The principles we applied to linear demand curves can equally be applied to a linear supply curve of the
The plus sign in front of the price variable in the supply equation tells us that there is a positive rela-
tionship between price and quantity supplied. Using this equation, if the price were
CHAPTER 3 THE MARKET
FORCES OF SUPPLY AND DEMAND 55
Fracking and the effect on oil prices
Developments in technology have ripple effects on many markets. In the constant search to find new
sources of energy, humans have come up with many ingenious ideas and in recent years a process called
fracking has caused both excitement and concern. Fracking involves injecting fluid, consisting of water
and a number of chemicals, into the shale deposits underground at extremely high pressure. The pressure
fractures shale rocks and releases natural gas and oil which can be ‘harvested’ and used for energy. The
possibilities for extracting large quantities of gas and oil from fracking around the world is high but there are
some who ask whether the cost in terms of the potential damage to the environment of the large amounts
of water needed in the fracking process, the chemical residues left behind, the potential for contamina-
tion of drinking water supplies and pollution, not to mention concerns over the increased possibilities of
earthquakes in the area around fracking wells, is worth the amount of gas and oil which can be extracted.
The amount of gas and oil that could be extracted is not insignificant. The chief executive officer for
the US energy firm Conoco, Ryan Lance, was reported to have predicted that the United States could be
self-sufficient in oil and gas by 2025. Estimates are that shale oil and gas could be around 2 million barrels
per day by 2020 and could rise to 3 million barrels per day by 2035.
The Organization of Petroleum Exporting Countries (OPEC) is a group of oil-producing countries which
act together to manage oil supplies. In our model of demand and supply in this chapter we have assumed
that no buyer or seller can individually influence market price. Because a country like Saudi Arabia has
massive reserves of oil, it can influence market price by increasing and reducing the supply of oil coming
onto the market. Together, OPEC countries can and do manipulate oil supplies to try and keep the market
price of oil relatively stable. Even OPEC cannot influence demand, however, and so changes in economic
activity, the weather and natural disasters such as hurricanes, earthquakes and tsunamis do cause the
demand for oil to change and help account for some of the volatility in market prices.
In November 2012, OPEC acknowledged that the possibilities represented by fracking might have a long-
term effect on the price of oil. The predicted output of 2 million barrels per day, for example, is almost equivalent
to the daily production of one of the OPEC countries, Nigeria, so the effect on oil and gas supplies in the future
is going to be a factor. If fracking expands not only in North America but in the rest of the world, the effect on
the supply of oil and gas will be to shift the supply curve to the right and assuming demand is relatively stable,
the future oil price could fall. OPEC might choose to respond to this possibility by cutting back its own supply
of oil to the market in order to stabilize the price. Because oil produced by fracking is a substitute for crude
oil, OPEC expects the demand for crude oil to moderate as consumers switch to oil generated by fracking. All
these factors could mean that oil prices remain more stable in the medium to long term and might also fall.
Is this good news for consumers of oil and gas? That depends on whether the concerns of environ-
mentalists over the safety of fracking are real or not. Environmentalists would argue that the true cost
of generating shale gas and oil is not being
taken into account by firms involved in the pro-
cess because they are not accounting for the
potential environmental damage that they say
can be caused by fracking. This represents an
excellent example of the working of markets
and also the economic problem – are the bene-
fits of generating more oil and gas and helping
keep prices more stable, greater than the costs?
Can we truly know the real costs of fracking if
the companies involved dispute the claims of
environmentalists?
D
D
l
l
CASE STUDY
The fracking process is controversial with opponents
citing the extensive use of water in the process and the
potential to cause local earthquake risks, but proponents
say it is a safe and cost-effective method of generating
new gas and oil supplies.
