Monday, May 3, 2010

Oil Spill

This is one of those stories about an event that emerged fairly quickly and has grown as the days have gone by and the true scope of the event has emerged. Nearly two weeks ago on Tuesday April 20, a fire and explosion occurred on a semi submersible oil rig. There were prompt reports in the press of the tragic loss of eleven workers' lives. The next day, press reports were focusing on the loss of life and the source of the hydro carbons (oil) fueling the fire. By April 22 the rig had sunk to the bottom of the Gulf of Mexico and the owners, the developers, and Coast Guard were trying to determine the extent of the flow. The following Monday, April 26, the owner's stated that the "The Deepwater Horizon is insured for total loss coverage and for wreck removal, to the extent removal can be carried out and is required. The total insured value of the rig is $560 million."

By now, most of us realize that there is a very large ruptured pipe spewing vast amounts of crude oil in to the gulf of Mexico some 41 miles south of the Louisiana cost in a section of the oil rich region known as the Mississippi Canyon Block 252. Following the failure of the sea floor located "blowout preventer", a device designed to prevent this very type of disaster, the oil flow began. Original estimates pegged the release at some 1000 barrels a day. Now, the estimated number is more like 5000 barrels a day and the reality is that we really don't know at what volume this crude oil is flowing into the Gulf. We also don't know when it will stop. At this point, BP Oil, the owner and developer of this oil field has taken full responsibility for the effects of the explosion of it's contractor's, Transocean, submersible drill rig, the Deepwater Horizon. But BP's ability to correct this problem has not been assured and their current proposal to stop this flow involves some untested installation of a device, much like a cover over the ruptured pipe. The device, known as a "oil recovery system chamber" is reportedly a 4 story high steel box of sorts that weighs in excess of 70 tons. Each of three of these will be lowered to the Gulf floor to contain the oil and allow for it to be pumped to the surface. We all hope that this plan succeeds, but as a reasonable individual looking from the outside in, it does not strike me as a plausible solution to containing a flow of liquid that is pumping with some rather large amount of pressure. And this device has never been used before.
So the reality is this is shaping up to be an unplanned oil release of a magnitude that perhaps has not been seen ever in this, the last or the previous centuries.
An economist by the name of David R. Kotok addressed this issue from an environmental, economic and financial perspective yesterday. Mr. Kotok is an interesting character. In addition to being the Chairman and Chief Investment Officer of Cumberland Advisors , a respected medium sized investment advisory firm, since 1973, he also is Director and Program Chairman of the Global Interdependence Center. His is biography (excerpt below) as listed on the Cumberland Advisor website.
"David R. Kotok co-founded Cumberland Advisors in 1973 and has been its Chief Investment Officer since inception. He holds a B.S. in Economics from The Wharton School of the University of Pennsylvania, an M.S. in Organizational Dynamics from The School of Arts and Sciences at the University of Pennsylvania, and a Masters in Philosophy from the University of Pennsylvania.

Mr. Kotok currently serves as a Director and Program Chairman of the Global Interdependence Center (GIC)(, whose mission is to encourage the expansion of global dialogue and free trade in order to improve cooperation and understanding among nation states, with the goal of reducing international conflicts and improving worldwide living standards. Mr. Kotok chairs its Central Banking Series and GIC’s Food and Water global stability project, a five continent dialogue held in Philadelphia, Paris, Zambia (Livingstone), Hanoi, Singapore, and Santiago, Chile.

Mr. Kotok is also a member of the National Business Economics Issues Council (NBEIC), the National Association for Business Economics (NABE), the Philadelphia Council for Business Economics (PCBE), and the Philadelphia Financial Economists Group (PFEG).

Mr. Kotok has served as a Commissioner of the Delaware River Port Authority (DRPA) and on the Treasury Transition Teams for New Jersey Governors Kean and Whitman. He has also served as a board member of the New Jersey Economic Development Authority and as Chairman of the New Jersey Casino Reinvestment Development Authority.

Mr. Kotok hosts an annual Maine fishing trip, where, it is rumored, most of the nation’s important financial and economic decisions are actually made."

Yesterday, CNN broadcast and published the following statements by Mr. Kotok during an interview with Joe Weisenthal where he explained a worst case scenario of this event, should the oil flow remain unchecked. (CNN Link)

"This spew stoppage takes longer to reach a full closure; the subsequent cleanup may take a decade. The Gulf becomes a damaged sea for a generation. The oil slick leaks beyond the western Florida coast, enters the Gulf stream and reaches the eastern coast of the United States and beyond. Use your imagination for the rest of the damage. Monetary cost is now measured in the many hundreds of billions of dollars."

"Usually, the first estimates in any crises are too low. That is true here. 1000 barrels a day is now 5000, and some estimates of spillage are trending higher. No one knows exactly. The containment and boom mechanism is subject to weather cooperation as we can see this weekend. Soon we are entering the hurricane season. The thoughts of a storm stirring up the Gulf, hampering any cleanup or remediation drilling effort and creating a huge 10,000 square mile black stew is frightening to every professional in the business. This will be a financial calamity for many firms, not just BP and its partners and service providers. Their liabilities are immense and must not be underestimated. The first estimate of $12.5 billion is only a starter."

"Thousands of small and independent businesses as well as larger public companies in tourism are hurt here. This is not just about the source of half the nation’s shrimp. That is already a casualty. It’s also about the bank loans for the $200,000 shrimp boat and the house the boat owner and/or his employees live in and the fact that this shock piles on a fragile financial system that is trying to recover from a three-year financial crisis. Case study, my fishing guide in the Everglades splits his time between Florida and Louisiana. His May bookings in LA have cancelled. His colleagues lost theirs and their lodge will be empty. They are busy trying to find work in the clean up. For him, his wife and eleven year old daughter, his $600 a day guide fees just went “poof”. When I asked him if he thought he had a legal claim on BP, he said he hadn’t thought about it yet but it gave him pause. As we suggested above, the $12.5 billion loss estimate is only a starter."

"Federal deficit spending will certainly rise by tens, and maybe hundreds, of billions as emergency appropriations are directed at larger and larger efforts to clean up this mess. At the same time, federal and state revenues tied to Gulf-region businesses will fall. My colleague John Mousseau will be discussing the impact on state and local government debt in a separate research commentary.
We expect that the Federal Reserve will extend the timeframe that we have come to know as the “extended period” in the making of its monetary policy. We do not expect the Fed to raise interest rates at all for the rest of this year, and maybe well into next year. We expect to see the deterioration of the economic statistics for the US to reveal the onset of this oil-slick crisis in May, and the negative impact will intensify during the summer months. A “double-dip” recession probably has been made more likely by this tragedy."

BP reported today that it is encouraged by it's efforts to develop the develop the device for installation over the three sources of the oil flow. For more information on this new release, click here (New York Times).