Oil Booms: One More Oil Boom

Byron King discusses the Oil Booms of the 1970s and today, the oil bust of the 1980s, and explains how we can be in an oil boom even without any oil.

“PLEASE GOD, Just Give Me One More Oil Boom. I Promise Not to Blow It Next Time.” This was a bumper sticker prayer pasted on the rear end of many a vehicle in America’s oil patch back in the 1980s. Oh, for the good old days, right?

In a boom-and-bust scenario whose macroeconomic curves could have been traced 100 years before, the price of oil soared in the 1970s. From a price of under $4 per barrel in 1970, the posting for the West Texas Intermediate grade of rock oil skyrocketed to almost $50 per barrel by 1980. This 12-fold increase in price sparked an oil boom on a worldwide basis. And it sparked a very deep worldwide recession that almost broke the backs of many national economies.

But the dramatic price rise led everybody who was anybody, and who knew anything about the oil business, to prowl the world’s sedimentary basins. One great beneficiary was the U.S. oil patch. The money was out there, if you knew how to put together a play. And the funds pouring into oil-related investment drove an entire economic cycle.

Geologists came up with drilling prospects. Land men and women searched the titles in dusty old courthouses and then went about acquiring suitable acreage. People contracted for the rig roads and drilling pads. The drillers drilled, if you could find one who had an open slot on the calendar. The vendors supplied the hard goods, like rigs and engines and pipe and drill bits and drilling mud. The work was good, and there were a lot of paychecks getting cut. It was sweet, if you were part of it.

But then, in the early 1980s, things went south in a big way. Looking back on it, this oil bust that followed the booming 1970s had little to do with oil and much to do with U.S. monetary policy and geopolitical strategy.

Oil at $48 per barrel bought a lot of fine houses and slick automobiles for fortunate Texans and Saudis. In many respects, the modern stereotypes were formed back then, in the days of TV shows about Texas oil millionaires and apocryphal stories of rich Arabs breaking the bank at Monaco.

Oil Booms: To the Soviets’ Benefit

On the other side of mankind’s divide, the same rising prices of the 1970s that lifted the boats of U.S. and other Western oil interests also benefited the commissars of the Union of Soviet Socialist Republics. By 1980, the USSR was deriving the majority of its hard currency reserves from sales of Red oil to the West.

This oil-fueled economic windfall permitted the USSR to purchase much of what else it needed on world markets to fund the so-called inevitable expansion of World Communism. This included things like buying the equipment used in the manufacture of anti tank shells, or rocket gyroscopes, or even timing devices for nuclear weapon detonators. It is a rather astonishing human trait that someone is always available to sell your enemy the rope with which he will hang you. Still true today, isn’t it? But this gets off the subject line.

With the Soviets raking in the hard currency in the early 1980s, and using the funds to build up their rocket forces (among other things), something had to give. A certain U.S. president named Ronald Reagan, and his then-director of central intelligence, William Casey, reviewed their copy of the writings of Sun Tsu and decided to assault the enemy indirectly, instead of frontally. It was high-order strategic thinking. That is, they decided to take an active role in reducing the flow of funds into the coffers of the Kremlin.

Through a delicate use of very quiet diplomacy, the Reagan administration made a deal with the ruling authorities of Saudi Arabia. The Saudis agreed to open the valves on their otherwise “shut-in” oil production and flood the world markets with oil. This would serve to drive down the price of petroleum. In turn, this would starve the atheist beasts in Moscow of a significant portion of their hard Western currency. The incentive to the Saudis was their participation in a coordinated plan to harm the economic interests of the USSR, as payback for the USSR invading the brethren Islamic state of Afghanistan.

Here is what happened. The Saudis ramped up oil production from about 6 million barrels per day in the early 1980s to over 9 million barrels per day by 1984. And these were the days when the Saudis really did have wells just shut in, baking in the hot sun of their rugged desert climate. But on very short notice, the Saudis were ready to turn the valves and pump another two or three million barrels per day, and make it look easy.

Here was the origin of another modern stereotype, if not a myth. That is, that the Saudis would always be the world’s “swing” oil producer. “Good old Saudi Arabia!” went the thinking. “That nation is always ready and able to pump oil into the world’s fleet of tankers.” The truth is quite a bit different, but here is another story for another time.

Thus did the world go from seeing the price of oil at $48 per barrel oil in 1980 (equivalent to about $100 per barrel today) drop to $12 per barrel oil by 1985. This hit the Soviets right where it hurt, in the national treasure, and cost them greatly.

Coincidentally, Soviet oil production “peaked” about 1986 and entered into irreversible decline. Thus, by the late 1980s, the Russians were pumping less oil and earning even less hard currency from its sale. By 1989, the Iron Curtain was falling, and by 1991, the USSR had ceased to exist as a political entity. If you do not watch out, “Peak Oil” can sneak up and nail you.

Oil Booms: Unintended Consequences

Nothing happens in a vacuum, however. As the price of oil declined precipitously during the early to mid-1980s, the economic foundations of the U.S. oil industry crumbled as well, as did the foundations of the nascent U.S. oil shale industry, which is a related story. By 1984, much of what constituted historic U.S. oil production, in particular the hundreds of thousands of “stripper” wells that produced a few barrels of oil per day, was simply uneconomic. Also, by the mid-1980s, the U.S. oil shale program, which had commenced in earnest with such promise in the 1970s, saw its facilities closed and/or dismantled and sold for scrap. Casualties of Cold War, perhaps?

The oil bust hit hard, from Bradford to Bakersfield; from Morgan City to Midland; from Williston, N.D., to the wilds of the North Slope; from roustabouts and roughnecks to suits in the suites. Lacking any real alternative to fight the laws of the marketplace, back when oil was selling for as little as $8 per barrel, many who worked in the industry found some religion and took to prayer. Hence that bumper sticker to which I referred at the beginning of this article. To keep food on the table, about half of the people who worked in the oil industry left the field, literally and figuratively, and pursued other occupations. Their skills and abilities simply walked out the door.

Just as there are no atheists in foxholes, when oil got cheap, it seemed that almost everyone in the oil biz was hoping for salvation, and in one way or another confessing their sins.

Do you think that Desperate Housewives is a great soap opera in a cinema-noire sort of way? Try making a TV show about an industry full of desperate drillers recalling their misspent youths. And what about the geologists and engineers, the people who find the stuff and coax it out of the ground? Back then, the true optimists of the profession brought their lunch to work. And the bottom fell out of academic programs that would otherwise have trained the next generation of professionals in the industry. We see the results today, in the very skewed demographics of the oil industry.

Back in the mid-1980s, nature’s pure and unadulterated rock oil was selling at, well… rock-bottom prices. And because prices are set at the margins, the marginal producers were closing up shop. The small wells, the strippers that produced just a few barrels per day, or even per week, were being closed down because the oil they yielded did not pay for the costs of operation and maintenance.

And as for drilling new wells? Not at $8 per barrel, or $10 or $12. Forget it. The drilling rigs were racked and stacked. The gang trucks were parked in the yards, if the drilling company could still afford to own a yard. The only time the phone rang down at the tubular-goods supply vendor or the wireline logger was when someone dialed a wrong number. Houston, Midland, Denver were filled with what people called “see-through” office buildings. (This had a lot to do with the savings & loan bust of that era, by the way.) Drill bit makers found work and were able to keep the lights on by producing anti-tank shells for the U.S. military.

Oil Booms: Plug and Abandon

The only part of the oil business that was making any money was the “plug and abandon,” element, that is, the P&A (pronounced “pee-un-aye” for those of you who don’t speak oil patch) guys were those who pulled the steel casing out of old wells to sell as scrap. Then, they pumped the old boreholes full of concrete. This was the name of the game.

By the late 1980s, literally hundreds of thousands of old stripper oil wells, and others at the margin, had been P&Aed in the United States, representing cumulatively over 3 million barrels per day of former production. Each one of them may have been just a small well in the big scheme of things, but cumulatively, they lifted a lot of oil out of the ground. And think for a moment how much original investment those wells represented, in terms of their original drilling and completion. Some people criticize the United States for having evolved into a welfare state. But there was no welfare for oil producers back in the 1980s.

If you will indulge me, P&A is an art of its own. In the very olden days of the oil patch, operators just used to ram a tree trunk or a utility pole or a string of railroad ties down the old well. No, it was not environmentally conscious. Sometimes the gas or oil vapors from the well would pressurize to the point that the tree trunk or other plug would pop out of the ground like a champagne cork. It made for a heck of a mess, especially if something along the way sparked a fire.

But that was a long time ago. Later, some smart guy figured out that pumping the hole full of concrete was more effective and lessened the chance of contaminating the local groundwater with oil well brines. And not only was it a good idea not to contaminate the groundwater with oil well brines, it became the law of the land.

So like it or not (and there were some true die-hards who did not like it), in good times and bad, people went to the trouble and expense of properly P&Aing old wells. It was just the right thing to do. And if you neglected to do so, the environmental guys would track you down like a bad dog and toss your sorry carcass into jail. Yes, recall the good old days when oil was cheap and an oil-dependent nation could afford to pump its old stripper wells full of concrete, because $8 per barrel was just not enough to pay the bills.

Well, the boom is back. Gone are the days when a $10 Federal Reserve note bearing the handsome image of America’s first secretary of the Treasury, Alexander Hamilton, would procure a barrel of oil, and even get you some change back from the cash register. If you want a barrel of oil these days, you are going to have to part with one of those $50 units of currency that bears the bearded image of Ulysses S. Grant, plus a $20.00 unit with the face of Andrew Jackson thereon. You might get $5 back in change, for the moment, so enjoy that view of Abraham Lincoln while you can.

And who knows…what with Mr. Greenspan doing more of what he has been doing for 18 years, filling the planet with U.S. dollars, one of these days, and soon, it might take a $100 unit of currency, that with a picture of Benjamin Franklin thereon. The nominal price of oil is up by a factor of about six or seven, and in a mere 20 years. We have moved from bust to boom, with no end in sight. How the world turns.

The fundamental problem is that there is very little left to drill, at least not in North America. Take a look at a map of the geologic basins on this continent (what? You mean you don’t have such a map?) and the oil fields in those basins and the spread of wells in those fields. This collection of geologic provinces has more holes in it than a pincushion. Pennsylvania alone has had over 270,000 known oil wells knocked down into its bedrock since Col. Drake made the first hole in 1859. Ohio has over 250,000 known wells, and these states are not even the big players in the oil biz like Texas or Oklahoma or California. By way of comparison, Saudi Arabia has fewer than 5,000 oil wells penetrating its subsurface.

Sure, there is some infill drilling going on in the established and mature areas of the United States And there is offset drilling, next to the known fields. And the computer guys are finding new oil in old locations, just by crunching the geophysical numbers to the edge of infinity. And there are better-quality drill bits, and horizontal drilling and multilateral completion technology that dramatically increases the ability of a well pad to extract oil from an existing reservoir. But no “new” oil is forming within the depths of the Earth. All of this new drilling and extraction technology just drains the same amount of oil that was there in the first place. It just does it faster. Thus does depletion accelerate.

Yes, there is some edge-of-the-envelope exploration going on in deep land basins, and tight sands and shales, and in the deep water offshore. (New buzzword:…”deepwater.” It is one word.) And the Canadians are making us all giddy with talk of the production potential from the northern tar sands, if they don’t first sell the mineral rights to the Chinese. (Do you speak Chinese? What is the Chinese translation for “We bought it, we own it. Get your own damn oil.”)

Do you think that this is big-picture stuff? Actually, I am not even there yet.

Is the domestic oil industry going to locate any new petroleum frontiers in the lower 48 states? It is very doubtful. Are there any really big new discoveries out there, awaiting their time? No, again. (Well, maybe up near the Arctic Circle, where it is very cold and dark for much of the time, and the environment is ultrafragile.)

What about the endless droning of the politicians and their campaign promises (they are always campaigning, election or no) that “We are going to develop a national energy policy and stop relying for oil on the volatile Middle East?” Yeah, right, Mr. Politician. Blah, blah, blah.

Your typical U.S. political leader, of either major political party, will send the Marines to fight like hell in Fallujah. But collectively, they lack the guts to permit the drilling of new wells off the coast of Southern California, or off the west coast of Florida, or out in the frozen moose pasture east of the Alaska North Slope. What do all of those smart politicians know about producing oil that people who do this for a living do not?

And how long has it been since the United States drilled for some oil in Detroit by raising fuel efficiency standards on vehicles? Oh, about 25 years or so. Still, mileage standards or not, when you boil it all down, you will still need something to put in the tank and the crankcase.

Oil Booms: Drill Where?

The oil companies collectively know that North America is yesterday’s news, and they budget accordingly. Have you followed what the major internationals are doing? Drill for oil in the United States? Drill where? When they are not acting like big banks, the larger oil companies are focused on the big action in deepwater, or the international arena. If you are not ready to spend serious bucks going far offshore, or to play on an international level, you are making a conscious decision to spend the rest of your life scrambling for whatever somebody else’s land man overlooked out in south Succotash County.

One famous oilman, T. Boone Pickens, says that there is nothing left to drill in North America, and he ought to know. Boone has drilled for oil in just about every part of the geologic column worth drilling, including the asphalt pavement of Wall Street. (In 1983 he was instrumental in causing the demise of my former employer, Gulf Oil Corp.) Boone has a nose for oil, and a nose for money, which in my book is one heck of a nose. If Boone is coming up dry, then we all have a problem.

We seem to be in the midst of an oil boom, but it is an oil boom without the oil. With gasoline selling at well over $3 per gallon (higher, in other parts of the country, or so they tell me), we are paying at the gas pump for the boom, but without getting much in the way of new discovery or increased production out in the U.S. oil patch. As with much of everything else that we need in order to run the U.S. economy, we import oil from abroad and export dollars to pay for it. What is that, perpetual motion?

If it is, I must say that a long time ago I had a physics professor who proved to a mathematical and thermodynamic certainty that there is no such thing as perpetual motion. It all works for a while, but only until it does not work anymore. Then it all runs down and stops.

When the “oil-for-dollars” trade comes to an end, you will still need real oil wells pumping real oil. Or you need some useable substitute, like that above-mentioned shale oil. (But oh the problems with shale oil! Don’t get me started!)

Or you need a robust Department of Homeland Security and lots of National Guard troops with riot gear, the performance of which in the aftermath of Hurricane Katrina gives me pause. And then, compounding peoples’ misunderstanding of the whole situation, you have talking heads (as often as not, they are economists) saying really dumb things like, “But in dollar terms, the oil industry is only 4% of the U.S. economy.” To which I say, “Try running the other 96% of the economy without it.”

And what about God, and that prayer on the bumper sticker that I was discussing earlier? Isn’t the United States a shining city on the hill? Isn’t God on our side, like the red state people believe and the blue state people just take for granted (they take a lot of things for granted…but that is another story), even if they don’t admit it out loud?

Oil Booms: Not God, but Greenspan

What is God going to do for us? Why is the Good Lord giving us the oil boom, but without the oil? Beats the heck out of me. I cannot speak for the Almighty, but I believe that this boom has more to do with the monetary expansion of Mr. Alan Greenspan, and the predictions of a fellow named Dr. M. King Hubbert, than with the Big Guy upstairs.

Here is the fundamental problem: We live in a material world (in this respect, Madonna was correct), that yields more or less linear increases in oil production for some period of time. M. King Hubbert called it a “material-energy system.” (I was at one of his talks back in the 1970s, when he laid it all out.)

But then, after some period of time, comes the peak of oil production, which is another way of saying that about half of the Earth’s easy-to-get oil endowment has been produced and consumed. After that, as mankind produces the “other” half of the world’s petroleum endowment, it is all downhill, despite every effort to find a substitute (another discussion for another time).

Courtesy of the late deceased Woodrow Wilson and Franklin D. Roosevelt, we also live in a monetary world, in which the national currency is a fiat currency accounting gimmick. That is, the U.S. dollar is not backed by any substance of immutable value, such as gold. And in this current monetary world, the number of dollars in circulation has been increasing for 92 years, courtesy of the Fed (and more recently, increasing exponentially at the behest of the world’s most famous central banker). For many decades, the increasing monetary base did not overwhelm the linear production phenomenon. But at Peak Oil, that is all about to change. The future is now.

When you throw the U.S. fiat currency debacle up against the Earth’s rather linear material-energy system, you get a world that has raced through its reserves, consuming them and depleting the resource base at an artificially high rate. We see the direct result on a daily basis. There is an acute scarcity of oil (as well as a scarcity of a good many other natural resources), which is driving up the nominal cost of oil and of most other commodities.

There is not any time to spare for the world to make many dramatic changes to its consumption patterns. I tend to make few predictions about the future. But I assure you that the world faces the next 10, 20, or 30 years after the irreversible post-Peak Oil decline kicks into gear, when a lot of rice bowls are going to get smashed. It will not be pretty.

Will mankind figure a way out of it? Beats me, amigos. But whatever happens, I believe that it is always better to have little debt and lots of money in the bank. What form of money, and where is the bank? That is a trick in and of itself. Just keep in mind that you may as well do your best to keep your head above the troubled financial waters.

That is why we at Agora Financial look for the good investment ideas of the future, and go to the trouble of writing about them for your benefit. Or would you prefer that we keep it all just to ourselves?

Even as I write my tale of Peak Oil gloom and doom, some guy out in some garage somewhere is coming up with a longer-lasting light bulb, if not a solar-powered cure for cancer — or something like that — on which you might be able to make a profitable investment. Or maybe somebody will invent a new type of catalyst which, when added to cheap white wine of the type you might drink at a franchise steak restaurant, yields Pennsylvania grade crude oil. Wouldn’t that be a great investment? And wouldn’t you like to know about it when it happens?

Until we meet again…
Byron W. King
September 9, 2005