An Old-Fashioned Price Plunge

2/1/2015

STATE LEGISLATURES MAGAZINE | February 2015

What does the dramatic drop in oil prices mean for state budgets?

By Arturo Perez

Global oil prices have plunged at break-neck speed, falling to under $50 a barrel by the start of 2015. This is more than a 50 percent drop from the high of $105 a barrel set last summer.

Crude oil prices are now at their lowest level since 2009, when weak economic conditions curtailed global consumption significantly. If gasoline prices at the pump continue to hover around $2 a gallon, as they did in early January, the average American family will save around $550 in motor fuel costs this year, according to the U.S. Energy Information Administration.

This is good news for consumers, but for states with an oil extraction industry that provides not only jobs, but revenues through severance taxes, the oil price slump is nothing to celebrate. The current glut of oil in the world market is largely the result of lower demand and greater production.

The weak economies in Europe and parts of Asia have created a slack in demand while a surge in U.S. production from new drilling technologies has added to the global oil supply. In particular, the development of shale oil deposits, such as the Bakken oil field in North Dakota and the Eagle Ford shale in Texas, have helped push U.S. oil production up to levels not seen since 1986. In addition, the Organization of the Petroleum Exporting Countries (OPEC) decided in late 2014 to maintain production levels despite the oversupply.

In Alaska, where petroleum revenue accounts for about 80 percent of the state’s unrestricted revenue, the oil price slump is already having a severe impact. The state faces an estimated $3.5 billion budget gap, which is about 60 percent of the expenditures originally approved for fiscal year 2015.

 With “the decline in the price at the pump smaller here than in other states,” says David Teal, director of the Alaska Legislative Finance Division, “I don’t see many positive effects from the decline in crude oil prices.” The governor is expected to propose a new budget with significant cuts, and a large withdrawal from the state rainy day fund will likely be needed to balance the budget. Louisiana and New Mexico face similar challenges.

In Texas, the largest oil producing state in this country by far, the fall in crude oil prices has definitely captured the attention of state officials. But the state’s economy, now larger and more diverse than it was during the major oil price bust of 1986, is better insulated to protect it against such blows. In the current biennial budget, for example, oil production taxes are expected to account for only 6.6 percent of total taxes compared to more than 25 percent during the 1980s oil price slump. And if consumer spending in Texas increases because of decreases in the cost of motor fuel, the wallop from this reverse price shock may not be so bad in the land of “Texas tea.”

“The resulting lower fuel costs should reduce the price of transporting goods, which is great for consumers and ultimately our economy,” the state’s newly elected comptroller, Glenn Hegar, said in his speech after being sworn in. “In fact, the average taxpayer will see the equivalent of a 2 percent pay raise as a result of the lower fuel prices,” he said.

Most state lawmakers are hoping that paltry prices at the pump will spark economic growth, especially those in states where the energy extraction industry has a small footprint.

In Utah, which produces 3.5 percent of the oil Texas does and ranks 11th overall in crude oil production, falling prices at the gas pump are expected to free up disposable income for Utah residents to spend on other things, resulting in “a net positive for the state,” says Andrea Wilko, chief economist for the Legislative Fiscal Analyst Office.

State budgets will benefit from cheaper fuel in other ways as well, from lower operating costs for state motor vehicle fleets to less expensive asphalt for road construction and repairs.

Two of the biggest questions facing state policymakers regarding the fall in oil prices are difficult to answer: How long will prices remain depressed and how low will prices fall? Prices are not likely to increase until global production and demand fall back into sync, and many analysts estimate that may not occur until much later this year./p>

Top 10 States in Motor Gasoline Expenditures
Total Per Capita
California North Dakota
Texas Wyoming
Florida South Dakota
New York New Hampshire
Pennsylvania South Carolina
Ohio Mississippi
Illinois Vermont
Georgia Iowa
Michigan Montana
North Carolina Alabama

Source: U.S. Energy Information Administration, 2012

 

Top 10 States in Crude Oil Production
Texas
North Dakota
Alaska
Oklahoma
New Mexico
Louisiana
Colorado
Wyoming
Kansas

 

Arturo PĂ©rez is NCSL’s Fiscal Affairs program director.

 

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