Inside the News: Cheap Oil – Hobart and William Smith Colleges \
The HWS Update

Inside the News: Cheap Oil

During February, crude oil prices on the New York Mercantile Exchange have hovered around $30 per barrel, with a $26.21 low-point of Feb. 11. USA Today noted in a Feb. 9 article, titled “Don’t look now: $1 gas may be close,” that average prices are lower than they have been in more than 12 years and may continue dropping. And in its most recent “Oil Market Report,” the International Energy Agency projects that “the oil market faces the prospect of a third successive year when supply will exceed demand by 1.0 mb/d, [putting] enormous strain on the ability of the oil system to absorb it efficiently.”

Although the IEA expects that “gains in global oil demand will ease back toward their long-term trend in 2016,” Professor of Economics and Environmental Studies Thomas Drennen discusses the repercussions of an overstocked global oil inventory; mild early winter temperatures in Japan, Europe and the U.S.; slowing economic growth in China, Brazil and Russia; and boosted oil production in Saudi Arabia with promises of the same from Iran.

Drennen teaches a number of courses challenging students to consider the interplay between energy, the environment and the economy, including “Environmental Economics,” “Natural Resource and Energy Economics,” and a first-year learning community focused on sustainable living and learning. He is the author of the book “Pathways to a Hydrogen Future,” as well as dozens of articles. Drennen holds a Ph.D. in resource economics from Cornell University, a master’s degree in public affairs from the University of Minnesota, and a bachelor of science degree in nuclear engineering from Massachusetts Institute of Technology.

Do the low gasoline prices mean demand is decreasing? Is there simply a glut of supply?

This has caught everyone by surprise — we didn’t expect to see prices this low again. On the one hand, demand has softened, and for several reasons. Growth in China has slowed, so demand has slowed; they aren’t buying as many cars. The U.S. demand has also fallen because our cars are starting to get more efficient, thanks to tightened fuel efficiency standards passed by the Obama Administration soon after the 2008 financial crisis. 

On the other hand, supply is way up. One reason is that the U.S. started producing a lot more oil thanks to advances in hydrofracking technologies, which led to a boom in production in North Dakota. At the same time, there have been increases from the Canadian tar sands, increases from Iraq, and increases after the lifting of sanctions on Iran. Saudi Arabia has traditionally played the role of swing producer, meaning they’d cut supply when markets were oversupplied. This time they haven’t cut back though; they’re going to keep producing, to sweat out the competition, and they seem to have the monetary reserves and will to do this.

What effects can we anticipate low gasoline prices having on other areas of the energy sector? On the environment?

Natural gas prices are also really low, which makes it hard for other options, such as solar or other renewables to compete. It’s tough for any alternative technology company right now. So it’s bad news for Tesla, and it is bad news for companies working on alternative fuels for vehicles.

It’s tough to estimate the full environmental effects of low gas prices, but at the Paris Climate convention in December, the U.S. agreed to cut our greenhouse gas emissions 26% to 28% in the coming years. That’s going to be really tough when gas is this cheap.

One of the other environmental impacts is that the recycling industry is really struggling because of low oil prices. Recycling works at high oil prices. We were recycling 30% of our waste, which is pretty high. Now all of a sudden it’s cheaper to make a new plastic bottle than to recycle an old one, because a lot of oil goes into plastic. (We use about 17 million barrels of oil per year just to produce plastic bottles!)

How sustainable is this trend?

If we look out a year, I expect prices are going to be in the $50 to $60 per barrel range. A lot of companies will shut down production at the same time that U.S. and global demand is increasing because of cheap gas. Eventually, demand will outpace supply and prices will return to where they were. There will be less supply, more demand, and it will keep rebounding from that point. They can’t stay low. It’s not sustainable.

But right now, oil companies are going through massive layoffs. Some of the numbers I’ve seen are 250,000 employees laid off so far. There are two or three million barrels too many each day coming into the market, and we’re seeing several energy companies in the U.S. and globally teetering on the edge of bankruptcy. One of the things that really scares me is that banks are threatened by this. When prices are high, companies find investors, but with prices this low, there may be loan defaults leading to banks facing losses, which could destabilize the economy.

It’s great news for the consumer — who doesn’t love cheap gas? — but low gas prices aren’t necessarily good for the economy, not if you’re in alternative energy, or a new producer in the U.S., or a recycling facility. It’s actually pretty scary from an economics and an environmental standpoint.