BP's Chief U.S. Economist Examines Impacts of COVID-19 on Global Oil Markets, Roles of Alternative Fuels

HOUSTON, May 1, 2020 — In the fifth week of its COVID-19 webcast series, Asia Society Texas Center (ASTC) welcomed Michael Cohen, Chief U.S. Economist at BP, to discuss the future of oil and gas in light of the COVID-19 crisis. In conversation with Eddie Allen, ASTC chairman, Cohen explained how the coronavirus pandemic has affected global oil markets in the short term and how it may impact investor and industry behavior in the future, and also touched on the roles of natural gas, hydrocarbons, and renewables.

How has COVID-19 affected oil markets in the short term?

Allen began by discussing the precipitous decline in oil prices, which dropped from around $60 a barrel at the beginning of the year to, briefly, below zero in late April, before rebounding to around $15 a barrel. Cohen noted two major contributing factors to these fluctuations: demand shocks as unprecedented stay-at-home orders led to reduction in use of cars and planes, and the adequacy of storage capacity for oil.

Though BP has delayed its annual Energy Outlook due in part to the impacts of COVID-19, Cohen said he expected the worst of the effects to be seen in the second quarter. According to the International Energy Agency, oil demand could drop from 100 million barrels a day to 75 million barrels a day as people largely work from home and cancel travel.

Cohen explained that despite the fall in fuel consumption, suppliers don’t want to shut down output for a variety of reasons, including the perception that price will rebound. Furthermore, the pressure to shut in production is more tied to logistics — that is, having no place to put barrels of crude — than to economics. If supply does have to decline due to the impact to demand from coronavirus and from lack of storage, Cohen said, it would largely take place in the U.S. and Canada in the short term, where prices are falling below operational breakeven costs and where storage utilization is rising. Additional lockdowns over the next two months could create additional price pressure, but OPEC countries have significant amount of leeway in production levels.

Where will oil markets be in the medium term? In the long term?

When considering the longer-lasting effects of the coronavirus crisis on the oil markets, Cohen said much would be dependent on how permanent the changes in demand would be after the world emerges from the COVID-19 crisis: Will people travel less and work from home more? What lifestyle changes will be lasting? Cohen said it is unclear how enduring those behavioral and economic factors will be. They may not significantly affect oil over time, looking to 2050, but he said they could very likely result in a big change to 2030 expectations.

Cohen noted that the price war between Saudi Arabia and Russia in March also spooked investors, though both countries have since come to a new agreement. It proved that the worst-case scenario of a price war could happen, and now is an additional risk factor that investors in any energy asset must consider going forward. Cohen went on to say that, on a long-term basis, what really determines the ability of Saudi Arabia and other key producing countries to affect oil prices is their ability to reform their fiscal situation, whether they try to diversify away from oil as the primary source of revenue and the speed at which they do that.

Overall, Cohen said he believed that the future will have steady demand for fuel. Though he acknowledged that investors will need to consider the place of oil and gas amid new energy sources as well as the instability in OPEC structure and the volatility that could result, he indicated that peak oil demand is still ahead of us and that we will see an oil plateau in 2030–2035 timeframe.

What roles will natural gas, hydrocarbons, renewables play?

Cohen explained that a significant share of the growth of the U.S. natural gas supply over the past few years has come from oil: when oil is produced, some of that associated natural gas has been marketed. As such, the contracting supply for oil has led to lower supply for natural gas as well, meaning that prices need to be high enough for producers to jump into dry gas plays. Outside of the U.S., emissions prices have been declining, leading to lower costs of generating electricity from coal and necessitating lower natural gas prices to compete.

Cohen said his long-term view on natural gas is complicated due to different scenarios, and could be affected by decarbonization scenarios. If striving for net-zero emissions, the role of natural gas would be reduced while renewables would take on a much larger share. Cohen said that clean energy sources were already becoming increasingly competitive with hydrocarbons because of their role within electricity mix and reliability.

How will this downturn affect Houston? Should the state take measures to help the industry?

In responding to audience questions about how the energy downturn might affect Houston, where energy is a large part of the local economy, Cohen said he could not speculate on specific impacts to the energy job market. He did reiterate that long-term effects from the shutdown of production will largely depend on how lasting some of the short-term behavioral changes are, which will lead companies to weigh whether or not it makes sense to continue production output.

“The industry is flexible in its ability to supply,” he said. “It really comes down to a question of permanence in demand destruction.”

Finally, Cohen refuted proposals for the government to mandate cuts to oil production. He pointed to the Texas Railroad Commission — which oversees the state’s oil and gas industry — and a recent Houston Chronicle op-ed by its chairman against pro-rating production. Cohen said he believed market principles are working, leading to declines in production without the need for the government to get involved.

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