The Leasing of Federal Lands for Fossil Fuels Production

Stephen Macdonald

• Publisher: RFF Press
• Year: 2013
• ISBN:
  9781135986933
• Edition: 1
• Topic: Droit
• Subtopic: Droit de l'environnement

Stephen McDonald offers a basic understanding of the goals and practices by which the federal government leases its fossil fuel resources and how these practices affect the economy. Originally published in 1979

1

Introduction

This study was undertaken on the premise that the greater part of the nation’s remaining fossil fuel resources are to be found on lands, offshore and onshore, under federal jurisdiction, and that the procedures, terms, and conditions under which these lands are leased for minerals production will significantly affect the nation’s energy economy for many years to come. It has been recently estimated that about two-thirds of our remaining oil resources and 40 percent of our remaining natural gas resources are located on the outer continental shelf. About 40 percent of the country’s known coal resources are situated on federal lands in the West. About three-fourths of the acreage containing oil shale deposits with commercial potential consists of public lands.¹ All these lands are leased, or are subject to lease by the Department of the Interior, to private operators under procedures, terms, and conditions prescribed by federal statutes and regulations. In view of the nation’s energy problems and prospects, the question may be raised whether existing leasing practices and associated regulation of lessee operations contribute what they could to an efficient energy economy. We shall try to give at least a tentative answer to that question.

The granting of mineral leases on federal lands is administered by the Bureau of Land Management (BLM) of the Department of the Interior, with some technical assistance regarding geological features and probable value from the Geological Survey of the Department of the Interior. The supervision of lessees, including environmental and conservation regulation, is primarily the responsibility of the Geological Survey.² Except for certain leases for oil and gas production on onshore federal lands, leases are granted to the operator bidding the highest lease bonus (if it is deemed acceptable), with rental and royalty rates specified in the lease offer. Onshore oil and gas leases of lands not on a known geological structure of a producing field are granted to the first qualified applicant for a $10 filing fee, with rental and royalty rates specified.

As the law is officially interpreted, the major objectives in the management of publicly owned mineral resources are “(1) to assure orderly and timely resource development; (2) to protect the environment; (3) to insure the public a fair market value return on the disposition of its resources.”³ No one of these objectives dominates the others, and it is not clear from the law or official pronouncements how they are to be reconciled if they conflict in application, as they may. For instance, sufficiently strong measures to protect the environment may delay development and may also reduce the value of resources to prospective lessees. Or sufficiently rapid development may result in less than fair market value being received. It is, in any case, not clear just what “orderly and timely” development means in practice. On the other hand, these three objectives may be mutually consistent if we can integrate them into one decision rule, as we try to do in this study.

Basically, our argument is this: the Department of the Interior should try to capture a maximum of the present value of the pure economic rent arising from minerals production on federal lands, where pure economic rent is the income which tends to accrue in the long run, under conditions of perfect competition and the absence of externalities, to the owners of raw natural resources. This rule, as we shall try to show, is the equivalent of the rule that the Department of the Interior should try to maximize the value of natural resources to society. We do not mean to suggest that the department attempt to measure, a priori, the pure economic rent available and then insist upon using the figure as a minimum payment by the lessee; there is no practical way it can do that. Rather, we mean to say that the Department of the Interior should try to create and maintain leasing conditions which are conducive to the desired result. Thus, for example, conditions that reduce lessee uncertainty, that increase effective competition for leases, that increase efficiency of resource extraction, that internalize externalities such as environmental damage—all these and perhaps others tend to result in Interior’s capturing a maximum of the pure economic rent available.

In this study our rule does three things. First, it allows us to integrate the three objectives listed on page 2. It tells us at once what “fair market value” should mean, how environmental controls properly contribute to it, and how, by reducing rent to present value, we can give definite meaning to “orderly and timely development.” Second, it allows us to show the relevance of the conservation and related regulation imposed by the Geological Survey on lessees to the objective of obtaining fair market value. With particular reference to oil and gas on the outer continental shelf, we can outline the appropriate approach to regulation. Third, it provides a criterion by which to evaluate some features of the leasing process, such as bonus bidding, and some alternatives, such as royalty bidding. In essence this study consists of the application of our rule to the analysis of all major features of the leasing process and its possible alternatives.

There are at least two things we do not try to do. First, we do not concern ourselves with administrative or procedural details. We do not attempt, for instance, to say how and when notices of lease sales should be published. We do not concern ourselves with the problem, which operators naturally complain of, of excessive red tape in leasing and related regulation. Second, we attempt no quantitative modeling. We do not attempt to say that the Department of the Interior should lease some specific number of acres per year, or that it would receive some specific number of additional dollars per year if it changed some procedure. The latter sort of thing is, no doubt, important, but it is beyond the scope of this study.⁴

It should be noted that not all minerals found on federal lands are subject to the leasing laws. The so-called hard-rock minerals, including uranium, are subject to the location and claim system of establishing production rights. We exclude them from this discussion, of course. We further narrow the discussion to those leasable minerals that are pertinent to the energy problem—oil and gas, and coal and oil shale. While much of what we have to say is relevant to such leasable minerals as sulfur, phosphates, sodium, and potassium, we do not attempt to deal with the problems and issues that may be uniquely pertinent to them.

It will be observed by the reader that rather more space is given to oil and gas than to coal and oil shale. The reason for this is the fact that oil and gas present a unique regulatory problem, that of conservation, which is extremely important to the results of leasing. This problem, which is little understood by the general public, must be discussed at some length; hence the additional space given to oil and gas leasing and related practices.

In chapter 2 we will begin with the legal basis of leasing practice, citing the relevant statutes and regulations. Our purpose is not simply to say what the law is, important as that may be, but rather to outline and explain actual practices. Chapters 3 and 4 are theoretical; in them we will develop the analytical framework. In chapter 3 we will discuss in detail the nature and determinants of economic rent, will define for our purposes “pure economic rent,” and will show that maximizing pure economic rent is the equivalent of maximizing the value of natural resources to society. Chapter 4 is devoted to the problem of the optimum rate of output of minerals, with specific reference to oil and gas, and to the economics of environmental protection. We will show the relevance of efficient extraction and environmental protection to maximizing pure economic rent.

Having developed the analytical framework, we devote the next four chapters to the analysis of specific procedures in land leasing. Chapter 5 is concerned with the manner and rate of land leasing. Here we will try to show that leasing should be on the basis of competitive bidding, and that, under some circumstances, accelerated leasing may be in the interest of maximizing the present value of pure economic rent. In Chapter 6 we take up alternative bidding systems—bonus bidding, royalty bidding, profit-share bidding, and other combinations. We also consider sequential bidding, installment-bonus payment, and working-interest bidding. Chapter 5 is concerned with production (conservation) regulation, with particular reference to oil and gas production on the outer continental shelf. An argument is made for the compulsory unitization of reservoirs with operator freedom as to well spacing and production rate, although we do recognize that there is considerable merit in regulation on the basis of the maximum efficient rate (MER) with explicit economic content. Chapter 8 is devoted to the subject of environmental regulation. We will argue that the objective should be internalization of actual environmental costs and not absolute environmental protection, but we find difficulties associated with the measurement of environmental costs. Chapter 9 contains a summary of our conclusions and recommendations.

¹ Statement of Harrison Loesch in Federal Leasing and Disposal Policies, Hearings before the Senate Committee on Interior and Insular Affairs (Washington, D.C., June 19, 1972) pp. 35–37. A more recent (1975) estimate of oil and gas resources by the U.S. Geological Survey assigns about a third of these resources to the outer continental shelf. For various estimates, see Robert J. Kalter, Wallace E. Tyner, and Daniel W. Hughes, Alternative Energy Leasing Strategies and Schedules for the Outer Continental Shelf (Ithaca, N.Y., Cornell University, 1975) pp. 9–10.

² The act establishing a new Department of Energy in the federal government (Public Law 95-91, August 4, 1977) transfers to the secretary of the new department certain powers formerly exercised by the BLM and the Geological Survey. These include the promulgation of regulations to foster competition in the bidding for federal leases, to implement alternative bidding systems, to establish diligence requirements, and to set rates of production (ibid., sec. 302b).

³ Loesch, Federal Leasing and Disposal Policies, p. 38.

⁴ The author has been particularly impressed by the modeling work of Kalter and coauthors, Alternative Energy Leasing Strategies.

2

The Legal Basis of Leasing Practice

To begin, we will review the statutes and regulations governing the leasing of federal lands. Such a review will indicate not only the legal foundations but also the nature of actual practice. Incidentally, it will also provide the basis for later indicating whether changes in the law would be required to authorize certain changes in practice that have been or may be suggested. We will make no attempt in this review to cover every detail of law; rather, our purpose will be to bring out those major features which have a bearing on the largely economic analysis that constitutes the bulk of this study.

The presentation is organized by statutes, but at appropriate points we will provide the content of major amplifying regulations. We will ignore those regulations that merely repeat statutory provisions, or those that concern administrative details of no particular relevance to our study. Also, at this time we will not discuss operating regulations governing lessees; these will be taken up at a later point in the context of efficiency, conservation, and related matters.

THE MINERAL LEASING ACT OF 1920, AS AMENDED

GENERAL CONSIDERATIONS

The Mineral Leasing Act of 1920 is the basic law governing the leasing of onshore public lands (as distinguished from the outer continental shelf, covered by another statute).¹ The act provides that

… Deposits of coal, phosphate, sodium, potassium, oil, oil shale, native asphalt, solid and semisolid bitumen, and bituminous rock, … or gas, and lands containing such deposits owned by the United States [with certain exceptions] shall be subject to disposition in the form and manner provided [hereinafter] to citizens of the United States, or to associations of such citizens, or to any corporation organized under the laws of the United States, or to any State or Territory thereof, or in the case of coal, oil, oil shale, or gas, to municipalities.²

The United States reserves rights to helium.³ The provisions of the act apply also to deposits of the minerals enumerated above in such lands as may have been or may be disposed of under laws reserving mineral rights to the United States.⁴

The leases or permits which a person, association, or corporation may own or control at any one time are limited. In the case of coal, the limit is 46,080 acres in any one state, and 100,000 acres in the United States as a whole.⁵ In the case of oil and gas the limit is 246,080 acres in any one state other than Alaska, where the limit is 300,000 acres in each of the northern and southern leasing districts. Options to acquire oil and gas leases are also limited to 200,000 acres in any one state other than Alaska, and to 200,000 acres in each of the Alaskan leasing districts.⁶

Any state owning lands acquired from the United States may consent to the development and operation of such lands under agreements approved by the secretary of the interior for the purpose of conserving oil and gas resources, including agreements for cooperative or unit development and op...

Table of contents

• Cover
• Half Title
• Title Page
• Copyright Page
• Original Copyright Page
• Contents
• Acknowledgments
• Foreword
• 1. Introduction
• 2. The Legal Basis of Leasing Practice
• 3. The Relevant Economics: Economic Rent
• 4. The Relevant Economics: Efficient Extraction of Minerals and Environmental Protection
• 5. The Manner and Rate of Land Leasing
• 6. Alternative Bidding Systems
• 7. Production Regulation (Conservation)
• 8. Environmental Regulation
• 9. Conclusions and Recommendations
• Index