How Texas Ingenuity Turned the Tables on OPEC, Made the U.S. an Energy Powerhouse and Slashed Oil Prices

Last year, Texas lost more jobs in the oil and gas sector (about 100,000) than the number of jobs in the entire U.S. wind industry (88,000).

Oil prices are down about 50 percent since June 2014. And since early 2015, more than 40 Texas oil and gas companies have filed for bankruptcy, and some 75 others are on what consulting firm Deloitte calls its danger list.

Of course, no one in Washington is calling for subsidies to the oil and gas sector or worried about saving oil-patch jobs. By contrast, in December, Congress made sure to protect the wind industry by passing a five-year extension of the production-tax credit, a lucrative subsidy that pays wind-energy firms $23 for each megawatt-hour of electricity that they produce.

For some Easterners, hard times in Texas are cause for celebration. In mid-2015, when oil prices dropped under $60 per barrel amid layoffs in the oil and gas sector, New York Times columnist Paul Krugman crowed about news that the state's employment growth had fallen below the national average. The explanation, he said, was "all about hydrocarbons."

Krugman and others may delight in the misfortune of Texas's oil and gas producers, but they forget that the main reason oil prices have fallen so far, so fast, is due to ingenuity, much of it developed in Houston, Dallas and Midland.

Technological innovation in everything from drill bits and mud pumps to seismic analysis and digitally controlled drilling rigs has unlocked galaxies of energy that have helped transform America into an energy superpower. The U.S. now has an energy-price advantage on commodities like natural gas, propane, ethane and even electricity over nearly every other country. That advantage is a direct result of the dynamism of the domestic oil and gas business, the epicenter of which remains in Texas.

oday's oil-price plunge is largely due to the shale revolution, which started in Texas and has made the U.S. the world's biggest oil and natural-gas producer, leading to record levels of oil in storage. Between 2009 and 2015, U.S. oil production grew by about 3.9 million barrels per day. And nearly 60 percent of that increase -- some 2.3 million barrels per day -- came from Texas.

Texas now accounts for about 37 percent of daily U.S. oil production and about 27 percent of all domestic natural gas output.

The Lone Star State is once again exerting outsize influence on global prices, an echo of its storied past. But this time aroundthe pace of development of new technologies suggests that we may be headed into a new era of higher oil production and lower prices, with Texas leading the way.

OPEC had its roots in Texas

The recent collapse in oil prices recalls what happened after a Bible-quoting promoter named Dad Joiner discovered the East Texas Oil Field in 1930. Within a year of Joiner's discovery, oil flooded the market, and prices plummeted.

By early 1930, Columbus Marion "Dad" Joiner had been drilling for oil in East Texas for three years , and all he had to show for it were some good stories and a lot of heartache. But the rotund, loquacious, 60-something promoter from Alabama kept drilling. He knew that there was oil in Rusk County, and he believed that if he could get his drill bit below 3,500 feet (more than three times the depth of the state's first great oil well, drilled at Spindletop three decades earlier) he'd have success.

Joiner's first well, the Daisy Bradford No. 1, failed when his drill bit jammed at 1,098 feet. The Daisy Bradford No. 2 was halted at 2,000 feet, when the drill pipe got hung up in the hole. By that time, Joiner was broke again. In May 1929, he started work in the Daisy Bradford No. 3, though he was often restricted to drilling on Sundays, the only day of the week that he could scrounge together a volunteer crew. One scout for a major oil company reportedly visited the site 20 times and never found it operating.

Joiner's progress was slow, and his money was gone. But the locals kept the faith.

"As the Depression summer of 1930 passed and winter loomed," historian Lawrence Goodwyn explained, "Dad's well was about the only thing people had to look forward to. It was a favorite place for people to gather after church on Sundays."

In September 1930, 16 months after the Daisy Bradford No. 3 got under way, Joiner's ragged drill rig passed the 3,500-foot mark; the core samples showed oil. Some 8,000 people crowded around as Joiner's men worked night and day, bailing mud out of the well. In the late afternoon of Oct. 3, 1930, a gusher of sweet Texas crude blew out over the top of the wooden derrick and onto the nearby pine trees and red clay soil.

Joiner had discovered a gargantuan deposit. The East Texas Oil Field measured 45 miles north to south, from 5 to 12 miles east to west, and covered 140,000 acres, dwarfing anything that had come before. It contained more than 5.5 billion barrels of oil, about a third as much as all the crude produced in the United States up to that time. And the mineral rights to the East Texas Oil Field were highly diffused, with hundreds of individuals and companies owning parts of the land. Within a few months of Joiner's gusher, wells in East Texas were producing more than 1 million barrels of light-as-kerosene crude oil per day, half of America's total consumption.

Prices plunge as oil floods market

The flood of oil had a predictable result: Prices plummeted. In early 1930, before Joiner's well came roaring in, a barrel of crude oil sold for about $1.30. By mid-1931, the price had come down to 13 cents, and in parts of East Texas, it was selling for as little as 3 cents.

Despite the low prices, Texas producers didn't want to reduce production. All were relying on an old English common law known as the "right of capture." On the surface, the wells were owned by different people. Below the surface, all were sucking oil out of the same reservoir. If they stopped drilling and producing, their neighbors could simply pump the oil out from beneath their land.

In theory, the Texas Railroad Commission, an agency originally set up to regulate railroads, had the authority to limit the amount of oil each producer took from his well. The best solution for all producers was for the commission to limit production so that it simply met demand (a system known as prorationing). The commission set quotas several times, but producers in the East Texas Oil Field ignored the directives.

On July 31, 1931, a federal court in Houston sided with a group of independent oil producers and ruled that the commission had no right to impose prorationing. A few days later, the Texas Senate, its gallery packed with East Texas producers, agreed with the court and rejected a bill that would have given the commission authority to limit production.

Texas Gov. Ross Sterling decided he'd make his own rules. On Aug. 16, 1931, Sterling declared martial law in the East Texas Oil Field and dispatched the Texas National Guard with instructions, "without delay" to "shut down each and every producing crude oil well and/or producing well of natural gas." Sterling's move stabilized prices, but it also spawned years of legal and political wrangling.

Finally, in 1935, another powerful Texan, U.S. Sen. Tom Connally, helped pass a federal law that gave the Railroad Commission the authority to proration oil. Every month, the commissioners met at the agency's office in Austin and set "allowables," which determined the amount of oil that each operator could produce from his wells. The system worked: By managing the flow of oil from America's most important oil fields, the Railroad Commission effectively determined world prices for the next four decades.

That control ended in October 1973, when the Arab members of the Organization of Petroleum Exporting Countries, along with Egypt and Syria, began an oil embargo, forcing up prices. By March 1974, global oil prices had risen from about $3 per barrel to about $12 per barrel. OPEC was able to affect prices by restricting supply, and it did so by copying the Railroad Commission's system of allowables.

OPEC had roots in Texas: Abdullah Tariki, the first Saudi educated at the University of Texas in Austin, did an internship at the Texas Railroad Commission. As Saudi Arabia's first oil minister, Tariki arranged a meeting in Cairo with ministers from Venezuela, Kuwait, Iran and Iraq that resulted in the formation of OPEC.

Years later, when Jim Tanner, a longtime energy reporter for The Wall Street Journal, asked Tariki what he had studied in Austin, Tariki replied, "the Texas Railroad Commission."

Texas technology disrupts OPEC

But just as OPEC replaced the Railroad Commission, technology has disrupted OPEC's ability to regulate the global supply of oil. And the key technologies needed to produce oil and gas from shale deposits, hydraulic fracturing and horizontal drilling, were perfected in Texas. In fact, the shale revolution got under way in the North Texas Barnett Shale.

Just as Dad Joiner deserves credit for finding the East Texas Oil Field, George Mitchell, who died in 2013, played the key role in discovering how to produce oil and gas from shale.

Mitchell, founder of Mitchell Energy (bought by Devon Energy in 2001 for $3.5 billion), spent millions in the 1990s testing techniques to wring oil and gas from shale. In 1997, Mitchell's crews finally discovered that water injected under extremely high pressure, along with lots of sand and a dash of surfactant and biocide, was the winning formula.

That technique, which became known as a slick water fracturing, or fracking, combined with horizontal drilling, vaulted the Barnett Shale from obscurity into one of the 10 most prolific gas fields on the planet.

The lessons Mitchell Energy learned have since been applied in shale formations throughout the U.S., including the Eagle Ford Shale in South Texas, the Bakken Shale in North Dakota, the Haynesville Shale in Louisiana, the Marcellus Shale in Pennsylvania and the Utica Shale in Ohio.

U.S. oil production also soared, reversing a four-decade slide. Between 1997, the year that Mitchell cracked the shale code, and 2014, U.S. oil production jumped by about 35 percent.

OPEC was watching. By mid-2014, surging U.S. production was eroding OPEC's market share and prices were falling. According to The Wall Street Journal, an official from one Persian Gulf oil producer declared at a 2014 OPEC meeting: "The cause of oversupply is not OPEC. It's shale oil."

Saudis try to undermine Texas oil

The cartel's innate weakness is that some members cheat on their allowables to gain additional revenue. Many oil traders were betting that OPEC would cut production to help stabilize prices. Instead, Saudi Arabia, producer of about a third of all OPEC oil and the cartel's most powerful member, made clear that it would protect its market share, even if that meant lower prices.

The Saudis' rationale was simple: If they cut production, the result would be higher prices, which, in turn, would stimulate more shale oil production in the U.S. (and probably more cheating by cartel members).

After OPEC decided to keep the oil taps open, prices dropped 7 percent and kept falling. Many sovereign producers, including Russia, Kuwait, Venezuela, Saudi Arabia and Nigeria, hope that lower prices will shut down U.S. shale oil production and reduce supply.

But that's unlikely to happen soon, thanks to American entrepreneurialism and ingenuity. U.S. drillers are making drilling faster and cheaper, resulting in more oil and gas production from fewer rigs. Domestic oil producers, particularly the ones in Texas, can survive drastically lower prices.

The Energy Information Administration charts oil production in the Permian Basin in West Texas. From 2007 until about 2013, the amount of oil produced from a new well by an average drilling rig stayed flat, at about 100 barrels per day. But between 2013 and 2016, that figure quintupled, to more than 500 barrels per day. Even more remarkable: The productivity boost occurred at the same time that the rig count in the region fell by two-thirds. Similar gains have occurred on drilling rigs targeting natural gas.

Energy giant BP said in its February outlook that U.S. shale oil production would double during the next two decades: "Technological innovation and productivity gains have unlocked vast resources of tight oil and shale gas causing us to revise the outlook for U.S. production successively higher."

It would, of course, be foolish to claim that oil prices are destined to remain at low or moderate levels indefinitely. A major conflict in the Persian Gulf or the sabotage of Saudi Arabia's oil fields could send oil prices up. Furthermore, there are signs that low prices have forced oil producers in the U.S., Latin America and the North Sea to curtail their drilling programs. That, in turn, will likely reduce this year's non-OPEC production by about 700,000 barrels per day, according to a recent estimate by London-based research consultancy Energy Aspects. Also, OPEC nations reached a preliminary agreement Wednesday to curb oil production for the first time since the global financial crisis.

But a case can be made that we have entered a new era. The technologies that were perfected in shale formations in Texas -- horizontal drilling and hydraulic fracturing -- can now be applied in shale deposits around the world. That matters, because shale is the most abundant form of sedimentary rock on the planet.

These forecasts don't surprise Bud Brigham, a longtime Texas-based driller who helped pioneer the development of the Bakken Shale in North Dakota. Two years ago, Brigham had three rigs running in the Permian Basin, and his new company was producing 3,000 barrels of oil per day. By February 2016, his new outfit was utilizing just one rig that produced twice that volume. Brigham said he was squeezing out a tiny profit, even with oil at $30 to $40.

"Texas is setting the cost of the marginal barrel," he explained. "We're in the early innings of innovating with horizontal drilling and hydraulic fracturing. We are driving up yields and driving down costs."

Today's oil market, then, looks remarkably like it did in 1931, before Gov. Sterling declared martial law in East Texas. A flood of Texas oil has overwhelmed the market. There are no brakes on supply, prices are weak and producers are acting on their own, hoping to sell as much oil as they can. What's old is new again -- and Texas oil is, once again, in the spotlight.

This piece originally appeared in The Dallas Morning News

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Robert Bryce is a senior fellow at the Manhattan Institute. Follow him on Twitter here.

Adapted from City Journal's special Texas Rising 2016 Issue

This piece originally appeared in The Dallas Morning News