Consequence of Peak Oil for Banks

A crude awakening movie poster

I watched A Crude Awakening yesterday and here are my notes and thoughts.

This movie essentially makes the case for Peak Oil theory: that in recent years we have reached a plateau of worldwide production of oil and that oil production will go downhill from here. The movie presents the economic, political and sociological consequences in a truly apocalyptic vision, but even if like me, you believe in human technological creativity to get us out of this mess, I think it is worth watching to bring awareness of the issues and crisis that the end of cheap oil might bring about in the next 10 years, keeping in mind that noone has the ability to predict whether this transition to other technologies will be abrupt at times or smooth and will happen in an orderly manner.

The most striking comparison presented was that oil is a very dense energy, which offers extreme productivity levels, with which other energy sources have a very hard to compete with, which in turn makes the challenge of oil transition humongous, and will be particularly difficult for our financial system.

Here is a good comparison mentioned in the movie: 1 barrel of oil (42 gallons) = 25,000 man hours of work = 12 people working full-time for one year. Another interesting comparison is that at $4 a gallon of gasoline and with a 20 miles per gallon 4-person car, you can take with a 4-person family for 1 mile for 20 cents at 60 miles per hour, definitely not a wage the driver of human-powered vehicle like a pedicab /rickshaw would or could physically work for.  If we want to pay the driver $10 per hour (minimum wage in California is $8/hr), and assume he will ride 2 people at 10mph, 1 mile for 4 people will come at a minimum cost of $2, which is 10 times the current cost in 1/6th of the time.

What does Peak Oil theory means for banks?

The following text I borrowed from is the clearest answer I’ve read to this question:

It is becoming evident that the financial and investment community begins to accept the reality of Peak Oil, which ends the First Half of the Age of Oil. They accept that banks created capital during this epoch by lending more than they had on deposit, being confident that Tomorrow’s Expansion, fueled by cheap oil-based energy, was adequate collateral for Today’s Debt. The decline of oil, the principal driver of economic growth, undermines the validity of that collateral which in turn erodes the valuation of most entities quoted on Stock Exchanges.

Update 6/1/08: WSJ Article on the value of second-hand SUVs. Excerpt:

About 36% of the people who tried to trade in a large SUV in May owed more on the truck than it was worth, according to data from the Power Information Network. That’s up from just under 33% a year ago. (It’s worse for large pickups. Recent PIN data suggests 40% of large pickups traded during May fetched less than the loan balance.)

A three-year-old large SUV today is worth about $2,000 to $3,000 less at trade-in than a three-year-old large SUV would have been in 2007, before gas prices began to soar, according to Marc Cannon of AutoNation Inc., the largest U.S. auto retailer. A three-year-old Chevy Tahoe that might have fetched $19,700 in September 2007, he says. Today, a three-year-old Tahoe might be worth $16,400 at trade-in.