Oil and Gas:

Energy groups explain how hurricane affected Gulf Coast oil production

With refineries offline, pipelines down, and price spikes at the gas pump, Hurricane Katrina had a massive effect on the U.S. energy sector. As oil companies work to restore their gulf facilities, two energy experts explain how the storm could affect energy prices for months to come. Bob Slaughter, president of the National Petrochemical and Refiners Association, and John Felmy, chief economist at the American Petroleum Institute, discuss post-hurricane recovery efforts and offer some suggestions for lawmakers considering another round of energy legislation.

Transcript

Brian Stempeck: Hello and welcome to OnPoint. I'm Brian Stempeck. Joining us today to talk about hurricane Katrina and how it's affected oil and gas prices is John Felmy, chief economist of the American Petroleum Institute and Bob Slaughter, president of the National Petrochemical and Refiners Association. Gentlemen thanks for being here.

Bob Slaughter: Thank you.

John Felmy: Thank you.

Brian Stempeck: Bob, I want to start with you. Let's go over the effects of the storm on the oil industry. Give us a sense on some of the refiners and pipelines and the various facilities that were affected in the gulf region.

Bob Slaughter: Well the impact on the industry was cataclysmic. We basically lost 50 percent of U.S. production of oil. We lost an even larger percentage -- actually no, we lost about 20-25 percent I think of natural gas production. Twenty percent of our refining capacity was affected. Plus, perhaps even more importantly we lost the major pipelines that bring refined petroleum products like gasoline and diesel from the gulf up to the South and the East. We lost a major crude oil pipeline into the Midwest that supplied crude for those refineries to run. So we had very much of a direct hit on the heartland of America's energy industry. The good news is that we're making solid progress in bringing that back. But you don't want to lose a sense of how big the impact was because it is going to take a while to return it entirely too normal.

Brian Stempeck: How many facilities are currently offline and what sort of, I guess, what you would call permanent damage has been done to the gulf region?

Bob Slaughter: Well I want to let John talk about the rest of the industry. I'll talk about refining. We currently have six refineries that are offline in that area. I believe that two of those are going to come back in the next week to ten days. There are four refineries, three in Louisiana and one in Mississippi, that have sustained more damage and particularly there has been a lot of flooding in those areas. They're still being assessed and at this point they have not set a restart date, although the companies are working to bring those back online as quickly as possible. But we're going to be in a place, I think, in about a week to ten days where we have about 5 percent of the nation's capacity for refining still out for an undetermined amount of time, but a finite amount of time. We just simply don't know how long.

Brian Stempeck: John, what's your assessment of some of the long-term damage that was done in the gulf region to the other operations besides refining?

John Felmy: Well, at peak what we saw was about 95 percent of crude oil production in the Gulf of Mexico shut down and slightly less than that for natural gas, somewhere around 88 percent. We've been able to restore production in some of those facilities, but we still have roughly around 70 percent of crude oil production offline and 40 percent of natural gas. So far the damage assessments have indicated that we've had about four deepwater platforms, which is the big producer in the gulf, damaged, one of them severely. The preliminary reports are it looks like in excess of 200,000 barrels a day will be offline through the fourth quarter of this year. So we sustained some substantial damage.

Brian Stempeck: In terms of the long term, what type of effects are we looking at when it comes to the markets? Obviously we saw, so far, a short-term spike in gas prices, especially in the Southeast. Some of the areas affected by the pipelines have been shut down. But looking out further, towards -- throughout maybe 2006, what do you see as how the market's going to respond to some of these facilities being shut down?

John Felmy: Well whenever you lose supply you tighten the market and when we were shutting down almost 1-and-a-half million barrels a day at capacity that eliminated all the spare capacity that's available worldwide. Now we've restored some, but we've still got a ways to go. We still have a lot of damage to assess both in the platforms above water, but also in the pipelines below water, because you have to pressure test them and then you have to do intensive inspections before you can restart. So it's really too soon to tell at this point.

Brian Stempeck: What's your characterization of the markets Bob? I mean as we're looking out ahead over the next year, we already saw oil prices basically at $50, $60 a barrel before the storm. Most people would assume things are only going to get worse from here.

Bob Slaughter: Well, you know the pathways were strewn with people who tried to predict what's going to happen in energy markets who ended up to be wrong. So with that caveat, I mean we have lost a significant amount of our supply for some kind of period of time. We don't really know how much. The refineries that are being restarted now will still take a while to return to capacity because you have to bring them up from start up very carefully for safety and operational reasons. You know we were in a position where - the industry's very transparent. The trade press and everyone else watch all the operations in the industry very closely. We were at a point where if a screw was loose on one unit at a refinery it was reported in the trade press and was made a big thing of. Now this was before the storm. Now we have essentially 900,000 barrels a day of capacity that are going to be out for some period of time. That's obviously going to have an impact on the market. The big overriding question though is, is there going to be a decrease in demand? Is that going to affect the overall market? So to mitigate somewhat the impact of this loss of supply, but make no mistake about it there's a significant amount of supply that has been affected and consumers are going to have to live with this. The price spike that occurred was really largely because of the outages of the pipelines. Now we're seeing really the longer term effects of the storm. That's what we'll see in the next few months.

Brian Stempeck: John, what do you expect to see from the demand side? We've heard President Bush asking consumers to pretty much lay off buying gasoline if it's not absolutely necessary to their everyday lives. But I mean that's tough for a lot of people to do. Do you expect anything to happen on the demand side barring gas prices going above $4 or $5 a gallon?

John Felmy: Well first and foremost I'd like to note that it was unfortunate over the last weekend that we did see some consumers react, unfortunately, in the form of gas lines when it was unnecessary. A lot of rumors were floating around about stations closing at five o'clock in many cities and that really was unfortunate because it drained many stations dry that was unnecessary. Our preliminary data for the month of August indicates that demand is down as consumers respond to the higher prices even before the hurricane. So what we've seen is consumers will tend to really evaluate how they use gasoline, what trips they need to make and maybe they're doing the prudent things which is tuning their engines, inflating their tires, doing everything they possibly can. Now the big question then, going beyond driving, is of course the winter. We're looking very carefully at what the winter season is going to bring. And the preliminary forecasts from the Department of Energy are sobering with forecasts of perhaps 71 percent increase in natural gas bills, 31 percent increase in heating oil bills, 40 propane, 17 electricity. So we hope that consumers will take a look at this and start planning for the winter and actually try to improve their efficiency of their homes.

Brian Stempeck: How much of a concern is it right now that -- whenever economists look at rising energy prices the big fear is that it can throw the economy into recession. Is that a major concern right now?

John Felmy: At this point it's probably just a further headwind. Some estimates are it will further slow the economy by half a percentage point on top of maybe the one plus percentage point slowdown that we've already seen. But we still have a robust economy and excess growth of 3 percent. So it looks like a slowdown, but I don't think we're in recession yet.

Brian Stempeck: Bob, on Capitol Hill we've heard a lot of lawmakers talking this past week about what they can do about energy. Basically they're talking about maybe an energy bill part two. If members of Congress decide to move forward with legislation what do you think is the best path forward in terms of maybe addressing some of these short term problems?

Bob Slaughter: Welt I think people are focused particularly on the refining sector, and I think there is some interest in doing things to make sure we've eliminated some of the obstacles to increasing domestic refining capacity. I suspect that they're going to look very carefully at perhaps streamlining of permits and maybe find a way to get the national interest more reflected in state and local considerations of permits. Hopefully also they'll do things to eliminate disincentives to refining investment, because they're -- actually the truth is that over the last several years there have been some disincentives to investment. I will say that I do think we're going to see substantial new investment in refining this year, which some of it is being announced now. Valero announced a significant program yesterday and others will I believe in the near future. But I think they're going to improve the investment climate for refining and take a look at permitting to see if we can't build more domestic capacity.

Brian Stempeck: Do you think a lot of Americans though, a lot of citizens, looking at the energy bill -- I mean it passed in July. The president signed it in August and then they see gas prices go above $3 per gallon. Doesn't that say to a lot of people that, you know, why should we do another energy bill? Clearly this first one we passed maybe wasn't that effective and is more of a long-term solution.

Bob Slaughter: Well I believe that all the major sponsors, authors of the energy bill announced at the time, and so did the administration, it was not going to have a short-term affect. It was more a longer term R&D bill. I think there are some short term things that can be done. I think that the administration has already done a great deal in giving us some flexibility to move fuel around during these very difficult times. The EPA has been helpful. The DOE has been helpful with this, the SPR releases. So a lot is being done in public policy. So I suspect you will see an energy bill two. It will be more focused on the short term. We certainly don't want to see price controls and go back to where we were in the '70s. We've been discouraging Congress from doing anything like that because they lead to shortages and long gas lines. They're very counterproductive.

Brian Stempeck: Gentleman we've already seen the White House tap into the Strategic Petroleum Reserve. We've seen them waive some of the fuel rules in terms of shipping, oil and gas shipments, and also in terms of some of the clean air requirements. Is there anything else that can be done in the short term to help address some of these high costs?

John Felmy: Well in the short term the most important thing consumers can do is use energy wisely, because supply changes tend to take longer to work their way through. And in that regard we still need to do a lot more in terms of supply. The first energy bill was good for conservation and energy efficiency, renewables, for some infrastructure and so on, but it really didn't have much in the way of supply. So we need to start looking at where we can produce more oil and gas in this country. There's a lot of oil and gas that could be, but we're prevented from producing it. So in the short run we really need to rely on demand restraint. In the long run we really need to improve supply.

Brian Stempeck: We have been seeing, of course, a push in Congress, a way to open up ANWR, to add this to the budget reconciliation bill. Now there's talk of also opening up portions of the Gulf of Mexico to more oil and gas exploration. Do you think though that in order to get those things through it's going to be the same kind of compromise process that you always see? Where you need something, say a fuel economy boost on the other side to basically appease some of the Democrats and other people on Capitol Hill.

Bob Slaughter: Well you know pretty much legislation always has to be somewhat balanced and so you're definitely probably going to see some initiatives on the conservation side. But I think that there is a greater understanding of the importance of energy supply and particularly oil and gas supply, to the current economic state of the country and the future. And I do think there is a greater chance of addressing supply issues, including natural gas in the OCS and ANWR and other issues in which we've been unable to get people to really take a good look at supply in the past. I think you're going to see more attention to supply. It really needs to be first priority rather than second priority.

Brian Stempeck: But wouldn't you say refining is the first priority? We always hear from -- when gas prices are going up we always hear that the problem is not really the amount of oil available on the market. It has a lot more to do with all the refineries running at full capacity.

Bob Slaughter: Well, it really has to do with both. I mean I do think we're going to see some improvements in domestic refining capacity over the next few years and some additional investment in refining. Refining its self is a supply issue. John's association and our association have been talking to Congress for years about the importance of doing things that actually increase supply of oil and gas rather than cut supply of oil and gas. We've gone in that wrong direction for so many years in which we've had other priorities and we've been willing to say, well, you know supply will take care of itself. We know now that it won't. We're dependent on supply. Supply is tight around the world and I do think that Congress is slowly understanding that that has to be job one.

Brian Stempeck: John, your take on that? I mean do you think Congress will move on these supply questions this year?

John Felmy: I certainly hope so. We need balanced -- continued improvements in our balanced energy policy. That includes conservation, energy efficiency and renewables and more supply. The first energy bill focused on those conservation measures. I hope that now we address supply because it's very clear that these types of events can lead to a loss of supply that can have a dramatic impact on consumers.

Brian Stempeck: As we're talking about all these facilities in the gulf that were affected it's pretty clear that the nation's oil and gas facilities are really concentrated in this region. Is it time to take a second look at that and say that maybe we need to stagger out these refineries, these facilities, out to different parts of the country?

Bob Slaughter: Well the problem is that we haven't really been able to locate them in different parts of the country. We've not been able to build new facilities. I can understand that people are criticizing the concentration in the gulf. When it comes to refineries it's pretty much there or nowhere. I mean we should be able and I hope the administration will do things to encourage refineries being built or refineries being expanded in other parts of the U.S. I think that needs to be done, but a lot of our production comes from the Gulf of Mexico. So there's going to continue to be a significant concentration there. We should certainly open up the eastern gulf to natural gas production and that would at least expand us away from the western gulf.

Brian Stempeck: John, your thoughts? Are we too concentrated in the Gulf of Mexico right now?

John Felmy: Well, I think we're highly concentrated there because that's the only place we could be. The industry started in a major way in Texas and so the infrastructure developed over that historically. But it is, as Bob has indicated, we couldn't put it anywhere else. I'd love to see a new refinery in New England for example, because there's no refinery there. There's no pipelines running into New England. So New England, for example, is an island, which is a real problematical thing in the winter when you can run into weather problems, which can spike demand and slow down transport and really create market problems. So there are opportunities there. I think there are other places in the country that we could really advantageously locate facilities, but we're going to need help to do it.

Brian Stempeck: One last question for you both. As we're looking at what Congress has been working on this past week do you expect to see more energy legislation pass by the end of this year?

Bob Slaughter: I expect to see something, yes. I don't know how broad it will be, but I expect to see something.

Brian Stempeck: John?

John Felmy: I would agree with that. I think that the Congress, clearly, from what we've seen in the hearings, is energized. They understand what the problem is right now and I hope they'll turn to helping solve it.

Brian Stempeck: All right. We're out of time. We're going to stop there. I'd like to thank both of our guests today. That was John Felmy and Bob Slaughter. I'm Brian Stempeck. This is OnPoint. Thanks for watching.

[End of Audio]

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