Thursday, February 25, 2016

I Love Cheap Gas

My wife and I paid $1.65 for regular, unleaded gas after grocery shopping yesterday. I haven't seen prices this low since my high school years (2000-2004). I am sure Americans across the country are enjoying their newfound wealth.

But what the hell is going on? Is this a short-term blip in the oil markets? And at what point does the benefit of cheap gas get overwhelmed by the detriment of bankrupt oil and gas companies?

Gas is so cheap right now because of a massive game of chicken between the U.S. and OPEC -- the Organization of Petroleum Exporting Countries. Beginning in the mid-2000s, we here in America figured out a way to pump oil and gas out of tight rock formations with new drilling technologies (fracking being one of them). Our production of hydrocarbons erupted and we no longer found ourselves desperately dependent on imports.

Saudi Arabia and other OPEC nations were less than pleased with this development. As the world's oil spigot owners and supervisors, they're used to being able to keep oil prices high by limiting production when prices get soft.

US oil companies and energy policy-makers likely expected that OPEC would continue to cut production as our oil began hitting the market.

But they didn't. And here's why: At $20 a barrel, roughly 62% of Saudi Arabia's oil reserves can still be sold for a profit. That means their production break-even is less than $20 per barrel.

How much of our oil reserves are above break-even at $20 a barrel? Less than 1% -- roughly .60%.

So, really, this isn't a game of chicken -- it's a race off the edge of a cliff. It's the wrong kind of contest in which to have a head-start.  And we (the U.S.) have a head-start.

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