For the White House, cheap oil is now shortsighted politics


Cheap gas used to be unambiguously good politics for the US President. To make sure it never goes away, since the 70s the US has kept a Strategic Petroleum Reserve, a complex of storage caverns in the rock salt along the Gulf Coast. With about two weeks’ notice, the President can sell crude from the reserve into the market, guaranteeing a consistent price if there’s a war or a hurricane. It’s a hedge for domestic politics because in America if it’s expensive to drive, it’s the President’s fault.

And so Donald Trump has spent the year furiously jawboning Saudi Arabia and Opec about the price of oil, and authorising a release from the Strategic Petroleum Reserve in anticipation of more crankiness with Iran. But last week in an interview with CNN, the secretary-general of Opec pointed out that the United States is now a net producer of oil. He’s right. When the price of oil drops, American oil producers don’t just pump less, they stop buying new equipment. It’s easy to see in the data, and it’s a problem for a President who cherishes his quarterly GDP growth numbers.

The White House doesn’t seem to have noticed yet, but it needs to keep oil above $50 per barrel. The secretary-general of Opec was making a threat. Nice oil patch you got there. Shame if something happened to it.

Around the beginning of 2015, economists and investors started to wonder why businesses had stopped investing in new plants and equipment. If you break out investments in new oil production, you can see what happened. When the price of a barrel of oil dropped from over $100 to below $50 at the end of 2014, the drop in capital spending from oil cancelled everything else out.

ALSO READ   The Atlantic Politics & Policy Daily: Beef Justice

For about a year, Saudi Arabia played break-even chicken. In different countries and different oilfields and even different wells, the cost to extract a barrel of oil varies wildly. The “break-even” is the market price at which it makes sense to produce — sell below that, and your well is losing money. Saudi Arabia has about half a trillion dollars in foreign exchange reserves and its oil basically comes out of the ground with a straw, so it thought it could push down the price of oil and ruin American shale producers, who had a materially higher break-even.

You see the drop in business investment above, so it kind of worked. But, in response, the American shale industry got real efficient, real quick, and dropped its break-even price. Since 2016, the Dallas Fed has been asking frackers in its district about break-even prices, so now we have a pretty good idea how much pain they can bear.

According to the Dallas Fed survey, it still makes sense to pump from an existing rig down to about $30 a barrel. But right around $50 dollars a barrel is where it stops making sense to blow new holes in the ground in West Texas. That is: that’s the price at which the oil patch starts to drag on business investment.

Which is right… about… now.

Related Links:
Call me Ish-shale — FT Alphaville


Copyright The Financial Times Limited 2018. All rights reserved. You may share using our article tools. Please don’t cut articles from FT.com and redistribute by email or post to the web.



READ SOURCE

Leave a Reply