Market Analysis

Oil Prices' Other Signal

While many focus on oil prices’ potential demand-side effects, there is another side to this story.

It’s probably not news oil prices have risen lately. But this non-news gave rise to some more interesting developments Friday.

While most discussions of recently rising oil prices tend to center solely on signals they may send consumers or theories of resource depletion and scarcity, producers likely get a similar—yet opposite—signal. Rising oil prices can make oil extraction more profitable and some fields containing oil more economical to tap. And in Europe—a region widely presumed to be energy-resource deprived—it seems two countries have gotten the message. Ireland and Spain (by no small coincidence, two nations impacted by government-finance concerns the past few years) are pushing forward with plans to explore and produce oil.

Ireland kicked off the news with discussion of the Barryroe field, a formation off the Emerald Isle’s southwest coast. The field’s existence has long been known, but most estimates using then-available technologies suggested it wasn’t economical to tap. Reassessments utilizing newer, more detailed seismic imaging showed the field holds much more oil than previously thought. Friday, test-well results were published, showing a flow just under 3,600 barrels a day. Not huge by any means, but double prior estimates and, given oil prices anything near present levels, likely a profitable venture. So the company owning drilling rights plans to begin extracting the oil.

Now, this news has been met with considerable buzz in Ireland, which could be a bit overdone. In the grand scheme of supply and demand, it’s not likely a huge development. But as one of few potentially commercially viable oil discoveries off Ireland, the well seems something of a symbolic marker.

Northwest of Barryroe lies a much less explored region known as the Irish Atlantic Margin, which could be much less marginal. The region, expected to hold in the billions of barrels of recoverable oil, is now slated to be explored further. Previously, a lack of nearby infrastructure and technological difficulty required higher prices than existed to make the fields economically viable. But those forces have changed. So, as we’ve written, many easier-to-access oil reserves may be in production decline. But that shouldn’t be taken as a sign the world’s exhausted its oil supply, as newer technologies unlock both new discoveries and expand on existing, untapped fields. (What’s more, it’s plausible current conventional sources could yield more than currently thought possible, given further innovations.)

You might ask: Shouldn’t high oil prices have already boosted production? But in case you haven’t heard, oil drilling is a pretty darn politicized topic. And that’s not just here in the US. In Spain, a relatively sizable oil field has been known to exist for some time off the Canary Islands—a traditional tourist destination. Yet it went undeveloped, as the government feared the potential impact on tourism. But in a reversal of that policy, Spain’s government is now allowing a major oil company to drill the field. Production is conservatively estimated at about 100,000 barrels per day—roughly 10% of Spain’s daily oil consumption.

Meanwhile, China has seen the success of US innovations in shale fields—and its government recently published plans to duplicate it. (One reason China’s grown quickly over the past few decades is copying what’s worked in the West.) China estimates its potentially recoverable reserves at over 25 trillion cubic meters of natural gas. Perhaps the fact Asian natural gas prices are quite elevated partly explains their motivation?

Now, none of the oil from the Canaries, Barryroe or Chinese shale gas is likely to hit the market any time soon. It can take years to produce oil from a newfound source. And of course, the estimates of production and resource size could yet prove too optimistic. (Or, heck, too low.) But throughout the process, capital expenditures to develop and explore need to be made. And this has no small economic reward. For example, the economic benefits of North Dakota’s shale boom aren’t limited to black gold seen flowing out of the Bakken. Rather, they flow in less obvious ways all through the economy—having a local, regional and, in some cases, global effect.

So one result—a rarely considered result—of elevated oil prices is they could buoy some economic activity. It seems 19th century French philosopher Chateaubriand captured the essence well:

“There are two consequences in history; an immediate one, which is instantly recognized, and one in the distance which is not at first perceived. These consequences often contradict each other.”

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*The content contained in this article represents only the opinions and viewpoints of the Fisher Investments editorial staff.