The economic growth benefits of cheaper oil are smaller than they used to be.
The rotary rig count is in freefall. We use the present tense because the latest entry for this weekly series came out last Friday (5 March). The question on the tip of many tongues is how much further will it drop.
A rig is a structure used to drill for oil and natural gas. The rotary rig count (i.e., the rig count), published by Baker Hughes, lists the number of active drilling rigs. This count helps measure development, not production. After drilling, a wellhead is placed on top of the well, the rig is moved, and oil or natural gas starts flowing.
Last week, the rig count fell by 75, to 1,192; it is down 38% from an October peak of 1,931. Oil rigs are down 43% from an October peak; gas rigs are down 25% from a November peak. The split is currently 77% in favor of oil, down from 81% a year ago.
Comparing the rig count across time requires context because technology and the split between oil and natural gas have changed dramatically in this century. For example, hydraulic fracturing (fracking) and horizontal drilling were infant technologies 15 years ago, when the split between oil and gas rigs was 80% in favor of gas, and horizontal rigs accounted for 6% of all rigs (75% today).
In the National Income and Product Accounts (NIPA), drilling for oil and gas counts as investment in “mining exploration, shafts, and wells” structures. This category “includes exploration and development expenditures related to the construction of mine shafts and the drilling of oil and gas wells. It also includes expenditures for dry (unsuccessful) wells.”
As the second chart shows, the correlation between the growth rates of this concept and the seasonally adjusted rig count is close—but not perfect—and during some periods, they differ substantially. That is because government statisticians are attempting to measure value added by tracking footage drilled and drilling costs, not by counting rigs.
Still, the growth rates for these two series move closely enough that one can use the seasonally adjusted rig count as a guideline to approximate spending on mines and wells in the current quarter. Based on the rig count and a dose of judgment, we currently expect real spending on mines and wells to drop by an annualized 67% in the first quarter, cutting GDP growth by 0.89 percentage point; the bites off the second, third, and fourth quarters will be 0.21, 0.15, and 0.10 percentage point, respectively.
The conventional view is that lower oil prices promote growth because the United States is a net oil importer. This view is still correct. But the sharp drop in capital spending in a sector that accounts for less than 1% of GDP informs us that the growth benefits of cheaper oil are smaller than they used to be, and over some time intervals, they are actually negative.
by Patrick Newport