One-fifth of global oil trade transits the Strait of Hormuz, a strategic risk that, given current events, has shattered supply-chain complacency in world energy markets. Similarly shattered is the illusion that the world is any less dependent on oil today than it was during the epoch-setting 1973–74 Arab oil embargo.
Supply-chain complexities in energy markets make forecasting a fraught business. As one complexity expert notes, “small perturbations can produce disproportionately large effects.” When it comes to energy realities, however, the “direction of travel”—the International Energy Agency’s favored phrase—is robustly predictable.
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Energy transitionists say that today’s oil crisis proves that we need to lean harder into alternative energy. But that experiment has been tried, and we know the result.
Over the past 25 years, Europe and the U.S. have spent over $10 trillion on transitionist policies. And yet, the world today uses more oil, not less. The core oil-dependency indicator—global consumption per capita—remains unchanged. The only feature in energy domains that’s different today than on February 27, the day before the Iran conflict began, is the price of oil. No radical new non-oil technologies have emerged or are visible on the near-term horizon.
Nor are there any new transition narratives. At a recent hearing, Senator Maria Cantwell admonished Secretary of Energy Chris Wright for cutting back on government support for alternative energy, which she claimed is “the future” for dealing with the next oil crisis. The senator is not alone in that conviction. Transition advocates have been emboldened by the current conflict. For example, one enthusiast at the Institute for Energy and Financial Analysis claimed: “China’s approach to energy sector development and geopolitics has been completely validated by the Iran conflict.” It’s no small irony that China looms as the key geopolitical risk when it comes to reliance on alternative energy. Chinese market share in producing the key materials and components in the “cleantech” global supply chain is more than double OPEC’s share of petroleum markets. Thus far, China has not significantly leveraged its near monopoly in that energy domain. Only the naïve would believe that could never change.
While policymakers can try to shape energy markets, economic factors heavily determine the end game. As economists remind us, markets respond to prices in two ways, the magnitude of which depends on how high prices go and for how long. First, in the short term, consumers will respond to high prices by simply avoiding energy use. Then, in the longer term, sustained price escalation stimulates purchases or development of technologies that are either more oil-efficient or that can replace oil. The point of subsidies and mandates for alternative energy is to tilt the economic playing field in a manner that emulates high-priced oil, with the goal of encouraging adoption of alternatives. And yet, even the staggering levels of subsidies over the past two-plus decades have not meaningfully diminished global oil dependency.
Thus, energy markets in the post-Hormuz oil era will be shaped by how importing nations de-risk their oil supplies, not by how much they commit to funding alternative energy sources. The enduring reality is that enormous quantities of oil must be physically delivered to markets. Otherwise, economies grind to a halt. Oil-burning engines power over 95 percent of the transportation for all goods and services.
Regardless of when or how the Strait gets reopened, the lesson now seared into markets is that the Hormuz choke-point risk is no longer theoretical. For oil-importing nations—three-quarters of the world’s population—far more attention will now be paid to de-risking, which means buying oil, at higher prices, from places outside the Middle East. This suggests that future oil prices will stay higher as the world reprices the value of energy security. How much higher depends on how much Middle East supply shifts elsewhere. Meantime, always hanging over the best-laid plans of oil producers is the hard-learned lesson that oil prices collapse with global recessions—and economists have a sorry track record in predicting those.
It isn’t hard to identify places that could produce more oil. Indeed, the move to do so has already begun. India recently doubled its purchases from Russia. Activity in Argentia has accelerated, fortuitously able to do so courtesy of its new free-market president. Exxon recently announced a consequential increase of $24 billion in spending to develop the rich deepwater oilfields in offshore Nigeria and is also revisiting plans to drill in offshore Greece, Trinidad, and Tobago. Chevron in recent weeks increased its positions in Venezuela and will move forward with offshore development in Egypt and in the Gulf of Mexico. Norway’s Equinor announced new discoveries and outlined plans for the North Sea, while Brazil’s Petrobras is likewise pursuing exploration of deep offshore fields. The thread running through these recent announcements is the role of deepwater oil.
In broad terms, over 80 percent of global petroleum is produced by just three provinces in a roughly equal share: from deepwater rigs (collectively), OPEC, and the United States. The winners in the race to de-risk will be those that can accelerate production at meaningful levels.
The combination of experience and better technologies, both enhanced by better software (including AI) for planning and logistics, allowed the deepwater field off Guyana to come online at a blistering pace. It took just five years from planning to production to achieve nearly 1 million barrels per day of output. Offshore infrastructure at that scale used to take at least a decade to develop.
In a comparable feat of velocity but on a much larger scale, U.S. onshore shale production rose by 4 million barrels a day over five years after its 2010 turning point. Then, U.S. shale production replicated that feat again over a subsequent five years. The mighty U.S. shale engine changed the geopolitics of oil (and natural gas, for which Hormuz is also a choke point) while boosting the U.S. economy. It enabled the reshoring of energy-intensive industries and power for next-generation AI data centers.
The big unanswered energy security question for both allies and enemies is if, when, how fast, and at what price U.S. shale production could yet expand. While U.S. exports have already started tilting up, production has yet to increase. As with the much older field of offshore drilling, the combination of experience and AI-enhanced technology suggests the potential for rapid and significant shale production growth.
The wild card? The decision calculus of thousands of fractious, market-savvy independent companies responsible for 85 percent of domestic oil production. Unlike most other oil-exporting nations, the U.S. has no national oil company or authority.
Then there’s OPEC, which will not sit idle as buyers seek greater energy security. OPEC still has pricing power as well as options for de-risking the Strait of Hormuz. Most of Saudi Arabia’s exports have been diverted from the choke point via a pipeline to the Red Sea. In addition, a new railroad is under exploration to move petrochemical transport away from the Strait. Turkey has also entered the Middle East de-risk movement by considering a pipeline through its territory. President Erdoğan says that discussions on “safer alternatives” for energy transmission have begun, adding, “We wholeheartedly believe that this global crisis will open new doors for our country.”
None of the Middle East realignments with pipelines can fully de-risk those supplies from future conflicts there. But they may be enough to offset some of the inevitable customer exits, especially with pricing advantages. Saudia Arabia is keeping its price increases well below the risk premium that the market is bidding and reportedly may even cut prices. Odds are that China, the world’s largest oil importer, will be an increasingly major and risk-tolerant customer for cheaper Middle East oil. Meanwhile, in a sign of OPEC’s emerging challenges, the U.A.E. has announced its exit from the cartel.
How this all plays out will be consequential, if uncertain. But one certainty is that “the new map” for oil markets is coming, to borrow the title from Daniel Yergin’s prescient 2020 book. And, despite resurgent transition rhetoric, equally certain is the direction of travel in energy domains—toward more oil drilling. That reality is already in play, with implications spanning decades.