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Is the U.S. Oil Industry Dominant? On the Verge of Oblivion? Neither

Without significant fiscal reforms, which seem unlikely, the political stability of these states is at risk if the price of oil remains much below the fiscal break-even for an extended period.

The situation is much different for independent American oil producers. Even modest profit margins enable domestic tight oil producers to sustain and increase production. If oil prices decline, drilling will slow, but production continues. Although the output of newly drilled tight oil wells declines quickly, a large inventory of older tight oil wells continues to produce, at very low cost, in the absence of new drilling. OPEC discovered this to its dismay when, using price cuts, it tried and failed to drive tight oil out of the market five years ago.

Therefore, while the United States is not a swing producer or a dominant producer, tight oil in the United States effectively blocks others from exercising dominance in oil markets.

What does this mean for the industry in the foreseeable future? Eager investors and low interest rates fueled the rapid pace of tight oil development. Independent oil companies have done their part by putting their profits back into expanding production. Normally this would be attractive to investors, who see growth as contributing to the value of their equity stakes.

However, in the last few years, investors have become disillusioned. They now confront the possibility that action to control carbon dioxide emissions will leave fossil fuel assets stranded in the ground. In these circumstances, building for the future no longer looks attractive, and investors favor immediate returns over long-term growth.

Are investor fears justified? The world consumes 100 million barrels of oil a day. Because of resource depletion, each year the production from existing fields declines by about six million barrels a day. World oil consumption grows by about one million barrels per day each year. Therefore, on present trends, seven million barrels a day of new production will be required every year. This is the “business as usual” world the oil industry is familiar with.

In its most aggressive decarbonization scenario, the International Energy Agency reckons that for global temperatures to rise by less than 2 degrees Celsius on average, global oil demand must decline to 70 million barrels per day by 2040. This represents an average decrease of 1.5 million barrels per day each year.

Assuming the aggressive decarbonization scenario is attainable, the petroleum industry will have to find about 4.5 million, instead of seven million barrels a day of new production every year. It will do this by avoiding the most difficult, expensive and risky prospects. Increasingly selective investment strategies will favor nations that offer oil at low cost, in politically stable and market-friendly environments − not an altogether bad prospect for a mature industry.

Robert L. Kleinberg has worked for 40 years in the oil and gas industry.

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