The Iran Deal and America’s Oil Boom

In 2005, the Wall Street Journal published an op-ed titled, “Oil, Oil Everywhere.” The gist of the piece is that there’s no shortage of oil in the world, but that there’s an economic problem because all the incredibly cheap oil is in places with really bad governments. This makes investing in oil fields that have higher extraction costs a dicey business as oil producers with low costs can simply flood the market. An excerpt:

The cost of oil comes down to the cost of finding, and then lifting or extracting. First, you have to decide where to dig. Exploration costs currently run under $3 per barrel in much of the Mideast, and below $7 for oil hidden deep under the ocean. But these costs have been falling, not rising, because imaging technology that lets geologists peer through miles of water and rock improves faster than supplies recede. Many lower-grade deposits require no new looking at all.

To pick just one example among many, finding costs are essentially zero for the 3.5 trillion barrels of oil that soak the clay in the Orinoco basin in Venezuela, and the Athabasca tar sands in Alberta, Canada. Yes, that’s trillion — over a century’s worth of global supply, at the current 30-billion-barrel-a-year rate of consumption.

Then you have to get the oil out of the sand — or the sand out of the oil. In the Mideast, current lifting costs run $1 to $2.50 per barrel at the very most; lifting costs in Iraq probably run closer to 50 cents, though OPEC strains not to publicize any such embarrassingly low numbers. For the most expensive offshore platforms in the North Sea, lifting costs (capital investment plus operating costs) currently run comfortably south of $15 per barrel. Tar sands, by contrast, are simply strip mined, like western coal, and that’s very cheap — but then you spend another $10, or maybe $15, separating the oil from the dirt. To do that, oil or gas extracted from the site itself is burned to heat water, which is then used to “crack” the bitumen from the clay; the bitumen is then chemically split to produce lighter petroleum.

In sum, it costs under $5 per barrel to pump oil out from under the sand in Iraq, and about $15 to melt it out of the sand in Alberta. So why don’t we just learn to love hockey and shop Canadian? Conventional Canadian wells already supply us with more oil than Saudi Arabia, and the Canadian tar is now delivering, too. The $5 billion (U.S.) Athabasca Oil Sands Project that Shell and ChevronTexaco opened in Alberta last year is now pumping 155,000 barrels per day. And to our south, Venezuela’s Orinoco Belt yields 500,000 barrels daily.

But here’s the catch: By simply opening up its spigots for a few years, Saudi Arabia could, in short order, force a complete write-off of the huge capital investments in Athabasca and Orinoco. Investing billions in tar-sand refineries is risky not because getting oil out of Alberta is especially difficult or expensive, but because getting oil out of Arabia is so easy and cheap. Oil prices gyrate and occasionally spike — both up and down — not because oil is scarce, but because it’s so abundant in places where good government is scarce. Investing $5 billion dollars over five years to build a new tar-sand refinery in Alberta is indeed risky when a second cousin of Osama bin Laden can knock $20 off the price of oil with an idle wave of his hand on any given day in Riyadh. 

But what has happened since 2005? Oil prices and oil demand stayed high and investment flooded into areas with good government and expensive oil, to the point that the United States is poised to lead the world in oil production. 

Which brings us to the Iran deal and how a successful agreement could lead to Iran’s modernization of its oil industry, and a sharp increase in production. This — as the piece above from 2005 argues — would make the oil drilling operations here in America and Canada unprofitable. The American energy boom could become a bubble and pop. Christopher Helman makes this very argument at Forbes.com:

Over the long run the easing of sanctions against Iran spells trouble for the economics of the tight oil plays that have sprung up across the United States in recent years. The Eagle Ford and Permian Basin and Bakken need sustained high oil prices to make the economics of expensive drilling and steep decline rates pay off. It’s no coincidence that America’s great oil and gas renaissance has coincided with sanctions on Iran and unrest in Libya. The concern for U.S. drillers is that successful Middle Eastern diplomacy could end up being the worst thing for their business. If crude oil benchmarks were to fall to $75 a barrel and stay there for a couple months you’d see drilling rigs across Texas and North Dakota fall silent.

That’s a lot of ifs, however. And one little talked about aspect of the nuclear deal that I’ve only heard articulated by John Bolton is that “[m]ajor oil-importing countries (China, India, South Korea, and others) were already chafing under U.S. sanctions, sensing President Obama had no stomach either to impose sanctions on them, or pay the domestic political price of granting further waivers.” This suggests that demand for oil will remain high for the foreseeable future and there will be room for both Middle Eastern and American oil producers.

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