Impact of the Keystone XL Pipeline on North American Crude Oil Prices Shawn Ian Stuart Union College - Schenectady, NY
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Union College Union | Digital Works Honors Theses Student Work 6-2013 Impact of the Keystone XL Pipeline on North American Crude Oil Prices Shawn Ian Stuart Union College - Schenectady, NY Follow this and additional works at: https://digitalworks.union.edu/theses Part of the Economics Commons, and the Oil, Gas, and Energy Commons Recommended Citation Stuart, Shawn Ian, "Impact of the Keystone XL Pipeline on North American Crude Oil Prices" (2013). Honors Theses. 740. https://digitalworks.union.edu/theses/740 This Open Access is brought to you for free and open access by the Student Work at Union | Digital Works. It has been accepted for inclusion in Honors Theses by an authorized administrator of Union | Digital Works. For more information, please contact [email protected]. Impact of the Keystone XL Pipeline on North American Crude Oil Prices By Shawn Stuart ************************ Submitted in partial fulfillment of the requirements for Honors in the Department of Economics UNION COLLEGE June 2013 Abstract Topic: The economic impact on North American spot prices of crude oil if the Canadian and American governments accept the Keystone XL pipeline project. This paper determines the economic impact of the TransCanada Keystone XL pipeline project. As the Keystone XL pipeline is extremely controversial it is beneficial to determine the impact on North American crude oil prices. Determining the economic impact the Keystone XL pipeline will have on crude oil prices will be a large detriment of whether the pipeline is economically beneficial. By using spot crude prices from different regions around North America and adding capacity of crude oil transmission from western Canada to southeast United States this paper determines the changes in regional spot crude oil prices. As the economic conditions in North America is still in trouble this Keystone XL project has the potential to stimulate economic growth by increasing the price in the Midwest and Canada. Environmental issues will be addressed but the focus of this paper will be an economic evaluation of the Keystone XL project. The resulting calculations show that by implementation of the Keystone XL pipeline the spread between western Canadian, WTI and Brent crude oil prices becomes smaller. i Table of Contents I. Introduction.………………………………………………………………………………. Pg. 1 II. Background Information………………………………………………………………Pg. 3 A. Global and North American Crude Market. ………………………………Pg. 3 B. History of TransCanada Corporation and Keystone XL Pipeline...Pg.8 C. Oil Market Principles………………………………………………………………Pg. 11 D. Crude Oil Pricing…………………………………………………………………….Pg. 12 III. Literature Review………………………………………………………………………..Pg. 17 A. Pipeline Operations and Evolution………………………………………….Pg. 17 B. Capacity Constrained Markets and Network Industries……………Pg. 20 IV. Data……………………………………………………………………………………………Pg. 25 V. Model…………………………………………………………………………………………Pg. 34 VI. Calculation Basics……………………………………………………………………….Pg. 37 VII. Policy Variations and Implications………………………………………………Pg. 45 VIII. Results and Conclusion……………………………………………………………….Pg. 55 IX. Bibliography………………………………………………………………………………Pg. 58 ii I. Introduction This paper will introduce and address many issues with the Keystone XL pipeline, but its primary objective will be to determine the impact that the pipeline will have on North American crude oil prices. Also, this paper will explain the background and development of the oil market around the globe and in North America to give an understanding of the crude oil market. It will address many issues that have led to the current large spread between western Canadian, WTI and Brent crude oil prices. The Crude oil market in both the United States and Canada will be analyzed to understand the basics of each crude oil market individually, and how it works together today. This will allow for greater understanding of the current status of the North American crude oil market. This understanding of the crude oil market is essential to understanding the impacts of the Keystone XL pipeline. This paper will address specific changes in regional crude oil prices, which will have large effects on the economy of each region. The model will use a supply and demand methodology with limitation and constraints to determine changes in regional spot crude oil prices. Changes in capacity constraints will cause shocks in supply and demand in each region and will be the detriment of prices. These supply and demand shocks will be measured using long-term supply and demand curves generated for each North American region in the calculation. These changes in prices will help understand the impact of the Keystone XL pipeline on each region and its economic productivity due to these 1 changes in crude oil prices. The resulting calculations show numerous possible situations and the resulting price of crude oil in different regions based on the supply and demand curves. The Calculations in this model show when the entire Keystone XL pipeline in implemented into the current market, crude prices in both western Canada and Midwestern United States increase, closing the spread between western Canada, WTI and Brent prices. These prices changes will help both western Canada and Midwestern United States economy of refiners are no longer collecting large profit margins. 2 II. Background Information A. Global and North American Crude Oil Market As Canadian crude oil production has increased over the past ten years it has become a major crude trading partner with the United States. According to US Energy Information Administration (EIA), in 2011 Canada had the third largest proven crude reserves in the world, only behind Saudi Arabia and Venezuela. This is an important factor as crude demand has continuously been growing. According to the Canadian Association of Petroleum Producers (CAPP), the Canadian oil industry is currently an $80.7 billion in revenue per year business that nationally employs 230,000 people. Canada currently has a crude production capacity of 3.23 million barrels per day, up from 3.02 million in 2011. This value is expected to continually increase as Canada accesses its approximate 175 billion barrels of proven crude reserves. Although Canada has this enormous potential of crude production, much of these crude reserves are in the western Canada oil sands, located in Alberta and Saskatchewan. These reserves are known as an unconventional source of crude. As Canada’s conventional sources of crude decline, these oil sands will be relied on to maintain and increases the nations crude production. According to CAPP the oil sands account for 169 billion barrels of Canada’s total crude production potential. As crude production from oil sands increases, the potential of Canada to provide crude oil to the world cannot be ignored by the United States. 3 Although the United States is the third largest producer of crude oil world wide, its consumption of crude is still greater than its production. According to the EIA, the United States produces 8.5 million barrels of oil per day and consumes 19.6 million barrels of crude each day. This leaves approximately 11.1 million barrels of crude being imported each day into the United States to meet its consumption. Out of the nation’s current fuel consumption, petroleum and crude makes up for 40%. As the United States is the global leader in crude imports, its economy is greatly affected by the volatile prices of crude oil. Although the consumption of crude in the United States has recently been declining due to the recent economic recession, it still greatly outweighs the nations crude production. According to Business Insider, a recent projection has the United States at an all time high production of crude oil itself. Although this estimation shows production of crude has increased, it will still not meet the enormous demand of the nation. Over the past ten years the United States has become more reliant on Canada to supply crude to meet its shortcoming. According to the EIA, Canada has become the largest supplier of crude oil for the United States in the past ten years, exceeding 2 million barrels per day for the first time ever. Along with this reliance on Canadian crude oil, the United States has become less reliant on the OPEC nations for imported crude. Over this same ten-year period the United States has declined its imports from OPEC nations by 13%. Although these numbers of declining crude supply from OPEC nations may be skewed slightly as the overall demand for crude has fallen since the 2007 economic recession, it is evident that the United States is moving towards Canadian crude instead of OPEC crude. This could add stability to 4 the United States crude market an in the past OPEC has manipulated price and supply and the OPEC crude oil, which has had global effects . In 1960 Iran, Iraq, Kuwait, Saudi Arabia and Venezuela joined together and created the Organization of Petroleum Exporting Countries (OPEC). This organization consisted of five large oil-producing nations and was expanded to nine other nations shortly after its establishment. With OPEC’s creation and expansion the global crude market was greatly affected. Thirteen years after OPEC emerged it began to control global crude oil prices. This control of such a vast industry would become evident in 1973. During the Yom Kippur War the world saw oil prices sharply increase as an Arab oil embargo was established. Due to OPEC’s vast control of the crude supply the entire globe felt this steep increase in prices. This infamous moment in history led many nations to sought out their own crude production and accumulation outside of OPEC’s control and for this reason OPEC’s control over the crude market has slightly declined. As of November 2010, members of OPEC control 79% of world crude reserves and 44% of the world’s crude production capacity.1 As Canada continues to reach into its “unconventional” oil sands, it is likely that the nations crude production will continue to increase and supply crude to the United States.