Oil price falls and questions rise

U.S. energy policies came into sharp focus last week as the price of crude oil fell to a two-year low.

The tumbling oil price has a real impact on Americans’ lives. The good: prices at the pump are at a historic low, dipping below $3 in some states. The bad: Stock market volatility hurts investors, raises questions about the robustness of the economic recovery and places severe pressure on domestic oil producers.

Prices rebounded on Friday, holding above $80 a barrel. But that did not dull the questions about America’s ability to maintain the pace of the oil boom that has blossomed in recent years.

{mosads}Critics say that production in the very formations that are most responsible for the U.S. oil boom is endangered by two major factors: a lack of infrastructure at home, which makes the storage and refining of crude more complicated than it should be, and the potential for the oil price to plummet further if the Organization of the Petroleum Exporting Countries (OPEC) doesn’t cut its output.

“The market has gotten oversupplied, and with the potential for domestic prices to fall by another $6-$8, certain unconventional plays are no longer economic to develop,” said James Fallon, director of research and consulting with IHS energy team.  

“So producers aren’t going to keep putting money into developing new wells and completing new wells, and so they will just stop drilling and that will slow down production,” Fallon said.

If that were to happen, the critics say, it would be a dismal waste of new technologies that have moved the United States within touching distance of its long-cherished goal of energy independence.

This week, international Brent crude oil fell to its lowest benchmark in four years, hitting $82. The U.S. domestic West Texas Intermediate (WTI) crude oil benchmark also dipped below $80 a barrel for the first time in more than two years.

Analysts attributed the drop to an economic slowdown and reports that OPEC is unlikely to cut production anytime soon. The first point was given added force when the International Energy Agency slashed its forecast for growth in demand for oil.

For the moment, the biggest oil plays in the United States – the new fields credited for the country’s oil boom — are showing no signs of tapering off. Those include North Dakota’s Bakken formation, and Texas’ Eagle Ford and Permian formations.

The Permian is expected to see its production double in the next two years. Right now it is producing 1.7 million barrels a day.

Production in the Bakken is at roughly 1.1 million barrels a day and moving upward fast.

But increases on that scale are putting a severe strain on the existing infrastructure, which is struggling to carry the much greater volume of crude to refiners far away.

“We are producing 1.1 million barrels a day and our production is continuing to go up, and, no, we don’t have enough infrastructure,” said Sen. John Hoeven (R-N.D.)

He added, however, that he is confident producers will be able to adapt to the changes in oil price and “move around accordingly.”

North Dakota’s top oil regulator announced this week that the state produced a record 35 million barrels in August — but admitted that the low crude prices could put a damper on maintaining or further increasing the level of production. 

“That’s going to put a lot of pressure on the North Dakota oil and gas industry,” said Lynn Helms, director of North Dakota’s Department of Mineral Resources.

“We’re talking less than 10 percent impact…but three of our counties are not economic right now,” Helms said, in reference to production in certain areas of the Bakken.

About 10 of the 190 oil rigs currently being drilled in North Dakota could stop altogether if prices continue to fall, he added.

An increase in the cost of transporting oil from the Bakken and Permian to its primary buyers on the East and West Coast, is a top concern for producers.

“A refiner on the East Coast isn’t going to buy a barrel of domestic crude oil if, [when] delivered to his refinery, it’s $10 more expensive than a barrel of international crude oil,” Fallon explained.“Domestic producers know prices could fall by another $8-$10 bucks and that’s the concern.”

Fallon also warned that “at $75 selling price, some of these tight oil formations aren’t very competitive. That’s barely enough to cover the break even cost of drilling.”

Bill Kroger of the law firm Baker Botts doesn’t see it that way. He asserts that producers are going to make sure their oil is transported no matter what.

“If there is a constraint in pipeline capacity, you just go back to using more trucks,” Kroger said. “No one is saying, ‘Oh my gosh, let’s not drill these wells,’”.

Kroger suggested that any change in terms of new wells being drilled was more likely to concern timing rather than abandonment of proposed projects.

“My guess is that the schedule may change and some producers will just drill certain wells next year, or when prices get better. But those decisions aren’t being made today and will probably come in the next couple of weeks.”

Meanwhile, further cause for guarded optimism came when Bank of America Corp. predicted that OPEC would “likely curtail” its production to “lend support to oil prices.” Such a move would, in turn, help U.S. domestic prices recover.

But there is no guarantee it will happen, and OPEC has yet to move in that direction.

“When the flat price of crude begins to fall globally, there is pretty big exposure that domestic price will fall even further than that. And when that domestic price falls far enough, you really will start to see production impacts,” Fallon said.

Such a scenario could in turn create a “pretty big disruption to cash flow” for the small independent producers that make up most of the operations in the Bakken and Permian.

If those independent producers have “financial balance sheet problems” because of the drop in oil prices, Fallon said, “that could be very disruptive to the momentum of the growth of unconventional oil production.”