Gregor Macdonald: What the End of Cheap Oil Means
Adam Taggart

On the heels of Chris' recent report clarifying the global net energy predicament, he and PeakProsperity.com contributing editor Gregor Macdonald sit down to talk in depth about the broken relationship between energy costs and economic growth.

For much of the twentieth century, the developed world saw a steady march upwards in wages and living standards, due primarily to huge quantities of cheap, high-yielding liquid hydrocarbon. As we find ourselves bumping along the plateau of Peak Oil's apex, suddenly we find that "growth" is a lot harder to come by.

Of course, if you follow the news today, this is not the story you are hearing. Talk of an energy bonanza and imminent energy independence (in the U.S.) are everywhere, thanks to gas fracking and tight oil production. What is missing from the headlines is the cost side of the equation and a blindness towards future demand. 

For certain, shale gas will be a boon for the U.S. and some other countries. But very little is transported these days by gas, and there are no mega-sized infrastructure projects underway to change that anytime soon. Extraction of new tight oil plays is increasing production, but not by enough to offset other field declines elsewhere in the world, and not at the prices we were used to over the past century. The era of cheap oil is over, and these higher permanent prices act as a boot on the throat of economic growth. Hence the mired global economy we have been experiencing in recent years.

Rather than fooling ourselves with fanciful "energy independence" pablum, we should be looking hard at what kind of future we want to have now that oil is no longer cheap. And we should be asking ourselves in regards to the remaining fossil fuels we're extracting: How can we put these non-renewable BTUs to their best use, before they become expensive, too?

I think the main conversation we are not having is that wages are very unlikely to ever return to a relationship to energy costs that would make the United States economy into a happy economic story once again. In other words, this whole idea that we will restore that unique relationship of high wages and low energy prices -- that is what we are not dealing with. So by telling ourselves the story that we are producing more energy, you can clearly see the cultural impulse there. The cultural impulse is there is to suggest "See? There is a chance, there is a chance we can get the energy cost down again and then there is a chance that that wages will come up again. That relationship got very skewed and kicked into a nasty bad place over the past decade. That is very much a way of thinking about what our economic story is, why we had the crisis, and why this supposed emergence from the crisis that we have been plodding our way through the past several years, why it feels so dis-satisfactory, why it feels so insufficient in many respects. 

This goes back to the Industrial Revolution. What caused a revolution in British wages? The appearance of coal in the British economy. Why is that? Because not only did you have human workers making stuff, but also, now you had coal helping you make stuff. Coal was the slave labor that you did not have to feed or shelter or clothe or house. And you could get coal to work for you and you could work for you, and you put it all together and it becomes high wages, and you get to pocket those high wages.

So this is the dream that we once enjoyed, here in the States with our cheap oil and our high wages. And since oil became less cheap, the wages have stagnated, and I just do not see how we are ever going to get back to that relationship again. Maybe we will talk about this; I do have some hope that we could stabilize the relationship in a future world, which is more weighted towards the power grid in which some manufacturing returns to the United States. But I think the main thing is – you asked the question, what is the main thing we are avoiding? We are avoiding the very painful prospect  – likelihood – that we will not be able to return to high wages, low prices, cheap energy.

As you point out, one of the cruel things that we left in the wake of our higher rate of growth and our cheap energy era and our high wage era was the debt. We left a tremendous amount of debt. Of course there is the public debt, but I really think what has been governing the economy in the post-crisis era has been the intractable nature of the private debt. We have both done work on charting the course of the private debt and I am sure we would agree that there has been some deleveraging that has occurred, but it is not nearly the amount of deleveraging that the media either thinks or wishes has occurred.

When you compare private debt levels to assets in the United States, yes, we are off the peak, but we are only back to 2006 levels. Most of the people I know were worried about debt levels in 2006. So to “deleverage” back to 2006 levels is not an achievement.

This promise of greater energy supply is obviously dangling out the prospect that somehow that will translate into cheaper prices and that the debt can be serviced and possible extinguished or deleveraged. But as we are finding the process is grindingly slow, and that is a big reason why the economy is grindingly slow and just does not seem to make much progress.

These things can work for a short period in the short term, and that is what we have been doing in the last five to seven years. We have been adding either expensive or marginal sources to the liquid fuel supply, as you know. This process can be thought of as one where the older more cheap oil is continually swapped out for the more expensive, unconventional, more expensive oil, and that makes for some sort of new risks when it comes to how the global economy may slow or speed up and what it may do to oil prices.

Because what I think we are going to find, especially in resource plays like the tight oil resource plays: if price goes below what it is costing these companies to extract this oil, it is actually going to be quite easy for these companies to simply stop drilling; to just stop adding additional wells. Because if you look at the actual mechanics by which wells are currently being added, they are added on a highly discretionary basis. They go in, they produce a lot of oil for a short period of time, and then they go into steep decline.

I think what people do not understand is that the Bakken is not like a traditional oil field where you are developing the whole field at one time; you are really just sticking little pin pricks into the topography of the western Dakotas. It is not like a tar sands operation, in which you sink all of the steel in the ground first over a five- to six-year engineering project and then you try to get paid back for the steel that you sunk in the ground. This is more of an inch-by-inch incremental project in the Bakken.

So what it looks to me is if price goes below sufficient levels – and I currently put that if price goes below $80-$75 a barrel for any length of time – we will just lose supply much more quickly. I just do not think the market or the economy or Wall Street has gotten its head around the fact that a good chunk of our supply now is ready to go offline at the moment that price drops. And that is probably why price has been so sustainably high, because the global futures market for oil realizes that oil that you see now costs a lot more so it is not going to willing to sell you oil two years from now at $70 or $75 a barrel. It knows that the only way that $70 or $75 a barrel oil is available two years from now is if we are back into a deep recession. I mean a deep recession.

Click the play button below to listen to Chris' interview with Gregor Macdonald (48m:43s):

Chris Martenson:  Welcome to another Peak Prosperity podcast, I am your host, Chris Martenson, and today I am speaking with a name familiar with PeakProsperity.com readers, Gregor Macdonald, who joins me to talk about energy, specifically net energy, what is left over after you have expended the effort to obtain it. And we are going to talk about a lot of the recent reports that have just been coming out from the IEA, the EIA, from BP, from CitiGroup, from all these groups saying that we have apparently unlocked a new energy resource and we are headed into a new age of energy abundance.

We really need to talk about that, because guess what – the devil is in the details. I think we both happen to believe that current data supports the view that the economic model based on ever-increasing quantities of fossil liquid fuels is coming to an end, whether we want it to or not. We are going to discuss the whys of that, the implications of it and what model or models are likely to replace it.

So Gregor, I am really glad to finally have you on as a podcast guest.

Gregor Macdonald:  Hey, it is great to talk with you from my home here in Portland, Oregon. As some of our readers may know, you and I used to be neighbors in Western Massachusetts, and I certainly miss many aspects of Western Massachusetts, but I just love being here in Portland. And besides, I have you holding down the fort there back in Western Mass anyway, so – good to talk with you today.

Chris Martenson:  I miss Portland, I lived there for three years of my life in the southwest district over near Lewis and Clark College; loved living there. You can grow anything there, and I loved that. As an early inept gardener, that was a great place to get started.

Gregor Macdonald:  It is a wonderful place. We have not started growing yet, but you get the bountifulness of local agriculture through all the local farmers’ markets here, so that has been quite a nice aspect of our life here since we arrived.

Chris Martenson:  I am jealous of that part of it.

Now, here we are in 2013. I would love you to give our listeners, many of whom have been reading your work on our site for some time now, just a little bit of a background on how you developed your expertise on the energy markets.

Gregor Macdonald:  Yes, so when I returned to the United States at the beginning of the last decade – 1999, 2000 – I started trading and investing for myself in the stock market, and I did the typical route where I used shares of common stock. I also used stock options, and I spent several years outside of the country at that point, both in London, England and in Wellington, New Zealand. I had returned with a fresh interest in currencies and different currencies, and also different cultural perspectives on value.

I guess through some of that international experience, I also go very interested in oil, because you may recall this was during the period of time when oil went into its all-time historic low. It was down around fourteen, fifteen dollars a barrel, and there were many declarations that oil would be cheap for a decade. There was the famous Economist cover, “just drowning in oil” I think was the famous cover, and when I returned to the States I was fascinated with the relationship with the dollar and oil – and that was all I knew, Chris. I just thought the dollar is so strong for a country that does not produce much oil and here is oil that is a miracle substance, which is so cheap. And of course, at that time everyone was in love with technology stocks, Intel, Juniper Network, and so forth.

So I started trading for my own account. And what I realized quickly, as every trader realized, all you are really doing is information arbitrage when you are trading. You are basically trying to gather just a little bit more knowledge for yourself than the market knows about, and trading out ahead of that, and seeing if you can exploit that knowledge. And I found that it was astonishingly easy to start to gather knowledge about energy and the energy sector because it was a sector that no one was interested in. I mean, everyone was very wrapped up in technology.

So as I moved into my time where I was trading and also beginning to write about the economy just for myself, not for any sort of publication, I began to realize there was this whole universe of information about global energy markets. You could get free data from governments about what global oil production was, and you could get all sorts of historical data about prices, and you could research companies and find out how much oil they were sitting on. And I just felt like I was bounding through a garden of delights of all this wonderful information. I would look at the prices and the markets, and I would think to myself, my gosh, very little of this is reflected in prices. So that was a very exciting time for me, that 2000 to 2005, 2006 period, because that is really when oil began to go through its price revolution. And everyone was baffled, thought it could not happen, thought it was the strangest thing they had ever seen in their life.

Oil at thirty dollars a barrel, what are you talking about? I remember seeing people come on Bloomberg Television and CNBC in 2003 and 2004 and all sort of old veteran analysts saying gosh, if oil ever got to forty dollars a barrel – which we do not think it will – the big companies will pump so much oil they will just knock oil back down to thirty or twenty five dollars a barrel. So it was really my international experience and then coming back to the States and taking an interest in what seemed like a boring, lifeless, uninteresting area that got me down the rabbit hole, if you will, of becoming an energy researcher.

There is more I could say about this, because what comes after this period is my discovery that there was even more data and more information out there that could be had for free, that people were not paying attention to. And I guess what surprises me today, Chris, is that even today, ten, twelve years later after this experience, there is still a lot of data and information out there that people are not using that could be useful. A lot of it is free; it can be difficult to access, but there continues to be a mismatch between what the media says about what is happening in energy or what the market says about what is happening with energy and what is in fact happening. So I am surprised that the information arbitrage opportunity still has not completely gone away.

Chris Martenson:  It is interesting hearing you say that. I remember back, too, when oil hit forty dollars a barrel, very famously – I think it was Greenspan at the time – said it is transiently just going to be at forty, meaning he thought it would just transiently stick at forty for a bit and then go back down again. It was the expectations of a wide range of people who were not looking at the base data the way you were, the way I was. The base data was clearly saying that there were huge new entrants on the demand side that supplies were becoming deeper, trickier, more remote, and less fruitful than prior discoveries. So there were a variety of things pushing on this story.

And Greenspan was proved to be right; oil did transient right through forty and never looked back and never touched it again. And here we are with world oil at $110 a barrel, and I will have to say that that is sending a pretty important price signal – to me, at least. It is just simply saying the cheap dot-com oil is over. And yet we have these extraordinary new sets of reports coming out.

I love that you mention in reference the dot-com pieces, because as I push through these reports, I am starting to get that uncomfortable feeling I had when I was reading about the dot-com stories in the heyday and also the housing bubble. There is a certain mentality that takes over, and it is dominated by seeing similar phraseology, similar straight-line ruler extrapolations of current trends forever into the future. A dropping of the guard, a lack of skepticism, the wholesale adoption of the most rosy articulations of the narrative.

And so this is in the IEA reports that came out, the EIA, CitiGroup, now most recently BP. They have all released these reports that just pick on one aspect of this, the tight oil – this is what people are calling shale oil, and we are more correctly going to start referring to it as tight oil to hopefully differentiate it from oil shale so we can avoid that confusion – this tight oil sits in a variety of rock structures; the Bakken is one example of that, Eagle Ford is another. All of these reports have just basically ramped up its production from here to somewhere between three and as high as six million barrels per day, in the case of the BP report, and then it just magically stays there as a permanent feature of the future. What are your views on this?

Gregor Macdonald:  Well, in the menu of logical fallacies, one of my favorites is the fallacy of composition, and that is, we all engage in a little fallacy of composition. We wake up in the morning, we stretch our arms, we get out, we look out the window of our own neighborhood and everything seems peaceful and harmonious, and we say well, if it is peaceful and harmonious on my little street here, it must be peaceful and harmonious everywhere. And of course that is not the case.

What has happened is that there is new oil production in the United States, and of course, the United States happens to be a country which is the center of global media. So we have a fallacy of composition story here, which is simply that because the United States has temporarily reversed a long, multi-decade decline in its own oil production by accessing new oil resources, that somehow we can build this story up to apply it to the rest of the world.

Let me just say two brief things about this. It was always known that the U.S. had other oil resources that were more expensive and could be extracted. California offshore oil has been there for a number of decades, ready to be extracted if anyone wanted to take the risk – the environmental risk – or undertake the costs. It is not shocking that we would development some new extraction techniques to get into this tight oil here in the United States.

What it has not changed, however, is the hole. It does not really knock the trajectory of global oil production much in any particular direction because we are really just looking at currently a worldwide increase of a little bit more than 1.5% of global oil production after being trapped around the ceiling since 2004, 2005. We have seen a slight increase of global oil production. 

But here is the funny thing, Chris: It is not because of United States oil. I mean, this is the cruel joke; the United States sits within non-OPEC production, and then OPEC has its production, and non-OPEC has its production. Yes, the United States has increased its oil production, but the rest of non-OPEC has continued to see declines. So when we look at the recent uptick in worldwide oil production over the last ten to twelve months, is it because of non-OPEC in this new oil coming out of the United States? No, it is not. It is because OPEC finally has managed to increase a little bit of its production. Many countries in non-OPEC continue to struggle just massively with oil declines in their production or just stagnation.

So again, this is a wonderful economic story for the people of North Dakota and other tight oil regions, but it has not changed the whole. So, fallacy of composition, media can push that story for as long as they can or until people figure this one out. There is one way for people to figure out the fallacy of composition, and that is the fact that the price of oil is not going down.

Chris Martenson:  There is that stubborn little factoid that sits out there, and even with this recent worldwide bump up in oil, it is fairly minor as I look at it. So the world since 2004 – if you use that as a reference point, or 2005 – bumping along in a ban between seventy-two and seventy six million barrels per day, it is about a 5% band. And that is with all of these recent advances in U.S. tight oil production that is with worldwide capital spending in 2012 being a little over $600 billion on new oil exploration and production projects.

It is an extraordinary rate of spend; it is the highest ever, of course, and when you are spending a little over a half trillion to basically nudge along at a 5% band, I think this should be sending warning signals to anybody who just looks at the date, even at that macro level. There are many details we could go into and take it all the way to the field-by-field basis, but when you are spending more than a half trillion to bump along in a band, what should we take from that?

Gregor Macdonald:  I think your recent essay shows that we have doubled the global spend on extraction and production – have I got that correct – in the past ten years?

Chris Martenson:  Yes.

Gregor Macdonald:  And then, of course, the oil price itself went through a price revolution in which you could say it really quadrupled. I think the right place to begin this is $25 a barrel, and we have now successfully repriced to an average of $100 a barrel. Many people said that repricing could never happen; they are now silent. Many people said that if it did happen it would be given back; they, too, have fallen silent on that prediction. What is clear is that the repricing not only took place but it has been maintained and kept; we are not going back to cheap oil.

So we have had this extraordinary price revolution in the commodity itself, we have had tremendous cost inflation, and for all of that we have maybe an extra one and a half percent of supply if you use seventy four million barrels a day, I think we are currently producing seventy-five and a half million barrels a day. We were trapped at that ceiling of seventy-four million a day for about seven years, and we have just poked our head above that, but again, this is recent poking above that level. So even to the layman it should be obvious that the nature of this resource known as oil has undergone a very dramatic phase transition and it is not a surprise.

We are a century into the oil age, and we are in the back half of global resources. The easy oil was extracted first, and that is always the case with any sort of natural resource. So this current state of media stories – even this week the release of the BP outlook, which again you and I talked about – is echoing this story of plenty. I just chuckle because even some of these glowing reports you get down in to the details and they say oh, by the way, as optimistic as we are about all these new resources that are coming online, there are really not going to change to trajectory of the existing declines from the existing fields. So within the body of some of these reports, you do get some refreshing sobriety, some acknowledgement that between now and 2020 what we end up net in terms of gains – we can be all excited about tight oil, but what do we wind up in terms of a net gain in global oil production? Maybe not much.

Chris Martenson:  It was interesting, also, in that report I wrote that all these recent forecasts – the BP one you are mentioning goes out to 2030 – and yes, we might get six million barrels per day coming out of tight oil if all goes according to plan. And then we have to hold that up again, the 4-5% decline rate in existing fields, which translates into roughly forty to fifty million barrels per day of lost production out of those between here and 2030. And now we just have to wave our thumbs around and go maybe six million on the plus side, we are offsetting that again against this forty, fifty million barrel decline on the other side.

And this is exactly where most, I think, I would say – rational predictors of the Peak Oil phase had been saying, like Colin Campbell was talking about this a long time ago – that you do not just hit a peak and fall off; the world is probably going to bump along a plateau. A lot of data is really consistent with the idea that we are bumping along a plateau. Yes, there is this extraordinarily stuff going on with new technologies and it is really quite amazing.

But the part I really want to talk to you about those is that the details are really where the story resides, and yet to get to the details you have to break the components apart and look at them. And as you and I have talked about in the past, they are actually – they being most of these major reports – are starting to lump things back together. There are two big buckets of that. The first one I want to talk about, because this one got the most airplay, is that the U.S. is going to surpass Saudi Arabia in oil output potentially by 2020. What do we have to believe –this involved lumping of sorts that I think we have to tease back apart – what is getting lumped in there?

Gregor Macdonald:  This is taking any sort of energy source that could vaguely be regarded as a liquid and throwing it into the same container and saying look what we have built here. So currently, while it is true that Saudi Arabia probably produces some natural gas liquids, really the best comparison on an energy basis when looking at these two global oil producers, the United States and Saudi Arabia, is just to look at the production of crude oil – fine, crude oil from conventional production, crude oil from unconventional production. But at least restrict the comparison to crude oil, because each barrel of crude oil has about 5.7 million BTU, you can think of that as roughly six gigajoules of energy, but each barrel of natural gas liquids only has two thirds of that amount in energy, call that four gigajoules of energy. So the United States has seen extraordinary growth in natural gas liquids.

This is known as “obfuscation by complexity” when you basically take many different types of substances or take many complex factors and lump them all together just to come up with some sort of headline number. And I think for the United States to “achieve” a headline of becoming a greater liquids producer than Saudi Arabia by 2020, you have to add up all our oil and you have to add up all the natural gas liquids, which I mentioned only have two thirds of the energy content, e-content.

And then you start throwing in things like biofuels. It is hard to evaluate the energy content of biofuels because, of course, they are really just energy inputs from other sources. But your original feedstock, which is generally corn, has so little energy content compared to a comparable unit of a fossil fuel that it is almost hard to compare. It is almost hard to see, it is almost a microscopic element of energy content, so it is quite silly or disingenuous or whatever you want to call it to lump all this together.

The bottom line, Chris, is the U.S. is not close now, nor is it likely to become Saudi Arabia in oil production. And again, that is fine. Add all the unconventional production; we do not have to accept that out if it is oil, it is oil, even if it costs more to extract it; just make that the comparison. Fortunately the public does not understand this complexity, so they get fed a story that is just composed of the headlines.

Chris Martenson:  It is startling to me that we have to then try to decompose these things, because the story of oil for me has always been a story of transportation fuels. That is why I personally care about oil, because we live in a global just-in-time society. Our economy, any economy, is highly dependent on transporting things from point A to point B, and if we could transport things from point A to point B with these natural plant gas liquids, which would be things like ethane and propane and butane, pentane, these are useful substances. And from a manufacturing or industrial standpoint, you can get as excited as you want to about those, because they are important feedstocks for plastics, fertilizers, and five hundred thousand consumer goods. But what they are not useful for is putting into fuel tanks and driving around with them.

So in this story, the United States still imports an extraordinary amount of transportation fuel, and then, yes, we have been drilling these wells and we have been getting a lot of these natural plant gas liquids, which are, again, nice. But to lump them in [together] is to have batteries and ice cream in your house and just say this is how many calories I have in my house. They are not really comparable forms of energy or sources of energy, so I have been confused by that lumping.

And so here it is important to say really what do we have? We have some important industrial feedstocks. That is a different story than saying we are about to surpass Saudi Arabia who principally just pumps out transportation liquid fuels in the form of all their different grades of petroleum they have. So that was my first confusion as to why we were suddenly comparing what felt to me a little bit like apples and oranges.

Gregor Macdonald:  Yes, and I think the American public must be feeling fairly confused at this point, because it has been treated to a storyline over the past 12 to 15 months about an increase in U.S. production and how bountiful and how wonderful it is, but this increase in production never translates into lower gasoline prices. Meanwhile, since the peak of 2005, 2006, 2007, of oil consumption here in the United States, Americans have taken off at least ten if not twelve and possibly even fourteen percent of their consumption of oil, and we have seen a similar decline in consumption of oil in Europe. This is the way the grim reaper of price basically frees up supply to send it to a different part of the world where the higher-priced oil can be afforded because we have been essentially operating in a zero sum game.

So this increased production of liquids in the United States and natural gas liquids has actually had some benefits in terms of our manufacturing. We continue to see some feel-good stories about either the return of manufacturing to the United States or the retention of existing manufacturing in the United States because we have cheap electricity and we have some good-priced chemical feedstocks for the chemical and other industrial activities. That is all good, but none of this has changed the trajectory of what is happening in U.S. automobile transportation, which of course is such a big part of American culture and the American economic story since WWI and that has been such a huge part of our identity and our economic growth and our consumption rates. This little bounty of tight oil is not really changing that at all.

Chris Martenson: The fallacy of composition is extended out; there is this remarkable dropping of context that I have seen where the idea that because the United States is going to produce more of its own oil that this somehow is isolated from the fact that the United States is still a global member of a global supply chain that exists out there. And even if we are only importing 10% of our oil at some point in the future – which we will never get to; we are at about 40% – if we can get that in half by 20% I think that would be a surprise. But even if we got there, we are still importing a fifth of our oil, and that oil of course is competed for on an international stage. And when we cast our eyes over to India and China in particular, their share, their desire to increase their consumption, has been just breathtaking over the past ten years. And not just for oil but for all forms of energy.

It is a startling sort of a trajectory, and I think we have to be willing to suspend a certain amount of skepticism, as it were, in order to have the energy story be as rosy as it has been painted going forward. We have to believe that China and India are going to curtail their consumption by some means other than price rationing. And we have to believe that the United States is going to be able to reinvigorate itself economically with lower energy consumption in the form of oil, which we do not have any real good data for that in the data series so far, but we have to believe that that is going to be true. And we have to believe that the recent experience in our first probes of tight oil is going to continue to be just as successful going forward. Meaning that we have not accidentally hit all the good sweet spots early and there is plenty of acreage and we do not run out of sweet spots or acreage or capital in this story.

So all of these things have to be true. So for a minute let us suspend all the disbeliefs you and I might have, even if all that is true. What are we not doing, as a nation, with this story, even if we have all this energy abundance out there? Should we not be thinking about other things like, someday oil and fossil fuels have to run out because they are finite resources? Is there some massive reconfiguration of our energy landscape or infrastructure, our operating business, that we would have to get to? I know you have written about this with respect to the electrical grid, but what is it that we are not having as a conversation with these stories about how abundant we seem to be?

Gregor Macdonald:  I think the main conversation we are not having, Chris, is that wages are very unlikely to ever return to a relationship to energy costs that would make the United States economy into a happy economic story once again. In other words, this whole idea that we will restore that unique relationship of high wages and low energy prices, that is what we are not dealing with. So by telling ourselves the story that we are producing more energy, you can clearly see the cultural impulse there. The cultural impulse is there is to suggest see, there is a chance, there is a chance we can get the energy cost down again and then there is a chance that that wages will come up again. That relationship got very skewed and kicked into a nasty bad place over the past decade. That is very much a way of thinking about what our economic story is, why we had the crisis, and why this supposed emergence from the crisis. That we have been plodding our way through the past several years, why it feels so dissatisfactory, why it feels so insufficient in many respects. So I think that is what we are not dealing with – we are not dealing with both variables because, as you and I know, widely available and cheap energy almost always appears with high wages, for obvious reasons.

This goes back to the Industrial Revolution. What caused a revolution in British wages? The appearance of coal in the British economy. Why is that? Because not only did you have human workers making stuff, but also, now you had coal helping you make stuff. Coal was the slave labor that you did not have to feed or shelter or clothe or house. And you could get coal to work for you and you could work for you, and you put it all together and it becomes high wages, and you get to pocket those high wages.

So this is the dream that we once enjoyed, here in the States with our cheap oil and our high wages. And since oil became less cheap, the wages have stagnated, and I just do not see how we are ever going to get back to that relationship again. Maybe we will talk about this; I do have some hope that we could stabilize the relationship in a future world, which is more weighted towards the power grid in which some manufacturing returns to the United States. But I think the main thing is – you asked the question, what is the main thing we are avoiding? We are avoiding the very painful prospect  – likelihood – that we will not be able to return to high wages, low prices, cheap energy.

Chris Martenson: There is a third piece in that, which for me is that around the type of economic and financial systems we put in play around those high wages/cheap energy landscape that you have articulated, and that is debts that are constantly increasing at really profound rates. Much faster than underlying economy taken as a total, when we take the articulation of the economy being GDP and we discount that a little bit because  there is a lot of financial trickery in there and raw statistical fudgery. So if we say the true productive economy is sitting under there, we are piling extraordinary amounts of debt on top of the productive economy, which itself is a derivative of cheap energy. So when I look at this, the articulation that I think is the subtext behind all of these reports trying to say listen, there is abundant energy and we can just get back to how things were, I totally understand why people would naturally and intuitively and thankfully flock to that message saying this means A, we do not have to change and B, we can get back to how things used to be and we want rising wages, easy lifestyles, we want all of that. If we can get back to that, I understand why naturally people would want to go there.

The risk however, being articulated in this podcast, is maybe we cannot, and we should at least start allowing a little bit of daylight into the conversation to say what if $90 a barrel oil is what we need in order to viably prosecute these shale plays? And $90 a barrel oil is not compatible with the old way of racking up debts faster and faster and everybody being able to share in those spoils. We would detect that in the form of higher wages generally across the middle class. That narrative is really breaking down, and so I see many of these reports as sort of last-gasp efforts to convince ourselves that we are not an aging starlet when we look in the mirror; we are actually still pretty attractive.

Gregor Macdonald:  Yes, as you point out, one of the cruel things that we left in the wake of our higher rate of growth and our cheap energy era and our high wage era was the debt. We left a tremendous amount of debt, and of course, there is the public debt. But I really think what has been governing the economy in the post-crisis era has been the intractable nature of the private debt, and I am sure we have both done work on charting the course of the private debt. I am sure we would agree that there has been some deleveraging that has occurred, but it is not nearly the amount of deleveraging that the media either thinks or wishes has occurred.

Really, when you compare private debt levels to assets in the United States, yes, we are off the peak, but we are only back to 2006 levels. I remember living in 2006 and did not know what it was like to live in 2007 or 2010 or 2012 and I was worried about debt levels in 2006 and most of the people I know were worried about debt levels in 2006. So to “deleverage” back to 2006 levels if you have been around for ten years, it is not an achievement.

Again, just as you are saying, this promise of greater energy supply is obviously dangling out the prospect that somehow that will translate into cheaper prices and that the debt can be serviced and possible extinguished or deleveraged. But as we are finding the process is grindingly slow, and because it is grindingly slow, that is a big reason why the economy is grindingly slow and just does not seem to make much progress.

Chris Martenson:  My prediction is, it will continue to struggle along, at least by using old tricks and conventional measures, because the net energy story is really the story here that needs to be told. Because it is not like the net energy story immediately shifts, but is it is a rather complicated interplay where two things are happening. We are depleting the guar fields and the other major conventional finds, which had extraordinary net energy returns, and into that mix of slowly diminishing conventional oil, we are starting to pump in more and more of this unconventional oil, like the tar sands. All you have to do is look at a tar sands operation to understand it is not remotely comparable to a conventional oil field, and we are getting net energy returns of three to one, five to one, depending on who is doing the counting of that.

And it is my supposition or my theory that we just cannot possibly enjoy the same dynamics and interplays between these other variables – which are ever-increasing debt levels at far faster rates than economic growth, with these uneven distributions across the global landscape in terms of who is producing, who is consuming goods, energy, all of those pieces, money – and start feeding in these lower net energy sources and expect things to work quite right. It would be a little bit like taking your Ferrari, which has a very special fuel blend it requires, and slowly starting to put a little bit of kerosene in with your highly refined, high-pentane mix. It just does not seem like it is going to work quite right.

Gregor Macdonald:  These things can work for a short period in the short term, and that is what we have been doing in the last five to seven years. We have been adding either expensive or marginal sources to the liquid fuel supply, as you know. This process can be thought of as one where the older more cheap oil is continually swapped out for the more expensive, unconventional, more expensive oil, and that makes for some sort of new risks when it comes to how the global economy may slow or speed up and what it may do to oil prices.

Because what I think we are going to find, especially in resource plays like the tight oil resource plays – some of my recent research and discussions with colleagues about the tight oil plays is, if price goes below what it is costing these companies to extract this oil. It is actually going to be quite easy for these companies to simply stop drilling, just stop adding additional wells. Because if you look at the actual mechanics by which wells are currently being added, they are added on a highly discretionary basis. They go in, they produce a lot of oil for a short period of time, and then they go into steep decline.

I think what people do not understand is that the Bakken is not like a traditional oil field where you are developing the whole field at one time; you are really just sticking little pin pricks into the topography of the western Dakotas. It is not like a tar sands operation, in which you sink all of the steel in the ground first over a five- to six-year engineering project and then you try to get paid back for the steel that you sunk in the ground. This is more of an inch-by-inch incremental project in the Bakken.

So what it looks to me, Chris, is if price goes below sufficient levels – and I currently put that if price goes below eighty to seventy five dollars a barrel for any length of time – we will just lose supply much more quickly. I just do not think the market or the economy or Wall Street has gotten its head around the fact that a good chunk of our supply now is ready to go offline at the moment that price drops. And that is probably why price has been so sustainably high, because the global futures makes for oil realizes that oil that you see now costs a lot more so it is not going to willing to sell you oil two years from now at $70 or $75 a barrel. It knows that the only way that $70 or $75 a barrel oil is available two years from now is if we are back into a deep recession. I mean a deep recession, not a mild recession as we have seen already; these little mild recession fluctuations do not drop the price of oil anymore either, do they.

Chris Martenson:  No, but I think when you are printing $85 billion a month out of one central bank out of many, it is hard to get prices to give you good signals. But low signals is certainly not something they are well suited for in that environment. 

As we look forward, then, as you look forward what do you see playing out in the oil space if the marginal cost of new production is supporting the price of oil and it would take a monster recession to dent that? Are you basically forecasting steady oil prices and rising, or where do you see this going?

Gregor Macdonald:  My general view is that every year that goes by now, the bottom for oil prices gets sturdier and sturdier, and so we have reached a point where the bottom for oil prices is very sturdy. And you would need at the very least a combination of an increase in supply with a pronounced drop-off in demand in order to get prices down below $80 a barrel just for six months. I do think that we are always at risk for that happening; if we go into recession, you could see that as the first response to entering a new recession. And again, this would just go on for six to nine months.

On the upside, there are some problems with getting oil to all-time new higher prices soon, because again, the economy remains either stressed or restrained, however you want to think about that. It is probably some combination of both, because the world is in energy transition and it is still in the process of trying to digest the oil shock which has occurred over the past decade. And it is going to take more years to digest that oil shock, and the economy is not ready to see oil reprice a second time as it did the first time, to, say, levels at $150 a barrel or $200 a barrel.

Global economy is not ready for that, so we are in this perma-restraint. I think the base case is we are restrained, and we are stressed, and we are plodding along incrementally in the economy, and the downside risk is limited and the upside risk is limited, barring a new economic shock which sends the global economy downward. When the global economy would be ready to reprice oil to a much higher price, we would have to somehow go back into some higher rate of growth, which I just do not see is possible right now, as you and I have discussed – too much debt levels. Even this transition to the global power grid, which I have been writing about, it, is encouraging, but it is not the kind of thing that gives you that fast-rate economy.

I have said this many times, and I know you agree with this, Chris, that the Oil Age, that Liquid BTU Age, that was the sexy, fast economy age that is what gives you that hyper economy. Not just a robust, strong economy, but just a really fast-moving economy. Transitioning to the power grid is sustainable but just does not give you the kinds of abilities to accelerate and have big high rates of growth that the world enjoyed in the last century.

Chris Martenson:  Interesting. So restrained and stressed, it sounds like we are stuck in a band for a period of time until something else comes along. For a while, I thought the international community would have to recognize Peak Oil as a real thing. Of course, it’s extraordinary talk lately in the press that the theory of Peak Oil is dead and all sorts of other crazy talk as if marginal increases in supply somehow got you around the idea of depletion of a finite resource. I never understood how you could just depose those, but there they are fully juxtaposed in modern press. Do you see a point in time when the international community will say hey, wait a minute, this is real, depletion is an actual fact of life and we are now going to have to figure out how to manage this! Is that an open conversation you ever think we are having? Because we already know governments and militaries have had this conversation, but as a culture, nationally, globally, do we get there?

Gregor Macdonald:  We are already failing at having the conversation about slow growth. Rob Arnott, who is an institutional investor in southern California, Jeremy Grantham, another institutional investor, they are talking about a decade of 1% growth. That message has been treated with hostility, with disdain, with haughty dismissal, has not been laughed at, but people are angry about it. Robert Gordon at Northwestern University looking at several hundred years of industrial revolution and growth in the West, again, not happily received.

So when you ask me, will the culture accept Peak Oil? I think the culture – maybe its intuitive powers – may be more prescient and more spot-on than we might give it credit for. I think the culture absolutely understands that Peak Oil equals either the end of fast growth or the end of growth or the beginning of a stage of sluggish stagnant growth, and I think the culture knows this grudgingly but just does not want to know it consciously, and that would be the psychological therapeutic interpretation.

So it is going to be ready to accept both of these concepts at the same time, when it is ready and we see some encouragement that there is some more marginal acceptance of these things, Chris. I have spent a lot of time on the Internet over the last decade, and what I see now in the comment sections of mainstream publications, the Wall Street Journal, and the New York Times, people have never heard of – they understand that we have probably moved into an era of slow growth, that it is probably because oil is no longer cheap. Yes, there are new sources of energy supply; yes, we will use those new sources of energy supply; but they just will not give us the price and power type of combination that oil gave us, and that is pretty obviously what that spells for the long-run growth rate of the economy.

Chris Martenson:  From your lips to the rest of the world’s ears. I note that the finance world has not quite gotten its pricing ideas around slow growth and what that would really entail. We are still pricing our assets as if rapid resumption of high growth is in the cards, and if it is not, that is where I think we will see some fairly significant repricing events as we go forward.

So with that – I think you just did a great articulation and summary before – so we are out of time and I am going to close with that. But Gregor, this has been just wonderful. Thank you so much for your time today.

Gregor Macdonald:  It was great to chat with you, Chris, and I will speak with you soon.

Chris Martenson:  Fantastic. I sure hope so.

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