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In the January 6, 2010
Wall Street Journal article "
Cramped on Land, Big Oil Bets at Sea," Ben Casselman and Guy Chazan report that oil companies exploring in deep ocean waters have discovered "unexpectedly large quantities of oil -- oil that only they have the technology and financial muscle to find and produce."
Using
the ceteris paribus assumption that ignores other potential changes, what is the likely effect of this discovery on the market for oil?
Is this change in the oil market (a) an increase in the supply of oil, (b) a decrease in the supply of oil, (c) an increase in the demand for oil, or (d) a decrease in the demand for oil? Will the equilibrium price of oil increase or decrease as a result of these newly found oil reserves?
Read the article below and then illustrate this price change with a graph that shows the initial positions of the supply and demand for oil and the new positions of the supply and demand curves. (Hint: Only one of the curves shifts.) There is a link at the bottom that provides the answer.
Big Oil never wanted to be here, in 4,300 feet of water far out in the Gulf of Mexico, drilling through nearly five miles of rock.
It is an expensive way to look for oil. Chevron Corp. is paying nearly $500,000 a day to the owner of the Clear Leader, one of the world's newest and most powerful drilling rigs. The new well off the coast of Louisiana will connect to a huge platform floating nearby, which cost Chevron $650 million to build. The first phase of this oil-exploration project took more than 10 years and cost $2.7 billion -- with no guarantee it would pay off.
Chevron came here, an hour-long helicopter ride south of New Orleans, because so many of the places it would rather be -- big, easily tapped oil fields close to shore -- have become off-limits. Western oil companies have been kicked out of much of the Middle East in recent decades, had assets seized in Venezuela and seen much of the U.S. roped off because of environmental regulations. Their access in Iran is limited by sanctions, in Russia by curbs on foreign investment, in Iraq by violence.
So, Chevron and other major oil companies are moving ever farther from shore in search of oil. That quest is paying off as these companies discover unexpectedly large quantities of oil -- oil that only they have the technology and financial muscle to find and produce.
In May, the first wells from Chevron's latest Gulf of Mexico project came online. The wells are now pumping 125,000 barrels of oil a day, making the project one of the gulf's biggest producers. In September, BP PLC announced what could be the biggest discovery in the gulf in years: a field that could hold three billion barrels.
Beyond the Gulf of Mexico, companies have announced big finds off the coasts of Brazil and Ghana, leading some experts to suggest the existence of a massive oil reservoir stretching across the Atlantic from Africa to South America. Production from deepwater projects -- those in water at least 1,000 feet deep -- grew by 67%, or by about 2.3 million barrels a day, between 2005 and 2008, according to PFC Energy, a Washington consulting firm.
The discoveries come as many of the giant oil fields of the past century are beginning to dry up, and as some experts are warning that global oil production could soon reach a peak and begin to decline. The new deepwater fields represent a huge and largely untapped source of oil, which could help ease fears that the world won't be able to meet demand for energy, which is expected to grow rapidly in coming years.
For oil companies, the discoveries mean something more: After a decade of retreat, large Western energy companies are taking back the lead in the quest to find oil. "A lot of people can get the very easy oil," says George Kirkland, Chevron's vice chairman. "There's just not a lot of it left."
There are challengers to Big Oil's deepwater dominance. Brazil recently has moved to give a larger share of its offshore oil to its state-run oil company, Petrobras. A handful of smaller companies, such as Anadarko Petroleum Corp. and Tullow Oil PLC, have had success offshore, particularly in Ghana, where giants like BP and Exxon Mobil Corp. are now playing catch-up.
The enormous investments of time and money required for such projects have made many experts skeptical that they can ease the long-term pressure on global oil supplies. The scale of the projects means that few smaller companies have the resources to take them on. Devon Energy Corp., an independent producer based in Oklahoma City, recently announced plans to abandon its deepwater-exploration business to focus on less-expensive onshore projects, which is says will produce a better return.
"This is technology capable of going to the moon," says Robin West, chairman of consulting firm PFC Energy, involving "extraordinary uncertainty, immense levels of information processing, staggering amounts of capital."
Offshore drilling is almost as old as the oil industry itself. In the 1890s, companies began prospecting for oil from piers extending off the beach near Santa Barbara, Calif. Gulf Oil drilled the world's first fully offshore well from cedar pilings on a shallow lake near Oil City, La., in 1911.
From there, the industry pushed gradually outward, from the Louisiana bayous in the 1920s into the Gulf of Mexico, where Kerr McGee drilled the first well out of sight of land in 1947.
The push into deeper water has come in the past decade.
"What has enabled us to do that is technology," says David Rainey, BP's head of exploration for the Gulf of Mexico. "We have been pushing the limits of seismic-imaging technology and drilling technology."
Perhaps a bigger reason for the recent emphasis on deepwater exploration is that companies had few other places to go. In the early decades of oil exploration, Western companies were the only ones with the technology to manage big oil projects. But as technology spread and state-run oil companies became more sophisticated, foreign governments have relied less on outside help and have demanded greater control of their own oil resources.
With a few exceptions, state-run companies have largely stayed out of the deep water, with its enormous technical challenges and multibillion-dollar investment requirements. Western companies have steadily pushed farther offshore, not just in the Gulf of Mexico but in places like Nigeria, Malaysia, Norway and Australia.
At the same time, traditional oil fields have begun to dry up. In Mexico, the world's seventh-largest oil producer, daily production has dropped 23% since 2004 as output from its giant Cantarell field fell sharply. Other countries have seen their own, mostly smaller, declines.
Falling output from old fields has stoked fears that world-wide production could be nearing its peak. Global oil reserves -- a measure of oil that has been found but not yet produced -- fell in 2008 for the first time in a decade, according to BP's annual statistical review. Moreover, there are signs demand could soon catch up to supply. Global oil consumption has risen by 5.4 million barrels a day in the past five years, while production has risen by just 4.8 million barrels a day.
Such fears helped drive a rapid run-up in oil prices to nearly $150 a barrel in July 2008. The global recession cooled demand, driving down prices, although many experts expect prices to rise again when the economy recovers. Already, prices have rebounded to about $80 a barrel, from under $35 in December 2008.
Rising prices have spurred offshore exploration. By 2008, about 8% of global oil production came from deepwater fields.
Yet even the biggest deepwater projects aren't enough to put a dent in global supply problems on their own. The world's largest deepwater platform, BP's Thunder Horse in the Gulf of Mexico, produces 250,000 barrels of oil a day, just 0.3% of global consumption.
"These discoveries are changing the debate," says Ed Morse, chief economist for LCM Commodities, a brokerage firm. What remains unclear, he says, is whether the deepwater projects will ensure that new discoveries continue to meet demand.
Many in the industry argue the new fields have expanded the limits of where the industry can find oil, potentially delaying a decline in global production.
"There are vast unexplored areas in deep water, so tremendous opportunities for growth," says Steven Newman, president of Transocean Ltd., which owns the Clear Leader rig.
The push into deeper water hasn't always been smooth sailing. Offshore projects are expensive, time-consuming and prone to failure. Chevron boasts of a 45% exploration overall success rate in recent years, a remarkable run by industry standards, but one that also means the company has spent billions on projects that haven't panned out.
Chevron's successes have outweighed its failures. It was expected to be the fastest-growing big oil company in 2009, as measured by oil production, in large part because of new offshore projects in the Gulf of Mexico and off Brazil. Other companies that have embraced offshore exploration, such as BP, are also seeing big growth, while those that haven't are scrambling.
Exxon, which hasn't emphasized deepwater exploration as much as competitors, recently offered $4 billion for a stake in an oil field off the coast of Ghana.
Chevron made its big offshore bet in the 1990s, when it began buying up leases in the Gulf of Mexico that were in such deep water, the technology didn't yet exist to drill there. Confident that technology would catch up, the company in 1996 bid in and won a U.S. government auction for the right to explore for oil in several areas of the gulf, in hopes that a fraction would turn into producing fields.
Chevron then spent six years analyzing its new holdings, figuring out which were most likely to hold oil. The key tool in its arsenal: seismic imaging, a sonar-like process in which sound waves are shot into the rock, and their echoes are picked up by sensors on the surface.
Adding to the challenge: The oil that Chevron was pursuing lay beneath a thick layer of salt, which disrupts seismic sound waves and blurs the images like a smudge on a camera lens. The company had to analyze the data with supercomputers to clear up that distortion.
The analysis revealed a potentially huge oil reservoir. Even so, Chevron estimated it had only a one-in-eight chance of finding commercial quantities of oil. The only way to know for sure was to drill.
So, in 2002, Chevron spent about $100 million to sink its first well in the field, which came to be known as Tahiti. That well needed to hit a 200-foot-long target from five miles away -- akin to hitting a dart board from a city block away.
"You have to roll the dice, and the dice roll now is north of $100 million," says Gary Luquette, president of Chevron's North American exploration and production division.
Chevron's first Tahiti well struck enough oil to make it worth more drilling to see how big the field might be. By 2005, the company had learned enough to go forward with the project. That required building a 700-foot-tall, 45,000-ton floating oil-production platform, and drilling a half dozen wells to feed oil to it. Tahiti produced its first commercial quantities of oil in May.
On a recent morning, the Clear Leader rolled on the waves 190 miles south of New Orleans, held almost perfectly in place by its satellite-controlled navigation system and six Korean-made engines.
In a cabin on the ship's deck, a team of drillers in coveralls monitored computer terminals as they used joysticks to control a drill bit more than 12,800 feet below. The oil they were targeting lay another 14,000 feet underground -- an easy reach for a ship that can drill down 7.5 miles.
The well is part of a second phase of the Tahiti project, which will require drilling several more wells and expanding the floating platform -- an additional $2 billion in spending, still with no guarantee of success.
Kevin Ricketts, a Chevron engineer who worked on both phases of the Tahiti project, recalled looking up at the massive platform while it was still on shore, and reflecting on how his team's analysis had led to its construction.
"I'd never seen anything that big," Mr. Ricketts said. "I thought, holy moly, our production forecast led to that thing being built. I sure hope we're right."
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