Why none of us can ignore the fate of North Sea oil

It’s easy to forget just how important a contribution oil and gas makes to the UK economy. Britain, after all, is a large and highly-diverse economy. But while it’s not a pure petro-economy, by the same token there is simply no way the economy would have been as strong as it was or its public finances in decent (pre-crisis) shape were it not for North Sea oil.

Consider the following: at its peak in 1999, the UK was pumping out more oil each year (about 2.9m barrels a day) than OPEC members Iraq, Kuwait or the United Arab Emirates. In the 1980s, though total production levels were a touch lower, tax revenues from the North Sea nonetheless accounted for a large chunk of the Government’s total takings: peaking at more than 8% in 1984.

Even though the output from UK fields has dropped sharply in recent years Britain still produces more oil, in absolute terms, than Oman; more oil and gas combined than Azerbaijan.

In fact, while the simple amount of oil and gas being pumped out of the North Sea might have fallen, the fact that the oil price has risen during that period from below $20 a barrel to over $100 a barrel has meant that even that reduced amount has boosted Britain’s fortunes. Since the turn of the millennium the share of Britain’s goods exports accounted for by oil has risen from just over 5% to almost 14%. That’s the highest share since the mid-1980s.

And there is plenty of it left. About 42 billion barrels of oil equivalent have been extracted since 1965; there is probably about 24 billion still left. The problem is that the remaining stuff is harder to get hold of – it involves reaching into deeper waters, digging deeper underground and squeezing more resource out of older fields, rather than hoping for brand new discoveries. That, in turn, is changing the make-up of the sector. Whereas in the glory days of the ‘80s and ‘90s the big players were the oil majors – Shell, BP, Total and so on – the North Sea is increasingly home to so-called “scavenger” firms which buy old, abandoned fields and attempt to maximise return from them.

That change in constituency means it’s highly sensible for the Government to consider a shake-up in the regulation of the sector, as Sir Ian Wood’s report into the future of the North Sea today recommends.

However, all of this could end up being moot if the Scottish people vote for independence. Which raises a few vexed questions. First, how much of the existing output should go to Scotland? If one were dividing it based on geography, isolating the fields of the Scottish coast, around 90% of production would go to an independent Scotland. However, if one were dividing it based on population, then on a per capita basis the share would be closer to 8.4%.

That’s clearly an enormous difference. Were it to be divided on a geographic share, the rest of the UK would miss out on almost £6bn of tax revenues, equivalent to an almost 2% increase in basic rate income tax for every member of the population. However, set against that is the fact that it would no longer have to take care of Scottish social spending, which is considerably higher than for the rest of the UK.

Were the oil production to be split up on a per-capita basis, it’s hard to see how Alex Salmond could make his sums work.

But the split would also raise some more important long-term questions for both sides. The Wood Review today nukes the notion that the North Sea is all but dead. However, it underlines the volatility of the sector. An independent Scotland really would be a petro-economy, its demand and income buffeted about as the oil price rose and fell. By the same token, the rest of the UK would lose out on one of the main sources of its exports. The balance of payments – already extremely nasty – would be even deeper in negative territory.

In short, there are significant dangers on both sides.

Finally, there is the question of why Britain never set aside its oil revenues and did as Norway did, setting up a sovereign wealth fund for the nation’s long-term economic health. There is no good answer for this, save for that it was a decision of successive governments (Labour and Conservatives) to use the proceeds for today’s consumption rather than saving it for tomorrow. It helped support Britain through what would have been even darker economic days in the late ‘70s and 80s.

Was it wise that such an enormous sum of money, over £300bn, was spent rather than set aside? Today’s younger generation is facing decades of higher taxes to pay off Britain’s enormous national debt; however, some would argue that this would have been the case whatever the treatment of the oil revenues. Either way, there is no satisfactory answer to this vexed question – save that it will continue to spark anger as long as the oil keeps pumping, and probably some years thereafter.