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David Blackmon

David Blackmon

David Blackmon is an independent energy analyst/consultant based in Mansfield, TX. David has enjoyed a 38-year career in the oil and gas industry, the last…

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Should Trump Set A Floor Under Oil Prices?

Trump

I had an interesting email inquiry from a reader over the weekend. I don't know if he'd want to be identified by his full name, so let's just refer to him as Sergio. The email poses an interesting question that has not received much, if any, public discussion, so I decided to address it here.

The note was fairly long, but here are some excerpts that capture the essence of his inquiry:

“I read with interest your recent article in OilPrice about the US achieving "energy dominance". You note that what the US oil and gas industry most needs is sustainable prices for oil and gas. I suspect that having some certainty that oil prices will not drop below a certain sustainable level would be of immense benefit to the industry, even more so than having higher prices that may not last for long.

It seems to me that this could be achieved by the US govt setting a price floor for crude oil sold in the US, at a level that is at least sustainable for most of the shale oil industry. A price floor of say $45 - $50 per barrel might do the job at the moment, and because that is about the current oil price it could probably be imposed by the govt without any large political backlash. After all it would not raise the current gasoline price. In fact it could even be a popular move if sold to the public in an intelligent manner.”

Related: China Outpaces Competition In Renewable Race

Ok, let's stop there. Any such policy would naturally be a proposal by the Republican Party, given the long history of the Democratic party of opposing any policy that might benefit the oil and gas industry. That eliminates any thought of such a proposal being "sold to the public in an intelligent manner", right? I mean, these are Republicans we're talking about.

Let's move on.

“The price floor could of course be reviewed and adjusted (or even removed) as necessary as circumstances change, but it must be reasonably stable and immune from malicious political interference (if that was possible). It also would not have to be there forever, maybe it could be tried for an initial period of say 5 - 10 yrs, and renewed if it works well.

Such a price floor would give the industry some long-term confidence, encourage investment and help the US to one day achieve energy independence. Above all it will provide some protection for the US energy industry from OPEC price wars. The US energy industry is too important for national economic security to be allowed to decline or fail because of foreign powers (who hardly have the US's interests at heart) attacking the still immature and developing shale oil & gas sector.

...I read somewhere that China set a price floor of about $40/barrel last year to protect its industry… I understand that the Eisenhower admin set up a similar system to an oil price floor about 60 yrs ago which worked reasonably well for a while.

Do you think such a price floor system could work in the US?”

So, back to the politics of such a proposal for a second: Given the politics of the moment in Washington DC, were such a proposal to come out of the Trump Administration, it would not only be opposed by the Democratic Party, the anti-fossil fuel community and most of the national news media, it would also be opposed by much of the Republican Party's congressional caucus. That's a lot of firepower lined up against it right off the bat. Hard to see how that could ever be overcome to get to 60 votes in the Senate, which is what such a proposed policy would require if enacted via legislation.

Were the proposal to come out of the establishment wing of the Republican Party, the Freedom Caucus and other rigid conservative Republicans would demonize it as a tax on the consumer, and join the Democrats in calling it corporate welfare.

If President Trump were to follow Eisenhower's example, and attempt to enact an oil price floor via executive order, I suspect you'd see an immediate bi-partisan effort in congress to pass legislation to reverse it. When Ike did it, he was a pretty popular president. This would be a big, big step to take for President Trump, who currently sports a job approval rating in the mid-30s in most public opinion polls.

I could go on with other political scenarios, but the point is this: Regardless of whether or not a price floor for crude oil is a good idea for the U.S. economy and our society, the political climate in our nation's capital would dictate that every politician would either support or oppose it based on a pure political calculation.

The other factor to remember is that the industry would, like congress, also be divided on such a proposal. It would almost certainly be outright opposed by independent refiners and major integrated oil companies, whose refining arms become extremely profitable during times of low oil prices. Major business trade groups like the U.S. Chamber of Commerce and National Association of Manufacturers would probably also jump in against any such proposal. Many of their members use oil as a feed stock for manufacturing processes, and like it when oil prices fall. Related: How U.S. Sanctions Against Russia Could Backfire

The bottom line is this: If a price floor were an idea that all segments of the oil and gas industry supported, you'd have likely seen the industry's major trade associations making a full court press for legislation starting in 2015.

As for my own personal view on whether such a policy is a good idea, I doubt it. In concept, I'd like to think it would work and help stabilize the situation for the industry and consumers as you point out in your note. But in practice, the federal government has demonstrated an almost unfailing aptitude for messing up even the best policy initiatives in both Democratic and Republican Administrations.

Any such policy would be very disruptive to segments of the economy and produce a vast array of unintended consequences. I have no confidence in the government's ability to manage such consequences in an intelligent and efficient manner. My view is that the risks inherent to such a policy outweigh the potential rewards.

But it was a good question that deserves to be discussed. Thanks for your note.

By David Blackmon for Oilprice.com

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  • James on August 07 2017 said:
    Under the right circumstances and condition of the market, I believe a floor of 60-70$ a barrel would be optimal, considering the US shale industry slows production, OPEC members abide with 100% compliance on production cuts, and the key country GDPs stay consistent. The industry can't go on much longer with this low oil price phase, something has to change.
  • Brett on August 08 2017 said:
    Price floors are a bad idea even for a Republicans. That's Socialist if ever I heard it.
  • Citizen Oil on August 08 2017 said:
    Markets are efficient. Markets should be free and unencumbered . Although they do overshoot , that move is always self correcting. I don't think a floor will do anything long term and in the USA it's considered market manipulation and therefore illegal. Fracking is a disruptive technology and the consumer has benefitted immensely . I have doubts it will last long as they are already seeing shocking decline rates but anything unsustainable returns to the mean. Until investors and producers understand growth in production doesn't equate to growth in profits this market will suffer as with all commodities.
  • Dan on August 09 2017 said:
    I was hoping for an economic assessment of the proposal. Instead, I read a political assessment. I would still like an economic assessment.
  • David Nadel on August 09 2017 said:
    From 1950 to 1971, oil was priced between 2 and 2.5 gram's of gold. OPEC's goal was originally that of the railroad commission- stable inventories and prices. There is no free market in oil as because Saudi Arabia pumped 1 mb/d in excess of demand for 2 years. So much for stable inventories. President Johnson limited imports to maintain production all along the domestic supply chain (and it still is).

    Low prices will cause a price spike as restarting drilling will not start in sufficient volume to limit price increases. Limiting oil imports over 32 deg.API with suspension of the Jones act for oil and LNG will promote price stability at a $55/barrel (wti) range. This floor price will limit a future price spike as the infrastructure and labor will not need to be remobilized.
  • Nick on August 12 2017 said:
    I can't see the point of such a floor. Futures are already used to reduce exposure by locking in a price. The only people I could see it benefiting are the oil drillers.

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