Free fall in oil prices could fuel recession

By BRANDON KLEIN

and KALEA HALL

news@vindy.com

YOUNGSTOWN

At $10 a barrel of oil, your gas would be cheap, but your job could be gone.

Oil producers would cease operations because they would not be able to turn a profit, which translates to a loss of jobs and a hit to the economy.

After all, oil production is a driver of income growth, gross domestic product and economic recovery.

“Ten dollars is possible but not for a sustained period of time,” said Patrick DeHaan, a senior petroleum analyst at Gasbuddy.com.

Although gasoline would be about $1 a gallon, DeHaan said it’s a “short-lived win for motorists at the pump.”

“It could lead to a recession,” he said, adding that the oil and gas industry would affect all sectors of the economy.

Anything is possible, but both analysts and economists consider the possibility of $10-a-barrel oil laughable — even though the cost for a barrel over the past year has dropped more than 50 percent. The high in 2014 was an average price of $98.70 compared with the 2014 low of $54.86 in December, according to the U.S. Energy Information Administration.

PNC Bank economist Mekael Teshome foresees the future of oil prices on an uptick. PNC forecasts the price up to $60 a barrel for a 2015 fourth-quarter average.

“We are saying it has bottomed out, and we expect it to increase modestly,” Teshome said.

In February, Bloomberg View columnist A. Gary Shilling, and president of A. Gary Shilling & Co., a New Jersey consulting agency, wrote that $10 a barrel oil is possible and supplied several reasons why, including the low demand for oil but high supply.

Daniel Flynn, an energy analyst and trader at Chicago-based Price Futures Group, believes prices won’t fall that low. That includes the impact of the U.S. nuclear deal with Iran, which would lift economic sanctions and put Iran’s oil supply into the market.

“[The deal is] not going to put a dent in the market for at least a year,” Flynn said.

Phil Flynn, another analyst of the Price Futures Group, said oil prices will bounce back to about $80 by the end of the year because demand will improve, and cutbacks in U.S. production will reduce supply. Oil and natural-gas production will eventually start to fall, he added.

CAUSES

Oil prices have declined from more than $100 a barrel to about $50 because of a global oversupply, said Shawn Bennett, Ohio Oil and Gas Association executive vice president.

OPEC, an intergovernmental organization of 12 oil-exporting developing nations that includes Saudi Arabia, made the decision last Thanksgiving not to cut production to weaken U.S. oil production.

The worldwide economy has also played a part in oil prices dropping. The European economy is weak, and China also has been in a depressed period.

“The stronger the economy is worldwide, the more demand for energy is going to be,” said George Mokrzan, director of economics for Huntington Bank. “I think the price of oil will come back.”

COST IMPACT

The more than 50 percent drop in prices has made U.S. producers tighten their business, and, in turn, so have the companies that supply products to the producers.

Vallourec Star in Youngstown produces small-diameter pipe for the oil and gas industry. In February, the drastic drop in oil prices caused leaders there to make the decision to lay off employees for three weeks and offer voluntary six-month layoffs. In addition, Vallourec made adjustments in production schedules, negotiations with suppliers and minimized the use of contractors.

“With falling oil prices, our customers are scaling back their drilling plans,” said Jean Gaetano, manager of communications for Vallourec Star. “The U.S. rig count continues to drop. This decline has impacted our pipe orders, and we have adjusted our forecasts for the year.”

Some positives also have resulted from the drop.

Consumers have been able to spend less at the pump. In December, many Mahoning Valley residents were enthusiastic to pump gas when its price hit $1.99 a gallon or less.

“Essentially, all consumers and businesses have to utilize energy to some degree, and some extensively,” Mokrzan said. “With the cost coming down, that frees up money for other expenditures.”

Teshome said the drop has benefited many Northeast Ohio manufacturers, and Mokrzan agreed.

“The real issue is how long is this impact going to be,” Mokrzan said. “It is a volatile situation. It creates factors that are positive for some and negative for others.”

The drop has required producers to become more disciplined with production.

The U.S. rig count as of April 10 is 760, compared 802 a week ago, and 1,517 a year ago, according to Baker Hughes. Production in the U.S. went from 288,934 barrels in December 2014 to 284,737 barrels in January 2015, according to the Energy Information Administration.

Chris Faulkner, CEO and chairman of Dallas-based Breitling Energy, said the company has had to shift interest in where it drills. The shift went from the Bakken formation in North Dakota to the Permian basin in west Texas.

“For us, right now that is the most economical area to drill in,” he said.

The drop in prices has caused the company to “drill better and drill faster,” Faulkner said. “That allows us to maximize what we are doing and minimize the cost.”

VOLATILE PRICES

But the volatile prices also took some jobs away.

Faulkner predicts the year will finish with prices at $63 a barrel.

“We do not see oil coming back to $100 until the end of this decade,” he said.

Faulkner would like to see U.S., Mexico and Canada join forces to diminish the influence of OPEC on the price of a barrel of oil.

“If you add the production of the U.S., Mexico and Canada together it would be higher than OPEC’s,” Faulkner said. “We have the 800-pound gorilla, so we should be able to sit and talk at the table.”

The goal would be to form a North American Energy Confederation within the next 12 to 24 months.

“The idea of North American independence I don’t think is crazy at all,” he said.

Faulkner explained benefits of the confederation for the consumer: It would better allow the oil shipments to flow, it would reduce overhead costs, and oil would be refined and delivered for less.

Canada and Mexico are both interested in the confederation, he said.

“If we are all on the same side, then it gives a viable opponent to OPEC,” Faulkner said. “We have taken it up to Capitol Hill and are working with lawmakers to see if we could get buy-in.”

IMPACT AT $10 OIL

In Ohio, OOGA’s Bennett said prices already are affecting production, citing the decline in the rig count.

According to the Ohio Department of Natural Resources, the average rig count was at a low of 36 in March 2014 and hit a high in November 2014 with 53. But by March 2015, the rig count was an

average of 26.

With $10-a-barrel oil, “you would see all those rigs leaving the state,” Bennett said.

He said Saudi Arabia has the advantage over U.S. producers because the country has geological formations where the oil just flows and also a government that has full control over the industry, which brings lower production costs.

Mokrzan believes a drop to $10 a barrel is very unlikely.

“It is not in [the producers’] interest to drive it so low that will really hurt their revenues,” he said. “I do not think that would happen.”

Neither does Teshome. Into 2016, PNC forecasts oil at an average of $63 a barrel. “We have been through this before in 2008 when people said $200 a barrel was a possibility,” he said. “If the price goes down too low then we will see some companies go out of business.”