Amid talk of the persistent crude oil supply glut, relatively little attention has been paid to the one notable quirk about US energy exports: they are heavily restricted. Those restrictions are of course a legacy of the supply shocks that characterized 1970s energy markets, a consequence of the OPEC oil embargoes.
The system is not an outright ban but rather an export licensing regime. This regime is subject to notable geographic exceptions. Exports to Canada and more recently to Mexico are exempt, as are exports from Alaska’s North Slope and certain types of crude from California. Additionally, re-export of foreign sourced crude is permitted. The exceptions also encompass products further down the processing stream. Refined petroleum products are not subject to the restrictions at all. Under a recent Bureau of Industry and Security ruling, neither is processed condensate. Given the breadth of these exceptions, crude oil exports have actually been on the rise.
With supply shocks a fading memory and the rationale underlying the export restrictions increasingly archaic, arguments for easing or outright abolishing the restrictions have been quietly gaining momentum. A recent EIA report has examined the possible outcomes of altering the existing regime in the context of forecasted growth in US crude oil production. Said production is forecasted at 9.4 million bbl/d in 2015 to a range around 9.5 million – 14.1 million bbl/d in 2025, depending on several case scenarios dictated by variables such as oil price, technology, and export restrictions, assuming there are any.
The EIA report states that the level of future US production dictates what result, if any, arises from lifting the restrictions. Future production is of course determined by – and a determinant of – a host of factors such as benchmark prices, technological changes, and a greater understanding of existing and future reserves. As an example, the EIA report posits that under the status quo, if US production reaches or exceeds 11.7 million bbl/d by 2025, the differential between WTI and Brent pricing should widen to more than $10/bbl, with WTI at a large discount. Such a WTI discount should then encourage producers to expand processing capacity so as to upgrade a larger portion of their volumes. The resulting product would not be subject to export restrictions and could take advantage of more favourable Brent pricing. Since $6 – $8/bbl is a rough range of the costs of moving WTI from the Cushing pricing hub to overseas Brent-priced markets, lower production ranges – and lower differentials – are not conducive to processing capacity expansion. This remains the case regardless of export restrictions.
The EIA report also posits that lifting export restrictions would result in higher domestic wellhead prices – presumably because producers could sell exported crude priced at Brent – but only in those cases where supply levels are relatively high and thus where the WTI-Brent differential is in a range where pursuing Brent pricing makes sense, i.e. beyond $6 – $8/bbl.
Under the EIA report, the case for lower gasoline prices is less clear, since gasoline is more closely tied to Brent pricing. That said, Brent pricing may face downward pressure if higher US production – spurred by higher domestic wellhead prices – does not result in offsetting production cuts outside North America.
As far as the Canadian oil & gas industry is concerned, there is an argument to be made that lifting the export restrictions could also widen the differential between light and heavy crude – perhaps assuming many of the same conditions outlined in the EIA report – which could have important implications for Canada’s relatively heavier production profile. As heavier crude is generally priced at a discount to both WTI and Brent, a larger heavy-light discount could conceivably improve the economics of processing more production domestically, in much the same way that a higher WTI-Brent discount could incentivize higher US domestic processing under the status quo.
In addition to the possibility of higher realized pricing for North American producers, what militates in favour of lifting the restrictions on crude exports is an underlying efficiency rationale. Much of US production growth is in the form of light oil. However, US refineries are generally geared towards processing heavier crudes. Consequently, because of this mismatch between what operators produce and what refiners can process, US crude supply is gridlocked. The incentive then is to either leave production in the ground or to sell it to refiners at significant discounts, a problem which is further exacerbated by limits in transportation options. In this context, easing export restrictions could mean a potential outlet for excess crude supplies.
Indeed, arguments in favour of lifting restrictions have been making their rounds and gaining force. House Speaker John Boehner, R-Ohio, and Senate Minority Leader Harry Reid, D-Nevada, have already expressed support for ending the restrictions. An existing bill to that effect has 113 co-sponsors – about 12 of them Democrats – as of Sept. 4th. While President Obama has not explicitly come out in favour of easing the restrictions, a White House spokesman punted the issue to the Department of Commerce. Moreover, the administration’s recent decision to allow exports to Mexican light oil refineries in return for imports of heavier crude might be a useful indicator of where the President’s intentions lie.
This is not to imply that there is no opposition to lifting export restrictions. Environmental groups fear the consequences of more drilling activity spurred by potentially higher domestic prices. Many Midwestern and northeastern refiners find themselves on the same side, concerned about the impact of higher input prices on their margins.
Predictably, one argument for the status quo echoes the same rationale that led to the restrictions in the first place: national security. Yet the cold war is over, supply shocks are a fading memory, and nothing would keep the President from imposing emergency export restriction should the need arise. Moreover, there is a case to be made that lifting the restrictions could benefit US geopolitical interests. A recent Economist article argues that it would give the US more leverage in persuading other WTO members to reconsider export restrictions of their own. A cogent argument can be made that such a course of action would signal US commitment to free trade more generally. Moreover, there is much to be said for the benefits of increased export earnings and an improved trade balance.
There is no question that the EIA report will spark dialogue. What remains to be determined is timing. Crude oil export restrictions have not made much of a splash so far this primary season and it remains to be seen whether the issue continues to pick up steam in Congress or whether it ends up on the back burner to be resolved by the next administration.
– Petur Radevski, J.D., is a business development consultant in the oil & gas industry