Drilling moratorium may be more costly than oil spill

Economic researchers in Louisiana and Texas have been busy calculating the damage to the states’ economies caused by the Obama administration’s moratorium on deepwater drilling. It turns out that the economic impact to businesses and workers in both states may be more severe than the cost of the cleanup in the aftermath of the April 20 explosion and fire aboard the Deepwater Horizon drilling rig and the subsequent gusher of crude oil into the Gulf of Mexico. A small portion of that oil washed ashore on Louisiana beaches and marshes, and the spill shut down the fishing industry near the affected areas.

As costly as that has been (estimates range upward to several billion dollars), the long-term loss of jobs of offshore oil industry workers and the loss of business for related companies may be even worse, says a report by the Houston-based Institute for Energy Research.

More than 8,000 jobs and about $500 million in wages will be lost if the moratorium continues longer than six months, according to the report titled “The Economic Cost of a Moratorium on Offshore Oil and Gas Exploration to the Gulf Region.” This will result in a total economic loss of about $2.1 billion to the area.

Joseph Mason, a professor at Louisiana State University in Baton Rouge, says that economic losses in Texas will be about $622 million, about half that of Louisiana. However, he says the data suggests that, “The moratorium could be more costly than the oil spill itself.”

There is no doubt that the oil spill will lead to tougher regulations on Gulf of Mexico drilling, and this may drive some drilling contractors and operators to other countries where the rules governing drilling aren’t as onerous to the petroleum industry. So the long-term loss of jobs and tax revenue from operators, industry vendors, and employees may be very detrimental to the economies in Louisiana and Texas.

One industry veteran told me recently, “We have come back from Katrina, from Gustav, from Ike, and from other natural disasters. However, I don’t know if the industry will ever recover if the government chases off [operators]. The oil and gas industry is the basis for our livelihood, and I don’t know what can take its place.”

The major Gulf of Mexico players like BP, Shell, Chevron, and others are large diversified corporations with worldwide operations. They will survive whatever the government throws at them. However, many of the independent operators that are focused almost exclusively on the Gulf may not. Neither will some of the family-owned and smaller suppliers to the offshore industry.

This is not obtuse economic theory. To those of us who live along the Gulf Coast, it is tangible and easy to understand. If the White House truly wants to turn the economy around and stop the loss of jobs, it must consider lifting the drilling moratorium immediately.

Will bearish gas market come back this year?

The North American gas market is suffering from oversupply and waning demand that have combined to keep natural gas prices low. Yet, despite this, there are several indications that prices may rally, although there is no consensus on this.

Crude oil prices have been hovering around $70 for some time, and at least one senior analyst, Darin Newsom with DTN, a market information service out of Omaha, Neb., says that oil may hit $90 before year-end.

Newsome added that even though oil has the potential to rise another $20, supply and demand fundamentals remain weak.

The EIA recently reported record-high gas storage. That, combined with robust production mainly from unconventional resource plays, will continue to depress the price of natural gas, the agency said.

In its August short-term energy outlook, the EIA projected a full-year average price of $3.92/MMBtu – a full 30 cents less than its previous forecast.

However, as the economy bounces back and the supply-and-demand dynamic starts to balance, the EIA expects the Henry Hub price to rise to an average of $5.48/Mcf next year.

The EIA said it expects storage inventories to set a record by the end of the injection season, reaching 3.8 tcf by the end of October, topping the record set in 2007 by 235 bcf.

Canada’s National Energy Board attributes current low gas prices to an expanded US natural gas pipeline network, higher LNG imports, and sluggish gas demand. The NEB says the low prices have put pressure on drilling activity since late last year, with Canadian drilling down about 60% and US activity down roughly 50%.

The NEB said it expects gas prices to hold at or below the $4/MMBtu level for the next few weeks at least.

What are your thoughts on natural gas prices and when you think the market will improve?

Hydraulic fracturing legislation not needed

A new report from the Colorado School of Mines’ Potential Gas Committee concludes that the United States is sitting atop natural gas reserves much larger than previously thought – more than 2,000 tcf, according to the committee, or nearly 100 years worth of production.

This expanded forecast is due mainly to the discoveries of large reserves of gas in America’s shale regions, including the Marcellus in Northern Appalachia, the Barnett in North Texas, the Woodford in Oklahoma, the Fayetteville in Arkansas, the Haynesville in Louisiana and Texas, and several others. The upward revision represents the largest jump in resource estimates in the 44-year history of the report.

Unfortunately, we may not be able to recover much of this newly discovered clean-burning natural gas. In a move that studies suggest could result in thousands of lost jobs, billions in taxpayer revenue, and massive amounts of energy left in the ground, Congress has introduced legislation that, if passed, will impose new restrictions on a safe and commonly used recovery technique known as hydraulic fracturing, which is a critical well stimulation technology.

Hydraulic fracturing has been used for more than 60 years to access and increase oil and gas production of resources that otherwise would have remained trapped under miles of rock. It’s also been regulated by state agencies for at least that long.

Now, members of Congress who apparently believe that hydraulic fracturing is unsafe and unregulated want to require the U.S. Environmental Protection Agency to regulate hydraulic fracturing as a form of underground injection under the Safe Drinking Water Act.

Doing so would place an unnecessary financial burden on a critical American industry without any tangible environmental benefit. Hydraulic fracturing has been aggressively regulated by the states and the process has an impressive record of safety and performance. Imposing an additional burden on companies that employ the technique could conceivably result in the loss of thousands of jobs, billions of dollars in taxpayer revenue, and leave massive amounts of energy in the ground.

Your thoughts….

A bearish market for natural gas

The head of Mercator Energy, a Rockies drilling company, recently predicted “massive drilling curtailments” this summer due to a continuing “glut” of natural gas supplies, which will soon include large volumes of LNG scheduled to arrive in the United States at about the same time that gas storage capacity begins to fill up.

Mercator’s John Harpole, speaking at an oil and gas conference in Denver, said that a number of factors are contributing to the oversupply problems. First, at the current injection rate, he noted that storage facilities will be nearing capacity limits by late summer, which means the already saturated market will be flood with gas. In addition, Harpole said that LNG imports have increased more than 200% year over year as of early April. This, he said, could result in “massive shut-ins” as natural gas prices plummet lower and lower. Producers around the country will see this as a signal and will begin shutting in production, he added.

On the positive side, it was noted that there has been a 225% rise in gas-fired electric power generation since 1996, while coal-fired generation has remained fairly static during this time. Nuclear and hydroelectric power generation haven’t changed much either. Renewable energy, especially wind power, has risen significantly during the past decade but still remains a relatively small part of the total energy mix. In electric power generation, natural gas still affords the greatest opportunity for growth and increased market share.

Therefore, say many analysts, the long-term outlook for natural gas looks good, but in the short term, oversupply will lead to lower prices and further production cutbacks.

What’s your take on this? How low will natural gas prices drop this summer?

Budget proposal is harmful

The Independent Petroleum Association of America rarely gets this upset about a new government policy. However, on Feb. 26, the Obama administration delivered a body blow to the industry when it proposed a colossal $30 billion tax increase (as part of the 2010 budget) on US energy producers. IPAA management and staffers were livid that the President would attempt to derail domestic oil and natural gas production at a time when the economy is in shambles and the country is importing more and more of its energy needs.
So much for energy independence.

There is faint hope that Congress will modify the proposed budget and remove some of the more loathsome provisions. However, any such changes would have to come in the Senate because the House leadership likely helped craft the budget proposal or at least contributed in some way to the anti-oil tax provisions.

The IPAA exists to help protect the interests of independent oil and gas producers – not so-called Big Oil, but the many small- and mid-sized companies that drill roughly 90% of the nation’s oil and natural gas wells. These companies produce 68% of American oil and 82% of our natural gas supplies, and in case the government hasn’t noticed, they are suffering along with the rest of America in the current economic turmoil.

A tax increase such as the administration has proposed would have a devastating effect on US producers, and it would run counter to the needs of the country. It could shut down thousands of domestic oil and gas wells and increase the need for imports. The government would ultimately lose much more in tax and royalty revenues than it would gain by such a proposal, and the loss of jobs would be catastrophic in petroleum-producing states. With the current unemployment rate at its highest level in years, this could not come at a worse time.

Without going into too much detail, here are some of the items in the budget proposal:

* Repeals expensing of intangible drilling costs (fuel, repairs, etc.);
* Repeals percentage depletion (without this provision, many small, barely economic wells will be shut down);
* Repeals marginal well tax credit (an important safety net);
* Repeals enhanced oil recovery credit;
* Eliminates expensing of geological and geophysical amortization costs;
* Imposes an excise tax on Gulf of Mexico production; and
* Repeals manufacturing tax deduction for oil and gas industry, a provision that is allowed other US manufacturers.

It is worth noting that this budget proposal slams the petroleum industry at the same time that Interior Secretary Ken Salazar has decided to cancel the planned oil shale lease sale. An earlier government study revealed that nearly 800 billion barrels of crude oil lay untapped in oil shale deposits in several Western states, and now it appears that they will remain unexploited.
In a conference call announcing the cancellation, Salazar commented: “Those who believe oil shale is a panacea for America’s energy needs have been living in a fantasy land.”

To that I would say: those who believe that alternative energy alone can fuel our vehicles, heat and cool our homes and businesses, and provide the necessary energy for American industry to thrive have followed Alice down the rabbit hole. This kind of thinking will cripple our energy infrastructure.

Earlier this year, Salazar said his office would “rework” the five-year offshore oil and gas leasing plan that proposed opening up parts of the Outer Continental Shelf, which have been closed to hydrocarbon development for decades. I can hardly wait to see the revised proposal.
Writing in the Wall Street Journal recently, BP CEO Tony Hayward noted that America needs to stop looking to others for its energy needs and develop its own hydrocarbon endowment. He said, “Even with the rapid growth of alternatives, fossil fuels will continue providing most of the energy Americans consume for decades to come.”

Oil imports, said Hayward, have more than doubled in the past 35 years – from 30% in 1973 to around 65% today. This figure needs to get smaller – not bigger.

With declining energy demand due to the recession, Hayward noted that now is the ideal time for Congress and the Obama administration to work with energy producers to craft an energy policy that creates jobs, expands and diversifies the nation’s energy supply, generates government revenue, and protects the environment.

We agree. Unfortunately, the current budget proposal is a step in the wrong direction.

How full is the energy glass?

Amid all the gloom and doom reporting about the economy and financial markets in the news media, a friend sent me an energy market assessment by Michael Smolinski, an industry analyst with Phoenix-based Energy Directions Inc. and a well-respected contrarian. In his analysis, Smolinski points to a number of factors that may indicate that:

a) the economy is stronger than we think; and
b) the situation is starting to improve already.

Although headlines are pointing out that unemployment has reached its highest mark in 26 years, they fail to mention that the US population was about 232 million then – 72 million fewer than today’s population. So, obviously, there are a lot more people gainfully employed today than there were in 1983. People are still working, consuming, using up, and wearing things out, says Smolinski.

Another sign that things may be on the upswing is electricity generation. For the last week of January, our nation’s power producers generated 81.253 billion kilowatt hours of electricity. That is nearly 25% greater than the same week last year and second only to the record of 83.459 needed two years ago.

Natural gas inventory is also on the decline, which if it continues, should foreshadow an increase in prices, which would be great news for hard-hit producers. Smolinski points out that Canada, our largest source of imported natural gas, is using more gas and supplying less of it to US markets.

Finally, our friend Allen Brooks over at Parks Paton Hoepfl & Brown recently said that he believes this energy downturn may be more like the 2001-2002 market correction rather than the 1980s energy bust. It’s a disservice to explain his theory and his rationale in a few short sentences (read his “Musings from the Oil Patch” dated Feb. 3 for a more thorough explanation), but Brooks notes the current downturn has seen 516 rigs idled so far, which represents a 25% retrenchment.

If this downturn were to match the 2001 decline, there would be another 357 rigs yet to be idled. This would be a net loss of 873 rigs from the rig count that peaked at 2031 active rigs last fall. This decline matches pretty closely the 2001 decline and that forecast by Nabors Industries late last fall as well as Brooks own forecast in November.

What do you think? Is the energy glass half full or half empty?

Investing in energy is patriotic

For years, the US government has paid lip service to “energy independence” and “energy security.” This has amounted to a token acknowledgement that the United States has become too dependent on foreign sources of energy for its own good. We need more than tokenism from the new administration that takes control in Washington on Jan. 20. The government needs to allocate resources to actually doing something about the problem.

First, one of the things the Obama administration can do that won’t cost the taxpayers a dime is to allow drilling in areas that have been off-limits for years, including federal lands in the West and in offshore areas that heretofore have been off limits to oil companies. This would be a good start.

Next, the government needs to encourage investment in emerging technologies for all forms of energy – petroleum, coal, nuclear, hydroelectric, wind and solar, tidal and wave energy, and biofuels – with government-guaranteed loans, if necessary. This may include public-private cooperation in building nuclear power plants and in developing zero-emissions coal-fired plants. We need to encourage American ingenuity so that we don’t fall behind other nations.

Government policies have helped destroy much of the manufacturing base in the United States, so it behooves us to make up for this by shoring up our reputation as the high-tech capital of the world. With many traditional investors weakened by the strongest economic recession since the 1930s, it’s time for the government to step up to the plate and help out by investing in our energy future.

It’s also appropriate at this time to express thanks to the President-elect for backing down from his earlier view that a new Windfall Profits Tax is needed due to “excessive” oil and gas profits. Obviously the excessive stage is over and much of the industry is now in a survival mode.