Saturday, November 29, 2014

Summarizing "The Week That Was" in the Oil Patch ... In the Long Term, U.S. Consumers, Businesses and Competitive Free Markets Will Be the Big Winners

Let's wrap up a historic week in the global oil patch by simply saying that we've witnessed the end of monopolistic pricing by OPEC and friends, and the resumption of competition based free market pricing. The days of global energy price setting by the OPEC cartel are finally over.

In the future, competitive market based low energy prices will be the norm. How low will prices go? Nobody knows. Global competition and the U.S. government's policies toward domestic energy exploration, production and transportation will determine that.

In other words, free market based competition and pricing based on the law of supply and demand, coupled with the cost of delivering that energy, and especially fracking costs, will reveal exactly how low that future 'low' will be. However, whatever the case, the equilibrium price will be a whole lot lower than the current 'low' pricing. And today's current pricing is already a whole lot lower than has been the case for many years.

So although the obvious question is where prices will stabilize, the answer is that reaching equilibrium pricing by balancing global supply and demand won't come for quite some time. And assuming our U.S. political leaders will allow the free market in energy to work, prices are headed lower, despite what President Obama and his band of government knows best 'greenies' may wish. Electric car makers, solar companies and the other heavily government subsidized alternative renewable energy providers 'of the future' are going to be in a world of hurt.

In short, when we look back in future years, this will definitely prove to have been "The Week That Was." This will have been the time when energy policy began to change for the better in the U.S. and free markets globally took the reins from OPEC and U.S. government control.

The New Oil Order is appropriately subtitled 'OPEC feels the squeeze from the U.S. shale boom:'

"America’s unconventional oil boom continues to yield major benefits—economic and geostrategic. The latest evidence is OPEC’s decision on Thursday to defy expectations and maintain its current oil production target despite the steepest price decline since the 2008-2009 recession. The price of Brent crude, the global oil benchmark, plunged as a result to about $70 a barrel, continuing its decline from a peak of nearly $116 in June. {NOTE: Prices fell 10% in the U.S. Friday, closing at ~$66 per barrel, the lowest level since 2009.}

Not too many years ago the Organization of Petroleum Exporting Countries might have cut production to maintain higher prices. The cartel’s countries have long sought to keep prices high at a level consistent with a growing global economy, not least to keep the revenue flowing into government coffers. Rogue states such as Venezuela and Iran desperately need the cash flow.

But the cartel has lost much of its pricing power thanks in part to the revival in U.S. oil production. Horizontal drilling and hydraulic fracturing—business innovations done mainly on private land—have pushed U.S. oil output to its highest level since the 1980s.

The Energy Information Administration says U.S. production reached more than nine million barrels a day this year and is expected to keep climbing. OPEC is afraid that demand for its crude will keep falling as U.S. supply continues to grow and more of it makes its way to the global market as American export barriers fall.

One way to read the OPEC decision is therefore as a price war to shake marginal U.S. producers from the market. The U.S. shale boom and high global oil prices have encouraged new areas of production with widely varying break-even price levels. Much of such proven areas as the Bakken Shale in North Dakota can remain profitable even at $50 a barrel, by most estimates. The Eagle Ford Shale in Texas also has a relatively low break-even. But newer areas with higher exploration and development costs could suffer if prices keep falling.

That’s how markets are supposed to work, with supply and demand rather than a cartel of dictatorships setting prices. A lower oil price will mean pain for some U.S. producers, and it is showing up in lower share prices for energy companies.

But no boom lasts forever, and lower prices will discipline American drillers to focus their investments on the most promising areas and innovate further to reduce costs. A shake-out might have long-term benefits if it doesn’t go too far.

Meanwhile, lower oil prices are an unmitigated boon to American consumers. The average gasoline price per gallon in the U.S. fell to $2.79 on Friday, down 50 cents from a year ago. That’s a big difference to the average family filling up the SUV each week, especially wage earners who haven’t had an increase in their standard of living during this entire economic expansion. Consumers who feel less pinched might open their checkbooks for non-energy purchases.

Lower prices will also add to the economic pressure on some of the world’s worst dictators, notably Vladimir Putin . Russia doesn’t belong to OPEC but it has benefited to the extent that the cartel’s production controls have kept prices high. Already under pressure from EU and U.S. sanctions, Mr. Putin’s ability to buy domestic political support will decline along with oil prices.

All of these benefits are flowing from a U.S. oil boom that government didn’t predict and had almost nothing to do with. The political class has force-fed subsidies to renewable energy with little economic benefit. The new oil order is a reminder that markets and American ingenuity are better economic pillars than all the schemes of government planners."

Summing Up

The market works when given a chance to do so, and a 'Drill, Baby, Drill' policy in the U.S. will mean lower global energy prices.

Accordingly, the combined long term prospects for rational energy pricing and sustainable economic growth in America are a cause for optimism.

We can also be hopeful (albeit not yet certain) that U.S. government 'leadership' won't make things any more difficult for America's energy finders, drillers, producers and transporters than global free market conditions dictate.

If the competitive free market is allowed to work, the outlook for American producers, businesses and consumers is bright.

Finally, and in addition to higher employment and solid economic growth, our U.S. national security will be strengthened, and many billions of energy driven tax dollars will flow to our government's coffers.

So other than the tree huggers, Russia, OPEC, and President Obama's gang of greenies, We the People in the U.S. will be the biggest winners in the global energy market.

That's my take.

Thanks. Bob.

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