February 19, 2015 4:37 pm
After the oil embargo of the 1970s, Opec wrested oil pricing power from the US. But the shale technology breakthrough is likely to be a far more effective stabiliser of oil prices than the cartel of oil producing countries. Opec is now relinquishing its pricing power. It may never be regained.
The reason is that shale technology is far more flexible. Shale oil wells can come on stream faster than most conventional wells, and drain far more rapidly. More than half of the oil content of shale wells is run off in the first two years of operation, while conventional wells keep producing for 20 years or more. Thus, shale oil output can expand and contract more rapidly than conventional wells.
Unlike the production decisions of a monopolistic Opec, fluctuations in market prices will automatically guide shale expansion and contraction.
Recent oil price declines, of course, have given consumers considerably more purchasing power. Global consumer outlays are up markedly in the current quarter, but this will be partially offset by slowed capital investment in oil-producing countries this year and next. On balance, the impact of the oil price decline on global gross domestic product appears marginally positive.
India, a large crude importer, is among the countries to gain most from falling prices. So is Japan — which has been importing oil to replace the nuclear power capacity that was switched off after the Fukushima disaster in March 2011. China, the US and Europe have also benefited, to a lesser degree.
A year ago, when prices were high, the conventional wisdom was that, at $60 a barrel, shale oil could not be profitable. Back then, incentives to cut production costs were a low priority; when each barrel was worth more than $100, the most important thing was to get it out of the ground. At today’s prices, cost-cutting is mandatory. We are about to find out whether shale producers, with their backs to the wall, can keep oil investment innovative and profitable.
The writer was chairman of the US Federal Reserve from 1987 to 2006