Oil Price Drop Will Likely Be Sweet but Short
Since the great oil price rise of 1973 raised our consciousness about the cost of energy, we have resented the influence on our standard of living of a cartel called the Organization of Petroleum Exporting Countries. Now deliverance seems at hand. The price of oil is in virtual free-fall following OPEC’s inability to agree to price-supporting production quotas at its meeting in Geneva. But, instead of shouting hallelujah, we should be asking questions.
How low can the price of oil go? Very low indeed. As prices fall, more oil--not less--comes to market as producers--in the short term--try to keep up their flow of revenue. Prices, which fell below $12 a barrel Monday, could be chaotic for most of this year. Then the marginal, high-cost producers will be forced to cease operations and the price will settle--above where it is now.
At what level? At $15 to $18 a barrel in the opinion of analyst Barry Good of the Morgan Stanley investment firm. Good bases his opinion on a calculation that the price of oil won’t go above the level where it is competitive with coal as boiler fuel and on the reduction of supply as marginal production is shut in.
Where is this marginal production? Almost all in the United States and Canada. Yes, the news out of Geneva has focused on OPEC’s quarrel with British Prime Minister Margaret Thatcher. But Britain’s North Sea oil fields, with production costs ranging from under $4 to $8 per barrel, are not threatened. U.S. production is.
First to go, says Professor William Fisher of the University of Texas, will be stripper production from wells producing three or fewer barrels daily. Then, next year, Prudhoe Bay on Alaska’s North Slope will begin to decline, and new oil to replace it won’t be brought into production.
In all, Fisher testified recently to Congress, 3.1 million barrels a day of U.S. oil production will be shut in at the $15- to $18-per-barrel price. Three million barrels a day happens to be just the production cutback that OPEC seeks in its attempt to renew its grip on world oil markets. Nobody in Geneva said out loud that OPEC was aiming to cut U.S. production, but that will be the net effect.
Pointing to problems in the long-awaited collapse of oil prices may seem like the patient who, told that a cancer has been cured, says to the doctor: “Gee, I don’t know. I was coping so wonderfully with the disease.” A fall to $18 or $15 a barrel from $28 means a saving in our economy of $58 billion to $75 billion annually. That’s money in our pocket. We will see gasoline back down to 75 cents a gallon, and perhaps even to 60 cents.
What will that do to conservation? Will we drop the bus and car pool and slide back into gas-eating V-8s? Heat our homes to 80 degrees, cool them to 72? Maybe we will, but not if we’re smart.
Saudi Arabia still has the oil, and we don’t. The long-term outlook has always been for rising oil prices in the early 1990s, as deposits here and elsewhere played out. OPEC, led by Saudi Arabia--the low-cost producer with the world’s largest reserves--stood to inherit the market. Now its inheritance will come sooner.
That’s why instead of a hallelujah chorus, what you’re beginning to hear is a national debate on whether we should have a tariff or tax on imported oil in order to protect U.S. exploration for new reserves. The arithmetic is inescapable. Costs of exploring for and developing new oil are about $7 a barrel for the best U.S. oil companies. To spend that kind of money developing new oil, you need a price of more than $20 a barrel.
But arithmetic will be only one part of the debate. There
will doubtless be rhetorical charges that oilmen are enriching themselves at the expense of the nation, and calls to leave oil to the play of the free market--which would be an innovation.
The price of oil, explains Paul Frankel in the industry classic, “Essentials of Petroleum,” has always been maintained not by markets alone but by monopolies or authorities controlling production. The Texas Railroad Commission in the United States and the major oil companies internationally did the job until OPEC took over in 1973-74. But new production in Britain, Alaska and Mexico frustrated OPEC’s hold on the market. Now the cartel is grabbing for control again. Our joy will be brief.
