Economic Impact of Shale Gas and Tight Oil

Why the Economic Impact of Shale Gas and Tight Oil is rather limited

The extraction of shale gas and tight oil from unconventional sources is currently subject to a fierce debate. The discussion about benefits and disadvantages stands at a decisive threshold for economic policies at a regional, national and international level. Europe remains divided on this issue while data from the US seems to be promising. The question on the macroeconomic impact of the shale gas boom remains, however, unclear. The author claims that the long-run economic benefits for the US and Europe are rather limited. To prove this, he will critically analyse the claims made by Daniel Yergin and Nick Butler as well as Muehlenbachs, Spiller & Timmins article on the subject.

The focus of the analysis at a glance

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Daniel Yergin claims in his article, that US shale gas and tight oil have already changed global energy markets and reduced both Europe’s competitiveness vis-à-vis the US and China’s overall competitiveness. What is more, he claims that this “unconventional revolution” in energy will bring a shift in global politics. Although it is probable, that the US will developed to be gas exporting country in the coming years, studies show that they will have to rely significantly on crude oil imports in the future, and not only from Canada, as Yergin claims.

Furthermore, there will not be a significant reduction on emissions due to the so called shale revolution. Other local externalities, such as the impact on groundwater, air pollution, and leakages have to be considered. Muehlenbachs, Spiller & Timmins article even suggests considerable effects on the housing-market and property values. Furthermore, data of the US case shows that the reduction of the amount of coal-produced energy was triggered by the cyclical decrease in gas prices, which has now largely turned. Shale gas is insufficient on its own to drive out coal of the overall energy-mix in both the United States and Europe. Therefore, Nick Butler’s claim of self-sufficiency within a few years and Yergin’s statement about a shift in world politics have to be treated with caution.

Yergin and Butler both come up with the argument, that lower gas prices will strengthen the economy. When looking at the impact of lower gas prices on productivity, two effects can be analysed: Firstly, an income effect due to the fact that gas can now be produced cheaper and thus, ceteris paribus, more income is available to buy other goods. Secondly, substitution effects that are resulting from shifting gas prices that can change the relative prices of goods in which gas is an input and consequently have knock-on effects for productivity in other sectors. Yet, it is not that simple. Analysing the issue out of a microeconomic perspective suggests that the effect on GDP of the two effects is likely to be trivially unimportant, affecting sectors representing only a minor part of the economy (1.2% in the US). Data of several studies suggests average income effects of about 0.575% from 2012 and 2040 for the US. It is important to stress that this is a long-term increase in the level of GDP, not the growth rate.

Another key element of Yergin’s argumentation is the reduced dependency on oil imports mentioned above. Increased domestic production of oil and gas leads to a smaller amount of imports. Subsequently, this means that the producer surplus of oil is being transferred from foreign oil exporters to domestic oil producers. But again, this has consequences on the level of GDP in the long term and not on the growth rate. Studies show that, even when considering increases of the exchange rate and other crowding-out effects, there will not be a significant positive impact on manufacturing deficit after all. Similarly to the data shown earlier, the long-run GDP effects of reduced US oil imports are estimated to increase the level of GDP until 2040 of about 0.35%.

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The addition of these effects leads to a conversion of the long-run level of GDP of averagely 0.875%. Adding these effects to the uncertainty of fracking per se, especially in Europe, one can clearly see that there might not be that much of a revolution going on after all.

Considering the argument that the “unconventional revolution” will create a fair amount of jobs, at least in the US, one has to consider that the American economy was not at that time and is not at full employment of labour and capital now. The estimated short-term stimulus effects due to increased investment, employment, and input spending in the sector are again rather low (0.13% of GDP and 0.48% of GDP).

Regarding the change of the balance of competitiveness in the world economy and the claimed unanticipated advantage due to shale energy, one has to consider a few other things. There is no proof that the shale gas boom will lead to a reindustrialisation of the entire American manufacturing sector. Of course, US exports have risen sectors that use gas, but only to almost $24 billion in 2012 compared to a manufacturing trade deficit of roughly $780 billion. Additionally, declines in the real exchange rate in the last years and the consequences of the recession have clearly increased exports and reduced imports. The assumption that the “unconventional revolution” will lead to a revitalisation of US economy is therefore rather delicate. Furthermore, the net benefits of low-priced gas are likely to be limited to certain manufacturing sectors only, especially the chemicals, metals, and paper sectors according to IMF working papers.

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In conclusion, the analysis shows that one needs to carefully differentiate between the (positive) effects of the shale gas boom as a technical innovation and it being a revolution per se. As shown above, the long-term benefits in the areas of production and manufacturing competitiveness are relatively small. Additionally, shale gas and tight oil will not replace coal-based energy nor substitute a considerable amount of oil imports in both the US and Europe in the next decades. Therefore, promoting energy efficiency and low-carbon technologies as well as clear energy policies will be even more important than before, especially for the European countries.

References

Articles analysed:

Butler, N. (2014, March 30). After shale gas, now for tight oil. Retrieved from Financial Times: http://blogs.ft.com/nick-butler/2014/03/30/after-shale-gas-now-for-tight-oil/

Muehlenbachs, L., Spiller, B., & Timmins, C. (2014, February 9). The housing-market impacts of shale-gas development. Retrieved from VoxEU: Research-based policy analysis and commentary from leading economists: http://www.voxeu.org/article/shale-gas-and-housing-market

Yergin, D. (2014, January 8). The Global Impact of US Shale. Retrieved from Project Syndicate: https://www.project-syndicate.org/commentary/daniel-yergin-traces-the-effects-of-america-s-shale-energy-revolution-on-the-balance-of-global-economic-and-political-power

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Other sources:

Celasun, O., Di Bella, G., Mahedy, T., & Papageorgiou , C. (2014). The US Manufacturing Recovery: Uptick or Renaissance’. IMF Working Paper.

Gruenspecht, H. (2013). Annual Energy Outlook (Early Release): with projections to 2040: presentation on behalf of US Energy Information Administration for Center on Global Energy Policy. New York: Columbia University.

US Energy Information Administration. (2014, April 16). Annual Energy Outlook 2014. Retrieved from US Energy Information Administration: http://www.eia.gov/oiaf/aeo/tablebrowser/