The U.S. oil market could be on the verge of its own fracking revolution, similar to what the natural-gas market is already experiencing. As a result, domestic production is now projected to rise significantly over the coming decades, reducing the relative share of imports in U.S. oil consumption.
Advances in horizontal drilling and hydrofracking, in which highly pressurized liquids are injected into underground rock, have been used increasingly over the past few years to extract natural gas. The result has been a substantial increase in recoverable reserves -- accompanied by a lot of controversy over fracking’s environmental effects -- and an associated decline in the cost of natural gas.
In late 2007, wellhead prices for natural gas were hovering in the range of $6 to $7 per thousand cubic feet; by late 2011, they had declined to $3 to $4, and they have fallen further since. John Deutch, a former director of the Central Intelligence Agency, has written that, given the impact on energy markets and therefore geopolitical dynamics, “it is perhaps a permissible exaggeration to claim a natural-gas revolution.”
The same controversial technologies used to recover natural gas from deep-rock formations are now increasingly being used to extract oil. Oil is already being produced from shale at several locations throughout the U.S., most notably the Bakken shale in North Dakota.
As Jim Mulva, the chief executive officer of ConocoPhillips, recently said, “The revolution has spread to domestic oil production. And it may track the path it followed with natural gas. We just don’t know yet. But it looks promising.”
Rising Domestic Oil
The federal Energy Information Administration certainly thinks so. An early release of its annual energy outlook projects a substantial increase in onshore production of oil from shale formations -- what experts call “tight oil.”
In 2010, oil companies produced 5.5 million barrels per day of domestic crude. The Energy Information Administration estimates that figure will rise to 6.7 million barrels per day by 2020, mostly because of “continued development of tight oil, in combination with the ongoing development of offshore resources in the Gulf of Mexico.” The U.S. has not produced as much as 6.7 million barrels per day since 1994.
The mirror image of this projected increase in U.S. production of oil and natural gas is a decline in reliance on imports. In 2005 and 2006, about 60 percent of the liquid fuel used in the U.S. was imported. By 2010, that share fell to 50 percent, and it continues to decline. The Energy Information Agency expects it to drop to 37 percent by 2035.
Other analysts believe that even this projection is too conservative because tight-oil production could rise faster than expected. Every time projections are revised, the numbers seem to move higher.
So, will this push oil prices down overall, as shale gas has done to natural-gas prices? For years, analysts have worried that known oil reserves have peaked, so that prices will keep rising. Tight oil could change that dynamic. As the energy analyst Seth Kleinman, a colleague of mine at Citigroup Inc., argues, the price effects of the shift to tight oil “may be more immediate and subtle than the supply-and-demand balances hint at.”
The year ahead, he says, “could really see the death of the peak-oil hypothesis, something that has been underpinning a lot of the structural bullishness on oil.” (The terminology is thus borderline ironic, since tight oil could make oil markets much less tight.)
Still, significant uncertainty surrounds the entire fracking movement, for both natural gas and oil. The environmental controversies -- especially regarding water pollution -- are not yet as prominent for oil as for natural gas, but that’s undoubtedly because tight-oil production is only now ramping up. If it grows to be as large as projected, there’s little doubt that environmental concerns will become much more prominent, too.
Expect to hear a lot more about tight oil over the next few years -- and not just from the Energy Information Administration.
(Peter Orszag is vice chairman of global banking at Citigroup Inc. and a former director of the Office of Management and Budget in the Obama administration. The opinions expressed are his own.)
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