Fracking: You Ain't Seen Nothin' Yet!

It was only a couple of months ago that articles were being written about the demise of fracking, mainly by those skeptical of or even opposed to fracking – or written by people on the payroll of enemies of America’s energy renaissance.  We were told that fracking was polluting water supplies – nay, setting tap water on fire! – and, anyway, that fracking was doomed because Saudi Arabia was ramping up production, forcing the price of oil to plummet, and driving American fracking companies out of business.

But recent news has been devastating for the anti-fracking posse.

Start with the release of the long-awaited report on fracking from the EPA.  Anti-fracking hysterics expected the EPA to report that fracking is environmentally calamitous.  But the EPA admitted that it found no evidence whatsoever that fracking has had any “widespread, systematic impact on drinking water resources in the United States.”  This was no offhand opinion: the EPA studied the issue for four years, and the report is 1,400 pages long.

The EPA only pointed to what was already obvious: if wells are improperly constructed (such as without proper casing), or if the waste water isn’t properly handled, some local water supplies can be harmed.  But nobody has ever said fracking should be totally unregulated.  And the report noted that such incidents are only a tiny percentage of the wells drilled.

Of course, the immediate result of the report was to make Gov. Cuomo of New York more of a buffoon than he appeared to be last year, when he banned fracking in the state – even though the state could use the jobs and tax revenue.  The Rochester and Buffalo metropolitan areas rank just behind Detroit and Cleveland as the poorest cities in the country, whereas they could be vibrant centers of the American energy industry but for Cuomo’s crazy decree.  The Business Council of New York is already demanding that he reverse the ban, as are some members of the opposition party.

As to whether fracking has been priced out of business, another recent article debunks that myth.  It starts by noting that fracking has increased domestic oil production by over 3.6 million BPD (barrels per day) in less than four years, which has reversed forty years of decline – in the face of the feckless Obama administration’s unrelieved opposition to fossil fuel production.  This explosion of production has dropped oil prices by half, something that would normally happen only because of a drop in demand.  But in fact, China’s need for oil is the highest it has ever been, and ours is the highest it’s been in five years.

And as another report notes, last May, America was producing 9.6 million BPD, the highest since 1970.  This was a surprise to various pundits who had predicted that (as happened in 1986) that when prices collapsed, so would funding for new production, which in turn would slow or halt new drilling.  But while indeed the fracking companies have temporarily laid off 100,000 workers, institutional investors, banks, and private-equity firms have continued to pour in capital.  Private-equity firms in particular are on course to pump a record $20.6 billion this year in investments in start-up oil and gas companies.  Attracting new investment is the tantalizingly low prices for energy stocks – down over 17.6% last year (compared to the 9.6% gain in the S&P 500 index).

Most fracking companies are using this capital infusion to shore up balance sheets, thus insuring their long-term viability.  But some are using it to expand production.  For example, Cimerex, which cut its rig count from 20 down to 6 earlier this year, is planning to bring the count back to 20 before the end of the year.

So this group of 4,000 disruptive new American fracking companies is doing well.  This in turn has dramatically hurt other more established and bigger producers.

Certainly OPEC – the mighty cartel that once brought America to its knees economically – is now at a new low in power.  As a recent article notes, whereas OPEC accounted for half of all world oil production in 1979, it now accounts for only one third.  In fact, Ali al-Naimi, the Saudi oil minister, has suggested to the other members that OPEC meetings be cut from twice a year to only once.

Naturally, geopolitics is playing a role here.  The OPEC members who want to cut production to raise prices back to the $100 per barrel they need to pay their national bills can’t convince the two other major producers – i.e., Saudi Arabia and Russia – to cut production.  Both those countries need to keep up market share, and both still have lots of reserves of cash to stay solvent.  Add to this the rift between Saudi Arabia and Iran, and you have a much weakened cartel.

Also hurt by the scrappy new fracking companies are the old major oil companies.  As another report informs us, OPEC’s decision to keep pumping out record amounts of oil and depress prices is of course hurting Big Oil.  The major oil companies were kicked out of what are now the OPEC countries decades ago and had to lock themselves into higher-cost methods of oil production, including undersea production – especially costly off the African coast and in the North Sea – and Canadian oil sands.  Royal Dutch Shell has seen its revenue drop 40%, Exxon Mobil has seen a 37% drop, British Petroleum a 41% drop, and Chevron a 38% drop.

Why have the upstart new companies been able to cause so much disruption in such a huge industry?  Here I would point to what the theory of creative destruction (associated with economist Joseph Schumpeter and, earlier, his mentor, Werner Sombart) has taught us.  Precisely because the new upstart companies are still small and entrepreneurial, they are more innovative.  As Donald Luskin and Michael Warren put it (in the piece I cited earlier), the new companies are exploiting on-shore shale resources where oil wells can be drilled for a fraction of the cost of deep-sea wells, and the wells will deliver the majority of their potential in a fraction of the time. This means the new fracking companies can follow the methods pioneered by the Japanese decades ago, such as “just-in-time” production and “continuous improvement” – making the fracking process ever more efficient.

This last point was elaborated in a recent piece by Greg Ip.  The recent drop in oil prices brought by the Saudis has forced the fracking upstart to keep finding innovative new techniques that keep dropping the break-even price of their production.  As he points out, the average rig in the Texas Eagle Ford shale formation produces 5,000 barrels a day in its first year, compared to only 2,000 barrels a day just four years ago.  So not only hasn’t the Saudi strategy to wipe out the new players that so threaten the criminal OPEC players worked, but it is doing the new players a service: forcing them to keep innovating, to keep coming up with more efficient processes, that will mean that they permanently keep the price of oil lower – to the great benefit of everyone but the OPEC tyrants.

Here we can borrow an insight from philosopher Friedrich Nietzsche, who, thinking about creative destruction, preceded and very likely shaped Sombart’s version: “what does not kill me makes me stronger.”  The OPEC monsters tried to destroy the frackers, but that attack has only made the wily new players stronger.

Gary Jason is an academic philosopher and a senior editor of Liberty. His new book, Disturbing Thoughts: Unorthodox Writings on Timely Issues, is available through Amazon.

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