Running head: ECONOMIC PROFILE OF THE OIL AND GAS …



Running head: ECONOMIC PROFILE OF THE OIL AND GAS INDUSTRY

Economic Profile of the United States Oil and Gas Industry

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[Your University]

September 26, 2008

Abstract

The oil and gas industry is one of the most important industries in the world. Petroleum is the single largest source of energy used in the United States. Forty-one percent of the crude oil consumed in the United States is imported from other countries. Importation of crude oil has resulted in a trade imbalance of $27 billion more goods being imported to the U.S. than are exported to other countries. The United States is the largest producer of refined petroleum products in the world with 25% of global production. The U.S. petroleum industry provided $219 billion in annual shipments and employed over 101,000 workers in 2001. The wage paid to production workers in petroleum refineries is one of the highest in the nation, about $27.40 per hour.

There are a variety of factors, both foreign and domestic, that are affecting global supplies, demand, and prices of oil and gas. These factors need to be carefully managed, domestic drilling needs to be increased, conservation needs to be encouraged, and alternative energy sources need to be encouraged to the maximum extent practical in order for global energy supplies to keep up with increasing global energy demands for a healthy and growing global economy.

Economic Profile of the Oil and Gas Industry

Introduction

Petroleum is the single largest source of energy used in the United States. The nation uses two times more petroleum than either coal or natural gas and four times more than nuclear power and renewable energy sources.

The oil and gas industry in the United States is one of the most important, if not the most important industry in the United States. Nearly all industries rely on the oil and gas industry in some fashion. Finished products produced by refineries include fuels (gasoline, aviation fuels, distilled and residual oil, liquefied petroleum gas, coke, and kerosene), non-fuel products (asphalt, road oil, lubricants, solvents, and wax) and petrochemicals (ethylene, propylene, benzene, and others).[4] The largest volume products of the industry are fuel oil and gasoline. Petroleum is vital to many industries and is important to maintaining industrialized civilization itself. Petroleum is thus a critical concern to many nations. The world consumes 30 billion barrels of oil per year. The top oil consumers largely consist of developed nations. Twenty-four percent of the oil consumed in 2004 was consumed by the United States. The production, distribution, refining and retailing of petroleum represent the single largest global industry in terms of dollar value. [6]

Economic Profile of the United States Oil and Gas Industry

The petroleum industry includes the global processes of exploration, extraction, refining, transporting (often by oil tankers and pipelines) and marketing petroleum products. Oil accounts for a large percentage of the world’s energy consumption, ranging from a low of 32% for Europe and Asia to a high of 53% for the Middle East. North America uses oil to produce 40% of the energy consumed.[6] Labor productivity has improved significantly over the last decade, rising an average of nearly 3% between 1989 and 1999. In 2001, the average hourly wage for production workers in the petroleum industry was $23.60 per hour. However, the United States oil and gas industry extraction industry has lost over 21,000 jobs. The refining sector has lost over 75,000 jobs or 4.5% of the workforce, since February 1982.

The United States petroleum industry provided $219 billion in annual shipments and employed over 101,000 people in 2001. The wage paid to production workers in petroleum refineries is the highest in the nation, about $27.40 per hour, almost $4 higher than the petroleum industry as a whole. [4]

The United States is the largest, most sophisticated producer of refined petroleum products in the world, representing about 29% of global production. At the end of 2000, the United States had 150 operating refineries and 16.6 million barrels per day of crude oil distillation capacity.

During the 1960s, multinational corporations such as Mobil, British Petroleum (BP), and Shell had access to more than 80% of the global oil and natural gas reserves. Today, world oil reserves are 80% owned by the national oil companies of foreign governments, many formed during the past thirty years. Only six percent of worldwide oil reserves are now held by investor-owned companies. [2]

The oil and gas industry in the United States can be roughly divided into three areas: exploration and extraction, refining, and retail marketing.

Exploration and Extraction

The first oil drilling in the United States began in 1859, when oil was successfully drilled in Titusville, Pennsylvania. In the first quarter of the twentieth century, the United States overtook Russia as the world’s largest oil producer. By the 1920s, oil fields had been established in many countries including Canada, Poland, Sweden, the Ukraine, the United States, and Venezuela. In 1947, the first offshore oil platform was constructed off the Gulf coast of Louisiana. [4]

Due to regulatory and environmental issues, the United States has significantly reduced the amount of oil exploration and extraction occurring within United States territory and has begun importing crude oil instead. Currently, the United States produces just 41% of the crude oil we consume. Canada is the largest external supplier of crude oil to the United States, supplying 11.6% of the oil consumed. [2] Buying crude oil from other countries instead of extracting our own oil reserves has resulted in a trade imbalance with billions more dollars being spent to buy crude oil than are being earned from other countries. In 2001, the United States exported $8.2 billion worth of goods and imported $35.2 billion of mostly crude oil, resulting in a trade imbalance of $27 billion.

Based on United States oil reserves currently identified, the U.S. has enough oil and natural gas to produce 116.4 billion barrels of oil and 650.9 trillion cubic feet of natural gas. These reserves could power over 65 million cars for 60 years and heat 60 million homes for 160 years. [2]

Refining

The United States is the largest producer of refined petroleum products in the world with 25% of global production and 163 operating refineries (as of 1998). In 1997 refineries supplied more than six billion barrels of finished products and employed more than 65,000 people. United States refineries are also the largest energy consumers in manufacturing and spend $5 to $6 billion annually in pollution abatement costs. [4] The petroleum refining industry continues to be a strong contributor to the United States economy.

Since 1985, United States refining capacity has increased by twelve percent even though there are 73 fewer refineries. It is more cost effective to add on to a refinery than to build a new one. The elimination of subsidies under the government price and allocation controls in 1981 led to the closure of many smaller, less efficient refineries throughout the 1980s and 1990s. According to the U.S. Energy Information Administration, current domestic refinery expansion plans will boost domestic refining capacity by another 800,000 barrels per day by 2010, the equivalent of four new refineries. [2]

Retail Marketing

In many ways, the retail marketing sector of the oil and gas industry is the most difficult. Retailers are squeezed between the prices charged by the refineries (which are driven by the prices charged for crude oil) and the transporters, and the amount the consumer considers a “fair” price. The retailers are required to collect multiple taxes as part of the price they charge for fuel. The taxes on gasoline sales can represent as much as 20% of the market price. [4]

Fuel retailers are frequently threatened with investigations into “price gouging” if their prices seem too high to consumers and local politicians, but if they lower their prices below cost, they are threatened with investigations for “unfair business practices.” If they set their prices the same as other retailers in their area, they are threatened with investigations for “price fixing” and “collusion.”

Factors Affecting the United States Oil and Gas Industry

Shifts and Price Elasticity of Supply and Demand

The United States demand for fuels and the price elasticity are significantly dependent on time. Consumers have a base level of fuel that they must have for necessary functions (commuting to work, driving to stores, transporting children) that is not easily or cheaply reduced. The reduction of this base fuel demand requires significant investment, such as buying a new vehicle, moving, or changing jobs. The consumer will pay a significantly higher price for this base level of fuel, unless the price of fuel becomes higher than the significant investment required to make the drastic changes needed to reduce this base level or the consumer is convinced that the price increase will be permanent or semi-permanent enough that the drastic changes will pay for themselves in the fuel savings eventually.

There is a level of fuel demand by consumers that is above the base level and represents voluntary use of fuel, such as vacations, pleasure drives, and unnecessary vehicle use. This level of demand is very sensitive to price. This voluntary fuel use can and will be eliminated when the price of fuel increases.

The United States oil and gas industry is also competing with an increasing global demand for petroleum. Demand for gasoline has been met with strong supply fed by record refinery production and high levels of imports. By contrast, the market for diesel is much tighter. While production has been strong, supplies have been limited by weaker imports. The Europeans are exporting less to the United States, because they are keeping more diesel fuel for domestic consumption. Diesel prices are also higher today because it is a more advanced, low-sulfur fuel. Such fuels may help improve air quality but they are more expensive to refine. [2]

Many factors have contributed to today’s energy market. Demand is very strong, especially in developing economies like China, India, and the Middle East. The world’s demand for oil has increased in recent years, rising from 77 million barrels per day in 2001 to 86 million barrels per day in 2007. [2]

Positive and Negative Externalities

The United States oil and gas industry can only extract 41% of the petroleum needed in the U.S. from domestic sources. Many areas within the United States that are known to contain petroleum reserves are located in publicly-owned areas that are restricted from petroleum extraction by regulatory or legislative bans. Even areas when petroleum drilling is allowed requires a permitting process that can require up to ten years before drilling can begin. The Alaskan National Wildlife Reserve (ANWR), Gulf of Mexico offshore areas, and Pacific offshore areas are all areas known to contain billions of barrels of oil, but drilling is not allowed in these areas by United States companies, even though Cuban and Chinese oil and gas companies are drilling in international waters just outside of the thirteen mile limit of the U.S. coastline. Oil and gas drilling has become much more environmentally protective in the last two decades. The surface footprint of a drilling operation has decreased to 2 acres while accessing eighty square miles at the depth of the oil reserves. Currently, United States offshore operators must operate under the requirements of 17 major permits and obey 90 set of federal regulations, even to drill in the areas currently open for drilling. [2]

Tight petroleum supplies have also been aggravated by political instability, resource mismanagement and weather. The Iraq insurgency, civil unrest in Nigeria, and political uncertainty in Venezuela are among the examples of political instability. Multiple hurricanes in the Gulf of Mexico in the last two years have affected operations in both the United States and Mexico.

Wage Inequalities

Wage inequalities don’t have a significant impact on the oil and gas industry. Many of the oil exporting countries, particularly in the Middle East, hire American and European workers to operate their oil and gas facilities. Wages for production workers in petroleum refineries in the United States are among the highest in the nation. [4]

Monetary and Fiscal Policies

The United States federal and state taxes paid by the consumer at the retail outlet for fuels can be as high as 20%, which significantly increases the price of fuel and causes consumers to lower their fuel usage as much as they can without significantly disrupting their lifestyles. [4]

According to publicly available data on the top 27 energy companies, the total income tax expenses incurred by these companies almost doubled between 2004 and 2006, increasing from $48.4 billion to $90.4 billion. Imposing additional taxes on the United States oil and natural gas industry is contrary to the goal of providing stable and cost-effective supplies of energy for American consumers and discourages the tremendous capital investments needed to meet the nation’s growing energy needs. [2]

During the last year, the depreciation of the United States dollars against other countries around the world has accelerated. For American consumers it means they are more affected by raising crude oil prices than the citizens of other countries that use currencies like Euros or Yen.

Conclusion

The oil and gas industry both affects the economy and is affected by the economy. Since petroleum products are used by nearly every industry in some form, high fuel prices cause an increase in the prices of most goods and services, which results in general inflation throughout the economy. With the prices of all goods increasing, the consumer has less money available to purchase fuel above the absolute minimum necessary, which causes a reduction in fuel demand and causes more damage to the oil and gas industry.

Other economic factors that affect the oil and gas industry in a negative way include the devaluation of the dollar. As the dollar continues to lose value against other currencies, the imported crude oil consistently becomes more expensive, even if no other factors are increasing prices. As the amount of fuel being sold decreases, state and federal governments receive less tax revenue for road maintenance. If the governments respond by increasing the fuel taxes to make up the shortfall, then the price of fuel increases and consumers buy less, which damages the oil and gas industry further.

As the U.S. economy continues to slow, politicians are discussing repealing tax provisions designed to encourage investment in the United States. Repeal of these provisions will discourage new domestic oil production and refinery investments, threaten American jobs, and make it less economic to produce domestic energy resources; therefore increasing our dependence on imported crude oil and gasoline. [2]

References

1. American Petroleum Institute. (2008) Industry Sectors. Retrieved May 12, 2008 from .

2. America’s Oil and Natural Gas Industry. (2008) The Truth about Oil and Gasoline: An API Primer. Retrieved September 26, 2008 from .

3. BP Global. (2008) Reports and Publications: Oil Reserves. Retrieved February 26, 2008 from Id=9017902&contented=7033474.

4. Department of Energy. (1998) Petroleum Industry Analysis Brief. Retrieved September 26, 2008 from .

5. Halliday, Fred. The Middle East in International Relations: Power, Politics and Ideology. Cambridge University Pres: USA, 270.

6. Energy Information Administration. (2006) International Energy Annual 2004. Retrieved July 14, 2006 from .

7. Library of Congress. (2005) Business & Economics Research Advisor. Issue 5/6: Winter 2005/Spring 2006. Retrieved September 21, 2008 from .

8. Robertson, P. J. (2003) Economic and Energy Development in the Middle East – A Time for Optimism. Business Briefing: Exploration & Production: The Oil & Gas Review 2003, Vol. 2, pp 28-32.

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