Tuesday 12 January 2016

Economic Myths: "North Sea Oil faces wipeout as prices keep on plunging"

From The Sunday Times:

The primary culprit for this collective collapse is the oil price. Brent crude has plunged from $115 in the summer of 2014 to $33 (£23) a barrel last week...

And so on.

Extraction costs in the North Sea are about $40 (£28) a barrel, so that looks like a loss making position, does it not (until and unless the oil price rises again, as well it might)?

Actually, it all depends on how stupid the UK government is.

The pump price of a litre of petrol is currently about £1. Ten pence of that is refining, transport and retail costs; the cost/value of the petrol/diesel is about 19p*. The other 81p is fuel duty/VAT collected by the UK government.

For North Sea producers to remain viable, they have to be paid at least £28 a barrel, call it £30 to give them a bit of leeway. If the fuel duty/VAT on petrol/diesel from the UK part of the North Sea were reduced by 16p from 81p to 65p, then the petrol/diesel could still be sold for £1/litre** and would thus be competitive with slightly cheaper foreign-sourced fuel.

This 16p a litre notional shortfall is halved once you take other tax receipts from oil companies and their employees into account (about one-third of the 25p a litre they receive = 8p?). Whether this 8p shortfall is worth taking on the chin depends on...
- how important the oil industry is generally.
- the general health of the Aberdeen economy in particular.
- savings in welfare payments.
- whether you want to reduce UK trade deficit (each barrel not imported reduces out trade deficit by 19p).
- the importance of retaining oil-sector skills for invisible exports.

Whether it is or not I do not know (but I strongly suspect it is).

If the government decides it doesn't want a shortfall at all, assuming that about half of UK fuel is from the North Sea, they could up the above fuel duty/VAT rates by 4p each and we're all sorted.

* One barrel = 159 litres costs £23. Three-quarters of that can be turned into petrol or diesel and the rest is other stuff. £23 divided by 120 litres = 19p.

* £30 divided by 120 litres = 25p, plus 10p refining, plus 65p fuel duty/VAT.

6 comments:

James Higham said...


The pump price of a litre of petrol is currently about £1.

Under the pound near here.

Mark Wadsworth said...

JH, I know, but these are all just approximate figures.

john b said...

This is a terrible and convoluted way of going about things, because oil is a globally traded commodity that has only tenuous relevance to locally traded petrol (iirc you can't even make petrol from Brent alone, you need a mixture of grades from different countries). It'd be like trying to save the UK steel industry by abolishing VAT on cars that include UK-manufactured steel.

Even accepting your premises that:

1) North Sea oil has long term profit potential
2) North Sea oil producers are sufficiently illiquid and/or dumb that despite this fact, they are genuinely planning to close production rather than maintaining capacity until prices rise

...then the best way to support North Sea oil extraction is still via a direct subsidy from general taxpayer funds, rather than opaque buggering about with fuel pricing.

Mark Wadsworth said...

JB:

"It'd be like trying to save the UK steel industry by abolishing VAT on cars that include UK-manufactured steel."

VAT is the worst tax of all, so cutting it is usually the best way to rejuvenate an industry.

But you give a deliberately terrible example where it wouldn't work. Steel only makes up a tiny part of the value of a car, so 99% of the value of tax cut would go to manufacturers not the smelters.

"Even accepting your premises that
1) North Sea oil has long term profit potential"


On the basis of $30 a barrel, it is still profitable from the point of view of the UK government. Just not quite as profitable as it used to be.

"2) North Sea oil producers are sufficiently illiquid and/or dumb that despite this fact, they are genuinely planning to close production rather than maintaining capacity until prices rise"

I never said they didn't do that. It was the Sunday Times wailing on about "terminal decline". And we are constantly reminded that 65,000 jobs have been lost in oil and oil-related sectors., which seems like a heck of a lot to me.

"...then the best way to support North Sea oil extraction is still via a direct subsidy from general taxpayer funds, rather than opaque buggering about with fuel pricing."

Subsidies bad. Subsidising something and simultaneously taxing it is insane. Reducing taxes on something is the simplest. I don't see why that's 'opaque'?

Steven_L said...

Why subsidise it when they could just buy it all up in the bankruptcy auctions?

Mark Wadsworth said...

L, exactly. There is nothing that hasn't been done yet. As to incompetence, let's assume potential interest to be paid/earned is £10. If the bank earns it, the govt gets £2 tax and £8 rent is collected privately.

Maybe the council messes up a bit and only collects £5. The other £5 goes to the developer or is otherwise privately collected. The government is still ahead of the game.