. Another portion of the gap would be filled by new conventional crude oil projects that have not yet been approved. Around 16 billion barrels of new conventional crude oil resources in new projects are approved each year in the New Policies Scenario between 2017 and 2025: these provide around 13 mb/d additional production in 2025.

This leaves around 11 mb/d. In the New Policies Scenario, this is filled by US shale liquids – also known as “tight liquids” – which includes tight crude oil, tight condensates and tight NGLs. Shale liquids production in the United States in 2017 was just over 7.5 mb/d. If investment were to have stopped in 2017, shale liquids production would have fallen by around 4 mb/d to 2025. However, we have seen that investment and production has actually soared over the course of 2018, and average production in 2018 is set to be close to 9.5 mb/d.

In the New Policies Scenario, shale liquids grow by another 5 mb/d to 2025 (i.e. total growth of 7 mb/d from 2017). So from 2017, and including the production to offset declines, US shale liquids provide the additional 11 mb/d production that is required to fill the remainder of the supply-demand gap. This would represent a huge increase in oil production: the growth between 2015 and 2025 would surpass the fastest rate of growth ever seen previously over a 10-year period (Saudi Arabia between 1967 and 1977).

	US shale liquids in the New Policies Scenario (2015 - 2025)	US shale liquids with annual conventional approvals remaining at 8 billion barrels (2015 - 2025)	Saudi Arabia (1967 - 1977)
1	-0.32561		0.337262
2	0.37388		0.589486
3	2.00423		1.28948
4	3.71375		2.304697
5	4.91076	4.91076	3.162197
6	5.82719	6.367582889	4.797464
7	6.36799	7.857929898	5.726531
8	6.66364	9.453252422	4.400387
9	6.90904	11.24438963	6.006167
10	7.01189	13.07914117	6.532946
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If conventional investment doesn’t pick up…

It is worth looking in more detail at the assumption that 16 billion barrels resources are approved in new conventional crude oil projects each year from 2018 onwards. In the years since the oil price crash in 2014, the average annual level of resources approved has been closer to 8 billion. The volumes of conventional crude oil receiving development approval would therefore need to double from today’s levels, alongside robust growth in other sources of production, if there is to be a smooth matching of supply and demand in the New Policies Scenario.

What if this does not occur and annual conventional approvals remain at around today’s level? This would mean that some of the supply-demand “gap” would remain and another source would need to step into the breach. The most likely candidate to do so would likely be for US operators to increase tight liquids production at a much faster rate than is projected in the New Policies Scenario.

… then the US would need to add another ‘Russia’ to the global oil balance in 7 years.

In this case, US tight liquids production would need to grow by an additional 6 mb/d between now and 2025. Total growth in US tight liquids between 2018 and 2025 would therefore be around 11 mb/d: roughly equivalent to adding another “Russia” to the global oil balance over the next 7 years.

With a sufficiently large resource base – much larger than we assume in the New Policies Scenario – it could be possible for US tight liquids production to grow to more than 20 mb/d by 2025. However increasing production to this level would require a level of capital investment and a number of tight oil rigs that would far surpass the previous peaks in 2014. It would also rely on building multiple new distribution pipelines to avoid bottlenecks that could prevent or slow the transport of oil away from production areas.

	Currently producing fields	Growth from other sources (at current project approval rates)	Growth required from US shale	Demand
2010	86.5735	0	0	86.5735
2011	86.6915	0	0	86.6915
2012	88.0329	0	0	88.0329
2013	89.6583	0	0	89.6583
2014	90.7119	0	0	90.7119
2015	92.4755	0	0	92.4755
2016	93.3613	0	0	93.3613
2017	94.8103	0	0	94.8103
2018	92.85276737	1.6354405	1.764392131	96.2526
2019	90.03695584	3.685653232	3.995690923	97.7183
2020	86.20588088	6.781717322	5.954001794	98.9416
2021	82.13472391	9.300932093	8.210443999	99.6461
2022	78.31312521	11.83482231	10.22405248	100.372
2023	74.60872882	14.15046548	12.2908057	101.05
2024	71.15144605	16.10702196	14.486532	101.745
2025	67.93687612	17.83632682	16.66679707	102.44
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What if demand were to follow a different trajectory?

In the Sustainable Development Scenario, with concerted action to reduce greenhouse gas emissions to meet the objectives of the Paris Agreement, demand peaks in the early 2020s and falls by 1 mb/d between 2017 and 2025. We do not yet see the policies in place or on the horizon that would lead to this outcome (if we did, they would be incorporated already in the New Policies Scenario), but it is of course possible that a lower demand trajectory also helps to avoid the risk of market tightening in the 2020s.

In the Sustainable Development Scenario, shale liquids, conventional NGLs and EHOB all grow from today’s levels in this scenario, albeit to a lesser extent than in the New Policies Scenario given a lower oil price. Filling the remainder of the gap would require approvals of around 8 billion barrels between now and 2025. This is very similar to the level seen over the past few years. This places the implications of “peak oil demand” in context. Even with a near-term peak and subsequent reduction in demand of around 1 mb/d by the mid-2020s, there remains a need to develop new upstream oil investments to fill the supply-demand gap.