As global supply has outpaced demand for crude oil, prices have fallen dramatically. As this is written, in sharp contrast to $100 per barrel in June, crude prices are less than $50 per barrel.
This brings up an interesting question: at what point will producers find it unprofitable to continue and begin the process of shutting down production? According to global energy consulting firm Wood Mackenzie, prices have not reached that level yet but are approaching it.
The firm analyzed 2,222 oil fields around the world to determine how much prices would have to decline to reach the point where prices do not cover the total cost of extracting the crude. That is, they are losing money on each barrel, and producers must decide to continue or to cease production.
This can be a complicated matter. Firms have huge fixed costs in machinery and equipment which will continue whether they extract crude or not. Some may produce at a loss for a period, gambling on higher prices in the future.
According to energy analysts, the first areas to cease production would be the onshore stripper wells. In total, about a million barrels a day come from these aging wells, most of which produce only a few barrels. Cost of production can range from $20 to $50 per barrel. If prices fall below $40, analysts predict some would cease to operate.
And with prices less than $40, a production slowdown would probably occur in the Canadian tar sand fields. But some would produce at a loss. This is because stopping and restarting production in the tar fields involves injecting steam into the ground.
As prices dropped below $50 per barrel, the North Sea fields started to lose money. Most are older, and reducing output could slow them down for good. For this reason, many will continue to operate at a small loss.
Where are prices headed? That’s the crucial question. Many analysts predict they will continue to go lower. Investment firm Goldman Sachs recently reduced its three-month price forecast to just above $40 per barrel.
This projection is underscored by the actions of the Gulf members of OPEC that have vowed not to cut production. Given the glut on the market, this will continue to drive prices lower.
Wayne Curtis, former superintendent of Alabama banks, is a retired Troy University business school dean. Email him at wccurtis39@gmail.com.
