in 1983, it needed a physical delivery point. Cushing , its boom days long gone, but with its network of pipelines and tank farms and blessed by its central location, was the obvious answer. As much as 1.1 million barrels per day passes in and out of Cushing—a great deal of oil in absolute terms, but equivalent to only about 6 percent of total U.S. oil consumption. That oil is the physical commodity that provides the “objective correlative” to the “paper” barrels and “electronic” barrels traded around the world.
A couple of other types of crudes are also used as markers, most notably Brent based on North Sea oil. Notwithstanding, prices for a good deal of the world’s crude oil are set against the benchmark of the WTI oil—also known as domestic sweet—sitting in those tanks in Cushing, making what is today a quiet little Oklahoma town, its fever long gone, one of the hubs for the world economy. But Cushing’s sedateness would stand in increasing contrast to the growing clamor and controversy that would be set off by the ascending price of oil in the global market. And what a clamor and controversy it was.
THE SURGE
The remarkable ascent of oil prices that began in 2004 ignited a furious argument as to whether the great surge was the result of supply and demand or of expectations and financial markets. The right answer is all of the above. The forces of supply and demand were very powerful. But over time they were amplified by the financial markets, embodying the new dynamics of oil.
The twenty-first century brought a profound reshaping of the oil industry—the “globalization of demand”—that reflected the reordering of the world economy. For decades, world consumption had been centered in the industrial countries of what was called the developed world—primarily North America, Western Europe, and Japan. These were the countries with most of the cars, most of the paved roads, and most of the world’s GDP. But, inexorably, that predominance was ebbing away with the rise of the emerging economies of the developing world and the growing impact of globalization.
Even though total world petroleum consumption grew by 25 percent between 1980 and 2000, the industrial countries were still using two thirds of total oil as the new century began. But then came the shock—the demand shock—that hit the world oil market in 2004. It propelled consumption upward, with—when combined with the aggregate disruption—a startling impact on price. It was also a shock of recognition for a new global reality. Between 2000 and 2010, world oil demand grew by 12 percent. But by now, the split between the developed and the developing world was 50–50.
As far back as 1973, it seemed that whenever an upheaval shook the world oil market, sending prices flying up, it was always some kind of “supply shock”—in other words, a disruption of the supply lines. This was true whether it was the oil embargo at the time of the 1973 October War, or the turmoil that came with the Iranian Revolution in 1978–79, or the Gulf crisis of 1990–91. The last significant demand shock had been the swiftly rising consumption in Europe and Japan at the end of the 1960s and early 1970s that had tightened the global supply-demand balance, setting the stage for the 1973 oil embargo. But that was a long time ago.
The new demand shock was powered by what was the best global economic performance in a generation and the shift toward the emerging market nations as the engines of global economic growth. Yet this had taken the world by surprise.
As 2004 began, the consensus expectation was still centered on what OPEC had taken as its $22-to-$28 price band. Market projections were for standard growth in consumption. In February 2004, OPEC ministers met in Algiers. “Every piece of paper we had,” said one minister, “indicated we are going into a glut.” Fearing a price “rout,” OPEC announced plans for a substantial production cut.
“The price can fall, and there is no bottom to it,” warned Saudi petroleum minister Ali Al-Naimi after the meeting. “You have to be careful.” He added, alluding to the Jakarta meeting and the Asian financial crisis, “We can’t forget 1998.”
Prices rose after the announcement of the production cut, as would have been anticipated. But then, unexpectedly, they continued to rise. The reason was not immediately obvious. Shortly after Algiers, Naimi went to China. What he encountered there convinced him that what was needed was not a cutback in world production but