Crude oil price and demand recovers, why U.S. production remains slow?

 Crude oil prices and petroleum demand in the U.S. have recovered pre-COVID-19 pandemic level. However, the recovery of crude oil production in the world's biggest producer is far delayed. What is the reason? 

Crude oil production in the U.S. doubled during the 2010s due to the shale revolution. It reached 13 million barrels per day level as of pre-COVID crisis end-2019. Then the global loss of demand led the output level to below 10 million bpd and the current level is about 11 million bpd. Production in end-2022 is expected to be only 1.2 million bpd higher than end-2020 despite petroleum demand is seen to grow 1.9 million bpd in the same period.

Meanwhile, current crude oil prices are at the highest level since 2014 as supported by anticipated demand recovery and a solid alliance of OPEC+ nations. This price increase has led active oil rig count to above 400 in shale-producing regions in the U.S. It is doubled from a year ago when the COVOD-19 crisis damaged seriously, but 45% lower than the same period in 2019. Usually, rig count tracks crude oil prices with a 2-3 months delay as drilling needs such readiness period. However, we know that crude oil prices had already recovered to the 2019 level in early 2021. 

Then, let's look at another factor. It was natural that rig count dropped significantly in the first half of last year due to the pandemic, but the number of active rigs has started decreasing gradually in early 2019 before that. Because, West Texas Intermediate, the benchmark crude price in the U.S. dipped from about $70 per barrel to below $60/bbl. There are some different ideas about the break-even point for crude oil production and it should vary among regions. But a survey conducted by Dallas Federal Reserve Bank shows about $30/bbl for existing wells (except for Eagle Ford where shows below $20 costs), and around $50/bbl for new wells are replied from exploration and production firms. In other areas than Permian and Eagle Ford, break-even for new shale oil wells is seen at $58/bbl.

Since the production and exploration costs are not changed significantly in the past few years, motivation for development is most likely to fade if prices decline below $60/bbl.

Capital expenditure Index by exploration and production firms started decreasing from Q4 2018 when the expected year-end crude oil price was lower than $60/bbl, then recorded zero growth for the current quarter and negative growth for the next year in Q3 2019. In 2020, a more serious situation forced many firms including large entities to file bankruptcy.

Forecast for year-end price recovered $60/bbl again in Q1 2021 and Capital expenditures became positive for both the current quarter and the next year. Although the expenditure index is even higher in Q2 2021 as the expected year-end price is higher, it is still not enough to recover from the slump in 2020. Even though, capital expenditures are likely to expand, as firms have high motivation with over $70/bbl crude oil prices unless demand fears could depress prices. 

Despite such expectations, production is not anticipated to update the historical level by accelerating the speed of recovery. The growth of crude oil output in 2021 is forecasted at only 300,000 bpd. It is because of the slow recovery of rig count as well as a sharp decrease in the number of drilled but uncompleted (DUC) wells.

DUC means the wells drilled but waiting for completion of the fracking and other works. The completion usually takes 2 months period and a lot of costs. Typically, when developing shale wells, 35% of costs are used for drilling and 65% are spent for completion.

Since late 2018 when investments slowed down due to unclear price expectations, the number of completed wells that can start production soon decreased but DUC increased in contrast. DUC is usually created to wait for favorable market conditions or to extend the leasing contract for the mining area. However, more than 8,000 DUC wells versus about 1,250 completed wells were an extraordinary situation.

As DUC wells are typically not maintained for more than 2 years, sharply increased DUC wells in late 2018 have started decreasing with high speed in late 2020. Since the number of completed wells is increasing slowly, most DUC wells are likely to be abandoned. Although the balance of wells' number may be becoming healthy, it is not a hopeful situation. Many firms are forecasting that both start production and keep waiting for the favorable market are not continually profitable solutions.

The crude oil market is fluctuating by unclear demand expectations based on contrary factors of spreading corona variants and expanding vaccination. Although price and demand may recover relatively faster, supply that needs capital expenditure can't retrieve the ordinary situation in 1-2 years.

Paradigm shift in supply/demand could boost the crude oil price

Amid many assets are losing their value globally due to the shrinking economic activities triggered by the pandemic of COVID-19, the crude oil market has shown plunge as well. Besides pessimistic forecasts for petroleum demand, collapsing a joint production cut system that has underpinned crude oil prices also accelerates panic in the market. Meanwhile, we can see the possible formation of a new order in the crude oil market.

NYMEX WTI crude oil futures front-month contract had remained in a range bound between $50/bbl and $65/bbl since the beginning of 2019 until mid-February this year. However, pessimistic sentiment triggered a free fall to below $20/bbl after late February. There are some predictions that crude oil prices could show a further decline to below $10/bbl or about $5/bbl.

The latest monthly reports by OPEC and the International Energy Agency downgraded their forecasts for global petroleum demand in 2020 by about a million barrels per day from their previous month reports. Since they previously expected world oil demand at 100.1 million bpd, the revision is only about 1%. But IEA is still amending their forecasts and global petroleum demand could dip by 2 digits, according to their current opinion.

Despite such a significant forecast for fading demand, OPEC and its alliance partners including Russia failed to extend current agreement to cut production beyond end-March. Saudi Arabia and Russia are going to start the price war with increasing supply. Although current production curbing is cutting 2.1 million bpd from the output in October 2018, boosted production could lead the market to over-supply by up to 4 million bpd after April.

Global oil output in October 2018 when OPEC+ set baseline for the existing production curb was 102.53 million bpd, while production in February 2020 was 100.26 million bpd, according to the U.S. Energy Information Administration. Production cut by OPEC+ has been mostly offset by increasing U.S. shale oil supply. Meanwhile, decreasing supply from Iran and Venezuela that are under sanction and from Libya where civil war suspends oil output has made world petroleum balance of supply and demand equation. However, the situation will be changed drastically to historic oversupply.

Production curbing by OPEC did not comply at all for long years in the history, then the organization stopped setting the production quota in December 2015. However, disorderly massive production caused sharp price decline and new joint production curbing was resumed with involving alliance partners including Russia in January 2017. High compliance with the output cut has sustained the market afterward.

Only Saudi Arabia has kept high compliance and other major producers such as Iraq and UAE have not met curbing targets. Production in Russia, the giant among non-OPEC alliance nations has not been reduced significantly as well.

Saudi's desperate change in its production policy shocked many producers. Even the U.S. that has irresponsibly enjoyed the fruits of production curb by OPEC+ is considering participating in a new joint output cut. If the U.S. tries to make Saudi to resume output limit, it is not at all persuasive as they have increased production as much as they like, against Saudi's consistent effort. However, if the U.S. proactively joins curbing, a great shift for paradigm would be seen.

When we see the historical correlation between supply and demand balances with prices, more than 2 million bpd of excessive supply usually depressed prices by $20-$30/bbl, thus more than 3 million pbd of consistent oversupply should generate further extreme price slump.

However, we are unable to say that the current crude oil market is driven by supply and demand as prices are declining ahead of the major change of supply/demand. In the fundamental factors driven market, prices typically lag to change of supply and demand balance. Therefore, the current crude oil market is drove by speculations and the situation relatively resembles a speculative market accelerated by guess over geopolitical risks.

Since it is difficult to predict how long the COVID-19 pandemic continues with what scale, how shrinking economic activities affect the global economy is unclear as well. Thus it is natural that anxious sentiment rules the market.

However, industrial activities don't have so close correlation with petroleum consumption than many people estimate. The industrial production index in the U.S., China, and Japan over the past decade only has 0.41-0.48 correlations with crude oil throughput. For the past 5 years, it decreases to 0.2-0.3 which has almost no correlation.

Crude oil processing in China in Jan-Feb only decreased by 3.8% on year despite its industrial production index fell 13.5% from a year ago. March month to date crude oil throughput in the U.S. dipped only 1.4% on year, while petroleum products delivery increased by 0.5% on year. Although crude oil demand in Japan shows 8.3% on year decrease in the first half of March, the figure includes impact by the consumption tax hike. In February when COVID-19 didn't give so significant influence in Japanese society yet, crude oil throughput fell more than 9% on year.

In conclusion, the impact on global petroleum demand by shrinking economic activities is likely to be smaller than most expects. Meanwhile, the same as cooperation on production curbing between OPEC and non-members like Russia was generated by price tumble in 2016, current price collapse could build new output curb systems that include the U.S.

Although panic in the market may persist until the rising number of COVID-19 infected people will peak out globally, then the oversold crude oil market can surge with absorbing speculative funds boosted by ongoing monetary easing.

Japanese petroleum demand has decreased to same level as 1960's

Refinery crude oil throughputs in Japan during the first half of October dropped below 2.5 million barrels per day for the first time since the late 1960's, according to data released by the Petroleum Association of Japan. 

The nation's petroleum demand basically has shown a downward tendency after peaking out in the middle of the 1990's. Even so, recent slump presents an impression that irreversible direction led by the change of social structure is accelerating the decrease regardless of the economic cycle.

The real gross domestic product in Japan indicates relatively steady growth after lowered by the global financial crisis in 2008 and the regional heavy earthquake in 2011. However, crude oil throughputs keep apparent decrease since even before the financial crisis. 

The recent breakdown for petroleum products shows that motor gasoline accounts for 31% of the total production, while 24% are gas oil outputs followed by fuel oil that is used for electric generation and industrial fuel, then petrochemical naphtha etc. Thermal power generation also uses low sulfur crude oil besides the fuel oil. Typically, 20-30% more amounts of fuel oil than crude oil are utilized for the purpose.

Regarding automobile fuels that are the majority of Japanese petroleum products, we have concerns about slowing down of domestic car sales especially for young generations. Although the number of passenger vehicles owned keeps steady growth since the beginning of this century despite the slow sales, fuel demand doesn't track the same path. Gasoline production has deepened decrease after the 2011 earthquake.  Constriction of household spending seems to be one of the major causes as well as increasing hybrid cars. Meanwhile, gas oil output is not impacted by a gradually decreasing number of tracks owned. Track utilization rate in the transportation industry looks to be rising. Industrial efficiency is improving but consumer spending is shrinking.

The petroleum industry is also pursuing efficiency. The total oil refinery capacity in Japan has been scrapped by 25% in the 2010's after utilization rates had dipped to the 70% level in the late 00's. The operational efficiency in the oil industry has improved significantly through the aggressive streamline of facilities.

What has occurred about electricity generation fuel that is the next major usage following motor fuel? There were 59 nuclear units with a total of 51 million kW of power generation capacity before the serious earthquake in March 2011. All those units ceased operations due to damage or security inspections. Then only 9 nuclear units have been approved to resume. Current total available capacity is 9.1 million kW. 22 units including those in Fukushima-1 and 2 nuclear power plants will be scrapped, and no specific restart plan has been decided for rest of units. Nuclear power accounted for 27% of the total electricity generation in Japan in 2010; however, it was merely 3% in 2017.

Electricity supply in Japan was in the severe turmoil after losing the entire nuclear power generation. There were many aged thermal power units urgently resumed from the idling status. However, such high necessities for oil-burning power was finished in 2012, and it was already backing to the normal level in 2014 despite all nuclear units were still suspended. Petroleum demand for electricity generation is declining further due to lower entire power demand, steady growth of generation with burning coal or liquefied natural gas, and resume of some nuclear units. The era that needs petroleum for electricity generation is going to end.

Japanese manufacturers have moved their factories overseas and domestic infrastructure and lifestyle are changing to that need less energy usage. Meanwhile, as the country requires importing almost all of the primary energy resources, such transition could reduce the vulnerability of its security.

China crude oil production declining with no shale oil development

Although China is one of the major countries that have shale oil reserves, about 48 billion tonnes of her proven reserves have almost not developed yet. Overall Chinese crude oil production with the downward tendency has recorded 29 consecutive months of year-on-year decrease since November 2015, according to the National Bureau of Statistics. The nation’s crude oil demand, however, increased by 13% during the same period. Thus, import dependency is growing to fill the gap between supply and demand. As the declining self-sufficiency is critical, China was unable to include crude oil in the tariff list for retaliate round of the trade war with the U.S.

In July 2018, China produced 3.75 million barrels per day of crude oil, while the General Customs data shows that imports reached 8.5 million bpd in the same period. Imported amount of crude oil was 2.3 times than domestic outputs. The import dependency is extraordinarily high for crude oil among energy supplies in China. Coal production in July was 282 million tonnes compared with 29 million tonnes of imports, and natural gas outputs were 13 billion cubic meters against 1 billion cubic meters of imports. China's coal and natural gas imports stay at about 10% level of domestic production respectively. However, monthly coal production already has peaked out at around 300 million tonnes, while only the natural gas output is still showing growth.

China is not the only country that is showing a diminution of crude oil production. The upward movement of world crude oil output in the 2010's is mostly aligned with that in the U.S. It is because of the Shale Revolution, as you know. Even if in the major shale production area, the reduction pace of production in legacy wells is expanding. So that development of new wells is the key factor to boost production. Investments in shale oil/gas development are concentrating in the specific zones like Permian Basin in the U.S. where production costs are the most competitive. It accelerates production efficiency in that areas further and depresses on traditional oil field developments in other regions. Booming shale oil productions in the Permian Basin has caused a lack of transport capacity by pipelines and output was capped as a result.

China has the world third largest shale oil proven reserves and the biggest shale gas proven reserves. However, the majority of these reserves are located in the remote places like Sichuan where developments are quite difficult. There are many issues regarding drilling and transportation. Additionally, large water usage for the Hydraulic fracturing is also an obstacle. Shale oil/gas wells said to require typically from about 10,000 tonnes to 60,000 tonnes or more of water per well depending on each depth. Although China may not need to care about environmental issues that raise counter-movements against shale oil/gas development in the U.S., spending valuable water resources to produce crude oil seems not so reasonable compared to importing crude oil.

The U.S. Energy Information Administration expects that shale oil production in the U.S will maintain growth towards 2030. Crude oil development in China may not be expanded at least until then. Since the country can't yield more coal as well, the lower energy self-supply could cause arguments. However, we are unable to forecast the future exactly. Before the Shale Revolution, the U.S. was also in similar oil production diminutions as current China. And no one knows how long demand of the fossil fuel in China will continue to enlarge. 

How China's crude oil imports are exaggerated

Accumulated domestic crude oil supply/demand balance, that deducts processing volume from the total supply of net imports and productions, reached 23.4 million metric tons in Jan-May 2018, according to the government stats. That throughout 2017 was 44.6 million mt. The monthly balance rarely shows negative figures and total accumulation since Jan 2006 attains 270 million mt.

However, China's National Bureau of Statistics said that strategic petroleum reserves in the nation are only 37.73 mt as of mid-2017. This volume was higher than a year ago by 4.48 million mt and the International Energy Agency estimated that China's SPR stood at 39.2 million mt as of end-2017.

Meanwhile, commercial crude oil inventories in China as of end-2017 were estimated at 27 million mt by Xinhua News. The latest figure as of end April 2018 was 27.4 million mt. The commercial crude oil inventories have been swung between 25 and 35 million mt during the 2010's. It is basically under the downward tendency after peaked in Sep 2014. Petroleum products inventories are also indicating a seasonal cycle and no significant upward trend is seen.

Therefore, the statistically calculated crude oil surplus is clearly larger than the actual increase in the stockpile. It is a mystery where the surplus is gone. Many people believe that Chinese stats are not reliable, but even that, the discrepancy looks too large.

Crude oil processing volumes released by the NBS are about 50 million mt recently. These figures are the sum of collected data from enterprises that have more than 5 million RMB of annual sales. Since oil refiners are unlikely to have less than US$0.8 million of annual sales, the processing volume could cover all eligible firms. Additionally, it is not realistic to estimate that those firms report much smaller production than they actually do.

Current estimated total of the strategic petroleum reserves and commercial oil inventories in China are close to 90 million mt. It equivalents to about 55 days of the nation's recent consumption volume. Although this level is still far from 90 days that is recommended by the OECD, a significant progress is seen as Chinese petroleum demand has doubled from a decade ago when its stockpile only covered less than a month of consumption.

On the other hand, China may have equipped nearly its 170 days of consumption equivalent petroleum stockpiles based on the above surplus calculation. However, we can't find their storage facilities for such large volume. Thus, it is reasonable to guess that import figures are overblown. Based on the discrepancy among estimated stockpiles, China's actual crude oil imports are likely to be below the customs reported volume by about 10%. Chinese influence in the global crude oil market should be discounted.

Chinese petroleum demand rises despite slowing down in economic data

Although recent economic data show sluggish growth of Chinese economy, petroleum demand in August was unexpectedly steady.

Apparent petroleum demand, or pure domestic demand, in China rose 3.7% on year to 9.74 million barrels per day, according to Platts' estimation. Demand in the first eight months rose 1.2% from a year ago.
Since demand fell 2.1% on year in July, quarterly growth data might be about 1% on year growth.

Platts' data do not include change of petroleum stockpile. Meanwhile, Xinhua News reported that end-August stocks of petroleum products fell 6.2% from a month ago. Especially, gas oil inventories decreased 10.3% from a month earlier.

China's domestic petroleum demand that contains the inventory movements was 10.01 million bpd, up 4.7% on year. However, it is doubtful that the figures really reflect the nation's petroleum demand.
News have reported sluggish gasoil sales in China despite the large decrease of stockpile

Crude oil processing by Chinese refineries in August rose 4.4% from a year ago, according to the National Bureau of Statistics. But refineries might have increased processing because they did not have enough crude oil storage capacity.

Higher crude oil processing produced large number of petroleum products in China. Oil companies seemed to be unwilling to keep high products inventories, since prices were softening.

Domestic official petroleum sales prices have caught up with the movements of international markets more timely after the Chinese government changed the price setting methodology last year.

Firmer petroleum demand in China is very strange. It is inconsistent with decreasing petroleum demand in other Asian countries like India and Japan as well as slump in Chinese economic data.

Fossil fuel costs for nuclear outage in Japan to be offset by decreasing crude oil imports

Japan's crude oil imports fell 19% on year to 2.74 million barrels per day in May, according to customs data. It was first time that the country's crude oil imports slipped below 3 million bpd level since 1969.

Reduction of crude oil distillation capacity and the seasonal maintenance seem to cause the sharp drop of procurement. Crude oil processing in Japan fell 3.7% and 3.3% from a year ago in April and May, then it shrunk by 15% on year during the first three weeks in June. However, there has not been reported a lack of petroleum products in the market.

Japanese oil companies consolidated their refining facilities following the Energy Efficiency Law that was enforced in 2009. They cut about 400,000 bpd of crude oil throughput capacity in 2010, then reduced further 500,000 bpd until the dead line of the consolidation that was set at end of March this year.

In Japan, petroleum demand was predicted to increase to make up for nuclear power supply outage since 2011. But actually total crude oil imports by the nation has not increased despite additional demand from the power sector.

Even demand for thermal power generation has sustained Japan's petroleum demand despite declining fuel consumption in transportation sector that is affected by fuel-efficient vehicles, it could not boost the total crude oil imports.

Meanwhile, growth of electricity demand has been usually negative in Japan after 2011 due to power saving and change of the industrial structure. Although relatively high industrial activities supported power demand in February and March this year prior to the consumption tax hike on 1st April, reaction against that depressed the growth rate to about 2% per annum of decrease in April and May.

If Japanese oil companies reduce their crude oil procurement by 400,000 bpd (about 80% of scrapped capacity since mid-2013), the nation's trade deficit could decrease by 1.6 trillion yen ($15.8 billion) per year.
On the other hand, Japanese power companies have bought additional 17 million tonnes of liquefied natural gas for thermal power generation after 2011. It roughly costs about 1.5 trillion yen ($14.8 billion) annually.

Payments for fossil fuels are considered as one of main reasons of Japan's 11.4 trillion yen ($112.4 billion) of huge trade deficits in 2013. However, additional fuel costs to make up for nuclear power outage is not exceeding 2 trillion yen, and it is likely to be offset by reduction of crude oil imports in the near term.

Mysterious large crude oil imports by China

China has procured large amount of crude oil since late last year. Accumulated supplies exceeding processed crude oil during the past several months seem more than the country's strategic reserve capacity. Even if Chinese statistics data are not credible, many institutes use these figures for calculating their world petroleum demand forecast. The suspicious crude oil procurements by China may lead amendment of future petroleum demand.

Total crude oil supply in China rose 5.3% on year in May to 43.84 million tonnes or 10.36 million barrels per day, while growth of crude oil processing in the same month stayed at 3.5% on year to 40.33 million tonnes or 9.53 bpd, according to the government data.

Crude oil supply in May exceeded processing volume by 3.51 million tonnes. Accumulated oversupply in the first five months in 2014 is nearly 14 million tonnes. The figures include commercial stockpile.
China's commercial crude oil stockpile level as of end-April was estimated about only 1.7 million tonnes higher than that at the end of 2013, according to data issued by Xinhua News. Therefore, crude oil oversupply during Jan-May excluding the growth of commercial stockpile seems still being more than 10 million tonnes, or 73 million barrels.

However, there is a question. Does China have enough storage capacity for the large strategic petroleum reserve? PetroChina estimated that national stockpile capacity as of end 2103 was 140 million barrels, while International Energy Agency saw it could be about 160 million barrels.

First phase of Crude oil strategic storage facilities in China were built by the end 2009. The total 103 million barrels facilities were filled in 2010. Then 169 million barrels of second phase facilities are planned to complete by 2015. The construction has delayed.
Part of the second phase facilities were completed in 2011 and they were filled with nearly 80 million barrels of crude oil in the first half of 2012.

Fresh news on strategic reserve facilities have not been reported after that. But China started to procure large crude oil since late last year. Total oversupply excluding movements of commercial stockpile during November 2013 and May 2014 reached 120 million barrels. Such volume is not able to store even if the second phase of national stockpile facilities are completed.

Where are the massive crude oil stockpiles stored? Is China really importing such large crude oil shown in its Customs data?

China crude oil imports still exceed demand

China's crude oil imports in May rose 8.9% from a year ago to 6.16 million barrels per day, according to the General Administration of Customs. Meanwhile, the number fell 6.5% from the previous month's record imports of 6.81 million bpd.

 Although Chinese crude oil imports are slowing from April, it still remains at relatively high level. If domestic crude oil production in May stayed at same level as Jan-Apr, total crude oil supply in the month would be about 10 million bpd.

Chinese refineries should increase their throughput level by 8% on year in order to process the entire supply. However, it is impossible because accumulated crude oil processing in the first four months in 2014 only increased by 1.8% on year. Moreover, Chinese refineries are typically shut their facilities in May and June for maintenance prior to summer demand season.
Therefore, crude oil imports in May still seems including procurements for strategic reserve.

On the other hand, Chinese trade surplus in May surged to 35.9 billion dollar, the highest monthly surplus since January 2009. Processing trade also recorded two consecutive months growth on year.

These data suggests that energy demand in the country may be underpinned in the near term.　But customs data also showed a contrary story that China's petroleum products export exceeded import again following March. It shows that petroleum products are oversupply in China.

OPEC crude oil excesses further due to sluggish imports by US and China

Twelve member nations of the Organization of Petroleum Exporting Countries have maintained their total crude oil production below the target at 30 million barrels per day ahead of its general meeting that is scheduled on 11th June.
Moreover, demand for OPEC crude oil is likely to decrease since imports by two major players - the United States and China may be slowing down in the near term.

Estimated OPEC crude oil production has been below the quota of 30 million bpd since September 2013 except for February.

Global demand for OPEC crude oil is limited due to the increasing supply from non-OPEC producers. Recently, imports by the U.S. is declining sharply and forecasts of Chinese demand is not bright. Petroleum shipments by OPEC members are falling from last year's levels between early April and early June, according to Oil Movements' survey.

In the U.S., regional petroleum demand is slowing down while domestic crude oil production is growing steadily. Moreover, petroleum demand in the country is expected to decrease on year toward the late this year.

The U.S. has been mainly importing OPEC crude oil into the Gulf of Mexico (PADD3) area. However, the region currently does not have enough room to take waterborne crude oil imports since large crude oil flow from inland boosts the stockpile level to the record high.
An additional crude oil pipeline from inland to the gulf area is scheduled to start operation in the near future, so this tendency is likely to be accelerated.

While losing the U.S. market, OPEC anticipated that growing demand from China and other Asian emerging market will offset it. But crude oil processing in India continues to level off after reaching to about 4.5 million bpd in late 2012. Meanwhile, growth of crude oil throughput in China in 2013 remained at 3.3% from a year ago, then slowed to 1.8% growth on year in the first four months period in 2014.

China imported average 6.26 million bpd of crude oil during Jan-Apr, up 11.5% on year, according to the General Administration of Customs. But the high imports caused half million bpd of excess crude oil against processing.

Accumulated excess crude oil during the first four months was more than 10 million tonnes, while commercial crude oil stockpile in China was estimated to gain by about 1.7 million tonnes during the same period. Therefore, 8.3 million tonnes of excess crude oil was likely used to fill up the strategic reserve.

In April, the strategic reserve increased by more than 5 million tonnes, so China's crude oil imports for physical demand in the month were actually fell about 1% on year despite the record high customs data.

It suggests that Chinese crude oil imports will be flat or lower than previous year's level after completing the building of strategic reserve. Thus the country is unable to make up for shrinking demand from the U.S.

On the other hand, some OPEC members like Iraq and Iran are aggressive to increase their crude oil supply. Libya is also expected to resume its supply promptly if current domestic turmoil is solved.

What will other members do? If they maintain the current output levels, total OPEC production will far above the target quota. The excess supplies could depress global petroleum prices as they once were.

Japan's energy demand shows no apparent sign of reaction against tax hike

One and half months have passed after the Japanese government raised consumption tax from 5% to 8%. Many people predicted an aggressive consumption prior to the tax hike and a possibility of reaction after April.

Although Japanese energy demand has been in downward tendency in the past couple of years, both petroleum and electricity demands rose on year in March. Then demand slipped again after April.

However, can we say those were rush demand and reaction against it? Especially, electricity demand significantly fluctuates by weather conditions. I think April data are not enough to be recognized as reaction.

Petroleum demand recorded year-on-year decreases during March and May last year, and is falling further between April and mid-May in this year. Even though, current monthly decreases are still below the average of the past few years.

If we look back on 1997 when the last time Japanese consumption tax rate was increased from 3% to 5%, regional petroleum demand rather increased after the taxation change. Japan's petroleum demand started to decline in late 1997 in step with economic slowdown.

Energy demand in Japan seems not affected directly by the consumption tax increase, once again.

Change of U.S. crude oil stockpile situation

Increase of crude oil stockpile in the United States is depressing prices recently. Market players previously only focused on stockpile in Cushing, but the situation about the U.S. crude oil supplies seem to be changing.

The latest commercial crude oil stockpile in the U.S. nearly reached to 400 million barrels of the highest record, according to the weekly report released by the U.S. Energy Information Administration. The stockpile level is about 80% of current U.S. working crude oil storage capacity. The level was below 70% of the storage capacity in the beginning of this year.

The increase tendency of crude oil stockpile in the U.S. is of course triggered by steady growth of domestic production. Although crude oil throughput in the country has been higher level compared to several years ago, the growth of crude oil production is much faster than that.

Current crude oil supply in the U.S. is concentrated in the Gulf of Mexico area. Total crude oil stockpile as of the end of April in the U.S. rose 1.0% from a year ago. On the other hand, stockpile in the Gulf of Mexico region rose 10.1% on year, while that in the Midwest fell 18.7% from a year earlier.

The contrasting movements were caused by pipeline flows. Previously, crude oil was typically imported into the Gulf of Mexico area then transported to the Midwest through pipelines. But recently, increasing inland outputs are supplied to the gulf region oppositely.

The change of industry and social structure weigh on petroleum demand in the U.S. Fuel conversion to cheaper natural gas also accelerate the tendency.
Meanwhile, U.S. refineries are aggressive to export petroleum products, since their prices are competitive because of cheaper WTI crude oil than global index Brent. Crude oil processing in the Gulf of Mexico area is 10% higher from a year ago. Despite the refinery utilization rate exceeds 90%, larger crude oil supplies are lifting stockpile in the region apparently.

Crude oil imports into the Gulf of Mexico has declined by more than 2 million barrels per day from the levels during 2000s, but it still seems excess.

Current stockpile of crude oil in the gulf area is about 80% of the regional storage capacity. It suggests that the increasing supply through pipelines from the Midwest may cut tanker imports further or encourage the discussion to abolish the export ban for crude oil.

The Obama administration recently postponed decision on the construction of new Keystone XL pipeline that will carry more crude oil from Canada. Many people are discussing environmental issue about the new pipeline, but critical storage problem is also likely to be seen if the new crude oil flow comes into the U.S. without solving export ban.

China becomes petroleum products exporter

Chinese refineries seem to aim expanding their petroleum products export to make up for domestic slow demand. In March, the country's petroleum product export exceeded import for the first time since January 2010, according to the General Administration of Customs.

Chinese oil giant PetroChina recently announced that its refining sector earned 1.96 billion yuan of profit in the first quarter of this year compared to 1.56 billion yuan of losses a year ago. The company's sales profit in the period increased by 56.6% on year despite turnover fell 2.1% from a year ago.

The main cause of the improved profits could be new official petroleum price system that was introduced in late March 2013. Chinese domestic petroleum product prices are set by the government. Previously, these prices were reviewed based on international market prices in the past 22 business days. But the government shortened the review period to 10 business days last year. Therefore, risks of price gap between international crude oil and domestic petroleum products have been reduced.

On the other hand, I have sometimes reported that China is increasing crude oil procurement and refining capacity based on the rapid economic growth during 2000s but these supply abilities are exceeding the growth of local demand recently.
Especially, crude oil supply seems to be too much against the regional stockpile capacity, so Chinese refineries could be difficult to cut throughput rate.

Chinese refineries are likely to need maintaining relatively high crude oil processing rate because of such improved profitability and the physical constraint. The average throughput rate in the current month by major state-owned companies rose 4 percent points on year to 82% , according to Platts survey.

However, domestic demand does not show any sign of strong recovery. Although China has typically absorbed petroleum products from the international market, the nation could become a net supplier in the near future.

Is the consumption tax hike affecting on Japan's energy demand?

Economic slowdown is feared in Japan after the consumption tax hike on 1st April. Can we see any impact on the energy consumption before and after the tax rate hike?

Crude oil processing typically rises before summer and winter demand seasons, then starts decreasing toward maintenance seasons.

March is known as a time to start decreasing of demand in the cycle, however, strong fuel demand from the transportation sector sustained the crude oil processing rate last month. Transporters delivered large volume of goods for rush demand before the tax hike.

Crude oil processing in Japan had slowed down after December last year, and decreased on year in February. Although the processing rate rebounded to 3.9% on year of increase in March, it slipped again to the negative level in early April.

After the severe earth quake in March 2011, monthly electricity supply by Tokyo Electric Power Company usually has been decreased on year by the power saving efforts. But the electricity supply in February & March rose from a year ago.

Strong power demand in February was likely supported by chilly weather, however, the demand in March increased by 3.9% on year despite temperatures exceeded the previous average. Then its electricity supply in the first twelve days in April fell to 2.5% on year.

Data on the energy supply apparently show that the industrial activity in Japan increased in March, but can we assert recent declines in April as the strong reaction to it?

Crude oil throughput fell 0.5% on year against the 3.9% of increase in March, and the decrease rate of electricity supply in April is half of increase rate in the prior month.
Although we still need to keep watching the situation, it seems that there is no rapid extreme reaction after the tax rate hike.

WTI crude oil is losing internationality further

The primary index for global crude oil prices has shifted from the United States West Texas Intermediate to European Brent in the past couple of years. The reason is that WTI is losing its internationality due to the shale revolution in the north America. The tendency seems to have accelerated in this year.

WTI crude oil prices are diluting correlativity with Brent further after Keystone XL pipeline started 300,000 barrels per day of crude oil transportation from the U.S. Midwest to Texas in January this year.

Previously in the U.S., crude oil was typically imported in the Gulf of Mexico area, then transported to the Midwest, however, surge of domestic production after the shale revolution changed the situation.

Seaway pipeline reversed its transportation direction from the Midwest to the Gulf in May 2012. Its transportation quantity had increased from the original 150,000 bpd to 400,000 bpd in January 2013.

The Keystone XL pipeline which has 700,000 bpd capacity started operations in early this year, and an additional 450,000 bpd facility of Seaway pipeline is scheduled to open traffic in May. Therefore, total volume of oil transportation from the Midwest to the Gulf of Mexico will be 1.55 million bpd.

After the Keystone XL pipeline started operation, crude oil transportation between the regions seems to have exceeded the equilibrium point. Crude oil stockpile in the Midwest started decreasing sharply and that in the Gulf reached the record high level.

Since imports by tanker into the Gulf area are decreasing, the stockpile is being lifted by crude oil that comes from northern U.S. and Canada with passing through the Midwest. To buy reasonable North American crude oil and reduce tanker imports seems to be appropriate decision by Gulf refineries.

From the beginning of this year, WTI crude oil prices have been supported by decrease of stockpile in Cushing, Oklahoma despite apparent increase of the U.S. total crude oil stocks.

This situation might change if WTI's price superiority against Brent disappears. Meanwhile,  crude oil production in the U.S. is expected to increase further and imports are predicted to continue shrinking.

Status as price index of WTI may lower further, since it is more rely on stockpile in Cushing than the supply situation in the Middle East or West Africa.

Excess refinery capacity is getting serious in China

Forecasts for excess capacity in Chinese refineries are getting serious. Utilization is expected to fall sharply due to the slowdown of economic growth, and rush of start-up of additional refineries.

Although exact number on the refinery capacity in China is not disclosed, industry sources estimate that nearly 800,000 barrels per day of new capacity was added in 2013. Accumulated refinery capacity in China at the end of 2013 could be 12.3 million bpd. Moreover, 1.1 million bpd capacity is expected to be added in 2014.

A strong increase of energy demand was anticipated in China after 2000 based on the steady economic growth in the country. Actually, Chinese petroleum consumption was accelerated in the later half of 2000s until 2010.
Despite Chinese refineries maintained their utilization rates above 80% at that time, shortages of product supply caused many social disruptions over the nation.

However, the growth of energy demand in China is slowing down rapidly after 2011.
Year-on-year growth of crude oil processing released by the National Bureau of Statistics fell from 14.5% in 2010 to 5.7% in the next year. The growth rate continued to shrink year by year to 3.4% and 2,5%, then slipped to 1.0% decrease in the first two months in 2014.

Even if gasoline production is sustained by steady car sales in the country, a growth of Chinese gasoline outputs fell to 4.9% on year in January-February in 2014 from 9.5% on year in 2013. Outputs of diesel that is the main petroleum product in China fell 2.6% from a year earlier in the first two months of 2014 after recorded a 0.3% on year tiny growth in 2013.

Despite the production is decreasing, commercial diesel inventory in China surged by 53% during the first two months in 2014, according to the Xinhua News. It suggests the current weak industrial activities in the country.

Under the such situation, many new refineries that were planned in the later half of 2000s are starting up.

Average utilization rate of Chinese refineries in 2013 was estimated at mid 70% based on official data provided by the government, but PetroChina sees much lower rate at 67%.

In 2014, the large increase of capacity and a further slump of petroleum demand may reduce the utilization rate to less than 60%.

About energy, Russia more relies on Europe

Europe's energy dependence on Russia is attracting attention again following the tension in the Crimea peninsula.

About 40% of petroleum supply in Europe comes from inside the region in 2012, while 28% is supplied from Russia. The amount of import from Russia is much bigger than 11% from the Middle East and 7.6% from North Africa. The 5.8 million barrels per day of Russian oil supply can not be replaced by the other source easily.

Around 45% of natural gas supply in Europe is also provided by local production. Russian exports are account for 23% of the natural gas supply into Europe.

Data show that dependence of petroleum is relatively larger than natural gas at moment.
Europe's petroleum dependence on Russia was not so large in 1990's, since oil production in the former Soviet Union region shrunk significantly during collapse of the Socialist Empire.

However, European countries have increased petroleum procurements from Russia due to the steady production recovery in the former Soviet region. Geopolitical tensions in the Middle East and competition of procurement with Asia and the United States in the area also encouraged Europe to increase oil imports from Russia.

About distribution of energy, Russia more relies on Europe.
In 2012, about 65% of total natural gas exports by Russia including liquefied natural gas to Asia headed to Europe.

About 67% of petroleum exports by the former Soviet Union area was shipped to Europe. As for only Russia, nearly 90% of its petroleum exports were directed to Europe.

Therefore, Russian economy could be damaged significantly, even if Europe reduces energy procurement slightly.

However, European countries cannot shift natural gas supply sources easily even if Qatar and other Middle Eastern nations already have huge LNG supply capacities. Number of LNG tankers and port unloading facilities are not enough.

On the other hand, petroleum supply could be changed relatively easily if refineries accept inconveniences by the difference of crude oil grades. In a sense, current tensions in Crimea or news reports about that seem like sales promotion for North American crude oil.

China keeps steady crude oil imports

Chinese crude oil imports in February rose 10.9% on year to 6.03 million barrels per day, according to the General Administration of Customs. The country's crude oil imports have increased by two digits from a year ago in three consecutive months.

The February's import figures were 18.1% lower than the previous month when scored the record high of 6.65 million bpd. But still remained above the 6 million bpd level.

The average crude oil imports during January and February rose 11.5% from the same period a year ago to 6.36 million bpd.

In February, China recorded the first trade deficit since March 2013 due to the slump of exports. The amount of processing trades in the month also slipped to the lowest level since February 2011. Those data suggest that industrial activities in China is slowing down.

China, however, maintains steady crude oil procurements. The country seems to be optimistic for the near term energy demand.

On the other hand, commercial crude oil stockpile in China as of the end of January had increased 3.6% from a month ago. It was the first increase since September 2013. It is also possible that the Chinese petroleum industry only began to stockpile toward the summer.