High costs hit oil capacity expansion

Soaring costs are blocking a major expansion of global oil capacity despite a surge in investment over the past few years, says the International Monetary Fund (IMF).

The constraints, together with the weak US dollar and financial market turbulence, are keeping crude prices at record highs, said John Lipsky, the fund's first deputy managing director.

He told an international energy forum in Rome that he expected oil prices to slip slightly – but said they would remain as high as $95 in 2009. "In recent years capital expenditure in the oil sector has begun to rise more rapidly, as one would have expected given price developments," he said. "However ,research by IMF staff shows this has translated into only modest increases in capacity.

"Nominal oil investment grew by 60 per cent between 2002 and 2006 but in real terms investment remained unchanged over this period.

"What explains the sluggish real investment response? In short, investment has been constrained by a confluence of cyclical, technological, geological and policy factors. Turning first to cyclical factors, exploration and development costs have increased, reflecting in part sector-specific capacity constraints in oil services and other inputs after a 15 to 20-year period of low net investment and stagnating capacity."

He said general capacity constraints associated with the exceptionally strong global expansion and broad-based commodity boom of the past few years had added to cost pressures.

"Higher costs imply that less of the higher capital expenditure in current dollars translate into actual capacity additions."

Lipsky said other cost increases were related to technology and geology. He cited a report by the US National Petroleum Council that new oil fields were smaller in size and involved greater technological challenges, while the decline rates of existing fields in key regions might be higher than earlier estimated.

"This means development and exploration costs per barrel in new fields are higher in constant dollar terms.

"Market estimates suggest that average field exploration and development costs have doubled, from $5 (Dh18.36) a barrel in 2000 to $10 a barrel in 2007. These costs for marginal fields are now closer to $20 a barrel.

"Moreover, a greater share of overall investment goes into maintaining production in maturing fields and the share adding to overall capacity is smaller." Lipsky blamed financial factors for the surge in oil prices – mainly the decline in the dollar and global market disruptions.

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