Is Canadian Oil Bound for China Via Pipeline to Texas?

In a global economy, sending more Canadian oil to Texas could be a modern silk route, a "Tar Sands Road" to China, economist says.

The proposed Keystone XL pipeline that would ship oil from Northwest Canada south through Mid-America to the Texas Gulf Coast has drawn sharp opposition from environmentalists worried about Canadian forests, greenhouse gases, and potential leaks.

But one line of attack is more about economics and geopolitics than land and water. And it strikes at pipeline proponents' central argument that Keystone XL would buttress U.S. energy security. Opponents contend instead that the pipeline's petroleum could largely bypass the American markets and be shipped to Asia.

"This is all about taking the oil that's coming into the Midwest and moving it down to the Gulf Coast, where they have access to China and other markets," the National Wildlife Federation's Jeremy Symons told Congress this summer.

Spurred by the provocative analysis of a prominent energy economist, Philip Verleger, the argument joins the already contentious debate over the Keystone XL pipeline. The 1,700-mile, $7 billion project has stalled awaiting approval of the U.S. State Department, which must approve any pipeline built across the U.S. border.

(Related: "The Keystone XL Pipeline: A Tar Sands Folly?" and "Yellowstone Spill Shadows Efforts on the Keystone XL")

The project would provide a much-needed outlet for booming oil production from the tar, or oil, sands of Alberta in Northwest Canada. Output from the sticky sands has jumped amid higher fuel prices and new technology. Now producers need new routes for getting the oil from their mines and wells to customers.

Moving Oil From Alberta

The path closest to opening is the Keystone XL. But environmentalists have come together to oppose its construction, and this Saturday plan a sit-in at the White House,  saying it could be the "largest collective act of civil disobedience in the history of the climate movement." Already, the State Department has delayed issuing a permit several times. U.S. Secretary of State Hillary Rodham Clinton has promised a decision by year's end.

(Related: "A Quest To Clean Up Canada's Oil Sands Carbon")

Keystone backers argue the pipeline will help secure U.S. energy supplies by enabling another 700,000 barrels a day to come from Canada, and later as much as 830,000 barrels. That would amount to about 7 percent of U.S. imports from what's considered a friendlier and more dependable partner than sources such as Saudi Arabia and Venezuela. Canada already is the single biggest source of U.S. petroleum, supplying more than 20 percent of U.S. imports in 2010.

And the United States is essentially Canada's only foreign customer.

But lurking in the background are eager buyers in Asia, particularly Chinese importers who want to use Canadian oil to feed their fast-growing market.

(Related: "China's Electric Car Drive: Impressive, But Not Enough, Says Report")

Chinese investors have helped to finance early work on an alternate route out of Alberta. That pipeline would take the oil west across the Canadian Rocky Mountains to the Pacific Ocean, where tankers could ship it to Asia. But the project so far appears a pipe dream because of steep opposition from Canadian environmentalists and native Indian nations that control parts of the route through British Columbia.

(Related Photos:  "Canadian Rain Forest Edges Oil Pipeline Path")

Still, Keystone XL backers have warned that China could get Canada's oil if their pipeline to the United States were blocked.

So predicting the Chinese getting the oil anyway, even if the Keystone XL were built, is lobbing an explosive argument into the debate. But Verleger, an independent economist who in the past served as an energy policy adviser to the U.S. Treasury and the Council of Economic Advisers, is known for his sometimes contrarian views. He argued, for instance, that President George W. Bush was inflating oil prices with his aggressive policy to fill the Strategic Petroleum Reserve, and he wrote recently about the folly of four decades of U.S. political rhetoric on the need to reduce dependence on foreign oil.

Once again, Verleger is arguing that the United States cannot escape the reality of living in a global oil market. Getting Canadian oil to the Texas Gulf Coast would put it onto ships bound for Asia, he predicted. He calls it a "Tar Sands Road to China," a play on the famous Silk Road that moved Asian goods to Western markets for 3,000 years. Although it's a long, tortuous route to ship oil through the Gulf of Mexico and around Africa's Cape of Good Hope or South America's Cape Horn, economics will favor this journey to the Far East, he contends. The bottom line for Verleger is that refineries on the Gulf Coast have long-term commitments to buy oil from current suppliers—including Saudi Arabia, Venezuela, and Mexico. Those nations don't want to cede market share to Canada. All three have ownership in Texas refineries, and they can also match any discount that comes with the Canadian crude. "There will be too much oil, it's got to go somewhere, and it's going to China," Verleger says.

(Related: "Driving the Limit: Wealthy Nations Maxed Out on Travel?")

He also dismisses any notion that the U.S. would gain added security by importing more oil from its friendly neighbor to the north. Besides being a Colorado-based consultant to the oil industry, Verleger teaches at the University of Calgary in Alberta—but says that warm feelings toward Canada must be tempered by economics.

For one, he points to a study done for TransCanada, the builder of Keystone XL, which predicts the pipeline would enable Canadian producers to boost the price of their crude. The oil would bypass refineries in the Midwest that are now getting their oil at a discount because of new sources in Canada and elsewhere. Shipping the oil sands crude to the Gulf Coast would reduce the oversupply in the Midwest and boost Canadian income by as much as $4 billion, TransCanada told Canadian regulators.

Verleger disagrees the scheme would work to raise prices. But he says it would provide evidence that Canadian producers act in their interests, not those of the United States. "As far as I'm concerned, Saudi Arabia is more of a friend than Canada." At least, as he pointed out in a report to his clients on the Keystone XL plan, Saudi Arabia has compelling political reasons to maintain a strong relationship with the United States, and it does so by maintaining its status as a major oil supplier.

North American Ties

Other analysts value the broad U.S. ties with Canada, whose own fate is dependent on a healthy U.S. economy. U.S companies, as an example, are deeply involved in the oil sands production itself, accounting for nearly a third, says Jackie Forrester, a leading researcher on oil sands at IHS CERA, the former Cambridge Energy Research Associates still headed by economic researcher and Pulitzer Prize-winning oil historian Daniel Yergin.

Besides, when considering the surety of supply, putting oil into pipelines is safer than shipping it across the seas, Forrester says.

She co-wrote a recent IHS CERA report that argued the new Keystone pipeline could help cut gasoline prices in the United States, simply because more supply should lower oil prices. Canada's tar sands, as well, produce heavy crude that requires more sophisticated refineries, which makes it a good fit for recently upgraded facilities on the Gulf Coast. "That oil will be consumed in the United States—or at least enter the refining market there," she says.

Exports from Gulf Coast refineries are up in recent years as the plants take advantage of supply disruptions in Latin America and Europe. But they still account for only about 10 percent of the region's refined products, Forrester says, adding that Canadian oil won't change that dynamic.

But Verleger points out that only a few companies control the Gulf Coast refining capacity that might be available to the Canadian oil. The refiners are encouraging the pipeline, but the point is to bring more supply to the market to keep Gulf Coast crude prices low—significantly lower, in fact, than the global price of oil. It would give the refiners an unprecedented ability to buy low and sell high. The Keystone XL pipeline, Verleger argues, could transform the U.S. Gulf Coast into the most profitable refining center in the world.

To avoid being pushed out of the U.S. market, Verleger suggests that the Canadian producers should buy their own Gulf Coast refineries or otherwise lock up capacity for their crude—as foreign rivals Saudi Arabia, Venezuela, and Mexico all have done.

"Failing that," Verleger writes, "they will need to brush up on their Chinese."

This story is part of a special series that explores energy issues. For more, visit The Great Energy Challenge.

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