Petrochemical Regulatory Capture: Athabasca Oil Sands and Marcellus Shale

Montgomery Bohna

June 23, 2013

Within the contemporary North American petrochemicals industry as a whole, the similarities between the exploitation of Marcellus shale natural gas deposits centered in south-west Pennsylvania and the oil tar sands deposits centered on the Athabasca field in northern Alberta make for an obvious comparison. The economic potential of both deposits have been known to geologists for a long time: for at least 50 years in the case of Marcellus Shale and in Alberta as early as 1888, when Robert Bell, director of the Geological Survey of Canada, reported to the Canadian Senate that “the evidence ... points to the existence in the Athabasca and Mackenzie valleys of the most extensive petroleum field in America, if not the world”.[1] However, profitable exploitation of the respective fields is relatively recent, beginning on a large scale from 2005 in Alberta and 2007 in Pennsylvania. 

Recent estimates of the size and value of the technically recoverable Marcellus reserves range from 400 to 490 trillion cubic feet (TCF), sufficient to meet domestic demand for about two years and with a potential total value of US$200 billion.[2] Alberta’s total proven oil reserves, of which 99% come from the Athabasca and related oil sand fields, is estimated at more than 170 billion barrels, making Alberta’s reserves the third largest in the world after Saudi Arabia and Venezuela. According to the Pennsylvania Department of Labor, the total Marcellus Shale-related employment was 238,400 as of the fourth quarter of 2011, while the Alberta Ministry of Energy estimates that the province’s energy sector in the same year accounted for nearly 28% of provincial GDP and employed 116,000 workers.[3] 

In short, both Alberta and Pennsylvania have experienced booms driven by technological advances in the extraction of what have proven to be very large petrochemical resources, long known but until recently impossible to efficiently exploit; in both places, the state/provincial governments have had to react relatively quickly in order to revisit and revise their regulatory schemes relating to these resources. The major difference, and therefore the chief source of interest from the point of view of public choice theory, is in the constitutional structure of the two. Pennsylvania’s regulatory body, the Department of Environmental Protection Office of Oil and Gas Management (OGM), is authorized by and subject to legislation passed by the Pennsylvania General Assembly, but is part of and answerable to the state’s Executive Branch headed by the Governor of Pennsylvania. The newly-created Alberta Energy Regulator (AER), while nominally independent of the Government of Alberta, is ultimately subject to the authority and direction of the Minister of Energy, and therefore to the parliamentary party forming the Government (i.e. Cabinet) of the province. In general this difference equates to the familiar pattern of American separation of powers versus Westminster-style legislative-executive unity, but the political dynamics of Alberta are nearly unique in North America in that the same party, the Progressive Conservative Association of Alberta (“the Tories”) has held a majority (currently 60 of 87 seats) in the Alberta Legislative Assembly without interruption for forty-two years, and appears likely to do so for the foreseeable future.

The theory of regulatory “marasmus” or capture, associated most especially with Huntington, Stigler and Peltzman, attempts to express a form of market relationship between regulators (in Stigler’s phrase) or legislators (in Peltzman’s) and economic interests: “the essential commodity being transacted in the political market is a transfer of wealth…the political market [in relation to regulation] will distribute more of the good to those whose effective demand is highest”.[4] Both Stigler and Peltzman define the currency of the regulatory marketplace to include not just votes but also “support of the appropriate political party” such as campaign contributions, persuasion of other voters, or even bribery of officials, in a relationship which Peltzman expressed as

M = n * f - (N-n) * h

where

M = majority

n = number of potential voters in the beneficiary group

f = (net) probability that a beneficiary will grant support

N = total number of potential voters

h = (net) probability that he who is taxed (every non-n) opposes.[5]

Peltzman’s model is based on several acknowledged simplifications, including an elision of the specific political structure and whether “appointment of a regulatory body [lies] effectively with a legislature, a committee thereof, or an executive”; however, it is notable that all of Peltzman’s examples are taken from the American political system, applicable to Pennsylvania’s regulation of Marcellus Shale but less so to the Albertan case.[6] 

The salient fact in the case of Alberta is that the regulatory body is effectively identical to the legislative power; the Tories can change legislation at will and, short of a public scandal, are effectively immune to electoral defeat. Despite repeated front-bench assurances on the floor of the Legislative Assembly that the AER would be “independent”, Ss. 67 & 68 of REDA authorize the Minister of Energy to “give directions to the Regulator to follow in the carrying out of its powers, duties and functions, and [to ensure] the work of the Regulator is consistent with the programs, policies and work of the Government” [7] The regulatory scheme in Pennsylvania is defined principally by three pieces of legislation relating to oil and gas drilling in the state: the Oil and Gas Act (Act 223 of 1984) as amended recently by Act 13 of 2012, the Coal and Gas Resource Coordination Act (Act 214 of 1984), and the Oil and Gas Conservation Law (Act 359 of 1961), in addition to environmental-protection legislation such as the Clean Streams Law (Act 394 of 1937, amended) and other relevant legislation. In general, the authority provided by this legislation to OGM is comparable to that of AER: both enjoy vast powers to license, inspect and control their respective petrochemical industries: the two main differences are that a) the regulatory power of AER is enhanced by the fact that more than 87% of the oil sands deposits are on Crown land and b) the ability of the Pennsylvania executive branch to alter the legislative framework is far less than its Alberta counterpart. 

What effect do the differences in political structure between Alberta and Pennsylvania have on the degree of regulatory capture? A comprehensive evaluation would require extensive research, but it is possible to offer limited conclusions based on available prosopographical information. While biographical information (or indeed, the names) of the professional staff of OGM is very hard to find, it is possible to learn something about the membership of two bodies, the Marcellus Shale Advisory Commission (MSAC) and the Oil and Gas Technical Advisory Board (OGTAB). The MSAC, which consists of 30 members, was formed in 2011 by Gov. Tom Corbett on his own authority by executive order; the OGTAB, which is made of up of five members, is provided for and given certain statutory responsibilities under the provisions of the Oil and Gas Act. Although neither body has direct regulatory power, both have formal advisory or consultative functions, and their composition can be taken to indicate a rough degree of influence in the decision-making of OGM. Of the 30 MSAC members, three represent environmental protection organizations, two are academics, four represent county or municipal government, eigh are politically-appointed and/or cabinet-level state officials, and twelve represent various industries involved in Marcellus Shale drilling. The OGTAB is made up of one academic (Dr. R. W. Watson, Associate Professor of Petroleum & Gas Engineering at Penn State University) while the remaining four members represent industry. 

The AER Board of Directors has considerably more direct power than either of the Pennsylvanian advisory boards, including the right (subject to ministerial approval) to hire the agency’s CEO, who in turn is responsible for all day-to-day regulatory decisions affecting the oil sands industry in the province. The Board consists of seven members and the chair, all appointed by the Lieutenant Governor in Council (i.e. the Crown acting on advice of the Government). Its chair, Gerry Protti, is very much an “industry insider”: a former executive officer of EnCana Corporation and the founding president of the Canadian Association of Petroleum Producers. One other member is directly connected to the petroleum industry as a senior vice-president of NOVA Chemicals. The remainder of the board consist of an engineering academic, a forestry executive, a retired chartered accountant, a veterinarian with active ties to the Alberta cattle business, a director of the management consultantancy company McKinsey & Co., and a career civil servant who is a former Assistant Deputy Minister of Environment Canada and former Under Secretary General of the United Nations. The CEO, Jim Ellis, is a career civil servant, most recently as Deputy Minister (i.e. civil service head) of the Alberta Ministry of Energy.

Though certainly a limited and inexact measure of regulatory capture, comparison of the Alberta and Pennsylvania groups produces a suggestive distinction: while in the case of Pennsylvania industry interests are directly represented by a near majority (16 of 35) of the members of OGTAB and MSAC, of the eight seats of the Alberta AER Board, just two are held by figures connected to Petrochemical business, albeit one of the two is its chairman. On the assumption that membership of these bodies confers actual regulatory influence, one might well conclude that in Pennsylvania there is a reasonable case for regulatory capture in the Marcellus Shale boom. In the case of Alberta, three possibilities arise: first, that the relative political immunity of the Tories has shifted regulatory capture elsewhere: the AER Board is a Potemkin village, and the “real action” is the relationship between industry and the Minister of Energy (or his cabinet colleagues) conducted behind the scenes and out of the public eye. The second possibility is that the particular conditions of parliamentary government in Alberta require a modification to Peltzman’s voter/beneficiary equation: given that the only real threat to the Tory cabinet is a theoretical Tory backbench revolt, the real constituency of the Energy Minister and his cabinet colleagues is their own parliamentary party. The third possibility is that a political culture placing a high value on public probity, combined with constitutional structural features of the Westminster parliamentary model, in particular “responsible government” (Question Time) and the hard line between political officials at ministerial level and the apolitical permanent civil service at sub-ministerial level (such as AER CEO Jim Ellis), is sufficient to minimize regulatory capture, despite the near-absence of political competition in Alberta. 

Notes

[1] Hein, Francis J (2000). "Historical Overview of the Fort McMurray Area and Oil Sands Industry in Northeast Alberta" (pdf). Earth Sciences Report 2000-05. Alberta Geological Survey. Retrieved 2013-6-23.

[2] Penn State Marcellus Center, How Much Gas Can the Marcellus Shale Produce" (pdf). Retrieved 2013-6-23.

[3] Pennsylvania Department of Labor, “Marcellus Shale Fast Facts” (pdf). Retrieved 2013-6-23.

[4] S. Peltzman, “Toward a More General Theory of Regulation”, J. of Law and Economics, v. 19, no. 2 (Aug. 1976), 212; cf. Samuel P. Huntingdon, “The Marasmus of the ICC: The Commission, The Railroad, and the Public Interest”, Yale Law Journal, v. 61 (Apr. 1952), 467-509; George J. Stigler, “The Theory of Economic Regulation”, Bell J. of Economic and Management Science, v. 2 (1971), 3-21.

[5] Peltzman, ibid., 214.

[6] ibid.

[7] Responsible Energy Development Act, SA 2012 ( c R-17.3). Cf. Finlay & Roth, “Responsible Energy Development Act – A Sea Change in Energy Project Regulation? Stay Tuned” (Focus on Energy: January 2013), Dentons Canada LLP: “the Responsible Energy Act makes it clear that the “Minister’s” role is to set policy and objectives regarding energy development with the Regulator implementing that policy”.