The cost of keeping the economy afloat on oil

IN THE Forties fields of the North Sea last week, the black gold that had gushed forth for years spluttered to a drip and then stopped completely.

For 48 hours, no oil flowed into the BP pipeline that feeds Scotland's only oil refinery and there wasn't a drop of the £50 million that flows into the economy daily as a result.

Aghast, the country's motorists laid siege to the petrol forecourts, sparking a fuel shortage that helped send prices to astronomical rates.

The effects of a two-day walk-out by one workforce – the staff at Grangemouth – threw into sharp relief the reliance the UK places on oil and the fragility of this dependence. And, to rub salt in the wounds of beleaguered drivers, oil giants Shell and BP then announced collective profits of £7 billion.

There was much hand- wringing among the motorists, much cursing of the capitalists. But still they returned to the forecourts and handed over their pounds and pence.

Rodney Kumar, of the independent charity the RAC Foundation, said: "You have to look at what, realistically, people will do (as fuel prices rise]. We have seen pump prices go to about £5 a gallon. It's 'how long is a piece of string?' Will it become so expensive that public transport becomes cheaper?

"I think they would have to get a lot more expensive before people considered giving up their car, because of the nature of Scotland being so rural.

"We will get to the point where oil will become so scarce it will be considerably more expensive. Before we get there, we will have latched on to an alternative – whether biofuels or hybrid electricity."

And we have some years until we have to – by necessity, leaving aside the environmental issues – make the choice.

In the 40 years since the oil industry began operating in the North Sea, 37 billion barrels have been extracted. There are still 25 billion left.

Worldwide, in 1986, the reserves/production ratio meant there was enough oil to last 39.8 years. In 2006 the ratio was 40.5 years, having reached a peak of 43.3 years in 2002.

But oil analyst Iain Armstrong, of Brewin Dolphin, says this is likely to be a vast underestimate.

"Remember the figure only includes proven reserves," he said. "If you were to add probable and possible reserves, which have been increasing due to higher oil prices because those reserves become more economic to produce, the figure could be close to 120 years."

While the perceived wisdom of the chattering classes is that the oil is running dry, in fact there are still regular finds.

Offshore Brazil is going to come online in 2011. Sakhalin's massive project for Shell in Russia started in 2001 and does not come on stream until next year. Even the North Sea, in terminal decline but providing economic boosts through its decommissioning programme, is still throwing up massive finds. However, the average size is now a tenth of what it was in the first ten years of the industry.

It is no longer economic for the giants to go in after it, so smaller enterprises with specialist equipment are buying fields from them.

A prime example is Aberdeen-based Dana Petroleum, a young company that has made a number of significant finds.

Other companies that have grown up around North Sea production are looking to provide their goods and services to basins around the world.

Sally Fraser, of Oil & Gas UK, the pan-industry body, said: "The UK still has significant oil and gas reserves, which is news to some people.

"The extent to which the full 25 billion barrels will be extracted depends on the business environment created in the UK and whether international interests are attracted here.

"Basins which haven't been producing so long, like Australia, tend to exhibit different characteristics which make them more attractive to investors.

"The UK has a particularly high cost basin because the bits easiest to get have already been got as we have been producing for four decades.

"Another side is the tax regime and whether or not it makes the UK attractive enough to bring investors in.

"Companies currently pay between 50 and 75 per cent tax. You put that up against all other businesses, which is 28 per cent."

An industry insider said: "We have the second highest tax regime in the world. The highest is Zimbabwe."

In the March Budget, the treasury forecast the oil industry would pay £9.9 billion into government coffers in the coming tax year, but this was estimated from a position of much lower oil prices. Oil & Gas UK says current forecasts put the income to the treasury at £2.5 billion more than this.

Ms Fraser said closing down the Forties pipelines, which carry about 700,000 barrels of oil a day (almost half the UK's production) and about a third of the UK's gas, would have major consequences.

However, the man on the street going to fill up was in a "very fortunate position" because there is a diverse supply of energy in the UK.

In the past few years, £106 billion has been spent or is being spent on importing gas.

Therefore, in the short term, shortages should not filter through to consumer level.

However, the economic impacts of the closure were immense. Initial conservative estimates of £50 million a day were quickly trumped as the true implications became clear.

Because of the high tax, the state – and therefore public services – was losing out on a minimum of £25 million a day.

Oil and gas currently satisfy about 70 per cent of UK energy demands, a proportion that is set to rise. About 500,000 people are employed in the industry. About 30,000 work offshore. Others work in the supply chain that supports offshore production or support the export operation.

And just as the production is taxed heavily, so are the sales at the pumps – at about 65 per cent.

While motorists complained of high prices, the oil firms complained of high duties.

Louise Doherty, of the price-comparison website petrolprices.com, said the week had shown the reliance the UK placed on oil firms.

She said: "It's been a very bad week for motorists, whether with record oil prices, partially pushed up by Grangemouth, record pump prices, partially as a result of both, and shortages.

"There's been unprecedented rises in petrol. I think we may see a fall in the short term but I think the general overall trend is £1.50 a litre in some parts of the country by September.

"That won't be as a national average, but some parts of Scotland do tend to have higher prices than the rest.

"There are things most of us can do to help ourselves," Ms Doherty added. "Try and drive economically. Don't fill up on a Friday. Take any extra weight off. Shop around and make sure you are paying the best you can. That encourages competition between retailers."

Oil companies are having to dig deeper

Iain Armstrong oil and gas analyst with Brewin Dolphin

IN THE first quarter, we have had very strong oil and gas prices but bad conditions for the downstream.

The refining margins were the lowest in four years. The companies that don't have a downstream – such as Tullo Oil, Dana, the BG Group – did fantastically well as they didn't have to worry about turning it into products.

Oil firms are having to go further, dig deeper and spend more to get less out of the ground. We have constantly got this catch-up. The costs are getting higher and higher.

Before 9/11 we would say that the political dimension of the oil price was maybe $3-$5 a barrel. Now it's more like $20-$25 a barrel. The difference between demand and supply equilibrium is 1-1.5 million barrels a day so we are 1-1.5 million barrels short. Something simple like the Forties Pipeline being shut – that's 750,000 barrels a day to the market. It doesn't take a lot to get people scared. The short-term price is bulked up, which makes speculators think the long-term price is going up. The futures price is well over $100 a barrel.

We criticise oil firms for their big profits but they made nothing at the UK forecourts.

Two of the world's largest oil-producing areas – Mexico and the North Sea – are in permanent decline. I estimate the UK has ten-15 years left. I would have given the same five years ago, but as the oil price is five times higher, resources not normally in play suddenly are.

Losses on forecourts is little-known reality

Ray Holloway director of the RMI Petrol Retailers Association

LAST week, while oil companies announced high profits, most forecourt retailers sold fuel at a loss, and this is not an unusual situation.

The issue of supply from Grangemouth thrust the issue of fuel pricing back on to the front pages, but prices were not directly affected by that situation – prices were rising already because of the annual high summer demand for oil.

Most of the profits made by BP and Shell are the result of oil exploration activities abroad. This is a separate business from the UK forecourt retail sector.

Most of the sites in the UK branded BP or Shell are actually independent retailers. They work in a challenging business area, with high costs and low returns. Most are kept afloat by shops attached to the sites.

For many, the numbers are unsustainable and they are being forced to close – about 300 filling stations shut down across the UK every year, and motorists are now noticing gaps in fuel availability, a situation that is expected to get worse.

There are about 9,200 forecourts in the UK, including supermarket filling stations. This is the lowest number of since 1912. Since the fuel protests in 2000, one-third of the UK's filling stations have disappeared.

Luckily for motorists in Scotland, Holyrood has a grants scheme available to assist forecourt retailers with capital investment. The idea is to preserve businesses, and contribute to the continuation of fuel availability in all areas.

PROFITEERING

What some fuel stations were accused of when they put up prices in response to the strike.

FORTIES PIPELINE

The BP-owned conduit that connects about 70 North Sea oilfields in which about 80 companies have stakes to the Grangemouth refinery.

KINNEIL PLANT

The facility on the outskirts of the Grangemouth plant that is owned by BP and takes in the majority of the 750,000 barrels of oil sent to the plant daily. It stabilises the unrefined fuel for transport.

FINAL SALARY PENSION SCHEME

The key in the dispute between Ineos, which owns Grangemouth, and Unite, the union. Ineos wants existing employees to contribute to the final salary pension scheme and close it to new staff.