2006 Speech

Oil Minister address to CERA’s fourth annual global oil summit
Minister of Petroleum and Mineral Resources Ali Al-Naimi gave the following address titled “A Roadmap to the Energy Future: Saudi Arabia’s Perspective” at the fourth annual conference of the Cambridge Energy Research Associates (CERA) in Houston, Texas on February 7, 2006.

Ladies and Gentlemen: I’m delighted to be here in Houston, the world’s energy capital. I would like to express my appreciation to CERA and Dan Yergin for inviting me to take part in this special occasion. My friend Dan is a great historian of the petroleum industry and an outstanding visionary when it comes to the future of energy.

Ladies and Gentlemen: There is much talk these days about roadmaps. In the energy industry, the great uncertainty and risk we face as consumers and producers are generating talk of the need for both energy supply and demand roadmaps. Understandably, there has been great interest in Saudi. Arabia’s own roadmap, specifically our plans for adding capacity in both the upstream and the downstream. In light of this, I would like to share with you Saudi Arabia’s views about the energy future and the roadmap that outlines the journey on which we have embarked.

As we all know from personal experience, roadmaps are invaluable tools for getting us from where we currently are to where we want to go. As the saying goes, “Whoever travels without a guide needs 200 years for a two-day journey.”

Unfortunately for all of us, our energy future is not as well-defined or as clearly laid out as the maps that you can buy at your local gas station. The roadmap to our energy future is dynamic and evolving. We know that change is inevitable, but we are unsure of its pace. Challenges will arise and require adjustments along the way. Unforeseen events could create roadblocks requiring temporary detours.

I want to begin by telling you what you won’t see in our roadmap: a forecast of oil prices. Predicting oil prices in a world of imperfect information is merely speculation. Past experience has repeatedly shown us that our ability to predict accurately the movement of oil prices is extremely limited and inconsistent. The fact is, none of us knows what the price of oil will be next month, next year or 10 years hence.

Oil prices are the product of the complex interaction of numerous forces and the random events that operate daily in international oil markets. Our comprehension of these forces and how they affect prices is limited by lack of timely information and by incomplete understanding of the processes at work. The task is made all the more difficult by our inability to predict the unpredictable: those seemingly random, political, economic and natural events that can turn the status quo on its head.

Instead of trying to guess where prices are headed, let us look at those forces that will shape the future of our industry. Furthering our understanding of these forces and their implications increases our knowledge of the road ahead.

Let me first talk about where we currently are as an industry. Then I will offer my thoughts on where we are going, and the challenges along the way.

Ours is an industry which has been blessed with an abundant and readily accessible resource that can be produced in large quantities at relatively low costs. It is therefore not surprising that we have operated for much of our history in an environment of abundance, where too much supply was chasing too little demand.

As a result, the oil industry, more often than not, has faced the problem of managing excess capacity in the supply system. Today, we face a different environment, one where there are a myriad of constraints on supply. Those constraints are the product of the cyclical nature of investment patterns in the oil industry and the changing cost structure of oil supplies.

In the early days of the industry, chaos, was more often than not, the rule of the day. New oil discoveries were plentiful as wildcatters, drawn by the prospects for instant wealth, rushed to cash in on the new “black gold.” In this get-rich-quick environment, there was little thought given to the limits of the resource base and to the sustainability of prevailing practices. Wells were drilled with impunity, without consideration for sound reservoir management The guiding force was short-term gain. Many fields were damaged and their long-term potential compromised.

The watershed event was the discovery and development of the huge East Texas oil field in the early 1930s. Unrestricted production from this giant caused world oil prices to plummet and created chaos in the oil industry. A coalition of oilmen, scientists and public officials recognized that it was imperative to halt this self-destructive behavior.

After a protracted political struggle, the Texas Railroad Commission was given the authority to pro-rate oil and gas production in the State of Texas, thereby restoring order to the industry. By limiting the production from each well in Texas, the Commission succeeded in supporting prices and conserving the state’s valuable resource.

Fast forward to the postwar period and we see that the experiences of the early days of the US industry were being played out on the world stage. The giant oil finds of the 1950s and 1960s were no longer in the US, but primarily in the Middle East and Africa. But the results were similar to the US experience. Oil was plentiful and prices were depressed. There was no incentive for conservation and efficiency, a fact that would have a profound impact on the development of the post-World War II economic infrastructure.

In this environment, oil use and the industry grew by leaps and bounds. The problem was that this rapid expansion of the industry, like those early days in Texas, was built upon an unsustainable price that did not reflect the true long-term value of a depleting resource.

But unlike in Texas, there was no global Railroad Commission to step in to help conserve this valuable resource. That role fell to the members of OPEC, who assumed stewardship of their own petroleum resources in the 1960s and 1970s, and in doing so, gained control of a large portion of the world’s reserves.

By the end of the 1960s it was becoming apparent that the low price environment of the 1950s and 1 960s was no longer sustainable. Demand was rising rapidly and spare crude oil production capacity was quickly diminishing. Pressure began to grow for prices to rise. From OPEC’s perspective, the longer prices remained “artificially” low the greater the waste of the resource base.

The market was clear: Things could not continue on as they were. Higher prices were needed to encourage conservation and efficiency and to spur the development of new supply. Without such an adjustment, the oil market was headed for a so-called “train wreck.”

The adjustment process in the early 1980s was both rapid and painful for the oil industry. Demand fell as inefficiency and waste were wrung out of the system. At the same time, higher prices encouraged the industry to bring to market previously undeveloped crude oil reserves.

Unfortunately, the adjustment process brought on by higher prices was not precise and the pendulum swung back toward oversupply. With demand contracting and supply rising, the oil industry’s ability and desire to provide the market with refmed products far exceeded what consumers actually wanted. ‘The only way balance could be restored was through growth in demand and/or capacity reduction. There was no quick solution. In fact, it took almost 20 years. But spare capacity has now been removed from the system. So much so, that we can no longer accommodate a significant increase in demand without major new investments.

Now I would like to turn to the future and share my thoughts on where we as an industry are headed.

Some would say that the outlook for the oil industry is quite favorable: Prices are high, demand is growing, capacity across the supply chain is tight, and there appears to be no serious challenge to oil’s role as the dominant transportation fuel.

Current conditions are positive, if one’s perspective is merely short-term. A healthy long-term market is one where demand and supply are in balance and there is sufficient spare capacity to ensure the system can handle’ unexpected surges in demand or disruptions to supply smoothly and without sharp price spikes. In my opinion, the current tight capacity conditions are not conducive to this outcome. In the current environment, market volatility is exacerbated. The lack of global spare capacity magnifies the price impact of relatively minor supply disruptions or demand surges.

A healthy oil market in balance is one where prices benefit both consumers and producers. It is imperative that prices be high enough to provide sufficient return to producers, but not so high that they harm economic growth. When oil prices are too high or too low they become unsustainable. Oil prices should always provide an incentive to conserve and to use this valuable resource efficiently.

The question facing the oil industry today is: Can it achieve a balanced market that both ensures a bright future for the industry while at the same time fulfilling the aspirations of the world’s people? I’m convinced the answer is “Yes,” because the two go hand in hand.

We need each other. I believe the future of our industry is inextricably tied to mankind’s aspirations for a better way of life. Without this, our industry stagnates. In turn, I believe that the future economic well-being of the world’s people requires an oil industry that is vibrant with the capability of delivering the most cost-effective energy source known to mankind.

We in the oil industry can and will provide the safe and clean energy products required to achieve these aspirations. But it will not happen without skill, effort and some good old fashioned entrepreneurial risk-taking. There is no denying that there are significant risks on both sides of the equation, demand and supply.

I will now take a closer look at the major risks and hurdles that we are likely to face as we move forward. I will first discuss demand and then supply.

On the demand side of the equation, the primary reason for optimism is the underlying long-term trend growth in the world economy. Aided and enhanced by globalization, experts expect three simple factors: population growth, productivity gains and the desire for a better life to continue to propel the world economic expansion in the coming years.

A growing world economy is good for business. In fact, experts project rising economic activity to significantly boost oil demand in the coming years. But a crucial question is “By how much?” On this point the experts disagree, in part, because of their differing assumptions about the strength of the economic expansion and the rate of efficiency gains in energy use and the role of alternative fuels.

At this time, oil appears to be well-positioned to capture its fair share of any increase in world energy demand. Given current and anticipated technologies it appears highly likely that oil will remain the fuel of choice in the transportation sector for many decades to come.

While merely knowing that oil is going to remain important in the energy mix is crucial, and I might add gratifying, it is not enough for an industry with massive capital requirements. Projections of future demand are not merely number exercises, they are critical to our business. We in the oil industry face the prospect of undertaking long lead time mega-projects requiring massive commitments of capital with long payback periods. There is little room for error when one is dealing with projects on such a scale.

A healthy oil industry will require that the growth in supply roughly matches the growth in demand, not only in the aggregate, but also in terms of specific products. Our knowledge of demand and its potential growth is probably the weakest link in our efforts to understand the future. The root of the problem is the inadequacy of existing data collection and analysis in much of the world. Good data is crucial for developing a baseline for projecting the future. In addition, our ability to know and predict the drivers of oil demand growth in many countries is weak at best.

We believe better demand data and analytical capabilities are crucial to a smooth transition to the future. As I said previously, the industry is being asked to commit huge amounts of capital to meet the future energy needs of the world’s people. Unfortunately, we often are forced to do so with inaccurate or missing data on demand. I therefore wholeheartedly support efforts by consuming countries to develop energy demand roadmaps. The development of these roadmaps would help us all prepare for the future.

To this point, my focus has been on the quantity of demand, but there is another aspect of demand, what I will call the quality of demand. It is just as crucial a driver of investment decisions as quantity. By every account, the demand for clean energy products will continue to rise in the coming years. We in the oil industry are strong supporters of a clean environment and we are investing large sums in research to make sure that our products meet the highest environmental standards.

However, we need to provide these products to consumers at reasonable costs so that they are both economically and environmentally friendly. To do this, the industry requires certainty and rationality with regard to environmental mandates and product specifications. Constantly changing environmental standards or allowing a proliferation of product specifications will undermine industry efforts to provide products that are the most economically and environmentally beneficial to consumers

More broadly speaking, I believe that we should not impoverish people in the name of a cleaner environment. There is an economic cost associated with improving the environment that must be borne by consumers. We must always strive to achieve our goals in a manner that is good for both the environment and the economic well-being of the world’s population. Lowering living standards or limiting peoples’ ability to rise out of poverty in order to improve the environment trades one potential health hazard for another.

This is exactly what we would be doing by mandating, as some propose, that consumers forego using oil for some less efficient and more costly alternative that under normal circumstances could not meet the test of the market place. A more sensible approach is to improve the products that we use and the way we use them. That’s why we in Saudi Arabia, for example, are supporting efforts to research and develop carbon sequestration techniques and processes. We believe this is a superior approach because it can e effective in reducing.  C02 concentrations in the atmosphere at substantially lower cost than would be required by a radical non-market-based approach like moving away from the use of hydrocarbons.

We should also recognize that consuming government policies aimed at reducing oil demand create another element of uncertainty for producers This added risk is detrimental to timely investment decisions.

Finally, before I turn to the supply, I would like to address one other demand uncertainty which lurks in the background. This uncertainty is technological innovation. It is potentially the most disruptive force we face. The risk is all the greater due to its unpredictability.

The one thing we can be certain of is that humans will continue to innovate and create. It is in our nature. The potential impact on energy demand, on the fuels we use and how we use them is beyond compare. I am certain that one day we will innovate ourselves right out of our current hydrocarbon-based energy model. Today we use hydrocarbons, tomorrow who knows? The difficulty for the oil industry is that we cannot predict when and how fast the transition will occur. Currently, we do not see anything on the immediate horizon, but the potential for a major technological upheaval is always there.

Even if the transition is still a long way off, we can expect technological innovations to continue to improve the efficiency of our energy use, making a valuable contribution to meeting our future energy needs. Governments can make a positive contribution to our energy future by promoting energy efficiency, not through the tax code, but by investing in research and development of new technologies.

Now I want to turn our attention to the outlook for energy and oil supplies. There are the doubters out there who say that oil production is past its peak and that the industry will not be able to keep pace with the increases in demand.

As I told the delegates at the recent World Petroleum Congress in South Africa, what we face is a deliverability problem, not a problem of availability. Deliverability is the capacity of the oil industry to develop, produce, refine, transport and deliver to consumers the energy they require in their daily lives. This is primarily an investment issue, whereas availability is a resource issue.

With regard to availability of crude reserves, there is plenty of conventional oil left to be found and produced. My assessment is based on a careful analysis of USGS resource estimates and a conservative assumption about the likely positive impact of technological innovation and prices on finding and recovery rates. The future looks even brighter when one considers the vast quantities of unconventional oil reserves that exist.

The power of technology is sometimes not given proper consideration. Let me offer a simple example which has great significance. Two months ago, I was in the Divided Zone between Saudi Arabia and Kuwait, witnessing a demonstration of an experimental method to extract more oil from heavy petroleum fields. This process is called “steam injection.” It is expected to increase the recovery rate of heavy oil fields from about 6 percent to more than 40 percent. This represents the kind of innovation that holds great promise for meeting the world’s energy needs.

Now I will turn my focus to Saudi Arabia and our plans for the future. Our overriding objective in the future is to continue to be a source of stability for world energy markets. To this end, we in the Kingdom are addressing the problem of deliverability head on. We are doing this by committing an unprecedented level of resources to projects aimed at increasing upstream and down stream capacity.

In the upstream, Saudi Arabia is undertaking a very ambitious program to increase output capacity. Our plan for the next four years is to increase gradually our production capacity from the current level of 11 million barrels a day to 12.5 million. As a first step, we are currently bringing online an additional 300 thousand barrels per day of light crude from the Haradh field.

In the downstream, Saudi Arabia is also doing its part to ease the refining capacity bottleneck by investing locally and internationally. We are planning to build two new grassroots joint venture export refineries -- one in Jubail on the Kingdom’s east coast and the other in Yanbu on the west coast. Each of these facilities will have a 400 thousand bpd capacity. We will also be expanding our Ras Tanura refinery, and are studying the possibility of transforming it into an integrated refining and petrochemical complex.

We have already embarked on a similar expansion at our west-coast Rabigh Refinery, in partnership with Sumitomo Chemical in a $9 billion program to transform the existing facility into one of the world’s largest refining and petrochemical complexes. Upon completion in 2008, this refinery will be able to produce fuels that meet European and US market specifications.

In addition, we are upgrading our existing Yanbu refinery to increase its complexity and boost capacity by 100 thousand bpd.  As is the case with other refineries, we are also looking at petrochemical integration plans for that site.

Our international downstream investments will also be substantial. For example, here in the US, Motiva is looking at expanding one of its Gulf Coast refineries by up to 300 thousand bpd.

Our plans are even more ambitious in Asia. In China, we are partnering with ExxonMobil and Sinopec to expand an existing refinery in China’s Fujian Province, and to add petrochemical facilities to the complex. We are also working with Sinopec to study the possibility of partnering in a grassroots refinery in Qingdao, Shandong province.

Our plans also include the possibility of building a new grassroots refinery in South Korea that would give us the ability to supply additional refined products to the Korean market and to fast- growing markets like China.

Taken together, these projects mean that over the next five years, we will be boosting our total refining capacity by almost 50 percent, to some six million bid.

As you can see, Saudi Arabia’s roadmap is an ambitious one. I am convinced that the investments we have and will undertake are crucial to future oil market stability.

Finally, let me say, the challenges we face as an industry are significant, but by no means insurmountable.  Our current limitations can be traced back to the period in the 1980s and 1990s when an oversupplied market provided inadequate incentives for continued investment in the global energy infrastructure. The market’s lack of vision has returned to haunt us. The challenges of the future are primarily an investment problem, not an oil resource availability issue. Given adequate levels of investment and continued technological innovation there is every reason to believe that the future of our industry is bright.

We in Saudi Arabia are committed to achieving a well-supplied and stable oil market. However, the challenge is bigger than Saudi Arabia alone.

In today’s global economy, there is no denying our interdependence. We no longer have the option to go it alone or to let the other guy solve the problem. We will all need to contribute to the success of our energy future. I am confident that producers and consumers will step forward and rise to the challenges ahead. Together, we can achieve a stable and secure oil market that fulfills the aspirations of the world’s people for a better way of life.

Thank you, ladies and gentlemen.