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The Quarterly Review of Economics and Finance 42 (2002) 169 –191
World oil production & prices 1947–2000

M.A. Adelman*,1
Massachusetts Institute of Technology, Center for Energy and Environmental Policy Research, Cambridge,
MA 02139-4307, USA
Received 21 August 2001; accepted 15 January 2002
1. Introduction
The price of crude oil, inflation-adjusted, should in theory be stable. It was stable and
declining before 1970 (Fig. 1). Since then, it has been highly unstable.
With the price reversal came a production reversal. The lowest-cost output in the world,
that of the OPEC nations, had been growing the most rapidly. Now it actually fell (Fig. 2)
and never regained the peak.2 For lower-cost output to fall or stagnate, while higher-cost
output rises, is like water flowing uphill. Some special explanation is needed for the two
reversals, in price and output.
At no time has crude oil been scarce. During every price rise, including the latest, there
has been excess productive capacity. A cartel has repeatedly, but clumsily, limited output and
raised prices.
Collusion requires agreement beforehand, and policing afterward. Any coalition—mili-
tary, political, market, and so forth—must cope with free riders, who would reap the benefit
while the other members bear the burden. The members of this cartel have poor information,
short time horizons, high discount rates, and large budget and balance-of-payment deficits.
Hence their price-output management is awkward, sticky, and slow. They overshoot and
undershoot. Buyers and sellers try to anticipate cartel actions, which amplifies price changes.
The latest upheaval started in 1996. The price in early 2001 is around $25, about 50%
above the 1986 –1996 average. I think the price will decline, and remain unstable, but the
cartel will last.
* Corresponding author. E-mail address: adelman@mediaone.net (M.A. Adelman).
1062-9769/02/$ – see front matter © 2002 Board of Trustees of the University of Illinois. All rights reserved.
PII: S 1 0 6 2 - 9 7 6 9 ( 0 2 ) 0 0 1 2 9 - 1
170 M.A. Adelman / The Quarterly Review of Economics and Finance 42 (2002) 169 –191
Fig. 1. World crude oil price; 1947–2000.
2. Oil prices in a competitive market
In a mature oil industry, prices should be relatively stable. Oil is no feast-or-famine

product. It is perishable, and its consumers are very diversified, so consumption closely
follows gross national product. Oil production is flexible too, if not controlled by a govern-
ment or a monopoly.
Under competition, oil output responds promptly to excess supply and weak prices. Fixed
Fig. 2. World output, 1947–1999.

M.A. Adelman / The Quarterly Review of Economics and Finance 42 (2002) 169 –191 171
cost is unimportant. Industry marginal cost is close to price because of the natural decline rate
in every well. Worldwide, production declines at roughly 7%, less in the Middle East, more
elsewhere. At (say) 10% decline, in fourteen years a well’s output drops by three-fourths,
raising the operating cost per unit by a factor of four. When operating cost has risen to equal
the price, engineering handbooks call it “the economic limit.” Production ceases no matter
how much is left in the ground; in this country, roughly two-thirds of the original deposit.
Even outside North America, Eastern Europe, and China, there are 87,000 oil wells in the
world, including 5,000 in the Middle East (World Oil, 2000, p. 30). At any moment, many
wells’ unit operating costs have risen to approach equality with the price. If output is in
excess, these high-cost wells’ production is soon curtailed, easing any price decline. At the
other extreme: when capacity is fully used and excessive demand pushes up marginal costs,
prices rise, as has recently happened in North American natural gas. But since 1970, every
oil price increase has been triggered by the OPEC3 nations’ deliberate action in cutting
output or in declining to use current capacity to expand it.
Before 1971, prices were stable because output was flexible. The few companies who then
supplied most of the world governed output by shutting in their higher-cost sources. But after
1970, prices fluctuated widely. Even in the relatively stable decade 1986 –1997, oil prices
were more volatile than other primary commodities, mostly metals (Plourde & Watkins,
1998).
The oil price is high and unstable because the competitive thermostat has been discon-
nected. Producers no longer set output independently of each other, with higher-cost output
disappearing by individual operator’s choices. Instead, a cartel of low-cost producer nations
restrain their output to support the price. Since cooperation is usually difficult, reluctant, and
slow, members’ output overshoots or undershoots the demand. Prices are volatile not because
of methods of production or consumption, but because of the clumsy cartel.
3. Brief price history
There was no world crude oil price before World War II. Most production and consump-
tion was within the United States. Outside, there were few market transactions. Nearly all oil
stayed within the integrated companies, transferred among affiliates: from producing to
transport to refining-marketing affiliate. Only refined products were sold at arms-length to
ultimate consumers.
Wartime devastation and the Soviet threat led to the Marshall Plan, which in 1948
mandated a competitive market price for crude oil sold out of the Persian Gulf to Europe. The
U.S.A. had just become an oil importer (although its imports were restricted until 1971). The
required single f.o.b. Persian Gulf price meant that all would pay the lowest price charged
to the most distant buyers, in the U.S.A. This involved a very large cut in the price to
European and other buyers.4
The original prices “posted” at the Persian Gulf were soon discounted. Refined-product
prices were subject to some competition and the lower product prices reflected back to crude
prices. The few independent refiners bargained for better prices. By the mid-1950s it was
said: “only fools and affiliates pay posted prices.” It is too bad that posted prices continue to
be officially reprinted, and analyzed as if they were real data, not artifacts.
Fig. 1 is based, before 1960, on isolated observations of arms-length sales. But the prices
are close to the average annual realizations for Venezuelan crude oil (heavier hence cheaper).
For 1960 –1972, the price estimates are better, because of two new data sources. One of them
is a trade-publication series of Saudi Arabian Light spot prices. These agree well with f.o.b.
Persian Gulf “netbacks,” calculated by subtracting refining and transport margins from the
other new series, of European (“Rotterdam”) product prices.
In 1973–74, prices were confused and often misstated. Our series is calculated from the
monthly data on taxes paid to the Persian Gulf producer nations. After 1974, the price is the
average f.o.b. spot price charged each month for imports into the U.S.A., as compiled by the
Department of Energy. It checks closely with some shorter series, such as WTI or Brent or
the OPEC “market basket.”
4. Resource constraints revealed by costs and competitive prices
Even before the 20th century, when the industry was miniscule by our standards, there
were fears that the supply of crude oil would dwindle or disappear. Pennsylvania oil output
peaked in 1891. In the new century, some places dwindled, but world output expanded more
than a hundred fold. The fears remain. A popular question has always been: “When will the
oil give out?” A one-word answer—never—is correct, but does not take us far. The question
ignores the economics of any industry: comparative cost.
For any mineral, the cheapest sources are used first, then successively dearer ones. The
worst-case scenario is: cost keeps rising and the market price with it. Consumption/produc-
tion falls, finally stops when the mineral becomes so costly to extract that consumers will no
longer pay for it. How much was in the ground, at the start or at the end, cannot be known
and does not matter. (See below, “The types of ‘Reserves’ ”.)
The worst-case scenario arrived long ago for coal in Europe, where production has
dwindled and would be even less without subsidies. Huge amounts of coal remaining
underground are worthless for lack of demand. A mineral industry runs out of customers
before it can run out of mineral.
The worst-case scenario is only one of many. There is a never ending struggle of depletion
against increasing knowledge: of the Earth, and of ways to find and extract minerals from it.
The net effect on cost and price can in theory go either way. In fact, in the 20th century, for
nearly all minerals, greater knowledge loosened resource constraints. Costs fell, and com-
petitive prices with them.
A competitive market price converges with marginal cost, that is, the sum of outlays
needed to find and develop and extract an additional unit. Long term resource exhaustion
would be visible as a long-run cost and price increase. As better resources were used up, the
continued shift to higher-cost sources and methods would raise marginal costs and price.
Changes in the competitive price register changes in resource scarcity, whether the impulse
comes from the side of supply or demand or both. But changes in a noncompetitive price do
not measure scarcity.
5. Competition reflects growing resource plenty 1947–1970
The price decline in 1947–1970 was not sought or desired by any oil producer interest.
The integrated multinational companies did not want lower profits and the political backlash
against cheap oil imports. They hurt coal in Europe and domestic crude oil in the U.S.A. But
competition forced each company to export: if it didn’t, another would. Moreover, each host
government pressured its local companies to increase production, at their neighbors’ ex-
pense. (The story of governments wanting lower output, to conserve limited resources, was
invented later, and discarded still later.)
Thus the companies and governments competed among themselves to promote higher
output and lower prices. As Adam Smith would say, the end was no part of their intention.
In 1947–70, the annual drain on the resource increased by a factor of more than five, yet
the real price fell about 70%. Yet investment and capacity surged. In the Middle East, the
annual return on new investment was several hundred percentage. In 1972, Saudi Arabian
output was programmed to increase in a decade from the then-current 7 million barrels daily
(mbd) to over 21 mbd. There was no hint of a rising cost of expansion. Moreover, the
finding-developing-producing costs in the new higher-cost areas were below the price. New
finds in the North Sea, Mexico, and the Alaska North Slope were already committed to
development by 1972, at then-current prices.
6. The reversal in output and prices
There were no signs of growing resource scarcity before 1970, and the price increases of
the 1970s were made amid obvious collusion, and despite excess capacity. Somehow these
price increases were almost everywhere viewed as resulting from greater scarcity, and
promising still-greater future scarcity. Price forecasts ranged, on the scale of Fig. 1, far above
$100 per barrel. The CIA predicted that world oil output would peak in 1980, for lack of
reserves. In 1982, an impressive multiauthor survey predicted that prices would rise, yet
non-OPEC output would decline because of limited resources. But prices fell and non-OPEC
output rose.
In 1972, the Council on Foreign Relations journal published an influential article warning
that “this time the wolf is here,” and later papers to the same effect. In 2001, a study
sponsored by the Council sees the consuming countries in crisis because they have had no
energy policy (Council on Foreign Relations, 2001).
A three volume study from the Center for Strategic and International Studies on the
“Geopolitics of Energy” predicts increasing dependence on Persian Gulf nations, who by
2020 AD “will have to expand oil production by almost 80% . . . to satisfy world demand”
(Fialka, 2001). It sounds urgent. But in 1974, Persian Gulf exports were 21.6 mbd; in 1997,
15.9 mbd (OPEC, various).5
Socrates said that the unexamined life is not worth living. But an unexamined premise is
safe from analysis or criticism. In the 1970s there was not even a rush to judgment, but
instant judgment: resource scarcity had raised oil prices and would raise them more; the
sudden rise in 1970 –1980 had been long waiting to happen. Hence the extravagant price
forecasts. The 1970 price was unsustainable for lack of reserves (Gately, 1984). Yet the
meaning of reserves was never explained. (See below, “The types of ‘reserves’ ”).
7. Higher prices and oil consumption
The violent price increases in the 1970s contributed to a worldwide recession, then to
slower world economic growth, which slowed the growth in oil use. Quite distinct was the
effect of the price elasticity of demand on oil use per unit of income. For every barrel of oil
used in the U.S.A. per dollar of GDP in 1974, only half a barrel is used today. The relation
between economic activity and oil is still there; the slope is lower.
The price elasticity effect was not visible until 1978. It acted slowly, through investment
by firms and households changing their consumption patterns. When prices fell back after
1980, there was little apparent effect on consumption. The original price effect was still
underway.
World consumption stagnated in 1973–1979, but growth resumed after 1980, at a lower
rate. In Europe and Japan higher excise taxes, especially on gasoline, raised consumer prices
and hence lowered demand. Thereby higher taxes pre-empted some of the crude oil price
increases, transferring revenues from producer to consumer countries. The OPEC countries
strongly, and rationally, oppose oil product taxes.
OPEC governments once claimed that above-competitive prices merely compensated
them for quicker use of their limited resources. They would have preferred, they said, a lower
rate of consumption. Some economists echoed the assumption of lower time preference. But
the OPEC nations have “for years” demanded compensation for the delay in using up of
those resources by any possible agreements against global warming (see Revkin, 2000a,
2000b, and The Economist, 2000).
8. The Organization of Petroleum Exporting Countries (OPEC)
8.1. The Texas Railroad Commission
OPEC has often been compared with the TRC. But TRC output control was far more
efficient. First, Texas accounted for two-thirds of the U.S.A., an isolated market before 1971,
when import controls were abolished. (OPEC once accounted for about the same portion of
the world market, but no longer.) Second, the TRC had sovereign power over all Texas
producers. Any output allocation was fully effective in a month. Third, the Commission had
timely and accurate inventory data. When stocks went too “high” or too “low,” the TRC soon
changed output to stabilize inventories and hold or change the price.
Thus the TRC could make frequent small course corrections to reflect new data or
perceptions. OPEC cannot. It is ill informed on inventories. Its actions require prior consent
of its members— of all, in theory, and of several at least in practice. Pent-up forces tend to
be violent, OPEC’s price changes included.
8.2. A brief history of OPEC
Through 1959, the multinational producing companies continued to discount actual

market prices, but left the posted prices unchanged. Their taxes per barrel, based on posted
not real prices, were also unchanged. But in 1959–60, the companies also cut posted prices, thereby
also reducing their taxes levied on them. Several producer countries reacted to form OPEC.
For the next ten years, market prices continued to decline, but not the companies’ posted
prices. Thus the OPEC countries succeeded in making the tax an absolute amount per barrel,
regardless of the market price. The excise tax was a price floor, like any per-unit cost. A
higher excise tax can be covered by a higher price. In 1971–1973, the OPEC countries
actually raised the excise tax several times, and each time the companies raised prices. In
October 1973, before the outbreak of war, the OPEC nations had already announced that they
would soon enact another, and larger, tax increase.
But when war broke out in October 1973, all Arab oil producers except Iraq declared an
“embargo” against the U.S.A. and Holland. It was a mere gesture, which had no effect. (I had
predicted this months earlier; see The Economist, 1973). But they also cut output, which was
no gesture.
The cutback lasted only two months. Its amount was less than what had been added to
OECD inventories during early 1973. Thus the market was better supplied at year-end than
at the beginning. But the cutback had scared buyers into wanting to build inventories against
a sudden unforeseen dearth. In academic jargon, prices rose because of an abrupt rightward
shift of the short-run demand curve.
Volatility upward is followed, under competition, by volatility down. In previous cut-
backs, in 1956 and 1967, the fall succeeded the rise so promptly that nothing is seen in the
annual statistics. This time, however, the OPEC countries continued to make further tax and
price increases in 1974. They also cut output, despite large and growing overcapacity. In
1975–1978 they again cut output and raised taxes and prices; but worldwide inflation soon
offset these smaller price increases.
In 1979 – 80, the market was again jittery when the revolution in Iran reduced output.
When the other OPEC nations, especially Saudi Arabia, declined to expand production to
replace lost Iranian output, prices again exploded. OPEC held production below the amount
demanded, despite continuing excess capacity. In 1979 –1981 as in 1974 –1978, there were
also later production cutbacks to place a higher floor under prices.
Every price increase, from 1973 through 2001, followed a deliberate output cut or refusal
to increase output. Throughout there was excess OPEC capacity.6 One cannot reconcile this
history with any hypothesis of increasing scarcity raising oil prices.
By 1981, the OPEC nations had raised prices too far, ultimately reducing their net
revenues. In my opinion they have recently made the same mistake, on a smaller scale. (See
below, “The latest price cycle”).
8.3. The new market conditions in the 1980s
By 1981 the market had greatly changed. Production in the Middle East and Venezuela
had been almost completely nationalized. The governments were no longer tax collectors.
Fig. 3. World price, 1996 –2000, undeflated.
They could no longer raise excise taxes and let the integrated companies raise crude oil and
refined-product prices down the chain. They had lost the buffer of the integrated companies,
who now became crude oil buyers in search of better prices.
Buying and selling oil soon resembled that in other bulk commodities. Contracts were now
traded for spot and future deliveries at public exchanges. Most oil moved under term
contracts, which saved transaction costs. But contract prices closely followed the spot and
futures markets. These new markets were efficient in price discovery; the cartel determined
output and price.
In 1982– 85, OPEC began to fix sales prices directly, and members agreed to hold the line
against the probing by old and new customers. The backup to the agreement was that Saudi
Arabia would absorb all of the OPEC cutback. So they did: by mid-1985, Saudi exports
approached zero. The Kingdom repudiated its role as OPEC producer of last resort. Prices
plunged until a new production agreement stabilized the market in August 1986. Over the
next ten years, oil prices still were more volatile than other commodities, but the fluctuations
were far less than they had been since 1973.
9. The latest price cycle
Excess supply and weak prices again forced the cartel to act together. In 1996 –1998,
warm winters and East Asia recession kept consumption growing slowly, as non-OPEC
production grew a little more. To balance the amount supplied with the amount demanded,
the OPEC nations needed to make a small output cut. It took them three years. Production
exceeded consumption, and inventories built up, one cannot tell how much because data are
poor. Experts have debated those “missing barrels.” The price fell by over half from early
1997 through early 1999 (Fig. 3). Finally in March 1999, OPEC (supported by Norway and
Mexico) agreed on concerted production cuts and made them.
Just before the cuts, “Saudis leave no doubt $18-$20 is their goal.” (Petroleum Intelli-
gence Weekly, 1999). In early 2001, the Saudi objective was “between $25 and $30 a barrel”
(Banerjee, 2001).
Since 1974 several US Presidents, including Mr. Bush, have asked Saudi Arabia for lower
prices, with no result (Keto, 2000). The reason is clear. We have no hold or leverage over
any producer nations. We must for our own sake protect them against the likes of Saddam
Hussein. They owe us nothing for protection, and will give us nothing.
I do not know whether $25 is a target or only a floor. Assuming OPEC will stay near $25,
the price rise is from about $17 per barrel in 1986 –1996 (omitting 1991), or by about 50%.
These higher oil prices will not damage the world economy nearly as much as in the 1970s.
But price elasticity of demand may be working faster now. In 1999 and 2000 oil consumption
barely increased despite the boom. But OPEC decisions seem to be and I think are
systematically biased. They charge prices higher than private profit-maximizers would, and
higher than suits their long run interests.
10. OPEC in permanent crisis
OPEC has no power of its own. It is an organization and forum, within which members
must from time to time assemble a coalition to hold or reduce output and support prices, or
to share out a consumption increase. Such coalitions have formed, lasted a few years,
vanished, and reformed as needed. Over the years, OPEC has not been a single cartel but a
succession of cartels, each somewhat different in composition and program. In the recent
price cycle, nearly all members have joined in the output reductions, and largely observed
them.
Prices are volatile because collusion has replaced competition. In a competitive market,
supply is matched to demand by high-cost output soon being reduced by individual actions.
But to attain an upside-down result—less low-cost output—requires prior agreement on who
cuts how much. The group must share out the perceived market among cooperating produc-
ers. They rightly fear cheating. It is a zero-sum game, and agreement is slow and clumsy.
Cooperation needs attention and maintenance. As demand and supply change, some mem-
bers attract more buyers at the expense of others. New market-sharing deals must be made
to accommodate these changes.
10.1. The importance of being sovereign
No private firms are as free to pursue profit as the cartel members. In no industrial country
could private companies cooperate to raise the price of a widely-used product by 1300%.
They would fear to damage interests more numerous and powerful than they. But OPEC
states do not account to anyone.
The benefit of a higher price is immediate: higher revenues. The penalty is delayed: loss
of sales. Hence any cartel decision to raise prices involves a trade-off. The more sellers
discount future events, the greater and quicker the price increases. OPEC members have
shorter horizons and higher implicit discount rates than do private individuals and firms.
First, member incomes and assets are not diversified. Government revenues, and the
foreign exchange to pay for imports, are nearly all from oil exports. Second, discount rates
are higher because of political risks from local or regional instability. Every OPEC nation has
suffered from one or both in the last decade. Third, as we will see shortly, OPEC govern-
ments are in financial straits.
Therefore, as compared with a group of private owners in the same market position, their
higher discount rates give more weight to the quick gains of higher prices, and less weight
to the future sales losses. Undiversified and strapped for cash, they cannot wait. Hence they
will raise price more and faster than would a group of private owners.7
The OPEC nations’ judgment as sellers is biased by their fiscal needs. Budget deficits and
balance-of-payments deficits are of course not identical, but in practice are closely linked. In
1974, OPEC ran a huge foreign-exchange surplus. By 1978, the members were again in
deficit. In 1980, they had an even larger surplus, were again in deficit in 1982, and have
stayed there. In 1981, the Saudi state had about $160 billions in foreign assets, but recently
its debts have been estimated at $150 billions (Pope, 2000). Recently the Saudis were
reported as awaiting the first budget surplus since 1982, but a later report mentions a deficit
of over $20 billions (Pope, 2000; Herrick, 2001).
The OPEC countries have been unable to establish self-sustaining nonoil industries, and
have invested large amounts with low or negative returns. Projects once created must be
maintained. Thus higher oil revenues have increased oil dependence. Iraq is a striking case
in point.8
10.2. The OPEC market share trap
A single monopolist, who is the whole industry, trades off a higher price against lower
industry sales. OPEC, with only part of the market, trades off the higher price against a lower
market share.
The OPEC market share is not measured by its production, but by its exports. Oil products
sold locally at below-market prices are simply a dividend to the local population. They earn
no foreign currency, and are not linked to the world market through the world price. In fact,
higher world oil prices mean more revenues, and more local consumption. OPEC countries
today consume 18% of their output. The fraction keeps rising. Iran uses nearly 30%. Locally
refined gasoline is so cheap it is smuggled out of the country, replaced by expensive imported
fuel. The government of Iran dares not defy local opinion by raising gasoline prices.
To see OPEC’s current situation: in December 2000, just before its most recent output cut:
world liquids production was 79.1 mbd, OPEC 30.4 mbd (Petroleum Market Intelligence,
monthly issues). Subtracting OPEC home use (5.56 mbd): worldwide sales were 73.5, and
OPEC sales 24.5, or one-third. In January and March, OPEC reduced production by a total
of 2.5 mbd. The OPEC cut was 3.4% worldwide, but 10.0% of OPEC’s own production. This
is small not negligible. OPEC’s market share is now down to (22/71), or 31%. No wonder
they hope to restore the cutbacks soon.
Saudi Arabia is nearly one third of OPEC. If all other members cheat, a condition
approached in 1985, the latest output cut would cost the Saudis not 10% but over a third of
their exports. They will probably not tolerate this.
Adaptation to sales loss cannot be smooth except by chance. Prediction of the total amount
demanded is very imprecise. If a prediction is too high or low, OPEC must arrange cutbacks
or increases by its members. The political problem of getting members to agree to changed
quotas is an additional reason for delay and error.
10.3. Inventory buildup and draw down
The more that buyers try to anticipate OPEC actions, the more uncertain are inventory
changes. Buyers hold inventories for profit. Their investment earns a “convenience yield.”
This corresponds to what Keynes calls the transactions motive for holding cash. But when
buyers fear damage from sudden dearth, there is also a precautionary motive;9 which may
be joined to a speculative motive, to profit by buying sooner.
When the uncertainties of OPEC price-output behavior are great, oil markets behave like
financial markets, subject to panics, bubbles, and self-fulfilling swings (Kindleberger, 2000).
Speculators aim at profits, not by guessing right on the effects of supply and demand, but on
guessing what others will guess, rightly or wrongly. OPEC behavior makes oil markets act
like financial markets, because it generates more uncertainty to speculate on. Inadequate
inventory data make matters worse. Indeed even output data leave much to be desired, since
the expropriations in the 1970s.
Summing up: the OPEC cartel is (or OPEC cartels are) more powerful than any private
group could be. They raise prices more quickly. But they must act in ignorance, and can only
know in hindsight—if then—when they have gone too far. When they raised prices too far
by 1980, it took years to find out. I think they have put themselves in danger again.
(Non-OPEC producers are discussed below).
As we saw earlier, higher prices in 1970 were assumed to be inevitable because oil
reserves were inadequate. Oil reserves are frequently mentioned. Sweeping conclusions are
drawn from unrevealed premises.
In 1986, the firm of Petroconsultants (PC) had predicted stable Soviet output, but in other
non-OPEC areas a decline was “imminent and unstoppable . . . well before” 1990. These
remarkably bad forecasts were based on their “analysis of reserves.” (Oil & Gas Journal,
1986). In fact, Soviet output fell, and other non-OPEC rose. A 1989 prediction was for world
output to peak that year or next (Campbell, 1989). In fact, it has kept rising.
More recently the PC experts Campbell and Laherrere predict that limited reserves will
cause oil production to peak in 2010 (Campbell & Laherrere, 1998; see also Ker, 1998). They
do not mention their past gross errors. PC reserve data are conveniently proprietary. There
is no support for their current alarms.10
10.4. The types of “reserves”
Proved reserves have been estimated in the U.S.A. since 1918. Since World War II,
governments and trade journals have published similar estimates for all other countries. The
quality has much deteriorated. Since 1998, outside North America and the North Sea, the
entries for most areas are worthless.11
Estimates of proved reserves are an integral part of the development process. Rational
investors considering new oil wells need reliable estimates of what they will get for their
money. Petroleum engineers estimate the up-front investment, and the wells’ flow rate,
diminishing over time. The area under the production curve is the proved reserve.
Multiplying by the assumed price per barrel gives the wells’ annual cash flows. Discount-
ing each year’s flow gives its present value. Adding up the annual values gives the current
value of the reserve, which can be compared with the needed investment.
The decision, whether to drill and complete, requires reliable estimates of proved reserves.
It is worth spending money to reduce the errors enough for engineers, bankers, managers, and
investors to bet on the estimates. As reservoirs are worked, more is learned about them and
the local geology, and the reserves are updated.
Proved reserves are peer-reviewed estimates of future output, given current knowledge
and cost. Since 1975 the U. S. Securities & Exchange Commission (SEC) has required
companies to report only proved reserves as in-ground assets. SEC never set standards for
reserve reporting. They accepted a category then sixty years old.
Like other real (nonfinancial) assets, proved developed reserves are widely bought and
sold, priced per-barrel. An old rule of thumb is that a proved developed reserve barrel is
worth about one-third of the current wellhead price, or one-half of the wellhead price net of
operating costs, taxes and royalties (see footnote 13). There is of course great variation
around any such average. The using-up of proved reserves is a production cost, like the
using-up of any other type of inventory.
A proved developed reserve is a real (nonfinancial) asset. A proved undeveloped reserve
is a real option, whose exercise price is the development investment. If it will not provide an
adequate return, the option is unused, and there is no investment.
Thus the market price of oil includes the market value of the in-ground resource used up
in production. Many believe that minerals have some “intrinsic” value which markets fail to
capture.12 But they have not explained this “intrinsic” value.
Only broad conclusions can be drawn from Table 1. In 1944, world proved reserves were
51 billion barrels. In 1945–1998, 605 billion barrels were removed, leaving 1,035 billion.
The world industry invested to create gross additions of 1,771 billion barrels, or 35 times the
original holdings. The purpose of production capital expenditures is to create additional
proved reserves. As with any inventory, proved reserves increased not despite interim
production, but because of it.
Probable, possible, speculative, and undiscovered “reserves,” unlike proved reserves, do
not result from development plans, and are not supported by development cost data. Opinions
vary of how to use them. A well-known geologist (Lewis H. Weeks) regarded them as
ordinal: if one area had much larger probable-possible reserves, it was a much better place
to look for new oil.
The various types of nonproved reserves have no value per barrel, and cannot be sold per
barrel. They are not comparable with or additive to proved reserves. They are estimated
future output from facilities not yet in being, whose costs will reflect future geology and
engineering. Anyone who adds nonproved to proved reserves, and from the total predicts
future output, implicitly claims to know future science and technology.
The late lamented John Lohrenz long protested against what he called (X-x) estimation,
where X was original “reserves,” and x was the amount produced until (X-x) was zero
Table 1
World production and gross reserve additions, 1944 –1998 (billions of barrels)
Geographical region 1944 1945–1960 1961–1970 1971–1980 1981–1990 1990–1998 Cum
OPEC
Cumulative production — 26 55 103 62 74 320
Gross reserve additions — 219 252 127 392 108 1098
Reserves at end 22 215 412 436 766 800 800
NON OPEC
Reserves at end 29 76 200 211 233 235 235
Total World
Reserves at end 51 291 611 648 999 1035 1035
Notes: This table understates production and reserve additions. It includes only crude oil. Worldwide, about 8
percent of refined products today are from liquids derived from natural gas. Recently, improved technology has
made direct gas-to-liquids conversion cheap enough for more widespread use. Thus a growing portion of liquids
production will be from gas reserves, not oil reserves. Improving technology keeps changing the origin of the
crude oils charged into the world’s refineries. Until 1950, crude oil produced offshore was “unconventional,” as
was, until recently, very-heavy oil from bitumens and tar sands. The proportions of these sources depend on
comparative costs, which will keep changing. To limit “conventional” crude oil from “unconventional” is to
elevate convention above reason.
Sources: Frey and Ide (1946) for column 1, the remaining columns from Oil & Gas Journal, end-of-year issue. It
has not been updated because estimates are no longer being updated by the nations furnishing nearly all the data.
(Lohrenz, 1992). The (X-x) estimates are precise, satisfying, and wrong. They allow for
using up in-ground oil, but not for its replacement under conditions of increasing knowledge.
In time they prove to be too low, and are recalculated (Lynch, 1996).
10.5. Mineral depletion theory
It is widely assumed that there is some limited amount of each mineral in the ground. Once
it is extracted, exploitation and production must end. But mineral industries have stubbornly
expanded. One accommodation was to assume that the total stock had not—yet— been
properly measured. Another solution was first put forth by Gordon (1967), and by Adelman
in 1970: there was no limited stock. Since the whole earth is finite, any subset must be finite,
but this truism is no measure of the subset. A mineral stock at any moment reflects current
knowledge—science and technology— hence current costs. As knowledge and cost change,
so must the stock, mostly up sometimes down.
Both sides properly use the Hotelling theory, which like any sound theory demonstrates
the consequences of a given assumption. If the stock is fixed, then as some of it disappears,
the remainder must become more valuable. The unit value must increase at a rate linked to
the rate of interest, which states the return gained by holding the asset instead of selling it.
Some recognized that market prices had not escalated, and tried to rescue the premise by
postulating an initial discovery period. Once it ended, unit value had to rise.13 Their
opponents (including myself) cited the failure as a reason for denying the premise.
There is agreement that the value of a mineral unit, in-ground or above ground, is what
it will fetch in a free market. Now, if mineral values in-ground are expected to increase at
the rate of interest, a mineral unit in-ground should be worth the same as one above ground,
net of extraction cost.14 But in the U.S.A., in 41 years, the wellhead price was in almost every
year at least two standard deviations above the in-ground value. Moreover, there was no
persistent change in the ratio (Adelman, De Silva & Koehn, 1991; Table 2). A more recent
study of in-ground values reaches the same conclusion (Adelman & Watkins, 1997). Thus
another deduction from the premise of a fixed stock fails, giving another reason for rejecting
the premise. As for “probable, possible, and speculative reserves,” no such check is possible
because they have no unit price.
10.6. Trends in finding new oil
It is widely feared, and often repeated, that oil discoveries have long been decreasing. In
fact, nobody knows. The number of new fields found in any year is trivial, because the
definition of a field is arbitrary. The alleged contents of new-found fields are estimates of
what will eventually be developed and extracted, given future knowledge.
For example, how much was found in the Middle East before 1945? We can make the test
because for 1944 its reserves were estimated by a special expert committee at 16 billion
proved plus 5 probable. By 1975, those same fields, excluding later discoveries, had already
produced 42 billion barrels and had another 76 billions in proved reserves. Thus the
“discoveries” of pre-1945 grew more than 7.4 (118/16) times to reflect growing knowledge
over 30 years. Unfortunately, reserves by fields were no longer published after 1975. The
discrepancy kept increasing, we know not how much.
But even if we knew discoveries each year, we could not match them with any definite
amounts of money spent. The French call exploration recherché, and the reward for research
is knowledge. Oil is like drugs, where companies spend heavily on research, but do not
calculate the research cost of the drug. Manufacturing drugs must be profitable enough to
make research spending worth while. Oil development must be profitable enough to make
finding effort worth while.
We cannot match a set of finding expenditures with a set of results. Most discovery funds
are spent with no return. Exploration wells are mostly dry holes. But some small outlays
bring big returns. The trick is to find a few good leads to pay for many bad. Moreover, the
discovery is always a mixture of oil and gas. Talk of “oil equivalent” only adds confusion.
“There is no such thing” (Browne, 1998).
I see no way around the logical impasse: with no match between finding expenditures and
results, “finding costs” are error. “Finding costs per barrel of oil equivalent” compound the
error.
Since discoveries and finding costs per unit cannot be measured directly, we must resort
to indirect measures. If development costs are known, a newly discovered barrel is worth the
cost saved by not developing an additional barrel. Since the incremental development raises
costs, I have suggested a quadratic function to estimate what is saved at the limit by not
developing another barrel.
Ordinal measures are probably more useful. If discoveries were dwindling over time, the
newly found oil deposits would be getting smaller, deeper, more remote, and harder to reach.
Therefore the cost of their development must be increasing. Thus changes over time in
development unit cost are a proxy for changes in discovery unit cost, or at least of the
direction of change.
Another approach is to examine changes in the market value of the option: proved
developed reserve value minus development cost.15 Option value equals the pure discovery
value, that is, what a barrel is worth before development investment. If discoveries were
dwindling, the value of what already exists would be rising. This did not happen in the
U.S.A. before 1973, nor after 1979. The interim increase was the result of higher prices by
restriction of output.
The empirical estimates by Watkins and Streifel (1998) for all producing countries over
a long time period fail to show any general trend. The authors emphasize that these studies
are seriously hampered by data deficiencies.
In recent decades, it is generally believed, development productivity has increased. Great
improvements in seismic techniques have resulted from vastly greater computing power to
“see” the rock layers in the earth, even through the barrier of underground salt sheets.
Another major change is directional drilling, itself only one aspect of continuous measure-
ment while drilling (MWD). It is like a driver able to guide himself by looking out
continuously through the windshield, instead of finding out the hard way by hitting a bank
or going into a ditch. Also important has been the ability to drill offshore in much deeper
water, and/or to install wells on the sea floor, rather than building huge platform structures.
Because of these and other advances, a unit of drilling time brings more wells, or proved
reserves added.
These facts are impressive, but do not add themselves up. The chairman of Conoco E&P
Europe has stated: “the industry has cut the worldwide cost of finding and developing a barrel
of crude from over $20 at the start of the 1980s to below $5 today” (Petroleum Intelligence
Weekly, 2000). We do not know how this estimate is derived, nor on what data it is based.
It looks to me like a real tendency, much exaggerated.
All we really know is that data are scarce, and getting scarcer. Worldwide production
capital expenditures estimates shrank after 1985 and ceased after 1987. Estimated U.S.A.
capital expenditures, which could also be used as a starting point for the rest of the world,
were stopped in 1991. The annual AAPG (American Association of Petroleum Geologists)
survey of oil development, in the U.S.A. and worldwide, ceased soon afterward. Nearly all
producing countries ceased to publish reserves by fields after 1977, and production by fields
after 1981. The Department of Energy has made estimates of unit “finding costs” which are
often absurd on their face, when they exceed the current unit market values of reserves.
Since 1975, if my unpublished work is correct, an average rig-year has generated
increasing amounts of capacity and proved reserves. But we do not know what has been paid
for the observed greater efficiencies. In the U.S.A., after 1972 there was a big jump in the
ratio of indirect to direct drilling outlays. Much of the change was due to the wastes of a
frantic boom. But in 1991, just when the numbers would begin to be most useful, their
publication stopped.16 Be that as it may, if development cost has really declined, the resource
has become more not less plentiful.
Thus there is no supporting evidence for decreasing oil and gas discoveries. Such evidence
as exists tends to disprove it. But this cannot prove that oil may not become more scarce in
the 21st century. In fact, there are more important problems. World oil supply is subject to
closer constraints, which we now address.
11. Government and an investment-intensive industry
Oil production depends on continued investment in adding proved reserves. In the 20th
century, the investment environment was often difficult. The problems, still unresolved, are
created by two basic conditions. Outside the U.S.A., and offshore even in the U.S.A.,
governments own the subsoil resources. (This is fortunate; private ownership of subsoil fluid
hydrocarbons is wasteful and increases price volatility.) Investment requires their prior
agreement, whether as investors-producers, or as landlords setting terms of investment.
Second, rents in oil and gas production, that is, profits exceeding the minimum acceptable
return on investment, are very uncertain in advance and often very large in retrospect. This
follows logically from what was said above on unknown finding costs. But uncertainty
generates conflict, which may disturb or prevent investment.
There are conflicting national claims to some areas, especially offshore. Colombia and
Venezuela claim the Gulf of Venezuela. In the East China Sea and South China Sea, small
islands, some of them mere uninhabited rocks, confer jurisdiction over lands under the
surrounding seas. These undersea areas contain deformations (“structures”), indicating pos-
sible oil and gas. Only drilling can prove or disprove these prospects. Ownership of these
islands and jurisdiction over the surrounding seas is disputed by various governments.
Discovery investment by anyone is too risky. If China takes control over the East and South
China Seas, which it seems to be attempting, that would reduce one dimension of the
problem.
Within or outside a national unit, there may be competing overlapping claims. In general,
any group whose prior consent is needed for an investment may claim all the rents— or more
than all. If oil must be pipelined out of the producing area, anyone who sits on the line’s right
of way can veto the whole project until he is paid off. In the Caspian area, we cannot tell how
many of these mutual deadlocks will ever be resolved; certainly not all.
Possibly the most important barrier lies in the terms which are acceptable both to the
sovereign, and to the investors who may explore, develop, and produce. It is difficult to
design an effective tax system to capture the rents. Any system must be imperfect. But few
tax systems are even designed to capture the rents. They are at best inefficient and lessen
investment. At worst they preclude it.
In the U.S.A., rights to exploit offshore lands are sold at auction by sealed competitive
bids. Since 1950, these sales have brought in about $60 billion. On average, returns to
successful bidders seem to have been no higher than in industries generally. Returns on the
individual tracts have of course ranged from large positive to large negative. A government
adopting such a system accepts uncertainty in any given tract, and makes a bet on all tracts
taken together. For such a bet to work, there must be enough bidders to ensure competition.
This has been true in world oil since the 1950s. Yet sealed competitive bids are rarely used.
The uncertainty of investment is magnified by distrust of oil companies and investors,
especially of foreigners. Investment is widely viewed as a zero-sum game, where one party’s
profit must be another’s loss. Governments are terrified even to appear to be even handed
toward the foreigner. If the gap between government and investor is unbridgeable, and there
is no investment, both sides lose. Or a rich discovery means a dissatisfied landlord-sovereign,
who wishes he had held out for more. If he now demands more, it chills the prospect of entry
by others.
Government-investor tension will continue to dominate the world industry. It cannot be
ended, but it can be mitigated. If government and public opinion can accept that oil is not a
“limited nonrenewable” stock, that its future value need not be greater than its present value,
and may be less, they are more likely to make and keep bargains. Then the conflicts are less
likely to go to extremes. But higher prices always strengthen the delusion that oil in the
ground must be worth more than any amount of money in the bank, and make deals less
likely. It is happening again now.
11.1. State enterprises
In recent decades, socialism has died as a fighting faith. The tide has run strongly toward
private enterprise, even for industries (like electricity and gas distribution) where the number
of sellers can never be large. Yet most crude oil is produced today by state enterprises. They
are often overstaffed, sloppy, and corrupt, but above all lack rational investment objectives.
A state company invests not only for profit but for supposed national objectives, like making
jobs, looking up-to-date, and helping friends, or their friends. The state enterprise does things
it is unqualified to do, or some which consume wealth rather than create it. Refined product
prices are fixed low, raising consumption and requiring heavy refining-marketing investment.
Furthermore, the cash stream to be tapped is not the net profit from oil operations, but the
gross revenues. The state enterprise must compete for government funds with all other uses,
and their beneficiaries’ political clout.
Contrary to what is often heard, the amounts needed for production investment in the
OPEC nations are very small. In 1975–1987, upstream capital expenditures were 1 to 2% of
OPEC oil revenues. They are unlikely to exceed 10% today, although as usual current data
are lacking. But the absolute amounts are large, and tempt any insider who wants funds for
any purpose. Investment and even maintenance can be deferred. State companies have been
starved of funds, and forced to disinvest then wastefully overinvest.
The managers’ judgment on price is distorted by the governments’ fiscal needs, and
domestic pressures for expenditures. An additional dollar on the price means billions more
in annual revenues, with many urgent places to spend the money.
Governments have long known that foreign companies could supply scarce money and
engineering-management expertise. Almost as soon as the Persian Gulf companies were
nationalized, in the 1970s and 1980s, there were reports that some expropriating govern-
ments would make room for foreign company cooperation.
Reports of oil production investment plans have multiplied in recent years. Little has been
done. Saudi Arabia has blown hot and cold; Kuwait has been taking years even to consider
a very limited involvement. Sanctions against Iran are now largely nonoperative, but there
is little investment there as long as its “buy-back” system requires a short investment period
and a fixed low profit ceiling. Venezuela’s limited “opening” in 1997 brought in a larger than
expected $2.2 billion in bonus payments, but no more will be considered. (However, heavy
oil projects, suspended when prices dropped, have been restarted.) The constitution of
Mexico forbids foreign investment in oil or gas production.
Even disregarding the greater efficiencies which foreign companies would bring, and
coherent investment objectives, the asset oil is worth more to a private owner than to a
government. The market value of an asset compensates the investor for risks that cannot be
diversified away. As noted earlier, individual and corporate investors are diversified; gov-
ernments owning oil are not. Thus both parties would benefit in a swap of the nation’s oil
rights for the investors’ money.
“Loss of sovereignty” was important before World War II. The few private companies in
the world market (seven Anglo Americans and one French) had monopoly power in getting
concessions. Industry growth and the end of colonialism increased the number of possible
bidders. In 1948 –1950 the oil producing countries made good their claim to the power to tax
away as much as they wished of the profits earned on oil. In the 1950s, new companies
entered Libya and Venezuela. The list is much longer today, as shown by new companies in
new areas, and recent bidders in Venezuela, or would-be bidders in Kuwait or Iran.
Sovereignty has since 1950 been a nonissue. A state can get the largest value from its
subsoil by selling to local or foreign firms the right to locate, develop, and sell off the oil
underneath. But there must be, and today there is, enough competition to assure a nation
getting the full market value of those rights.
But there is a powerful feeling that sovereignty requires government not only to own the
hydrocarbons, and to get the best possible price, but itself to produce and sell them. It is not
only sentiment. A state company can transfer some of its monopoly as contracts, jobs, perks,
and salaries above market levels, to local personnel: a gain to them, a burden to the local
economy.
Possibly the worst investment climate is in the Former Soviet Union. The state industry
was privatized to persons skilled in maneuvering to seize wealth, not investing to create it.
Foreign companies saw great promise for new investment in discovery and development. But
local interests found the competition unwelcome. Investment was aborted by local barriers,
excessive and capricious taxes, and no system of law to enforce contracts and property rights.
But several successor republics may be better than one. If Kazakhstan does better than
Russia, it offers an example to them and others.
12. The next century
12.1. The short and long run
OPEC will do its considerable best to hold or raise the price, with $25 as a floor not a
target. They will find the task easier because policy in the consuming nations is still ruled by
the irrational fear that OPEC may not produce “enough for our needs.” OPEC will produce
the amount which serves them. If it pays them to reduce output, they will. If they wish to hold
the price line, and one or two member countries are shut down by revolution or war, the
others will gladly supply.
OPEC will not soon vanish; neither will its problems. They must relearn two forgotten
lessons of 1970 – 86. First, elasticity of demand for oil is low, not zero. As in the past, a
higher price will lower oil use in relation to GDP, and has probably already begun to. Second,
price-fixing is like singing and mountain climbing: it is easier to go up than to come down.
It is a never-ending job to restrict low-cost output. The higher the price today, the greater the
stimulus to lower demand and more non-OPEC supply, and the more likely is a lower price
later.
12.2. Energy and oil consumption
It will keep changing. Coal may be helped by new subsidies, but it will be hurt more by
measures against atmospheric carbon dioxide. Natural gas is increasingly free of control in
Europe and Asia, as it has been in North America. Its growth will displace oil. Gas deposits
now isolated and unused will be exploited for out-shipment in pipelines, in tankers as LNG
and as light products from the newly proved gas-to-liquids conversion.
For the next ten years, fuel cells will stay unimportant. If hybrid (part-electric) cars are
successful, they will cut into the most price-inelastic use of oil: automotive transport.
Congestion, pollution, and the threat of global warming will also reduce demand. To this end,
higher oil product taxes should be consuming countries’ first choice: they would transfer
more revenues from producing to consuming states. But consumers resent taxes, and prefer
inefficient command-and-control methods. Given also the effects of higher prices, consump-
tion will not grow at the forecast 2% per year.
In the world oil market, the key role will be that of the non-OPEC producers. If they
expand enough to keep OPEC below its current market share, the price will probably go
below the 1986 –1996 range. If their production increase is so slow as to let the OPEC market
share rise, prices will hold.
Non-OPEC producers are underachievers who would profit by more investment. The
question is how far and fast they will approach their potential. Given current costs, or what
little we know of them, non-OPEC production could be profitably expanded. Their cost of
expansion was below the price after 1986, and the margin is much wider today. If costs have
come down in the past two decades, there can be continued and perhaps faster non-OPEC
expansion.
But in the early 21st century, regulation and taxation will be more important than the cost
of mineral under depletion and increasing knowledge. In some non-OPEC countries, im-
pediments to investment will never be removed. Mexico is particularly interesting. Proved
reserves decreased in 2000, and this will be blamed on limited resources. Yet the profit on
investment in new reserves and capacity is very high.17 Foreign investment would expand it.
But Petroleos Mexicanos stays in the public sector, starved for investment funds. The public
views Pemex as a national cash cow. It seems strange and unnatural to raise taxes and “take”
money from the public in order to “give” funds to Pemex. Similarly, in Venezuela the
government has said more than once that it will cut investment in oil to do more social
spending.
I may be mistaken in assuming some removal of some of the non-OPEC achievement gap.
If this pushes the OPEC share of world sales below 25%, it will be hard for OPEC to hold
the line. Adding new members might help short-term, but would make agreement more
difficult. Be this as it may, the critical variable is non-OPEC investment and output. World
production could top out permanently in this century, for the same reason as the temporary
peak in the 1970s: not limited resources but governments demanding more than the traffic
will bear.
At the other extreme: a long-run competitive price would be more stable. Low-cost
producing countries would cease to restrict output. They would serve their individual
interests and remove barriers to investment, starting with state ownership. Of course, this
would raise their fraction of world output, and tempt them into reforming OPEC, and again
making the price high and unstable.
In any case, resource “optimism” and “pessimism” have no meaning. Make the “optimis-
tic” assumption that fuel resources are renewable. A rising marginal fuel cost would still
mean less fuel and more discomfort. In England from 1550 to 1650 the price of the renewable
resource firewood quadrupled. Some even took refuge across the sea. “All England, nay all
Europe, hath not such great fires as we have in New England.”
Scarcity—rising marginal cost—may arrive one day in world oil. We could recognize it
and take measures, if there were a competitive market to register scarcity. In that respect,
they were better off in 1550.
Notes
1. Professor of Economics Emeritus, MIT, Cambridge, Mass., USA. The paper draws
extensively upon The Economics of Petroleum Supply: Selected Papers 1962–1993
(MIT Press 1993); and The Genie Out of the Bottle: World Oil Since 1970 (MIT Press
1995). The final draft was completed during June 2001. I am grateful for the
comments and suggestions of Shane Streifel.
2. The figure includes crude oil only, for which data are available for the whole period.
Today an additional 10% of output is from natural gas liquids; in the U.S.A., about
33%. The percentages of oil drawn from natural gas reserves are increasing.
3. Current members: Algeria, Indonesia, Iran, Iraq, Kuwait, Libya, Nigeria, Qatar, Saudi
Arabia, United Arab Emirates, Venezuela.
4. Absent the Marshall Plan, when would a world crude oil price have emerged? My
own guess is: not very soon. Lower oil prices damaged the (mostly nationalized) coal
industry in Europe, and domestic oil in the U.S.A.
5. A cabinet-level report issued May 19, 2001 has made it official: the U.S.A. is in a long
term “energy crisis.” There is no such thing, but there are four current problems, all
mutually independent. If any three disappeared, the fourth would be no less. (1)
Investment in natural gas production is guided by expected demand. Actual con-
sumption has been higher than expected. While investment catches up, supply is
scarce, and marginal costs and prices are up. Nobody is curtailing production to raise
the price. There is no “crisis” when the market registers a temporary scarcity; that is
what a market is for. (2) There is an electricity shortage because investment has been
restricted or stopped for years, especially on the West Coast. The guiding principle of
NIMBY (Not In My Back Yard) works, one locality taken at a time, but not in all
localities taken together for years on end. To make the NIMBY shortage more
dramatic and devastating, California has enacted a curious “deregulation” which caps
the prices charged to consumers by utilities, and frees up wholesale prices the utilities
pay. Undoing this legal mess will take longer than increasing the gas supply. (3) There
are sporadic shortages of gasoline, because of varying local air-quality regulations,
and an investment lag similar to natural gas but less serious. (4) Finally, there is the
worldwide crude oil price surge, resulting not from any kind of shortage, but from
deliberate output cuts by a cartel, with the usual cartel objective: to raise and hold the
price level against the threat of competitive price cutting.
6. There has never been any noncartel excess capacity. A competitive producer has no
reason to hold back production. There is no straightforward relation between cartel
excess capacity and prices. When OPEC had massive excess capacity, in 1973– 80,
prices rose 10-fold. In 1981–1998, when excess capacity was lower, and declining,
prices actually fell. In early 1999, the excess, largely in Saudi Arabia and Kuwait, was
modest. But the production cuts themselves took more capacity out of production, to
raise and maintain prices.
7. It was long assumed, especially in the US government, that the oil states had long
horizons and low discount rates; or did not seek higher revenues, only tried to cover
their “revenue requirements.”
8. Iraq national product has been reported down by as much as 90% since sanctions.
Some of this is the shift into “black” unreported activities, but most of the apparent
decrease was real. Iraq was a relatively developed Persian Gulf oil economy. Without
oil exports, there was not much left.
9. A taxicab operator drives say one mile, charges $2, and uses up one-tenth of a gallon
of gasoline, costing say 20 cents. For lack of fuel, he would lose the other $1.80 of
revenue. Insurance against such a loss by storing more gasoline, even paying higher
prices for it, makes good sense.
10. We can only mention here the well-known prediction of M. King Hubbert that U.S.A.
output would decrease after 1970. He was right, but his reasons were unclear. Hubbert
based the forecast on a bell-shaped curve of production over time. Most manufac-
turing industries, with no resource constraints, follow such a curve anyway, as
customers and factors are competed away. Short-term marginal costs turned up at the
same time, see Adelman (1998). Hubbert spoke out of great knowledge of a very large
sample in an intensively explored area. All of us know more than we can articulate,
let alone prove. Perhaps he did. But a similar conclusion about the whole world,
relatively little explored, has no authority.
11. Outside North America and the North Sea, most countries, accounting for the great
bulk of reserves, show identical reserves for 1999 and 1998. This means that the gross
reserve additions were precisely equal to production. It would be an unlikely coin-
cidence in any one country, and is quite impossible for several or many. The job has
simply not been done.
12. “The modern economy is a fire-breathing vampire of petroleum which is slowly

cooking our planet . . . . Unless the prices of energy and natural resources reflect the
cost of consuming limited ”natural capital,“ the true price of prosperity is deferred to
the debit column of the future. It is a category [sic] failure of modern economics that
these costs are not reflected in the costs of production” Bode (1999).
13. See for example, Dasgupta and Heal (1979).
14. It is easily proved that if V ⫽ in-ground value, P ⫽ current wellhead price, a ⫽ the
production decline rate, i ⫽ the interest rate, and g ⫽ the rate of increase of the
wellhead price (all in percentage per year), then V ⫽ Pa/(a⫹i-g). If it be assumed or
proved that g ⫽ i, then P ⫽ V.
15. Direct observations of discovery values are rare. In Saudi Arabia, in 1975, a contract
between the government and the then-Aramco for undiscovered oil assigned it a value
of about 2 cents.
16. In 1992, I published a brief note, Adelman (1992), suggesting that gas prices were not
about to increase, despite growing demand, because investment requirements to
develop new gas reserves were not increasing. In fact, gas prices fell during the 1990s.
There are no data from which to estimate the cost of later reserve-additions. At the
1990 decline rate, about 10.2%, by 2000 AD 64% of the 1990 proved reserves had
been used up.
17. Pemex has stated that production was static for lack of funds. More investment would
increase reserves and production because “the return on those investments is excep-
tionally high.” (Secretariat of Public Education and Culture, 1993, p. 55). Later the
Director General estimated costs at $2.50 per barrel, which he compared with a price
of $13 for heavy crudes. See Friedland (1999).
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The Quarterly Review of Economics and Finance 42 (2002) 169 –191

World oil production & prices 1947–2000

Received 21 August 2001; accepted 15 January 2002

* Corresponding author. E-mail address: adelman@mediaone.net (M.A. Adelman).

Fig. 1. World crude oil price; 1947–2000.

2. Oil prices in a competitive market

In a mature oil industry, prices should be relatively stable. Oil is no feast-or-famine

Fig. 2. World output, 1947–1999.

3. Brief price history

4. Resource constraints revealed by costs and competitive prices

5. Competition reflects growing resource plenty 1947–1970

6. The reversal in output and prices

7. Higher prices and oil consumption

8. The Organization of Petroleum Exporting Countries (OPEC)

8.1. The Texas Railroad Commission

8.2. A brief history of OPEC

Through 1959, the multinational producing companies continued to discount actual

8.3. The new market conditions in the 1980s

Fig. 3. World price, 1996 –2000, undeflated.

9. The latest price cycle

10. OPEC in permanent crisis

10.1. The importance of being sovereign

10.2. The OPEC market share trap

10.3. Inventory buildup and draw down

10.4. The types of “reserves”

10.5. Mineral depletion theory

10.6. Trends in finding new oil

11. Government and an investment-intensive industry

11.1. State enterprises

12. The next century

12.1. The short and long run

12.2. Energy and oil consumption

12. “The modern economy is a fire-breathing vampire of petroleum which is slowly

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