Sam Seitz

The United States has recently emerged as an “energy superpower.” The shale revolution has allowed the U.S. to become a net-exporter of natural gas for the first time in 59 years, and American crude oil production officially surpassed U.S. oil imports in September of 2013. Based on these trends, the Energy Information Administration argues that by 2026 the U.S. could very well become a net energy-exporter. Given that the Trump administration has overseen a period of fairly steady dollar depreciation, it’s possible that American energy exports will grow even faster, as foreign consumers will be able to purchase dollar-denominated U.S. oil and gas at increasingly lower rates.

 

US Dollar
U.S. trade-weighted USD index since Trump’s inauguration (source: St. Louis Fed)

This energy boom is obviously a boon for the United States. It ensures that the U.S. has access to the vital energy resources its modern economy needs, grants American policymakers and firms the ability to influence global prices, and provides thousands of new jobs to the American economy. Shale is unique in that it requires relatively little capital investment, and production levels can adjust rapidly to changing market conditions. In other words, unlike offshore oil rigs that have hefty upfront costs, shale production is relatively nimble and adjustable, granting U.S. producers a kind of flexibility rarely seen in other, non-shale, countries. By creating a new hub of energy production, the U.S. shale revolution also presents several interesting foreign policy opportunities. For example, the U.S. can attempt to flood the market, driving down prices and suffocating the economies of hostile petrostates like Russia, Iran, and Venezuela. Moreover, the United States can use its reserves of oil and gas to supply vital partners in Europe – Poland, the Baltic states, and Germany – eliminating their need for Russian energy and eliminating one of Putin’s primary means of influence. In short, the shale boom has granted the U.S. a number of economic and political advantages it would not otherwise enjoy.

However, this energy dominance is far from guaranteed to lock-in American power. One major problem with the energy independence narrative, for example, is that easy access to energy resources like oil and natural gas does nothing to shield the United States from energy prices shocks like those seen in the 1970s. Oil and gas (though to a much lower extent) are globally traded, so the market rate is based on international markets, not just domestic supply and demand. And this would be true even if the U.S. government banned exports. Consider a scenario in which U.S. firms are able to profitably produce at $75/barrel, but the international market rate is $98/barrel. American firms know that their best foreign competitors will still only be able to offer American consumers oil at a rate of $98/barrel. Thus, U.S. firms would charge just a hair below the international market rate, enough to undercut their competitors abroad while still pocketing a handsome profit. Given this simple reality, one would expect foreign supply shocks to implicate the American market even if oil and gas exports were entirely banned, and this is a pretty generous assumption given the growing role of energy exports in U.S. diplomacy toward Eastern Europe and Asia. Another problem with the narrative of American energy dominance is that it presupposes a level of control over industry that the U.S. government rarely ever exercises. For example, many discuss America’s potential to act as a swing producer due to its deep oil and gas reserves and relatively adaptable and responsive shale industry. This view is correct to some degree – American energy firms’ production flexibility can ameliorate massive imbalances in supply and demand fairly quickly, mitigating market volatility – but it is not the case that the U.S. government can directly leverage this capability to achieve monopolistic effects such as unilaterally swinging prices. Of course, the U.S. can influence firm behavior on the margins by changing regulations and tax policies, but it will never have the kind of production control enjoyed by OPEC states for the simple reason that they have state oil companies and the U.S. does not.

Finally, it’s far from certain that U.S. oil and gas fields are sustainable over the long run. Both Eagle Ford and Bakken, the two main shale oil fields in the United States, have seen a steady decline in output since early 2015. Currently, producers are witnessing a decline of 1.8 million barrels a day per year in both of these plays. The good news is that the Permian oil field in Texas has been able to absorb much of this decline, and output there remains strong. However, even the Permian is experiencing fairly serious annual decline rates, suggesting that production there is only a short-term solution to declining shale output. It is certainly true that many in the media and oil industry are hyping the possibility of technological breakthroughs that will allow for a breakout in production, but this seems to be little more than fanciful nonsense. Marginal improvements in fracking technology likely will unlock previously unavailable pockets of oil and gas, but it will almost certainly be insufficient to eliminate the robust decline in output at the major U.S. fields. Furthermore, given the relatively low profit margins of oil producers currently, it is not clear from where the necessary capital for tech investment would come. And while natural gas production has not faced as precipitous a decline in output as oil, we are beginning to witness similar patterns. For example, the Marcellus Shale, America’s biggest source of natural gas production, is producing about half of what it was last year. Producers have so far been able to overcome this by racing to install new rigs, but long-term prospects are clearly negative.

 

EIA 1
Eagle Ford and Bakken Field Total Oil Production (source: U.S. EIA)

 

None of this is to suggest that the shale revolution has not powerfully impacted the U.S. economy and international position. Nor does it mean that the government should attempt to reign in fracking. However, it does mean that politicians and policymakers should stop throwing around the utterly meaningless phrase “energy independence,” recognize the rather limited geopolitical influence the shale boom has provided the U.S., and vigorously pursue energy diversification.