Legislature(1997 - 1998)

01/21/1998 09:10 AM Senate FIN

Audio Topic
* first hearing in first committee of referral
+ teleconferenced
= bill was previously heard/scheduled
txt
                          MINUTES                                            
                 SENATE FINANCE COMMITTEE                                    
                      21 January 1998                                        
                         9:10 A.M.                                           
                                                                               
                                                                               
TAPES                                                                      
                                                                             
SFC-98, Tape 2, Sides A and B                                                  
                                                                               
CALL TO ORDER                                                              
                                                                             
Senator  Drew  Pearce,  Co-chair, convened  the  meeting  at                   
approximately 9:10 a.m.                                                        
                                                                               
PRESENT                                                                    
                                                                             
In addition  to Co-chair  Pearce, Senators  Sharp, Phillips,                   
Donley, Torgerson, and Adams were present at the meeting.                      
                                                                               
Also  present: Wilson  Condon,  Commissioner, Department  of               
Revenue;   Charles  Logsdon,   Chief  Petroleum   Economist,                   
Department  of Revenue;  Senator  Jerry  Ward; Senator  Rick                   
Halford;  Mike  Greany;   Dave  Tonkovich,  Fiscal  Analyst,                   
Division of  Legislative Finance;  Clark Gruening;  aides to                   
committee members and other members of the Legislature.                        
                                                                               
Via teleconference:  Ann-Louise Hittle, Director,  World Oil               
Team, Cambridge Energy Research Associates.                                    
                                                                               
SUMMARY INFORMATION                                                        
                                                                               
^OVERVIEW: PETROLEUM PRICE FORECAST                                          
                                                                               
Co-chair  Pearce  announced  that  there  would  be  a  work                   
session  on results-based  budgeting  with  Craig Holt.  She                   
noted that  childcare programs would  be used as  an example                   
of going  through the process of  developing a results-based                   
budget. On  Friday morning  there would be  a review  of the                   
current  and projected  state  employment  situation by  the                   
Department of  Labor. There would  then be a report  by Ross                   
Kinney of  the Department of  Revenue (DOR) on the  state of                   
Constitutional   Budget  Reserve   (CBR),   the  Office   of                   
Management  and Budget  (OMB) would  provide an  update, and                   
Commissioner  Boyer would  provide  a status  report on  the                   
collective-bargaining contracts.                                               
                                                                               
WILSON   CONDON,   COMMISSIONER,  DEPARTMENT   OF   REVENUE,                   
provided  introductory remarks  to the  presentation on  the                   
petroleum  price  forecast. He  stated  that  DOR staff  had                   
worked with  professional assistants from the  Department of                   
Natural  Resources (DNR),  the  Department  of Labor  (DOL),                   
OMB,  and  economists  from  the  University  of  Alaska  to                   
complete  the  annual  long-term  price  forecast  in  early                   
November.  Since then,  the Alaska  North  Slope (ANS)  spot                   
price  for  deliveries on  the  West  Coast had  dropped  to                   
around  $5 per  barrel.  Instead of  the  $18.11 per  barrel                   
average  ANS  delivered  price   forecast  for  FY  98,  the                   
department believed  the average price for  the current year                   
would  be  $16.65  per  barrel, a  reduction  of  $1.50  per                   
barrel.                                                                        
                                                                               
Commissioner   Condon   reported  that   the   corresponding                   
reduction  in unrestricted  general  funds  for the  current                   
fiscal  year would  be approximately  $131 million,  or less                   
than the  November forecast. For  FY 99, the  department had                   
forecast an  ANS price  of $18.22;  the fall  forecast would                   
use   the  quoted   futures  price   for  WTI   [West  Texas                   
Intermediate] and  make the appropriate  quality adjustment.                   
The  ANS price  for  FY  99 currently  would  be $16.45  per                   
barrel,  or   $1.75  below   the  forecast;   the  resulting                   
reduction  would  be  about $161  million  in  general  fund                   
revenue.                                                                       
                                                                               
Commissioner  Condon noted  that  the state  had learned  to                   
live with volatility in the  crude-oil markets over the past                   
twenty years.  Four years prior,  the ANS price was  $11 per                   
barrel. He believed  the real question facing  the state was                   
whether the  dip in price being  experienced represented the                   
fundamental change  in the market that  had been experienced                   
for the past decade.                                                           
                                                                               
Commissioner  Condon pointed  to the  first chart  ("ANS-WC,                   
Nominal $'s, 6-87-12/97, 127 months")  in the handouts (copy                   
on file) as  a depiction of the market for  the past ten and                   
one-half years; 80  percent of the time,  prices fell within                   
the range of  about $14 per barrel to $20.50  per barrel. He                   
explained that  the squiggly line  on the  chart represented                   
the  rolling  twelve-month average  of  ANS  prices; at  any                   
point  time,  the number  was  an  average of  the  previous                   
twelve months (delivered prices on the West Coast).                            
                                                                               
Commissioner   Condon  explained   that  the   second  chart                   
("Distribution of  ANS West Coast Spot  Prices") represented                   
the average monthly  price for each month for  the same time                   
period  covered in  the first  chart, but  broken down  into                   
$0.50  intervals  by  frequency.   He  underlined  that  the                   
monthly  prices were  distributed in  a classic  bell curve.                   
The most  frequent interval  had been  $17.00 to  $17.50 per                   
barrel, and  the average  price over the  same ten  and one-                   
half year  period had  been about  $17.35. He  stressed that                   
over  the  time period,  the  trading  range for  ANS  crude                   
delivered  on the  West Coast  had fallen  generally in  the                   
range of $15 to $18 per barrel.                                                
                                                                               
Commissioner Condon  offered that  the question  was whether                   
there had been  a longer-term change in the  trade range. He                   
stated  that  the  department  did not  think  so,  but  the                   
question would be addressed later in the presentation.                         
                                                                               
Senator Phillips  queried the average price  per barrel over                   
the past  twenty years.  Commissioner Condon  responded that                   
the average price  over the past twenty years  was about $21                   
per barrel.                                                                    
                                                                               
CHARLES  LOGSDON, CHIEF  PETROLEUM ECONOMIST,  DEPARTMENT OF                   
REVENUE, directed  the committee  to the  third page  of the                   
handout,  "ANS  West Spot  Price  (May  1987-Jan 1998)."  He                   
believed a  similar chart had been  used in the past  by the                   
committee  to  reflect  the cyclical  nature  of  oil  price                   
movements; he  stressed that prices  had fallen to  very low                   
levels before. The  most recent dip was  almost exactly four                   
years  prior when  the price  was  below $11  per barrel  in                   
December  1993 and  just  above $11  per  barrel in  January                   
1994.                                                                          
                                                                               
Dr. Logsdon detailed that the  first significant crash was a                   
response  to   an  OPEC   [Organization  of   the  Petroleum                   
Exporting  Countries]  agreement  which  brought  production                   
under  control following  the crash  of 1986;  however, OPEC                   
overproduced  when  the  price  got  better  and  there  was                   
another  crash in  1989. He  noted that  a number  of people                   
from  Alaska and  other states  went  to Vienna  in 1989  to                   
attend an  OPEC meeting. The  next significant crash  was in                   
the  1990s;  some  argued   that  overproduction  by  Kuwait                   
precipitated  the Persian  Gulf War.  He continued  that the                   
most  recent slide  in oil  prices had  occurred about  four                   
years  prior for  several  reasons,  including the  economic                   
recovery in the U.S. in 1992 and non-OPEC production.                          
                                                                               
Dr.  Logsdon noted  that prices  were high  in 1995  through                   
1997 and that the fairly long  period of high prices had led                   
many to  talk of  a fundamental  shift upward.  The forecast                   
prepared  the previous  fall projected  prices coming  down,                   
but things had deteriorated faster than anticipated.                           
                                                                               
Dr. Logsdon  pointed to a  trend line  in the middle  of the                   
third chart ("ANS  West Spot Price") showing  that since May                   
1987, the price of oil had  tended to trend upward at a very                   
modest rate. So far, the  long-term average from May of 1987                   
through December  of 1997  was $17.35  per barrel.  He noted                   
that the interval  was chosen because of  data available and                   
because  he wanted  to stick  with the  ANS West  Coast Spot                   
Price, which  did not start  reporting reliably  until about                   
May 1987.                                                                      
                                                                               
Dr.  Logsdon questioned  why the  state had  been caught  by                   
surprise. He  stated that the  fundamental, bottom  line was                   
that supply had succeeded demand  in the past year, based on                   
IEA  [International  Energy   Authority]  numbers  comparing                   
supply and  demand for  the fourth quarter  of 1996  and the                   
fourth quarter of  1997; about 700,000 barrels  per day came                   
into the market in excess  of what was consumed. He referred                   
to the third  chart illustrating the beginning  of the slide                   
in  oil prices  in January  1997, which  coincided with  the                   
initiation  of   oil  exports  from  Iraq   ("food  for  oil                   
exports"). At  the same time,  OPEC production had  grown by                   
1.8 million barrels  per day in 1997, which  was ratified by                   
the cartel  in late  November when  they raised  their quota                   
from 25 million to 27.5 million barrels per day.                               
                                                                               
Dr.  Logsdon  noted  that there  was  an  additional  factor                   
affecting the supply and demand  that the department was not                   
able to analyze  at the time of the forecast:  the impact of                   
the financial crisis in Asia  on the real economy, which was                   
still unfolding. He  did not know the  outcome, but asserted                   
that a  great deal of  uncertainty had been  introduced into                   
the  oil markets.  He believed  there  would be  significant                   
additional downward  pressure on the market.  There was also                   
concern related to additional production  coming out of OPEC                   
that had  led to  prices in  the $14  per barrel  range once                   
again.                                                                         
                                                                               
Dr.  Logsdon moved  to the  next table,  which depicted  the                   
situation the  state was facing.  He reminded  the committee                   
that  the  forecast  was not  supported  by  current  market                   
information. Every  month, the  department put  a newsletter                   
called  "Revenues"  on its  home  page,  which assessed  the                   
market based strictly on projections  by the NYMEX [New York                   
Mercantile Exchange]/WTI contract.  Quality adjustments were                   
made, and the department came  up with a market forecast. He                   
noted that the  forecast was not based on  a qualitative and                   
quantitative  evaluation  of  trends and  key  supply/demand                   
perimeters,  which was  done when  an official  forecast was                   
made;  it presented  a way  to keep  track of  how well  the                   
official forecast matched  up with what the  market said was                   
happening.  The  $16.64  market  number  was  based  on  the                   
previous Friday's  futures prices  and a  revenue projection                   
of  $1.95 billion  in 1998  and  $1.84 billion  unrestricted                   
general funds  forecast for FY  99; the prices  were roughly                   
around $16.50 per  barrel. The state was  about $131 million                   
below the fall forecast and about $161 million below FY 99.                    
                                                                               
Dr.  Logsdon maintained  that the  paper  markets could  not                   
tell too  much about FY  2000 and beyond. The  paper markets                   
were not  liquid once out  a couple  of months; most  of the                   
buying and setting activity occurred  in a short horizon. He                   
reported  market  prices  in the  $16.50  per  barrel  range                   
through 1999,  but in  the fall  forecast, they  thought the                   
price would grow up to $19.50 per barrel.                                      
                                                                               
Dr. Logsdon turned to the  next chart, "Unrestricted General                   
Fund Revenues  for Different  Oil Price  Scenarios," showing                   
the fall forecast compared with  calculations for $17.35 per                   
barrel and a  low case of $15 per barrel.  He explained that                   
the purpose  of the  chart was  to illustrate  the potential                   
range of  oil prices over  the next five years.  He believed                   
the  state could  maintain revenues  something in  excess of                   
$1.9 billion  per year for the  next five years; at  the $15                   
per barrel price,  revenues could be as low  as $1.5 billion                   
by 2003.                                                                       
                                                                               
Dr. Logsdon  thought the question was  whether something had                   
changed to  verify that  there was a  new trading  range. He                   
provided two  bar charts comparing DOR  forecasts with other                   
forecasters  for the  years 2000  and 2005.  He pointed  out                   
that the  charts were displayed  in 1997  dollars (adjusting                   
for  inflation).  The 2000  chart  ranged  from a  lower-end                   
forecast  by Petroleum  Information  Research Associates  (a                   
consulting firm out  of New York providing  oil analysis and                   
price  forecasting mostly  for the  industry) at  $15.00 per                   
barrel, to a  higher-end forecast by the  U.S. Department of                   
Energy at  close to  $19.00 per  barrel. He  emphasized that                   
DOR was in  the bottom group. The 2005  chart showed similar                   
results,  with  the bottom  at  $15.00  per barrel  (by  the                   
Petroleum Information  Research Associates)  and the  top at                   
around  $27.00  per  barrel  (by  the  International  Energy                   
Administration);  DOR's forecast  was at  around $17.00  per                   
barrel.                                                                        
                                                                               
Dr.  Logsdon  concluded with  remarks  about  the oil  price                   
market.  He  noted the  price  had  been $14.00  per  barrel                   
before, and  it was  likely that the  price would  be $14.00                   
per barrel  again in the  future. Over time, the  only thing                   
that could be known with  certainty was that oil prices were                   
volatile. Statistically,  the average had been  about $17.35                   
per barrel since  1987; prices were below  $14.00 per barrel                   
roughly 10  percent of the  time. He believed  the long-term                   
price should not  be changed. He anticipated  that DOR would                   
be making  fundamental assessments  of trends in  the market                   
when the spring  update was done in March.  He was confident                   
that the approach was good.                                                    
                                                                               
Senator Sharp queried the average  price increase related to                   
the  third  page of  the  handout  ("ANS West  Spot  Price")                   
[testimony garbled].  Dr. Logsdon  replied that  the average                   
would be  dropped to  about $16.50 per  barrel if  the spike                   
were  removed;  however, the  trend  would  still be  upward                   
because of good prices in the past 18 to 20 months.                            
                                                                               
Senator  Adams  asked  whether   OPEC  would  be  setting  a                   
different world  daily-prediction quota, which  included the                   
production rate of  Iraq and other non-OPEC  nations so that                   
OPEC  could  stabilize or  control  the  price of  oil.  Dr.                   
Logsdon  responded  that OPEC's  price-monitoring  committee                   
had a monthly meeting and that  a meeting would be coming up                   
the  following month.  He noted  that Saudi  Arabia was  not                   
involved,  but OPEC  was designed  to address  the described                   
issues.  He added  that  OPEC's track  record  had not  been                   
excellent;  however, when  prices were  very low  ($10.00 to                   
$12.00  per   barrel),  OPEC  had   been  able   to  control                   
production to  a certain  extent and  the prices  started to                   
move  back up.  He  noted  that DOR  would  be watching  the                   
situation closely.  His understanding was that  the position                   
of  key  countries  with   large  reserves  (Saudi  Arabia's                   
official  position in  the late  November meeting)  was that                   
the   economy  would   grow  enough   to  absorb   increased                   
production coming out  of OPEC; they also  believe that non-                   
OPEC  production increases  would fall  short of  target. He                   
thought a change  could occur in the position  if the market                   
continued to erode, but in the  short term, he did not think                   
OPEC would  do something that  would support oil  prices and                   
move them back up again.                                                       
                                                                               
Senator  Adams  pointed to  a  chart  that did  not  include                   
Alaska production. He  wanted a chart showing  the daily and                   
yearly production rate of Alaska  oil in the next five years                   
related to  future oil prices.  Dr. Logsdon replied  that he                   
could provide the information.                                                 
                                                                               
Senator Phillips asked whether  there could be consideration                   
of an amount representing  the 10-year, 15-year, and 20-year                   
average price of  oil, with anything above  the amount going                   
into the  CBR and anything  below taken  out of the  CBR. He                   
opined that the price per  barrel should be chosen at $16.50                   
or $17.00  for the year-to-year  budget, and the  CBR should                   
be  used as  a  balancing fund  for  price fluctuation.  Dr.                   
Logsdon  responded  that the  idea  had  been discussed;  in                   
essence, the  state was doing  that, except that  the policy                   
spiked when oil  was roughly $21 per barrel.  Money had been                   
put into  the CBR  fund. However,  many other  changes would                   
have to be  made in the financial planning  process to build                   
arrangements around $16.00 or $17.00 per barrel prices.                        
                                                                               
Senator  Phillips  wanted  to  act  rather  than  react.  He                   
thought his proposal would help  build confidence that there                   
was  a stable  year-to-year process.  Dr. Logsdon  responded                   
that  steps had  been taken  in the  described direction  by                   
establishing the CBR fund and  then taking actions to ensure                   
that it had a balance of $3.1 to $3.2 billion.                                 
                                                                               
Co-chair Pearce  queried which percentage of  world-wide oil                   
production  came  from  OPEC  between  1987  and  1997.  She                   
wondered  whether OPEC's  share was  going up  or down.  Dr.                   
Logsdon  replied that  OPEC's share  had gone  down but  had                   
been  increasing over  the past  five years.  He noted  that                   
OPEC's  market share  peaked in  the late  1970s, when  they                   
were moving  30 million barrels  per day and had  about half                   
the world's production. Currently,  OPEC was producing about                   
27 million of the world's  consumption of 70 million barrels                   
per day  and the  market share  was lower  than in  1979. He                   
added that market-share issues were  very important to OPEC,                   
and  was  one   of  the  key  target   variables  that  were                   
considered  in terms  of allocating  quotas. He  referred to                   
speculation related to Saudi Arabia and Venezuela.                             
                                                                               
ANN-LOUISE  HITTLE,  DIRECTOR,  WORLD  OIL  TEAM,  CAMBRIDGE                   
ENERGY RESEARCH  ASSOCIATES (via teleconference),  offered a                   
presentation on  the organization's  price outlook  for ANS.                   
She referred to a committee  handout, "The 1995-99 Oil Price                   
Environment: ANS."  She explained  that the overall  view on                   
prices had  always been that  prices would be lower  in 1998                   
from 1997;  the extent of  the downward price move  had been                   
accentuated  by  recent  developments, many  of  which  were                   
discussed  in   the  previous  presentation.   According  to                   
Cambridge  Energy  calculations,  ANS  averaged  $19.00  per                   
barrel  in 1997;  given the  range of  uncertainties in  the                   
market  (including   the  outcome  of  the   Asian  currency                   
crisis), the numbers  anticipated in 1998 were  in the range                   
of $16.00 per  barrel on the high side on  an annual average                   
basis to $13.50 per barrel on the low side.                                    
                                                                               
Ms.  Hittle explained  that  during  1997, Cambridge  Energy                   
used  a  down-side  price risk  well  below  their  standard                   
outlook, called the "modified good  sweating" because of the                   
possibility that  Saudi Arabia  in particular had  a market-                   
share decline related  to Venezuela and others  in OPEC such                   
as  Algeria,  Qatar,  and  Nigeria,  which  increased  their                   
market share;  in an attempt  to stake out market  share for                   
themselves  before  sanctions   were  lifted  against  Iraq,                   
Cambridge  Energy felt  that the  threat  or possibility  of                   
going into modified good sweating  mode existed during 1997.                   
She detailed  that modified  good sweating  was a  term they                   
had  borrowed from  John D.  Rockefeller  which referred  to                   
"sweating  out"  the  competition   of  other  producers  by                   
increasing one's  own production and  therefore dramatically                   
lowering  prices   and  forcing   other  producers   to  cut                   
production.                                                                    
                                                                               
Ms.  Hittle continued  that there  had  been a  move in  the                   
direction  of modified  good sweating  at the  November 1997                   
OPEC  meeting  and the  current  lower-price  range. At  the                   
meeting,  the Saudis  pressed for  a quota  increase from  8                   
million to 8.76 million barrels  per day and an overall lift                   
in the quota  to 7.5 [million barrels per  day]. She thought                   
they had  a very bullish  view on world economic  growth and                   
Asian  demand.  At  the  time, the  approach  was  not  that                   
unwarranted; a lot  of the worsening of  the currency crisis                   
had  occurred since  that OPEC  meeting. In  particular, the                   
unraveling  of the  situation in  Korea  occurred very  much                   
towards the  end of the  year, well after the  OPEC meeting.                   
The timing issue was of  significance because if OPEC was to                   
try  and do  something in  the current  year to  address the                   
situation, they  could argue that  while they agreed  to the                   
new  quota,  there  was  room  to move  back  to  the  lower                   
previous  quota  for  a  temporary period  of  time  on  the                   
judgment that  they misgauged demand growth.  Therefore, the                   
timing  on applying  the higher  quota  was off,  and for  a                   
given amount of  time, they might want to move  to the lower                   
quota.                                                                         
                                                                               
Ms. Hittle stressed  that it was not likely  that OPEC would                   
maneuver coherently  and at the  right time. She  thought it                   
would be difficult  to pull off, but was one  way OPEC could                   
handle the  situation with lower prices,  given enough price                   
pressure,  and given  the  fact that  the  Saudis were  very                   
determined not  to move back  into a swing-producer  role by                   
themselves.                                                                    
                                                                               
Ms. Hittle  added that there  were four factors  spelled out                   
in the fourth quarter that could unravel prices:                               
                                                                               
   · Worsening of the Asian currency crisis;                                   
   · Mild winter weather in key heating regions in the                         
     U.S., Europe, and Asia (because of high inventories                       
     building);                                                                
   · Weakening of economies in the U.S. and Europe; and                        
   · Increase in the amount of oil that Iraq was allowed to                    
     export.                                                                   
                                                                               
Ms.  Hittle  reported that  three  of  the factors  were  in                   
development  (the first  two and  the last).  Iraq's limited                   
oil  exports were  expected to  be increased  by 50  percent                   
towards  the  end of  the  quarter,  adding another  400,000                   
barrels per  day of Iraqi  crude oil into the  market beyond                   
the 1997  rate. The Asian  currency crisis had had  a direct                   
affect  on  oil-demand growth  outlooks;  in  the middle  of                   
1997, Cambridge Energy was  expecting total world oil-demand                   
growth in 1998 to be about  1.9 million barrels per day, but                   
the growth rate was lowered  to 1.5 million barrels per day.                   
Cambridge Energy  was in the  process of  reconsidering each                   
country in  the region of  Asia, with a very  likely outcome                   
of  adjusting the  1998 growth  rate  downward and  possibly                   
having an  effect on  the total  world oil  demand of  up to                   
100,000 to 200,000 barrels per  day. The trend was likely to                   
continue into  1999, until there  was recovery in  the Asian                   
currency situation.                                                            
                                                                               
Ms.  Hittle  turned  attention  to how  the  ANS  oil  price                   
(annual  average  basis)  could  fall along  the  $16.00  to                   
$13.50 per barrel range. She  listed developments that could                   
occur to push to the high side of the range:                                   
                                                                               
   · Iraq deciding again  to hold limited oil  exports for a                   
     significant period of time. Iraq's overall strategic                      
     imperative was to get sanctions lifted.                                   
   · Non-OPEC production could come  in lower than expected.                   
     The current outlook was for non-OPEC production to                        
     increase 1.2 million barrels per day over 1997 in                         
     1998. There had been delays and problems.                                 
   · Quicker recovery than expected  from the Asian currency                   
     crisis.                                                                   
   · Stronger  U.S.   growth  and  oil-demand   growth  than                   
     expected; Cambridge Energy assumed U.S. economic gross                    
     domestic product (GDP) growth for the year of 2 to 2.5                    
     percent.                                                                  
                                                                               
Ms. Hittle turned  attention to the middle of  the range, or                   
the  modified good  sweating,  where  the current  situation                   
was; the  annual average on  an ANS basis was  around $14.70                   
per barrel for 1998, assuming the fundamentals, including:                     
                                                                               
   · Non-OPEC increase of 1.2 million barrels per day;                         
   · An increase  in OPEC  production of about  1.5 millions                   
     per day;                                                                  
   · Increase  in OPEC  NGOs of  about  100,000 barrels  per                   
     day; and                                                                  
   · A total  of 2.8  million barrels  per day,  against the                   
     demand-growth assumption of 1.5 million barrels                           
     mentioned earlier.                                                        
                                                                               
Ms. Hittle  continued that  the numbers  would arrive  at an                   
annual average of around $14.00 per barrel for the ANS.                        
                                                                               
Ms.  Hittle  turned to  the  downside  risk and  the  "lower                   
band." She believed the situation  would be very much driven                   
by the Asian  currency crisis, if it worsened  and spread to                   
having a  significant effect  on China's  economic situation                   
and  oil  demand.  She  noted that  there  had  been  little                   
adjustment  for Chinese  oil-demand outlook  for 1998  since                   
the crisis  occurred; most of  the adjustment had  been made                   
on the non-OECD [Organization  for Economic Co-operation and                   
Development] nations.  The situation could move  towards the                   
downside of  the range  (roughly $13.50  per barrel)  if the                   
crisis  significantly   affected  China's  oil   demand  and                   
economy  and  started  to  affect   the  U.S.  and  European                   
economies.                                                                     
                                                                               
Ms. Hittle  directed attention to  the year  1999. Cambridge                   
Energy  anticipated prices  moving up  a bit  as the  market                   
came more in  balance. She stated that  the fundamentals for                   
1999 (based on the modified  good sweating outlook, a fairly                   
optimistic  recovery  rate on  the  Asian  currency rate  in                   
1999) anticipated  that world oil  demand would  increase to                   
around  1.6  to  1.7  million barrels  per  day  (a  "moving                   
target" given the uncertainty of  the crisis). On the supply                   
side, the expectation for 1999 was:                                            
                                                                               
   · Non-OPEC increase of about 1.3 million barrels;                           
   · OPEC crude increasing at a slower rate of about                           
     700,000 barrels per day;                                                  
  · OPEC NGOs increasing at 100,000 barrels per day; and                       
   · A total increase of 2.1 million barrels per day.                          
                                                                               
Ms. Hittle  reiterated that  Cambridge Energy  anticipated a                   
bit  of a  recovery in  prices for  1999. She  indicated the                   
chart, showing  some weakness in  the third  quarter because                   
of  the  potential  for oversupply;  on  an  average  annual                   
basis, the  average rate would  be around $15.40  per barrel                   
in the modified good sweating scenario.                                        
                                                                               
Ms. Hittle  reported that the  upside range could  be $16.70                   
per  barrel;  the  downside  numbers   could  occur  if  the                   
currency crisis worsened.                                                      
                                                                               
[SFC-98, Tape 2, Side B]                                                       
                                                                               
Ms. Hittle  spoke to the  longer-term forecast.  She relayed                   
that one  year prior, Cambridge Energy  would have predicted                   
that  prices in  1998 and  1999  would be  weaker than  they                   
previously  had  been.  The  "disruption"  had  delayed  the                   
expected tightening in the market  from around 2000 and 2001                   
to 2002. For example, in  2000, prices for ANS might average                   
a  move up  towards  $16.00 per  barrel  (assuming a  robust                   
recovery in the Asian currency  crisis) and start to move up                   
after the year  2000. The long-term outlook  was towards the                   
flat  nominal  under  world  economic growth  of  2  to  2.5                   
percent occurring  in the 2001  and 2002 period.  A stronger                   
world  economic  growth  of  3 to  3.5  percent  would  move                   
higher.  She reminded  the committee  that the  numbers were                   
averages and to  keep in mind that there was  ample room for                   
volatility, but over  the longer run, the  tendency would be                   
in the described direction, with  weakness in the interim as                   
the Asian currency crisis was  weathered. She added that the                   
recovery in  price would be  pushed further into  the future                   
if the currency crisis worsened significantly.                                 
                                                                               
SENATOR  JERRY  WARD  asked  for  details  about  the  Asian                   
currency  crisis  and how  it  had  been factored  into  the                   
projections.  Ms.  Hittle  warned  against  overplaying  the                   
effect;  what  had  occurred  in   the  current  market  had                   
happened  on  both the  demand  and  the supply  sides.  She                   
emphasized  that the  effect of  OPEC deciding  to go  for a                   
higher quota should not be  minimized; it brought a lot more                   
oil into  the market. The  importance of the  Asian currency                   
crisis was  that before 1998,  there had been  strong demand                   
growth  in Asia  and  Latin America  (and  North America  in                   
1997) that kept  supply and demand more or  less in balance.                   
The imbalance was  created by the loss of  the demand growth                   
as well  as the  increase of  OPEC production.  In addition,                   
the  continuing increase  of  Venezuela's capacity  (300,000                   
barrels per  day in 1998)  and its determination  to produce                   
regardless of any quotas was important.                                        
                                                                               
Ms.  Hittle   addressed  the  Asian  currency   crisis.  She                   
reported that Cambridge Energy was  going country by country                   
and product  by product looking  at the balance  between gas                   
and oil and  trying to figure out the effect  of the crisis.                   
For example, the sharp devaluation  of the currency had hurt                   
demand;  people were  losing jobs  and  commuting less,  and                   
refineries were  producing but not selling.  There was still                   
demand  growth overall  year-on-year, but  the weakening  of                   
the  economy  was  having  an  effect  in  Asia.  She  still                   
expected  growth in  North America;  Europe was  on its  own                   
because of  strong gas  competition there.  Cambridge Energy                   
had  tried to  deal with  the  situation by  looking at  the                   
downside risk.                                                                 
                                                                               
Senator Sharp  queried the process  of measuring  the effect                   
of the  currency crisis  on the  economies of  various Asian                   
countries, especially  the actual reductions  from projected                   
consumption.  Ms.  Hittle  replied that  the  effect  varied                   
country  to  country. Cambridge  Energy  was  trying to  get                   
numbers that  were as  current as  possible. She  offered to                   
get  more   information  about  exact   time  lag   for  key                   
countries. She thought there would  be readings by April for                   
the first quarter.                                                             
                                                                               
Senator  Sharp asked  when the  OPEC meeting  was scheduled.                   
Ms.  Hittle replied  that the  monitoring committee  meeting                   
would be the following week.                                                   
                                                                               
SENATOR  RICK  HALFORD  queried  indications  of  upward  or                   
downward  movement,  such  as  how  various  countries  were                   
affected  one way  or  the other,  so  that the  legislature                   
would  have "signposts"  to work  with.  Ms. Hittle  replied                   
that  the next  country Cambridge  Energy was  worried about                   
was  Malaysia. The  next  key country  to  watch was  China.                   
Taiwan  so  far  had  been  insulated  as  its  economy  was                   
oriented  towards service,  but  she felt  it  needed to  be                   
watched as well. On the  political side of the equation, she                   
suggested watching  what happened  to Indonesia in  terms of                   
stability. She mentioned elections  in Thailand and Korea in                   
terms of  the ability  of the governments  to deal  with the                   
issue.  Overall,  the  situation in  Thailand  was  somewhat                   
stable, and they  hoped that would continue.  She added that                   
another  signpost would  be relations  between Iraq  and the                   
U.S.; for example, if the  U.S. took military action against                   
Iraq  during  the  quarter (although  the  U.S.  wanted  the                   
limited exports to continue moving,  even if military action                   
was taken). She noted that  the decision whether to increase                   
Iraq's volumes  would be  made in  March; another  window of                   
opportunity  would occur  in June  or early  July. For  Asia                   
overall,  she  believed  the  concern  was  about  political                   
stability.                                                                     
                                                                               
Senator  Halford  asked for  examples  of  countries on  the                   
upside  as  well.  Ms.  Hittle  responded  that  uncertainty                   
resulting from Iraq's  decisions not to hold  to the limited                   
oil sales plan  was a factor. From an export  point of view,                   
if Iraq  did the same  thing again, about 1  million barrels                   
per day would  be taken out of the market,  which would have                   
an  effect on  the supply  side of  the equation.  Secondly,                   
there were  non-OPEC problems. For  example, there  could be                   
possible delays in Columbia.  Cambridge Energy's outlook for                   
Columbia to increase production  the previous year was based                   
on the start-up of the  new pipeline, which was in progress.                   
However,  the terrorism  situation could  have an  effect on                   
exports,  and that  would  help  lower non-OPEC  production.                   
Finally, she  pointed to larger-than-expected oil  demand in                   
North  America as  something  to  watch. Cambridge  Energy's                   
outlook  assumed  oil-demand  growth   in  1998  of  between                   
200,000 and 250,000  barrels per day. Stronger-than-expected                   
oil-demand  growth and  economic  growth in  the U.S.  would                   
help  offset the  Asian currency  crisis. In  addition, OPEC                   
might ultimately  try and come  up with an  interim solution                   
related to lower quotas.                                                       
                                                                               
Senator Halford queried the  differentials between ANS, West                   
Texas  Intermediate,   and  Saudi  Arabia  oil   prices.  He                   
wondered whether  there was a  pattern. Ms.  Hittle answered                   
that  Cambridge Energy  had a  quarter-by-quarter historical                   
database of the  differential. She noted that  the prices on                   
the earlier-discussed chart were  based on an annual average                   
of  the  differentials,  looking forward.  The  differential                   
used  was $1.60  for  1998  and 1999;  it  was  used on  the                   
assumption  there  was  nothing drastically  altered  on  an                   
annual basis. She agreed that  there were lows of volatility                   
in  the interim.  Cambridge  Energy did  not  see reason  to                   
adjust  annually. The  Asian currency  crisis, for  example,                   
was considered; their analysis was  that overall there would                   
be a  crude shortage,  which would not  significantly weaken                   
ANS [prices].                                                                  
                                                                               
Co-chair Pearce reviewed future plans for meetings.                            
                                                                               
ADJOURNMENT                                                                
                                                                               
Co-chair Pearce adjourned the meeting.                                         
                                                                               
                                                                               

Document Name Date/Time Subjects