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US aid to shale producers could further hurt oil market, lead to public backlash


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US aid to shale producers could further hurt oil market, lead to public backlash

U.S. federal assistance could hurt the oil and gas industry in the long term if it props up inefficient operators and incentivizes production in an already oversupplied market, energy and economics experts said.

President Donald Trump is reportedly considering some form of federal assistance for shale producers affected by the recent plunge in oil prices, but the White House declined to comment on internal policy discussions or offer further details March 11.

The coronavirus, which the World Health Organization declared a pandemic, has significantly reduced oil demand, while a price war between Saudi Arabia and Russia increased global oil supply. Low oil prices will especially hurt weaker and higher-leveraged shale companies, potentially resulting in some consolidation in the space through bankruptcies or acquisitions.

Economic effects

The Trump administration could exacerbate the oil glut and prolong the price downturn by supporting domestic producers, which would push even more oil into the market, according to Anna Mikulska, a nonresident fellow in energy studies at Rice University's Baker Institute for Public Policy.

"If you had a certain amount of industry already being in the red, extending this might just prolong the inefficiencies and maybe won't result in consolidation that otherwise would happen," Mikulska said.

The U.S. players struggling financially could be absorbed by healthier companies due to the price war, which may not be an overall negative consequence for the domestic industry, said Charles Mason, associate dean for research and chair of petroleum and natural gas economics at the University of Wyoming's College of Business.

"If you've got firms that have made bad bets … do we really want to be in the business of shielding people who have done things that might have been a little bit less than cautious, shall we say?" Mason said.

Mason said Russia and Saudi Arabia do not control a large enough share of the global oil market to "meaningfully move markets over the course of weeks and months." The market may be down for a few days, but various parts of the global industry can help prices recover, he said.

A senior fellow with right-leaning think tank Manhattan Institute agreed with Mason's view of survival in the industry. "It sounds heartless to say, 'the businesses that are going to go bankrupt should go bankrupt,'" Mark Mills said. "I mean it just sounds heartless, but a lot of times, that is the right solution because then next time, there will be fewer businesses that will be out over their skis with too much debt and lousy assets."

The administration will need to determine a way to offer assistance without distorting the market, said Mills, who is also a strategic partner with Cottonwood Venture Partners. While Mills usually prefers little government intervention, it might be required in this case, where international market manipulation could damage U.S. industries, he said.

The largest trade group representing the oil and gas industry also cautioned against overreacting early in a market downturn. Mike Sommers, president and CEO of the American Petroleum Institute, said in an emailed March 10 statement that the organization had not discussed financial programs with the administration.

Political repercussions

In addition to mixed economic effects, federal assistance could also lead to public backlash against producers as well as the administration, said Mikulska, who in addition to her position at the Baker Institute is also a senior fellow at the University of Pennsylvania's Kleinman Center for Energy Policy. Pointing to the political blowback that President Barack Obama faced when he bailed out the auto industry, Mikulska said, "Oil and gas is much more controversial."

Mikulska described the Trump administration's consideration of help for the sector as a "gut reaction" based on its interest in the industry's success as part of the president's energy dominance agenda. "On top of the fact that this is an economy problem, it's even more because it's within the industry that he specifically touted as his accomplishment," Mikulska said.

Any proposal from the Trump administration to aid the fossil fuel industry is likely to face significant political hurdles, especially in an election year, said Katie Bays, co-founder of research and consulting firm Sandhill Strategy. If passed, the aid would likely be restricted to larger, cash-flow-positive U.S. independent operators and oilfield service companies as a smaller component attached to a much more substantial funding package in response to the coronavirus outbreak.

"While a shale bailout may be the hero the energy sector wants, what the sector needs is an economy-wide response that boosts consumer confidence and spending and staves off a recession," Bays said in a March 11 report. "Lower cost of capital for larger operators may boost a long-overdue consolidation cycle, which could rationalize production, or may simply allow larger companies to delever while smaller entities slip towards default."