In the months leading up to the Covid-19 pandemic, U.S. oil production hit an all-time high just below 13 million barrels per day (bpd). As the pandemic progressed, demand collapsed and production followed. By May 2020, oil production had fallen by more than 3 million bpd to 9.7 million bpd.
Demand has since recovered to pre-pandemic levels. However, oil production recovered only partially. The most recent data available from the Energy Information Administration (EIA) shows current U.S. oil production at ~11.6 mb/d, still 1.4 mb/d less than pre-pandemic levels. This shortage is the main factor that has led to the surge in oil and gasoline prices over the past year.
When the pandemic brought down demand for oil in 2020, some oil companies went out of business. Some small breaker wells, which account for a significant amount of US oil production, have been permanently shut down because of a bleak outlook. Some workers left the oil industry.
Now that oil prices are above $100 a barrel, many are wondering why production has not fully recovered. The Biden administration has pointed the finger at the oil industry, saying they have a backlog of 9,000 permits that they don’t use. Oilers say the problem is, in part, the Biden administration’s hostile policies.
Politics aside, here’s what we know. The part about the permits for the accumulation of reserves by the oil industry – basically before Biden took office – is true. I have reported this before. However, this does not mean that they sit on them.
Obtaining a permit is just one step in a chain that ultimately leads to oil production. There are many other links in this chain, some of which are still problematic. Also, they can’t just sit on permits. Typically, there is a “use it or lose it” clause that requires them to relinquish permission if they do not renew their lease within a certain period.
So we have oil production that can’t recover quickly because some of it has been shut down, and new production that can’t develop as quickly due to a lack of labor and materials (such as fracturing sand). It’s not just that oil companies are sitting on permits. They work through them. Over the past year, the number of oil and gas drilling rigs has increased by 60%. But it can take years to get permission to extract oil (if the place produces oil at all).
But why did they accumulate so many permits? Stacey Morris, director of research for the Mean Flow Index and data provider Alerian, elaborated on these issues when I contacted her for comment:
“The President named thousands of permits for federal lands. The permit number is overstated due to stockpiling. Companies piled up federal land permits ahead of the presidential inauguration because several Democratic candidates, including the president, backed a ban on new federal land drilling permits. Permits do not equate to production. There are a number of stages between obtaining a permit and actually putting a well on production, and issues such as labor shortages and shortages of fracturing sand are additional hurdles.”
This brings me to another issue with the oil companies themselves, where Ms. Morris added:
“Investors are demanding that producers maintain capital discipline and increase volumes moderately. Revenue takes precedence over growth. Until recently, a manufacturer planning to significantly increase production would likely be penalized by investors. However, this opinion may change depending on oil prices and the potential need to replace Russian barrels on the world market.
The geopolitical situation and the level of oil prices may give US producers a license to increase volumes more significantly. However, it takes time for producers to react to prices, and until recently the price signal was not strong enough for exploration and development to potentially deviate from their modest growth plans. Private producers have been able to scale up mining activities more effectively given that they do not have to report to the government investor base.”
Oil companies regularly lose money. In four of the last ten years, the oil industry has lost money. Big oil lost $76 billion just two years ago. Therefore, they proceed with caution. They maintain a more capital discipline. They are in no hurry to make projects with the expectation that oil prices will remain above $100/bbl. They implement projects, assuming that in a year or more, when the projects can pay off, oil prices will drop below $100 a barrel.
The Biden administration is right on this point. The oil industry is developing slowly. But this contradicts the misunderstanding of how much time it takes to complete a project. Oil companies don’t have crystal balls. Now they have to make decisions based on where they think prices are headed. Because of the many collapses in oil prices over the past decade, they are acting with more caution and capital discipline.
These are issues where there seems to be a lot of misunderstanding – leading to blaming – between the Biden administration and the oil industry. Given the circumstances, as I wrote earlier, I believe the Biden administration should convene a summit with the heads of major oil companies. There must be a frank dialogue and the result must be clearly communicated to the whole world.
Robert Rapier
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