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Dan White: Don't mind the gloom merchants, energy bills won't stay high for long

The recent surge in oil prices has led to fears of economic meltdown. Such fears are almost certainly overdone and the next major move in oil prices is likely to be down.

With oil prices up to over $110 a barrel, the gloom merchants have gone into overdrive, forecasting that petrol could rise to €3 a litre and the price of everything from food to transport to clothes will rocket.

Hang on a minute. We have been here before. Remember the summer of 2008 when oil prices briefly hit $150 a barrel? If I got a euro for every time I read three years ago that oil was going to hit $200 I would now be a rich man.


Except, of course, it didn't. Instead, the bubble burst and within six months oil prices had fallen to under $40 a barrel.

Don't be too surprised if something similar happens this time.

Why? As the 2008 price spike demonstrated, there is a "pain threshold" beyond which energy users, both consumers and companies, drastically cut back on their consumption. If the 2008 experience is any guide, that threshold kicks in once oil prices go much over $100.

What happens is, where we've a choice, we start taking the bus or train instead of driving to work.

We decide against taking that foreign holiday. We finally replace our gas-guzzling old banger with a new and far more efficient motor. We insulate our home properly.

Companies also start to aggressively manage their energy consumption, finding new and more efficient ways to transport their goods and increasing the energy-efficiency of production processes.

Higher prices also depress economic activity, further reducing the demand for oil and other forms of energy.

None of these decisions, when taken on their own, will have much impact.But their cumulative effect can be enormous. Suddenly, the demand for energy falls dramatically.

Speculators, who had been betting that prices would rise even further, find themselves stuck with huge volumes of oil whose value is rapidly falling. As they seek to cut their losses the price of oil falls even further.

This is what happened in 2008 and there is good reason to believe that something similar will happen this time.

But even if the current surge in oil prices has been overdone, surely rising global demand and dwindling reserves, so-called "peak oil", means that prices will keep on rising in the medium to long term?

Yes, but not by as much as the pessimists would have us believe. For a start, even if we are approaching "peak oil", all of the evidence indicates that we can maintain current global production levels of about 88 million barrels per day for the foreseeable future.

The higher oil prices of recent years have resulted in the oil companies massively increasing their exploration budgets.

This has already borne fruit with major new discoveries in Brazil, Africa and Siberia.

There is also massive energy inefficiency in many countries. Europe and the US produce roughly the same value of goods and services every year.

The difference is that Europe manages to do so with half of the energy that the US uses.


However, it is in the developing world that energy inefficiency is at its worst with China, now the world's second-largest economy, requiring between seven and eight times as much energy for every unit of economic output as Europe.

When energy was cheap and China had abundant labour that didn't matter. It does now. The size of the Chinese labour force will peak in the next few years as the impact of the one-child policy makes itself felt. This means labour costs will rise sharply forcing Chinese businesses to examine other costs, including energy closely.

So don't despair. Ignore the doom merchants. Yes, we will have to get used to paying more for energy but the pumps won't run dry or the lights go out any time soon.