Is Prorationing Relevant Today?

The Texas Railroad Commission on April 14, 2020, had a hearing on prorationing. As of writing this article, no decision had been issued by the commission. For those who are very interested in this topic, I encourage you to go to the commissions’ website and watch the hearing and read the many comments submitted on the subject. The three Commissioners did an excellent job with the hearing under difficult circumstances (having to hold a virtual hearing). 

The Texas Railroad Commission through prorationing had the greatest impact on the worldwide price of oil during a 40-year period from the 1930s to the 1970s. Due to reduced production in Texas and increases in other parts of the world, price leadership passed to OPEC for the next 40 to 50 years. Over the last decade or so changes in demand, as well as production, have led to turmoil in the oil market, and it seems to be a change from OPEC price leadership to something else. However, it is still not clear exactly what that something else is.

What is prorationing? In the context of this discussion, it is the limiting of oil production to a set amount. Normally, the entity setting the limit is a regulatory body, in this case the Texas Railroad Commission. We could discuss the how-to and how much of prorationing (and those are important discussions), but we don’t have the space, so I am going to stick to the overall question of whether we should or shouldn’t prorate. 

The proration side generally said we are in unprecedented times. Due to the Coronavirus, demand has fallen off a cliff, and if something is not done to stabilize prices, large amounts of the industry, jobs and even production will disappear. The anti-proration side says prices bounce around all the time, don’t do anything, it will all work out over time. Those companies that go out of business deserve to, after all, that is the free market. 

I am a strong supporter of the free market. However, the current demand crisis we are in for oil was not made by the free market; it was made by the government shutting down the economy through actions taken to mitigate the spread of the coronavirus. Whether or not that was an appropriate response is a question that will need to be addressed in the future. We have neither the information, time or perspective to address it now. Also, for those folks who scream, “free market, free market” about the oil market, I have a single question. When have we ever had a free market in the global oil market? A majority of world oil production comes from either the government or government-owned companies. 

If there is anything this global pandemic teaches us it is there are problems and dangers in the extreme globalization of the economy. Just as there is starting to be a realization about the serious difficulties presented by our dependence on the high percentage of prescription medicine and medical supplies that the U.S. imports from China. There also needs to be serious consideration of the impacts on this country of going back to the situation where we were 10 or 15 years ago when 60% or so of our oil usage was imported. There are few things more important to a country’s economic and physical well-being than their energy supply. 

I think the most important economic event of the last decade was the vast U.S. increase in oil production, the achievement of energy independence, and the narrowing of the trade deficit to a lower figure than it would have been without the large increase in U.S. oil production. I would hate to see the country throw away this progress and go back to where we were in the 2006-2010 era. 

Having watched the hearing on April 14, 2020, it seems to me that some of the large oil companies and their trade associations are salivating over the prospect of the smaller oil and gas companies going out of business — allowing them to pick up assets out of bankruptcy.

There will be a physical waste of resources if we are left with a situation where there are only a few large oil companies and no small ones. Smaller oil and gas leases will not be profitable under the overhead burden of large companies. Much of the stripper well and other conventional production in the nation will be unprofitable, plugged and lost to posterity. This will be devastating to the small towns and rural areas in the oil patch. 

In closing this article, it seems to me the anti-prorationing side has one legitimate question. Will Texas’ cuts make any difference, or are we just throwing revenue away? That is certainly a question that needs addressing. There is a need for more data and information before making a decision on prorationing but demand has fallen off a cliff. I personally have been involved in the oil and gas industry since 1981. I have worked for a service company, a small producer, as a regulator on the state level, a CPA for numerous oil and gas-related companies as well as owning production myself. There have been numerous ups and downs in oil prices during that time but never has demand dropped by anything close to 20 to 30 million barrels per day worldwide like it has been estimated at this time. 

So, yes, prorationing is not something to be entered into lightly, but it is getting close to 50 years since oil production was last prorated in Texas. I want to urge the current Commissioners to carefully consider the facts and circumstances. Yes, it may be prudent to act in concert with other states and the national government, but don’t forget the Texas Railroad Commission gained its place in history because of its leadership of the oil and gas industry. Prorationing has been done on a month to month basis by the Commission, and if it doesn’t work it can be changed, modified or stopped within a month.

About the author: David Porter has served as a Railroad Commissioner (2011–17) and Chairman

(2015–16), as well as Vice Chairman of the Interstate Oil and Gas Compact Commission (2016). Prior to service on the Commission, Porter spent 30 years in Midland, Texas, as a CPA working with oil and gas producers, service companies and royalty owners. Since leaving the Commission, Porter works as a consultant for oil and gas companies. He also serves as Chairman of the 98th Meridian Foundation, a nonprofit concerned with water, energy and land issues.

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