Can Northern Gateway solve Canadian crude price discounts?
The Joint Review Panel’s community hearings roadshow looking into the controversial $5.5 billion pipeline came to the City of Champions on Tuesday. On the same day, Northern Gateway proponent Enbridge Inc. had its top executive on the file – executive vice-president of Western Access, Janet Holder – give a speech on the subject during an Edmonton Chamber of Commerce luncheon.
Holder’s talk hit on all the themes industry observers have come to expect from the Calgary-based pipeline giant. The Northern Gateway pipeline is a nation-building project; it will open up new markets for Alberta oil; Canada and Alberta will no longer be a price takers; yadayadayada.
What caught my attention as Holder spoke to a receptive Edmonton crowd (with some of the city’s police force standing on guard), was when she got to the topic of how the pipeline could radically change the price picture for Canadian oil. She pointed out the differential between West Texas intermediate (WTI) and Brent crude was about US$11 a month ago and that Canadian oil was selling for less than that, relative to Brent crude. But, according to Holder, the proposed Northern Gateway pipeline and the 525,000 barrels per day of petroleum shipped through it from Alberta’s oil sands would:
Change all that, at a single stroke diversifying Canada’s energy markets and significantly boosting the impact of our nation’s most important economic engine
Holder also noted that the Northern Gateway would deliver numerous benefits to Canada, including:
An immediate $2 to $3 uptick on the value of every barrel coming out of Western Canada.
Every barrel? It appears getting a better price for western Canadian crude isn’t as simple as breaking ground on Northern Gateway. For starters, only certain producers will be able to ship on the line. In January, five of those companies were finally revealed. That gives them access to offshore markets (and potentially better prices), but it doesn’t do much for producers who aren’t shipping on the line and still have to send their oil to the U.S. Midwest or other U.S. refining hubs.
The other thing is, the global oil market is a big beast. There is a lot that goes into setting prices, and building a conduit that transports 525,000 barrels per day from Bruderheim, Alberta to Kitimat, British Columbia won’t suddenly make Canada a global price setter. Those are points Holder didn’t mention in her speech.
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I am not trying to be too critical, but I think that you missed how adding an outlet to a new market, in this case Asia, will change the price for all barrels produced in Western Canada. In simple microeconomic terms, when you try to sell more of a commodity into a market that is fully satisfied, you need to sell the incremental unit at a lower price. That then drives down the price for all units sold because the buyer then has the market power and can dictate prices to the seller. That is the case here with the current market for oil from Western Canada; as more is produced, it is being sold into a market that doesn’t need the incremental barrels and must drive out lower cost barrels from other markets. Selling significant volumes off the West Coast, as Northern Gateway would do, will increase the price for the marginal barrel going into the U.S. midwest. That marginal barrel ultimately sets the price for all barrels. Granted there is a lot more to price setting than that, things like crude oil quality and seasonal demand, but generally this is true. The Alberta Petroleum Marketing Commission used to do just that 10-15 years ago by selling royalty barrels collected for the Alberta Government to markets off the West Coast in order to raise the overall selling price of oil.
Tim:
Thanks for the thoughtful comment. You make a good point there and it is one Janet Holder didn’t get into during her speech to the Edmonton Chamber of Commerce. I interviewed her last week and she touched on how Northern Gateway could result in a $2 to $3 upward swing in the price for Western Canadian crude and gave me a similar answer (although it wasn’t quite as detailed as yours).
I still wonder how a pipeline that will ship 500,000 barrels a day or so will have that kind of impact on prices.
Thanks for stopping by.
Regards,
Darren