Oil and Gas UK Conference
Aberdeen Exhibition & Conference Centre
2014 is a year of landmarks – the Ryder Cup, the referendum, the Commonwealth Games, and this - the first ever Oil and Gas UK Conference.
You’re meeting at a crucial time - as you consider the changes proposed by Sir Ian Wood’s review, and look forward to the coming referendum. As you would expect, I will say more about both of those during my remarks this morning.
But I’ll start by talking about the 17th of September this year, not the referendum on the 18th, since the 17th marks a significant anniversary. It was on 17th September 1964 that the first oil and gas exploration licences were issued by the UK Government.
It’s interesting, looking back, to find that in 1964, 90% of drilling activity was expected to take place east of the coastline between Great Yarmouth and Middlesbrough. However the Times noted that some consortiums “have also thought it worthwhile to take up licences much further north, off the Scottish coast. They may have some seismographic information on this northern area that other companies have missed.”
In the subsequent years, it became clear that the more northerly licences were indeed of great value. And in the fifty years since those licences were issued, the men and women in the oil and gas sector have built a world-class industry – one which supports more than 200,000 jobs here in Scotland.
Over the half century the wholesale value of the hydrocarbons extracted has been £1 trillion, the Government revenue £300 billion, and the sector is the largest industrial investor in both Scotland and the UK.
Our supply chain industry sells to more than 100 countries around the world, and had international sales of £10 billion last year.
But too often, this success has been despite UK Government policy rather than because of it. Short term financial fixation has often been allowed to trump the long-term needs of the industry, of government itself, and of the public interest.
I’m going to reflect on some of that mismanagement today. But I also want to look forward - to the next 50 years.
After all, although more than 42 billion barrels of oil have been extracted – there are up to 24 billion barrels to come. Indeed, I know that Malcolm suggested recently that 24 billion barrels might be an underestimate. He is in good company - John Howell, the Professor of Petroleum Geology at Aberdeen University, also puts the figure higher. It is a view shared by Mark Higginson, the senior partner of PWC, who told Radio 4 two weeks ago that there was probably 24 to 30 billion barrels remaining.
However let’s assume we are talking about up to 24 billion barrels. Even then, in wholesale value terms, more than half of the exploitable resource is yet to be recovered. £1 trillion of value has been extracted; £1.5 trillion is still to come.
Some people focus only on Government revenues. But what they forget is that all of the wholesale value is economically beneficial in some way – in terms of investment, employment, supply chain activity or taxes.
And so today I want to show how an independent Scotland – with specialised civil servants, with the appropriate expertise, based here in Aberdeen to work on oil and gas - will manage our remaining oil and gas reserves more effectively.
And I want to highlight four things –tax stability, understanding of the industry, an improved industrial base, and an oil fund - which will be developed after independence, and which will bring lasting benefits: not just for industry, but also for the people of Scotland.
So I’m going to start with tax stability. Sir Ian Wood’s Final Report noted a clear industry view that “fiscal instability has been a significant factor in basin underperformance”.
Of course, the Wood review – which is an excellent piece of work - was not asked to consider fiscal matters within its remit. However the Scottish Government’s own expert commission, chaired by Melfort Campbell, will take that exact debate further forward.
Its remit covers taxation, regulation, decommissioning and transitional matters in the move to an independent Scotland. I know that Oil and Gas UK, and many of the companies represented here today, have provided valuable information and help to the Commission. Its final report will build upon the principles set out in our oil and gas paper last July - including a focus on providing long term stability and predictability for industry.
To give just one example of why that’s so important - three years ago, the UK Government increased the supplementary charge paid by North Sea operators on their profits. The decision was taken without consultation. Oil and Gas UK calculated at the time, that it was one of 16 different tax changes in the previous decade. As Malcolm said in February, the industry is still “scarred” by the experience.
Now, the UK Government brought in field allowances in 2012 to help to counter some of the consequences of the previous year’s mistake. Investment in 2013 reached a record level.
However, that bust and boom approach to policy making has caused problems of its own. The surge in investment that we have seen is one reason for the escalation in rig rates – something which has had an adverse impact on exploration. As Oil and Gas UK figures show, the number of exploration wells being drilled has fallen from 44 in 2008, to 15 in 2013. And operating costs, allowing for expenditure, are at their highest level at any point in the last four decades.
But despite this, three months ago, the Chancellor changed the fiscal arrangements for Bareboat charters. The industry has been universally critical of the move – which could reduce exploration activity, and increase operating costs.
And the tax won’t just be bad for the industry – it may also be bad for the exchequer. As Ernst and Young pointed out, “the loss of just one field would certainly outweigh the extra tax raised from this measure.”
It’s a further example of how the Treasury treats oil and gas as a cash-cow for the short term, not an asset for the long term.
Now, you might ask yourself – why does the UK Government keep doing this? Why does it continue to make the same mistakes? Well, one reason is timeframe. None of its Oil Ministers stay around for long enough to understand the industry. Michael Fallon is the third UK Oil Minister in four years – in fact, he’s the 14th in 17 years. His predecessor, John Hayes, came up here to Aberdeen once - made the mistake of saying what a great long term future the oil industry had - and got reshuffled three weeks later.
My understanding is that the then Energy Secretary wasn’t even told of the 2011 tax hike until the morning of the budget.
The Scottish Government understands the importance of consistency and stability in the taxation framework. That’s why we have made it clear that we have no plans to increase the overall tax burden on the industry. And we have also guaranteed that no changes will be made to the fiscal regime for oil and gas, without prior consultation. That commitment to certainty and stability extends to decommissioning tax relief – which after independence will be provided in the same manner, and at the same rate, as is currently the case.
It’s worth bearing in mind - the promise of prior consultation is more than just a pledge by this SNP Government. It’s in keeping with the approach and style of the entire Scottish Parliament. We already operate in a different culture from Westminster – and it’s one which lends itself more readily to the consultation, transparency and stability that your industry needs.
That might be one reason why in a survey Aberdeen and Grampian Chambers of Commerce published last week, more companies thought that independence would have a positive impact on the oil and gas sector, than thought it would have a negative impact – 18% to 12%. And in a survey of more than 1,000 oil and gas workers published two days ago, 64% of them supported independence.
Oil and gas has been central to much of the constitutional debate – indeed, the UK Government has sometimes tried to portray it as a burden rather than a blessing. So it’s telling that those who know most about the sector – those who work in it - take a more optimistic view. It would be difficult to work in this industry and not regard hydrocarbon development as a source of economic wealth and opportunity rather than some sort of great difficulty!
The opportunity for a different culture of government – exemplified by prior consultation on tax changes - brings me to the second advantage of independence. There would be a much more effective relationship between policy officials, regulators and the industry.
Sir Ian Wood’s final report highlights the low priority given to regulation by recent UK Governments. In the early 1990s, the UK Continental Shelf Regulator had 90 staff at a time when approximately 90 fields were in production. Now, there are 50 staff, but more than 300 fields.
That’s one reason why the key recommendation of the Wood Review - for the creation of a new arm’s length Regulator, equipped to deliver a more effective form of stewardship - should be implemented as soon as possible.
I want to deal briefly with the issues of financing and location. Both Sir Ian Wood and Professor Alex Kemp have noted that effective licensing and regulation require highly specialised skills – for example in the use of seismic and well data, and the assessment of new field development plans. That requires proper resourcing.
So the creation of the new Regulator should not be treated as a way for Government to cut its budget on oil and gas regulation – instead, Government should continue to contribute a proportion of the cost. Any other approach would be against the overall intention of Sir Ian Wood’s recommendations – which encourage collaboration, good governance, and a renewed partnership between Government and industry.
It is also crucial to the authority of the new regulator that it is established and funded as a partnership rather than a financial creature of government or indeed industry.
And in terms of location, the UK Government has stated so far that Aberdeen is the “frontrunner” to host the new regulator. But Aberdeen should not be a frontrunner. It should be the only runner. Aberdeen is the hydrocarbon capital of Europe – indeed, one of the great energy centres of the world. It is the only conceivable location for the regulator to have its headquarters. It should not be in pole position as Michael Fallon said, but in sole position.
With independence, I can guarantee that the regulator would be located in Aberdeen
That sort of proximity between the regulator
s, government and industry doesn’t guarantee good policy-making, but it makes it much more likely. It mirrors the model of government which has been so successful in Norway. It creates the right conditions for a close, constructive and effective relationship.
In addition to talking about regulation, I also want to emphasise briefly the importance of safety. The Shetland helicopter tragedy last August, and the 25th anniversary commemorations of the Piper Alpha disaster, are still fresh in all of our minds. After Piper Alpha, Lord Cullen’s Inquiry resulted in a series of proposals that made the North Sea the envy of the world.
We still face important challenges –in relation to ageing infrastructure, for example – but the development of safety cases, and industry programmes such as Step Change, have been a great success. It’s difficult to argue with the proposition that the same philosophy and practice could be applied to offshore transportation. It’s certainly the case that for all of us – in the UK and Scottish governments, and in the industry - safety must continue to be an overwhelming priority.
The third benefit of independence relates to the opportunities it would create for engineering and manufacturing companies, especially in the oil and gas supply chain. On Monday, two different reports were published. One showed that tourism spending in Scotland had increased by 20%. Another, from Ernst and Young showed a rise of 8% in the number of inward investment projects, to levels which are second only to London.
What do these reports show us? Well, all three demonstrated the “halo effect” – the benefits of the significant and positive international attention focussed on Scotland, due to the referendum and major events such as the Ryder Cup, the Commonwealth Games, and the year of Homecoming.
But the report on inward investment demonstrated something else. It showed that the expertise of our oil and gas industry is an important factor in attracting manufacturing. It’s one reason why machinery and equipment is responsible for 10% of Scotland’s inward investment projects, and less than 6% of the UK’s.
On Friday the Scottish Government will publish a paper on reindustrialising Scotland. It will set out how independence would enable us to establish a national plan to strengthen manufacturing. We would support innovation, promote gender equality, invest in skills, improve access to finance, and boost trade and investment.
The paper highlights lessons we can learn – both from international competitors, and also from within the Scottish economy. For example, the oil and gas sector, and its supply chain, is already one of Scotland’s great industrial success stories. But by using all of the powers independence gives us – such as the ability to target tax incentives, to establish a Scottish innovation agency, and create a greater network of international offices - we could achieve even more.
The last benefit of independence goes beyond this industry – it’s about how we ensure that our oil and gas resources benefit all of the people of Scotland.
I used to say that Iraq was the only other major oil producer in the world which didn’t have any form of sovereign wealth fund. But I have now found out that just such a fund has been established in Iraq! So it’s just the UK which invests none of its oil revenues for the future.
Joseph Stiglitz is one of the two Nobel Laureates who sits on the Scottish Government’s council of Economic Advisers. He argued four years ago that the UK “squandered that wealth, you took all that North Sea oil....You mistook the success of the Thatcher era as a success based on good economic policy when it was really a success based on living off your wealth and leaving future generations impoverished.”
Independence will allow us to do some key things differently.
The Scottish Government’s Fiscal Commission Working Group, which includes Professor Stiglitz, proposed a framework where we could start paying into an oil savings fund - while restoring our public finances to a more sustainable footing - once our stock of public sector debt was on a downward trajectory, and once our overall deficit was below our rate of long term economic growth – 3%.
The Fiscal Commission also proposed an oil stabilisation fund designed to equalise peaks and troughs of revenues over time. But the key matter here is the savings fund.
The updated fiscal projections we published two weeks ago suggest that the conditions set out by the Fiscal Commission are likely to be met in 2016-17. Scotland’s deficit will be below 3%, and our debt will be declining relative to our GDP.
So the first Scottish Government elected in 2016 would have the option to start investing in an oil fund from the first year of an independent Scotland. A fund will have to be legislated for - and if elected, we commit to doing exactly that in year one.
Setting up the fund in that first year would allow the fund to be fully integrated into the wider management of Scotland’s public finances from the very beginning. Investments would then be linked to the further strengthening of our public finances.
Any payment made in the first year would just be a start - but great oaks from little acorns grow. Let’s consider Norway. Norway established its oil fund in 1990. Its first payment was in 1996 – and even then, it was worth a mere £200m.
But 18 years on, Norway’s fund is worth more than £500 billion. It owns, on average, 2.5 per cent of every listed company in Europe.
In two decades, Norway has used its resources to become one of the most prosperous countries - and indeed one of the fairest societies - in the world; during the same period, the UK has built up debts of £1.2 trillion.
A Scottish Fund could consider a range of options as part of its investment strategy. Investments could be spread globally, and made in line with specific ethical standards and principles for responsible investment.
To give just one example, Scotland’s fund objectives could be designed to invest some of its capital in a range of low carbon infrastructure and technologies. This could include developing the renewable and low carbon sector in Scotland and globally.
There’s a crucial point here. It’s economically important– and morally imperative – that in using our hydrocarbon resources, we hasten the world’s transition to a low carbon future. Investing a proportion of Scotland’s oil wealth in this way would demonstrate our desire to chart a different course from successive UK Governments. And it would exemplify our responsible and sustainable stewardship of Scotland’s natural resources.
Ladies and gentlemen, I mentioned at the beginning of my speech that the North Sea oil and gas story started on 17th September 1964. On September 18th of this year, a new chapter will begin. The enterprise and ingenuity of your industry will continue. But it will be supported by a new approach from government. An approach which values partnership and consultation; which prioritises stability and certainty; and which will see a long term commitment to stewardship – not a revolving door of ministers and a constant flurry of tax changes.
It’s an approach which will benefit us all. It will achieve our shared aim of maximising economic recovery of our oil and gas reserves. And it will ensure that Scotland’s natural resources are harnessed, for the benefit of all of our people.
So I wish you all the best for this conference, and I look forward to working with you in the years to come- as we secure a sustainable and prosperous future; for this industry, and for all of Scotland.