The perils of forecasting

A Lex note yesterday, for those who missed it, looks at the WEO and praises the International Energy Agency’s data. But it adds:

Like many forecasts, though, it makes the mistake of extrapolating recent trends too freely. For example, the IEA expects global oil production to rise from last year’s 85m barrels to 105m by 2030 while acknowledging that about two-thirds of this will come from fields yet to be found or developed. But at what cost?

It adds:

Living with $300 crude is no more outlandish than suggesting a decade ago that $80 would be the new normal.

Energy markets, it says, have so many moving parts that long term forecasts are a mug’s game. Gregor made a similar point:

Let’s also recall that the forecasting record of both the IEA in Paris and the EIA in Washington has been abysmal this decade. The actual growth of global crude oil supply compared to their forecasts has been so far off the mark, that each agency probably shouldn’t have even bothered to produce forecasts.

We suspect retrospective analysis of other long-term forecasts would turn up a similarly poor record. It’s not just the recording of often-elusive oil field data, but the extrapolation into forecasts that is the great difference between the big energy forecasters and their critics, who are often addressing different questions, never mind coming to different conclusions. Are we talking about a medium-term (and potentially temporary) supply crunch, or a permanent one? It’s widely agreed we are in ‘the era of high oil prices’, but how fast will those prices continue to rise, and will it be a steady or an increasingly volatile trajectory, full of more oil shocks that harm the still rather fragile world economy?

Just to pick a few of the great unknowns that will affect energy prices: policy shifts to reduce CO2 emissions; technology (either for fossil fuel extraction or renewables); and of course, economic growth or recession.

But it’s this last point which has proved one of the most powerful determinants of energy prices; because energy prices and economic growth don’t have a one-way relationship; each impacts the other. Exactly how they affect each is where geologists and economists sometimes diverge (and economists themselves differ – we’ve had quite a few posts this year on the role of oil prices in this latest recession). It’s the interplay between demand, pricing, and recoverable reserves that is where a lot of the disagreement on forecasts comes from. James Hamilton’s great blog post from a few years back, ‘How to talk to an economist about peak oil‘ explains this in more detail.

Related links:

Did the US pressure the IEA over oil forecasts? (FT Energy Source, 10/11/09)
Post a question for Fatih Birol of the IEA (FT Energy Source)
Oil stat shock (FT Alphaville, 10/11/09)

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