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The real reason Arctic drilling is faltering right now — low oil prices

The Royal Dutch Shell oil drilling rig Polar Pioneer is towed toward a dock in Elliott Bay in Seattle last May. (AP Photo/Elaine Thompson)

To those who aren’t oil industry insiders, it seems like the most sudden of turnabouts. Shell appeared all set to drill in the Arctic — but then pulled out after completing just one unsuccessful exploration well. And then along comes the Obama administration and seemingly slams the door behind the company, canceling two scheduled Arctic ocean lease sales for 2016 and 2017.

These developments have made environmentalists ecstatic, but oil industry observers say that the narrative may be rather different from how it appears. They suggest that the principal difficulty for Arctic offshore drilling right now is economic — this is a pricey endeavor at a time when oil prices are so low — and that companies may be back for another try at Arctic offshore drilling, in U.S. waters or elsewhere, if economic conditions change.

“I would say that everybody understands the false start, but they haven’t given up,” says Mead Treadwell, Alaska’s former lieutenant governor and now president of PT Capital, a private investment firm that focuses on Arctic opportunities.

Back in 2009, scientists with the U.S. Geological Survey and several other institutions estimated that in the Arctic, “about 30% of the world’s undiscovered gas and 13% of the world’s undiscovered oil may be found there, mostly offshore under less than 500 meters of water.” For oil companies, which are constantly trying to book more and more proven reserves, this was obviously highly enticing.

However, the explosion of the Deepwater Horizon in the Gulf of Mexico, followed by the worst oil spill in history, came only a year later, sensitizing Americans — and the Obama administration — to the unique risks associated with offshore drilling, and providing a reference point that would guide environmentalist objections going forward. The contention was that if such a disaster can happen in the Gulf of Mexico, a spill in the Arctic – which is even more pristine and remote — would be more difficult or even impossible to contain or clean up.

Nonetheless, and despite Shell’s recent false start, the resources do seem to be there. A 2015 report by the National Petroleum Council, an advisory committee to the Energy Department, recently reaffirmed the basic U.S. Geological Survey finding from half a decade earlier about that. The study found that the Arctic likely contains 426 billion undiscovered barrels of oil equivalents (including natural gas), a total that “represents about 25 [percent] of the remaining global undiscovered conventional resource potential.” It noted that Russia is best off in terms of having access to these resources — and is already moving to exploit them — followed by the United States.

The study added that 75 percent of Arctic oil and gas resources are thought to be offshore rather than onshore. “The U.S. Arctic is estimated to have 48 [billion barrels of oil or oil equivalent] of offshore undiscovered conventional resource potential, with over 90% of this in less than 100 meters of water,” the study added.

So if companies aren’t going after this, at a time when they want to book new reserves, what’s the reason? Simple: cost.

“The price of energy, and the capital costs the companies are cutting, I think that’s playing as much of a role in the decisions to not explore, or postpone,” says Heather Conley, senior vice president for Europe, Eurasia, and the Arctic with the Center for Strategic and International Studies. “The cost of exploring [is] not commercially viable unless the price of oil is $ 100 per barrel. I’ve seen maybe getting down as low as $ 80.”

It’s not just Shell – earlier this year Statoil, the large Norwegian oil major, said it had no plans to drill in 2015 in the Barents Sea.

In a sense, then, all of this could be considered a key consequence of OPEC’s decision, last November, not to curtail oil production, a move that led to a dramatic plunge in oil prices and ushered in a low price environment that still persists a year later. One major result, naturally, has been to make more costly forms of resource exploitation a lot tougher to sustain.

“It does not mean that there will never be interest in Arctic drilling,” says Pavel Molchanov, an analyst with Raymond James. “Certainly over time it’s likely that it will recover. But right now, it’s just a tough landscape to do it.”

Granted, it’s definitely possible that the timing of the oil price plunge may in effect shut the window on developments in U.S. Arctic waters. After all, as the climate change issue becomes more and more prominent — with the Arctic as its top icon — and as environmental groups focus more and more on a “supply side” strategy that tries to prevent companies from exploiting hydrocarbon resources because of the potential to add more carbon to the atmosphere, the political risk, already high, may grow steadily higher going forward.

However, even if that’s the case, this would apply more to U.S. politics than international ones. All voices seem to agree that whatever happens in the U.S., Russia will likely move ahead — although economic sanctions could slow developments there.

“Even if the United States makes a decision not to develop our energy resources in the Arctic, at least offshore, the Russians will” develop theirs, says Conley. “And that means LNG carriers will be going through a very narrow Bering Strait, taking those resources to Asian markets.”

For Conley, that means that even if we don’t develop our resources, we need to be moving fast to become a much bigger Arctic player — which means investing in icebreakers and all-around preparedness. “An accident in the Russian Arctic will have a big effect on the American Arctic,” says Conley. “So we still need that readiness, even if we ourselves decide not to develop those resources.”

So in sum, developments in Arctic energy — both in the U.S. sphere and beyond it — will continue to play out over the coming decades.

“I don’t think people have given up,” says Treadwell. “It’s a little bit longer, but Shell themselves said, whatever we found here, we probably wouldn’t produce til the late 2020s anyway. So don’t write off the Arctic for that.”