RBC I There’s an adage in the oil and gas industry, one that could apply to almost any commodity, really: “The best cure for high prices is high prices, and the best cure for low prices is low prices.”
That is: High prices lead to more drilling, leading to greater production and, thus, greater supply.
Meanwhile, those same high prices encourage conservation and dampen demand. Supply exceeds demand, and prices drop, so that it’s no longer economically feasible to be drilling wells at a cost of $2 million to $20 million a pop. The drill rigs come down and production declines (because oil wells, particularly those going for oil in shale formations, produce less and less over time).
Meanwhile, the low oil prices entice people to pull their SUVs and gas-guzzling toys out of the garage and drive more, thus increasing demand. Demand outpaces supply, and prices go back up. It’s a wacky ride, but it is, at least, somewhat predictable on a grand scale: What goes up must eventually come down, and vice versa.
About a year ago, after a barrel of oil had been selling for around $100 for years, the high price cure kicked in. The West Texas Intermediate oil price plummeted from $107 per barrel in June 2014, its peak, down to about $80 per barrel in October, to just $43 per barrel in March of this year. Suffice it to say that high oil prices are deep in remission. And this is what the “cure” looks like on the ground, and in the economy:
• The national rig count is down by 50 percent. Today there are nearly 1,000 fewer rigs out drilling for oil and gas in the U.S. than there were a year ago.
North Dakota lost almost 60 percent of its rigs with other Western oil and gas states losing around 50 percent. That adds up to a significant hit for local and state economies, as the drilling phase is the most labor- and cost-intensive of a well’s life.
A single horizontal oil well can cost $5 million or more to drill, with one rig directly providing 50 to 150 jobs. And whatever un-drilled landscapes remain in the oil and gas fields get a little bit of relief from the drilling, the hydraulic fracturing and the associated activities.
The low-price-induced quasi-pause also gives environmentalists an opportunity to get regulatory agencies to put stricter regulations in place before the next boom. Over the last few weeks, the rig count seems to have leveled off, but it’s too soon to tell whether it’s bottomed out or not.
• The energy industry is shedding jobs. Worldwide, oil and gas companies have laid off some 100,000 workers since August. Domestically, most of the pain is being felt in Texas, but layoffs are occurring everywhere in what was probably the strongest recovering industry after the Recession. North Dakota’s mining and logging industries (which includes, and is mostly made up of, oil and gas), employed fewer than 4,000 people back in 2005, according to the Bureau of Labor Statistics. By 2014 that had ballooned to 30,000.
In recent months, at least 2,000 jobs have been lost in the industry in that state. Similar losses have been felt in New Mexico and Colorado, and Wyoming’s mining and logging industries have shed at least 3,000 jobs.
• Oil- and gas-dependent state, county and city budgets are suffering. As go oil and gas prices, so go revenues to the governments that tax oil and gas production.
Severance taxes and royalties are collected as a percentage of total revenues from each well, so a 50 percent drop in price leads to the same decrease in tax collections. Some states, like North Dakota, have tax exemptions that trigger when the price of oil drops below a certain level (in hopes of keeping more drill rigs around), cutting tax revenues even further. If prices remain low, next year’s budget process is likely to be ugly.
So what about the low prices curing low prices cure? When’s that going to kick in? No one really knows, of course, but the data suggests that the answer is: Not yet. Here’s why:
• Production levels haven’t started dropping yet. According to the Energy Information Administration, domestic oil production continues to climb, despite the drilling slowdown. In March of this year, U.S. petroleum output hit 295 million barrels, making that month—the latest for which there is data—among the most prolific in U.S. oil history
Production will start dropping unless drilling picks up again, but it might take a few months, still, to see the decrease.
• Demand for petroleum is increasing, but not enough to offset high supplies. Prices at the pump are generally lower than they’ve been in years. American drivers are expected to collectively save billions of dollars as a result, adding up to a sort-of economic stimulus package. The question has been whether folks would go spend all that stimulus in other sectors of the economy, or just drive bigger, gas-guzzling cars for more miles, and put the savings right back into the tank.
It now appears that they’ve done both.
In March of this year, U.S. motorists collectively drove 26.9 billion miles more than they did in March 2014, an increase of 3.9 percent.
Westerners not only drove the most miles, but also saw the biggest increase over the year. In the process, motorists nationwide burned through about 1.5 billion barrels of gasoline, a 2 percent increase from a year earlier. That’s a lot of fuel (and a lot of added emissions, not to mention traffic on the road), but it’s not enough to put a dent in supply and hike prices.
Keep in mind that since oil is a global commodity, the laws of supply and demand work on a global scale. By not curtailing output during the price crash, Saudi Arabia has kept global supply high. And American drivers, as gluttonous as we may be, are not yet enough to bolster global demand on our own.
Until there is a global shift, then the low-prices cure for low prices isn’t likely to make it to the Western oil patch. In the meantime, we can enjoy the respite from drilling, and choke on the fumes of all that extra car exhaust.
Jonathan Thompson is a senior editor of High Country News.
