22/Feb/2014 (Sat)

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Saudi America

The benefits of shale oil are bigger than many Americans realise. Policy has yet to catch up

DENNIS LITHGOW is an oil man, but sees himself as a manufacturer. His factory is a vast expanse of brushland in west Texas. His assembly line is hundreds of brightly painted oil pumps spaced out like a city grid, interspersed with identical clusters of tanks for storage and separation. Through the windscreen of his truck he points out two massive drilling rigs on the horizon and a third about to be erected. Less than 90 days after they punch through the earth, oil will start to flow.

What if they’re dry? “We don’t drill dry holes here,” says Mr Lithgow, an executive for Pioneer Natural Resources, a Texan oil firm. In the conventional oil business, the riskiest thing is finding the stuff. The “tight oil” business, by contrast, is about deposits people have known about for decades but previously could not extract economically.

In this section

Pioneer’s ranch sits at the centre of the Permian Basin, a prehistoric sea that, along with Eagle Ford in south Texas and North Dakota’s Bakken, are the biggest sources of tight oil, a broad category for the dense rocks, such as shale, that usually sit beneath the reservoirs that contain conventional oil. Since 2008 tight-oil production in America has soared from 600,000 to 3.5m barrels per day (see chart 1). Thanks to tight oil and natural gas from shale, fossil fuels are contributing ever more to economic growth: 0.3 points last year alone, according to J.P. Morgan, and 0.1 to 0.2 a year to the end of 2020, according to the Peterson Institute, a think-tank. Upscale furniture stores and luxury-car dealerships have sprung up in Midland since the boom began. Mr Lithgow has truck drivers who earn $80,000 a year. Local oil-service firms have been known to hire fast-food workers on the spot. In all, the unconventional-energy boom will create up to 1.7m new jobs by 2020, predicts McKinsey, a consultancy.

And that is only part of the story. Another benefit of tight oil is that it is much more responsive to world prices. Some economists think this could turn America into a swing producer, helping to moderate the booms and busts of the global market.

Pioneer is rapidly boosting production. But Scott Sheffield, the company’s boss, worries that in a few years he will run out of customers; America has prohibited the export of crude oil since the 1970s. At $100 a barrel, the price of West Texas Intermediate (the most popular benchmark for American oil) is comfortably above the break-even cost of tight oil. But the prospect of a glut has futures pricing it at $20 less in 2018. “There will be a lot less oil-drilling when you take $20 out of everybody’s margin,” says Mr Sheffield.

Until the early 1970s, America was the world’s largest oil producer and the Texas Railroad Commission stabilised world prices by dictating how much the state’s producers could pump. When Arab states slapped an oil embargo on Israel’s Western allies after the six-day war in 1967, Texas cushioned the blow by allowing a massive production boost.

But rising consumption and declining production eroded the state’s spare capacity, and in March 1972 Texas called for flat-out production. “This is a damn historic occasion and a sad occasion,” the Texas Railroad Commission’s chairman declared. When Arab producers imposed another embargo the next year, prices rocketed. America had lost the role of world price arbiter to OPEC, a cartel dominated by despotic regimes. American politicians tried desperately to curb consumption (for example, by lowering speed limits) and to conserve supplies (by banning crude-oil exports in 1975).

American production declined steadily from a peak of 9.6m barrels a day in 1970 to under 5m in 2008. About then, independent producers began adapting the new technologies of hydraulic fracturing (“fracking”) and horizontal drilling, first used to tap shale gas, to oil. Total American production has since risen to 7.4m barrels a day, and the Energy Information Administration, a federal monitor, reckons it will return to its 1970 record by 2019. The International Energy Agency is more bullish; it reckons that by 2020 America will have displaced Saudi Arabia as the world’s biggest producer, pumping 11.6m barrels a day.

Besides directly creating new jobs and income, the fossil-fuels boom could help growth by reducing America’s vulnerability to oil-price swings, in two ways. First, as production rises and imports shrink, more of the cash that leaves consumers’ pockets when the oil price rises will return to American rather than foreign producers. David Woo of Bank of America/Merrill Lynch notes that America’s petroleum deficit has narrowed to 1.7% of GDP while Europe’s has widened to nearly 4%, which seems to have made both the dollar and the economy less sensitive to oil prices.

The second channel lies in the economics of shale. Oil flows relatively easily through the porous rocks that make up a conventional reservoir, so a conventional well can tap a large area. As a result, the volume of oil pumped each day declines slowly, on average at 6% per year. By contrast, oil flows much more sluggishly through impermeable tight rock. A well will tap a much smaller area and production declines quite rapidly, typically by 30% a year for the first few years (see chart 2). Maintaining a field’s production levels means constant drilling. The International Energy Agency reckons maintaining production at 1m barrels per day in the Bakken requires 2,500 new wells a year; a large conventional field in southern Iraq needs just 60.

This all means that when oil prices rise, producers can quickly drill more holes and ramp up supply. When prices fall, they simply stop drilling, and production soon declines. In early 2009, after prices collapsed with the global financial crisis, Pioneer shut down all its drilling in the Permian Basin. Within six months, output in the affected areas dropped by 13%.

Bob McNally of Rapidan Group, an industry consultant, predicts that America could be “force-marched” back to the stabilising role it played in the 1960s, this time responding to the market’s invisible hand rather than government diktat. Will that work in practice? It may already have done so. Since 2008, the Peterson Institute notes, turmoil in Sudan, sanctions on Iran and declining North Sea output have taken a lot of oil off the market. Without America, which accounted for half of the growth in global output over that period, Persian Gulf producers might not have been able to make up for the loss. Prices could have risen sharply, hurting consumers everywhere. Yet they did not.

Oil firms try not to over-react to short-term price fluctuations, of course. Capital, equipment and labour all cost money, so they try to ramp up production only in response to what they think will be long-term shifts in the oil price.

  The ban on crude-oil exports hurts producers and makes it harder for America to become a swing supplier. Light, sweet (ie, low-sulphur) West Texas Intermediate already trades at a discount of $8 to Brent, its global peer. That is due mostly to transport and storage bottlenecks in America, but increasingly the export ban makes a difference. In recent decades American refiners have reconfigured themselves to handle the heavier, sour oil imported from Mexico, Venezuela and Canada’s tar sands, leaving them with less capacity for refining tight oil, which is light and sweet.

The oil price at which shale producers break even ranges from $60 in the Bakken to $80 in Eagle Ford, reckons Michael Cohen of Barclays, a bank. If exports yielded an extra $1 to $1.30 a barrel, he estimates that might raise total output by as much as 200,000 barrels per day.

If the ban were lifted, crude-oil exports could start more or less straight away. The necessary pipes and tankers are mostly there already. But the political debate is only in its infancy. By law the president can allow exports he considers in the national interest. Barack Obama has yet to express a view on the ban. Legislators from non-oil-producing states are wary. “For me the litmus test is how middle-class families will be affected,” says Ron Wyden, the Democratic chairman of the Senate energy and natural resources committee.

The main beneficiaries of the ban are the refiners. They buy light, sweet American crude for less than the global price, turn it into petrol and then sell that at the global price. Exports of refined petroleum products are not banned, and have, unsurprisingly, soared.

Defenders of the ban (including, naturally, some refiners) claim that if America exported more oil, Saudi Arabia would reduce its own output. Prices to American consumers would not fall, they say, and might even rise. Historical evidence says otherwise, however. When Congress allowed Alaska to export crude oil in 1995, its west-coast customers did not pay any more for petrol, diesel or jet fuel.

Oil producers would obviously benefit from lifting the ban. So might other Americans, in less obvious ways. A global oil market that fully included America would be more stable, more diversified and less dependent on OPEC or Russia. The geopolitical dividends could be hefty. As Pioneer’s Mr Sheffield notes, “It’s hard to believe we’re asking the Japanese to stop taking Iranian crude, but we won’t ship them any crude ourselves.”

A Ukraine City Spins Beyond the Government’s Reach

By ANDREW HIGGINSFEB. 15, 2014

Inside

 

Young masked men guarding the entrance to the Lviv Region State Administration. They seized the offices of the governor, Oleh Salo, and do not let him enter. Sergey Ponomarev for The New York Times

 

LVIV, UKRAINE — Oleh Salo, the Ukrainian state’s senior representative in this western region, was hard at work keeping up appearances. He had just completed a new budget, he explained, and had an urgent meeting with the newly appointed local chief of Ukraine’s security service.

Yet, Mr. Salo, the governor, expelled by protesters from his suite of offices on the second floor of the Lviv Region State Administration, is virtually powerless, scurrying between makeshift temporary quarters as he struggles to maintain an increasingly threadbare illusion that his boss, Ukraine’s embattled President Viktor F. Yanukovych, is still running this breakaway part of the country.

“We now have two powers here, a formal one that is not real and is not recognized by anyone, and people power,” said Andriy Sokolev, a local trade union head who led about 2,000 antigovernment protesters in storming the governor’s offices in late January.

In a cosmopolitan city of beguiling beauty that has been tossed over the centuries between Polish, Austrian and Russian overlords, these are tumultuous times.

Three months after the outbreak of demonstrations in the Ukrainian capital, Kiev, over Mr. Yanukovych’s decision to spurn a trade deal with Europe and tilt toward Russia, power has shifted decisively here in the western half of this divided country, where the president has never had much support.

Seeking to ease a volatile stalemate in the capital, the authorities in Kiev on Friday said they had freed all 234 people who had been arrested, mostly for taking part in violent clashes last month with the police.

The opposition has also sought to ease tensions, with a leading opposition party, Svoboda, saying on Saturday that it was ready to end its occupation of Kiev City Hall. But other groups like Right Sector, a coalition of hard-line forces with deep roots in western Ukraine, said seized buildings should remain occupied until Mr. Yanukovych resigned and all criminal proceedings against protesters were halted.

In sharp contrast to Kiev, where the Soviet-built center of the city has been taken over by noisy protesters and throbs night and day to the din of fiery speeches and chants for Mr. Yanukovych to step down, there are few outward signs of turmoil on Lviv’s cobblestone streets. The architecture traces the city’s past, from the colonnaded relics of the Hapsburg Empire, to the mansions of long-gone Polish nobles and the homes of vanished Jewish and Armenian traders.

The state, its administration under siege, is having trouble paying pensions and other welfare payments but the police patrol the streets and even Mr. Salo, the widely detested governor, says he can walk around the city without fear.

The regional council, or legislature, firmly in the hands of the opposition, on Thursday passed the budget prepared by Mr. Salo, a sign, the president’s allies in Kiev say, that common ground can still be found.

The calm reflects the fact that the city and the surrounding Lviv Region have largely achieved what protesters in Kiev have been demanding since November: the end, at least for now, of the authority of Mr. Yanukovych.

Nearly three weeks after being ejected from his offices, the governor still cannot enter the administration building, where the entrance is now guarded by young masked men with wooden clubs and sealed off by a high barricade of rubber tires. A statue in the lobby is draped with the flag of the European Union.

In an interview in a room hastily borrowed from the regional cultural department, the governor said that he was away from his office when the protesters stormed in and that he received a panicked call on his mobile phone. “Please save us. You have to do something to save us,” he recalled a staff member screaming.

The governor rushed back to see what was going on and, confronted by the angry crowd, resigned. He later withdrew his resignation, saying it had been given under duress.

 

No one was hurt in the attack, which followed a December decision by the regional council to cancel the governor’s office lease, a move initially meant as only a symbolic act of protest against President Yanukovych. Administration buildings have also been seized in at least two other western regions, and more radical elements, like Mr. Sokolev who led the occupation in Lviv, warn of fierce resistance if the authorities deploy weapons against protesters.

“If they use force, we would use counterforce,” Mr. Sokolev said, noting that hunting rifles are easy to find. The government in Kiev has accused the opposition of stockpiling weapons.

Mr. Sokolev, who declared himself “commandant” after the January seizing of the regional administration, has stumbled in rallying support for his militant line. Hit by a bout of bronchitis, he now sits at home with his family, fuming that what he thought was a revolution has not yet secured a more decisive victory across the whole country.

But so strong is the tide running against the president in Lviv that even his local supporters are jumping ship. “People appointed by Yanukovych are not accepted here at all,” said Petro Pysarchuk, a wealthy Lviv businessman and chairman of the now-moribund Lviv branch of the president’s Party of Regions.

Such sentiments highlight just how few options Mr. Yanukovych has as he struggles to survive a political crisis that has ballooned into a Cold War-style struggle between East and West. He traveled to Sochi, Russia, last Friday for the opening of the Winter Olympic Games and talks with Russia’s president, Vladimir V. Putin. The Kremlin has indicated it wants Mr. Yanukovych to take firm action against the protesters.

 

Oleh Salo, the governor, has to shuttle between makeshift quarters in Lviv, an opposition stronghold in western Ukraine. Sergey Ponomarev for The New York Times

The battle, however, has already been lost in Lviv, a bastion of nationalist resistance to control by Moscow during the Soviet Union and, in recent months, a powerful engine driving the insurgency against Mr. Yanukovych.

“How can you give orders when nobody is listening?” asked Lviv’s elected mayor, Andriy Sadovyy, a firm ally of the president’s pro-Europe foes. Aligned with protesters, the municipal administration, unlike that of the governor, still functions normally.

Mr. Yanukovych’s last potent lever of influence here, the troops of the Interior Ministry’s western region command, has been disabled by barricades set up by antigovernment activists to prevent soldiers from leaving their barracks.

Andriy Porodko, a 29-year-old fairground concession-holder in command of the barricades, acknowledged that the flimsy barriers could easily be swept aside by a single armored personnel carrier. But he is gambling that, despite declarations of loyalty to Mr. Yanukovych from the Defense and Interior Ministries, troops in Lviv will balk at following any orders that risk spilling blood.

Fueled by bitter memories of Soviet repression, the anger at Mr. Yanukovych is so deep in western Ukraine that “some suggest we should separate to try and maintain some form of normal life,” said Myroslav Marynovych, vice rector of the Lviv-based Ukrainian Catholic University.

A former dissident who spent 10 years in Soviet prison camps, Mr. Marynovych said Ukrainian nationalists like himself had no desire to rip apart the nation they struggled so long to achieve, but would do whatever it took to avoid being dragged back into Russia’s orbit, which they see as Mr. Yanukovych’s objective.

Separating from mainly Russian-speaking areas of Ukraine to the east, he added, is “certainly not part of our program, but we have to have a plan B, a plan C and even a plan D.”

In many ways, however, Lviv has already seceded as authority has drained away from Mr. Yanukovych and his government in Kiev, still without a prime minister more than two weeks after the last one resigned.

Mr. Salo, the governor without an office, predicted that, one way or another, the central government would restore its grip but noted that Lviv’s “insurgent spirit” has always made it resistant to outside authority. “This struggle has been going on for 400 years,” he said. “Our region has never accepted authority.”

Some of the president’s longtime opponents here have taken an increasingly radical line.

 

Offering inspiration and advice has been Yuriy Shukhevych, a blind veteran nationalist who spent 31 years in Soviet prisons and labor camps and whose father, Roman, led the Ukrainian Insurgent Army against Polish and then Soviet rule.

Mr. Shukhevych, 80, who lost his sight during his time in the Soviet gulag, helped guide the formation of Right Sector, an unruly organization whose fighters now man barricades around Independence Square, the epicenter of the protest movement in Kiev.

Mr. Sadovyy, Lviv’s mayor, said Mr. Yanukovych and his supporters had exaggerated the risk of extremism to scare people into submission. But he added that they should not ignore the region’s passions to join Europe and to stay out of the orbit of Russia, which, well into the 1950s, was still hunting down Ukrainian nationalist fighters sheltering in the forests around the city.

“There is not a single family in Lviv that doesn’t remember the repression, that doesn’t have relatives who were killed, sent to the camps or forced to emigrate,” he said.

He acknowledged that many people have unrealistic hopes for what Europe can bring, noting that “everyone is waiting for a miracle but miracles happen only in fairy tales.”

But unlike Ukrainians living in the east of the country, people in the west have seen with their own eyes how nearby towns across the border in Poland that were poor and miserable when the Soviet Union collapsed in 1991 have been transformed by subsidies and investment from the European Union.

“Poland is only an hour away by car,” Mr. Sadovyy said. “People can see the changes there and ask, ‘Why has nothing changed here?’ ”

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