About the price of oil

Since rig counts follow oil prices, the current slump will hurt Western economies.

 

So, have you heard the one about the journalist who goes on the radio and says, There is no stinking way oil prices are going to crash, and then, by the time the piece goes on the air the headlines are all abuzz with the sudden crash in oil prices?

Well, that journalist was me. And I did say that.

And oil prices have been dropping. The current slump, thus far, has pushed the price from $110 per barrel this summer, to about $90 now, the lowest it’s been since 2010. A big drop, yes. A catastrophe like the one in the 1980s that led Wyoming and Colorado drillers to scrap their rigs and get out of the business? No. At least not yet (the price would have to hit $30 to match the '80s bust).

Still, the price plunge is potentially a big deal, and soon could be felt in the emerging oil plays in the West.

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Oil prices still have a long ways to drop before it's as bad as the 1980s.

The price drop is being driven by a combination of factors. As economic growth in places like China has slowed, so has global demand for petroleum. At the same time, supply is relatively abundant as the chaos in the Middle East has yet to significantly disrupt production. Saudi Arabia appears so far to be more interested in holding on to market share rather than keeping prices high, so it has yet to cut production as it has done when prices dipped in the past. And, of course, the domestic oil boom — paired with a pause in our petroleum gluttony — has enabled the U.S. to cut oil imports, leaving more on the world market. Supply is up, demand is down and prices are, too.

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Rigs follow prices up, and they follow prices back down.

The current domestic oil boom is typically attributed to an advance in horizontal drilling and hydraulic fracturing technologies that allowed drillers to access oil and gas locked up in shale formations. That’s true, but not the whole story. While the boom was enabled by technology, it was actually fueled by high natural gas and oil prices, and never would have occurred if prices had remained at 1990s levels — unconventional drilling is simply too expensive. Rig counts follow prices. That’s why, when natural gas prices crashed in 2009, the rigs went down with them. In that case, the overall rig count remained healthy because the rigs could simply move to a neighboring county or state and go after high-priced oil.

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The rigs follow prices rule is just as true for oil as it is for natural gas.

If oil prices drop another $10 or so — analysts say that $80 per barrel is the point at which unconventional drilling stops making economic sense — we’re likely to see a drilling bust. Only now, natural gas prices are still depressed, so drillers can’t simply chase another commodity (unless it’s water, I suppose). Though all the wells drilled in recent years would continue to produce, the impact on places like North Dakota would be profound, since the drilling phase of oil and gas production is the most labor-intensive.

Even if prices stay high enough to keep the rigs drilling, oil-patch economies will feel the sting of the 20 percent price drop. Royalties, severance taxes, property taxes and the like are usually based on the value of the oil or gas being extracted. So states and counties that rely heavily on such revenue streams are going to end up with less cash in their coffers at the end of the year than they anticipated. Counties that are rich in natural gas, but don’t have oil, are still reeling from the price crash a half-decade ago.

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The overall rig count increased or stayed steady in oil-rich states. But states with mostly natural gas saw the rigs pack up and leave.

I’m not about to make a prediction about how low prices will drop, or how many drill rigs will be idled. But I will say this: No matter how low oil prices go, they’ll eventually come back up, and the drill rigs will come back with them.

Jonathan Thompson is a senior editor at High Country News. Photograph of pumpjack near Lander, Wyoming, on hcn.org homepage by Michael C. Rygel via Wikimedia Commons.

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