Oil prices have fallen in the past week, with benchmark Brent crude down more than 5% to less than $100 a barrel on Monday morning. West Texas Intermediate is now trading at $93. With the market plunging and China on the cusp of a liquidity crisis, oil looks likely to continue its swoon. Is it too soon to see relief at the gasoline pump on the horizon? And would that even be a good thing?
The average price of a gallon of gasoline in the United States is $3.566. Wouldn’t it be nice if we could go back to the days of $2.50? If you drive around 15,000 miles a year a $1 drop in the price of gas would save you about $600.
What would be the savings to the nation if we spread that buck-a-gallon savings across the 350 million gallons of gasoline we burn every day? It comes to more than $125 billion a year. And that’s only the direct fuel costs. Cheaper fuel means cheaper transportation for everything you want and need, adding billions more in savings. So how much would oil have to fall to get us $2.50 gas? Looking at recent history, when we’ve had $2.50 gasoline oil was roughly $60 a barrel — a level last seen in 2009.
So we should all be hoping for $60 oil then, right?
Maybe. But maybe not.
America is, of course, in the midst of an unprecedented oil boom. Thanks to advances in drilling and fracking, oil companies have figured out how to develop massive reserves in fields like the Bakken and Eagle Ford. Since 2008 U.S. oil output is up 43%, including a massive 1 million barrel per day gain in 2012. This year, for the first time in decades, the U.S. relies less on imported oil than on domestic supplies. According to IHS IHS -0.29%-CERA, the boom in unconventional oil and gas supports 1.7 million jobs, generates some $70 billion in federal, state and local taxes, and adds roughly $250 billion a year to the U.S. gross domestic product. And all those numbers are set to grow in the years to come.
But only if oil prices stay high. It’s high prices that incentivized drillers to develop the Eagle Ford and Bakken — the two biggest contributors to oil growth. The average costs of getting a barrel of oil out of those fields is between $60 and $65 a barrel, according to Morgan Stanley MS +2.03%. That includes the costs of surveying, drilling, fracking, processing, transporting, taxes and royalties (but excludes costs of land acquisition). At current prices companies will go right on drilling. But if for any reason oil were to drop to $60, activity would quickly dry up. And considering that the average unconventional oil well declines in volume by more than 50% in its first year, it wouldn’t take long for domestic supplies to slump — and for jobs to slump with it.
So then we should be hoping for a continuation of $100 oil? Maybe?
Michael Levi doesn’t think so. He’s a fellow at the Council on Foreign Relations and author of the recently published book “The Power Surge: Energy, Opportunity, and the Battle For America’s Future.“ I sat down with him in Houston last week to discuss the state of the energy world, and asked him whether higher or lower oil prices would be better for America.
“One of the arguments I make in the book in some detail is that if we cut our consumption and prices fell and we had less domestic production, then that would still be a net positive for us,” says Levi. “The way I think about high oil output in response to high oil prices is by an analogy with white blood cell counts in response to illness. When you get sick you want your white blood cell count to go up because your body is fighting that illness and making that illness less consequential for you. But you don’t want to get sick just so that you can produce more white blood cells. I think roughly the same way when it comes to high oil prices and greater U.S. oil production. We would be better off with lower oil prices and lower oil production.”
It’s an interesting analogy, the implication being that innovative drilling techniques are a kind of domestic immune response to high oil prices.
But it’s not a view shared by Carl Tricoli, the president of energy-focused private equity group Denham Capital. We discussed the issue among many others in a wide-ranging conversation last week. Tricoli believes that domestic energy independence is a very worthwhile goal. Not necessarily via greater oil and gas output, but through an optimized mix of fossil fuels, nuclear and renewables. Of course, more domestic oil is a vital ingredient in that mix.
“I like energy independence. If you’re looking at it from a macro basis, what is the impact on the economy of paying a little bit more for your fuel versus the enormous cost of arming myself and protecting myself in order to make sure I’m protecting the fuel imports I need?” says Tricoli, adding that the more energy security America enjoys, the less we need to spend stationing soldiers and sailors in the Middle East. “ Which means that the money I’m spending on domestic fuel is going into the economy and promoting the economy” rather than sending U.S. wealth into the coffers of OPEC nations.
Tricoli is biased, of course. He and his investors have a big stake in domestic oil and gas production. Besides, because oil is a global commodity, as long at the U.S. has to rely on a meaningful amount of imports, we’ll need to protect shipping lanes or be exposed to price volatility even on domestic barrels.
Sourced from: Forbes