A LETTER TO MY MOTHER-IN-LAW (PART ONE)

My wife asked me to write a letter to her mom explaining why I see the collapse of our economy, and country, as likely outcomes of the events that are taking place today. Of course, she was thinking of a short letter. These issues are just too large for that. I'm writing this in installments and thought that I might as well put them on the blog. I'll post them as they are completed. Tell me where I'm going wrong. I appreciate any help that I can get.

Dear Ann,

I know that you are probably tired of hearing Kathy and I talk about the need to prepare for the coming economic nightmare. You are watching the news, listening to your broker, talking to your friends. They tell you that we have bottomed and the recovery is beginning. They all have reasons to believe this, however, they are wrong. More than wrong, some are participating in a national deception, the purpose of which is twofold: 1) allow the politically connected, powerful banking and business interests to make as much money as possible from the destruction of the worlds economy and 2) control the reaction of the public as much as possible to allow more time for the government to put systems of control in place to manage the social unrest that is sure to follow the crash.

Realizing that I am just a carpenter, hardly an expert in economic or political affairs, I am going to try and spell out why I see an economic disaster in our near future, a disaster unlike anything seen before. My understanding of this comes from years of reading history, philosophy and current affairs. I make no claims as to any special skills in this regard our any gifts of a prophetic nature. My conclusions are based solely on my personal observations and the connections that I see between them.

Cheap Energy and Peak Oil

Cheap abundant oil is the lifeblood of our economy. Oil powers everything. It is either directly responsible for producing the energy that we use to do our normal daily tasks or it is absolutely vital in the support of the production of that energy.

As an example, nuclear power is incredibly efficient at producing electricity. Some say that if we started to bring new reactors on line we would be able to power the entire country without the use of oil, natural gas or coal. The problem with this rosy scenario is how, without cheap and abundant oil, would we build those reactors? Without oil, how could we run the heavy equipment, power the delivery trucks, fuel the cement plants, get the builders to the jobsite? Without oil, could we make the steel in sufficient quantities at a low enough price? Without oil, could we power the computers of the designers and engineers or build the infrastructure to support construction, the roads, rail lines and communication systems?

The answer to all of the above is that without oil, we can accomplish very little. Without cheap and abundant oil, we would not have electricity available to the masses, cars and trucks, modern trains, functional indoor plumbing systems, refrigerators, air conditioning or any of the thousands of other devices and systems that support modern life. Without oil, we would be living exactly as man had lived for the preceding 5000 years of recorded history. Small cities would house their citizens in conditions only slighted improved over the conditions of the majority of the people trying to eek out a subsistence living on family farms. The life expectancy of the average person would drop back to pre oil levels. Disease would return in all of its power because the only medical care will be from the local practitioner using the herbal remedies at hand. Without cheap oil, mankind would have made only marginal gains since the days of pharaoh.

Peak Oil Theory makes the claim that we have reached the top of a bell curve in oil production. From the top of the curve on, oil will become increasing difficult and more expensive to produce. This doesn’t mean that we are running out of oil. I have a customer that is retired from the oil business. He is a geologist and has worked all over the world searching for oil. He told me that the amount of oil in known reserves is vast. He said that geologists know where most of the oil is located. Some is readily accessible and some not. He said that the problems in accessing this oil are often not of a technical nature but rather of political will, political reality, legal restrictions and the cost of extraction.

Some of these barriers can be broken down by profit motivation. Last summer saw speculation drive the cost of a barrel of oil to nearly $150.00. My customer told me at the time that the price of oil should be at $30-$40 bbl, that there was no support for the prices that were being charged. It turned out that he was right. However, at the time that the prices were at their artificially high levels, an upswing in exploration and drilling occurred. Legal barriers to drilling were being challenged in places like ANWR. Pressure to get the oil quickly and cheaply began breaking down many of the existing roadblocks.

Then the economy collapsed under the weight of oil.

Our incredible dependence on oil to power every aspect of our lives forced so much of our wealth to be used just to keep the lights on, drive our cars and purchase the items that were absolutely necessary that we stopped buying everything else. The people that could only marginally afford their mortgages when things were going well started to default. Businesses began laying off people or closing, forcing more into untenable economic positions. This was the beginning of the end for financial institutions deemed “too big to fail”.

I think that it is safe to say that the era of cheap, abundant oil is over. Recently, oil prices have returned to near $70 bbl price levels. They don’t seem able to get much past this point due to the lack of demand in the marketplace. Some economists have theorized that $70 is the level beyond which the economy will not be able to survive. In other words, $70 is the tipping point, the place where the destructive downward spiral in the economy of last year will begin anew. They may be right.

It makes sense that if we were stretched to the breaking point last year and used nearly all of our wealth just to keep from drowning, the point at which our heads begin to go under will occur much more quickly due to exhaustion. We don’t have the financial strength left to withstand the punishing effects of higher fuel prices. This inability to absorb this is reflected in the price of fuel at the retail level. Every time the price goes up the lack of demand forces it back down.

If the price of oil cannot be forced up through artificial means to a level that supports exploration and production, neither will happen. It would seem that cheap oil and abundant oil are not possible to have at the same time. On the other hand, oil prices that support supply will most likely destroy the economy. We’ve created an energy Catch-22 from which I can see no relief.

The idea that oil will be priced at $20 bbl by the end of the year is not far fetched, if one believes price is a function of demand. If the current downturn deepens, the demand for oil will reach levels that have not been seen in decades. Not just in the developed world, either. China and India accounted for a large share of demand that helped to support last years run up in price. With the collapse of the American consumer economy these countries will have no market for their goods and the demand for fuel there will disappear.

If the demand diminishes and the price collapses, what happens to the world’s major suppliers of crude in the Middle East? Without the obscene transfer of wealth from the west and no resources with which to build diverse economies, they will revert to their normal tribal states. The means of production in the oil fields will be destroyed by Islamic fundamentalist groups and will never be rebuilt.

As for the rest of the oil producing nations, the lack of demand will force oil producers to drastically scale back production, taking off line a large percentage of their production capability. We will never, ever again see oil produced at the levels of the 20th century. This will change everything that we know.