Daily Archives: July 10, 2012
State-run gas company GAIL is just steps away from signing a 20-year contract for shipping two million tonnes of LNG a year from US east coast, The Times of India said, citing sources close to the development.
Value of this contract would be approximately $12 billion.
GAIL executives were in the US last week in order to give final touches to the deal, the newspaper said.
In December 2011, GAIL inked a $20 billion contract with Sabine Pass Liquefaction for 3.5 million tonnes of LNG annually.
- India in talks with US for LNG imports (shippingtribune.com)
- India’s Biggest LNG Buyer Seeks $1 Billion in Debt to Expand (bloomberg.com)
By: Peter Schiff Tuesday, July 10, 2012
The media is now fixated on an apparently new feature dominating the economic landscape: a “fiscal cliff” from which the United States will fall in January 2013. They see the danger arising from the simultaneous implementation of the $2 trillion in automatic spending cuts (spread over 10 years) agreed to in last year’s debt ceiling vote and the expiration of the Bush era tax cuts. The economists to whom most reporters listen warn that the combined impact of reduced government spending and higher taxes will slow the “recovery” and perhaps send the economy back into recession. While there is indeed much to worry about in our economy, this particular cliff is not high on the list.
Much of the fear stems from the false premise that government spending generates economic growth (for stories of countries experiencing real growth, see our latest newsletter). People tend to forget that the government can only get money from taxing, borrowing, or printing. Nothing the government spends comes for free. Money taxed or borrowed is taken out of the private sector, where it could have been used more productively. Printed money merely creates inflation. So the automatic spending cuts, to the extent they are actually allowed to go into effect, will promote economic growth not prevent it. Even most Republicans fall for the canard that spending can help the economy in general. But even those who don’t will surely do everything to avoid the political backlash from citizens on the losing end of any specific cuts.
The only reason the automatic spending cuts exist at all is that Congress lacked the integrity to identify specifics. Rest assured that Congress will likely engineer yet another escape hatch when it finds itself backed into a corner again. Repealing the cuts before they are even implemented will render laughable any subsequent deficit reduction plans. But politicians would always rather face frustration for inaction than outright anger for actual decisions. In truth though, only an extremely small portion of the cuts are scheduled to occur in 2013 anyway. If it comes to pass that Congress cannot even keep its spending cut promises for one year, how can they be expected to do so for ten?
The impact of the expiring Bush era tax cuts is much harder to assess. The adverse effects of the tax hikes could be offset by the benefits of reduced government borrowing (provided that the taxes actually result in increased revenue). But given the negative incentives created by higher marginal tax rates, particularly as they impact savings and capital investment, increased rates may actually result in less revenue, thereby widening the budget deficit.
In reality, the economy will encounter extremely dangerous terrain whether or not Congress figures out a way to wriggle out of the 2013 budgetary straightjacket. The debt burden that the United Stated will face when interest rates rise presents a much larger “fiscal cliff.” Unfortunately, no one is talking about that one.
The current national debt is about $16 trillion (this is just the funded portion…the unfunded liabilities of the Treasury are much, much larger). The only reason the United States is able to service this staggering level of debt is that the currently low interest rate on government debt (now below 2 per cent) keeps debt service payments to a relatively manageable $300 billion per year.
On the current trajectory the national debt will likely hit $20 trillion in a few years. If by that time interest rates were to return to some semblance of historic normalcy, say 5 per cent, interest payments on the debt would then run $1 trillion per year. This sum could represent almost 40 per cent of total federal revenues in 2012!
In addition to making the debt service unmanageable, higher rates would depress economic activity, thereby slowing tax collection and requiring increased government spending. This would increase the budget deficits further, putting even more upward pressure on interest rates. Higher mortgage rates and increased unemployment will put renewed downward pressure on home prices, perhaps leading to another large wave of foreclosures. My guess is that losses on government insured mortgages alone could add several hundred billion more to annual budget deficits. When all of these factors are taken into account, I believe that annual budget deficits could quickly approach, and exceed, $3 trillion. All this could be in the cards if interest rates were to approach a modest five per cent.
If the sheer enormity of the red ink were to finally worry our creditors, five per cent interest rates could quickly rise to ten. At those rates, the annual cost to pay the interest on the national debt could equal all federal tax revenues combined. If that occurs we will have to either slash federal spending across the board (including cuts to politically sensitive entitlements), raise taxes significantly on the poor and middle class (as well as the rich), default on the debt, or hit everyone with the sustained impact of high inflation. Now that’s a real fiscal cliff!
By foolishly borrowing so heavily when interest rates are low, our government is driving us toward this cliff with its eyes firmly glued to the rear view mirror (much as the new French regime appears to be doing). For years I have warned that a financial crisis would be triggered by the popping of the real estate bubble. My warnings were routinely ignored based on the near universal assumption that real estate prices would never fall. My warnings about the real fiscal cliff are also being ignored because of a similarly false premise that interest rates can never rise. However, if history can be a guide, we should view the current period of ultra-low rates as the exception rather than the rule.
Peter Schiff’s new book, The Real Crash: America’s Coming Bankruptcy – How to Save Yourself and Your Country is now available. Order your copy today.
For in-depth analysis of this and other investment topics, subscribe to Peter Schiff’s Global Investor newsletter. CLICK HERE for your free subscription.
- Democrats to Risk Fiscal Cliff by Targeting Top Earners (bloomberg.com)
- Lawmakers signal deep ‘fiscal cliff’ deadlock in Congress (mercurynews.com)
- Fitch Ratings keeps US at top ‘AAA’ credit rating (seattlepi.com)
(Reuters) – About six years ago, an army of agents hired by energy companies started desperately courting landowners across the United States whose farms and ranches happened to sit atop some of the richest oil and gas deposits in the world. And so began one of the biggest land grabs in recent memory.
Those days are over.
U.S. energy titan Chesapeake Energy is quickly cutting back on an aggressive land-leasing program that in recent years has made it one of America’s largest leaseholders, putting an end to half a decade of frenzied energy wildcatting.
Beset by growing governance and financial problems, and a sharp slump in natural gas prices, the No. 2 U.S. gas driller is reducing by half the ranks of its agents, known in the industry as landmen.
With little evidence that its competitors are taking on the role of leading industry lease-buyer, Chesapeake’s new found frugality is expected to usher in a more sedate period of U.S. land buying, and a sizeable cultural shift for an industry that has been acquiring new acreage at almost any cost.
A surge in drilling into rich shale-gas seams from Pennsylvania to Texas has pushed natural gas prices to 10-year lows, forcing producers, including Chesapeake, to cut output and put the brakes on new wells.
Drilling simply to hold on to leases represents about half of U.S. natural gas output, analysts say, which has helped keep production at record highs despite plummeting prices. Leases held by energy companies tend to last about three years, but will typically remain valid indefinitely if an energy company drills wells and produces fuel on the leased acreage.
It should be fairly easy for drillers to re-hire agents and secure more land when prices recover, according to landmen sources, and production is not expected to be affected immediately. But a lull in leasing could briefly affect production longer term, given that it takes up to six months to secure large tracts of land.
“Chesapeake has always been a bellwether for where the next big play is. It would come, lease large blocks and send a signal to the market,” said Adam Bedard, senior director at Bentek Energy in Colorado. “Without them, the pace of land acquisition might slow.”
In a move to mollify disgruntled shareholders, Chesapeake plans to reduce its use of contracted landmen from 1,300 now to 650 by the end of the year, said Chief Executive Aubrey McClendon, who was stripped of his chairmanship last month after Reuters reported a series of governance missteps.
The reduction, which is expected to help reduce towering debt levels, marks an 80 percent decrease from its peak of 3,400 landmen, McClendon said.
The cull has begun. Over the past month, 225 contracted landmen were cut from Chesapeake jobs, said one Ohio-based landman, who, like most in the close-knit industry, would only speak off the record.
“Chesapeake’s activity level in the Appalachian region is minimal now. It has devastated the (landman) industry,” the source said. “The Chesapeake debacle is one thing, but the rest of the industry shortfall is because a lot of the projects are intertwined with Chesapeake,” he added.
The Oklahoma-based company has become one of the largest leaseholders in the United States, amassing more than 15 million acres of land for drilling or an area about the size of West Virginia.
One mid-sized U.S. brokerage that does lease work for Chesapeake has experienced a 15 percent to 20 percent fall in business over the last 90 days due to a slowdown not just in Chesapeake activity but across the board, a manager for operations at its eastern division told Reuters. About 15 percent of that company’s business comes from Chesapeake, he said.
“We are getting to the point where companies are becoming more cautious – that is what we are seeing,” he said, asking that he not be named.
Other major producers, including Encana Corp, Royal Dutch Shell and Chevron, said they are not planning to materially change their strategy of land acquisition or staffing numbers, suggesting a gap might be left as Chesapeake, long the pioneer in drill leasing, retreats.
“We have not reduced our land staff nor have we made any changes in the way we conduct land operations,” said a spokesman for Encana, one of Chesapeake’s main land-leasing rivals. Encana employs an in-house staff of about 170 workers in its land department. Shell also said it was “not planning any major staffing level changes in our land function for leasing activity.”
Landmen in the field reckon companies are now well-placed to increase leasing again when they need to, but it could take up to six months between a decision to lease the land and the drilling, potentially creating a lull in activity, sources said.
While a fall in leasing will affect the landmen, it is unlikely to affect gas output for quite some time given the amount of land already leased and the hundreds of wells drilled that have yet to begin producing.
“The huge land grabs in the gas plays are coming to an end,” said one energy hedge fund manager. “Even without more leasing, however, these companies have backlogged a huge inventory of drilling locations.”
The backlog of 3,500 oil and gas wells in the United States is about 1,000 more than usual, according to Randall Collum, a natural gas analyst at Genscape in Houston.
It could take more than a year to exhaust the natural gas portion of that supply as pipelines come online to connect new producing regions, such as in Ohio, to areas of higher demand, he said. Moreover, the reserves accumulated over the last decade are expected to take longer to dwindle away.
That scenario is likely to put a cap on prices in the near term, with or without Chesapeake.
AFTER THE BOOM
When U.S. drillers employed new technologies during the last decade to economically tap oil and gas from shale rock, results showed the potential for a massive revival in waning domestic production.
In 2006 and 2007, companies began rushing to acquire new leases. Geologists pored over maps, in search of the sweetest acreage. Landmen were hired like never before, court houses in energy-rich regions filled with workers quickly securing leases. Rural and depressed areas in Pennsylvania, North Dakota, and Ohio became, by geological coincidence, new target areas for energy companies.
Teams of between 50 and 100 landmen were charged with securing hundreds of thousands of acres in a matter of weeks. Some would knock on landowners’ doors, while others specializing in title work would make the lease legally secure and determine, among other things, who receives royalties on the production.
Chesapeake led the charge, spending billions of dollars a year on speculative leasing, helping to push land prices higher in energy-rich regions. In 2011, it became the lead acreage holder in the Utica formation shale in Ohio with 1.5 million acres, and was the first to publish production figures from new wells there.
After Chesapeake arrived, other majors such as Anadarko and Exxon Mobil quickly followed. Much of the best drilling areas have already been swept up in what is now thought – though not fully proven – to be one of the most promising oil and gas plays in the country.
Now, five years after the boom began, natural gas output is at an all time high. The success has, in many ways, backfired. Prices have dropped so far that companies can barely afford to drill in pure natural gas plays. Chesapeake, the self-proclaimed ‘champion’ of U.S. natural gas, is facing a $10 billion cash-flow shortfall this year, forcing it to rein in spending.
“It will slow down the overall aggressiveness if Chesapeake isn’t out there leading the charge,” said Genscape’s Collum. “But it is all about prices. If prices rise then companies will come back in.”
- Chespeake Energy Seeks to Void Order to Buy Energy Rights – Bloomberg (bloomberg.com)
- Land owner caught between energy giants (business.financialpost.com)
- Report: Chesapeake engaged in price fixing on land (bizjournals.com)