Oil price at $85 costing provinces and economy billions

The sudden new reality of $85 US a barrel oil is a jarring wake-up to Canada's economy, especially governments in Alberta, Saskatchewan and Newfoundland and Labrador that depend on oil money.

Bad news for oil companies should leave more money in consumers' pockets

A worker pours oil into a barrel at a European oil refinery earlier this month. Lower crude prices are costing the oil industry and some provinces billions, but should lower costs elsewhere in the economy. (Akos Stiller/Bloomberg)

The sudden new reality of oil at $85 US a barrel is a jarring wake-up for the three oil-rich provinces of Alberta, Saskatchewan and Newfoundland and Labrador.

Oil prices touched new lows Friday, down almost $1 to $84.90 a barrel. That's the lowest price seen since April 2013. The price for the main North American oil benchmark, known as West Texas Intermediate, is now down more than 20 per cent from recent highs — which means oil has met the technical definition of a price correction.

In a report titled 'Life with $85 Oil' BMO economist Robert Kavcic noted those lower prices are costing billions to Canada's three most oil-dependent provinces: Alberta, Saskatchewan and Newfoundland and Labrador.

In recent budgets, all three provinces made revenue projections based on assumptions that oil prices would be a lot higher than they are.

Alberta's estimates are based on oil being about $97 a barrel. Saskatchewan assumed just under $100 a barrel. And while Newfoundland and Labrador bases its oil projections on Europe's benchmark, known as Brent Crude, that province was assuming the price would average about $105 a barrel. Brent was going for about $115 per barrel as recently as June. Today, it's at $89.

'Quiet windfall' for consumers

Drivers may be breathing a sigh of relief at the pumps because of lower crude prices, but that cheaper oil is costing oil companies — and possibly more important, governments — billions.

Kavcic estimates that at current prices, based on its royalty regime Alberta is missing out on $1.2 billion in revenue. That's about three per cent of the province's entire funds.

"After a strong start to the year for prices, there’s now downside risk here if prices stay at or below recent levels for the remainder of the fiscal year," Kavcic said. "Longer-term plans (mostly in the $95 range) would also be at risk if these prices stick."

If it keeps up, the damage could be significant. "What does all this portend?" CIBC economist Peter Buchanan asked rhetorically Friday, "Much depends on whether prices stay at their beaten-down lows, sag still further or reclaim some of the last two months’ losses."

Capital Economics economist David Madani estimates the Canadian economy as a whole could lose as much as $11-billion worth of exports this year — as much 0.6 per cent of GDP — because of lower oil prices.

His outlook is not as bleak as Kavcic's, however, in that he thinks oil would have to drop a lot further still before expansion plans in the Athabasca oilsands would halt.

"Canadian price per barrel remains at levels above ... cost, which we figure is between $60 and $80 per barrel," he said. "We suspect that world oil prices would have to fall below $70 per barrel before seriously endangering future production prospects."

Loonie cushions price drop

Much of the drop in prices, however, is being cushioned by a corresponding drop in the value of the loonie. Oil is priced on the U.S. dollar, which has been on a tear of late compared to the loonie. So cratering crude values aren't hurting Canada as much as they could be, because oil companies are taking in more loonies for every U.S. dollar they get for selling oil.

There's also another economic upside to lower oil prices, in that cheaper energy generally means lower transportation costs for all other industries, and more money in Canadians' pockets to spend on other goods, which grows the economy elsewhere.

It’s a quiet windfall for global consumers— BMO economist Doug Porter

The parts of the country that import oil (namely Ontario and Quebec) are likely to see a benefit from cheaper crude, Buchanan said. That alone could be enough to make the current weakness in oil a wash, from the perspective of the national economy. "The regional implications of oil price changes for that reason have typically overshadowed the national ones," Buchanan noted.

Other countries are also likely to benefit from cheaper oil, and that's good news for Canadian companies that sell to them.

"While lower oil prices is bad for Canada, the benefit to other net importing nations may boost economic growth, promoting non-oil exports to Canada," Madani said. "This would help cushion the blow to Canada's economy."

As Kavcic's colleague Doug Porter put it: "While this is bad news indeed for the hottest regions of North America it’s a quiet windfall for global consumers."

"The drop in energy prices acts as a tax cut for consumers by giving a small bump to real disposable income."