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March 16, 2015

Will 5 Million Barrels of U.S. SPR Purchase Bail Out The Shale Industry?

By Wolf Richter at Wolf Street

Oil industry lobbyists must have been working the government over for months. The price of oil has plunged nearly 60% since June. Smaller oil companies are going bankrupt. Larger ones are bleeding. Energy junk-bondholders are getting massacred. Wall Street investment banks are fretting about losing the fees. Lenders are worried about their energy loans. PE firms that have funded the fracking boom are taking big losses. Venezuela is falling apart and is going to default. Russia is careening in the wrong direction. Kern County, the oil capital of California, declared a “fiscal emergency.”
 
They all need the price of oil to jump, and they need it to jump NOW.

And besides, American consumers, who’ve benefited from the lower price of gasoline, don’t seem to appreciate it, at least not in the true American way, as the last retail-sales reports have shown. They aren’t spending the money they’ve saved on gas. They’re supposed to spend all of it, and more than all of it in the true American spirit of living beyond your means. But instead, they’re squirreling it away to pay for surgery or college or whatever. Retail spending has been dropping. And that can’t be allowed to happen.

So on Friday evening, when consumers were busy with other things and weren’t supposed to pay attention, the government proposed to yank that little monthly bonus away from them and hand it to the fracking and off-shore drilling industry, the big oil companies, the little oil companies, their suppliers, to the PE firms that invested so heavily in fracking, to the Saudis, Russia, to the despised government of Venezuela….

Conspiracy theory?

Not quite. The Energy Department announced it Friday evening when no one was supposed to pay attention. It proposed to buy 5 million barrels of sweet crude for the Strategic Petroleum Reserve, Reuters reported. It could accommodate some oil in May but most of it would be for delivery in June and July.

How much is 5 million barrels? On first sight, not much, given the size of the oil markets. It represents over half a day of US production. But US crude oil inventories in the latest reporting week rose by 4.5 million barrels. Only about 70 million barrels in working storage capacity remain available. When storage is full, all sorts of heck is going to break lose. And storage is filling up quickly. The markets have been fretting about that.

These 5 million barrels would make a dent into such fears. It’s not huge, but it’s at the margins were prices are set.

The excuse this time is that the government is required by law to replace the 5 million barrels it took out of the SPR in March 2014. Back then, the excuse for taking out the oil was that it would be a “test.” Everyone figured at the time that the government wanted to bring down the price of oil to punish Russia and send a stern message about its actions in the Ukraine.

Could the government be motivated by “Buy low, sell high?” No. The US government doesn’t know what profit is. It has no profit motive. The number one unwritten rule that employees of the government learn as they move up the ladder: “No one has ever been promoted for saving the government money.” The opposite is the case.

The current proposal contradicts recent discussions about reducing the SPR. Given the booming oil production in the US, and the imports from reliable neighbors Canada and Mexico, relatively little oil is being imported from other countries. The SPR simply isn’t that necessary anymore. The Obama administration is already working on a plan to reduce the size of the SPR and is expected to include details in its next energy review.

But no. Apparently, the oil industry will have none of it. Instead, the government is going to do what we’d been suspecting it might eventually do: bail out the oil industry.

The government plowed part of the proceeds from the sale of those 5 million barrels in March 2014 into a gasoline reserve in the Northeast “to address some of the resiliency needs in the region made evident by Superstorm Sandy in 2012,” a DOE spokeswoman said, according to Reuters. The remaining money is going to be used to buy back that oil.

And in the air hangs the threat that the government can always buy more if the 5 million barrels fail to pump up the price of oil, and along with it the price of gasoline.

We assume that President Obama will soon explain in one of his noble speeches why the oil industry, speculators in the energy sector, energy junk-bondholders, Wall Street investment banks, regional banks, the Saudis, Russia, Venezuela, and all the others – why the heck they need to be bailed out by strung-out, underpaid, overtaxed, maxed-out American consumers.
The industry is desperate. The price of oil did today what it has been doing for a while: it waits for a trigger and plunges: West Texas Intermediate dropped 4.4%, going into the weekend at $45 a barrel, less than a measly buck away from this oil bust’s January low. It’s down over 20% from the peak of the most recent sucker rally. US oil drillers have been responding by slashing capital expenditures, including drilling, in a deceptively brutal manner.

Courtesy Wolf Richter at WolfStreet.com (EconMatters archive here)

The views and opinions expressed herein are the author's own, and do not necessarily reflect those of EconMatters.

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