High oil prices are a blessing in disguise

There is no escaping the fact that within the next generation the end of the oil economy will come into sight

The latest surge in oil prices may well turn out to be a blessing in disguise - although it may seem a pretty thick disguise to anyone filling up their car this week with petrol at 83p a litre.

The latest surge in oil prices may well turn out to be a blessing in disguise - although it may seem a pretty thick disguise to anyone filling up their car this week with petrol at 83p a litre.

Oil is now more than $40 a barrel. That is the highest it has been since 1990, although if you allow for the fall in the value of the dollar since then in real terms, it is still some way from that peak. What is different now (and different from the two oil price peaks before that in the middle 1970s and early 1980s) is that oil seems likely to remain expensive for the foreseeable future.

There are two reasons for that. One is that demand has been boosted by the surge in living standards in China, with that nation now replacing Japan as the second-largest oil user in the world after the US. Go back to previous oil squeezes and China's oil imports were relatively tiny.

The other is that the underlying supply situation is tighter than it used to be. Intensive efforts at finding new oil supplies have shown up some decent new fields and the oil companies have become better at getting oil out of difficult places. But the world's main supplies are in the Middle East and the new finds there have been pretty limited. The world's largest oil field, the Ghawar Field in Saudi Arabia, which supplies some 7 per cent of the world's oil, was discovered right back in 1948. Indeed all the really big Saudi fields were discovered before 1970.

World oil production can probably be stepped up a bit further, although this cannot be done immediately. The Saudis say that can produce another million barrels a day but outside Saudi Arabia, the additional capacity is very limited. Looking further ahead, there are even worries about the technical ability of the Saudis to increase their production.

There is endless debate in the oil industry about its ability to keep boosting production, but there is a solid view that, unless huge new fields are found soon, the peak production will be reached in the next decade - some people think in the next couple of years. From then on it will be downhill.

Oil will remain enormously important to the world economy and gas will become more so. But there is no escaping the fact that within the next generation the end of the oil economy will come into sight. Just as oil gradually replaced coal in the last century, so something else will replace oil in this.

The trouble is that we don't know what that something will be. I don't think this should be a cause for panic. In 1820, when British textile mills were running up against the limits of water power, few people reckoned that the steam engine would be improved sufficiently quickly to replace it. (In 1830 water mills supplied still supplied as much power as steam engines.) In the 1870s, few people thought that oil would replace coal, and indeed even today, China relies on coal for much of its electricity generation.

On the other hand we have to buy time, so that we can see which of the various potential new energy solutions will carry us forward as oil supplies dwindle. There are a string of possible technologies that may or may not have a role: wind power, solar energy, wave power, tides, biomass, nuclear energy, hydrogen. While each has its enthusiasts and, I fear, its cranks, none are at a stage where they can produce energy as cheaply or conveniently as oil and gas.

My best hope is not any of these technologies, at least for the next couple of decades, but conservation. My own life-enhancing experience was borrowing a Toyota Prius for ten days a few weeks ago and finding that, thanks to its hybrid technology, a large hatchback could produce nearly 60 mpg in town. That is simply using existing technology very well. (New busses and trains, by contrast, use more fuel than the ones they replace, witness the efficiency of the soon-to-be-scrapped Routemasters and the power shortages restricting the new London commuter trains.)

We will only conserve energy if the market pushes us to do so and that is why we need higher oil prices. Nothing else works. Regulation is hopeless. Look at the mess that the US got itself into by imposing fuel efficiency limits on new cars. American cars became more efficient but they were so gutless than Americans dumped them and switched to Sports Utility Vehicles and light trucks. Both were inherently less efficient than cars, even big ones. So regulation achieved exactly the opposite effect from the one that was intended.

Regulation here is little better. At huge expense, Britain is embarking on a wind power programme. The electricity costs three times as much as from a modern gas-fired station - and double as much even allowing for a big rise in gas prices. Because the wind does not blow the whole time (and sometimes blows too hard) the extra conventional capacity has to be built anyway.

Allow for energy used in the construction of the windmills, the concrete and steel, the lorries that have to lug the plant up the hillsides, the roads that have to be built to service them and for some while the new windmills actually will use more energy than they produce. And that is before people worry about chopped up birds....

International regulation? Pretty useless too. Consider the Kyoto accord. That was about carbon emissions rather than energy use as such but the two are closely connected.

While it has allowed European governments to be sanctimonious about the non-compliance of the US, even if the treaty had been followed to the letter it would not have made a material difference to global energy use. Why? Simply because it does not matter what Sweden or the Netherlands do with their energy policy. It does not matter what we do.

What matters is what China, and increasingly India, do. Last year China installed as much additional electricity generating power as the entire output of the UK. Most of that new capacity was powered by fossil fuels. And of course China is not part of the Kyoto process.

But if regulation, national and international, is pretty much useless, the market is not. When the oil price soared in 1979/80 demand fell for four years in a row, and then rose slowly, only recovering to its 1979 level in 1987.

The market does not only encourage people to conserve energy; it also encourages the development of alternative supplies. It encourages discoveries: had it not been for the OPEC-inspired price rises of the 1970s the North Sea would hardly have been worth developing.

And it encourages alternative fuels. At a price it is worth turning over land now used to grow food crops into growing products that can be turned into diesel fuel. Winter rape-seed is apparently a particularly promising crop to turn into fuel as it can be grown out of season. It would also give the European farmers something useful to do if and when the subsidies are phased out.

But all this depends on the market. Expensive oil will make us - and much more important, the Americans and Chinese - use it more carefully. And that buys the world time to develop the energy sources that will take over from oil.

So welcome the record oil price. It may hurt now but you have to be cruel to be kind.