The Economics of American Oil

One of the most common arguments tossed at voters, to explain why Congress should persist in disallowing the exploration of oil on federal lands, is that oil companies “already have 68 million acres of non-producing oil leases.”

To the uninformed, this sounds persuasive. It has an effect very similar to the misleading assertion that “47 million Americans are uninsured.” Yet it begs examination by anyone of intelligence or mental diligence.

I was particularly suspicious of the assertion because of my own background. I worked on two seismic exploration crews and as a roustabout in a Red River oilfield and for a pipeline company during my summers in college. In the years since, I have retained an interest in the oil industry and read about it regularly in business magazines and other publications.

Presently, according to an article by Newt Gingrich and Roy Innis in the Washington Times, Congress disallows drilling in 60% of onshore federal oil and gas prospects and 85% of the Outer Continental Shelf prospects.

Democrats have pointed out that the oil companies are drilling record numbers of holes and more and more of them are coming up dry — so why let them drill in these off-limits areas? We are supposed to think that the oil companies would just drill dry holes in the new areas also.

In fact, a wee bit of thought might suggest that the oil companies have been working very hard, against uphill odds, to find every little bucket of oil they can in highly explored areas — when they should be allowed to find and develop larger and more economical oil and gas in those areas that have been kept off-limits so far.

In some cases, we know there is likely to be a great deal of oil in some of those now off-limit locations. They certainly should be thoroughly explored.

An astute critic, though, might ask: If oil companies have been looking so hard in the areas where they’ve already explored, then why wouldn’t they do the same in the 68 million acres of “non-productive” oil leases? Let’s examine some of the factors involved.

First, when an oil company is offered a chance to bid for an oil lease, the lands are very often not even close to adequately explored for oil. Companies have to make educated guesses, using less-than-adequate information.

If they win the oil lease, they have to use seismic, magnetic, and other techniques to map out the geological formations underground. Then, if the geological formations look really favorable, they will drill a well, at a cost of $1 to $5 million (on-shore) or $25 to $100 million (in deep water).

Gingrich and Innis note that one in three on-shore and one in five deep water exploratory wells give promising results. For those few which are promising, however, much more work is required before the oil can be recovered.

The size of the field has to be determined, which requires drilling more wells. Production facilities must be built, brought to the site, and installed.

While all of this is going on, the seismic and drilling operations are protested and legal actions are launched to stop the work. While these obstructionist tactics continue, the oil company is paying leasing fees and commonly incurring many other expenses owing to the delays.

Is it any wonder, then, that so many oil leases are non-producing? Much of that land has no economically recoverable oil. Some of it is still in the long process of exploration and development.

The oil companies who hope to develop an oil field face many inscrutable risks. There may be oil, but there may not be enough of it. The oil may be loaded with sulfur, rather than the more valuable sweet crude oil. Huge storms may damage the facilities they are building in off-shore sites.

A court may order them to stop working, causing them to lose everything already invested. A field that is judged economical when oil is selling at over $100 per barrel may no longer be profitable if oil prices fall. If Saudi Arabia ramps up its production for a few years, the oil company developing the new field could lose tons of money.

Or Congress might choose to slap a so-called “windfall profits” tax on the oil companies or make other tax law changes which will upset their calculations on what oil fields justify additional investment.

In any of these cases, the money invested in developing a field may be lost or at least become a bad investment.

In general, prudence dictates that they do a thorough job of exploring any oil field before committing huge sums of further money to bring the field to production.

Gingrich and Innis give an example. Shell Oil and partners leased an area 200 miles off the Texas coast with 7,800 feet of water over it. For five years they evaluated the area and then drilled several dry holes, before hitting an oil pool in 2002.

At a cost of $100 million each, three appraisal wells were drilled and confirmed that the field was a major find. In 2006 a huge floating platform and drilling system was ordered. Production is expected to start in 2010.

Yet this lease is still classified as “non-producing,” despite the fact the oil companies have spent more than $3 billion on it. The Democrats make them appear to be inactive on this oil lease. Now is that disgusting or what?

The Democrats who oppose Americans having reasonably-priced and available energy are masters of demagoguery. They play fast and furious upon people’s ignorance and they are very good at planting false suggestions.

They do this with the claim of “47 million Americans uninsured” and they do it with the “68 million acres of non-producing oil leases” nonsense as well.

We must not let them play us for fools. Fight back and demand that they respect your intelligence. Tell them that you expect them to stop playing games and get out of the way — and off the backs — of the producers in America.
Charles Anderson is the founder and co-owner of Anderson Materials Evaluation.  He lives in Columbia, Maryland and blogs at The Objectivist Individualist.