Crains Detroit Op-Ed: Low oil prices make Enbridge’s tunnel a bad financial bet

Eeny, meeny, miny, mo. Which of the controversial new oil pipeline projects are going to go — away? Let’s start with Enbridge’s antiquated Line 5 oil pipeline with its new safety-related problems, and its proposed costly new tunnel in the Straits of Mackinac.

Oil prices have fallen so much that Exxon reported its first quarterly loss since 1988 and will shut down 75 percent of its oil rigs in Texas’ Permian Basin. Oil drillers are shutting down rigs in North Dakota’s Bakken shale region – there are now only 12 active oil rigs compared to 64 rigs a year ago. Suncor is shutting down some oil sands production in northern Alberta. COVID-19 and the related economic shifts have clobbered oil demand.

Why is this happening, and why does it matter if you don’t own oil stocks or live where the state’s economy depends heavily on oil production? Why are oil prices falling?

First, most of us are staying at home, driving less, and taking fewer trains and almost no airplane trips. Consequently, oil use has dropped steeply. Economics 101: Less demand results in lower prices.

Second, remember OPEC? This isn’t a laissez-faire competitive market. Saudi Arabia and Russia, among others, manipulate prices by increasing or decreasing oil production. Both for economic reasons — to retain their oligopolies by driving out competitors including Bakken shale oil and Canadian oil sands — and for geopolitical reasons.

Why does this matter for the Enbridge Line 5 oil pipeline tunnel?

Low oil prices aren’t good if your business is building pipelines to bring Alberta oil sands or North Dakota shale oil to distant markets. That’s exactly what the controversial Dakota Access, Enbridge Line 3, Enbridge Line 5, Keystone XL and other pipelines are designed to do.

Enbridge says its tunnel will cost $500 million, but costs of projects like these often skyrocket. Who’s going to finance this tunnel given low oil price realities?

Perhaps, Enbridge’s real strategy is to: (1) spend some money on permitting and planning processes for its tunnel, (2) while continuing to run its aging 65-year-old oil pipeline, but (3) actually hold off spending really big money for the tunnel. It’s probably not economically sensible for Enbridge and its financiers to invest in the tunnel if oil prices stay low.

How do oil prices impact pipeline economics?

The market price of West Texas Intermediate (WTI) crude oil is North America’s industry marker. WTI oil prices have been in the $35-$40 per barrel range over the past month for July 2020 contracts.

Bakken shale oil drilling requires a WTI price above $50 per barrel to break even. Businesses won’t invest in new oil drilling in North Dakota unless oil prices consistently move higher. New Canadian oil sands production require even higher WTI prices of at least $75-$85 per barrel. Pipelines make money by charging producers to transport their oil from wells and other facilities to refineries and coastal areas for export. Because there’s much less oil supply from Alberta and North Dakota being produced, there’s less demand for all the proposed expanded oil pipeline capacity.

This is like the “musical chairs” game. There are fewer seats at the table than kids circling around. The Dakota Access, Enbridge Line 3 and Line 5 tunnel, Keystone XL and other pipelines across North America are competing against each other to carry less available oil supply.

It’s hard to see how Enbridge gets paid enough to profitably build a new tunnel for its aging oil pipeline anytime soon unless some of these other pipelines don’t operate. There’s likely too little oil supply for all the pipelines.

Will the financiers for these pipeline companies continue to support expensive new capital investments? That’s risky. And so are the potentially disastrous environmental and economic consequences of a Line 5 oil spill in the Straits of Mackinac. Oil prices matter — a lot.

Read the original op-ed in Crain’s Detroit Business here.

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