Declining Oil Prices Could Stunt Biofuel Work

Energy giant ExxonMobil announced Thursday that it made the largest profit in U.S. history last year: $39.5 billion. That works out to about $4.5 million an hour.

Exxon profited from sky-high oil prices last year. But in recent months, oil prices have fallen by about $20 a barrel from their mid-summer peak. ExxonMobil says it needs big profits in order to keep hunting for the oil and natural gas that its customers demand. Vice President Ken Cohen says the company spent $20 billion in 2006 on exploration and new energy projects, a 12 percent increase from the year before.

"We are investing at record levels to find, produce and deliver energy to consumers," Cohen says. "And I also want to point out that we invest in good times and in bad."

2006 was a very good time for the energy business. In July, crude oil prices hit $77 a barrel, setting off a frenzy in the oil patch. John Felmy of the American Petroleum Institute says drilling activity reached a 20-year high. But some of that may cool off now that oil prices have retreated by about $20 a barrel.

"The dramatic fall in crude oil prices has clearly forced producers to go back and reassess what their expectations are, because that's a huge change." Felmy says. "And in order for their projects to be economic, they have to understand what the trends are."

But forecasting trends is a gamble at best, since oil prices can swing wildly with a change in the weather, a pipeline break, or a comment from a policymaker. Lately, traders have been watching OPEC closely, to see if the cartel makes good on threatened production cuts, starting Thursday.

OPEC member Venezuela would like to see higher oil prices, to support the agenda of President Hugo Chavez. But cartel leader Saudi Arabia is taking a more cautious approach, says energy expert Robert Ebel of the Center for Strategic and International Studies.

"I think Saudi Arabia knows the market as well, if not better than, most people," Ebel says. "And they understand what happens when the price goes high — the importers are impacted. When it goes low, the exporters are impacted. So they're trying to find that point where both will be satisfied."

Like Exxon, Saudi Arabia makes more money when oil prices are high. But the kingdom knows that if the price climbs too high, it will spur development of alternative fuels. When oil prices were at $70 a barrel and above last year, investors poured money into ethanol and biofuel plants. Analyst Michael Liebreich of the research firm New Energy Finance says with today's lower prices, that exuberance may not last.

"There's no single magic number, because the cost of production for the different technologies actually varies," Liebreich says. "So at $78 a barrel, pretty much every technology is economically viable, particularly with the subsidies that are in place. Conversely, if you go down to $40 to $45, pretty much no part of the supply curve makes sense for biofuels."

At the moment, oil prices are in a middle range, where Liebreich says some alternatives make sense and others don't. Investors aren't running scared just yet, but they're certainly paying attention to prices.

"There's certainly nervousness. But at the current price levels, good projects do make sense," he says.

Consumers, of course, are also keeping an eye on prices, especially at the gas pump. When gasoline topped $3 a gallon last year, many drivers lost their enthusiasm for SUVs and started paying renewed attention to MPG. Another question mark for the industry is whether consumers and policymakers will maintain that focus on fuel efficiency, with gas prices in much of the country now closer to $2 a gallon.

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