Lifting the ban on US oil exports: the brouhaha begins

12 Mar

There is a lot of money on the table. Oil producers want to lift the oil export ban, refineries do not, so prepare for a long debate.

By András Bácsi-Nagy

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Image: npr.org

The discussion over natural gas exports is hardly over (see my previous post) but there is another debate heating up in the US – this time about crude oil exports. Similarly to natural gas, the export of domestically produced crude oil has been restricted by law since the Arab oil embargo in the 1970s, the idea being that the US cannot afford to lose any indigenous source of the commodity in an era of increasing scarcity and great geopolitical disturbance. Up until recently, however, the ban had been mostly symbolic – the US has not had any crude of its own available for export in any significant quantities.

us_oil_prod2The US tight oil boom. Source: EIA

New oil, new problems

While the Middle East is no less turbulent today than, say, a decade ago, the “tight oil revolution” that has come on the heels of the “shale gas revolution” has changed the crude landscape in the US considerably. The US is now on track to become the world’s number one oil producer by the mid-2020s, and self-sufficient (in theory at least) in terms of crude oil in a decade or two. And even today, local refineries produce close to their capacity limit. Add to this the fact that the pipeline infrastructure in the Midwest and the Gulf Coast has not kept pace with the tight oil boom, creating serious logistical bottlenecks between producers and refiners – and suddenly oil companies producing this oil have a big problem.

The oil producers can only sell to a limited number of local refineries, thus the refineries have the upper hand when it comes to bargaining over the price of oil.

It is no wonder then that some of the oil producers have started a campaign for lifting the crude export ban. Their calculations are driven by cost considerations – to avoid being stuck with the discounted prices, it would make sense for them to ship the crude abroad for processing. Existing refineries on the other hand are expensive to expand, as is building new ones. The companies are joined by politicians, who – implausibly –  contend that lifting the export restrictions will actually lower prices at the gas pump. Consumer gasoline prices have been a perennial political issue in the US, especially since prices have hit 4 dollars a gallon. Other proponents point out that supporting global free trade in itself also gives the US global political leverage.

Political opponents however say that by allowing US producers to export their crude, prices will actually go up for consumers. Some of them accuse “Big Oil” of wanting to reap the extra profit at the expense of the American consumer. American oil, they say, belongs to Americans. Others argue on the basis of national security – Why import from OPEC countries when you can tap your own resources?

Bargaining over the rent

At first sight, the debate seems to be about corporate interest versus consumer welfare. But will keeping the ban in place lower gas prices for consumers or, to the contrary, will gas prices be lower if the restrictions are lifted?

In the short term, keeping the ban in place would conserve lower crude prices regionally. But there is evidence that refiners will not –­ or cannot – pass cheaper prices on to consumers. That is because the region still needs oil product imports. Thus, the primary beneficiaries of the depressed tight oil prices are the refiners in the Midwest that can get the tight oil at a discount because it is “stranded”.

So the current debate can also – and perhaps more revealingly – be seen from this perspective: Who will reap the profits – refiners or producers? If the ban is lifted, oil producers will be able to cash in on the higher international price levels. If the ban remains in place, refiners will capitalize on the margins, at least until new pipelines come on line. In that light, it might not be a coincidence that one of the most outspoken critics of the export easing, Senator Bob Menendez, comes from a state – New Jersey – that has some of the largest refining capacities in the US.

All things being equal, the US is usually pro-free-trade. Even if some are certain that the US is on firm legal ground under its WTO obligations in keeping the exports ban in place, there is also a case to be made for allowing the markets to work – especially in the case of crude oil, a globally traded commodity. The export restrictions – now that the US actually has crude to export – distort the global market. Together with the existing limitations of the infrastructure, they create a supply bottleneck. When that supply is unavailable to the global market, somebody will simply reap the economic rent – like some refiners do now in the Midwest. Supply and demand considerations will also limit how much oil is actually exported from the US.

But unless new pipeline infrastructure is put in place soon, or the ban is lifted, there may be a point where companies do not invest a whole lot into new production. It was high oil prices in the first place that had encouraged them to invest in the expensive methods to produce tight oil. In the case of tight oil, producers have to drill many new wells to keep oil flowing, as opposed to conventional oil where once you drilled a well, the production is fairly stable for a relatively long period. This makes tight oil a high marginal cost technology, prone to such halts in production.

tight_cs_conventionalSource: IEA, Repsol

In the longer term, this could create a problem as domestic production declines, sending prices up.  As almost all of the players in the US oil industry are private companies, the distortion becomes unsustainable. (Or at least this is what the oil producers would like everyone to believe. The refineries’ bargaining power will decline once shutting the wells is a real option, meaning that the discounts they get on the oil would automatically decline. After all it is also their interest to keep producing as much as possible – as long as it remains profitable.)

In fact, the question may soon be moot. According to some analysts, the “revolution” in tight oil may not last long enough for the issue to be resolved conclusively; the IEA forecasts a slowdown in the growth of US unconventional production around 2018 (even if it sees much more growth than even a year ago). The intensity of the push for crude exports will be determined by how accurate estimates are concerning the pace of future tight oil production in the US. An oil industry consultant estimates that the problem of exports is at least five years away – giving the administration some time to chew over the implications of lifting the ban. There are some safety valves (e.g., exports to Canada, which are allowed) and exemption provisions in the regulations that could relieve the pressure temporarily.

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Source: IEA’s World Energy Outlook chartpack

No instant solution

As the ban was imposed by an act of Congress, it will probably also take legislative action to remove it. It is however very unlikely that such a contentious issue will be taken up in a mid-term election year. In his turn, President Obama does not seem keen on using his executive powers either. The US Secretary of Energy, Ernest Moniz, has given the administration some breathing room by announcing that the Quadrennial Energy Review, due out in 2015, will examine the issue in more detail. Since ending the export ban is counter-intuitive for most Americans (Why export our oil when we are importing almost 60% of our consumption as it is?), there clearly needs to be a public debate about it, as in the case of possible LNG exports.

So prepare for more scaremongering, iffy arguments  and assumptions about the future way gasoline prices will go – and no decision for a while yet.

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