Domestic oil production does not affect gas prices

For years, but increasingly as presidential hopefuls jockey for position, we hear claims that the United States needs to increase domestic oil production to bring down the cost of fuel at the gas pump.

No doubt we’ll be hearing this ideological refrain louder, more frequently and more passionately as we approach the November showdown. Aside from the general primary fatigue many of us are feeling, the only other problem with the argument is that it is not true.

Any candidate — whether Republican, Democrat, Independent or Libertarian — who says we can drill our way to lower gas prices is either lying or ignoring the numbers. The U.S. simply does not possess enough of the global crude oil pie to affect its price, no matter how enthusiastically we pump it out of the ground.

In fact, our nation is producing more oil now than any time in the past eight years, reversing two decades of decline. To do this, the number of oil rigs has quadrupled, and for the first time in 13 years we are, as of 2011, importing about 45 percent of our oil from other countries. This is a reduction from a record high of 60 percent foreign oil in 2005. A basic understanding of economics would suggest that increased production would yield lower prices. Yet this is obviously not the case.

Gasoline, diesel and heating oil prices are rising despite recent increases in domestic production. The causes are not domestic energy policy, but more the fact that crude oil is a global commodity. Prices at the gas pump are a result of numerous factors, most prominently regional cost of production, global demand and global production rates (supply).

One of our candidates recently pointed out that the U.S. is the third largest oil producer in the world. If you only compare production figures for individual countries this claim is true. We’re right there behind Saudi Arabia and Russia.

However, as the Euromonitor Global Market Research blog reports, the Mid-East region holds 56.6 percent of the world’s reserves and produces 30.3 percent of world’s oil, compared to the United States, which produces 8.7 percent.

It’s easy to see the candidate’s claim disproportionately inflates the prominence of the U.S. on the world stage of oil producers. We have too small a portion of world reserves to significantly affect the global price of a barrel of oil — no matter how much we draw from our domestic oil patches.

BP’s “2011 Statistical Review of World Energy Full Report” (available online) points out that the U.S. has only 2.2 percent of the world’s proven reserves. Including Mexico and Canada, North America holds 5.4 percent. Yet, the same report states that the U.S. consumes 21.1 percent of the world’s oil. That’s right, despite the fact that we represent only 5 percent of the world’s population, we use more than one fifth of the world’s petroleum.

And we’re not the only addicts on the block. Burgeoning economies in India and China are prompting new thirst for gasoline soon to rival our own. That increasing demand contributes to rising global oil prices. Last year, Chinese citizens purchased 10 million cars, and they’re just getting started. According to Time Moneyland, dealerships in the U.S. sold 12.8 million new cars in 2011.

On top of the highly uneven distribution of the world’s crude, we have to consider that costs of extraction are higher where oil is deeper, thicker, more remote or more depleted. Saudi Arabian crude is the cheapest in the world to extract because of its location near the surface, its favorable physical characteristics and the consolidated physical geography of its oilfields, which allow economies of scale.

Cost of production (in the petroleum industry called “lifting cost”) figures are closely guarded by oil companies. Nonetheless, a 2009 Reuters document, “FACTBOX-Oil Production Cost Estimates by Country,” provides some relative comparisons. Cost of extraction in Saudi Arabia, including capital expenditures, is $4 to $6 per barrel. The cost of production in Arctic fields is $32 per barrel. Offshore extraction stands around $32 per barrel (some sources list offshore at closer to $60). Enhanced recovery (for more depleted fields) is about the same as Arctic. Heavy oil/bitumen oil such as in Alberta oil sands costs around $32 per barrel as well. For oil shale, the cost increases to $52. For related hydrocarbon resources, turning natural gas into liquid costs $38 and coal to liquid is $60.

The days of cheap oil are forever gone. No matter how much crude the U.S. pumps out of the ground, the price of gas will be determined globally. Meanwhile, incremental costs of domestic production will increase, whether expanding drilling or enhancing recovery of depleted fields. Gas prices will continue to increase despite any false claims you may hear from presidential candidates. The good news is, as we continue to make progress using expensive petroleum more efficiently, the costs of alternative energy sources are dropping.

Paul Morley’s next column will focus on potentials for American energy independence.