Oil Trade: Highest Volume, Highest Value
There is more trade internationally in oil than in anything else. This
is true whether one measures trade by how much of a good is moved (volume), by
its value, or by the carrying capacity needed to move it. All measures are
important and for different reasons. Volume provides insights about
whether markets are over or under supplied and whether the infrastructure is
adequate to accommodate the required flow. Value allows governments and
economists to assess patterns of international trade and balance of trade and
balance of payments. Carrying capacity allows the shipping industry to
assess how many tankers are required and on what routes. Transportation
and storage play a critical additional role here. They are not just the physical
link between the importers and the exporters and, therefore, between producers
and refiners, refiners and marketers, and marketers and consumers; their
associated costs are a primary factor in determining the pattern of world trade.
Distance: The Nearest Market
Generally, crude oil and petroleum products flow to the markets that
provide the highest value to the supplier. Everything else being equal,
oil moves to the nearest market first, because that has the lowest
transportation cost and therefore provides the supplier with the highest net
revenue, or in oil market terminology, the highest netback. If this
market cannot absorb all the oil, the balance moves to the next closest one, and
the next and so on, incurring progressively higher transportation costs, until
all the oil is placed.
The recent growth in
A change in trade flow patterns can also be of critical importance to
the shipping industry. For example, the Suez crisis of 1957 forced tanker
owners back to using the much longer route around the Cape of Good Hope, and
resulted in the development of Very Large Crude Carriers (VLCC’s) to reduce that
voyage’s higher costs. The shift to short-haul routes in the 1990's was also
critical. Using the growth in world trade volumes as a proxy for demand,
tanker owners had been expecting a return to a strong tanker market. But the
combination of the surge in short haul imports in the Atlantic Basin and the
shift of Middle East exports from the longer United States to shorter Asian
voyages led to a sharp decline in average voyage length. This decline was
accelerated by the return of Iraqi crude exports, many of which move on the
extremely short route from the Black Sea end of the Iraq-Turkey pipeline to the
Mediterranean. The tanker owners' outlook was thus fading even before world
trade volumes were undermined by the Asian crisis.
Quality, Industry Structure, and Governments
In practice, trade flows do not always follow the simple "nearest
first" pattern. Refinery configurations, product demand mix, product quality
specifications and politics can all change the rankings.
Different markets frequently place different values on particular
grades of oil. Thus, a low sulfur diesel is worth more in the United States,
where the maximum allowable sulfur is 0.05 percent by weight, than in Africa,
where the maximum can be 10 to 20 times higher. Similarly, African crudes -- low
in sulfur -- are worth relatively more in Asia, where they may allow a refiner
to meet tighter sulfur limits in the region without investing in refinery
upgrades. Such differences in valuing quality can be sufficient to overcome
transportation cost disadvantages, as the relatively recent establishment of a
significant trade in long-distance African crudes to Asia shows. The cost
of moving oil into a particular market can be further distorted from the
principle of nearest first by government policies such as tariffs.
In addition, both buyers and sellers may impose restrictions. For
instance, the United States prohibits the importation of Iranian and Libyan oil,
and the United Nations allows only limited sales of Iraqi oil. On the
seller's side, Mexico formerly limited sales to the United States to 50 percent
of its exports, reflecting concerns about dependence on the United States
specifically and about dependence on one geographic market in general. Saudi
Arabia's national security concerns, on the other hand, dictate that it maintain
a very high profile as a supplier to the United States market, even at the cost
of lower netbacks
Crude versus Products
Crude oil dominates the world oil trade. The risk-weighted economics
clearly favor siting refineries close to consumers rather than close to the
wellhead. This siting policy takes maximum advantage of the economies of scale
of large ships, especially as local quality specifications are increasingly
fragmenting the product market. It maximizes the refiner’s ability to tailor the
product output to the market’s short-term surges such as those caused by
weather, equipment outages, etc. In addition, this policy also guards
against the very real risk that governments will impose selective import
restrictions to protect their domestic refining sector.
There are a limited number of refining centers that are at odds with
this general rule, having been developed to serve particular export markets.
These export refining centers -- Singapore, the Caribbean, and the Middle East
-- give rise to some regular inter-regional product moves, but they are the
exception. The inter-regional products trade is largely a temporary
market-balancing function. Some inter-regional flows are extremely short
lived, as when extremely cold weather in Europe causes the United States to
export heating oil there. A longer-lived example arose when a large proportion
of European drivers opted for diesel cars, leaving the region in the late 1990's
with surplus capacity to produce gasoline for export to the United States.
Tankers and Pipelines
There are two modes of transportation for inter-regional trade: tankers
and pipelines. Tankers have made global (intercontinental) transport of oil
possible, and they are low cost, efficient, and extremely flexible.
Pipelines, on the other hand, are the mode of choice for transcontinental oil
movements.
Not all tanker trade routes use the same size ship. Each route usually
has one size that is the clear economic winner, based on voyage length, port and
canal constraints and volume. Thus, crude exports from the Middle
East -- high volumes that travel long distances -- are moved mainly by Very
Large Crude Carriers (VLCC’s) typically carrying over 2 million barrels of oil
on every voyage. The VLCC's economies of scale outweigh the constraints
imposed: they are too large for all the ports in the United States except the
Louisiana Offshore Oil Port (LOOP). Thus, they must have some or all of
their cargo transferred to smaller vessels, either at sea (lightering) or at an
offshore port (transshipment). In contrast, ships out of the Caribbean and
South America are routinely smaller and enter ports in the United States
directly. Because of such ship size differences, a long voyage can
sometimes be cheaper on a per barrel basis than a short one.
Pipelines are critical for landlocked crudes and also complement
tankers at certain key locations by relieving bottlenecks or providing
shortcuts. The only inter-regional trade that currently relies solely on
pipelines is crude from Russia to Europe. Export pipelines are also needed
for production from the Caspian Sea region, where the protracted commercial and
political debate illustrates the greatest negative for pipelines crossing
national boundaries: their political vulnerability.
Pipelines come into their own in intra-regional trade. They are
the primary option for transcontinental transportation, because they are at
least an order of magnitude cheaper than any alternative such as rail, barge, or
road, and because political vulnerability is a small or non-existent issue
within a nation's border or between neighbors such as the United States and
Canada. (Pipelines are also an important oil transport mode in mainland
Europe, although the system is much smaller, matching the shorter distances.)
The development of large diameter pipelines during World War II allowed
the development of the vast pipeline network in North America that moves crude
oil and product within Canada, from Canada into the United States, and within
the United States. Domestically, the 200,000 miles of pipelines account
for about two-thirds of all the oil shipments, when adjusted for volume and
distance. They move domestic crudes from producing areas like California,
the Rockies, and West Texas, and imported crudes from the receiving ports, and
transport them to the refining centers. The United States also
relies heavily on pipelines to transport petroleum products from refining
centers, such as the Gulf Coast, to consuming regions, like the East Coast.
Fungibility is an important factor in transportation economics.
Because the oil is broadly interchangeable (fungible), it can be mixed without a
significant diminution in value. As environmental mandates have
required different regional and seasonal qualities of gasoline, the required
batching for transport and segregation for storage has increased substantially.
Thus the logistics flexibility inherent in a product's fungibility -- the
ability to substitute one shipment for another, to exchange between regions, for
instance -- has disappeared. While this is invisible to consumers during
normal times, it contributes to market upheavals and price spikes in times of
surprises in demand or supply, as during the early driving season in 2000.