toledo, 1989 iii · necesarios para abordar una fértil reflexión sobre los temas de mayor im- ......

CONTENTS

FOREWORD ............................................................................... V

OPENING SESSION

OPENING REMARKS

MR. OSCAR FANJUL ............................................... 1

WELCOME SPEECH

MR. VÍCTOR PÉREZ PITA......................................... 3

INTRODUCTORY REMARKS

MR. BIJAN MOSSAVAR-RAHMANI............................ 9

SESSION IOIL MARKET OUTLOOK

MODERATOR

MR. IRWIN M. STELZER

«PROSPECTS FOR OIL: A LONG TERM OUTLOOK»

MR. MAX WILKINSON ............................................ 11

«THE RETURN OF FLEXIBLE PRICING POLICY: CAN OPEC AVOID

ANOTHER 1986?»

MR. CYRUS HOSSEIN TAHMASSEBI .......................... 19

«SHORT AND MEDIUM TERM OUTLOOK»

MR. GEORGE QUINCY LUMSDEM JR........................ 37

SESSION IIIMPACT OF LOW OIL PRICES

MODERATOR

MS. EIJA MALMIVIRTA

«THE IMPACT OF LOW OIL PRICES IN SPAIN»

MR. NEMESIO FERNÁNDEZ-CUESTA ......................... 45

IIIToledo, 1989

«THE IMPACT OF LOW OIL PRICES ON DEMAND»

MR. WILLIAM HOGAN............................................ 57

«AN OVERVIEW OF THE IMPACT OF LOW OIL PRICES»

MR. ROBERT MABRO.............................................. 79

SESSION IIIRESTRUCTURING OF THE OIL INDUSTRY

MODERATOR

MR. CLIVE I. JONES

«RESTRUCTURING OF THE OIL INDUSTRY IN SPAIN»

MR. JORGE SEGRELLES ............................................ 89

«RESTRUCTURING OF THE OIL INDUSTRY IN THE NORTH SEA»

MR. GERALD MALONE............................................ 121

«RESTRUCTURING OF THE OIL INDUSTRY IN THE UNITED STATES»

MR. THOMAS A. PETRIE ......................................... 131

SESSION IVCONCLUSIONS AND IMPLICATIONS FOR POLICY

MR. IRWIN M. STELZER .......................................... 147

CLOSING SESSION

FINAL REMARKS

MR. GUZMÁN SOLANA........................................... 157

LIST OF PARTICIPANTS ............................................................. 159

IV

FOREWORD

REPSOL, COLECCIÓN «ENSAYO»

La colección «Ensayo» de Repsol pretende facilitar los elementos de juicionecesarios para abordar una fértil reflexión sobre los temas de mayor im-portancia y trascendencia para el sector del petróleo y el gas natural.

Esta colección se inicia con la publicación de las ponencias presentadasen el «Harvard-Repsol Oil Seminar» celebrado en 1988 en Toledo (Es-paña). En él se reunieron, durante dos días, destacados profesionales dela industria petrolera, representantes de gobiernos y organismos interna-cionales involucrados en la política energética, así como investigadoresuniversitarios para discutir sobre las tendencias y perspectivas del mer-cado mundial del petróleo, el impacto de los bajos precios del crudo yla reestructuración de la industria petrolera. Los ensayos y ponencias deesta colección serán publicados indistintamente en inglés y español. Enellos se reflejan los puntos de vista de cada uno de sus autores pero no,necesariamente, los de Repsol S.A. y su grupo de empresas.

REPSOL «ESSAY» COLLECTION

The Repsol «Essay» collection aims to provide background materialto facilitate reflection on key subjects of prime importance to the oilland gas industry.

This collection commences with publication of the proceedings of the«Harvard-Repsol Oil Seminar» held in Toledo (Spain) in 1988. Thistwo day meeting brought together leading oil industry professionals,representatives of Governments and international organisations in-volved with energy policy and University research workers in order todiscuss world oil market trends and prospects, the impact of lowcrude prices and restructuring of the oil industry.

Essays and papers in this collection will be published in both Englishand Spanish. They express the opinions of the authors concerned butnot necessarily those of Repsol, S.A. and its group of companies.

V

OPENING SESSION

OPENING REMARKS

OSCAR FANJUL

Good morning, ladies and gentlemen, and welcome to Toledo. It is apleasure for Repsol to host the Repsol-Harvard seminar. Last yearsome of you remember we held the INH-Harvard Seminar in Segovia.Since then, as probably some of you know, a new company waslaunched —Repsol— as the new name for most of the former INHcompanies. Repsol will be partially floated on the stock market in thenear future. It has been two years since oil prices dropped, and I thinkthis past experience provides a good opportunity to discuss the impactof this important event, both at company level and at national level.

As we all know, over the last two years, we have seen how it hasbeen difficult for OPEC countries to control oil prices. The key questionis, how and when —if that is possible— will they regain this control?At the same time, we have observed the growing predominance ofcertain factors in the development of oil markets and this has been avery important feature which, at the same time, explains and justifiesthe development of a new oil market.

And we have seen how difficult it is, still, to make price forecasts inspite of experience gained over the last fifteen years. This is truedespite major theoretical developments and important new modelsand forecasting tools. Even now we very often find that projectionsare contradictory, both at a macroeconomic and sectorial level.

1

We are observing too how oil companies and producer countries areredefining their strategies. We can observe once again, an importantmerger process in the oil industry, with big cash-rich oil companiestrying to acquire companies and reserves. At the same time, we canobserve producers trying to move downstream, sometimes veryaggressively.

However, if low oil prices are drastically changing the internationalstructure of the oil industry, the restructuring processes implementedby some countries are also modifying this structure at a domesticlevel. Spain is a case in point and will be analyzed in detail in one ofthe sessions.

For example, it is becoming increasingly less meaningful to talk aboutthe Spanish Oil Industry. Spanish companies currently operate withinthe framework of the European Economic Community. This is theirnatural market. It is the awareness of this which dominated the restruc-turing of Spanish oil companies, affecting every stage of the business.Upstream activities were traditionally one of Spain’s weak points. Re-cently, supply agreements with companies in producing countries andthe adquisition of proven reserves abroad are changing this situation.

The completion of the Single European Market which I have just re-ferred to, is a major collective task of the European countries althoughits basic idea can be expressed in a very simple way: The economicrelations among EEC countries should not be different from relationsexisting nowadays among the different provinces, autonomies orregions of each EEC country. The goal, therefore, is for the 12 mem-bers of the EEC, to achieve something similar to what was once donewith the 50 States of the Union. Refering to the energy sector, therealization of the Single Energy Market, and more particularly theSingle Oil Market will imply, among other things the removal —in ashort period of time, by 1992— of existing barriers which had beendeveloped over a long period of time.

I think that the discussion of these issues and the other talking pointsjustified the interest of holding this seminar in Toledo.

Opening Session2

WELCOME SPEECH

VICTOR PÉREZ PITA

It is a pleasure for me to have the opportunity of addressing such adistinguished audience and to congratulate Harvard University andRepsol on having organized this «Executive Session», attracting topexecutives from a wide spectrum of the oil world, all with the aim ofdiscussing in depth the main factors affecting the oil market.

I do not want to take too much time of this important meeting. Inorder to do so,I will just make a brief resume of the Spanish energypolicy, specifically on the oil sector and the impact due to the SpanishEEC membership.

In the last years, Spanish Energy policy has concentrated on threemain areas in order to:

— Reduce the vulnerability of the Spanish energy system.

— Improve energy consumption efficiency, implementing energysaving and conservation measures.

— Minimize the primary resources needed for final energy con-sumption.

Oil has obviously been at the centre of this policy, some data mayillustrate the present situation:

— Oil is still the main source of primary energy. Although oil’s share

3

in the primary energy balance has been gradually reduced in thelast years, it still represented a 53 % in 1987.

— Spain imports a 95 % of its oil requirements and is thereforehighly vulnerable to price variations and supply problems.

— As a part of a general diversification policy for supply sources,in 1987 crude imports from the OPEC countries represented a58 % of the total imports.

— Spanish final energy consumption grew in 1987 by 4 %, whereasthe demand for petroleum products increased by a 4.4 %,mainly due to the to the increasing demand for light products,(gasolines and diesel fuels).

Consequently it seems clear that energy planning should continue,implementing replacement and diversification measures, combinedwith a higher efficiency in both consumption and procurement, al-lowing a cost reduction process.

Let me now make some brief comments on the process in which theSpanish oil industry is involved due to the Spanish EEC membership.Spain’s EEC membership has had a major impact on the Spanish oilindustry, mainly due to the adaptation process for the petroleummonopoly. This process has two objectives:

— To adapt our legislation to current EEC regulations.

— To make the oil industry sufficiently competitive for free marketoperation.

From the Government’s point of view, subsequent to the negotia-tions with the EEC and the resulting institutional changes which definethe model under which competition must take place, we feel that thefoundation for this has been laid.

Let us examine the actions taken on the two objectives mentioned

Opening Session4

previously:

The restructuring of Campsa was undertaken by the law 45/84, im-proving vertical integration in the Spanish oil industry, as all Spanishrefineries took a shareholding in the company. At the same time anoil product sales and distribution instrument was set up, capable ofcompeting in the future with other companies in the sector.

For companies in the public hydrocarbons sector, restructuring hasimplied the formation of Repsol and will enable this company tocompete with multinationals both in Spain and in the rest of Eu-rope.

— The basic legal instruments for the adaptation process was the1985 Royal Decree Law for Adaptation of the Petroleum Mo-nopoly and the subsequent decrees.

In synthesis, this adaptation consists of:

— Transforming an absolute monopoly into a distribution monop-oly for domestic production, distributing products from Spanishrefineries via the monopoly network.

— Setting up a parallel distribution network for oil products im-ported from the EEC, with quotas up to 1992, and without anyquantitative limitation after that time.

This transformation of the Spanish oil industry, from an initial posi-tion of absolute governmental intervention to an operating systembased on free market forces, can be broken down into four stageswhich can be defined by the following:

1. lmport quotas.

2. Deregulation of the retail trade.

3. Elimination of fixed prices.

Welcom Speech 5

4. Freedom to import.

Let me now analyze each stage.

This first stage started on January 1st, 1986. EEC quotas for oil prod-ucts have mainly been imported and distributed by foreign compa-nies and firms connected with delegated entities of the monopoly.This has been actively regulated by two Royal Decress, with opera-tors being classified by the Ministry of Industry and Energy.

Until the second stage is implemented, operators must sell their quo-tas to Campsa.

In the second stage mentioned before, i.e., the deregulation of the re-tail trade, operators may directly sell imported products to the finalconsumers and are no longer obliged to sell these products to Campsa.

A retailing deregulation calender has been laid down for each type ofproduct, as follows:

In 1988, retail sales of gasoline, diesel oil, domestic marine and aircraftfuels and bulk LPG and fuel oil sales to consumers with demandexceeding 25,000 t/y will be deregulated.

In 1989 Spanish-made automobile lubricants will be deregulated.

Finally, in 1990, the deregulation process will be completed, affectingthe limitations established for fuel oil and LPG, as well as heating oiland naphthas for gas and fertilizer manufacturing.

On the third stage —elimination of fixed prices— a parallel scheduleis superimposed on the calender for the retail trade, so that there isnever any delay exceeding two years between deregulation of theretail trade on deregulation of prices.

Finally, on January 1st, 1992 there will be no limitations on im-ports, ending the adaptation process started several years ago. The

Opening Session6

European stages have obviously been discussed and agreed withthe Commission. The second stage will be applied via a series ofdecrees.

The first of these is the most noteworthy, deregulating retail sales ofgasoline and diesel fuels (new gasoline and diesel fuel regulations). Areport has already been made on this decree by the Council of Stateand it is only pending approval by the Council of Ministers.

This regulation:

— Allows parallel oil product distribution networks to be set up.

— Establishes a geographical distribution requirement for the newpetrol stations.

— Maintains the spacing criteria system, halving the distanceswhich are now required.

The geographical distribution criteria divides Spain into two zones (Aand B) on the basis of differing regional developments and estab-lishes that for every three petrol stations in Zone A, operators areobliged to install at least one in Zone B.

The spacing regulation agreed upon, appears to be an equilibriumbetween two different situations:

It is obvious that the former regulation created some problems inorder to allow a free market competition. A few examples that il-lustrate this situation are:

1. While the number of points of sales for automobile fuels in-creased by 18 % between 1970 and 1986, sales volume roseby 135 % and the number of vehicles by 189 %.

2. Per million tonnes sold there are currently 380 points of sale inSpain, compared to an average of 926 in Europe.

Welcom Speech 7

Opening Session8

On the other hand, although we wanted to increase in a reasonableway the number of petrol stations, we also wanted to maintain inthis period some type of control in order not to reach the extremesituations found in some European countries.

CONCLUSIONS

By the way of conclusion, we could say that the Spanish Governmenthas provided the means for ensuring an efficient adaptation processin the Spanish oil industry. This process will take the industry from astarting point of absolute protection, from external influences withheavy governmental intervention, to a state of full deregulation.Though the transformation of the Spanish oil industry has beenimportant there are still some undesirable aspects that in my opinionshould be corrected. For example, the size and the degree of verticalintegration of most of the Spanish oil industries is far less in comparisonthan those which they will compete against in a free market; the lowlevel of reserves and oil production is also a main concern. This maynot be the case of the public oil sector, which in the last years hasbeen implementing different strategies in order to avoid the formerproblems. Following these strategies, last year Repsol Company wascreated by integrating all of the oil activities of the former INH.

It is now up to the oil industry to make the right decisions. Action re-quired includes the inevitable internationalization of the industry,which is only natural considering the nature of the raw material.

I am sure that with the structure of this «Executive Session», which issplit into three sessions, the Oil Market Outlook, the Impact of LowOil Prices and the Restructuring of the Market, combined with theparticipants and the time dedicated to open discussions on thesesubjects, we will be able to enrich ourselves with a greater awarenessof our mutual problems and of our similarities and differences, whichwill greatly aid the joint search for solutions.

Thank you very much.

INTRODUCTORY REMARKS

BIJAN MOSSAVAR RAHMANI

Let me add my words of welcome to you on behalf of the Energyand Environmental Policy Center and also on behalf of the Associatesof the Harvard International Energy Program, the Center’s industryadvisory board, which I have the pleasure of chairing. In addition toRepsol, there are three other members of the Associates Programhere today whose participation in our meeting I should like to ac-knowledge: Ashland Oil, Exxon and the U.S. Department of Energy.

The Toledo meeting is the second annual executive session on petro-leum policy jointly organized by Repsol and Harvard in Spain. Thesemeetings are organized as a forum for frank and informal discussioncovering ongoing oil market policy-makers representing governmentsand international organizations, corporate executives, and also uni-versity researchers.

We structure the meetings around a topical theme, with an emphasison Western Europe. Last year, we gathered in Segovia to discuss thechanging role of national and international oil companies, Mediter-ranean Rim oil and natural gas developments and perspectives, and

9

the implications of the evolving market environment —and industryrestructuring— for corporate and public policies. Our focus this yearis «The Impact of Low Oil Prices», a subject which has been of con-siderable concern to all of us who are involved in the oil industry.This subject has been of particular interest to researchers at Harvardwho have recently completed a study of the impact of low oil priceson the structure on the oil supply chain, on demand recovery, on theglobal macroeconomy, and on productivity and economic growth.Our meeting will provide an opportunity to review some of thosefindings.

There will be three substantive sessions and a wrap-up session at theend of the meeting tomorrow. Each session will start with short pre-sentations intended to focus the discussions before opening the floorto the full group. Session I will review trends and prospects for theworld oil market, with presentations covering the short-, mediumand long-term outlook, as well as a presentation on OPEC pricingoptions and strategies. In Session II, we move to the impact of low oilprices both broadly gauged and specifically as felt here in our hostcountry, Spain. Session III will turn to the continuing restructuring ofthe oil industry, with presentations covering Spain, the North Sea,and the United States. Finally, Session IV will summarize conclusionsand review implications for policy-makers.

This executive session promises to be another stimulating and pro-ductive meeting; we are grateful to our Spanish hosts for bringing ustogether in this historic and beautiful city.

Opening Session10

SESSION I

«PROSPECTS FOR OIL:A LONG TERM OUTLOOK»

MAX WILKINSON

Several months ago when Irwin Steizer asked me if I would say a fewwords on the prospects for oil, I went to see the chairman of one ofthe world’s largest petroleum companies.

At that time crude prices were about $18/b, but coming down a bit.In the course of the interview, I asked about prospects for the oilmarket. The chairman replied, «if OPEC can keep discipline a little bitlonger, I think the price might stay firm, but if OPEC cannot keepdiscipline I think the price might weaken a little. What do youthink?». Now I feel in a similar position. The reporter’s comparativeadvantage, is that he asks questions rather than gives solutions so,particularly in this distinguished audience, I cannot claim to give anygreat insight about what is going to happen or is not going to hap-pen. I shall therefore talk briefly about what I see as the consensus,which is fairly straightforward and then look at the more controversialquestion of what might happen in the longer term, experts appear todisagree substantially.

I will start with a few questions, which in my mind are still unsolved.

11

The first one is: why in the spring of 1987, just over a year ago, did theoil companies suddenly seem with one accord, to be happy that every-thing was going to be all right? They certainly had not been sure be-fore of that in the fall of 1986. But then they all started to talk about$18 oil, as being a sort of natural price, which satisfied producers andsatisfied consumers, and was near the marginal cost of development.

And they were all saying it at once. In Britain one noticed particularlythe stance of BP, the world’s third largest oil company (SEMCOL),and its actions spoke much louder than words, when BP spent nearly$8 billion buying the remainder of Standard Oil of America. Therewere strategic reasons for that of course, and the British governmentplans for selling shares influenced the timing. But it is difficult to avoidthe view that BP was taking a fairly long punt on the oil price, espe-cially as it could have bought Standard much cheaper a year earlier.

Maybe it was just too nervous to make the move in 1986, but it musthave felt that something had happened in the oil markets a yearlater. As far as I know, nobody has been able to explain very clearly,what made BP and other major companies confident that the worstwas over. This confidence was reinforced again in the autumn of1987. When BP spent nearly four billion dollars on buying Britoil, anentirely upstream company, that again seemed to be a punt on theoil price. Of course, there were other reasons.

Shell, too, although less on the acquisition trail, was certainly em-phasising in its corporate statements a determination to press aheadwith undiminished exploration and investment.

Well, what was the perception then? I think the perception was thatthe downside of oil prices had been severely limited by several fac-tors. One was politics. The extraordinary spectacle of George Bush in1986, almost pleading with the Saudi Arabians to revivify the OPECcartel and prevent the Texas industry from going bust, was a sharpreminder that political forces were not just one-sided, and that thewestern countries also had an interest in not-too-low oil prices: theU.S. because of its own indigenous industry, Britain, maybe because

Session I12

of the extent, and the many influences of oil revenues. But moreimportantly, other larger consuming countries represented in the lEAwere worried about longer term energy security and saw the dangersof low oil prices leading to lower exploration and higher consumption.

Another factor was the evidence that fuel switching did seem to beoccurring. Particularly in the U.S., there was a large potential for in-dustrial consumers to switch out of oil into natural gas or coal. Fi-nally, and much more important than all of these, was the perceptionthat OPEC itself would not tolerate for long a price much below acertain level and $15 seemed to be the consensus.

The reason clearly was that OPEC’s revenues had fallen from US$150 billion in 1984 to $77 billion in 1986 and I think to about $100billion this year. The arithmetic suddenly became extremely clear tothe whole world.

If you take OPEC production at 18 Mb/d and the oil price, of $18/b,then by a nice symmetry a cut in production of one million barrelswould cost OPEC $18 million a day. Whereas they only have to geta rise of one dollar in the price to get it all back again.

So it is pretty clear that the advantage to the group as a whole isoverwhelmingly to cut production —if it can be sure of the relevantprice increase. And at that time a daily change of fifty cents, even adollar, in the spot price was common.

That was the perception then on the downside. Much less was saidabout the possibility of a steep rise in crude prices. It seemed to befairly well understood that somewhere above $20/b, demand wouldbe choked off and OPEC would be back into the same long termproblems.

All this leads, of course, to the wellknown graphs which practicallyevery oil company seems to produce, which consist of two shadybands. One at the top and one at the bottom with the oil pricesbumping up and down between them. The top is generally agreed to

«Prospects for Oil: A Long Term Outlook» 13

be between $18/b to $25/b and the bottom between $15/b to$10/b.

The other perception, which coloured the oil companies’ strategies, isthe developing and uncertain psychology between OPEC and thespot and forward markets. These markets are now said to encompasssomething like 20 Mb/d, which is a hundred times what it was in1983 and clearly is quite a large force now influencing the price.

Some commentators have posed big questions about the effect ofthe forward and futures markets on financial stability. For example,what would be the effect of another major price collapse on theliquidity of these markets? We have seen some indications of whatthis might lead to in the Brent Market. During the collapse of 1986there was for a short time a major question whether the marketcould survive after one of those long daisy chains —where every-body is selling cargoes to other people— broke after a default, thenthere was the more dramatic cornering of the Brent Market earlierthis year, when Transworld bought between 42 and 45 cargoes.

Transworld and its backers failed in whatever it was trying to do, butthe incident certainly raises the question of the extent to which themarkets themselves are independent of OPEC or any rate closely in-volved in a curious linkage. Somebody in BP put it, I thought rathernicely in the autumn of 1986, when everybody was uncertainwhether OPEC really would be able to pull things together again. Hesaid if OPEC reaches an agreement, the market will be waiting forthe agreement to fall apart, and when it falls apart they will be wait-ing for OPEC to meet again.

That seems to describe on a slower timetable what is still happening.Witness the Pricing Committee Meeting this weekend (SEMCOL)no-body that I have talked to expected very much to come out of it.But on the other hand, nobody is certain that nothing will come outof it. And meanwhile, all the traders out there are looking at everyother trader, creating something of an inertia around present pricelevels, but not a stable one.

Session I14

It is again reasonably clear that the OPEC discipline this year hasbeen quite a lot better than what was expected in the autumn, whenproduction had reached just under 20 Mb/d. Now it seems to bedown to 17.5 Mb/d, which is generally thought to be consistent withlonger term market stability, although there are doubts about thestocks overhang from that previous overproduction. However, theprice is not collapsing, it sort of went down, and then came back upagain a bit and then stuck at about $15/b.

It is a complete mystery to me why the price should be at any levelwithin the band. Maybe somebody else can explain it, since it is aprice which is influenced by OPEC on the one hand and by the oilcompanies on the other hand. But the relationship between supplyand demand and price seems to be, to say the least, obscure.

The continuing question again is obvious (SEMCOL) how can OPECgo on in this way, without any agreement as to who should be theswing producers, and how the swing producers’ function should betaken up? Even though it is a pretty old debate, I suppose each suc-ceeding time in which there is weakness in the market with some ex-cess supply it begins again.

Well, all this is stuff crawled over by many analysts. Perhaps a moreinteresting question is what the longer term prospects for oil pricesare, and here there do seem to be two very sharply divided views,between the optimists and pessimists, though it is hard to saywhether optimism describes high prices or the reverse.

From the OPEC point of view, the optimistic view is, from my read-ing, most strongly represented by Professor Hogan’s recent works. Hesays that the elasticity of price and demand, which surprised every-body when the prices rose, will surprise everybody a second time. Justas consumers used a great deal less oil when the prices rose, they willstart using more oil when it is cheaper. That seems to be commonsense, but it is also backed up with pretty impressive analysis and heshows in his book that the price-demand functions are fairly consis-tent over the period, even in spite of all the tremendous turbulance.


Against that there is, I think, the majority position, which holds that theforces of conservation which were unleashed during the period of risingprices, particularly after 1979, have really changed consumers’ behav-iour in some discontinuous way. It will not be reversed, partly becausethe technology of conservation is so pressing and partly becausepeople do not believe that OPEC will pass up an opportunity to pushup the prices. The argument is that consumers will anticipate a possi-ble future oil shock and will not go in for high oil consuming ventures,even though the price signals might suggest that they should do so.

I cannot pretend to judge between those arguments, but I have to saythat I am prejudiced in favour of the view that economists sometimesunderestimate the power of technological change. I was personallystruck by a recent analysis of the World Resources Institute whichpurported to show that the world economy could go on growing ata steady rate until the year 2000, without using any more energy atall, or perhaps 10 % more. Or put it another way, their forecast forenergy use would be about half of the minimum one produced bythe last World Energy Conference.

Now, this is not an econometric study and does not pretend to saythis will happen, only that the technology would allow it to happen.So obviously it does not include the effect of price and the price in-centives, but I did use the word prejudice. My prejudice is that ifsomething can happen, it might well happen, plus I think one has torecognize that demand for oil is growing very slowly at the moment,probably around 1 % per year, in spite of the kick-up in 1986, andthat does not seem to be consistent with everybody leaping in towardsbuying new oil-fired boilers, etc.

In the U.K., for instance, the Energy Efficiency Office has discoveredthat the industrialists are failing to put in conservation and efficiencymeasures, even when the payback period is less than a year. I thinkwith lower oil prices, the payback period may have gone up to some-thing like eighteen months, but they still do not do it. So, althoughthe price signals must be important, it is also clear they are widelyignored. Consumers behaviour appears to be driven also by some

Session I16

sort of odd psychology. I am inclined to believe that the oil crisismade the world appear different to consumers, but we shall have towait to see whether this is really true.

Finally, I think it is worth asking what are oil prices now in relation tohistorical trends? There is a general tendency to not look at realprices and, therefore, people miss the fact that $50 oil has alreadyhappened. It is not uncharted territory. We had $50 oil in 1980 attoday’s prices, and that is the correct way of looking at it. If youcompare today’s prices (roughly speaking, US$15) with the price ofoil during the whole of the earlier part of this century from 1900 to1970: today’s price is 50 % higher than average price for the period,which in real terms was about $10. So prices now are not low interms of that historical base, although, of course, the marginal costof finding oil is going up, not to mention the fact that this is a decliningresource, so you would expect its value to rise.

So one cannot be sure that oil is now expensive. However, as a mat-ter of observation, it is 50 % higher than the average this centuryand the average was fairly consistent in spite of all the changes thatoccured. Although rather an anecdotal point, it is interesting thatthere were only three years in the first seventy years of the centurywhen the oil price was higher than it is now in real terms. Thesewere 1900, 1917, and 1920 (SEMCOL); in today’s prices, crude oilonly went up to $17/b. SQ finally, in support of the hypothesis thatsomething discontinous occurred, one can look at a rather symmet-rical pattern again converting oil prices into real terms. Oil prices arenow a half of what they were in 1984, a third of what they were in1980, but three times what they were in the 1960’s and twice whatthey were in the 1950’s. So there was a steady accelerating fall inreal prices from the 1950’s to the 1960’s. Leading, of course to thefly-up in the 1970’s and then in the 1980’s some sort of settlingout.

This might suggest that oil prices now may not be so far out of linewith historial trends —and those who believe they might stay rela-tively weak for a quite long time have something going for them.


Session I18

MAX WILKINSON

Max Wilkinson has been Natural Resources Editor of the Financial Times,where he was previously Economics Correspondent and Deputy News Edi-tor. Aged 46, he has worked for the Financial Times for 12 years.

His earlier career on the Financial Times was as a specialist writer on the Elec-tronics and Communication Industries.

He was educated at Cambridge University where he gained a Bachelor ofArts degree in Mechanical Science and English. He worked for serveral Britishnewspapers before joining the Financial Times.

«THE RETURN OF FLEXIBLE PRICINGPOLICY: CAN OPEC AVOID ANOTHER1986?»

CYRUS HOSSEIN THAMASSEBI

Good morning, ladies and gentlemen. I am indeed delighted to behere this morning in this beautiful city of Toledo and share with yousome of our views on the international oil markets.

As we all know, the world oil markets are constantly changing due tonew economic and/or political developments. It is quite a challengingtask to keep abreast with these developments, analyze them, andthen figure out what kind of ramifications they will have on themarkets. The task becomes even more complicated when the resultsof one’s analysis may turn out to be quite different from the consen-sus which offer emerges very rapidly after a significant event in themarket place.

I have to admit that most of my conclusions in the last few yearshave run counter to the prevailing consensus. In fact, some of themseemed highly controversial and out of place with conventional wis-dom. But fortunately for me, subsequent events have proven thatmy position was not as unrealistic as it may have sounded at the time.For example, in a July 1985 report entitled «World Energy OutlookThrough 1995», when oil prices were in the $28-$30 range, we pre-

19

sented a $15/b price scenario as a highly probable case for the 1980’s.We said by 1990, current dollar price for the Arab Light is likely to be$23/b if OPEC can maintain a tight discipline; otherwise, it could be aslow as $20/b. We ruled out any price above $26/b as unsustainablebefore 1990. It sounded very unreal then, but a few months later theprice went down even below our low price scenario level of $15/b.

Last April, in a paper entitled «Challenges to OPEC’s Pricing Policy: WillFlexible Pricing Return?», we argued that despite OPEC’s resolve, thegoal of maintaining a fixed price without a swing producer is unattain-able. Moreover, we maintained that, since Saudi Arabia has made itclear that it will not accept the swing producer role, prices are bound tofall and OPEC will be forced to adopt market-related pricing again.This, as we know, has happened, even though I must admit that it hap-pened somewhat later than I had anticipated. Today, I would like tobuild on the same proposition that I made last April. It seems to me thatnot only will market-related pricing proliferate in other countries/re-gions, but also one can say with almost total certainty that the oldregime of official OPEC selling price is now on the way out —and notjust temporarily but perhaps forever. Again, this may sound highly con-troversial or unrealistic, but I hope after you have heard my reasoning,you will be convinced that this prognosis is not as much out of line as itmay first appear.

In order to appreciate the logic behind this prediction, one needs firstto take a few moments to reflect on emerging market trends of thelast few years, extrapolate those trends into the future (with somerealistic modifications), and then see if there remains any room for anOPEC-mandated official pricing regime.

I. PAST TRENDS

It is true that the past is history, but our understanding and impres-sion of that history plays a major role in shaping our current percep-tions. Unfortunately, there is no unanimity in understanding the past.If you ask ten oil market analysts what they thought of a certain

Session I20

event, you are likely to get ten different interpretations. It is thisinterpretation or understanding of the past that impacts our visionand molds our future perspective.

Having said that, let me now briefly outline my understanding andinterpretation of the past.

1. Despite all of the rhetoric we have heard, OPEC has never reallyinitiated a material price increase since its inception in 1960. Bothin the 1973-74 and 1979-81 periods, when temporary shortagestook place due to political events, the organization followed thejumps in spot prices with a considerable lag, along with many othernon-OPEC producers. Subsequently, however, OPEC lost almosthalf of its production, while others continued to gain market share.This happened simply because OPEC refused to lower its pricesonce the temporary tight market conditions had changed. OPCE’sbiggest mistake was that it accepted the then prevailing notionthat demand for oil would continue to rise even at those highprices. OPEC believed any future increment to non-OPEC produc-tion would fall short of meeting this rising demand and therefore,the call for OPEC oil would continue to increase. Basic economicstells us that every market has a dynamism of its own, but OPECignored the dynamism of world oil markets. Rather than movingwith the market, it adopted a policy of defiance and rigidity which,unfortunately, has continued to the present. Obviously, those whodo not respond to market dynamism are doomed. This is true forany industry and any market. Therefore, almost all of OPEC’s prob-lems in the 1980’s can be traced to this single major policy flaw,because it not only resulted in a significant loss of market share, butalso undermined OPEC’s unity and long term interest. However,since the maintenance of a fixed price policy had been elevated toa national objective, and most developmental projects of themember countries were based on an ever increasing oil price andrevenue, a shift in this policy had become a difficult task politically.

OPEC’s adoption of a rigid pricing policy also earned it a lot ofpublic criticism and tarnished its international image. OPEC-

«The Return of Flexible Pricing Policy: Can OPEC Avoid Another 1986?» 21

bashing, as we all know, has been in vogue for years now. Theorganization is criticized if oil prices go up or down, because theworld community somehow believes that OPEC is the mainmanipulator of the international oil markets.

In summary, therefore, despite its superficial appeals, the rigidpricing policy has proven to be OPEC’s worst enemy. Some ofthe producing countries now realize this very clearly. However, afew still have serious reservations about adopting any type ofmarket-related pricing. But this is changing rapidly and I believeas the realities of the world oil markets unfold further, the rigidprice group will lose support.

2. Almost all players in the world oil markets (governments, pro-ducers, and consumers) would like to speak of the virtues of astable price environment. Obviously, instability raises risk, andwe all like to minimize risk. Bur just like anything else, stabilityhas a price. In a surplus market environment, price stability isattainable only if one or more producers who have a significantmarket share are willing to assume the role of swing producer(s).This would mean the burden of adjusting supply to demandwould fall on the major producers. This could be tolerated if theglut was expected to be of a short duration. But if it is an enduringone, the price that must be paid for market stability could beprohibitive even for the major producer(s).

In an ideal situation, aggregate supply would approximate aggre-gate demand, and the prevailing price —which the swing pro-ducer(s) would attempt to maintain— would be very close to themarket clearing level. Even under these circumstances, however,maintaining price stability through swing producer(s) would becumbersome, simply because of the market’s inherent dynamism.But ideal market situations do not materialize in the real world andeven if they do, they cannot last for too long because markets areconstantly changing due to shifts in demand, supply, or both. Inother words, the concept of equilibrium price is only theoretical,and in real world it can be very illusive. Therefore, it is clear that

Session I22

any policy that is centered on defending a given price is based ona very shaky foundation and is bound to crumble. However, thisis exactly what OPEC attempted to do. Moreover, OPEC was notdefending a price close to an equilibrium level. As the events ofthe last few years indicated, it was defending a price which wasprobably about double the rate of long-term market clearing level.The result has been disastrous for OPEC. Because, in the process,not only has it not been able to achieve its goal —as the price hastumbled from $34/b in 1980 to less than $15/b today— but italso has lost almost 50 % of its market share.

Recent history has shown us unequivocally that attempts to main-tain a price above market level are doomed because in the longrun the costs are prohibitive. As we have seen, the costs can growand accumulate over time to the extent that even a group ofcountries with about 40 % of market share can find it unbearable.

3. If a group of countries acting collectively are not able to maintainthe price at a certain level, can a single country shoulder the entireburden? Obviously not. Yet, this seems to be what most OPECcountries and non-OPEC producers have been expecting of SaudiArabia. With a quota below 50 % of its production capacity (andfar below its potential capacity) and with commitments to con-tinue its economic development, the Saudi government has foundit progressively difficult to shoulder such a heavy burden.

Should OPEC abandon its production rationing and fixed pricing pol-icy and allow another replay of the 1986 episode? Not necessarily.But before we answer that, let us take a few moments and look atwhat the future holds for OPEC.

II. FUTURE OUTLOOK

Undoubtedly, OPEC’s pricing policy is affected not only by its expe-riences of the past but also by its perception of the future. Such fac-tors as the future demand trajectory, non-OPEC supply and cooper-


ation, and government policies within major consuming countries areof paramount importance to OPEC and can not be ignored in for-mulating its longterm pricing policy. What are the prospects for theseand other relevant factors in the years ahead?

Demand For OPEC Oil

Recently I made a study of the forecasts made since the late 1970’sfor OPEC production. Although I cannot claim that the study in-cluded every forecast made since then, it did encompass most of thepublicly-available forecasts made by reputable organizations. It wasquite interesting to note that virtually all of these forecasts overesti-mated the demand for OPEC oil in the years ahead. For example, agroup of 75 experts from 15 countries around the world spent sometwo years in research and eventually come up with a projection in1977 that supply of oil would fail to meet increasing demand beforethe year 2000, most probably between 1985 and 1995, even if en-ergy prices increased in real terms 50 % above the levels prevailingthem. They also claimed that demand for energy would continue togrow even if governments in consuming countries adopted vigorouspolicies to conserve and that oil would be reserved more and morefor uses that only oil could satisfy. This study by the Workshop onAlternative Energy Strategies (WAES), which was sponsored by theMassachusetts Institute of Technology, projected world (non-Com-munist countries) demand for oil in the range of 75-93 Mb/d bar-rels per day by the year 2000. The projected call for OPEC oilranged between 33 to 45 Mb/d, depending on such variables asprice, economic growth rate and OPEC’s willingness to increaseproduction.

In 1978, a major oil company with a great reputation for its oil mar-ket forecast, projected a free world demand level of about 60 Mb/din 1985 under its low demand growth scenario. It then went on tosay that «all of the evidence suggests that oil supplies —whetherlimited by technical or political factors— are likely to fall short ofpotential demand between 1985 and 1995.»

Session I24

Obviously, the price jumps of the 1979-81 period changed this per-ception significantly. But even as recently as 1982, some analystswere arguing demand for OPEC oil would reach 25 Mb/d by 1985or 1986. The much heralded «OPEC Multiplier» was one of the ar-guments advanced to support these bullish forecasts. Even my ownprojections —which were considered by many as highly pessimistic—have turned out to be optimistic on the hindsight.

As the realities of the oil market have unfolded in recent years, theanalysts have toned down their optimism; but in my opinion, un-less the price remains below $15/b for an extended period, almostall of the current forecasts of the future demand for OPEC oil willstill prove to be on the optimistic side. Our latest price scenariosand forecasts for primary energy demand are presented in Tables1 and 2.

My reasoning behind the above prognosis is as follows:

1. The pace of world economic growth in the years ahead (1988-1995) will be significantly lower than expected-around 1.5-2.0 %a year rather than 2.5-3.0 % as many analysts assume.

2. Demand for oil will grow at a rate less than the 1.5-2.0 % peryear as projected by many analysts. This will happen not onlybecause of lower than expected economic growth rates but alsobecause of such diverse factors as excise taxes or tariffs on oil insome of the major consuming countries, new technological ad-vancement or breakthroughs, increasing competition from naturalgas and coal, and expectations of higher prices.

3. It is true that there is a potential for significant increase in de-mand for oil in the developing and the newly industrializedcountries. But this potential is realizable only if commodity pricesmove upward, new loans are made available to the debtor na-tions, world trade continues to expand, and the newly-indus-trialized countries do not resort to additional tariffs and taxes onimported oil.


However, as shown in the Table 3, even if we accept the currentconsensus of 1.5 % annual growth rate for oil demand, OPEC mayreach 85 % operating rate by 1995 (assuming 30 Mb/d productioncapacity) only if non-OPEC production stagnates for the next fewyears and then begins to decline.

But even the most pessimistic analysts do not expect non-OPEC oilproduction to remain flat or decline rapidly within the next few years.In fact, most studies project non-OPEC production to increase for atleast another three to four years and then stabilize at those levels fora number of years. This would be very similar to our Subcase BB, inwhich demand for OPEC oil is projected to amount to only 20 Mb/dby 1995. This would mean OPEC will be operating at a range of 67 %to 77 % capacity utilization rate. This, in my opinion, is far below theso called «comfort zone». Therefore, competition within OPEC andbetween OPEC and non-OPEC producers for greater market sharewill continue at least through 1995.

Furthermore, as shown in Tables 4 and 5 non-OPEC supply is notexpected to peak until 1995. However, even with some productiondrop in this category, OPEC’s operating rate is not expected to exceedmuch above 80 % (see Table 5).

III. HOW SHOULD OPEC PRICE ITS CRUDE?

If this market environment does prevail in the years ahead, as Istrongly believe it will, then OPEC will continue to face the same dif-ficult challenges in pricing its oil as it has in the last few years. The1980’s experience has shown us unequivocally that a fixed pricingpolicy is not workable without great sacrifices on the part of its pa-trons. There is no indication that this trend will stop if OPEC contin-ues to opt for fixed prices.

Recently, some students of the oil markets have come up with inno-vative proposals on how OPEC might be able to restore stability tothe oil markets. For example, a recent proposal prescribes OPEC to

Session I26

maintain a large volume of surge stocks of both sour and sweetcrudes near the major consuming markets and sell from these stockswhen the markets get tight and add to it when the markets get soft.Not only am I skeptical on the workability of this measure, but onecan also seriously question whether OPEC would find such a schemein its best interest. It is in many ways again a regime devised to resisttrue market movements, and it may confuse the players about theunderlying market dynamism and fundamentals.

If fixed pricing is not practical, then what are OPEC’s options? Cynicswould immediately rule out any sort of flexible pricing, and they mayuse the 1986 episode as a proof that market-related pricing is a surerecipe for disaster for OPEC. In retrospect, however, two things havebecome obvious. Number one, market-related pricing was not thereal culprit in the 1986 crash. Number two, it is probably the only vi-able option available to OPEC, and, if administered correctly, cansafeguard both the short and long term interest of the producingcountries. The price crash occurred because OPEC opted to increaseits market share. When supply exceeds demand, price is bound tofall, regardless of how that supply is made available to the market. Infact, as we all know, market prices actually firmed up in late 1985following the sale of netback cru des by Saudi Arabia. However, oncethis scheme proliferated to other producers and the objectiveschanged from one of maintaining the prevailing market share to in-creasing it, prices plummeted. Furthermore, most of the netbackdeals offered in 1985 and 1986 were structured in such a way thatalmost all of the risks were shifted from other market participants tothe producing countries. Therefore, refiners had every incentive torun more crude. With OPEC seeking greater market share, therewere no effective constraints which could have limited supply to thelevel of demand without serious deterioration in prices.

Given the disappointing experience of 1986, should OPEC resort toa market-related pricing policy again? The answer is a qualified yes.«Yes», because for OPEC there is no other viable option; «qualified»,because if it is not done properly, it can result in a replay of the 1986episode.


Let me also remind you that current spot prices for OPEC’s basketcrude are some $3-$4 below the official price of $18/b.

Obviously, no refiner would be willing to pay the official price whenthe gap is so wide. The fact that current OPEC production ispresently running at about 17.5 Mb/d (almost the same as the offi-cial quota of 15.06 million barrels plus the estimated Iraqi productionof 2.5 Mb/d) indicates that very little, if any, OPEC oil is being soldat official prices.

Despite their disappointing experience in 1986, the fact that theproducing countries have once more been forced to sell at market-related price is a living testimony that market-related pricing is theonly viable option avaliable to OPEC in a surplus market condition.However, a very strong argument can also be made that market-related pricing similar to a netback deal not only is the only viableoption in a surplus market, but also can benefit OPEC more than aflexible pricing policy, even in a tight market situation. This is becausein a tight market, spot prices move up first, as was the case in the1970’s. If the official pricing regime were in effect, OPEC would fol-low them but with a certain time lag. By adopting market-relatedpricing, producers can benefit from upward movement of the pricealmost immediately. Moreover, by adopting the market price, OPECcan avoid the criticism levied against it as a price fixer. It also wouldrelinquish forever the undesirable role of swing producer. If furtherproduction restraint were required to stabilize the market, it wouldbe the responsibility of all the players in the market, not just OPEC.

I mentioned earlier that the adoption of a market-related pricingregime as an official policy needed to be done properly and withprudence to avoid the undesirable consequences which materializedin 1986. How can OPEC accomplish this?

I am sure there is more than one way for OPEC to launch a market-related pricing regime. However, the following approach not onlywould minimize possible risks, but should also help to stabilize themarkets.

Session I28

1. Under this approach, OPEC would assess world oil markets andestablish a realistic semi-annual quota for the organization as ithas done in the recent past. The aggregate quota then would beallocated to the member countries by an agreement among themembers.

2. Each member country enters into supply agreements with oilcompanies/refiners for at least 85 % of its projected export vol-ume on a market-related (netback) pricing arrangement withsuch obligatory provisions on the side of the buyer as «take orpay» clauses. Since by virtue of market-related pricing, a minimumrefining profit margin is implicitly guaranteed in these supplyagreements, there is very little probability, if any, that companieswould fail to lift the crude.

3. The remaining 15 % of the projected export volume can bemade available to the general market at spot prices somewhathigher than (say 5 % or so) the market-related supply contractprices.

The approach outlined above is materially different from the netbackdeals launched in 1986. First of all, it is based on a quota systemrather than allowing each country to produce as much as it desireswhich was very much the case in 1986. Second, the marginal supply(15 % spot segment) is sold at a premium in relation to the volumesold under longer term contract arrangement. This kind of arrange-ment would preclude price deterioration which normally results fromOPEC selling its marginal crude at a discount. Furthermore, this 15 %spot sale can work as a buffer to regulate the aggregate supply withthe aggregate demand in the sense that if there is too much crude inthe market, the purchasers of the spot crude will be the first buyerswho would cutback their purchase. Conversely, if the market is tight,then the purchasers of spot crudes would want more supply andwould be ready to pay even higher premiums. Third, since the mar-ginal barrel is being sold at a premium, the product prices (relative tocrude or the cracking spreads) will remain strong. This would translateinto better netback values for crudes sold under long term contract


Session I30

arrangements. Fourth, this arrangement would solve the problem ofunder or over liftings which currently happen as a result of changesin price differentials. And finally, each producing country is guaran-teed a minimum lifting of 85 % of its quota regardless of the shortterm market fluctuations.

Obviously, the feasibility of this arrangement is predicated on the as-sumption that member countries will strictly adhere to their quota.Otherwise, as we all know, prices would eventually fall in an over-supplie market regardless of how that supply is made available to themarket.

To recap, a careful analysis of the market trends both past, presentand future, clearly indicates that the time of an inflexible OPEC-mandated fixed pricing policy has long passed. It can be continuedfor a few more years, but the cost will be so high that OPEC maynever again recover from its adverse consequences.

However, this does not mean that there is no longer a place forOPEC in the world oil markets. The organization can still play an im-portant role in stabilizing the market. But it does not need to do thisat an unbearable cost to itself. A well-planned flexible pricing regimecan provide OPEC with most of what it is currently seeking withoutundermining either its short or long term interest.

Tabl

e 1

Wor

ld o

il pr

ice*

sce

nari

os

Com

poun

ded

Ave

rage

Esti

mat

ed P

rice

Proj

ecte

d Pr

ice

Ann

ual P

erce

ntag

e C

hang

e

1986

1987

1990

1995

2000

1987

-95

1995

-200

0

Low

-Pri

ce S

cena

rio

Cur

rent

Dol

lar

$14.

45$1

7.03

$15.

00$2

3.00

$35.

003.

8 %

8.8

%19

87 D

olla

r14

.88

17.0

313

.53

17.4

621

.33

0.3

%4.

1 %

Infla

tion

Inde

x97

.10

100.

0011

0.90

131.

7016

4.10

3.5

%4.

5 %

Bas

e-Li

ne S

cena

rio

Cur

rent

Dol

lar

$14.

45$1

7.03

$18.

00$2

5.00

$40.

004.

9 %

9.9

%19

87 D

olla

r14

.88

17.0

316

.00

17.8

322

.36

0.6

%4.

6 %

Infla

tion

Inde

x97

.110

0.00

112.

5014

0.20

178.

904.

3 %

5.0

%

Hig

h-Pr

ice

Scen

ario

Cur

rent

Dol

lar

$14.

45$1

7.03

$20.

00$2

8.00

$45.

006.

4 %

10.0

%19

87 D

olla

r14

.88

17.0

317

.53

18.7

723

.63

1.2

%4.

7 %

Infla

tion

Inde

x97

.10

100.

0011

4.10

149.

2019

0.40

5.1

%5.

0 %

*Sp

ot P

rice

For

Ara

b Li

ght,

FO

B Pe

rsia

n G

ulf.

«The

Ret

urn

of F

lexi

ble

Pric

ing

Polic

y: C

an O

PEC

Avo

id A

noth

er 1

986?

»31

Session I32

Table 2Free world primary energy demand by fuel type

(million barrels per day crude oil equivalent)

Base-LineActual Scenario Projections

1970 1973 1978 1986 1990 1995 2000

Oil 39.3 48.0 51.0 47.5 49.5 51.9 52.5Natural Gas 14.8 16.5 17.5 17.9 19.5 21.0 25.0Coal 17.7 16.0 16.9 21.9 24.0 27.5 35.0Nuclear 0.4 1.0 2.8 6.6 7.5 8.5 8.9Hydro/Other 5.2 6.0 7.0 8.4 10.2 10.6 11.8

TOTAL 77.4 87.5 95.2 102.3 110.7 119.5 133.2

Table 3

World Non-OPEC Demand for OPEC’s**Demand Supply* OPEC Oil Operating Rate

1987-Actual

1995-Projected

Low Growth Case (0.5 %/yr):Subcase LA 50.2 29.2 21.0 81 % 70 %Subcase LB 50.2 32.2 18.0 69 % 60 %Subcase LC 50.2 32.4 17.8 68 % 59 %

Base Case (1.0%/yr):Subcase BA 52.2 29.2 23.0 88 % 77 %Subcase BB 52.2 32.2 20.0 77 % 67 %Subcase BC 52.2 32.4 19.8 76 % 66 %

High Growth Case (1.5 %/yr):Subcase HA 54.3 29.2 25.1 94 % 84 %Subcase HB 54.3 32.2 22.1 85 % 74 %Subcase HC 54.3 32.4 21.9 84 % 73 %

** Includes OPEC NGL and condensates and stock change.** Assumes 3OMM b/d operable capacity in High Case and 26MM b/d in Low Case.In each Subcase:A - Non-OPEC production flat through 1990 then declining at 1.0 %/yr through 1995.B - Non-OPEC production increasing 500,000 b/d till 1990, then flat through 1995.C - Non-OPEC production increasing 300,000 b/d till 1990, then increasing at

150,000 b/d through 1995.


Table 4Non-OPEC crude oil and NGL supply outlook

(Million barrels per day)

Estimate Base-Line Scenario Projections

1987 1990 1995 2000

OECD SUPPLY

United States 9.90 9.60 9.00 8.00Canada 1.90 1.90 2.00 2.20North Sea 3.70 3.70 3.70 3.00Other 1.50 1.60 1.60 1.70

TOTAL 17.00 16.80 16.30 14.90

NON-OPEC SUPPLY

Angola 0.35 0.45Argentina 0.43 0.42Brazil 0.58 0.75Brunei 0.15 0.15Cameroon 0.18 0.15Columbia 0.41 0.60Congo 0.12 0.15Egypt 0.90 1.10India 0.65 0.67Malaysia 0.50 0.57Mexico 2.85 2.90Oman 0.57 0.65Peru 0.18 0.17Syria 0.25 0.30Trinidad 0.17 0.17North Yemen 0.03 0.20Other 0.44 0.60

TOTAL 8.76 10.00 11.00 11.00

TOTAL NON-OPEC EXCL. CPE 25.76 26.80 27.30 25.90

Session I34

Table 5Free world oil demand/supply outlook

(Million barrels per day)

Estimate Base-Line Scenario Projections

1987 1990 1995 2000

DEMAND:

U.S. 16.5 17.2 18.0 18.3Other 32.0 32.3 33.9 34.2

TOTAL 48.5 49.5 51.9 52.5

SUPPLY:

Inventory Draw/(Build) 0.3 27-28 26-28 24-27Non-OPEC Crude & NGL 25.8 1.8-2.0 1.5-2.0 1.5-2.0CPE Net Export 2.0 2.5 2.6 2.8OPEC NGL & Processing Gain 2.5

SUBTOTAL 30.60 31.3-32.5 30.1-32.6 28.3-31.8

OPEC PRODUCTION 17.9 17.0-18.2 19.3-21.8 20.7-24.2(Crude & Condensate)

TOTAL 48.5 49.5 51.9 52.5

OPEC’s Share of Total Supply 37% 34%-37% 37%-42% 39%-46%OPEC’s Operating Rate* 60% 57%-61% 64%-73% 69%-81%

* Assumes 30M b/d Capacity.

CYRUS H. TAHMASSEBI, PH.D.

Dr. Cyrus Thamassebi is the chief economist and director of market researchfor Ashland Oil, Inc. Before joining Ashland Oil in 1981, he was a Visiting Fe-llow at Harvard University. Mr. Tahmassebi worked for the National IranianOil Company and the National Iranian Gas Company in senior managementpositions prior to the change in that country’s government in 1979. Duringhis years with the National Iranian Gas Company, Mr. Tahmassebi was res-ponsible for the economic study of multi-billion dollar LNG and pipeline gasexport projects and actively participated in the negotiations concerning theseprojects.

Dr. Tahmassebi received his B.S. and M.S. from Brigham Young Universityand his Ph.D. from Indiana University in Bloomington, Indiana. He has writ-ten extensively on oil, gas and energy markets, and has given talks at variousseminars worldwide. He has served as member of the National PetroleumCouncil’s Future Supply/Demand Factors Task Group, The National Aca-demy of Science’s Workshop on the Strategic Petroleum Reserve, and theU.S. Congress’ Office of Technology Assessment’s Workshop on the U.S. OilProduction -The Effect or Low Oil Prices.


«SHORT AND MEDIUM TERM OUTLOOK»

GEORGE QUINCY LUMSDEM JR.

Thank you very much. It is a distinct pleasure to be back again inSpain at the Harvard-Repsol seminar which I first attended last yearin Segovia.

The task of describing economic outlooks right now is, of course, notan easy one. There are all sorts of effects in the air that are demag-netizing the compasses of economic analysts everywhere. The insta-bility of equities markets and financial markets seems to have a largerand larger play on how energy prognosticators are behaving. I, forone, believe that we should do absolutely nothing to over-dramatizethe situation that we have been though over the last couple of years,particularly at the lEA, at OPEC and at other governmental institutions.

We should remember that we live in a world of instant widespreadmedia replay, and that self-fulfilling prophecy is still very much withus. We should have learned the lesson at the time of the so-calledsecond oil shock, when thin stocks and very reduced capacity gavethe perception of an impending shortfall, and this was based upon apolitical crisis in Iran. Whereas, in the short run the resulting pricespike was indeed a bonanza to the producers, in the longer run ithurt them, because it established a higher price level on the basis of

37

political acts. When this level was no longer economically sustainable,there was an inevitable release of pent-up market forces whichproduced the collapsed prices of 1986.

Price is a two-edged sword. If it is too high for too long it severelywounds the economic performance of consumer industries and caneven threaten their governments. Too low for too long, it encourageswasteful consumption and diminishes production capacities andreserve additions world-wide.

We feel that international economic agreements that try to correctthese situations are not necessarily going to succeed in controllingprice aberrations that are of political origin. And most if not all of theoil shocks and counter-shocks that we have been through are of apolitical origin.

The majority of energy analysts agree that oil markets will becomefirmer at some point during the decade of the 1990’s but exactlywhen this event is going to occur is not a point of agreement be-tween them. There is the possibility of abnormalities in the system. Iwill very briefly note that, of course, the IEA was founded to treatsuch abnormalities, abnormalities on the up side of the price range.As you all are probably, or at least I hope you are aware, we have the7 % short-fall sharing agreements, individual trigger mechanisms,and coordinated stock-draw arrangements, all of which are designedto protect our member countries from a loss of energy supplies.

A critical element of any medium term outlook at the IEA is just howvulnerable are we to a recurrence of what happened to oil markets in1973 and 1979. We whistle past the graveyard in the knowledgethat, should a supply disruption occur, there is usually at least a onemonth supply of oil on the high seas headed towards consumers. Wenote also that there has been an awful lot of pipeline building in thearea recently, and if the presumed source of disruption is of a mar-itime nature, that the excess capacities in those pipelines, whichcould be anywhere up to 2 Mb/d coming out of the Gulf, would beused. We also note that there are large amounts of stocks —govern-

Session I38

ment and private— in OECD countries, as well as considerableamounts of stocks outside the OECD area that are available.

So, enough for the emergency aspect, what about the real world ofthe 1980’s in which we are living? Through hard work, the OECDhas reduced its oil consumption and decoupled it from a former one-to-one link with economic growth. Nevertheless, every scenario,every medium and long term projection for pricing and productiontrends, brings home the fact that the OECD world is never going tobe self-sufficient in oil or in energy. It also brings home the fact thatthe OECD’s indigenous oil production capabilities, some say sooner,some say later, is going to decline. Either way, our propensity to useoil is likely to assure increases in absolute demand. The degree is arelative thing, and we will get to that later.

Now what does this mean in terms of market specifics over thecoming months or a couple of years hence? Well, all I can say is thatevery recent meeting that I have had with government and oil com-pany officials who are responsible for one phase or other of the oilproduction process, leads to the conclusion that specific price targets—including, as has already been mentioned here, the $18/b— areindeed being abandoned, in favour of production levels which aregauged to exploit the certainly wavering, but nevertheless graduallyclimbing, overall demand curve. It appears to us as though theseproduction levels will constantly test the margins of that demand.

Thus, and this is really the center of my message here —particularlyso long as the Gulf War subjects producer country cohesion to thekinds of debilitating pressures that we now see— the proclivity of theproducer to produce will continue to run a bit ahead of the proclivityof the consumer to consume. We do not see a return to 1986, but itis likely that a buyers’ market will persevere over the medium, saytwo or three years, term.

We fully accept that we are going to remain the major customers forimported oil, but we note that there will inevitably be greatly in-creased developing country demand. As the industrialized world and

«Short and Medium Term Outlook» 39

the Third World plot their energy paths through the 1990’s, a greatdeal more communication and exchange between them will be nec-essary in order that they do not some day arrive at a portal throughwhich both of them cannot pass.

If you can stand some statistics I want to look a bit at this energyconsumption factor. We originally had growth at 3 % in 1986 for theindustrialized world. For the Third World we had it also at around3 %. Let us now get our hindsight to work.

We do find there were some temporary and extenuating factors atwork upon the 3 % in 1986. Ex-refinery consumer stock bills wereabnormally large. Why? Because customers knew bargain priceswhen they saw them. This affected our delivery numbers. Also, ashas already been noted, heavy fuel oil (HFO) temporarily regainedsome market share, mainly at the expense of natural gas in theUnited States, but also some from coal. As a result of this factor, wenow calculate the underlying trend in OECD consumption for 1986to have been considerably below 3 %, probably around 2 %.

Now looking at 1987, we observed and recorded an oil consumptiongrowth rate of just over 1.5 % —way down. Again, the underlyingtrend we feel was different because of consumer destocking whichour system was not sharp enough to catch. So now we are putting1987 at about 2 % also— the same as where we ended-up in 1986.

The way things are going now we would, with no other choice, an-ticipate little change in the OECD and LDC demand growth rate for1988. In the OECD, we again calculated on ex-refinery product de-liveries showing an increase of between 1.5 % or 2 %. Relative pricestability is a key assumption. If economic growth rates world-widewere to be appreciably below expected levels, overall energy demandcould, of course, be affected.

Oil consumption patterns are currently being affected most particularlyby the greater use of transport fuels. I think that this phenomenonbears some examination.

Session I40

Growth in transport fuels is off-setting year —on— year declines inmiddle distillates and in heavy fuel oils. The latter, as I noted, madea come-back on lower prices, but they have now lost some of theirmarginal 1986 competitiveness vis-à-vis gas at current prices. Butgiven the elasticities involved, heavy fuel oil will bear constant scruti-nizing in today’s market, because we have a situation which runs atthe edge of bringing HFO back into greater use. Consumption oftransport fuels in the OECD bottomed out in 1982. Since then it hasgrown at an annual average rate of 2.2 %. However, during the pasttwo years, consumption of these transport fuels has grown at anaverage rate of about 3.2 % under the influence of lower prices,growing vehicle fleets, and increased travel.

Breaking consumption data down further, North America has hadthe largest volume increase —about 950 thousand barrels per dayover that period. This is nearly half of the OECD total. Europe, how-ever, has experienced the highest rate of growth at 3.1 % per year.The Pacific had the lowest increase, about 150 thousand barrels perday. This comes out to about 1.7 %.

The OECD area by itself, however, does not present the completeconsumption picture. One thing we at the IEA must increasingly dois to look outside of the OECD area for what is going on in energy.It is the global consumption trend upon which the oil producers aregoing to target their output, and the LDC segment of this is becomingmore and more significant.

The IEA end-of-December 1987 Oil Market Report adjusted some ofour historical consumption data series over the 1973-1987 timeframe. Our intention was not to move markets, but to improve ourreporting through a better, more disaggregated system for trackingcertain amounts of formally unidentified oil. The rough averageadjustment, over that entire time frame came to just about 800thousand barrels per day more of oil we could definitely assign toconsumption. Of this amount, 600 thousand barrels a day wereconsumed in the developing world, and 200 thousand barrels a daywent to the OECD area.


Thus, while the IEA has done a job of cleaning up its statistical act, ithas not changed the physical world. There has not suddenly beenmore actual consumption. We have simply been able to pinpoint andassign more consumption, thereby reducing the unidentified amountof oil in our balancing item. This process will be further refined in thefuture. We are still far from perfect.

Let us shift to stocks. OECD holdings in 1988 as a whole, are expectedto change little from 1987 levels. Higher prices this year, we think,would translate also into higher stockholding costs and increaseddownside price risks. They would thus also provide, solely on a costbasis, an incentive to avoid stockbuilding which is not necessary froman operational and logistical point of view. Conversely, however, westill see exogenous, psychological factors coming out of the Gulfwhich tend to encourage some stockbuilding. Our gauge of changesin stocks in OPEC members and non-OECD members are obviouslyless accurate. Specifically, our current Monthly Oil Market Reportassigns a draw of almost one million barrels per day to this categoryfor the first quarter of this year. Again, this is a figure influenced byour balancing item.

On supply, during 1987, OECD indigenous production has de-clined, but it only declined about 1 % to about 16.7 Mb/d. Andwe learned in 1986 that as the price declined, this had a muchbigger impact on company upstream spending than it did uponactual supply. One 1986 lesson learned was that non-OPEC pro-duction cost was lower than was generally assumed. I think that isparticularly true in the North Sea. Industry specialists to whom weare talking right now, point out that technology and efficiencygains upstream in traditional OECD areas, may make the declinein OECD indigenous production less rapid than had been antici-pated. It was at 17.4 Mb/d for January, February and March, asan average.

Now, on the war. Even barring the phenomena of a disruption, thewar is the great imponderable in attempting to gauge the medium-term oil market.

Session I42

The conventional wisdom of course was that the war constitutedthe greatest single threat to an energy supply disruption and thegreatest single threat to another price spike. This has, so far any-way, proven to be absolutely wrong. If anything, there has beenan augmentation not a diminution of oil supplies from the Gulf. Letus project into the medium term some sort of cease-fire, do.notworry about how, but some way, somehow, the war will come toan end. And the conventional wisdom tells us what? That therewill be a flood of oil coming from the Gulf as post-war reconstruc-tion begins.

I submit, this truism could be just as incorrect as the truism that thewar itself was going to create a shortage and a price spike. I think wehave to think about that. Energy planners have to allow for thepossibility that «peace» could in fact bring a more disciplined effortto control production than is currently possible between the membersof the Organization. The producers’ inclinations to constantly testthe margins of demand might in fact be reduced, under these condi-tions, making the market thereby firmer rather than softer.

Looking further beyond the immediate and deeper into the 1990’s, ithas been said that because of higher demand and lower non-OPECoutput. OPEC’s current surplus capacity of about 10 Mb/d will dis-appear. Conversely, I have noted in these comments the tendency ofsome analysts to look at the world’s economies today in terms of equityand financial market performance and postpone this tighteningevent. I do not disagree, but from my microeconomic point of view,I belive that some degree of higher petroleum imports from the Gulfregion appears to be an inescapable part of all longer range scenarios.If that is true, so then must be the likelihood of eventually higher oilprices.

The medium-term buyers market, however, suggests just the con-trary. There may be an inconsistency here. I do not have the answerto it but I keep seeing it both ways. We have got the buyers’ market,it is going to be around into the medium-term, but I do not see howwe can avoid higher oil prices in the end.


In conclusion, I will recap what I think the medium-term situationlooks like;

— Consumption, up gradually depending on price and macroeco-nomic variables by about 2 % per annum.

— Supply, up just to margin of demand, perhaps going above thatdemand with some frequency.

— Stocks, likely to be drawn to margin of demand when and ifsupplies do not themselves produce this effect.

— Prices, and to leave things on the uncertain note that they de-serve —prices will fluctuate in their current ranges to which themarkets and the industry are adjusting.


GEORGE QUINCY LUMSDEM JR.

George Quincy Lumsden, Jr. served in the Department of State’s Bureau ofNear Eastern and South Asian Affairs in Washington, as well as at diplomaticposts in Turkey, Germany, Jordan, Lebanon, Kuwait, Paris, and the UnitedArab Emirates. In addition to Middle East political issues, his work hasconcentrated on energy, finance, and trade policy. His most recent MiddleEast posting was as US Ambassador to the United Arab Emirates from1982-1986.

In March of 1986, he became the International Energy Agency Director forOil Market Developments.

He graduated from Princeton University in 1952. Following his national ser-vice in the US Navy from 1952 through 1955, he pursued his graduate workat Georgetown University in 1956 and 1957.

Session I44

SESSION II

«THE IMPACT OF LOW OIL PRICESIN SPAIN»

NEMESIO FERNÁNDEZ-CUESTA

1. INTRODUCTION

The main purpose of my speech is to analyze the impact of low oilprices on the Spanish economy. In my opinion, the Spanish case has,of course, its peculiarites but in general, the conclusions we draw,can be broadly applied to medium-sized countries with an acceptablelevel of economic development.

In the first part of my presentation, I should like to clearly establishwhat «low oil prices» really mean in the case of the Spanish economy.As you well know, peseta parity against the U.S. dollar is, in thissense, a factor of utmost importance. It will also be very instructiveto clarify which part of the net savings derived from cheaper oil wastransferred to the consumer prices of oil products. In other words, wecan assume that there is long-term price elasticity in demand for oilproducts, but if we want to predict how oil demand will react tochanges in oil product prices, we undoubtedly need to determine theextent of these price changes.

Once these points have been analyzed, I should like to focus ourattention on the consequences of how oil prices effect the Spanish

45

economy, the 1986 and 1987 trends in main economic parametersand above all, some key economic indicators which are very illustra-tive. Finally, I think it will be helpful to outline some ideas on future oildemand and the future of the oil industry in Spain. We are in the oilbusiness and we shall continue to be here for quite some more time.For this simple reason, these two points —oil demand and the struc-ture of the oil industry— ought to be carefully considered by us all.

2. LOW PRICES

Keeping in mind that we are analyzing the Spanish case, it is very im-portant to make the following comments:

1. While the dollar price of oil fell from 1982 to 1985, the pesetaprice climbed very firmly during the same period.

2. The price crash of 1986 was stronger in peseta terms, due todollar weakness in that year.

3. From the Spanish point of view, we can only speak of cheaper oilsince mid-1985 and, more importantly, since the beginning of1986.

Chart 1 estimates oil demand in Spain over the last three years. In or-der to facilitate this analysis, oil demand refers to the quantity of oilwe need to meet the demands for our main oil products.

This simplification allows us to directly address our main target at thispreliminary stage: to calculate the net savings for Spain in oil expen-diture, from two factors:

— The oil price.

— Peseta parity against the dollar.

In 1986, Spain saved 545.4 billion ptas., 85% of this total reduction

Session II46

in the oil bill is purely due to the oil price. The additional 15 %, islogically due to dollar depreciation.

On the other hand, in 1987 oil import prices climbed by 27.5 %,from $13.31/b to $16.98/b. The additional cost of the Spanish oilbill, of only 55 billion ptas., was a consequence of a further reductionof the dollar against the peseta on international markets.

Chart 2 shows us demand for major oil products in Spain. Althoughwe shall come back to these figures later on, we can already under-score the opposing trends of different products. The importance ofthis factor will be demonstrated when we try to draw conclusionsabout future oil demand in our country, and above all, about theoutput structure of our refineries.

However, this data with the figures of Chart 3 relating to oil productprices during the last three years, allows us to calculate how net sav-ings in the cost of oil have been distributed among the different partsof the Spanish economy.

The main conclusion is that, in the Spanish case, 50 % of the total ef-fect of lower oil prices has been absorbed by the State (nearly 40 %)and by the oil industry (Figure 1).

3. IMPACT IN THE SPANISH ECONOMY

The next logical step is to study the impact of lower oil prices on theSpanish economy.

In general terms, we can establish the following parameters:

1. Aggregate demand.

2. Price level and inflationary pressure.

3. Balance of payments and exchange rate.

«The Impact of Low Oil Prices in Spain» 47

It is not possible to isolate the effect of lower oil prices from twoother factors which also had a great impact on the Spanish economy:

— EEC membership.

— The sharp decline of the U. S. dollar.

This last factor is of course closely related to lower oil prices. Cheaperoil means lower dollar demand and logically there is an additionaldownward pressure on the American currency. However, the dollartrend depends, above all, on the fiscal and monetary policy of the U.S.government. Thus, we ought to consider it as an independent factor.

Therefore, lower oil prices were combined with a thorough deregu-lation of the Spanish market due to our membership of the EEC anda general decrease in import prices, due to the dollar effect. Theaggregate result of the Spanish government’s economic policy andof these three facts are reflected in Chart 4.

— Growth of internal demand is quite impressive.

— The external deficit is also very important. Without lower oilprices the impact of entry into the EEC would have been harderon Spain. I believe this is obvious.

I should also like to focus your attention on the growth of gross fixedcapital formation.

This is closely related to an additional question, as we saw before,the policy of the Spanish government was to halve the effect oflower oil prices passed on to consumers. The initial conclusion is thatthis policy reduced the positive effect of lower oil prices. However, ifwe look at the figures in Chart 5, we can see the trend of the publicsector deficit measured as a percentage of GDP.

The last two years have been characterized by a substantial reductionin the public sector deficit. The expected positive consequence of this

Session II48

factor is a reduction in the crowding-out effect on private demandproduced by large deficits. The internal credit increase rate for thepublic and private sectors are illustrative. Therefore, an additionalconclusion we can draw is that Spanish economic policy was able totransfer to consumers part of the benefit derived from cheaper oil,though in an indirect way.

It is very difficult to say if this policy is better than trying to transferthe overall increase derived from lower oil prices to consumersthrough lower prices of oil products. We can probably quote differentopinions in favour of one of these possiblities. We are not here todiscuss Spanish economic policy, but let me add two more points infavour of the Spanish solution.

1. The results have been favourable.

2. Given the high marginal propensity to import in the Spanisheconomy, further increases in private consumption would haveonly meant a higher rate of transfer to foreign countries.

4. FORECAST FOR SPANISH OIL DEMAND

I should like to dedicate the last few minutes of my speech to discussthe forecast for Spain’s oil demand. Here we foresee the demand fordifferent oil products in the year 2000. We call this forecast, a «lowprofile» forecast because of the small changes we introduced in thepresent demand structure.

— LPG: remains stagnant.

— Gasoline, kerosene and gas oil: move up by a yearly average of 2 %

— Fuel-oil: annual decrease of 2 %.

Although the increases and decreases are very small, the resulting de-mand structure transmits a clear message. The oil industry in consumer


Session II50

countries needs an in-depth restructuring if it is to come to termswith oil product demand. But this question is the central subject oftomorrow’s discussion.

However, I should like to make two comments:

1. This restructuring only means adapting the structure of Europeanindustry to U.S. standards.

2. Of course, there is long term price elasticity in the oil market but itis not very high. With a nearly 50 % reduction in oil prices, oil de-mand is foreseen to rise by 15 % in 12 years time. Once again, thekey factor lies in government policies, especially in the energy field.

Chart 7 shows us the balance of electricity production in Spain forthe last thirteen years. Oil is a marginal alternative and if we read theSpanish national energy plans, we would arrive at the conclusion thatit will become even more marginal in the future.

If we accept the political priority given to nuclear energy, hy-dropower and domestically-produced coal, the debate is focussed onusing imported coal, gas or fuel-oil. As a clean energy, gas has thegreater advantage in this discussion, although it cannot be used inmany p0wer plants. Then the only room for manoeuvre is to substi-tute imported coal. An overall switch in this direction will increasefuel-oil demand by nearly 2 Mt. Once again, we have to say that thisis marginal if we bear in mind the magnitude of the final problem.

5. CONCLUSIONS

Before ending, I should like to underline my main conclusions:

1. The impact of low oil prices has been reduced by the Spanishgovernment’s economic policy.

2. To some extent, this reduction has been compensated by a re-

duction of the crowding-out effect on private demand, due tothe lower public sector deficit.

3. Oil price elasticity is moderate in our case, due to governmentenergy policy.

4. However, the limited effect of lower oil prices will not be thecase forever. The oil product demand structure will changedrastically in the years to come.



Session II52

Chart 1Spain: main oil products domestic demand (1) (2)

1985 1986 1987

Bid oil equivalent 579,140 584,440 597,440Price of oil ($/b) 26.72 13.31 16.98Exchange rate (1 $=) 165.98 138.12 120.74

TOTAL COST OF OIL (in US $ Millions) 5,648 M. 2,839 M. 3,703 M.TOTAL COST OF OIL (in Ptas. Billions) 937,5 392,1 447,1

NET SAVING: 86/85 (Ptas. 545,4 Billions)87/86 (Ptas. 55 Billions)

Oil demand increase 87/85: 3,1 %

(1) LPG, Mogas, Kerosene, Gas oil and Fuel oil.(2) Excluded the Canary Islands.

Chart 2Spain: main oil products domestic demand (1)

(Thousand tons.)

1985 1986 1987 86/85 87/86% %

LPG 2,207 2,286 2,351 3.6 2.8Mogas 5,611 6,073 6,484 8.2 6.8Keroseno 1,473 1,421 1,549 -3.5 9.0Gas oil 10,626 11,126 11,576 4.7 4.0Fuel oil 7,303 6,563 6,120 -10.1 -6.7

T0TAL 27,220 27,469 28,080 +0.9 +2.2

(1) Canary Islands excluded.

Cha

rt 3

Spai

n: a

vera

ge f

inal

sel

ling

pric

es o

f m

ain

oil p

rodu

cts

(Pta

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etri

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1985

1986

1987

(86)

-(85

)(8

6/85

)(8

7)-(

86)

(87/

86)

%%

LPG

70,4

0064

,000

57,6

00-6

,400

-9.1

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00-1

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ogas

121,

307

108,

195

102,

640

-13,

112

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8-5

,555

-5.1

Ker

osen

o49

,914

36,6

6830

,445

-13,

246

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,223

-17

Gas

oil

63,5

5661

,375

59,3

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,181

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l31

,584

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,724

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-5,9

02-2

6.1

«The

Impa

ct o

f Lo

w O

il Pr

ices

in S

pain

»53

Session II54

Figure 1Spain: Oil cost. Net Saving 1986-1987

NET SAVING: PTS 1.035 TRILLION

ADDITIONAL TAXES(Pts 425 Billions)

ADDITIONAL MARGINOIL INDUSTRY

(Pts 100 Billions)

LOWER CONSUMING PRICES(Pts 510 Billions)

(49.1%)

(9.6%)

(41.3%)

Chart 4Spain

Demand, output and pricesPercentage changes, volume

(1980 prices)

1985 1986 1987 1988 1989

Private Consumption 1.8 3.8 4 1/2 3 3/4 3 1/2Goverment Consumption 4.4 7.1 6 4 1/2 3 3/4Gross Fixed Capital Formation 3.9 12.0 14 8 6 1/2Total Domestic Demand 2.7 6.2 6 3/4 4 3/4 4Exports of Goods and Services 2.9 1.1 7 1/2 4 1/2 4 1/2Imports of Goods and Services 5.4 16.0 19 10 7 1/2GDP at Market Prices 2.2 3.4 4 1/2 3 1/2 3 1/2


Chart 5Spain: economic indicators

1985 1986 1987

Industrial Production Index +2.0% +3.1% +5.1%Public Sector Deficit (Per cent of Gdp) -5 -5.5 -4.5Internal Credit Increase Rate:A) TOTAL 15.8 13.9 14.4B) Public Administrations 37.3 21.6 14.7C) Private Sector 8.9 10.7 14.3Inflation Rate 8.8 8.8 4.6

Chart 6Spain: main oil products demand forecast

1987 % 2000 %

LPG 2,351 8.4 2,351 7.3Mogas 6,484 23.1 8,388 25.9Kerosene 1,549 5.5 1,986 6.1Gas oil 11,576 41.2 14,948 46.1Fuel oil 6,120 21.8 4,721 14.6

TOTAL 28,080 100.0 32,394 100.0

Chart 7Electricity balances (%)

1985 1986 1987

Hydro 26.28 21.36 21.18Nuclear 21.54 28.58 31.10Coal 45.19 43.85 40.38Fuel oil and Gas 6.99 6.20 7.34

100.00 100.00 100.00

Pro-Memoria:

Gross-Production (GWh) 126.680 128.349 132.710

NEMESIO FERNÁNDEZ-CUESTA

Mr. Nemesio Fernández-Cuesta is currently Commercial Director of Repsol,S.A. He received his Economics and Business Management degree from theUniversidad Autónoma of Madrid.

In 1981, after passing state exams, Mr. Fernández-Cuesta became a StateSpecialist in Trade issues. He has served in several parts of the Spanish Ad-ministration, at the Department of State and Commerce (Ministry of Eco-nomy and Treasury) he was responsible for the import of Energy Productsand Special Operations. During the period from March 1984 until February1987 he was Deputy General Director of Oil and Gas at the Ministry of In-dustry and Energy.

Mr. Fernández-Cuesta is the author of several national publications, and hasgiven talks at seminars and lectures, as well as teaching at different organi-zations.

Session II56

«THE IMPACT OF LOW OIL PRICESON DEMAND»

WILLIAM HOGAN

My thanks to our friends in Madrid for the invitation to speak today.Given the turmoil in the world oil market, it takes courage to extendsuch an invitation. And perhaps a little foolishness to accept.

Today my focus will be the impact of low oil prices, with special em-phasis on demand.

Throughout I refer to the United States Department of Energy (DOE)forecasts for several reasons. They are easily accesible and well docu-mented: I have a great deal of information from the DOE, so I canuse their work to make a number of comparisons. Secondly, the DOEis representative of the present conventional wisdom about oil mar-kets that Max Wilkinson has described. As such, the DOE forecastsstand in place of many such forecasts for the purpose of this analysis.Max’s summary of the current view of events in oil markets is quitecorrect: the latest oil price shock —the drop in prices— has had a dra-matic effect on the perception of the future. In a way, the new con-sensus is a mirror image of the old. After prices rose in the 1970’s,in a period of tight markets, expectations were for a sustained pe-riod of continued high prices. Then it was hard to see how demand

57

could fall enough, or alternative supplies rise enough, to create a glutand eliminate high prices. Today, with low oil prices and a marketglut, expectations are for a sustained period of continued low prices.Now it is hard to see how demand could rise enough, or alternativesupplies fall enough, to eliminate the glut and lead to a return to higher prices.

It is my purpose here to offer an alternative view, one that embracesboth the possibility of high prices during tight markets and low pricesduring a glut. The concept is simple; it emphasizes the traditionalcyclical nature of the oil market. High prices stimulate production anddampen demand. The result is a glut which leads to low prices. Inturn, the lower prices stimulate demand and dampen production.Eventually the glut disappears and higher prices return. And so on.My task is to report on our analysis with a cyclical model, compare itwith the available data, and examine the implications. By way ofsummary, let me say that I find evidence of forces already in motionthat will lead to higher prices sooner than recognized in the currentconsensus.

This debate about the alternative futures of the oil market remindsme of the story about the two men traveling about the countrysidein a balloon. As a fog descended, one of the men leaned over andsaw a fellow walking along on the ground below. He shouted down,«Where are we?» and the fellow on the ground shouted back, «Youare in a ballon». «Aha», one of the balloonists said to the other, «anenergy economist. Perfectly correct but completely irrelevant».

Which of the competing analyses is correct but irrelevant? Well,many energy economists who commend the new consensus wouldclaim that much of the analysis I am going to summarize here maybe perfectly correct but completely irrelevant. The charge of irrele-vance is basically a claim that the world has changed in fundamentalways that make older analyses, based on earlier assumptions, invalid.The charge stresses that the sharp change in the way people viewenergy conservation, new technology, and new policy imperativesmakes the past irrelevant to understanding and projecting the future.

Session II58

And this view may well be correct. If so, of course, we will not dis-cover that answer by examining the past. But before proceeding, orabandoning the data from the past, let me clarify a number of misconceptions about the assumptions that form the base of my reviewof recent history.

First consider the question of whether or not the continued impact ofenergy conservation —as the World Resources Institute suggested—to dramatically change energy consumption will allow the worldeconomy to grow while energy consumption will not grow, betweennow and the end of the century. Certainly this is possible. Clearly wehave the technical capability to continue energy conservation. Anotherissue is whether there are significant technological improvements thatare coming forward; a third is whether lessons that we have learnedfrom higher energy prices are lessons we will not forget. Again theanswers are clearly yes. Are there governments that are going to raisetaxes in order to capture the benefits of those higher prices andtherefore not allow the emerging adjustments to unfold or at leastunfold as rapidly? Yes, such policies are certainly there.

However, we must go further than just saying that there are somethings that could happen that will be different than in the past.Rather, we want to ask how quantitatively important are thesechanges? Will they make a big difference in the answer?

The real issue is whether we need to appeal to these new develop-ments in order to explain the past, especially the recent experience ofthe last ten years. Do these new developments account for thechanged world?

I believe that part of the popularity of the new —and now conven-tional— assumption of a sharp break with the past comes from theneed to explain the disquieting anomalies that began appearingabout 1980, when falling prices and falling demand occurred at thesame time. Those developments were inconsistent with the commonsense notion that when prices go up, demand goes down and whenprices go down, demand goes up. Has something changed?

«The Impact of Low Oil Prices on Demand» 59

Maybe. I cannot prove that the world has not changed; it may have.But I argue only that we do not have to make that assumption to ex-plain these apparent anomalies. These anomalies are quite consistentwith the traditional notion about demand, but with a very importantmodification: the response to changes in prices does not occurrapidly; it takes time.

When prices move, people do not respond instantaneously; theyrespond rather slowly. In a period when rapidly rising prices arefollowed by rapidly falling prices, the data will be quite confusing.People are reacting to a mix of events, and the data will be a seriesof overlays from a series of disruptions and price changes.

When the phenomenon of a time lag is understood, many of thesepuzzles about oil price and demand can be resolved.

Let us examine the oil price projections from the U.S. DOE. Figure 1shows the price forecasts from the Department of Energy’s projec-tions in their «1986 Report to Congress» that appeared in the An-nual Energy Outlook They project a relatively slow return of higheroil prices. Where do these numbers come from, and what do theyimply? We can answer this question by examining the assumptionsbehind the projections.

First, return to the question of energy conservation. Let me showyou another picture (Figure 2). This appeared in the Economic Re-port to the President, but it is typical of the analyses of energyeconomists. It compares gasoline demand for different countriesfor the year 1973, the last year of relative stability, before the gy-rations in oil prices began. On the lefthand axis is the price per gal-lon of gasoline at the pump, and on the horizontal axis is thequantly consumed per dollar of Gross Domestic Product (RealGDP). The dots represent different countries around the world. Theline fitted to the dots captures the idea of a long-run demandcurve, namely: «Suppose that the countries around the world differin their consumption of gasoline per unit of output, only becauseof the differences in prices; further, let us assume that consumers

Session II60

have all adjusted their technologies to respond to their differentprice and tax structures». The result would be a long-run demandcurve, and the line that is drawn through the points describes sucha curve.

This demand curve for gasoline is as good as any found in the realworld, if one looks for an example of the relationship between demandand prices. It is also significant in showing the elasticity of demandthat is implied by this curve during this period of relative stability. Theelasticity is —1.17, which is a little higher than the elasticity thatwould result from analyzing individual countries. As a first approxi-mation, however, the result is similar to that from a careful analysisof different individual countries.

Further, this demand curve and its response to prices is consistentwith the few, the very few, examples of the World Resources Insti-tute Studies where people ask, «Suppose I wanted to reduce energyconsumption, how far could I go?» And then find the prices thatwould be required to induce the necessary changes.

For example, a few years ago, the National Academy of Sciences inthe United States undertook an extensive effort to analyze energyconsumption changes and concluded that the aggregate elasticityimplied by engineering studies was in the neighborhood of —1.

From the cross-sectional studies of different countries, the cross-na-tional studies or the engineering studies, we have an accumulation ofmore experience with price changes. The time series studies in indi-vidual countries show a very consistent picture: yes, there is an enor-mous potential for change in the consumption of energy per unit ofoutput of GNP. But for long periods of time, these two variables maybe disconnected. Change in demand takes place slowly in a responseto price changes. So, for a long period of time, it is possible to havethe anomaly of rising prices and rising demand, falling prices andfalling demand. But the anomaly cannot persist forever, at least ifyou accept this basic model of long-run energy flexibility but a slowprocess of adaptation.


Without going into all of the details, let me illustrate with a few ex-amples. Figure 3 shows the electric, non-electric, and transport oildemand for the United States. The dots are the actual data. Thetrend is the pre-1973 trend. For example, the left panel shows whatwould have happened to electricity consumption in the United Statesif it had continued to grow at the same rate as it had grown up tountil 1973. Then I broke the trend into two components: one to rep-resent the effect of GNP alone, just changing the economy (thesmall-dash line); the other to capture the effect of changing pricesand GNP.

If we put everything —prices and GNP— together, the model fitsthrough the data. In the case of electricity, the price effect causedelectricity demand to be higher than if the prices had stayed at their1973 level; but because of the GNP effect, demand would have beenmuch lower. In the case of non-electric demand, prices were goingup, and we were using less oil and natural gas, substituting towardselectricity. In the case of transport, it looks to be about even, withprices explaining quite a bit of the effect separate from GNP.

What should be stressed is that the model fits through these datawith great precision. This is a model that is constructed by starting in1959 and projecting ahead for 25 years, through to 1984. It does notuse the actual value every year to restart the calculations. The esti-mation criteria, therefore, is a particulary demanding mathematicalstandard. It is not re-starting every year; instead, the model actuallymakes a twenty-five year prediction with a set of parameters, andthe set of parameters, the estimates of the long-run elasticities, arevery close to those that you see with international comparisons ofenergy studies. There is a picture like this for the United States; thereis also one like this for Japan (Figure 4), a very different country witha very different economy. But pictures like this tell us that the samerelatively simple model with aggregate elasticities can explain theexperience in both the Japanese and Unites States economies.

In fact, the results from these two countries are similar enough to bethought of as the same parameters. At least through 1984, we can

Session II62

explain the twists and the turns of energy consumption in Japan andthe United States. Further, we have done related analysis for othercountries with results that are again quite consistent with the simplenotion that when prices go up, demand goes down; when prices godown, eventually demand goes up. But again there is the slow ad-justment process.

These studies confirm that from the historical perspective we do nothave to assume the world suddenly changed in any way other thanthat a change in GNP and a change in prices were driving aggregateenergy and oil demand. That does not say that the new conventionalwisdom is wrong. It just says that we do not need the new wisdomin order to explain the recent past.

Well, if we accept this analysis, what are the implications for oildemand? Figure 5 refers back to what the Department of EnergyForecast says about trends in oil demand. Here I have changed thereference to look at oil intensity, or oil demand per dollar of GNP inreal terms, in this case for the United States. We saw earlier in Fig-ure 1 that soft oil prices are projected by the Department of Energy.Now the thin dotted lines of Figure 5 show the projections of theDepartment of Energy’s Forecast for oil intensity per dollar of GNP.The projection calls for an almost uninterrupted drop established firstin the period of high prices: demand just keeps falling in the forecast.Embedded in these numbers is not only a downward trend, whichcontinues even though prices have fallen substantially, but more inthe form of the DOE’s own sensitivity to changing oil prices. Surpris-ingly, there is essentially no change. In the 1970’s we were sure thatprices did not count because oil demand was going to grow no mat-ter what. Now in the new wisdom, we are sure that prices do notcount because oil demand is going to fall no matter what.

Maybe. But I am suspicious of such reasoning.

The alternative projection in the figure flows from the model that wejust estimated using the Department of Energy’s three price fore-casts. Observe what happens to oil intensity per dollar of GNP in our


cyclical model (the thick dotted lines). They show that in the late1980’s there should be, given low prices, an oil intensity profile thatflattens out and then turns around and starts to go up. Put anotherway, oil demand should soon start to grow at the same rate as, andthen faster than, the economy. Later, if there are higher prices, de-mand should turn around again. But if low prices stay low, then de-mand continues to go up. These figures separate the effect of pricefrom the effect of GNP.

Next we put the GNP figures back in and look at total oil demand forthe United States. Figure 6 shows the three projections from the De-partment of Energy’s numbers (thin dotted lines); then, if you takemy simple model and do these same projections, you get muchhigher estimates for oil demand (the thick dotted lines) along withhealthy growth in the economy as part of the base case assumptions.In short, my examination of the history provides a simple explanationof the past and a very different picture of the future, at least for theUnited States.

Let us go to the entire world and see what happens if we repeat thisanalysis, in more simplified versions, for most of the countries. Figure7 shows the different results obtained by the EIA midcase projectionand by our model using the DOE price projections. Our projection isfor a big number, over 60 Mb/d of oil demand from a base thatbegan below 50 Mb/d, by the mid 1990’s. That represents a vast in-crease in demand for OPEC oil; the Cartel’s excess capacity wouldprobably vanish; prices could not possibly continue to stay as low.Prices would rise to choke off the demand.

We took this analysis of demand one step futher to ask what thismeans for oil prices: How long will they stay down? The comparisonemphasizes the contrast between our historical analysis of the cyclesin energy demand and Department of Energy’s description of ag-gregate demand. To complete the model, we adopted, in its en-tirety, the Department of Energy’s description of non-OPEC supplyand other features other than demand. We used our demandmodel.

Session II64

Most importantly, we even adopted the DOE’s familiar model of thecartel. Faced with the complexity of predicting the details of OPECbehavior, many analysts use the simple DOE model. This is the pop-ular refuge for contemporary energy economists, namely: «I do notknow what is going to happen, and I do not know why, but proba-bly events will show some relation between capacity utilization andyear-to-year price changes.» Figure 8 summarizes the data (such asit is), projecting that prices will start to rise if OPEC production ca-pacity utilization gets to around 80 %. We are using that model inour forecast.

As you can see in Figure 8, the difficulty with this model has been inexplaining why prices stayed as high as they did in the earlier period,particulary 1984 and 1985. Prices «should» have fallen faster. Then1986 saw the dramatic price drop, and in 1987 prices rose some-what. The price projections that I show in Figure 9 begin with 1984rather than in 1986, because that latter year was such a surprise andalso because it is the end of our actual data. Hence this projectionshows prices falling, initially falling faster than they actually did.There was a gap by 1985. And we made up for the gap in 1986.Prices went back up again in 1987, and you can see the projectionwith the base case assumptions of the Department of Energy but usingmy model is significantly outside the range of their projections.

One of the tests that we ran to look at this question of a step changein conditions addressed what we call the asymmetric case. Symmetryis when prices go up and demand goes down; then, when prices godown, demand goes up. However, when prices go down and de-mand does not go up, there is asymmetry. Suppose oil markets areasymmetric. What would this mean? Dermot Gately at New YorkUniversity suggested a simple approach. «Let us suppose that the ex-treme version of step change is the following: People always plan foroil demand as through the highest price they have ever seen will bethe price for the future. Let us suppose that in calculating the re-sponse of demand we use the highest price ever seen and calculatethat appropriate level of demand.» Certainly the new conventionalwisdom should not expect lower demand than this case.


That is the case shown in the dots in Figure 9. You can see that priceskeep falling because we are still conserving oil. But then the demandline starts to turn around and go up, and it goes up rapidly, and soonit grows beyond what we are seeing now. The reason that demandrises very rapidly is because the higher prices do not yield additionalconservation. Consumers are already acting as though prices areeven higher.

That mix of different price responses drives the calculation. If we usethe historical link between price and demand, the cyclical model re-sults. In order to create a sustained period of low prices, we need anassumption of a break with history such as the conservation trendthe Department of Energy is using.

Other tests we conducted included assumptions about energy con-servation and more liberal estimates of the willingness of OPEC toabsorb increased demand. There is a lot of uncertainty in the realworld. Oil markets are not going to be stable, they will cycle up anddown. We do not know about future disruptions to the economy. Soin this analysis we included some further, admittedly subjective,probability distributions and ran the appropriate simulations. Figure10 shows the kinds of probability distributions produced if we usethe more liberal sets of assumptions. You can see that in order to geta tail of the distribution to fall down to the low price range, we haveto assume high OPEC production and high oil conservation. Then wecan get very low oil prices out of these models; but if we assume thatthere will not be a great deal of oil conservation independent ofprice, then we get the base case projection. We obtain a probabilitydistribution for oil prices which will be cyclical, but a cycle about atrend which is much higher than the conventional wisdom.

Whether or not the conventional wisdom will be proved correct willnot be decided by historical statistics. My obvious bias is that sincehistory can be explained well with a simple model, it is a very pow-erful model to use for the projections. But you who know about thismarket know that it is more complicated than this simple analysiswould suggest.

Session II66

But at least there is a very powerful case to be made for the conclusionthat we should be extremely cautious about assuming that the latesttrend is going to continue idefinitely. Right now the latest trend is forcontinued low oil prices. But shortly before, it was for continued highoil prices. When prices were high and demand was high, I waswarning people to look to oil conservation. It would make prices godown. Admittedly I was surprised at the speed of the drop in 1986,but not at the direction. Now I warn not to forget oil conservation.But the effect goes the other way when prices fall.

What we should be seeing soon is for oil demand to start to grow asfast as the GNP, and then to grow faster. This is assuming that govern-ments are not capturing the decrease in prices by taxes which wouldobviate many of the results here. But if consumer prices fall, con-sumer demand should start to rise.

It may turn out that I am wrong, but so far the evidence is at leastsuggestive that we may see a rapid increase in oil demand. And a risein demand for oil would have important implications for all those in-terested in oil markets. Higher oil prices could not be far behind.


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77

WILLIAM W. HOGAN

William W. Hogan is Thorton Bradshaw Professor of Public Policy and Ma-nagement at the John F. Kennedy School of Government, Harvard Univer-sity, where he also serves as Chairman of the Public Policy Program. Dr. Ho-gan is a Director of Putnam, Hayes and Bartlett, Inc.

He received his undergraduate degree from the Air Force Academy and hisPh.D. from UCLA. Dr. Hogan has served on the faculty of Stanford Univer-sity where he founded the Energy Modeling Forum. He is a past president ofthe International Association of Energy Economists (IAEE) and former direc-tor of the Energy and Environmental Policy Center at Harvard University. Dr.Hogan has held positions dealing with energy policy analysis in the FederalEnergy Administration, including that of Deputy Assistant Administrator forDara and Analysis. He is involved in various research activities in the deve-lopment and application of energy and environmental policy models. Hisconsulting activities include strategic planning and risk analysis. His teachinginterests focus on the theory and application of analytic methods for publicpolicy programs.

Session II78

«AN OVERVIEW OF THE IMPACT OF LOWOIL PRICES»

ROBERT MABRO

I will propose a number of propositions for discussion on the impactof low oil prices on demand, supply, the world economy and also theoil producers themselves. The oil price is a major factor determiningthe revenues of the oil-exporting countries of the Third World. Ondemand, I am more bullish than the conventional wisdom, assumingthat the conventional wisdom is that the demand for oil is not goingto grow very fast. I think that low oil prices, if they are maintainedfor a while, will remain low. This will certainly bring about an increasein demand through the normal operation of the elasticities, the de-gree of which is extremely difficult to predict without an enormousamount of work.

The point to remember, however, is that a change in the interna-tional price of crude oil in dollars does not translate into the sameproportional change in the price of products everywhere in theworld, for a number of reasons.

In many countries, especially in Europe, there is an enormous amountof taxation on products, which is not ad valorem taxation. When theprice of crude oil comes down, a much smaller proportional change

79

in the price of products occurs. In 1986, for example, the price ofcrude oil came down by one third in dollar terms. In the UnitedKingdom, however, the price of a gallon of petrol came down at themost by 17-18 %. The effect of such a price change differs fromcountry to country. Some governments increase taxation, some donot, while countries such as the United States, have very little taxationon oil. Some governments in Europe, for example the French and theItalian, increased taxation to partly compensate for the fall price. Asyou can see, the passing through is not perfect and there is this pro-portional problem.

The second problem is that the crude oil price is denominated indollars. Outside the United States, people purchase in yen, indeutchmarks and sterling, for example, and then perverse effectsoccur. Between 1981 and 1985 the dollar price of oil in the worldeconomy was coming down a bit. It came down from about $28/30to about $25. In France and Italy, however, because of the exchangerate, the price of oil went up quite dramatically. Now we have aphenomenon working in the other direction —the price of oil iscoming down in dollars and the dollar is coming down in relation tothe yen, the deutchmark, sterling, the French franc and so on. There-fore, you have a double effect— not only the dollar price is comingdown but also the real price that the final consumer has to pay in hisown domestic currency.

I am defeated by all these complications. I believe that if oil prices aremaintained and, particularly, if expectations are that they will remainlow, in time, factors such as conservation, substitution, etc., will losetheir momentum.

Turning to the subject of supply, I will look at non-OPEC oil suppliesand other fuels such as coal, nuclear, gas, etc. It is certainly clear thatif the dollar price of oil comes down again and stays at that level forsome time, it is going to be more difficult, even allowing for the re-duction in the price of finding oil and more economies in explorationand development, to continue exploration in very high cost areas.However, there are many low cost areas in the world where explo-

Session II80

ration and development can be carried out. One imagines that theimpact on non-OPEC oil supplies is not going to be very drastic, unlessthe price of oil is much lower than it is today and is expected to remainmuch lower.

On the other hand, one has to allow for decisions made by govern-ments to reduce taxation on oil-producing companies, to subsidizeand protect their own domestic industry. The British government hasconsiderably reduced the taxation burden on the new developmentin the North Sea. All new fields will no longer pay royalties and vir-tually no petroleum revenue tax. That is the equivalent to an enormouscost reduction.

I will now turn to other fuels. Australian coal in Rotterdam can still belanded at a price that is inferior to the 1986 oil price, at its lowestvalue. This is likewise the case with South African coal. Therefore ifpeople are willing to go for coal and are willing to spend money intransforming their power stations or whatever, the economic case forcoal could remain strong on the supply side for a while in countrieslike Europe, etc. We know that there is sufficient gas in the world tocover our needs for the next hundred years —Russian gas, Norwegiangas, Algerian gas, etc., not forgetting Middle Eastern gas, which ispenalized by long distance and transportation problems. I submitthat what is retarding the penetration of gas is not supply but de-mand. You cannot get into gas very rapidly. You have to install thedistribution system, get the gas using equipment into place and soon. But if there is room there, gas can enter.

Nuclear is ambiguous, as in some places there is a strong resistanceagainst it. For example, the British government is obsessed with nu-clear. They want, and this is affecting even the privatization plan ofthe electricity sector in the U.K., to make it mandatory for the privategenerating board to invest in nuclear. No private investors in his rightmind would today invest in nuclear. On the one hand you have toprivatize and on the other you have to impose very stern regulationsand conditions to ensure that more nuclear appears. There are peoplewho like nuclear and once they have a nuclear plant they use it, as in

«An Overview of the Impact of Low Oil Prices» 81

the case of France where a large nuclear capacity was installed.France is trying to use it to the best advantage and also trying toexport nuclear energy.

Again you need a low oil price for a very long period of time in orderto snuff out all these things, to choke them off. They are there —ex-tremely threatening— ready to pounce if the oil price goes up, withtime lags of course. It is difficult to envisage any big improve-mentson that front as far as the net demand for OPEC oil is concerned.

On the world economy, there has been a very strong presumption ina lot of studies, articles and books, etc., written after 1973, suggestingthat the price shocks and the large increase in the oil price have beenresponsible for inflation and recession, either directly for recession orindirectly because governments decided to stem inflation. When theprice collapsed in 1986 we had our ears filled with predictions, espe-cially in the U.K. I do not know about the rest of the world. Therewere predictions from the Treasury, from economists in the city,from academic economists, etc., to the effect that this was the bestnews we have had in a hundred years. This would thus stimulate theworld economy in a symmetrical way. In the same way that high oilprices caused the recession, low oil prices would foster economicgrowth. People thought that this would happen very quickly and it isdoubtful whether it happened at all.

I am not saying that a change in the oil price does not have any ef-fects on the world economy. It affects balance of payments, inflation,etc., but I think that these effects have been exaggerated. In otherwords, I think the most powerful influence on the behaviour of theworld economy is government policy.

Even if all the parameters of the world economy are favourable, agovernment wishing to deflate its country’s economy will succeed ifit applies the necessary policies. It is not that difficult to depress anyeconomy and when people were afraid of inflation, governments didso at the cost of large unemployment. They did so because that wastheir objective. I do not think that it is the increase in the price of oil

Session II82

that caused inflation. Inflation was in the system already since theend of the 1960’s and was building up for all sorts of reasons. Thereis no doubt, however, that the continuation of low oil prices, etc.,would add to the rate of economic growth.

The fourth issue relates to the oil-exporting countries, OPEC or non-OPEC. In the Third World, a very large proportion of their foreignexchange revenues come from oil and gas. A very large proportionof government revenues also come from this source and not an in-significant part of their GDP. Oil-exporting countries have in a sensesettled down since the oil price explosion. This price rise has been sosudden and so significant in the 1970’s that it has brought muchmore foreign exchange and wealth than these economies couldmanage in a sensible way. This is not the reason for not becomingwealthy, do not misunderstand me. I am not saying that wealth isbad. What I am saying is that however good it is, it also causes prob-lems.

And where it is a country that becomes wealthy, expectations areraised in that country because its people, or at least those that arepolitically vocal, want a share of the wealth. They identify themselveswith the country and see it as their money. We can elaborate a lot onthe effects of a sudden accrual of wealth on a society or economy.There may be some problems at the beginning, but as problemssmooth themselves out, as expectations adjust to the rate of growthof that wealth, and if it is steady, it becomes manageable after awhile. I think the drama of low oil prices, if one can use a stupid tau-tology, is that they came after high oil prices.

I think that this sudden succession of high and low prices has beenthe real problem for the oil-exporting countries. In other words, theygeared themselves up in the 1970’s to a pattern of expenditurewhich became an essential part of their structure and, I would argue,of their political structure, and then those revenues collapsed. TheMexicans built up a whole system on the expectation of higher rev-enues and they borrowed, anticipating that the banks are alwaysvery nice people who like to lend money to people who are going to


become wealthy. That is why banks, for example in the U.K., and Iam sure everywhere else in the world, try to entice schoolboys andgirls to open an account because they are going to be the wealthypeople of the future. And the banks did exactly the same thing withthe Mexicans and others to whom they lent money quite happily;but then oil prices collapsed, revenue collapsed, and the debt be-came unsustainable. That caused all sorts of political problems, notonly economic ones.

With regard to the Middle East, we have talked about the problemof Iran and the revolution. Consider now countries such as SaudiArabia, Abu Dhabi, Iraq, etc., and also countries that are not majoroil exporters but which benefited directly and indirectly from the oilwealth such as Jordan, Egypt, etc., for example because of remit-tances of migrants. In these countries high expenditures were in-curred in a number of sectors e.g. defense, security, etc., in the1970’s. More importantly, however, the expenditure of part of theoil revenue becomes necessary to maintain the political cohesion ofthe groups in the country who support the regime. Outside the fewrare democracies in the world, there are very few political regimesthat have political legitimacy. In other words, very few would be rec-ognized in free election of the whole population is what the popula-tion wants. In order for a regime to maintain itself, it has two means.If it is poor, there is only coercion. However, if it is rich, it discoversthat bribing people can keep the regime in power. I do not meanbribing in the vulgar sense of the word, but by helping to make themrich, and you can do that, if the source of money is in the hands ofthe state. The state can spend in a certain way, in a certain directionand direct this money towards the people they want to direct it to.

When that stops, you have to find ways of keeping your armyhappy, and armies are very expensive and very dangerous, politically.You have to find ways to keep the groups that support you happy,like the merchant group for example. That may prove difficult and ifyou have a very large royal family who are an important part in thestability of the regime, you have to keep them happy also and thatbecomes extremely difficult. My view is that the low oil price, having

Session II84

happened after a period of real wealth, causes very serious problemsof political adjustment and therefore increases potential instability ofregimes in this area. When you add to that the Iraq/Iran war, a veryexpensive war which must cost in the region of one billion dollars amonth, then you have serious problems.

I am not saying that this is a justification for raising the price of oilbut I am objectively analyzing the consequences and the problems ofliving with it. This is why the governments are faced with a considerabledilema, in making their oil policy within OPEC. We cannot characterizebehaviour as far as oil policy is concerned of any OPEC government interms of a single objective. If you do characterize their behaviour inthis manner you miss quite a lot.

Not only do you miss the fact that the story is more complicated, youalso miss the conclusion of the story, because if I only have one objec-tive, however stupid I am, in the end I am going to get there becauseI will adapt and find a means that will make me reach that objective,at least fulfil a portion of it. My problem is that if I have a number ofobjectives which are all considered as vital but which are contradic-tory, then I find myself in difficulties and I do not know how to workout a trade-off. I will move at one time in one direction and thenchange gear and move in another direction and I will give an impres-sion of disarray, of inability to design a policy that makes sense.

What is the dilemma or the many terms of the dilemma? Everybodyhas learned that high oil prices cause problems —the problems thatBill Hogan has talked about— that high oil prices reduce demand,encourage competitive supplies, reduce your share of the cake, andif your share of the cake has been reduced considerably, then OPECcannot divide up that cake among its members and therefore cannotsteer the price where it wants to —that is fundamental.

On the other hand you could say, fine, if high oil prices are bad thenwe will have low oil prices. But low oil prices are bad too becausethey do not generate enough revenue in the short and medium run.You would have to wait a number of years before the increase in


demand would give you back the revenue you want, and during thattime you run into financial problems which, if they were only of a fi-nancial nature, would not be dramatic but which are, as I said earlier,essentially political problems. These become problems of survival,particulary if you have a war under way, if you have the problem ofinternal legitimacy.

You hear a lot of people saying that. This morning, Dr. Tahmassebisaid that Saudi Arabia, rationally on good economic grounds, shouldwant fairly low oil prices. But Saudi Arabia wants them for one reasonand they do not want them for another reason. Which of the tworeasons is going to win? Even if one of them wins one round, keepalways in mind that the other argument will surface again and winanother round.

I think you have to take into account the problems which face theoil-producing countries, as I said both OPEC and non-OPEC, becausethat helps in understanding why they cannot, under the present cir-cumstances, really operate as a cartel. By cartel, I do not mean peoplewho together decide to have the highest possible price but who decideto force on the market a price that they like.

The potential market power of OPEC has not diminished that much.Their share of the market is smaller than it used to be, but it is stilllarge and they are still the only people who increment their supplies.In other words, if they denied the world their 35 % share, there isnowhere else you could get it in the short —or even the medium-term. As they are thirteen and each has at least three conflictingobjectives which he considers important for his own survival, there isconsiderable disarray. The higher your rate of capacity utilization, themore able you are to act as a cartel and the lower your rate of ca-pacity utilization the less able you are.

If your capacity is really fully utilized, then you do not have muchroom for competition between yourselves because there is no morecapacity to bring in against the other. It is then much easier to sitaround a table and decide what price you want to adhere to.

Session II86

ROBERT EMILE MABRO

Robert Em ile Mabro is presently Director of Oxford Institute for EnergyStudies, Fellow of St. Antony’s College, Oxford and Senior Research Officerin the Economics of the Middle East, Oxford University.

In 1956 he received his Bachelor of Science Degree in English, in 1964 DeUniversa Philophiae, in 1966 his Master of Science in Economics in Londonand in 1969 his Master’s in Oxon.

He was founder and has been Honorary Secretary of the Oxford Energy Po-licy Club since 1976 and Director of the Oxford Energy Seminar since 1978.Among his many publications, his latest are: The 1986 Oil Price Crisis andNatural Gas: Governments and Oil Companies in the Third World.


SESSION III

«RESTRUCTURING OF THE OIL INDUSTRYIN SPAIN»

JORGE SEGRELLES

Good morning everybody. As the speakers at our meeting today arefrom the oil industry, I am going to concentrate on the main aspectsof restructuring the oil industry in Spain. But I will make some generalintroductory remarks to place this subject within a global context. Ihave divided my presentation into the following parts:

I. The international trends.

II. The oil industry in Spain.

III. The Spanish restructuring.

I am not going to define what restructuring is. Our moderator spokeabout restructuring, upstream and downstream. We could even talkabout the restructuring of a company, of a market, an of the indus-try as a whole. Perhaps during my presentation we will have time toexamine and point out what the word restructuring means. It is notdeliberate but I think that we shall see some facts affecting restruc-turing of the market and some facts affecting restructuring of theindustry and not the market.

In my view, the factors which are likely to influence the future struc-ture of the international oil industry are shown in Chart 1: First of all,

89

a renewed desire by OPEC producers to secure crude oil outlets andto add value to oil sales, low crude oil prices over the long term.Secondly, existing spare capacity downstream: we have seen that allaround the world there is a lot of spare downstream: capacity. Ingeneral the majors would contemplate, perhaps not joint venturesbut rather sales or a reshuffle of their assets, so that this spare capacitywould be substituted by newcomers, without the financial conse-quences of having to scrap these facilities.

The third factor that could influence the international trend is the de-clining stock market valuation, which leads to potential bargains avail-able for cash-rich companies looking to replace depleting oil reserves.We have seen in the last months some very important battles for thecontrol of some independents in the United States and in the NorthSea, for example: companies like Arco, BP, and Elf fighting for Tri-centrol and Britoil, with the consequences which we all know about.

Another factor is the difficult situation of upstream independents,who had to face two crises in a very short period: first, the oil pricesin 1986 and second, the equity values in 1987. These upstream in-dependents have had to react against the situation when their cashis completely exhausted and it is difficult for them to fight backagainst the majors, as they are large companies with a lot moremoney.

The next point is the diminishing role of state-owned companies, dueto the sale or reduction of government stakes in the oil companies.This is not general, and we expect that Repsol will be the exceptionto this rule, as I shall try to prove to you later on. But we do see ageneral trend of many governments thinking that the sector is per-haps not as strategic as it was, that the supply is guaranteed by othercompanies and that there is no need to continue further in the busi-ness, perhaps at this moment of uncertainty where heavy investmentsare forecast for those that want to stay in the sector.

The next point is the growing and enhanced role of the major andlarger companies. This is a consequence of everything I said previously.

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Man well-known companies are sitting now on a pile of dollars andthey do not know, at least some of them are still thinking, what arethey going to do with them.

The last factor that perhaps we could mention here, is changing oiltrading practices: forward and future contracts. The truth is that aftertwo or three years, the oil system has changed in the sense that mosttraders, have no relation with the oil industry, and do not even knowwhat is going on beyond it. They see oil as just another commodity,defining the role of refineries as having no influence on price or, asothers would say, as having a peripheral role in the fixing of prices.

These are some ideas which perhaps we could develop later on in thediscussion and these are some examples of what I have meant by«restructuring». You can think of restructuring as a take-over activity.Take-over activity takes place not only in the oil sector but in differentsectors of the economy. This is a recent new trend and Chart 2 sum-marizes for 1981-1988 the most important take-over activities thathave been taking place, with winners and losers in terms of the WallStreet Community. There you see the year and the price that waspaid for all those takeovers, ranging from the Chevron-Gulf mergerof 13.2 billion dollars, to around 4.1 billion dollars for Occidentalwhen they bought City Service. Also included are some well- knowntakeovers like Mobil-Superior, Texaco-Getty Oil, USX-Marathon. In1988, we have seen two of them, BP with Britoil, paying 4.4 billiondollars and Amoco with Dome Petroleum for 4.3 billion dollars. Inthe meantime, two major companies, Shell and BP, bought the partof their companies not already owned; Ohio and Shell Oil (both inthe United States).

We see in Chart 3 different data on another implication of restruc-turing, that is the downstream investments of the producing compa-nies, with a focus on the European market. This is the most accuratedata I have found, prepared by ENI, about the producers down-stream investment in Europe. You can see that it is still very small incomparison to total refining capacity, despite the fact that manycompanies are starting to get in on the act. First, KPC bought 100 %

«Restructuring of the Oil Industry in Spain» 91

of two refineries, one in the Netherlands and the other one in Den-mark, with a total owned capacity of 135,000 b/d.

The next was PDVSA, Petroleos de Venezuela, which has a differentstrategy to that of KPC. Petroleos de Venezuela only wants to havecontrol of the facilities, to enable them to influence the market andsupply their crude. After the joint venture with the Germans, theyhave three refineries in Germany, two in Sweden and one in Bel-gium. The total owned capacity of PDVSA in Europe now is198,700 b/d.

The next one is Tamoil-Italy owned by NOC Libya, 100 % total ca-pacity of 70,000 b/d, and then we have Pemex, joint venture inSpain with Petronor in Northern Spain, with 34.26 % of the refineryand which gives you more or less 82,000 b/d. The last one, very re-cently this year was also taking place in Spain, which as we can seeis an active market, by Abu Dhabi National Oil Corporation: ADNOCbought 10 % of Cepsa. Having around 10 % of Cepsa would meanaround 20,000 bid of capacity.

The total is more or less around 500,000 b/d, which as I said beforeis of no significance yet, but it is the beginning of a trend that wemay have to discuss later. In addition to that, Kuwait InvestmentOffice owns around 20 to 22 % of BP and a significant part of Ex-plosivos Rio Tinto, as we shall see later.

These are the main facts which I wanted to show you on the inter-national scene and now I would like to concentrate very briefly onthe oil industry in Spain.

The global picture, as I will present it, is:

— Total primary requirements.

— Oil production.

— Oil supply.

Session III92

— Refining industry.

— Oil Market.

The recent evolution of Spain’s total primary energy requirements(TPER) is shown in Chart 4. Spain is still a country heavily dependenton oil. In 1973, oil accounted for 70 % of TPER. In 1980 this share wasalmost the same (69 %), while in 1987 it fell to 53 % of TPER. Thissubstitution process implies that most of the other energy sources in-creased their share in the Spanish energy market. Thus, natural gas wasalmost nonexistent in 1973, and in 1987 represented almost 4 % ofTPER. Coal use increased its participation from 16 % in 1973 to 24 %in 1987. Nuclear energy also increased its share of TPER from a littleover 2 % in 1973 to almost 12 % in 1987. Finally hydropower, al-though it maintained its value in absolute terms (more than 6 Mtoe),its share in TPER decreased from almost 11 % in 1973 to 8 % in 1987.

This is one fact, the other one is also well known, and is clearlyshown in Chart 5: Spanish oil production (domestic and abroad) isinsufficient to cover domestic needs. Domestic oil production onlycovers about 4 % of Spanish requirements. Even if we consider oilproduced abroad by Spanish companies, mainly by Repsol, we stilldo not reach 20 % self-sufficiency. Altogether, we are a completelydependent on imported oil, and I think this picture will last as thereare no great expectations of finding oil in Spain.

Chart 6 shows the trend in Spanish oil demand for domestic con-sumption (i.e. not considering exports) divided by types of origin. Itis clear that Spain implemented an oil supply diversification policy.Although since 1980 the Middle East oil dependence is decreasing, itis still the main supplier of the Spanish system. The decrease in de-pendence from this supply source was compensated by increasingsupplies from America (mainly from Mexico who is, individuallyspeaking, Spain’s main supplier) and from Europe (the North Sea).

After this, let me turn to a brief description of the Spanish refiningindustry and to point out two of its main characteristics.


There are ten refineries in Spain (Charts 7 and 8) and six oil compa-nies, with a total primary distillation capacity of 62.1 Mt/y and witha total conversion capacity of 14.1 Mt/y. Respol Petroleo has four re-fineries located at Cartagena, Tarragona (in the Mediterranean Sea),La Coruña (Atlantic Coast) and Puertollano (centre of Spain). Its dis-tillation capacity is 25 Mt/y (0.5 Mb/d) and it has a conversion/dis-tillation capacity ratio of 31 %. Cepsa owns two refineries, one in theCanary Islands and another in Algeciras (Atlantic Coast). Its total dis-tillation capacity is 14.5 Mt/y (0.3 Mb/d) and its conversion/distilla-tion capacity ratio is almost 20 %. Petronor, Petromed and ERT ownone refinery each located at the Bay of Biscay, Mediterranean andSouth Atlantic coat, respectively. Its combined distillation capaciy is21 Mt/y (0.4 Mb/d). Finally, Asesa owns a small asphalt refinerylocated at Tarragona, on the Mediterranean Sea. More details aboutSpanish refineries are given in Table 3 of the Appendix.

Chart 9 shows total refinery runs compared with total capacity overthe period 1955-1986. It can be seen that since 1975 the gap widensand after some capacity reductions made in 1985 by Repsol, the rateof capacity utilization is improving and in the last couple of years,Spanish refineries have been operating at around 80 % or more oftheir total distillation capacity. Obviously, this ratio varies considerablyfrom company to company depending on their Spanish market shareand ability to export and reach processing agreements with thirdparties.

It is important to note two main features of the Spanish oil industry.Firstly, and broadly speaking, Spanish oil companies are almostpurely refining companies. With the exception of Repsol —and to amuch lesser extent Cepsa— they do not have any upstream activi-ties. Even Repsol, by far the main Spanish oil producer, has an equityoil rather low compared with normal standards (less than 25 %). Inaddition to that, until recently, there was no downstream integrationbecause of the monopoly system operating in Spain.

The second feature of the Spanish oil industry is that although con-version capacity is adequate at present, further pressure is expected

Session III94

from EEC environmental regulations and from the likely evolution ofdemand, forcing them to further reduce the black section of the barreland to increase the white one.

Others think we have to look, before making any conclusion aboutthe oil industry, at the oil market. We have seen important changesin recent years, both in absolute terms as well as in the structure ofdemand (Chart 10).

Total final consumption of oil products for energy use in Spain grewby 3.5 % per year between 1973 to 1980 from 32.5 Mtoe in 1973to 41.4 Mtoe in 1980. Since then it fell by 29 %, reaching 29.3 Mtoein 1985, slightly increasing thereafter by 3.7 % in 1986 and a further4 % in 1987.

Although important, more relevant were the changes taking place inthe structure of oil product demand.

A dramatic switch away from fuel oil took place after 1980, mainly inthe electricity generation sector and in some other industries —namely the cement and brick industries. In the electricity sector,substitution was driven by coal and nuclear energy, while in the in-dustrial sector increased use of coal and, to some extent, natural gas,were responsible. In addition, the Spanish industrial sector madestrong efforts to rationalize energy consumption. All together, whilebefore 1980 more than 20 Mtoe of fuel oil were consumed in Spain,in 1987 fuel oil consumption was about 7 Mtoe.

In the residential/commercial sector, in addition to energy conserva-tion measures, increased use of electricity and natural gas substitutedsome consumption of domestic heating oil. Nevertheless, increaseddemand for transportation fuels meant that total demand for middledistillates in Spain increased by 55 % between 1973 and 1980; sincethen it increased slightly by a further 16 % between 1980 and 1987.

Gasoline demand on the other hand increased continuously by 5.9 %per year in the period 1973/79, while it remained almost stagnant


between 1980 and 1985. Nevertheless, gasoline demand in 1986jumped by 8.6 % and by a further 6.8 % in 1987.

The result is a quite dramatic change in the structure of demand inSpain over the last seven years. While in 1980, 14 % of total oilproduct demand for energy use was motor gasoline, 25 % middledistillates and 50 % heavy fuel oil, in 1987 the corresponding figureswere 22 % for motor gasoline, 38 % for middle distillates and 22 %for heavy fuel oil.

The continuation of this trend will once again mean heavy invest-ment to upgrade our refineries if we want to follow the market.

In the light of this, we can look at the restructuring that is really goingto occur in Spain and perhaps draw some conclusions:

I have divided this process into three parts:

— The legal framework: Adapting to EEC rules and deregulation ofthe market.

— The independent privately-owned refiners: recent moves and facts.

— The restructuring of the state-owned industry: from INH to Repsol.

First, let me say that before the legal framework was agreed andapproved with the EEC, certain moves were made in the precedingyears. One of them was to transform the old company, Campsa,from being the only administrator of the Spanish oil monopoly intoan integrated company with the Spanish refineries, both private andstate owned. This operation, which took place several years ago, im-plied that all refiners had access to the distribution network, as theyhad paid the government for the assets of the company, being thethird partner in Campsa (Chart 11).

The legal framework for restructuring the oil industry, i.e. adaptationof the petroleum monopoly to EEC rules, has to be seen in the con-

Session III96

text of the Treatry of Accession of Spain into the EEC. The essence ofthe treaty specifies:

— Spain will adjust its commercial monopolies.

— There will be a six year transition period.

— As from 1.1.86, the Spanish market gradually opened to the im-portation of contingents from EEC countries.

— By 1.1.92 all discrimination relative to supply and marketing willdisappear.

— Imported products (contingents) can be distributed internally andmust be sold at retail level in a non-discriminating way.

In this context, Chart 12 shows the trend of EEC import quotas fordifferent oil products, as they were negotiated and agreed upon withthe EEC. As you can see, each year they increase by a little more than20 %, till they reach a fixed percentage of the forecast market, whenthe treaty was signed in 1985.

The oil products distribution system, perhaps the most important fac-tor in this process, will follow the outline described below:

— Two different networks will coexist on non-discriminatory basis:Campsa.Others (Operators).

— Campsa is the only buyer, distributor and retailer of the produc-tion by the Spanish refineries to be sold in the Spanish market.

— The other operators will only distribute imported products intheir networks.

This is the general scheme of adaptation which was accepted by theEuropean Commission. Other companies showed interest in it, and


they are already acting in the Spanish market. Chart 13 shows theactual list of operators, all of which already have an interest in theSpanish market.

As can be seen in Chart 14, most of the majors and the main Euro-pean oil companies are already operating in Spain. All of them want tohave —if I might say so— a piece of the Spanish cake. If we listen towhat they say, most of them are looking for 5-10 % of the Spanishmarket. If that were to be the case, existing Spanish companieswould be pushed out of the market very quickly. Only the future willgive us the answer. But one thing is certainly true, the Spanish oilcompanies are moving very quickly.

Let me examine very briefly both sides: the private sector and the—up to now— state-owned side.

THE PRIVATE REFINERS

There are several reasons for the move by private refineries, amongthem:

— The lack of equity crude, so there is a need to secure supplieswith oil-producing countries. This principle has been acceptedas a secure form of guaranteeing access to crude oil in the longrun.

— The lack of marketing experience: The old structure of the OilMonopoly prevented Spanish oil companies from building up ex-perience in their relations with final consumers.

— To prevent hostile take-overs: This is a phenomenon which hasbeen happening in Spain and abroad.

— Government suggestions to merge: In order to make them morecompetitive, the Spanish government has suggested mergingsome Spanish private refineries on several occasions.

Session III98

Without entering into speculation, this is what has happened so farin the private sector (Chart 14):

— Cepsa, with a distillation capactiy of 14.5 Mt/y and a 14.6 %shareholding in Campsa, has reached an agreement with AbuDhabi National Oil Corporation (ADNOC), in the sense thatADNOC buys 10 % of Cepsa and provides a long term supplycontract for about 60,000 b/d.

— Explosivos Rio Tinto (ERT), with a distillation capacity of 4 Mt/yand a 5.8 % shareholding in Campsa, has been the target of ahostile take-over bid by the Kuwait Investment Office (KIO). KIOhas been buying ERT shares through its proxy company in Spain,Torras Hostench and by some investment funds controlled byKIO. It is very difficult to assess the participation of KIO in ERT,although I would say it could range from 25 % to 45 %.

— Petromed with a distillation capacity of 6 Mt/y and a 7.54 %shareholding in Campsa, has reached an agreement with BritishPetroleum to set up a 50/50 joint venture marketing company, todistribute oil products in Spain. In addition to that, there are on-going discussions for BP taking or not taking a percentage (10 %)stake in Petromed.

— Finally, Petronor with 11 Mt/y of distillation capacity and 13 % ofCampsa has a long-standing relation with Pemex, which owns34.26 % of Petronor.

There is clearly interest in Spanish refining companies, because of theautomatic access to the Spanish market and I think that, probably,almost all of these companies, and some others, have had discussionswith all the majors or some of them at some time or other, but goingfurther in this direction would imply speculation, and I prefer tospeak only on the basis of facts, as I said before.

I should like to end with the restructuring of my own company, Rep-sol. Although some of you might have an idea, I should like to com-


ment very briefly on the origin of Repsol, i.e. Instituto Nacional deHidrocarburos (INH).

Since the creation of INH in 1981, —the holding company of stateinterests in hydrocarbon companies in Spain— its strategy has been:

— To rationalize the organization.

— To improve the results of the group.

— To improve the financial structure of the group.

Prior to the creation of INH, state participation in hydrocarbon activitieswere spread among different departments, with different companiesand, on occasions, with conflicting interests. INH promoted severalmergers in the different sectors (Chart 15).

Eniepsa was an exploration and producing company acting inSpain while Hispanoil, with the same activity was exploringabroad. They were merged into Hispanoil in 1985.

The same thing happened with the refining industry. Petroliberwas a company with a refinery in La Coruña (Atlantic Coast)while EMP had three other refineries. The latter company ab-sorbed Petroliber in 1985.

The last example is the petrochemical mergers completed in1986, which was a very recent process. All of the petrochemicalcompanies (Alcudia, Calatrava, Montoro, Paular) that wereoriginally joint ventures with other companies (ICI, PhillipsPetroleum, Arco, Montedison), were first acquired from multi-nationals and then merged into a single company: Alcudia.

Charts 16 and 17 show the trend of profit before tax, cash flow, in-vestments and total debt of the INH Group through the period1982-1986. They illustrate achievements made in improving the re-sults and group financial structure.

Session III100

I should now like to turn to Chart 18, where the organization prior tothe creation of Repsol is shown, just as an example of our restructuringprocess, not of the industry but of the state sector. INH, above all,had different companies in:

Exploration-Production: HISPANOIL.Refining: EMP-Empresa Nacional del Petróleo.LPG Marketing: BUTANO.Distribution and Marketing of Oil Products: CAMPSA (Co-ownedwith the other Spanish refineries).Natural Gas: ENAGAS.Petrochemical products: ALCUDIA.

The first impression was that it is very difficult to compete in what isgoing to be an open market with so many logos, corporate identities,names, etc. Based mainly on marketing strategy, INH decided toarrange and spin off all oil activities into one company, Repsol,putting them all together under one brand and one company except,as I must mention, natural gas. Now INH is a 100 % holding com-pany of Repsol and a 100 % owner of Enagas (natural gas distributorequivalent to British Gas or Gaz de France).

Repsol was launched in September 1987 with a similar organizationto other international, and certain Spanish, companies having more orless the same marketing idea. Under Repsol, all subsidiaries have thesame basic name, although with a surname. In addition to that, prod-ucts have the same brand name, to give notoriety once we have toface competition from other companies. In addition, we have a multi-branded strategy: for the sale of automotive fuels, Repsol and Campsa(owned 60 % by Repsol), and for lubricating oil: Repsol and CS.

Chart 19 shows the new structure. INH is above with Repsol andEnagas, and under Repsol, all the companies that previously had dif-ferent names, corporate indentities, etc.:

Exploration-Production: Repsol Exploración.Refining: Repsol Petróleo.


LPG Marketing: Repsol Butano.Petrochemical products: Repsol Quimica.Distribution and Marketing of Oil Products: CAMPSA (Co-ownedwith other Spanish refineries).

Repsol produced in 1987 more or less seven million tons (130,000boe/d) of oil and gas. This production figure is very low comparedwith the total refining capacity of 25 Mt/y (500,000 b/d). This is oneof our strategic weaknesses and therefore we are trying to improveour upstream activities. Our recent acquisitions have to be seen inthis context, such as the Tidewater assets in Indonesia, and Occiden-tal assets in Colombia. Thank you very much.

Session III102


Chart 1The international trends.

Factors Iikely to influence the future structure of the internationaloil industry

— Renewed Desire of OPEC Producers.To: Secure Crude Oil Outlets.

Add Value to Oil Sales.— Existing Spare Capacity Downstream.— Decline in Stock Market Valuations Leading to Potential Bargains Avail-

able for Cash Rich Companies Looking to Replace Depleting Oil Re-serves (Mainly in U.S.A. and North Sea).i.e.: Arco.

BP.ELF.

— Difficult Situation of Up-Stream Independents That Had to Face twoCrashes in a Short Period:

Oil Prices in 1986.Equity Values in 1987.

— Diminishing Role of State-Owned Companies Due to the Sale or Re-duction of Government Stakes in Oil Companies.

— Growing and Enhanced Role of the Major and Larger Companies.— Changing Oil Trading Practices (Forward and Futu res Contracts).

Traders Assumption Oil is Now Just Another Comodity, Refiners Haveno Influence on Price.

Chart 2Main take-over activity 1981-1988

Winner Victim Year Price($Bn)

Du Pont Conoco 1981 7.5USX Marathon 1982 6.3Occidental Cities Service 1982 4.1Phillips General American 1983 1.2Texaco Getty Oil 1984 9.9Chevron Gulf 1984 13.2Mobil Superior 1984 5.8Shell Shell Oil* 1985 5.2BP Sohio* 1987 7.8BP Britoil 1988 4.4Amoco Dome Petroleum 1988 4.3

* For Part of Companies not Already Owned.Source: OET.

Session III104

Chart 3Producers downstream investment in Europe.Non-European producing-exporting countries:

European refining capacity in 1987 (b/d)

Total Owned OwnedCapacity Quota Capacity

%

KPC.Kuwait Petroleum Corporation (1)Rotterdam-Nederland 75.000 100 75.000Stignaes-Denmark 60.000 100 60.000

TOTAL 135.000 — 135.000

PDVSA-Petróleos de VenezuelaGelsenkirchen-W. Germany 200.000 50 100.000Karlsruhe-W. Germany 140.000 33 46.200Neustadt-W. Germany 100.000 25 25.000Nynasham-Sweden 28.000 50 14.000Goteborg-Sweden 12.000 50 6.000Antwerp-Belgium 15.000 50 7.500

TOTAL 495.000 — 198.700

NOC-LibyaTamoil-ltaly 70.000 100 70.000

PEMEX-Petróleos MexicanosSomorrostro-Spain 240.000 34.26 82.000

ADNOC-Abu DhabiAlgeciras-Spain 160.000 10 16.000Tenerife-Spain 130.000 10 13.000

TOTAL 290.000 — 29.000

GRAND TOTAL 1.230.000 — 515.000

(1) Kuwait lnvestment Office owns, moreover, 21.28% of B.P. shares and partof ERT.

Source: ENI.

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Session III108

Cía Españolade Petróleos, S.A.CepsaTenerife

Chart 7Spanish refineries

Refinadora dePetróleos del NortePetronorBilbao

RepsolPetróleoLa Coruña

RepsolPetróleoTarragona

AsfaltosEspañoles, S.A.AsesaTarragona

Petróleosdel Mediterraneo

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Session III112

Chart 11Ownership of Campsa

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Chart 12EEC import quotas

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TEXACO CANARIAS

Chart 14The private refineries

FACTS

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8

MR. JORGE SEGRELLES GARCÍA

Jorge Segrelles García was born in Madrid in 1952. After completing a degreein Law at the University of Madrid in 1974, he began working in the Tech-nical Fiscal Inspector’s Corps for the State in 1977. At the time, he fulfilledvarious other duties in the State Secretary’s Cabinet and in the City Hall’sGeneral Secretary Department. In 1981, Mr. Segrelles earned a Master’sdegree in Law from Harvard University (Cambridge, MA., USA), where healso completed a certificate in the International Tax Program.

Mr. Segrelles began working at Tabacalera, S. A., as Vicesecretary General,in 1983, where he worked on the adaptation to the State Tabaco Monopolyin the European Communities. He continued in this capacity until 1984. InDecember of that year, Mr. Segrelles was named Financial Advisor beforethe OCDE, where he worked for one year.

In December of 1985, Mr. Segrelles was named Director of International Af-fairs at the Instituto Nacional de Hidrocarburos, a post which he presentlyoccupies.


«RESTRUCTURING OF THE OIL INDUSTRYIN THE NORTH SEA»

GERARD MALONE

I first became acquainted with the oil industry when I went in theHouse of Commons as a Member of the Parliament for Aberdeen in1983. I never had anything to do with the oil industry before, and ofcourse Aberdeen being the base for North Sea exploration and pro-duction, I took a keen interest in it.

The first thing I did was accept an invitation to visit an oil companyin California, this was 1983. They had a gentleman there, who wasjust fired, who had told them that oil would eventually go down toabout $14 or $15/b. The gentleman who was sitting in the economicseat told me that it would go up to $100/b. I went back to San Fran-cisco in 1986. I met the gentleman who had been sacked in 1983 forsaying that it was going to be $15/b. I do not know where the per-son who said it was going to be $100/b had gone. But that taughtme a lesson. I thought, you know the oil industry is a very insecureplace, perhaps I am safer in the secure job of politics. I lost my seatin the 1987 election. However, I still kept an eye on the oil industry,helped very much by Harvard and I think that there are some inter-esting things happening in the North Sea particularly just now.

First thing, I would like to look at is, why is it, that if you want to buyacreage now, and if you want to buy proven reserves, is there a

121

growing trend in the oil market, not to go out and get a semi-submersible or a jack-up rig, you go and see a strockbroker instead?I would like to look first of all after the general reasons for that andthem perhaps take a closer look at the North Sea and the U. K. sectorof the North Sea in particular.

I think it is true to say, that the first reason is that a low and a loweringat an uncertain oil price certainly concentrates the minds and when itgets to the stage that you have exploration costs of approximately$8/b and you suddenly find that you may by selling that after youhave had developed it and produced it at a potencial price of $10,you get worried. Especially if you want to stay in the oil business overthe long term future. And there are a number of companies who arein the marketplace who are able to take advantage of that, especiallywhen oil stocks are depressed. And as the previous speaker said,these two things happened as far as independents were concerned.There was the oil shock and then there was the stock market shock,and a lot of large companies with sound cash flows, understood thatthe bargains would be picked up in the stock market, not by therather harder work of exploration.

There are a number of other reasons why this has happened. One ofthem is that a lot of companies although they generate a very strongcash flow and are sound in themselves, they are unable perhaps tomake the best use of that cash flow because of their share structure.They may find that the minority shareholding interests that are inthem, dictate that they are obliged to spend that cash in a way thatif they were free, or somebody else was able to use that cash, itwould be better exploited. One of the examples of that is the reasonwhy BP took over Standard Oil. There was a company with a verystrong cash flow that was locked into investment decisions that BPthought out, and that cash flow is now being used to finance pro-jects elsewhere other than internally in the U.S.A.

So we are left in the situation where these companies with all thereasons that they need to secure supplies in the long term, who haveperhaps running down in some cases their exploration efforts, sud-

Session III122

denly find they need to buy acreage. They are well integrated, theyhave got hard cas, and they find that in Wall Street or in London orwherever that they can buy and guarantee their product for futureyears, in many cases between $3 and $5/b. It has been as cheap asthat, and that has been the play, certainly as well in the North Sea.

I mentioned the question about BP and the U.S.A.. What BP found,was that it was facing a profile, of a very sharply declining produc-tion. Its North Sea fields and particularly the Forties have reachedmaturity, it was needing to expand, it was needing to expand quicklyand it was also a company that had an increasing cash flow and thatis a recipe for take-overs in my view.

There is another company that I will look at a little in more detaillater when I will talk about of the North Sea, which I think is a veryinteresting expample and that is Arco. Because Arco is a companywhich benefitted from radical restructuring, first of all by getting ridof a lot of its operations that were unprofitable. Secondly, by sellinga lot of its operations that were marginal. In fact in one year, in1986, it reduced its costs by something approaching seven hundredmillion dollars, which was as much as its turnover in the previousyear. That put it in a strong position to take a good look at the worldmarket place, and decide where it was going to go. Of course it wentto the North Sea with Tricentrol. I will come back to that in a minute.

One of the reasons why the North Sea is particulary ripe for restruc-turing by way of the stock market, is the way in which partnershipand oil fields developed. The root cause of the complexity is becauseof British government policy in allocating licences rather that havingbidding and although the British government has always said it has ahands off policy as far as licensing is concerned and that it treatseverybody fairly. It is true, to say that they did encourage very muchindependents to play on the scene, certainly in the early years. Themost dramatic example of that was of course Britoil, which was trans-formed from the nationalized oil company that we started out with inthe North Sea, and it was given very favourable acreage indeed bythe Departament of Energy, which put it in a position that made it

«Restructuring of the Oil Industry in the North Sea» 123

very attractive. And there were a number of British independentswhich started as players in the North Sea, where the same thinghappened. And covertly, they were given interesting acreage and themarket place has been sorting all that out since by way of changingpartnerships, shareholdings and restructuring.

Because what the British government did not do, was decide whereits policy was going. It said it liked independents, it awarded themacreage and then it left them to get on with it. I think that will beseen in the long term, perhaps as a failure of policy or the encour-agement of independents should have been a policy that was neverembarked upon in the first place, because it had no conclusion. Andyou know, I well remember listening to energy questions in theHouse of Commons month after month, to the questions being putup about how well the independents are doing and the Secretary ofState or the Oil Minister would always congratulate them for beingsuccessfull, or whenever the Secretary of State would make a speechin London at some petroleum dinner, he would always have a passagein it congratulating the British Independents, saying how they werethe future of the market place. And while the big boys would bangthe table, thump and shout with applause with their other hand theywere stretching for their check books, just so that, they could buythem secure in the knowledge, that the British government reallywas going to do nothing about it.

That aspect of British government policy was most clearly seen withBritoil in the BP take-over. It may well have been the case that if ithad been an obviously hostile company trying to take over Britoil interms of British national interests, then we would have heard a dif-ferent story. But the device that was used by the British governmentto stop the kind of restructuring that we have seen in the North Sea,the «Golden Share» that they held in Britoil, was found to be noth-ing less than a damp squib in the face of BP’s take-over. BP was thefirst company and Mr. Walters was the first man, to really under-stand that the government was bluffing. They said a lot about pro-tecting independents, they put in their structure of the «GoldenShare» but at the end of the day without a properly defined policy,

Session III124

it was impossible for the government to exercise any real power at allin that connection, and Britoil disappeared as an independent.

And I think there has been quite a lot of misunderstanding of thatpolicy which has kept predators away from the North Sea. It will beinteresting to see now what is going to happen there since there hasbeen this overt act or failure to act, on the part of the British govern-ment in the BP/Britoil situation.

Now of course, one of the other reasons why the North Sea is soattractive for a number of companies who have found that their situ-ation has developed in past years, is the tax structure. If you have apositive cash flow from your assets and you buy into the North Seayou can find that what you are talking about in an area where thereis a marginal tax rate still of some 85 %, despite the consessions thathave made in recent years, that you are getting your exploration forfifteen cents to the dollar. And that is a bargain in anybody’s money,because in the North Sea, the British government has not ring-fenceddevelopments and because of that, there is an added incentive torestructure when it suits oil companies to do so.

And I think that what you get as a result of that is a fairly simpleformula or rule of thumb, which you can look at when you’re takinginto your sights any company that is a player in the North Sea. Let ustake the typical independent; asset-rich, has got a good license, veryhigh gearing, had to borrow enormously to be able to develop thatat all, has got no cash flow yet. There is a dropping oil price, there isno confidence in the share market, the share price has fallen flat onits face. There is only one word that you can really say to that inde-pendent and that is «goodbye» because they are on the point ofbeing taken over. That I think was certainly the case with Tricentrolwhich is the other example which I would like to look at in particular.

Arco saw that, Arco saw more than that, they saw that they couldbuy half of Tricentrol by playing in the market first with Britoil. Whenthe past twelve to fifteen months gets looked at and analyzed in thelight of history, I think that Arco is going to come out as one of the


most shrewd and strategic players in that North Sea market, to un-derstand what the possibilities of restructuring were. They madesomething approaching two hundred and thirty million dollars out oftheir dealings in Britoil before BP were obliged to buy them out. Andby snapping at a victim that was really too big for them to swallow,but in the understanding that someone else would swallow it forthem, they were able to spend only half the amount of money inbuying Tricen trol, a very attractive asset, but one in which there wasno confidence, because there was not sufficent cash flow as an inde-pendent, and the market was not rating it properly. They were ableto buy it very cheaply indeed. That is just one example of the type ofindependent that I believe is going to be very much open to restruc-turing in the course of the next few years.

Another reason why the North Sea is an area which people arefinding increasingly attractive is that although its got a marginal taxrate still at 85 %, the British government policy has clearly beenseen. And in this case I do think they have a policy of continuing toattract development. It is not in the British government’s interest orin the national interest in Britain, to see development of the NorthSea slow up, dry up, or go away. With a marginal tax rate of 85 %there is ample opportunity for the Chancelor of the Exchequer insucceding budgets, to continuously look at that rate to adjust it mar-ginally and to adjust it in a way that attracts continuing develop-ment. We have seen that over the course of the past four or fiveyears, and I believe that is a trend which will continue and which willcontinue to make the North Sea very attractive indeed.

Just something else, I would maybe like to touch upon as far asBritish government policy is concerned, and that is what it will be ifwe continue to see play in the North Sea sector, or the British oilsector, rather of the kind we have seen with the Kuwaiti InvestmentOffice. It is clear that on the one hand, again the British governmentis saying it does matter, this is a free market, you can come and buyin. But there is extreme worry when the Kuwaiti Investment Officebuys, as it has done, 22 % of British Petroleum. It certainly is the casethat, while the policy may in the face of it, look as if it is open market.

Session III126

The Kuwaities caused a tremendous stir within particularly the Britishtreasury, who called them in and made sure of their intentions. NowI happen to think that the Kuwaiti Investment Office is not an orga-nization that is terribly keen on ha nds on management, that hasbeen the history in the past. They take big stakes in the market place,but they tend to let the companies get on with it and so they tend torealize the investment after a reasonable period.

But what became absolutely clear was that protectionism, if that typeof investment does go ahead and it is perceived not to be in thenational interest, is something that Britain might well turn to as aninstrument of policy. For anybody who is a predator, that is a lessonindeed. I think from my observations of the American scene, thatprobably the same is true there. The presidential campaign in theUnited States is so far raising protectionism as one of the main issues.British Petroleum got away with Standard, but I wonder what theposition would be today, if another foreign oil company tried to dothe same thing within the United States. I just get the feeling, goingto the United States quite regularly and observing the scene there,that if this type of restructuring goes too far, then danger signals willbe raised, policy decisions will be taken which will stop it and it willclose that door.

Now of course the great mystery is, why is it the case that restruc-turing by some companies who are cash-rich, into companies whoare not, can happen and why is it that their assets are under-valued?I think that it is absolutely clear that the market place in terms ofvaluing oil stocks, must be seen to be inefficient just now. That is oneof the reasons why the oil companies who are cash rich have had anopportunity to take up the non-cash rich. Because why is it, if thereis this real underlined asset value, that the markets fail to see that.The reason is that perhaps those who operate in the market placehave different objectives from the cash-rich companies who arelooking for their acreage. Those who operate in the market placehave an objective which is not totally short term but certainly has adifferent objective from an oil company that is looking to secure itsfuture over the next ten or fifteen years. And the return on assets in


immediate terms in some of the smaller companies that had been thesubject of this restructuring was certainly not within the time framethat investors were interested in. So the need to secure long termfuture returns by large companies in areas where they were going tobe politically secure, was a very important one.

There has been another reason put forward which I do not believe,and that is that the market place over-reacted to the stock marketcrash of last year, and in fact it is quite interesting. If you look atTokyo, London and New York, you will see that Tokyo is in fact nowsome 7 % up on its position, on its pre-crash position. London is 25 %down and New York the last time I looked at it was about 20 %down. Now some people say that because of that, London and NewYork are under-valuing certain shares, that is why they have beenpicked up and that is why you are beginning to see more bids for oilcompanies which are under-valued.

I happen to think that all that is nonsense, because the Tokyo mar-ket in my view is over-valued and the other two are about right. Ithink there is going to be an enormous crunch when a lot of peopleunderstand just how dependent the Tokyo market is on real estate.If you go to Houston you will see what happened to the bankingmarket there, which is heavily dependent on real estate. The growthin the Tokyo market is substantially geared to borrowing on theTokyo real estate market. That is a spiral that we have all gone downbefore in our stock markets, so I discount that as one of the reasonswhy oil companies are coming into play.

Can I leave you after these few observations with perhaps just a tip?Having had look around the North Sea market, I see the bestprospect just now, in terms of under-valuation of an asset, not in theBritish North Sea but in the Norwegian North Sea sector. If you takea look at Saga Petroleum, for example, there is something that Ithink is going to come into play if the politics allow it. There youhave a company, the net asset value of the shares is probably esti-mated at between $65 and $70, it is trading just now at about $16,so there is a nice tip if the Norwegian government will allow you.

Session III128

But my only message is that they are more protectionist than theBritish government even are covertly and it might be difficult. But,for anybody who is a player on the scene, that type of asset is stillthere, ready to be played for, fought for with politics and that I thinkis going to be one of the ways ahead.


PETER GERALD MALONE

Mr. Gerald Malone has been Director of European Affairs at the Energy &Environmental Policy Center at Harvard University, Correspondent of «TheSunday Times», presenter of «Moneyline» BBC Radio Scotland and SeniorConsultant of Christopher Morgan Marketing, Trimedia, London followinghis Parliamentary Career.

His Parliamentary Career began in 1983 where he was a Member of theEnergy Select Committee on European Affairs. Later in 1985 he was appoin-ted PPS to David Hunt and Alistair Goodlad at the Department of Energy. Inthat same year he was appointed PPS to Leon Brittan, Secretary of State forTrade and Industry.

He was educated at Glasgow University where he attained a Bachelor of Lawand an M. A. degree.


«RESTRUCTURING OF THE OIL INDUSTRYIN THE UNITED STATES»

THOMAS A. PETRIE

It is my pleasure to be with you today and to have a chance to sharewith you a few thoughts about the restructuring of the oil industry inthe United States.

My remarks this morning will address the upstream sector. I wouldbe glad to review downstream later, but the thrust of my discussionwill be on the upstream sector, which really has been the primaryarea of investor focus for the past eight years.

I would like to direct your attention to some of the trends that maytell us where we go from here. During the past eight years we haveseen a shift in emphasis from that of the prior decade. In the earlierperiod, the petroleum industry focused on what I call «going concerneconomics», that is, exposing new capital to evaluate acreage andwhere success was achieved by developing and exploiting thatacreage in an efficient manner. Around 1979 a trend emerged wherebuying oil and gas reserves began to compete with the normalprocess of evaluating acreage. As a result, I have found increasingly

131

that my attention is being directed at analyzing the allocation ofcapital between these options. As mergers and acquisitions havetaken on a much more prominent role, we have frequently discoveredthat the details of such transactions provide us with valuable cluesabout the strategic focus of the petroleum industry.

First, let us review the modern history of petroleum mergers and ac-quisitions in the United States. As Chart 1 shows, over the threedecades ending in 1980, in the United States some thirty-three majorcompanies at the beginning consolidated down to a little less thanhalf that number by the end of the period. Thus, we entered the1980’s with considerable consolidation having already taken place.The nature of this process, however, was very different from theshrinkage that we witnessed in the more recent period. Previously,there was much more emphasis on gradual combinations and onrelatively friendly transactions. These generally were conducted in anorderly manner and the focus was largely on achieving economies ofscale that were mutually agreed upon by the managements and theshareholders of the various companies.

More recently, we have seen a further consolidation, as compiled inChart 2. A universe of the twenty-five largest oil companies thatexisted in 1980 now totals only seventeen companies. The last dis-appearance to occur involved BP’s acquisition of the Standard Oilminority interest in 1987.

Perhaps one the more interesting aspects, however, is the even moredramatic shrinkage in the universe of independent oil companies thathas occu red in the United States over the same period. In Chart 3we show that during the period since 1980 we have seen sixty inde-pendent companies shrink to the point where today there are twentysuch companies with a similar market capitalization.

This consolidation is quite noteworthy, though I would also point outthat it has not simply been the process of mergers and acquisitionsby which it has occurred. Many of the independent companies, pur-suing strategies driven by the two oil price spikes of the decade of

Session III132

the 1970’s became over-leveraged in the early 1980’s, with abouthalf of the total number of companies disappearing through bank-ruptcy or forced reorganizations. The disapperance of the other half,or about twenty names, is attributable to straightforward acquisitionsof companies by larger entities.

For a few minutes I would like to address some of the factors thathave contributed to the more recent consolidating trend. One that ismore prevalent today is the reversal in the U.S. import position.Chart 4 shows the net imports into the U.S. We have now seen afundamental reversal following the bottoming of the U.S. import de-pendence which occurred in 1985. If that trend is extended into theearly 1990’s, you will notice U.S. oil import dependence building upto a level almost as high in absolute terms as that reached in the late1970’s.

It has been my observation that strategic thinking of managers in theU.S. oil companies has been very much influenced by this reversal,which clearly is a consequence of the 1986 oil price decline. Im-proved positioning for the next cycle is very much the objective ofcurrent focus on mergers and acquisitions.

Another factor contributing to current perceptions is the relativeunder-performance of the oil securities vis-á-vis a broader measureof the market. By itself I do not believe it is overwhelming, but I dobelive that during much of 1987 we were going through a period inwhich the shrinkage of the universe, that is the reduction in the inde-pendent universe from some sixty-two to twenty names and eventhe disappearance of larger companies, contributed to a bull marketin energy securities.

More specifically, from August 1986 to June 1987, oil stocks werevery, very strong performers due to a shortage of shares. This re-sulted in a minicycle that was quite confounding to those who wereunder-represented in oil stocks. They found themselves at a severedisadvantage in rebuilding ownership in this sector. Many of mycounterparts found this very bothersome because they were having

«Restructuring of the Oil Industry in the United States» 133

difficulty relating the performance of these stocks in the marketplaceto the near-term developments with respect to OPEC and oil priceexpectations. The market exhibited, if you will, a «look across thevalley» phenomenon. Of course October 19, 1987 did bring achange. As Chart 5 details, not only did oil stocks fully participate inthe October 1987 stock market crash, but the recovery since thenhas not been as full as the recovery some other sectors have enjoyed.This under-performance is clearly affecting the current round of in-terest in the oil sector.

Finally, let us consider natural gas for moment. For independents inNorth America, natural gas is extremely important, basically two-thirds or more of the reserves and production of a typical independentU.S. company are natural gas. Recently, natural gas prices have notbeen fully linked to oil price volatility although in the past they usuallywere. Chart 6 illustratres how the ratio of oil prices to gas prices havaried. The trend shown ha contributed to investors now sensing anopportunity in the gas sector, a belief that with a lag, there will be areturn of that conversion ratio or something close to the 8:1 level ona sustainable basis, as opposed to these recent wide swings.

Now let us look for just a moment at the actual intensity of activityand a trend or two with respect to the prices being paid. Chart 7summarizes data which was developed by a group in Houston show-ing the prices paid per barrel. This is a very naive calculation, in thatthere is no adjustment of these prices for quality considerations. I amnot certain that one can make a proper adjustment, but we shouldrecognize that these price trends shown do not take into account anychanges in mix of properties. Therefore, depending on the quality ofthe reserves and relative mix between oil and gas, you can havesome quarterly fluctuations in prices paid per barrel of oil equivalentthat do not necessarily reflect the overall trend of prices paid on anapples and apples basis. Accepting this limitation, we can see a mod-erately declining value paid per barrel for the various transactionsover the period from the first quarter of 1984 through the fourthquarter of 1987. We can also identify a generally rising trend oftransaction activity throughout the period (refer to the bottom line of

Session III134

Chart 7). Chart 8 shows a naive calculation of price per barrel andplotted against the price of West Texas Intermediate for the periodusing data from Strevig and Associates. Interestingly, the adjustmentin price paid per barrel does not appear to be proportionate to thedecline of West Texas Intermediate. This would appear to correspondto that «look across the valley» thesis that I spoke about for the stockmarket view of oil securities in 1987. Despite the vagaries of the oilprices, we have observed the strategic players of the past severalyears make acquisitions based on much longer time horizons thanthose used by public market investors who were looking primarily atnearterm developments.

The current activity levels, if not unprecedented, certainly rival only afew prior periods in the history of the U.S. petroleum business. Fur-thermore, they clearly reflect a shift in emphasis to the buying optionversus the drilling option, Many of these transactions are being en-tered into with the view that they will result in an inventorying offuture opportunity for new development and for application oftechnology and reservoir management skills.

As a final thought, it is evident that today’s relatively high level of theactivity is attributable to a «Iaissez-faire» policy that has prevailedthroughout the Reagan administration’s term. In 1988, we may beseeing the last period of this era. There is a sense that the freedomthat has prevailed with respect to merger and acquisition optionsmay not prevail beyond the current administration and this is givingrise to an added degree of activity currently. There has also been aninternalization of that activity with a number of companies (Arcobeing perhaps the best recent example) looking to pursue in overseasarenas some of the same activities that have been pursued for muchof the last decade in the U.S. This recently-evident approach tobuilding up international exposures seems likely to gather momentumover the next few years.

Thank you.


Session III136

Chart 1Mergers and Acquisitions

30 years of change among the U.S. majorsFirst Boston

1950 1960 1970 1980

1. Standard Oil (N.J.)2. Socony Vacuum3. Superior Oil4. Standard Oil (Ind.)5. The Texas Co.6 Tidewater7. Pacific Western Getty8. Skelly9. Gulf

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4

THOMAS A. PETRIE

Thomas A. Petrie is a Managing Director of the First Boston Corporation, aninternational investment banking firm headquartered in New York City. He isbased in the firm’s Denver, Colorado office.

Prior to joining First Boston in 1977 as a Senior Oil Analyst in the Equity Re-search Department, Mr. Petrie was a Petroleum Research Analyst for ColonialManagement Associates in Boston; a Vice President, Senior Oil Analyst andDirector with Wainwright Securities in New York City, and a Captain in theUnited States Army.

At First Boston’s New York offices, Mr. Petrie and his colleagues have deve-loped a research product that emphasizes the exploration and productionsector, and analyzes petroleum valuation trends and Washington energypolicy. In 1980, Mr. Petrie opened First Boston’s Denver office to keep incloser touch with emerging opportunities in the Southwestern U.S. oil centers.He was also named a Managing Director in that year.

In addition to his research responsabilities, Mr. Petrie has been actively in-volved in many of First Boston’s energy related merger and acquisition advi-sory assignments over the past decade. Among others these transactionsinclude: Marathon Oil/U.S. Steel, Conoco/Dupont; Cities Service/OccidentalPetroleum; General American Oil/Phillips; Texaco/Getty; Phillips Petro-leum/Mesa Petroleum restructuring; Union Texas Petroleum/LBO; LouisianaLand/Inexco Oil; and Standard Oil/British Petroleum.

Mr. Petrie has a Bachelor of Science degree, 1967, from the U.S. MilitaryAcademy at West Point and received his MBA from Boston University Schoolof Business Administration (overseas program) in 1969.

An active member of several industry associations, he has served on the SECAdvisory Board on Oil and Gas Accounting and is currently the President anda member of the Board of Directors of the National Association of PetroleumInvestment Analysts. He has delivered a number of technical papers to theSociety of Petroleum Engineers on the subjects of petroleum evaluation,merger and acquisition trends, and energy policy changes.


SESSION IV

«CONCLUSIONS AND IMPLICATIONSFOR POLICY»

IRWIN M. STELZER

It is always a stunning experience for an economist who has notspent his life in the oil business —as many of you have— to attendone of these meetings. They seem to have a kind of rythmn to them.Thirty or so terribly able people sit around a table, and go through,as we have gone through, the following procedure:

First, everyone tries to forecast demand. This usually begins with ademonstration that all past forecasts have been wide of the mark,and by a lot. Hossein reminds us of the 1979 forecast of 79 Mb/d ofconsumption by the year 2000, and then Quincy reminds us that fal-libility is not confined to long-term forecasts. Short-term forecastshave also missed their marks. There is always a reason, in the instantcase it is inventory swings or fuel switching. Then, if we are not suf-ficiently humbled by those two reports we are reminded, again byQuincey, that even the reporting of actual demand has been wrong.So not only we do not know what demand is going to be, we do noteven know what is has been.

This exercise of reviewing past demand forecasts is then inevitablyfollowed by an effort by one of the speakers at humility. This is usu-

147

ally expressed immediately prior to his presentation of his own fore-cast of demand, done to several decimal places to convey somesense that he is accurate.

Having finished this exercise, which we went through yesterday,there is then inevitably a discussion of the supply side. And this usu-ally means a discussion of the role of OPEC in supplying this projecteddemand.

This generally consists of a consideration of whether that hard pressedgroup of producing countries will be able to restore discipline to oilmarkets, and whether it will be able to get the «cooperation» of non-OPEC producers. The discussion usually treats people who do not par-ticipate in the cartel somehow bad, because they do not «cooperate»in permitting OPEC to control the amount of oil hitting the market.

Everybody at meetings of this type has his own answer as to whatOPEC is going to do. Based on those answers we then adopt an «op-timistic» or «pessimistic» scenario. The language is instructive: the«optimists» are usually those who expect prices to rise, and the «pes-simists» are those who feel it will not. I have never understood thatclassification, but it is one we tend to use at conferences like this.

Some base their conclusions as to the probable levels of demandand supply on an appraisal of institutional forces. Max Wilkinson forexample, leans towards the view that perceptions have been jolted inoil markets and that the technology of conservation is now irre-versibly in place, he sees abundant opportunities for even greaterconservation. So, while recognizing that price matters, he wonders,how much? Bill Hogan thinks he has an answer: «quite a lot». Hisstudies, done both across countries and over time, show that lowprices will produce, with some time lag, growth in energy demand atleast as great as growth in GDP, and probably greater. And, in hisview, this growth is likely to produce, a rise in oil prices to somethinglike $50/b in 1986 dollars by the year 2000. Robert Mabro suspects,after admittedly cursory review, that competition from gas and coalwill moderate this increase.

Session IV148

Everyone concedes that the accuracy of any of these expectationsdepends in part on government policy. Mr. Fernández-Cuestapointed out that the Spanish government, for exampIe, has adoptedpolicies that cut the effect of the price on quantity in half, and RobertMabro supported the notion that the demand for oil is likely to growmore rapidly than the conventional wisdom. By the way, without theconventional wisdom, it would be very difficult to have meetings likethis because you would have nobody to rebut. So when we findourselves at a loss for something to say, we rebut the ever avalilableconventional wisdom.

So we are left, after this excursion down the by-ways of demand andsupply, with a rather vague and shakey consensus among econo-mists. I think that the consensus is that oil demand will rise and sotoo will prices. But we also have Tom Petrie’s warning to us, that wemay be underestimating supply elasticity and that higher demandmay call forth new discoveries rather than much higher prices. Andwe have Max Wilkinson’s warning that the dynamics of conservationtechnology, having been set in motion by high prices, will not bederailed by low prices.

So I guess you would have to say that this group agrees that de-mand will rise. There is a feeling that there is some evidence that itis already rising pretty rapidly. But we are uncertain as to the priceconsequences of that rise because we are uncertain about the supplyresponse.

All of these supply and demand forces, of course, play themselves outwithin a continually changing industry structure. As Jorge Segrellestold us about these changes, they are ongoing, not a matter of his-tory, and they will continue because of structural developments bothin oil markets and in securities markets. What we are seeing is take-overs of independent oil producers. We are seeing greater vertical in-tegration, with independents disappearing from the scene, notableamong them such North Sea players as Britoil. Gerry Malone, for ex-ample, tells us that oil is to be had in the traditional way —by explo-ration— for $8 a barrel, and in financial markets for roughly $3/b in

«Conclusions and Implications for Policy» 149

Britain. Tom Petrie verifies this, with a rough estimate of $4 as theacquisition costs in the U.S., which figure he feels explains the ratherlarge decline in the number of U.S. independents from 62 companiesto 20 in just a ten-year period (for companies with a capitalization ofover one hundred million).

I would like, now to summarize our combined wisdom on the supplyside, the demand side, and the institutional side. On the supply anddemand front, demand may rise or it may not. If it does, prices mayrise or they may not. If prices rise, that may be good for consumingcountries or it may not. On the structure side, things are a bit clearer.Independents are a dying breed because oil is chepaer to buy in theground than it is to find.

Now, what are the policy implications of all this? Here I am reminded,of the famous literary figure who, on her death bed, was approachedby a disciple who leaned over and said, «After a life of contemplationand thinking, what is the answer?». The dying writer looked up andresponded, «what is the question?».

I am trying to figure out what the question is in energy policy. I sup-pose there are two —at least I offer these for your consideration—based on a summary of what went on at this conference. On theprivate level, the question seems to be, how can the various playersin oil markets cope with the increased uncertainty? On the publiclevel it seems to be, what policies should consuming countriesadopt to reduce the vulnerability of their economies to increaseduncertainty? We know that we have much more difficulty predict-ing developments than we did before, for a variety of reasons. Oneis that we are dealing with a cartel. Since there is no way we canpredict what a cartel will be able to do by way of restricting output,we cannot predict prices. It is not a question of looking at basic de-mand and supply forces. We can draw a supply curve of the indus-try with some tolerable accuracy, but we cannot tell whether peo-ple are going to decide to produce seventeen million barrels ortwenty, that is, produce what would be an economic quantity in acompetitive market.

Session IV150

Another source of uncertainty stems from the fact that the macro-economic variables are moving much faster and with greater swingsthan ever before. I can remember being involved in a natural gaspipeline project, during the course of which there was great discus-sion about the enormous jump in interest rates, they had moved from6 1/4 to 6 3/4 percent during the planning period of the pipeline. Wedo not even notice movements of that magnitude any more.

We have been offered several possible solutions to these increased un-certainties at this conference. On the private level, two responses aresuggested to uncertainty. The first, described by Leslie Christian is theuse of futures markets and other hedging devices to reduce the risk ofshort-term price fluctuations. But we were told that there are majorelements of irrationality in these markets. We were also told that therise of future and forward markets has reduced refiners’ influence overprice, and that somehow this is encouraging the restructuring move-ment. Yet others, extol the virtues of hedging devices such as futuresand forward contracts, as the answer to uncertainty. I am not clearfrom our discussion whether the only way you can make a living inhedging devices is if there is volatility, and, if that is the case, whetherwe get the markets because of the volatility or the volatility because ofthe markets. This is an open question which I assume we will try tosolve next year, if we get together next year. However, it does seemclear that one of two approaches to coping with uncertainty is the useof a new kind of market, a market in financial instruments.

The second suggested solution to uncertainty is the restructuring ofthe industry to reduce market risk. Here the analytical basis of what wesaid, seems to me shakey. If a producer buys a refinery to assure mar-ket outlets, why is that investrnent likely to prove profitable if there isexcess capacity in the refining industry? We offered no clear answer.Why is it that if crude sales are inhibited by weak product markets,that is, the weakness in product markets is feeding back into crude oilmarkets, risk is reduced by vertical integration? It is not self-evident.

Bill Hogan wondered how it can pay for upstream players to buydownstream players and simultaneously for downstream players to


Session IV152

buy upstream players. How can both make sense? Hossein sug-gested that the driving force, at least for refiners, is the desire forsupply assurance, and he also suggested that integration can balanceprofit swings in the two ends of the businesses, that these may be,indeed, businesses with exactly counter-cyclical profit swings. There-fore, if you are in both, the profit swings will be moderated. Why, inthe long run, the average return on assets from the moderated profitswings would be different or greater than the average return fromthe fluctuating profits on either segment remains unclear. But perhapsmy uncertainty is a case of an economist putting too fine a point tothings for a businessman’s taste.

In any event, the two suggestions we had to cope with private uncer-tainty were: short-term hedging devices and long-term restructuring.

At the policy level, all is confusion, at least as to goals. Some suggestedthat low oil prices are not in the long-run interests of consumers, asthey would stimulate excessive demand and inhibit development ofsupplies. By contrast, implicit in Bill Hogan’s analysis is the suggestionthat high oil prices inhibit growth, create unemployment and inflation,and might not be in consuming countries’ interests.

Unable to agree on goals —are high or low prices in the public in-terest?— it is not surprising that we cannot agree on means. Bijan tellus, for example, that U.S. production may spurt for the next coupleof years as we concentrate on development drilling, but will thendrop, and that when U.S. reliance on imports reaches 50 % or more,there will be a policy reaction of some sort. This suggests that one ofAmerica’s policy goals is the avoidance of overdependerce on imports.

Hogan agrees that there will be a policy reaction. If there is, his pre-ferred reaction is to impose a tariff on oil imports. He points out thatsuch a tariff would have at least four virtues: reducing American oilconsumption, which presumably would benefit other consumingcountries; reducing the portion of U.S. consumption supplied by im-ports, thereby reducing vulnerability to supply interruptions and toprice hikes; encouraging domestic production; and beating OPEC to

the punch, if we impose a tariff, before OPEC raises prices, we keepthe money. The economic theory —the moral principle here— is thatwe would rather have the money than let OPEC have it.

This proposition meets very little favour at this conference. Hogan’scritics emphasize that there can be no energy independence, that re-liance on imports is inevitable. Their answer is not a tariff but diver-sity of supply sources, which Bijan advises us is most likely to happenin any event because the best deals are being cut in new countriesoutside of the OPEC ambit. One hopes that lots of dinosaurs had thegood sense to die in those countries, so that when the deals are cutthere will prove to be oil in those regions.

The second objection to a tariff, we are told, is that if a tax is to beused as a policy by the U.S., a gasoline tax would be preferable to acrude oil tariff. Max Wilkinson pointed out that U.S. gasoline taxesand prices are well below world levels, and that gasoline taxes arelazily collected. I think, too, that lurking beneath the attractiveness ofAmerican gasoline taxes to Europeans is a feeling that if Europeanmust suffer, so should Americans, who are seen by the non-Ameri-cans here as a bunch of wasteful twits who hop into their cars todrive everywhere, when they should instead take public transportationor walk. I invite those of you who think that to visit Los Angeles. Be-yond European agreement that Americans should raise their taxes, Ithink we produced little policy guidance. The international oilcratsamong us propose more studies. Fresh from their success in devel-oping policies that have kept European unemployment rates above10 per cent, they propose to study the Third World. The producersamong you, would solve the problem with higher prices, the con-sumers with higher taxes, but for countries other than their own.

There are two reasons for this disarray, which I consider to be in-evitable. I do not think, it is any failure of intelligence of will by ourconferees. One is that there is a basic incompatibility of interests. Weare considering enormous wealth transfers among nations, trulystaggering amounts of money. It is unlikely that people who see thisas a zero sum game are going to sit down and reach an agreement


on what is good for the world. What is good for some of the peoplehere, is really terrible for other people in this room. So the chancethat even the vaunted political skills of the Harvard’s Kennedy Schoolcan come up with a solution to this problem seems to me remote.Some people say that does not mean that we should stop looking,and since we look in wonderful places like Toledo, I have no objec-tion to continuing to seek a solution. But even if we continue to look,year after year, I doubt very much whether that basic issue can besolved. There is no number which is mutually advantageous to pro-ducers and consumers, just high enough to make profits satisfactoryand just low enough not please consumers.

Second, I think that whenever we look at the oil industry, analyticalrigor disappears, economists have a neat set of analytical tools. Butothers keep saying that these do not take account of «political con-siderations». «Political considerations» are the sort of open holedown which reason falls.

It would be helpful if we could separate economic and politicalconsiderations, in the following sequence. First, we should state theconclusions to which economic analysis impel us. Then, if that is thecase, we should make explicit only those conclusions are not ac-ceptable for a variety of political reasons. The reason may be thatpolitically we cannot impose an oil tariff in America, or the reasonmay be that politically Spain cannot accept liberalization inmediately,even though there would then be gasoline stations where consumerswant them, instead of where bureaucrats want them. Whatever thepolitical conclusion might be, the third step should be to compute thecost of this political decision. For example, to not want nuclear powerin America is a political decision we have reached or at least a fringehas managed to impose on society. That has a cost.

What we ought to do, I think, is see where economic analysis takesus, and then find out what the political constraints are; Sweden hasdecided to give up its nuclear plants, or we may decide to have un-leaded gasoline in Europe. Whatever the political decision, we haveto say, how much does that cost? What the economist contributes is

Session IV154

to make policy makers look at the cost of their decisions. By separatingthe economist’s from the politician’s roles, we impose an unpleasantdiscipline on both.

The economist would really like to make policy. So he presents hiseconomic conclusions as the «right» policy. The policy maker reallydoes not want to look at the cost, so he ignores the economist, andsays, «This is a political problem. I do not need you. I am going tosolve this as a political matter». And really what we need is both. Weneed the economist to tell the politician what the cost of his decisionsare so that he can decide if those costs are tolerable, if he thinks atall. That is perhaps the most important lesson that we can comeaway with from this meeting. It is, I recognize, rather esoteric: youwould rather come away with the firm conclusion that oil prices willbe $50 in 1986 dollars in the year 2000.

If that is the conclusion you prefer, and it really cheers your flighthome to know what oil prices will be, we offer as the final conclusionof the Seminar the range of $10-to-$50.

Thank you.

IRWIN M. STELZER

Irwin M. Steizer, Director of the Energy and Environmental Policy Center atHarvard University’s John F. Kennedy School of Gobernment, received hisBachelor and Master of Arts degrees from New York University, and his doc-torate in Economics from Cornell University. He founded National EconomicResearch Associates, Inc. (NERA) in 1961 and served as its President until afew years after its sale. He has also beer a Managing Director of RothschildInc., investment bankers.

Dr. Stelzer has served as a consultant to industry or a variety of pricing, cos-ting and policy problems, with emphasis on problems of regulated industriesand of those importantly affected by government policies.

He has testified as an expert before Congressional committees and thecourts, and advised governors and mayors on energy and telecommunica-


tions policy. Dr. Stelzer is American Economics and Financial correspondentfor The Sunday Times. He has served as Economic Editor of the Antitrust Bu-lletin, and is the author of Selected Antitrust Cases: landmark Decisions,now in its seventh edition, as well as articles for business and professionaljournals. His «Cable in America: The Revolution comes of Age» was widelydistributed in Britain.

His academic career has included teaching appointments at Cornell Univer-sity, the University of Connecticut and New York University.

Dr. Stelzer is a member of Phi Beta Kappa Asociates and serves on the Boardof Governing Trustees of the American Ballet Theatre.

Session IV156

CLOSSING SESSION

FINAL REMARKS

GUZMÁN SOLANA

It is difficult to add to the accurate resume made by Irwin Stelzer. Ishould like, however, to comment on the ideas put on the table,some of them based on my experience in a company like Repsol,rather than on theoretical analysis of the industry.

I think one of the charts that Thomas Petrie has shown us is veryrevealing, in the sense that if you analyze the trend of U.S. importswith time and compare this graph with the evolution of prices, whichwe have discussed in this seminar, and you superimpose them —youwill notice that the shape is more or less the same— although thereis a time lag of perhaps two or three years. Now speaking about thefuture, we should perhaps look at the trend in U.S. imports, as anadditional factor in forecasting the future trend of oil prices. I thinkmore detailed analysis may be useful at the next seminar.

Referring to other factors discussed here, I should like to underlinethree conclusions or considerations.

As to a price which is desirable for the industry, I think that a figureof between $20 and $25 per barrel is good for the industry in gen-eral. We recently discovered a field of medium size —150 millionbarrels of reserves— in the North Sea, and we have made calcula-tions for developing it. Taking into account an internal rate of returnof 10 %, which is not very high, we need oil prices to be around $15

157

per barrel. If you consider that at the same time that we are makingadditional exploration efforts in areas without success, I think a figureof around $20 per barrel, is the minimum to promote or act as an in-centive for investing in areas like the North Sea.

The second consideration, is the need for oil price stability expressedby the industry. At the same time, the general feeling in this seminarwas that this stability is very difficult to obtain. We have debatedhere the repercussions of this instability and we have come up withthe short and long term implications this involves.

We have spoken about short term hedging instruments. We havealso discussed integration, as a means of long term hedging. I shouldlike to add a new short term factor, and that is to improve operatingefficiency. In fact, companies are now looking at the oil bussines intwo different ways. The traditional way of thinking was that integra-tion is good because it is a natural form of hedging, generating con-fidence about the future; however, after 1973 companies began tothink in terms of each activity, which has to be supported by its ownprofitability. I think both approaches combined may help oil compa-nies cope with this instability in the future.

The third subject discussed, is that in the future we can expect a buy-ers’ market, so prices of crude oil will go up. Just to add somethingmore to the consensus, we are in the market, buying reserves, andour experience is that today, unless you consider a scenario of pricesin the range of $20 per barrel, in real 1988 terms, for the year 2000,it is very difficult to get anything from this market. So apparently, theindustry is thinking more or less like us in the sense that prices aregoing to go up in the future.

Well, having nothing more to add I should like to thank you all foryour contributions to the success of this seminar, which has beeneven more interesting than the last seminar held in Segovia. I hopeto see you all again next year.

Thank you.

Closing Session158

LIST OF PARTICIPANTS

159

Mr. Michel BergerReprésentant du Groupe auprés desCommunautés EuropéennesElf Aquitaine27, Avenue Brugmann1060-Bruxelles, Belgium

Mr. Pierre Antoine BernheimVice PresidentLazard Freres and Co.One Rockefeller PlazaNew York, NY 10020, U.S.A.

Professor Jean-Marie ChevalierUniversité de Paris-Nord5, Rue du Bourg-l´Abbe75003 Paris, France

Mr. Miguel Cruz GómezChairmanAserpetrolMaría de Molina, 3728006 Madrid, Spain

Mr. José Luis Díaz FernándezChairmanCampsaCapitán Haya, 4128020 Madrid, Spain

Mr. Oscar FanjulChairmanRepsol, S.A./I.N.H.Paseo de la Castellana, 8928046 Madrid, Spain

Mr. Nemesio Fernández-CuestaCommercial DirectorRepsol, S.A.Paseo de la Castellana, 8928046 Madrid, Spain

Mr. Bonifacio García-SiñerizMember of the BoardRepsol ExploraciónPez Volador, 228007 Madrid, Spain

Mr. Amalio GraíñoDirector of International TradeRepsol PetróleoJosé Abascal, 428003 Madrid, Spain

Ms. Paz García GordilloExecutive Chief of the Office of theGeneral Director for EnergyMinisterio de Industria y EnergíaPaseo de la Castellana, 16028046 Madrid, Spain

List of Participant160

Professor William W. HoganThornton Bradshaw Professor of PublicPolicy and ManagementJohn F. Kennedy School of GovernmentHarvard UniversityCambridge, MA 02138, U.S.A.

Mr. Clive I. JonesDeputy Director GeneralEnergy DirectorateCommission of European Communities200, Rue de la LoiB-1049 Brussels, Belgium

Mr. Ramón LeonatoPresidentClub Español del PetróleoMaría de Molina, 3728006 Madrid, Spain

Mr. George Quincy Lumsden, Jr.DirectorOffice of Oil Market DevelopmentInternational Energy Agency5 Rue André Pascal, Cedex 1675775 Paris, France

Professor Robert MabroDirectorOxford Institute for Energy Studies29 New Inn Hall StreetOxford, OXI 20X, England

Ms. Eija MalmivirtaExecutive Vice PresidentNeste OyKeilaniemiSF-02150 Espoo, Finland

Mr.Gerald MaloneDirector of European AffairsEnergy and Environmental Policy CenterHarvard University1, Cleveden GardensGlasgow GI20PV, England

Mr. Vicente MartíDirector of Planning and StudiesCampsaCapitán Haya, 4128020 Madrid, Spain

Mr. Bjarne MoeAssistant Director GeneralThe Norwegian Ministry of Petroleumand EnergyP.O. Box 8148Dep. 0033 Oslo 1, Norway

Mr. Asbjorn Mork LoverGeneral Manager Product Supplyand TradingStatoilP.O. Box 300Stavanger, Norway

Mr. Bijan Mossavar-RahmaniPresidentApache International, Inc.One United Bank Center1700 Lincoln StreetDenver, CO 80203, U.S.A.

Mr. Javier de la PeñaChairmanRepsol QuímicaJuan Bravo, 3B28006 Madrid, Spain

List of Participants 161

Mr. Víctor Pérez PitaGeneral director for EnergyMinisterio de Industria y EnergíaPaseo de la Castellana, 16028046 Madrid, Spain

Mr. Thomas A. PetrieManaging DirectorThe First Boston CorporationOne United Bank CenterSuite 4250Denver, CO 80203, U.S.A.

Mr. José del PozoGeneral Director of Logistics andCommercializationRepsol PetróleoJosé Abascal, 428003 Madrid, Spain

Mr. Juan Sancho RofPresidentRepsol PetróleoJosé Abascal, 428003 Madrid, Spain

Mr. Henry SantiagoDirector of International Energy TradeAnalysisOffice of International Affairs,1E-14U.S. Department of Energy1000 Independence Ave., S.W.Washington, D.C. 20585, U.S.A.

Mr. Jorge SegrellesDirector of International and ExternalRelationsRepsol, S.A.Paseo de la Castellana, 8928046 Madrid, Spain

Baron Didrik SnoyAdministrator-DirectorPetrofina52, Rue de l´Industrie1040 Brussels, Belgium

Mr. Guzmán SolanaVice ChairmanRepsol S.A./I.N.H.Paseo de la Castellana, 8928046 Madrid, Spain

Mr. Irwin M. StelzerDirectorEnergy and Environmental Policy CenterHarvard UniversityCambridge, MA 02138, U.S.A.

Dr. Hossein TahmassebiChief Economist and Director of MarketResearchCorporate Planning DepartmentAshland Oil, Inc.P.O. Box 391Ashland, KY 41114, U.S.A.

Mr. Peter del ValleGeneral ManagerEsso Española, S.A.Apartado 49328080 Madrid, Spain

Mr. Max WilkinsonEnergy Resources EditorFinancial TimesBrecken House10 Cannon StreetLondon EC4P 4BY, England

163

CONFERENCE COORDINATORS

Ms. Pilar Suárez-CarreñoPress Department ManagerRepsol, S.A.Paseo de la Castellana, 8928046 Madrid, Spain

Mr. Antonio Gomis SáezDeputy Director of InternationalRelationsRepsol, S.A.Paseo de la Castellana, 8928046 Madrid, Spain

164

FOR ADDITIONAL INFORMATION

SERVICIO DE PUBLICACIONES DIRECCIÓN CORPORATIVA DEFUNDACIÓN REPSOL YPF ASUNTOS INSTITUCIONALES Y

CORPORATIVOS REPSOL YPF

3B Juan Bravo 278 Paseo de la Castellana28006 Madrid, Spain 28046 Madrid, SpainTel.: (34) 913 489 352 Tel.: (34) 913 488 001Fax: (34) 913 489 370 Fax: (34) 913 482 821

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