Oil producers beat US bankers' expectations

OREANDA-NEWS. June 07, 2016. US crude producers have weathered the severe downturn in prices better than expected, according to lead economists with major US banks.

But banks are waiting for the oil prices to remain higher for longer before increasing the borrowing base, just as producers for now remain hesitant to take steps to boost output, Northern Trust chief economist Carl Tannenbaum said on 3 June at a discussion hosted by the American Bankers Association.

"Overall, the credit strength is relatively good" even though many banks have had to set aside capital to deal with non-performing loans in the energy sector, said Tannenbaum, who chairs the association's economic advisory committee.

US producers felt a liquidity squeeze as prices dropped below \\$30/bl and banks started cutting borrowing limits. The liquidity crunch in the energy sector sharply boosted loan non-payment rates across the US banking industry, according to the Federal Deposit Insurance Corporation. Almost 80 North American oil and gas producers have filed for bankruptcy since early 2015.

But defaults on loans among oil producers have been fewer than expected, according to US bank group BBVA chief economist Nathaniel Karp. The relatively short period of super low prices helped the producers, as did strong drilling productivity gains, he said.

"A lot of producers were hoping for a rebound in prices and held on to production. On the lending side, there was a strategy of balancing reserve positions but also helping clients navigate the environment," Karp said. "We have underestimated the ability of shale producers to cope with low oil prices."

The American Bankers Association's advisory committee, which includes 15 economists from the largest US banks, forecasts that West Texas Intermediate price will be \\$48/bl at the end of 2016 and \\$55/bl at the end of 2017.

The Nymex WTI front-month contract has held near \\$50/bl for the past two weeks, up from a low of \\$26.21/bl on 11 February.

The rebound in prices is giving more breathing space to producers but they are in no rush to drill more wells, Tannenbaum said. "Producers want to feel confident that oil is going to either stay at current levels or rise."

The reluctance to invest in new production capacity means the rebound in oil prices will having little short-term effect on the US economy. In fact, the price rise may nullify some of the positive economic effects that US consumers felt since mid-2014.

"We have underestimated the benefits to consumption from cheap gasoline and we are now wondering if the reversion to \\$50/bl is going to impair consumption," Tannenbaum said.

Predicting the effects of the change in oil prices has been difficult because old economic models no longer apply, Federal Reserve board member Lael Brainard said on 3 June during a discussion at the Council on Foreign Relations. "We probably got more of a response in terms of a sharp deceleration in investment in drilling and mining" while consumers did not react as much as models suggested they would to a decline in prices, Brainard said.

An average household has gained some \\$1,300 in purchasing power since mid-2014 from the fall in gasoline prices, Fed board chairman Janet Yellen said today.

The drop in oil prices contributed as much as a third of the US GDP growth in the first half of 2015 and an even larger proportion in July-December 2015, according to the Federal Reserve Bank of New York. The White House Council of Economic Advisers earlier this year estimated the positive effect of oil price declines on the real GDP growth at 0.2 percentage points for 2015.

Fed officials in the past year frequently have cited declines in oil prices in their policy statements, in part because of its influence on the inflation rate, which in turn is a factor in setting interest rates.

The price of oil became a macroeconomic issue in the US, Fed vice-chairman Stanley Fischer said in February. But Yellen today said she expected "that oil prices will become less of a factor" because the prices recovered somewhat and "the largest declines in drilling activity are likely now behind us."