Key Takeaways
Canada is close to completion of the Trans Mountain pipeline expansion, which will open its oil producers to world markets and higher prices.
The U.S. Midwest has received sharply discounted oil from Canada, most of which is oil sands–one of the largest oil reserves in the world.
The United States enjoyed lower prices for Canadian oil because its Albertan oil fields had been landlocked.
Canada began to look for other markets for its oil after President Obama delayed a decision on the Keystone XL pipeline. After President Trump approved the pipeline permit, President Biden revoked it on his first day in office.
With Canada’s Trans Mountain pipeline expansion, Canadian oil prices are expected to rise, which are likely to be reflected in gas prices in the Midwest.
For years, the United States has received artificially cheap oil from Canada. But that could change soon when Canada’s Trans Mountain pipeline starts operating, exporting Canadian oil to global markets. When President Biden revoked the Presidential permit for the Keystone XL pipeline that was to supply U.S. markets, Canada’s oil producers found an outlet to the West Coast and beyond for their oil through expansion of the Trans Mountain pipeline, making Canadian oil available to Asian markets. Adding 590,000 barrels-a-day of takeaway capacity, the pipeline is expected to start operating in the second quarter, starting gradually and hopefully preventing sudden price surges.
The United States imports over 4 million barrels a day of Canadian oil, which represents more than a fifth of the country’s operating refining capacity. In fact, almost 2/3 of the oil refined in PADD II (the Midwest) comes from Canada. In 2022 and 2023, Western Canadian Select was on average about $18 to $19 a barrel cheaper than the U.S. benchmark West Texas Intermediate (WTI). Part of that discount is because Canadian oil is a heavier blend that requires more processing and involves higher operating costs, but those issues were amplified because the oil was landlocked without a pipeline. The heavy Canadian oil suited U.S. refineries, who retooled to processing heavier oil years ago.
The biggest negative impact of the pipeline will be on inland U.S. refineries such as those in the Midwest using Canadian oil because they do not have easy access to other types of heavy oil. In November, Canada exported 3.14 million barrels of oil per day to the U.S. Midwest, accounting for over one-third of the U.S.’s oil imports. U.S. refiners on the Gulf Coast have the option of importing heavy oil from Mexico and Venezuela as U.S. shale oil production mostly consists of light rather than heavy oil types.
Because the Trans Mountain pipeline runs from Edmonton, Alberta, to Vancouver, it will, however, be a net benefit for U.S. West Coast refiners as most refiners on the West Coast can handle medium to heavy oil, substituting that less expensive oil for Alaskan and California oil and making markets there more competitive. For West Coast refiners, Canadian oil will have lower shipping costs than oil from Alaska. Oil from Canada can be shipped using internationally flagged tankers, rather than domestically built, owned and staffed tankers which are required by the Jones Act when shipping oil from Alaska.
As of December, Alberta’s oil production had risen about 12 percent, or 442,000 barrels a day, compared with December 2019, the year when the Canadian government approved the pipeline expansion. In recent years, Canadian producers have found efficiencies and ways to increase production with modest investments. As in the United States, incremental pipeline capacity is hard to come by in Canada given the opposition to such projects by climate campaigners.
Canadian Oil Discount to WTI Will Decrease
Western Canadian Select’s discount to U.S. benchmark West Texas Intermediate is expected to shrink from its current level of about $17.10 per barrel to less than $10 a barrel between May and July due to the outlet provided by the Trans Mountain pipeline. The last time the discount was in single digits was in April 2021. The higher priced Canadian oil would raise costs for refiners in the U.S. Midwest who rely heavily on Canadian oil and have benefited from the discounts, partly because of a lack of pipelines as Biden retracted the Presidential permit approved by former President Trump for the Keystone XL pipeline. Those rising Canadian oil costs are likely to be partly passed onto U.S. Midwestern drivers through higher gasoline prices.
At the same time as the Trans Mountain pipeline is due to start up in the second quarter, major oil-sands companies including Imperial Oil Ltd., Canadian Natural Resources Ltd. and Suncor Energy Inc. are planning to reduce output as they perform maintenance work on their facilities. But in the longer term, S&P Global estimates that Alberta oil producers are expected to add 500,000 barrels a day of supply by the end of next year, taking up almost all of the new capacity on the Trans Mountain pipeline. Filling up the line leaves Alberta’s oil drillers again at the risk of pipeline shortages, holding them hostage to heavy discounts compared to WTI. Over the long term, Canadian oil’s discount is expected to average about $12 a barrel, still less than today.
Conclusion
President Biden’s removal of the Presidential permit for the Keystone XL pipeline is hurting Midwest refiners, who depend on Canadian heavy oil for their refinery operations. Rather than exporting to U.S. refiners in the Midwest, the Trans Mountain pipeline will transport oil from the Alberta oil fields to the Vancouver port, opening up global export markets for Canadian oil producers. The discount for Canadian oil compared to U.S. West Texas Intermediate oil is expected to drop to single figures with the expanded pipeline, which will start operating next quarter. While U.S. West Coast refiners will benefit from the Canadian pipeline, Midwest refiners have no alternative to Canadian heavy oil and are expected to raise prices as a result.
