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Oil & Gas 360

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From our headquarters in Denver, Colorado, Oil & Gas 360® writes in-depth daily coverage of the North American and global oil and gas industry for…

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Have Oil Prices Hit The Bottom?

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Oil Price Shocks: Mine Yucel Addresses Denver Energy Group

“It’s probably going to be a rough patch for the industry and the producing states for a while—till oil prices firm up. But I think we’ve hit bottom and we are slowly coming back up.”

(Click to enlarge)

That was the analysis, in a nutshell, from Federal Reserve Bank of Dallas Senior VP and Director of Research Mine Yucel in her keynote talk at the Third Annual Rocky Mountain Energy Economics Banquet on Thursday night in Denver.

“The energy industry in the U.S. is really nimble and very resilient. What has happened is that they’ve adjusted to the $50 price. Not everybody can make money at $50, but they are quite nimble.”

In her presentation, Yucel went through the effects of the Nov. 2014 oil price shock on the industry and oil and gas producing states. The audience was already well in tune with the data—energy economics graduate students, Ph. D. candidates, and professors from the Colorado School of Mines, oil company executives, energy attorneys and capital markets professionals were in the audience.

(Click to enlarge)

“If history shows that an oil price shock leads to recession, why aren’t we seeing more cause and effect on the economy?” Yucel asked. “Research has shown that there is an asymmetrical relationship, which means that increases in prices affect the economy more than a decline in prices. When the price of oil goes up, things are more expensive, oil as an input is more expensive and so that is a negative for the economy. The allocated effect is that, since the cost of inputs has changed, there’s a reallocation of resources between different sectors. The price of oil goes up, you’re not buying the big cars anymore, you’re buying smaller cars, so there’s a reallocation of both labor and capital into different industries.

(Click to enlarge)

“So the price effect is negative and the reallocation effect is also negative, and so they come together and you have a pretty big effect.

(Click to enlarge)

“When the price goes down, the price effect is positive because everybody is better off, but the reallocation effect is still negative. There’s still a reallocation because the price has changed, so then when you put it all together that gives you the asymmetrical effect. That might be one of the reasons why we’re not seeing as much of an effect on the economy.

In the Q&A portion of the evening, Yucel talked about why oil price shocks affect the U.S. harder than when there are changes to natural gas prices. “One of the reasons we get hit with oil price shocks is because the price is a global price, so it doesn’t really matter if we’re importing all of it or if we produce all of it. Because it’s a global price when a shock happens in the rest of the world, it affects us.

“The gas market is not a global market yet. It may get there relative to LNG, but it just doesn’t make sense now. There’s not a global gas market, so in that sense you don’t get the same type of shock.

“The one thing about oil is—what is the substitute for oil? It’s used in transportation. There is really not a good substitute. We have the electric car, we have natural gas vehicles, but [they are a small factor].

“With gas, we use it for electricity generation and there is a substitute: you have coal. So that’s another reason the economy isn’t as buffeted by natural gas prices as it is by oil prices.”

OAG360: What’s your opinion of the viability of OPEC going forward?

Yucel: You know we said with the shale boom it was the end of OPEC. And here they are. They have a lot of cheap oil still. When you say OPEC, it’s really Saudi Arabia. The other OPEC members are actually producing at capacity. They need the money and they are producing at capacity. They don’t have any excess capacity at all. So it’s really the Saudis that have the 12 or 12.5 [MMBOPD]. They still have a lot of cheap oil. I don’t think we’ve seen the end of OPEC yet as long as they have all that cheap oil.

(Click to enlarge)

But they’ve been surprised by us I think. They’ve been really surprised by how nimble [the U.S. shale producers are]. What’s going to happen if OPEC does cut output and prices go up a little bit—you saw those breakevens—it may mean more oil coming out of the U.S. It’s going to be uncertain, let’s put it that way. The U.S. has now shown that we’re not declining, we’re going to come back when the prices go up, so it’s a different ballgame right now. But I don’t think we’ve seen the end of OPEC, as long as Saudi Arabia has all that cheap oil.

The banquet and the speaker were hosted by the Colorado School of Mines Chapter of the U.S. Association of Energy Economics.

By Oil & Gas 360

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