We Cannot Let Negative Prices Lead to Negative Policies

One of the many outcomes of the COVID-19 pandemic is that the cost of shipping crude oil overseas has collapsed. According to a report in the Wall Street Journal today, the average price for chartering oil tankers has fallen by 77% since March as a result of the massive cuts in supply in response to the crash in oil prices.
Black oil barrels against sky clouds and dried depleted land

These are extraordinary and unprecedented times for the oil patch. 

The world is awash in crude oil from the only-recently paused price war between Russia and Saudi Arabia. That supply glut has been combined with a massive demand drop as economies around the world have been shut in and shut down to battle the global pandemic. Storage has been able to absorb U.S. production so far, anticipating demand rebound later this year — but there is only so much storage. As it fills up, U.S. producers will be forced to further slow the pace of their production, hitting their bottom lines, and leading to layoffs among the millions of jobs directly and indirectly tied to the industry. 

But while the industry has its head down trying to survive this crisis, the green vultures leading the Keep it in the Ground movement are circling, ready to strike. They see this as their opportunity to deliver a killer blow to the domestic oil and gas industry. 

Anti-energy leftist Rep. Alexandria Ocasio-Cortez (D-N.Y) tweeted how much she loved seeing the May WTI oil futures price go negative, seeing the crisis as an opening for her Green New Deal. Other environmentalists are demanding green subsidies be included in future government relief bills or for energy companies to be prevented from accessing existing relief programs. 

As difficult as things seem, the supply glut and coronavirus demand destruction are short-term factors. While negative futures prices are unprecedented, the reality is that this is a sign that the markets are working as intended. Adjustments in investment and production were already underway, these negative prices are telling market participants to speed up the pace of their adjustments. 

The worst thing the oil and gas industry could do is let panic and crisis lead to bad policy. This short-term shock cannot be a justification for abandoning competitiveness or the free-market policies that created America’s domestic oil and gas production boom in the first place. 

Too many of the policy responses thrown out have smacked of central planning: government-mandated production cuts, tariffs on imports, preventing ships from unloading imported oil, paying producers not to produce. These are precisely the wrong responses. 

Government interventions inevitably prop up weaker players at the expense of stronger ones. Companies with wells that are cheaper to produce, be it from geology or technology, or with better hedges against lower oil prices, or who have better cash or debt balances should be allowed to reap the rewards of their planning. Government mandates eliminate the benefits of these distinctions. Those with the best lobbyists win, not the best business practices. 

Then there is the matter of government competency. How many operators are willing to trust bureaucrats to manage this industry? The proposals under discussion assume that government management will somehow produce price stability. But bureaucrats in Washington or state capitals are not all-knowing or all-powerful, as long experience shows. There is no universe in which replacing the judgment of markets with the judgment of bureaucrats will be better for the oil and gas industry. 

But it is not just that putting the industry under the direction of government would fail to fix the current crisis. Once the government is charged with managing the price and supply of the oil and gas industry, it will never relinquish that power. I assure you, anti-energy greens, waiting for a friendlier future administration, will take those powers and pursue even greater government interventions like taxing carbon dioxide emissions or banning hydraulic fracturing. 

This is not just theoretical musing. It should be instructive that during the Texas Railroad Commission hearing on potential proration of oil production, a raft of environmentalist groups including the Sierra Club and the NRDC lined up in favor of government intervention. Anytime an oil and gas company finds themselves on the same side as the green extremists, it should give pause. We must always remember that everything these organizations do is with an eye towards the very elimination of the oil and gas industry. 

There are certainly things that the government could do to help soften the devastation of this crisis. Renting storage space in the Strategic Petroleum Reserve, relaxing regulations that impede conversions of new storage and pipelines, waiving steel tariffs that increase the cost of drilling and transportation, and waiving the Jones Act, which raises the cost of moving oil around the U.S., would all be welcome policy actions. Importantly, these would be positive actions in their own right, independent of the short-term crisis. 

U.S. producers will rein in production in the near term, and that adjustment will be difficult, but demand will eventually return. Attempting to centrally plan this adjustment will mean worse short term outcomes while weakening the industry long term. We must have the humility to recognize that this historic confluence of factors cannot be fixed by government regulation. 

Oil is not valueless; it is still the commodity that powers the world and the feedstock for most products we use every day. What we saw clearly during the last oil price drop in 2015-2016 is that American producers are champion innovators. In response to low oil prices, shale operators figured out cheaper and more efficient ways of developing shale wells. What is needed now is more of that kind of ingenuity, and that doesn’t come from government. 

When the economy rebounds, oil will rebound. The ultimate solution for the oil industry is getting the economy back open and running again. We have seen hopeful signs in recent weeks, as some states and countries have begun partial re-openings. 

A dynamic, innovative and flexible oil industry will best be able to rebound when demand returns. A coddled, subsidized industry with the government trying to artificially prop up prices will wither, leaving it easy prey for a future administration that wants to use its power not to help, but to destroy.

About the author: Kenny Stein is the Director of Policy for the Institute for Energy Research. A Texas native, he worked for U.S. Senator Ted Cruz as Legislative Counsel covering energy, environment and agriculture issues, and as Policy Advisor for the Cruz presidential campaign. Stein has past experience in political roles on national and state campaigns and additional policy roles with free market organizations like Freedomworks and the American Legislative Exchange Council. He received his Juris Doctorate from the University of Houston and his B.A. in International Relations from American University.

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