Energy policy changes

Drill, baby, drill. A key aspect of President Trump's policies concerns energy. The U.S. is the world's largest producer of crude oil, and we have abundant resources in natural gas as well. While some of the potential policy changes might have inflationary impacts - tariffs and immigration come to mind - the reduction of regulations and the push for more energy are policies with disinflationary impacts. Lower energy costs, in particular, are important as the economic data point with the highest correlation to a president's approval rating is…gasoline prices.

But will we see the domestic energy producers respond? The price of crude oil has always been a key factor in the decision to drill more or less. Here is where the benefit to consumers, in the form of lower home heating costs and gasoline, comes from lower oil and natural gas prices, which can narrow and even eliminate profit margins for energy producers. Environments with higher profit margins come from higher oil prices, which increase consumer costs. The reality is that the oil business has, is and will always be cyclical and over time, there has probably been no other industry that creates and destroys more capital than the oil business.

As a result, U.S. producers and outside producers, like OPEC+, don't want to see prices fall too low or go too high. Either extreme will reduce the availability of capital and impact the economy. There is another shift within the energy business, reflected in our chart today. Historically, shifts in production, up and down, have been reflected in changes in the number of active rigs. Recently, however, changes in technology, like horizontal drilling a few years ago and now the ability to drill multiple wells from a single well site mean production has been increasing even as rig usage has been declining. The impact of these new technologies is that overall "lifting costs" for large formations, like the Permian Basin in west Texas, have been coming down.

We have already seen President Trump open some recently closed areas for exploration, but the response of oil companies will be based upon the price of crude and shifts in their cost structure. Domestic energy demand is on an upward slope, which could support prices and lead to further exploration, which can keep overall energy costs contained. In the end, oil companies need to make a profit to drill, baby, drill.

Bonus question for readers…Texas is the single largest producing state…who is number two? Give me your answer in the comments…

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