STATEMENT OF

MARK J. MAZUR

ACTING ADMINISTRATOR

ENERGY INFORMATION ADMINISTRATION

BEFORE THE

COMMITTEE ON COMMERCE

SUBCOMMITTEE ON ENERGY AND POWER

U.S. HOUSE OF REPRESENTATIVES

SEPTEMBER 28, 2000

Summary

We are in the midst of a year of volatility for crude oil, refined products, and natural gas. As we begin the winter heating season, prices for all heating fuels are higher than last year, and inventories are low. Although increased world crude production should begin to help markets build inventories back toward normal levels, the process likely will be slow, and petroleum inventories worldwide are likely to remain low into 2001. With low inventories for crude oil and refined products, unexpected supply disruptions or demand changes can cause disproportionate product price movements.

Residential heating oil prices on the East Coast are expected to average $1.32 per gallon this winter, which is about 15 cents per gallon higher than last winter. If winter weather is normal, consumers will be buying more distillate than last winter, since last heating season was relatively warm. A typical consumer in the Northeast could be paying over $900 for fuel, which is about $140 more than last heating season.

For a typical household in the Midwest, natural gas prices are forecast to average about $8.40 per thousand cubic feet, which is about 27 percent higher than last winter. We also expect households to consume more natural gas than last year, if this winter exhibits a normal weather pattern. The combination of higher prices and higher consumption will result in this typical household paying more than $730 for natural gas this winter, which is about $220 or approximately 40 percent more than the prior winter’s heating bill.

I want to thank the Committee for the opportunity to testify this morning. I will review the status of the current crude oil, heating and transportation fuel markets as well as the Energy Information Administration’s (EIA’s) short-term forecast for these markets.

Today, as we face the upcoming heating season, inventories for heating fuels are generally low and heating fuel prices are relatively high. What we are seeing in the wholesale or spot markets for heating fuels includes:

Transportation fuel prices are also high. National average retail diesel fuel prices on September 18 were $1.65 per gallon, which is 43 cents per gallon higher than this time last year. National average prices on September 18 for regular gasoline were $1.56 per gallon, 29 cents per gallon higher than last year.

The world price for crude oil is both the source of much of the current high price situation in the United States, and also a crucial element of an eventual price decline. Crude oil prices for the first two weeks in September have averaged about $34 per barrel for West Texas Intermediate (a benchmark crude oil). This is about $11.50 per barrel or 27 cents per gallon more than last year.

As I will explain, world petroleum demand exceeded world crude oil production in 1999 and early 2000. Petroleum inventories were used to meet the excess demand, drawing down stocks of crude oil, and prices rose in response. Today, world inventory levels are very low, and likely will remain low through the winter. Low inventories generally are a cause for concern because they leave markets vulnerable to price volatility.

Crude Oil Market

Crude oil prices have more than tripled from late 1998 to today (Figure 1). Prices for West Texas Intermediate (WTI) crude oil rose more than $24 per barrel (57 cents per gallon) from under $11 per barrel in December 1998 to more than $35 per barrel recently. To put this in perspective, in today's dollars, prices for crude oil peaked in 1981 at about $73 per barrel ($39 per barrel in nominal terms), more than twice today’s levels.

Crude oil markets tightened in 1999 as the Organization of Petroleum Exporting Countries (OPEC) and several other exporting countries reduced supply, and, at the same time, the recovery of the Asian economies increased demand. In 1999, world oil demand exceeded production, and inventories progressively declined. Organization for Economic Cooperation and Development (OECD) country inventories, those held by the world’s largest industrialized countries, fell well below normal in mid-1999, and stayed there (Figure 2).

OPEC increased production earlier this year, but world oil inventories are still well below normal. OPEC recently announced an 800,000-barrel-per-day increase in aggregate production quotas, effective in October. In addition to increases in non-OPEC production projected by EIA, the various announced OPEC production quota increases should be adequate to begin the process of rebuilding inventories back toward normal levels. If our other forecast assumptions are correct, we expect to see world inventories approach normal levels sometime next year. However, this recovery is a slow process, and because we are beginning the winter with very low petroleum inventories worldwide, inventories will remain low through the winter and well into 2001 (Figure 2). With low inventories worldwide, there is the potential for crude oil price volatility if there is a significant supply disruption or unusual demand strength.

U.S inventories are similar to the world pattern (Figure 3). U.S. crude oil inventories (excluding the Strategic Petroleum Reserve) ended August at 289 million barrels. This is the lowest level for that time of year since 1976. U.S. crude oil inventories are projected to remain below normal levels for the entire winter and well into 2001.

EIA’s crude oil price forecast reflects a gradual recovery of world inventories towards more normal levels accompanied by slowly declining prices. By December, prices for WTI could be moving back towards $30 per barrel, with further gradual declines throughout 2001. EIA’s base-case forecast has crude oil prices averaging about $2.50 per barrel (or 6 cents per gallon) higher this winter than last (October through March).

Heating Oil

Like U.S. crude oil inventories, U.S. distillate (mainly heating oil and diesel fuel) inventories are much lower than typical for this time of year (Figure 4). With low inventories, there is little supply cushion for unexpected changes in supply or demand. As we saw last winter, a sharp cold snap, for example, can lead to a dramatic price run-up.

U.S. distillate inventories were 112 million barrels at the end of August, 14 percent below their 10-year average for this time of year. On the East Coast, which consumes about two-thirds of the nation’s heating oil, inventories are even tighter. East Coast distillate inventories were at 40 million barrels, 31 percent below their 10-year average. Although we expect distillate production to be higher this winter than last (in part in response to fairly large refining margins), demand may also be higher if colder weather occurs in the Northeast (last winter had about 11 percent fewer heating degree-days than average) and diesel fuel consumption continues to grow. EIA expects that distillate stocks will be below normal throughout the winter and into 2001 (Figure 4). These low stocks mean there is the potential for price volatility in distillate markets this winter, not unlike that experienced last winter.

While our most likely scenario has the United States entering the peak heating oil demand months with low distillate inventories, refineries are capable of producing more distillate than shown in our forecast. Compared to our forecast assumptions, higher crude utilization rates and distillate yields have been achieved historically, and current high distillate prices relative to crude oil should encourage greater production. This, in turn, has the potential to result in stronger inventory builds than shown – perhaps as much as 5-10 million barrels more by the end of November.

Residential heating oil prices on the East Coast are expected to average $1.32 per gallon this winter, which is about 15 cents per gallon higher than last winter (Figure 5). If winter weather is normal, consumers will be buying more distillate than last winter, since last heating season was relatively warm. Under these conditions, EIA expects that heating oil consumers will be paying higher bills, compared to last year. A typical consumer in the Northeast uses about 680 gallons of heating oil during the winter months. At $1.32 per gallon, such a consumer will be paying over $900 for fuel, which is about $140 more than last heating season.

Natural Gas

Average natural gas wellhead prices this winter are likely to be much higher than the levels seen last winter. Spot prices have risen rapidly this year, and, in mid-September, were just over $5/MMBtu, about double their level at the beginning of the year (Figure 6). There are several factors contributing to this recent price run-up. U.S. natural gas production has been relatively flat for the last couple of years; demand has been fairly high this year, especially from electricity generators using natural gas as a fuel; demand is expected to be high this winter, under normal weather assumptions; prices are high in the distillate and residual fuel oil markets, competitor fuels for natural gas, keeping natural gas demand up; and current working storage levels are low – about 9 percent lower than their 5-year average levels for this time of year (Figure 7). The injection rate for gas into storage continues to be slow relative to last year’s rates, which is keeping pressure on market prices.

Current high prices are not expected to diminish until after the upcoming heating season, and we expect to see higher residential natural gas prices compared to last winter. However, because residential rates include capital costs, transmission, storage, and other overhead costs, a doubling of prices at the wellhead will not mean a doubling of residential bills. For a typical household in the Midwest, prices are forecast to average about $8.40 per thousand cubic feet, which is about 27 percent higher than last winter (Figure 8). We also expect households to consume more natural gas than last year, if this winter exhibits a normal weather pattern. The combination of higher prices and higher consumption will result in this typical household paying more than $730 for natural gas this winter, which is about $220 or approximately 40 percent more than the prior winter’s heating bill. About two thirds of this $220 increase is attributable to higher prices, and the remaining one third is due to a return to average winter temperatures.

Propane

Propane also merits some concern this year. Prices are high relative to last year, largely a result of crude oil price increases, but inventories are within normal ranges for all regions but the Midwest. Midwest inventories at the end of August were 14 percent below their 10-year average for this time of year. While stock levels in this region may yet recover, strong demand for crop drying could increase demand for propane, preventing stocks from completely rebuilding. The Department of Agriculture is predicting a record corn crop this year, but there is uncertainty as to the level of drying needs. Regardless, we are watching the Midwest propane situation closely.

Gasoline and Diesel

Diesel fuel and heating oil experience similar price pressures. While these fuels have different sulfur levels, they come from the same part of a barrel of crude oil. Low- sulfur distillate stocks, which represent diesel inventories, generally are not below the normal range. But because diesel fuel can be used to serve heating oil markets, diesel prices tend to follow heating oil prices during the heating season. As we saw last winter on the East Coast, a price run-up in the heating oil market can spill over to diesel prices. This winter, we expect on-highway diesel fuel prices to average $1.49 per gallon, which is about 15 cents per gallon over last winter’s prices.

Gasoline markets are generally improving. We have passed the high demand, high production summer period and are now using the winter formulation gasoline, which is easier to produce than the summer formulation. Inventories are now in the normal range. However, temporary regional problems could still occur, such as those sometimes seen in California, when supply difficulties such as unanticipated pipeline or refinery shutdowns arise. On average, EIA expects gasoline prices this winter to be about 7 cents per gallon higher than last winter – mainly reflecting higher crude oil prices.

Summary

In summary, we are in the midst of a year of volatility for crude oil, refined products, and natural gas. As we begin the winter heating season, prices for all heating fuels are higher than last year, and inventories are low. Although increased world crude production should begin to help markets build inventories back toward normal levels, the process likely will be slow, and petroleum inventories worldwide are likely to remain low into 2001. With low inventories for crude oil and refined products, unexpected supply disruptions or demand changes can cause disproportionate product price movements.

EIA has been trying to help consumers prepare for the possibility of a winter of high prices and potential price volatility by alerting the public, industry, regulators, and Government decision-makers to the situation. In addition to our usual Web-based products and publications, we have made numerous presentations around the country and will be providing further information at our annual Winter Fuels Conference on October 6. EIA and the participating States will also be collecting and publishing heating oil and propane prices weekly this year, instead of twice per month, reflecting increased interest in this topic.

This concludes my testimony. I would be glad to answer any questions you may have.