The end of oil and the notion of energy independence command a great deal of rhetorical attention globally. Yet in all likelihood, oil will remain the largest component of the global energy equation for the next 50 years or more. Middle-class consumers around the world value oil’s comfort, convenience, and cleanliness; one of the first purchases consumers make when their income hits $15,000 a year is a car. Oil also offers high energy density, low volatility, and a nearly universal delivery infrastructure. As a result, the underlying demand for oil shows a strong upward trend, especially for transportation use.

“Peak oil”—the idea that the world is running out of oil—captured the markets’ imagination as prices pushed through $100 a barrel during the summer of 2008. As the National Petroleum Council report Facing the Hard Truths about Energy highlighted last year, oil is becoming a more difficult resource to develop: smaller, deeper, more geologically complex, lower-quality resources mean higher finding and development costs per barrel. With these geological challenges, combined with difficult access issues and accelerating decline rates in mature fields, crude-oil supplies will have difficulty growing much beyond 95 million to 100 million barrels a day, meaning the world will tend to face supply constraints when economic times are good.

However, the price rise from $80 per barrel to $145 per barrel resulted more from rising demand for diesel fuel and the investing appetites of commodity markets than from any change in the supply of crude. The economics of unconventional reserves, such as Canadian oil sands, would suggest that there are adequate reserves to meet transportation requirements for the next few decades. Today, the decline in prices to below $50 a barrel with the economic downturn makes it clear that we have plenty of oil for the near term. Still, underlying market fundamentals raise the question of which uses for oil will be replaced, and when. Oil demand, after all, wants to increase to 110 million barrels a day by 2020. But with shifts away from current use, could we see peak demand before the long-term supply hits the ceiling? In other words, could a variety of relatively small changes in use lead to a long-term decline in global demand?

Those who believe that oil demand has peaked point to the long-term decline in gasoline demand in the member countries of the Organisation for Economic Co-operation and Development (OECD). Increasing fuel efficiency for light-duty vehicles and the greater use of ethanol as a blend stock will reduce OECD demand for gasoline consistently over the next 20 years or more. In the United States, for example, higher fuel efficiency and ethanol blending will reduce the need for most gasoline imports by 2009. The United States could even become a net gasoline exporter as soon as 2010. Indeed, total OECD gasoline demand may have reached its all-time peak in 2007. Electric vehicles, shorter commutes, policy changes to limit city traffic, cuts in fuel subsidies, and taxes to reduce carbon dioxide emissions could accelerate the decline in gasoline demand.

At the same time, oil demand for power plants and industry continues to decline worldwide. Natural gas, coal, and nuclear energy all make more sense than oil for power generation, and as they become more available globally, the power sector shifts away from oil. Electricity and natural gas outperform oil as a fuel for industrial and heating use, so companies and consumers shift to the alternatives when they have sufficient capital. By 2020, oil demand for power and industrial uses will be declining to the point of insignificance.

In contrast, demand continues to grow rapidly for distillate fuels, particularly diesel in China and the Middle East. During the past decade, global distillate demand has grown rapidly—at twice the rate of gasoline. That growth keeps upward pressure on the price of oil. In developing nations, diesel literally drives GDP growth, providing much of the energy for producing and delivering goods. As the GDP of developing markets grows, demand for diesel grows apace. Diesel price increases lead to only half the drop in demand that occurs for gasoline. Subsidies allow demand growth to accelerate even in the face of high prices. What’s more, compared with gasoline, diesel has few substitutes as a transportation fuel, and the refiners’ ability to produce more diesel from a barrel of refined oil is limited.

For all of these reasons, oil will remain the world’s primary transportation fuel for some time. Clearly, we aren’t moving to a hydrogen economy quickly, and renewables are not on a path to replace oil in the next 50 years.

Nonetheless, underlying trends suggest that we could hit peak demand for oil well before we hit peak supply. Going forward, there are significant opportunities to generate positive economic returns from improved energy efficiency—higher fuel economy can have a greater impact on global demand than any other single factor. Oil substitutes are being adopted as blending components much more rapidly than as replacement fuels. The use of e10 (gasoline with 10 percent ethanol) across the system has had far more impact than the limited use of e85 (gasoline with 85 percent ethanol).

Moreover, improving the efficiency of vehicles (by making them lighter, with more efficient engines) and promoting oil substitution (through ethanol blending and electric cars) has the potential to drive down demand for refined products in the longer term, even as the economy grows. Policy changes that promote transportation electrification through the build out of plug-in-electric-hybrid and battery electric-vehicle infrastructure could accelerate these trends. Other steps could further accelerate the day when demand peaks. If the fuel efficiency of heavy-duty vehicles improves significantly, economical diesel substitutes develop, and diesel refineries become significantly more efficient, OECD demand for oil could peak before 2020. The growth in demand in developing markets could slow significantly too if rising wealth leads to the use of more efficient vehicles, increased oil substitution, declining subsidies, and behavioral changes as urban density rises.

Rising energy prices during 2007 and 2008 raised the possibility that demand was peaking as market choices and policy decisions in OECD markets led to increased fuel efficiency, greater oil substitution, and reduced travel. A combination of micromarket decisions and policy choices could make demand for oil peak as early as 2015.

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