Alaskan Oil Leases: Better Late than Never
After years of contention, the federal government is slated to sell oil and gas leases in part of Alaska’s Arctic National Wildlife Refuge (ANWR) days before President Trump leaves office. With oil prices still depressed due to the COVID-19 recession, it is not a great time to be selling leases. Yet with the incoming Biden administration promising to stop all oil and gas leasing, especially for ANWR, the taxpayer is better off taking what revenue is raised now than accepting nothing at all.
If all goes as currently planned, on January 6 the United States will hold a lease auction for almost 1.6 million acres on Alaska’s North Slope that are newly eligible for oil and gas development. This auction is the result of a concerted effort by the Trump administration to promote domestic oil and gas production. Debate about these particular leases in the controversial 1003 area of the Arctic National Wildlife Refuge long predates the Trump push. Yet even without considering the impact of development on barren-ground caribou and other ecological assets, this sale presents an unusual tradeoff for both the seller and the prospective buyers. The tradeoff is nearly all about revenue, because drilling in a faraway place that most taxpayers will never visit does not resonate as an environmental concern the way drilling in the backyard might.
One reason the government leases federal lands and waters for oil and gas development is that the taxpayer receives a return on those assets. Most comes in the form of royalties on production, but the revenue raised from bids at auctions contributes about 10 percent in most years. In fiscal year 2019, the federal government collected $12 billion from oil and gas producers, with about $2 billion coming from lease sales.
But past performance may not predict future results: The coronavirus has knocked out a substantial chunk of oil demand, and producers around the world are fighting over what is left. The economic slump has put tremendous pressure on companies of all sizes, forcing many producers into bankruptcy or mergers. While drilling of new wells is gradually rebounding after months of near-total shutdown, inventories remain historically high.
Market expectations for oil prices are as flat as the West Texas plains. While the first barrel of oil from the million acres of North Slope won’t go to market for years, the current indication is that it will be worth the same amount as a barrel today. The global market is “well supplied” — oil industry code for “less drilling.”
The results of a federal lease auction in California last week — which generated a mere $46,000 — lend credence to the bad timing of the current moment. Given that this is the long-awaited moment to cash in on North Slope oil after decades of struggle to offer it, the taxpayer should prepare to be disappointed.
Among the many ways to lose money in the oil business, overpaying for prospective but unproven acreage is time-tested and proven. In formulating bids, companies need to take a number of factors into account, starting with how much oil is in place and what it will be worth if brought to the surface. Yet technical issues affecting extraction costs — regulations governing the terms of production, transportation costs, and uncertainty about the future demand for the product — are all relevant.
Climate-change policy is likely to eat into returns for oil and gas producers. A change in regulatory oversight might make times more difficult as well. Joe Biden has pledged to stop issuing new oil and gas leases on federal lands and waters. If the Alaska leases are issued before he takes office, the owners will have a decade to bring them into production and a strong legal precedent created by a century of federal leasing. Once producing, continuing to pump oil and gas allows the leaseholder to maintain control indefinitely. There are plenty of examples: Leases issued nearly a century ago in the wake of the Teapot Dome scandal that toppled an Interior Secretary are still held by production today. That said, even if the ANWR leases come in under the wire, companies might expect a very different oversight by the federal agencies after January 20.
Calls for stricter environmental standards for investors are another issue. Wall Street has adopted a more tight-fisted posture toward the oil and gas industry, in part because of an increased focus on SRI (socially responsible investing) and in part because of lousy returns on shale investments. The slower flow of funds toward oil and gas could crimp the ability of bidders to spend or could reduce their number to a few deep-pocketed companies. Yet these leases offer a unique prospect of tremendous reserves on large acreages in the United States. In other words, the opportunity might be too good to pass up.
Who stands to gain? The current big players on the North Slope, ConocoPhillips and Hilcorp, might seem to have an advantage. Yet the offered leases are substantial enough that another large corporation could use this lease auction as an entry point. Alternatively, one of the smaller firms already operating nearby could try to make an ambitious expansion.
Should we be bullish on oil over the long run? Let’s hope that bright prospects for coronavirus vaccines will help the global economy recover after a tumultuous 2020. If people want to reconnect with relatives and friends, and make up for lost time by resuming travel, oil demand will recover. Oil prices are determined in a global marketplace, so the pace of the global recovery will matter. But there are not any viable substitutes for oil in transportation. Even if we see more electric vehicles on America’s roadways, the current prototypes for electric planes are likely to stay on the ground. This should give companies hope that they can buy good prospects on the cheap today. Those bargains come at taxpayers’ expense, but with policy changes they might not come at all. So a penny today might look better than a dime that might not materialize in the future.
