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An Energy Policy Designed to Fail

Posted By Rich Trzupek On March 17, 2011 @ 12:45 am In Daily Mailer,FrontPage | 12 Comments

Gasoline prices are on the rise again, mostly due to a combination of turmoil in the Middle East and increased worldwide demand that has driven crude prices up over $100 per barrel. When refiners switch to EPA-required summer blends starting on May 1, gasoline prices will increase even more. The left understands that the harder consumers are hit at the pump, the more sympathetic they are to calls for more domestic oil exploration. In an attempt to head off the issue, Interior Secretary Ken Salazar and Senate Majority Leader Harry Reid and other leftists have fallen back on a tired, discredited canard: the “use it or lose it” approach.

The theory – one that President Obama himself embraced during the 2008 campaign – is that energy companies are “sitting on” leases covering millions of acres of public and Native American lands. Why should the Interior Department issue new leases for oil and gas exploration when the industry isn’t using the resources it already has?

“In fact, it is those same Big Oil companies that are quite literally sitting on the oil that Republicans demand,” Reid said on Tuesday. “Big Oil is sitting on more than 60 million acres of federal land and water. That means nearly 20 percent of our nation’s oil refinery capacity sits idle. They have shown much more interest in making profits than in making oil.”

“The issue we are confronting is not a failure of the government to lease lands or authorize drilling, it’s that millions of acres under lease exist but the industry is not developing them,” Senator Bob Menendez (D-NJ) said yesterday. Menendez, along with Senators Chuck Schumer (D-NY) and Bill Nelson (D-FL) introduced a bill that would force lease holders to drill or forfeit their leases.

Like so many other simplistic leftist ideas, the benefits of this sort of government-mandated approach to oil exploration quickly falls apart as one peels away the layers of the argument. The basic concept starts with an obvious contradiction, for it presupposes that “Big Oil” is so greedy that it will recklessly and knowingly drive up the cost of the product it sells, but is at the same time too stupid to take advantage of those market conditions by producing more of it. In the view of Reid, Salazar and Menendez, the law of supply and demand is somehow suspended when it comes to oil production.

Here’s the way the industry actually works, written from the perspective of a fellow who has been working with energy companies for about three decades: When federal lands go up for lease, companies bid on them with an eye toward possible long-term production. There’s no guarantee that a particular area will yield enough oil or gas to generate a profit, so every lease involves what is more or less an educated gamble.

It should be noted that Outer Continental Shelf (OCS) lease areas are, in the scheme of things, pretty small. (These are the deepwater areas in the Gulf and along the Atlantic coast). Accordingly, it’s common for bidders to secure leases to multiple leases covering contiguous areas. The flip side of that strategy is that if the lease-holder performs some further exploration and determines that one lease area isn’t profitable, then he will not pursue contiguous lease areas. This means large swaths of potential production areas will ultimately go untapped.

It should also be understood that energy companies don’t bid on a lease because they know that they’ll find oil or gas — they bid because they believe there’s a possibility that they might find oil or gas. When Reid, Salazar, Menendez and the rest of the left tries to paint a picture that suggests energy companies are deliberately sitting on known reserves, they’re being intentionally disingenuous or willfully ignorant. No one outside of OPEC is going to sit on proven, profitable reserves in this market.

Once an energy company secures a lease, the next step is conducting a seismic survey. This provides the company with a much greater level of surety that it can make a profit. Before it can conduct a seismic survey, the company must first obtain a permit. If the seismic survey looks promising, the company then must obtain an additional permit to drill exploratory wells. The farther along in this process the company goes, the more money it expends.

Right now, the Obama administration is severely restricting the issuance of permits to conduct seismic studies and to drill exploratory wells. The policy is commonly referred to as “permit-torium” within the energy industry. That is: while the Obama administration has not officially declared a moratorium on drilling, the fact that it has basically refused to issue permits for seismic studies and new drilling in all but a few cases effectively amounts to a moratorium.

But, let’s ignore all of the facts detailed above. Let’s pretend that energy companies are actually knowingly sitting atop of vast oil reserves that they stubbornly refuse to tap. Would we then need a “use it or lose it” law? The answer is no, because “use it or lose it” already exists. Public land energy leases have five to ten year terms (depending on the lease). If the lease-holder can’t produce oil or gas within that time, the lease expires.

And so the bottom line is this: not only does “use it or lose it” ignore the realities of energy production, it’s a superfluous concept. Energy companies are already subject to “use it or lose it.”  The only thing standing in their way is an administration that demands the latter, without allowing the former.

 


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