LONDON – In late 1979, I began work on my PhD thesis, an empirical investigation of the OPEC surplus and its disposal. It was the end of a decade in which oil prices had undergone two dramatic increases, and most of the various geniuses of the day were confidently predicting that they would continue to soar, from under $40 per barrel – a historic high at that time – to above $100. By the time I finished my research in 1982, the price of oil had begun what would become a 20-year plunge. It would not hit $100 per barrel until January 2008.
I used to joke that the most important thing I learned from my research was never to attempt to forecast the price of oil. As 2014 comes to a close, the price of oil has just crossed the $100 threshold again – this time headed down. One of the big questions for 2015 is whether the decline will continue. Despite my earlier cynicism, I think I know the answer.
Over the past 33 years, I have had plenty of opportunity to study both oil prices and foreign exchange rates, including overseeing a research department of talented people trying to predict their movements. The experience has left me with a good deal of skepticism – not to mention bruises. But I do believe that it is possible to make a broad prediction as to where oil prices are headed.
Over the course of my career, I have tried to determine whether there is such a thing as an equilibrium oil price. I have spent many hours trying to guide, cajole, and beg my energy analysts to create a model that might identify it, just as we have for currencies, bond yields, and equities. I have also discussed the idea with industry experts, most of whom believe that one exists, but that it moves around a lot, because it is greatly influenced by the marginal cost of oil production – itself an unstable variable.