Energy Alert for July 1, 2015

Oil prices are off about 40% in just one year. And the number of rigs drilling new oil wells has likewise plummeted since last summer. But U.S. oil production is up, and promises to keep climbing.

On the fuel consumption front, new regulations are on tap for trucks, buses and other large commercial vehicles.

“Saudi America”

At about 9.6 million barrels per day, domestic crude output is nearing its all-time high set in 1970, thanks to a flood of new production in Texas, North Dakota and other states with large deposits of oil trapped in shale and other hard-to-drill rock. The combination of hydraulic fracturing and horizontal drilling has transformed the U.S. from a nation dependent on oil imports to “Saudi America” in less than a decade.

But can the surge last in the face of sharply lower prices? Many analysts have been predicting a decline, now that energy companies have cut back on drilling and started laying off rig crews. According to Baker Hughes, the large oil field services firm, the number of rigs actively drilling for oil has tumbled from 1,558 a year ago to just 628 now. And since shale oil wells are notorious for petering out pretty quickly, less drilling now must mean less oil pumped later. Right?

Maybe not. Even as drilling activity started skidding last fall when crude prices collapsed, production keeps rising. Although they’re running fewer rigs, drillers are becoming more efficient — requiring less time and cost than before to drill a new well. Meanwhile, the average amount of oil yielded by a new well is up, according to the latest data from the Department of Energy.

Recent history suggests that gains in drilling efficiency can more than make up for fewer rigs in operation. Consider the U.S. natural gas industry, which has also used fracking and horizontal drilling to unleash a production renaissance. Several years before the oil rig count started its drop, gas rigs underwent a similar decline. Note the similarity of the two trends:

Oil and Gas Drilling Rigs
Click for a larger version of this chart

Despite the huge slide in the number of rigs in operation, U.S. gas output has continued to rise each year since. Faced with a drop in gas prices even more severe than the recent oil price drop, gas drillers got smarter, focusing their efforts on the most productive deposits and drilling more-productive wells that stretched deeper into the gas-bearing rock layers. Today, oil drillers are doing many of the same things. And that makes us think oil production will keep rising.

Continued production gains mean oil prices are unlikely to rise much anytime soon. Crude at $100 per barrel, which seemed so unremarkable only a year ago, is now a distant memory. With prices at about $60 per barrel, oil companies are working harder to turn a profit, but increasingly efficient drilling means more drillers are or will be profitable at these prices, giving them the incentive to produce more. Furthermore, many firms are storing up partially finished wells for later, hoping to cash in on higher prices by delaying production. In North Dakota alone, the state’s oil and gas regulator reports a backlog of 925 uncompleted wells that should gradually come on line as prices nudge a bit higher (as we expect them to).

Uncle Sam Dials Up Tougher Mileage Rules for Heavy Trucks

Turning from crude oil to consumption of refined fuels: Note that federal regulators recently unveiled their proposed fuel economy standards for trucks, buses and other large commercial vehicles sold as 2018 models and beyond. The move follows up on the Obama administration’s first batch of fuel economy targets for the sector, which covered model years 2014 to 2018 — the first such efficiency standards ever imposed on medium- and heavy-duty trucks.

Those changes could eventually net big fuel savings for the trucking industry, since trucks consume more than 30 billion gallons of diesel fuel each year. But the savings won’t come cheap.

Truck builders will need to adopt a wide range of technologies for saving fuel, says Glen Kedzie, the American Trucking Associations’ energy and environmental counsel. Likely solutions include more-aerodynamic trucks and trailers; greater use of tires that produce less rolling resistance; automatic transmissions that let engines work at their most efficient level of revolutions per minute; and “predictive cruise control” that can anticipate approaching hills and adjust a truck’s speed to maximize fuel economy. All of that figures to be costly.

Under the government’s proposed rules, heavy-duty pickup trucks and medium-size commercial trucks would need to cut fuel consumption about 16% by the time the rules take full effect in 2027. The largest tractor trailers would have to achieve cuts of roughly 12%. Environmental groups are already lobbying the feds to set even tougher standards when the rules are finalized next year.

But, luckily for firms in the trucking industry, it appears that regulators are listening to their concerns. ATA’s Kedzie says his group has been supplying the government with reams of data on the costs and benefits of various fuel-saving technologies so that the feds don’t write overly strict rules or insist that the industry adopt unproven equipment. “It’s been a very good working relationship,” he says. And that’s critical, because trucking companies want to invest only in technologies that will really pay for themselves in reduced fuel costs.