Recent Trends in US oil production thousand barrels per day 0 1000 2000 3000 Jan07 Jan08 Jan09 Jan10 Jan11 Jan12 Jan13 Jan14 date Bakken production Eagle Ford production increase in Permian basin oil production vs. Jan 2007 increase in Canadian imports vs. March 1999 increase in tight oil production vs. Jan 2007 difference in Brent vs. WTI spot price -10 0 10 20 30 difference in Brent vs. WTI spot price Crude Behavior (RFF-IB-14-03) HERE roundtable November 2, 2014 1 / 12
Recent Trends in US gas production Crude Behavior (RFF-IB-14-03) HERE roundtable November 2, 2014 2 / 12
Employment Effects of Fracking Crude Behavior (RFF-IB-14-03) HERE roundtable November 2, 2014 3 / 12
Average API gravity of imported oil 26 28 30 32 34 Jan1985 Jan1990 Jan1995 Jan2000 Jan2005 Jan2010 Jan2015 date average specific gravity, imported crude oil average specific gravity, US refinery receipts US refiners typically designed to accommodate heavier crude average API gravity of US oil has dramatically increased since 2010 link to expanded tight oil production Crude Behavior (RFF-IB-14-03) HERE roundtable November 2, 2014 4 / 12
Heterogeneities in oil crude differs in sulfur content, API gravity sulfur must be removed before oil is refined higher API gravity easier to produce higher-valued products Crude Behavior (RFF-IB-14-03) HERE roundtable November 2, 2014 5 / 12
Unique traits of tight oil 100 90 80 70 60 50 40 30 20 10 7 0 Distillation Cuts for Condensate and Various Crude Oils Percent Eagle Ford/55 WTI/40 Mars/29 Maya/22 Condensate LPGs/NGLs Naphthas/Gasolines Middle Distillates Vacuum Gas Oil Resid/Fuel Oil = API Gravity Super light tight oil and condensates have significantly different product yields Source: Haverly Systems than conventional crudes Crude Behavior (RFF-IB-14-03) HERE roundtable November 2, 2014 6 / 12
Tradeoffs in refining lighter crude facilitates production of valuable products refiners can handle heavier crude by installing cracking capacity expensive capital equipment all else equal, tend not to obtain such capital but if anticipate ongoing stream of heavy crude, the investment is economic once installed, there is an opportunity cost to moving output mix towards gasoline trade-off influenced by output prices (e.g., gasoline vs. diesel) trade-off also influenced by input prices refiners with access to underpriced lighter crude tilt output towards gasoline alternatively, might look to purchase increasing amounts of heavy crude to offset influx of lighter crude Crude Behavior (RFF-IB-14-03) HERE roundtable November 2, 2014 7 / 12
Contrasting Midwestern and Gulf Coast regions (PADD 2, PADD 3) API degrees 29 30 31 32 33 34 Jan2004 Jan2006 Jan2008 Jan2010 Jan2012 Jan2014 Date SG2 SG3 fraction capacity allocated to cracking.4.5.6.7 2000 2005 2010 2015 year CrackCap_2 CrackCap_4 CrackCap_5 CrackCap_3 CrackCap_1 Crude Behavior (RFF-IB-14-03) HERE roundtable November 2, 2014 8 / 12
Other considerations evidence that per-well production follows hyperbolic decline curve subject to very rapid decline in first several months then production flattens out, falls much more slowly implication: aggregate field production likely to exhibit peak load issue incentive to have rolling frontier of development this can only be sustained for several years in very large fields implications for incentive to build/expand pipeline infrastructure alternative transport: rail (safety concerns) Crude Behavior (RFF-IB-14-03) HERE roundtable November 2, 2014 9 / 12
PADD2 oil sells at a discount, gasoline does not PADD2 refineries process lighter sweeter crude than PADD3 refineries suggests acquisition costs should be higher in PADD3 than in PADD2, but... Refiners Acquisition Cost (Composite) Wholesale Gasoline Prices Crude Behavior (RFF-IB-14-03) HERE roundtable November 2, 2014 10 / 12
Heterogeneities in oil crude differs in sulfur content, API gravity higher API gravity easier to produce higher-valued products sulfur must be removed from oil during refining process increased sulfur content is bad, should lower price increased API gravity is good, should raise price our regression analysis of data indicates each 1 degree increase in API gravity raises average US refinery acquisition cost by $0.64/barrel each 1% increase in sulfur lowers average US refinery acquisition cost by $2.88/barrel based on average sulfur and API gravity in PADD2, US as a whole, our estimates imply PADD2 oil is underpriced by $6.34/barrel lower acquisition cost in PADD2, particularly since 2010 (undervalued) higher API gravity oil in PADD2 Crude Behavior (RFF-IB-14-03) HERE roundtable November 2, 2014 11 / 12
Final thoughts Emerging trend towards tight oil has greatly expanded US crude oil reserves new output tends to be light oil imperfect match to US refinery configuration motive for exporting crude lifting crude expert ban will reduce market uncertainty this will possibly motivate expansion of pipeline infrastructure ancillary benefit: shifting oil delivery away from rail to pipeline attendant reduction in delivery risks likely increase in prices received by midwestern producers likely modest impact on gasoline prices likely reduction in gasoline prices sooner? (Larry Summers) later? (RFF analysis) Crude Behavior (RFF-IB-14-03) HERE roundtable November 2, 2014 12 / 12