Tuesday, January 31, 2017

Note to the White House: More Energy Supply Drives Down Prices

Energy and business are closely related, and the former often has a direct impact on latter.  At Whitehouse.gov, the President has posted his energy plan, making the following assertions: 

Sound energy policy begins with the recognition that we have vast untapped domestic energy reserves right here in America. The Trump Administration will embrace the shale oil and gas revolution to bring jobs and prosperity to millions of Americans. We must take advantage of the estimated $50 trillion in untapped shale, oil, and natural gas reserves, especially those on federal lands that the American people own. We will use the revenues from energy production to rebuild our roads, schools, bridges and public infrastructure. Less expensive energy will be a big boost to American agriculture, as well.

It is certainly true that we "have vast untapped domestic energy reserves right here in America." It has brought some wealth and prosperity to the nation, and low oil prices because the country "embrace[d] the shale oil and gas revolution to bring jobs and prosperity to millions of Americans." However, low oil and gas prices (which largely remain) have slowed that growth and expansion because shale oil and gas exploration and production was wildly successful. 

The President says, "We must take advantage of the estimated $50 trillion in untapped shale, oil, and natural gas reserves, especially those on federal lands that the American people own."  But it's not clear how that's helpful. That is, selling our (the American people's) assets when the market is at or near record lows doesn't seem like very good asset management.  

The plan is to "use the revenues from energy production to rebuild our roads, schools, bridges and public infrastructure."  I am very fond of all of these things, though I am skeptical that the federal government should take a leading role in all of them. I am open to the discussion.  But, if we're selling our assets at pennies on the dollar of historic value, I am particularly skeptical of the benefits. 

"Less expensive energy will be a big boost to American agriculture, as well." Low energy costs do help agriculture. That is certainly true.  But notice that making energy even less expensive means we get less for our assets, and we're dumping more cheap energy into a market where private businesses in the oil and gas sector are already having a hard time.  

Facilitating a boom from cheap energy means investing in new jobs to use the energy, not just getting more of the energy.  Plants that use our cheaper fuels to make and build new products could help, but it's never easy.  High energy prices can stifle an economy, but low ones rarely spur growth.  About a year ago, an Economist article from January 2016 remains accurate, as it explained that sudden and major price increases can slow an economy rapidly, as we saw in Arab oil embargo of 1973. However, "when the price slumps because of a glut, as in 1986, it has done the world a power of good. The rule of thumb is that a 10% fall in oil prices boosts growth by 0.1-0.5 percentage points."  

The article further explains: 

Cheap oil also hurts demand in more important ways. When crude was over $100 a barrel it made sense to spend on exploration in out-of-the-way provinces, such as the Arctic, west Africa and deep below the saline rock off the coast of Brazil. As prices have tumbled, so has investment. Projects worth $380 billion have been put on hold. In America spending on fixed assets in the oil industry has fallen by half from its peak. The poison has spread: the purchasing managers’ index for December, of 48.2, registered an accelerating contraction across the whole of American manufacturing. In Brazil the harm to Petrobras, the national oil company, from the oil price has been exacerbated by a corruption scandal that has paralysed the highest echelons of government.

I am all for a new energy plan to help the economy grow, and I support continued energy exploration and production as long as it is done wisely, which I firmly believe can be done.  But adding new competitors (by allowing more exploration on federal lands) simply won't help (and it really won't help increase coal jobs). More supply is not the answer in an already oversupplied market.  And the current proposal is just giving away assets we will want down the road. 

https://lawprofessors.typepad.com/business_law/2017/01/note-to-the-white-house-more-energy-supply-drives-down-prices.html

Current Affairs, Entrepreneurship, Financial Markets, Joshua P. Fershee, Law and Economics | Permalink

Comments

As an aside, it has been my anecdotal observation that every modern recession has been preceded by a spike in energy prices. My conscious observation begins with the energy crisis of the 1970's, recalling the energy spikes post Gulf War and our most recent Great Recession. There is little doubt that energy is fundamental to our economy and national defense; but, without a healthy economy we are compromised on national defense.

Posted by: Tom N. | Feb 2, 2017 6:09:13 AM

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