$67 dollar oil today is a far cry from the $115 dollars a barrel of this past summer. Columns have been written and television analysts are spent from guessing how low prices might go over the coming months. The quickest indicator of falling oil prices is $2.30 gasoline. No one is complaining as they fill up their vehicles. However, the long-term effect of low oil prices will not be as well received.
The Organization of Petroleum Exporting Countries (OPEC) met on Thanksgiving Day to discuss oil production and pricing. The end result of the meeting was OPEC releasing a statement saying that they would not be cutting oil production. While this announcement was not a surprise, the U.S. market nonetheless reacted with falling stock prices and further 2015 budget cuts for U.S. operating companies.
Simply put, OPEC has declared war on U.S. shale play production. The shale plays are a direct threat to the market share that countries like Saudi Arabia have enjoyed dominating for decades on end. However, while OPEC as a whole is taking a large gamble that the U.S. will buckle under pressure and that shale play production will be cut, not all OPEC countries have this ability to take such a large risk of waiting out American production.
While the Saudis can produce oil for less than $5 a barrel and then sell it around the world for significantly more, some analysts say that they need oil prices to remain as high as $100 a barrel for one particular reason. The Saudis, along with countries like Iran, Iraq, Nigeria and Qatar fully fund their social programs through their oil and gas revenue. Therefore, while the cost of producing oil is cheap, the cost of funding these social programs is great. OPEC currently has a surplus of dollars in their budget and is taking this massive gamble with the fact that they can fund these Middle Eastern countries during this waiting game. So while OPEC wants to wipe out U.S. shale production, several OPEC member countries’ entire economies are at risk with this decision.
How do OPEC’s decisions affect us at home? Again, OPEC will literally try to drive U.S. companies out of business. They have lowered their oil export prices to the United States, thus making it more feasible for us to purchase foreign oil rather than drill domestically. The ripple affect of an unprofitable oil market is a drastically reduced rig count and a scaled back workforce. As of today, new drilling permits in Texas are down 55%. As with any business, if the costs are greater than the profits, budgets get cut and workers get sent home.
While it is impossible to predict how long this supply and price war will last, the United States’ oil and gas industry has the 1980’s to compare this current situation and thus make prudent plans accordingly.
One contrasting difference from the 1980’s versus today is that crude oil is now cheaper to produce in the United States thanks to developing technologies. OPEC seems to be making a foolish bet on a new an improved U.S. oil and gas market.