Calgary

OPINION | On the wrong track: Alberta loses $2.1B on crude-by-rail contracts

The crude-by-rail mess isn’t the first fiscal train wreck from an Alberta government venturing beyond its core competencies, nor is it likely to be the last.

Province's fiscal update reveals size of loss but no other details

The Alberta government expects to lose $2.1 billion on its foray into crude-by-rail contracts. (Dave Rae/CBC)

This column is an opinion from Blake Shaffer, an assistant professor of economics and public policy at the University of Calgary.

Last week's Alberta fiscal update was filled with some large and scary numbers. Chief among them was $24 billion (this year's projected deficit) and $100 billion (Alberta's projected debt, not long ago non-existent).

But buried among these headline numbers was a much smaller one that deserves far more scrutiny than it has received: $2.1 billion.

This is how much the Alberta government has included in its fiscal update for realized and expected losses on its foray into crude-by-rail contracts.

This represents the deterioration in value of the government's commitment to export Alberta crude by rail, made only a year and a half ago, and market conditions today.

To put this loss in perspective, it amounts to roughly $500 for every single Albertan.

So what happened? How did the government manage such a large loss in such a short time?

To understand, we need to go back to pre-COVID times, to 2018, when oil production was on the rise and beginning to breach Alberta's capacity to ship it out of the province.

As a result, the basis differential — the spread between U.S. benchmark oil prices and Alberta's local prices — began to widen to historic levels. This created a massive discount for Alberta crude, in some cases up to $50 per barrel, resulting in significant losses for oil producers and less royalty revenue for the province.

Creating more export capacity

To resolve this problem, in early 2019 the NDP-led government of the time sought more export capacity by contracting for railcars to ship crude by rail. In the end, the government committed itself to ship 120,000 barrels per day for three years.

Fast forward to today and the basis differential problem is no more. A combination of lower Alberta oil production, some expanded pipeline capacity and generally weak demand has resulted in no more discount, simply lower prices across the board.

Those rail contracts? They aren't worth much these days. According to the government's numbers, the contracts are now worth $2.1 billion less than what was paid for them.

Many will rightly ask who's to blame for this mess. Many will be quick to point fingers.

The current UCP-led government is predictably pointing theirs at the NDP for putting them into this situation. And to be fair, the previous government deserves much of the blame.

The justification for entering into the rail contracts was made on the belief that the additional export capacity would "clear the market," relieving congestion and raising local prices. The result would be not only better market access for producers, but also more royalties collected by the government, since royalties rise with higher prices. 

In the end, however, the rail contracts proved of limited value.

The NDP government's justification for entering into the rail contracts was made on the belief that the additional export capacity would 'clear the market,' relieving congestion and raising local prices. (CBC)

The government's apportionment solution — assigning production quotas to limit overall supply in the province — though greeted with mixed popularity, successfully relieved the short-term congestion problem and raised local prices. It also made the crude-by-rail decision unnecessary right from the get-go. The continued market weakness, coupled with COVID, as mentioned above, only furthered the problem.

So the NDP does warrant much of the blame for committing Albertans to such a large contract and financial risk. However, turning to today, it is worth asking whether the current government is making the correct decision in selling these contracts at current levels.

Based on the reported losses and the volumes contracted, I estimate the government is losing $16 per barrel on the crude-by-rail contracts. Details on the terms of the original contract are not clear — a core issue I will return to in a moment — but typically crude-by-rail contracts run in the $16 to $20 per barrel range for a combination of fixed and variable costs.

If true, this means the current government has essentially deemed them worthless.

For all the clamouring we hear that export capacity (read: pipelines) is so badly needed in the province, it seems rather paradoxical to give this up for next to nothing. 

At this point, the rail contracts would appear to be a cheap option. Currently, the government is paying $2.1 billion not to ship any barrels. At some price, one needs to rethink their position.

Is the government ditching the contracts still in the best interest of Albertans? Or are they simply trying to rid themselves of the vestiges of their predecessors at any cost, knowing they can likely be absolved from any of the blame from mistakes made in the past?

We don't know the details!

The answer? Well, this is the fundamental problem: we can't actually answer that question because we don't know the details! We don't know the details of the original contracts, nor of the recent sales.

To be fair, commercial sensitivity means not everything can be made public in real time, but the public does deserve far more transparency than they have received in this debacle.

It may well be that the original contracts were so terribly structured that selling them really is the best course of action; or it may be that holding them now, as a way to get more barrels to market and as protection against a return of the Alberta oil discount, is the prudent thing to do. Given the information available to the public, it's impossible to say.

What does seem clear at this point is that Alberta looks to have been on the receiving end of an old trading adage: "we get you on the way in, and we get you on the way out" (I'm paraphrasing).

As Albertans, we ought to expect better from the stewards of our finances.

To be sure, the crude-by-rail mess isn't the first fiscal train wreck from an Alberta government venturing beyond its core competencies, nor is it likely to be the last. A few years from now, will we look back on the current government's $7.5-billion commitment to the Keystone XL pipeline with the same disapproving eyes as we do with crude-by-rail today?

Which brings us to the bigger picture and the lessons we need to learn from the crude-by-rail fiasco: Albertans deserve more transparency in their government's actions. We ought to be able to scrutinize government decisions to help us in our democratic right of choosing who we elect to lead us. By keeping decisions and details in the dark, our ability to do so is weakened.

More transparency is a needed first step to limiting the damage done and avoiding the next pitfall.


This column is an opinion. For more information about our commentary section, please read our FAQ.

ABOUT THE AUTHOR

Blake Shaffer is an assistant professor in the department of economics and School of Public Policy at the University of Calgary. Prior to academia, he had a 15-year career in energy trading.

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