As U.S. and Israeli attacks continue in Iran, the country’s new supreme leader said on Thursday Iran should keep the Strait of Hormuz closed and continue attacks on its Gulf Arab neighbors. The ongoing chaos sent oil prices above $100 a barrel. KUNM talked with chief economist for the Legislative Finance Committee Ismael Torres, about what this volatility means for New Mexico.
TORRES: The longer prices remain high, there's larger impacts, both on production and on state revenues, both to the general fund and maybe some of the investment funds that we have. But there's also an impact to New Mexico consumers, to New Mexicans in general. You know, the higher gas prices definitely means less money to spend on other items that otherwise would have been taxable revenue to the state. So there's a cost associated with the high oil prices to New Mexicans, even though there might be a revenue gain to the state.
KUNM: When it comes to oil prices, whether they're falling or surging, does the LFC have some kind of formula to track that?
TORRES: In general, we are looking at the price over the entire fiscal year. Our formula or our rule of thumb, as we call it, is updated every forecast. So, you know, we're revenue forecasters, and every time we publish an estimate, we try to estimate how much $1 change in the price of oil translates to in revenues for the state. We estimated $58 per barrel in this fiscal year that we're currently in and with prices – if they were to stay above 90 – that would increase our average for the year to about 70. So you could see how that could translate to maybe about $600 million more in revenues in this fiscal year if prices stay high, which, if you're watching prices like I am, you know, they're all over the place.
KUNM: So with the uncertainty of what will happen, how does that affect the LFCs ability to forecast revenue?
TORRES: Oil volatility is, and always has been , our hardest to estimate revenue source, and in many ways the most important to get right, because it's such a large share of our total budget. We are very focused on that oil price forecast and the oil production forecast, and it is extremely hard to estimate. It's very volatile. It definitely adds to the challenge of managing the budget. But the legislature, actually, in the last seven years, has taken huge steps to insulate the state budget from volatility in oil and gas prices, but also in production. And so maybe 10 years ago, I would have been a lot more worried about this volatility, but today, I actually feel a lot more comfortable because I know we're mostly protected from those big swings up or down.
KUNM: How is that New Mexico oil prices are affected by instability elsewhere?
TORRES: There's a couple of answers to that. One, there's a short term supply shock that is increasing prices, less oil on the market, same amount of demand from the world for oil means prices are going to go up, and that's the result of some of the danger in the Middle East and getting oil tankers who are carrying the oil that the world needs through and out of that area, that means, temporarily, prices go up. If conflict eases or settles, prices will come back down as the supply reaches the market once again, if there's broader damage, or more sustained damage to oil infrastructure, say, the wells that are producing oil in the Middle East, or to tankers carrying oil that could have a longer effect on prices by decreasing supply for a longer period of time, the way, the way it comes to New Mexico is oil is a global product. So if there is a shortage of supply on the world stage, prices for oil everywhere goes up, including in New Mexico. And for a state like New Mexico, which is the second largest oil producing state in the country, we tax the oil produced in New Mexico, and if the price is higher for that oil, the tax that we get on that oil is higher because the value is worth more. So that's how we get higher revenues. The tax is imposed, but also the royalties we receive for, say, the public land on which the oil is produced. So that's how the state gets more but certainly that also means that gas prices are going to go up because the price of oil globally is up, and that means, of course, New Mexicans are paying more out of pocket for that gas, and that usually translates into less money in their pocket for other things.
KUNM: And with the recent report from the Legislative Finance Committee, they found that there's a decrease in the state's general fund revenue. Could this short term surge in oil prices help long term investments like the costly universal child care?
TORRES: I think, to the extent that high oil prices now lead to more revenues into the Early Childhood Trust Fund; yes, it could support those longer term investments. On the short term, it is less likely to impact or to have a benefit to the state's coffers, and the reason for that is those insulating mechanisms I mentioned earlier. A lot of that oil and gas revenue doesn't go directly into the state budget anymore. And also, in order to see a really meaningful change in the amount of oil produced in New Mexico, we likely need to see a sustained price increase. So it can't just be $90 a barrel for a week. I would think that we need to see at least three months of that, if not more, before companies in New Mexico really change their increase their production, and that increase in production is what would really benefit the budget in the short term, as more activity results in more tax revenues.
KUNM: So with everything that we're talking about at this moment, what should New Mexicans be aware of, and what should they be keeping a close eye on?
TORRES: The biggest determinant of oil prices going forward and gas prices going forward is going to be the conflict. The quicker it's resolved, the quicker oil prices and gas prices will come down. That's the number one thing. But if this continues, if this is prolonged, I would say the next thing to look for is any serious impacts on production capacity in the Middle East, if oil wells are being shut in to a large degree, if there's any damage to transportation capacity, either through boats or pipelines, all of that would have much longer, more serious and maybe larger effects on prices going forward.
Support for this coverage comes from the Thornburg Foundation.
