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Why Shell Won’t be Producing in the Arctic Anytime Soon

Obama's decision to open Alaskan waters to oil drilling infuriated environmental groups, but low prices and high costs could push back operations for years.

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The Obama administration’s decision to let Shell back into Alaskan waters opens the door to eventual full-scale Arctic oil exploration. But it also opens up the White House to howls of anger from green groups concerned that Obama’s move poses serious potential risks to the environment despite the president’s repeated promises to mount a serious fight against climate change.

The decision Monday to authorize Shell to search for oil in the Chukchi Sea, off the northwestern tip of Alaska, marks a return to icy waters for a company whose last polar foray in 2012 ended in fiasco. If it can overcome a host of economic, technical, and logistical challenges, Shell could find huge rewards in the oil-rich Arctic — with potentially big implications for other companies and countries, such as Russia, who are banking on offshore Arctic production to offset declining output at onshore fields.

Though Arctic exploration makes little economic sense today, with oil prices languishing around $65 a barrel, it is the kind of frontier play that could be crucial to meeting future global energy needs. That helps explain why Shell, which is busy working to digest its $70 billion dollar acquisition of BG Group, a British energy firm, and which is trimming back capital expenditure, will open its wallet for another tricky season drilling exploratory wells in the shallow waters off Wainwright, Alaska.

“The Arctic is obviously a very long term play, so the oil price now or next year has relatively little impact on projects that are unlikely to start producing oil before the 2020s,” said Duncan Milligan, an Arctic expert at oil consultants Wood Mackenzie. “You’re looking at a long-term view of fundamentals, so the companies that can fund that kind of exploration are continuing to do so.”

For international oil companies like Shell, lining up future production prospects is their corporate lifeblood and lifeline: Market valuations are determined, in part, by how much potential oil reserves companies lock up for future use. But most of the world’s promising areas for exploration are off-limits to private firms like Shell, Exxon, and Chevron. That makes Alaska tempting despite all its obstacles.

“There aren’t that many huge conventional basins, and Chukchi is one of them. It’s really about the size of the prize; they think there’s something there that’s worth it,” Milligan said. The U.S. government estimates that the Chukchi Sea could hold 15 billion barrels of oil.

But the challenges are daunting. The Arctic, covered in sea ice much of the year, is a much tougher environment than places like the Gulf of Mexico, where most U.S. offshore production is concentrated. It requires specialized equipment, including drilling rigs that can withstand rough seas and winds. (That’s a lesson that Shell says it has learned after a series of mishaps in 2012.) Proof of how tough a nut the Arctic can be is found in the massive Shtokman gas field north of Russia. First discovered in 1988, it still hasn’t been developed.

And trickier logistics, with a much shorter summer drilling season with operations far away from local ports and airfields, make drilling more expensive. In general, Wood Mackenzie says, fields like those in the Chukchi Sea require oil at about $100 a barrel to be economical.

Finally, Arctic operations present a potentially much bigger environmental risk than other offshore oil and gas plays. That’s in part because of the harsh environment, and because the paucity of local infrastructure makes it harder to respond to accidents and spills. In 2010, when BP suffered a fatal explosion on a Gulf of Mexico rig, it took months to shut off the flow of oil, even though the ill-fated Deepwater Horizon was surrounded by nearby U.S. Coast Guard vessels and aircraft. For the Chukchi Sea, the nearest Coast Guard station is about 1,000 miles away.

That’s one reason environmental groups lambasted the Obama administration’s decision to greenlight Shell’s Arctic adventure: They worry about the risk of a bad accident in a pristine setting; memories linger of the 1989 Exxon Valdez oil-tanker spill that fouled Alaska’s Prince William Sound. The Greenpeace campaign to stop Shell, for instance, features a countdown until the summer drilling season starts superimposed on a group of polar bears.

Green groups are also upset that Obama, who has made fighting climate change a centerpoint of his second term, would authorize additional offshore oil production. Environmental campaigner Bill McKibben assailed what he called Obama’s “climate-change denial” for authorizing Shell’s Arctic operations even while talking up the need to tackle emissions. In contrast, for almost seven years, the Obama administration has withheld approval of the Keystone XL oil pipeline from Canada to the Gulf Coast, in large part because of worries the pipe will accelerate the production of dirty Canadian tar sands and cause more greenhouse-gas emissions.

However, the U.S. State Department concluded that the emissions impact from Keystone would be minimal. And energy experts cautioned against conflating legitimate environmental concerns over Arctic drilling with the vanishingly small contribution that such oil production would make to global emissions.

In any event, Monday’s authorization for Shell hardly represents a sudden about-face for the administration. Days before the BP accident, Obama had planned to open up parts of the Atlantic coast to drilling for the first time; this year, he did. In the same offshore drilling plan, the administration opened the door to a small number of lease sales off the coast of Alaska, seeking to balance energy needs and environmental considerations.

Ultimately, though, environmentalists won’t be the only ones keeping a close eye on Shell’s return to Alaska. Russia’s Rosneft and Exxon were working together to start Arctic offshore oil production in the Kara Sea this year, before Western sanctions kneecapped Exxon’s ability to work alongside the Russian firm. Boosting Arctic production is the Russian energy sector’s great hope to reverse long-term decline at old Soviet fields onshore. Lessons learned from Shell’s return to the Chukchi Sea could help smooth the way for Russia to finally tap its own ice-covered riches.

Photo credit: U.S. Dept. of Defense/Flickr

Keith Johnson is a senior staff writer at Foreign Policy. Twitter: @KFJ_FP

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