On the demand side, the growth in consumption has been slowing—for several reasons. First, much of the developed world is now seeing the payoff from investment in alternatives like natural gas and renewables.
Consumption has also been dampened by widespread improvements in fuel efficiency in houses, cars, commercial buildings, airplanes, industrial equipment—you name it. Those investments in efficiency were driven by high fuel costs.
Gasoline consumption in the U.S., for example, peaked in the summer of 2007 and began falling as car buyers switched to higher-mileage cars.
More recently, the growth in demand has been winding down as the global economy—with the exception of the U.S.—continues to slow down.
On the supply side, meanwhile, U.S. producers have come on strong with major new supplies that no one expected. After declining for decades, U.S. producers of so called tight oil—long thought to be too expensive to produce—ramped up new technologies like horizontal drilling to boost output. Last year, the U.S. produced 14 million barrels per day, more than Saudi Arabia or Russia, according to the EIA data.
But what happened to OPEC? Doesn't it control oil prices?
OPEC's capacity to "set" global prices was always limited. Even in its heyday, the cartel had trouble agreeing on production cutbacks. But by cutting production, OPEC "swing producer" Saudi Arabia maintained a fairly effective floor on prices for many years.
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But the Saudis now appear to have a different strategy for regaining control of the oil market. Saudi oil is among the cheapest to produce, so by letting prices crash, they're apparently hoping to restrict supplies by putting higher-cost producers out of business.
Is the plan working?
It may be. After holding steady, the number of U.S. oil rigs in operation began falling last month, and several major Western oil producers announced plans to cut back on drilling and exploration projects. That may be why oil prices bounced up a bit in the last few weeks.
So does that mean oil prices are going back to where they came from, above $100 a barrel?
For that to happen, supplies would have to tighten up quickly. In the short run, that doesn't appear to be happening, according to oil analysts at Petroleum Intelligence Weekly. Overproduction has created a large stockpile of unsold oil that will continue to weigh on prices even as some high-cost production is shut down.
"The question here is whether the market will run out of storage space before the delayed reaction from non-OPEC producers succeeds in slowing global supply," the analysts wrote in a recent report.
The analysts said the Saudis new ploy has left the global oil market in "uncharted territory." A lot depends on just how many producers cut back. Many countries that depend heavily on oil revenues, for example, may continue to produce at below cost just to keep the money flowing. The PIW analysts expect non-OPEC production will continue to grow by 1.16 million barrels per day—while demand rises by only 800,000 barrels a day. That's hardly a formula for higher prices.