As the COVID-19 pandemic continues to wreak havoc on many areas of the economy, the Heartland's oil and gas industry is poised to take one of the hardest hits. In particular, Texas, Oklahoma, North Dakota and Louisiana are likely to face severe impacts. At a national level, the most severe economic damage from COVID-19 will disproportionately hit a handful of sectors – travel, tourism, lodging, dining and recreation. However, our analysis shows that the most extensive negative consequences of COVID-19 on the Heartland will be attributable to the related, but indirect impacts, of reduced oil and gas exploration and extraction operations. This is significant for the region, as 20 U.S. Heartland states produced 9.7 million barrels of oil a day, 76.1 percent of the U.S. total in December 2019.
The impact of COVID-19 on the shale industry is compounded by the fact that the industry was in financial crisis even before the pandemic hit. A group of 34 shale companies spent $189 billion more than they earned over the last decade. In 2019, those companies generated a negative cash flow of $2.1 billion.1 The energy sector was the worst performer of the S&P 500 over the past decade. Bankruptcies among fracking-focused exploration and production companies included 42 firms in 2019, representing $26 billion in debt. This doubled the debt associated with bankruptcies that occurred in 2018.
Now, two additional simultaneous shocks are at play; one a demand shock stemming from lower worldwide demand for oil—currently being exacerbated by plummeting demand in the U.S. caused by the economic fallout from COVID-19—and a supply shock stemming from the explosion in U.S. shale oil production mostly concentrated in Texas’ Permian Basin. This unique combination of events will have far-ranging effects on the Heartland’s major oil-producing regions. On March 6th, a meeting of the Organization of the Petroleum Exporting Countries (OPEC) and other large producers ended without an agreement to cut production to mitigate the decline in oil prices. Russia decided that it would no longer serve as a swing producer along with Saudi Arabia. Russia was going to use this opportunity to take out the source of rising production: shale oil production in the U.S. In an attempt to defend its market share, the Saudis responded by announcing a huge price cut to below $20 per barrel and increased production—and the rout in oil markets was on.
U.S. oil production has more than doubled over the past decade and hit 13.2 million barrels per day in late February. This expansion in shale oil production aided economic recovery from the Great Recession and resulted in turning a huge U.S. petroleum deficit of $436 billion in 2008 into a surplus in September 2019.2 Moreover, it made the U.S. the largest oil producer in the world, eclipsing Russia and Saudi Arabia.
Despite this explosion in shale oil production, the industry has been burning through cash for over a decade. Nearly 20 percent of high yield bonds (below investment grade) have been issued in the fracking sector since 2009. Financial projections were based upon oil prices of around $100 per barrel, which were not maintained. In 2014, crude oil prices fell from $110 per barrel to $60 per barrel. By the time OPEC and Russia agreed to scale back production in 2016, prices fell below $40 per barrel. These prices put dozens of shale drillers out of business. 3 U.S. employment in the oil sector fell by one-third, and it slashed 170,000 jobs between 2014 and 2016.
The current situation is so dire that even Texas Railroad Commissioner, Ryan Sitton, offered a series of potential proposals to address it, including a mandated 10 percent cut in oil production in the state. Many analysts believe that would be a drop in the bucket compared to the impact of an agreement between Russia and Saudi Arabia to slice production and could prove counterproductive. Current estimates of the break-even price for oil among shale producers is $48 per barrel. However, new technologies and techniques have brought the break-even price to around $33 per barrel from over $60 from just a few years ago in the Permian Basin.4
While Russian’s assumption that they can put the U.S. shale oil industry out of business seems to be misplaced, oil prices around today’s levels for a year would severely constrain future production. Nevertheless, the technological advances that the U.S. shale industry has secured are not going to go away. Many observers of the industry believe that U.S. production is unlikely to fall by more than two and one-half million barrels per day. However, nearly half of shale oil wells that have been drilled are not fracked, yet. This suggests that oil exploration activity and employment could fall substantially more than production.
The Permian Basin in West Texas, Eagle-Ford Basin in Central and Southern Texas, the Bakken in North Dakota and Oklahoma, and Louisiana fields will witness the worst impacts from COVID-19 due to explosion in the production of oil that was trapped within their shale deposits.
Texas has diversified its economy over the past several decades with greater reliance on professional, technical and scientific services, electronic components and computers, other advanced manufacturing sectors and a vibrant startup community. However, with the expansion of shale oil production, a substantial portion of the state’s economy and tax revenue is tied to energy production, refining and distribution.
Just a decade ago, the Permian Basin was viewed as a depleted oil reservoir. The development of horizontal drilling technology and advances in hydraulic fracturing techniques, combined with some of the thickest shale deposits in the U.S., changed the fortunes of the communities of the Permian Basin, anchored by Midland. Production has more than quadrupled since 2010. Today, Permian oil production exceeds that of all 14 members of OPEC other than Saudi Arabia and Iraq.5
Oil producers and state budget officials based their 2020 capital expenditures and tax receipts assumptions, respectively, on oil prices of $60 per barrel. Those assumptions are now in the waste bin. The active oil rig count in the U.S. fell to 664 in the week ending March 20th, down by 19 from the previous week. Many experts expect the rig count to decline by 60 percent by December 2020 if prices remain below $30 per barrel.6
Texas’ ties to the energy sector may be less substantial than in the past. However, Permian Basin metros Midland and Odessa, along with micropolitans such as Pecos and Uvalde, and the Eagle Ford region south of San Antonio, have great exposure to falling oil prices. When you bring in energy-related headquarters in Houston and manufacturing in Corpus Christie and Beaumont-Port Arthur, the extent of the industry’s importance begins to come into view. Mining employment in Texas accounts for 2.0 percent of all jobs, compared to 0.5 percent for the U.S. Moreover, support activities for mining bring in an additional 161,000 jobs across the state and are 5.3 times more concentrated than for the nation overall.
The boom in shale oil altered the fortunes of Midland and the communities of the Permian Basin. The Midland metro area is 100 times more dependent on the oil and gas extraction industry than the U.S. economy overall. Further, the metro is 73 times more reliant on support activities for mining than the rest of the nation, and five times more reliant than the nation on machinery, equipment and supply merchant wholesalers.7
Drilling activity is susceptible to the price of oil. When the price plummets, rigs are withdrawn and the entire supply chain contracts. Majors such as Chevron, Exxon Mobil, BPand Shell made significant new investments in the Permian. However, the recent $38 billion acquisition of Anadarko by Occidental Petroleum may have been among the most poorly timed in American history. Odessa is heavily dependent on oil and gas exploration. Support activities for mining and oil and gas extraction are 44.9 and 18.4 times more critical for Odessa than the U.S. on average.
The fracking boom wasn’t just a bunch of roughnecks roaming the countryside and drilling for oil. An operator of a modern rig occupies a booth and monitors a set of computer displays and guides the drill bit with a joystick. Highly trained petroleum engineers use computer algorithms of the local geology profile to maximize the release of oil deposits deep in the rock structure. These are high-paying jobs in Texas, averaging over $152,000 and have substantial ripple effects on the state’s economy. The supply chain supporting oil exploration is extensive. Trains carrying fracking sand arrive regularly from Midwest locations. The sand is then transloaded to trucks that take it to drilling locations. Truck drivers logging long hours can secure six-figure incomes. Thousands of additional vehicles haul in water, tanks, pumps, pipe and everything else that a drilling operation requires.
Houston’s economy is still closely tied to oil and gas, mostly as a corporate headquarters, but oil and gas extraction is over 12 times as important for the metro area as for the nation. A list of employment at major oil and gas-related employers include Schlumberger (12,207); Exxon Mobile (11,000); National Oilwell Varco (8,960; Chevron (8,000); Shell Oil (7,900); Baker Hughes (5,695); BP America (5,000) and ConocoPhillips (3,000)8
Oklahoma’s energy sector will become a major drag on the economy in 2020. Oil exploration firms in Oklahoma have higher costs and a higher break-even price for oil than in the major basins in Texas. Producers cut active rigs by 65 percent throughout 2019, down to just 50 active rigs. Investors will limit capital availability, and even larger firms such as Chesapeake will have to significantly alter their business models and slash capital spending in an attempt to survive. Oklahoma’s dependence on mining is six times the national average—more important to the state’s economy than Texas. And support activities for mining is eight times as important to Oklahoma relative than to the nation overall. Oklahoma City has greater exposure to the fall in oil prices and Tulsa has a high dependency.
After rising by 7 percent in 2019, oil production in North Dakota’s Bakken will plummet in 2020. Even though the Bakken’s productivity is the highest in the nation (oil output per well over its lifetime), it is more costly than the Permian Basin. Mining employment in North Dakota is nearly ten times as critical to the state as for the nation, while support activities for mining is over 13 times more concentrated. Formerly high growth areas of North Dakota, such as Williston and Dickinson, will witness a substantial reduction in economic activity. Severance taxes from oil and gas account for almost half of state revenues, although most of it goes into the state’s rainy-day funds. These funds will need to be tapped to avoid severe cuts in state and local employment.
Although not as dependent upon oil and gas as Texas, Louisiana still has strong ties to the industry. New liquified natural gas export terminals at Fort Charles will witness weaker demand for their product. Offshore Gulf drilling activity could plummet as it is associated with high costs. Houma-Thibodaux and Lafayette have considerable exposure as well. Mining is three times more important to Louisiana’s economy than for the nation and support activities for mining is five times that of the U.S. overall.
In a sad twist of fate, the most crucial source of support for the Heartland’s oil industry might come from the Saudis and Russians reaching some accommodation on production cuts, resulting in a more rapid recovery in prices. The U.S. has placed pressure on the Saudi’s to scale back its recent production surge.9 If they don’t, it is possible that global storage capacity could be full within two months. And the downward pressure on prices would be severe, further harming Heartland producers, their workers and rippling throughout the Heartland’s economy.
Heartland Forward released a brief analyzing how COVID-19 will impact communities in the Heartland and beyond. It reviews the sources of the potential economic dislocation and those regions with the most exposure. This piece on the oil and gas industry is part of a series exploring the impact of COVID-19 on specific industries.
Cunningham, Rich, (2020, March 22) “Not Even Higher Oil Prices Can Save U.S. Shale,” OilPrice.com. https://oilprice.com/Energy/Energy-General/Not-Even-Higher-Oil-Prices-Can-Save-US-Shale.html
Graham, Jed, (2020, March 6) “Is The U.S. Shale Boom Over? Four Major Threats To The Fracking Revolution,” Investors Business Daily. https://www.investors.com/news/us-shale-oil-boom-threats-fracking-revolution/
Sadasivam, Naveena, (2020, March 13), “Coronavirus Fallout Could Be the Nail in the Coffin for Smaller Oil Companies,” Grist, https://grist.org/energy/coronavirus-fallout-could-be-the-nail-in-the-coffin-for-smaller-oil-companies/
McEwen, Mellsa. (2019, February 5), “Perryman ‘optimistic about the area’,” https://www.mrt.com/business/article/Perryman-optimistic-about-the-area-13592285.php
Krauss, Clifford. (2019, February 3), “How a ‘Monster’ Texas Oil Field Made the U.S. a Star in the World Market,” https://www.nytimes.com/2019/02/03/business/energy-environment/texas-permian-field-oil.html
Brower, Derek, (2020, March 25), “US Shale Bust Wrecks Hopes for Energy Independence,” Financial Times. https://www.ft.com/content/32ce6962-6e15-11ea-89df-41bea055720b
Brobst, Shannon. (2019, February 17), “Midland, Texas,” Moody’s Analytics.
Friedman, Edward, (2020, February), “Houston-The Woodlands-Sugar Land, Texas,” Moody’s Analytics.
Sheppard, David and Derek Brower, (2020, March 30), “US Crude Oil Price Falls below $20,” Financial Times, https://www.ft.com/content/bc938195-82d3-43eb-b031-740028451382