Musings: Dallas Fed: Houston's Energy Sector A 'Definite Liability'

In the latest Federal Reserve Bank of Dallas' Beige Book dealing with business and financial trends in the 11th District of the Federal Reserve System, the slowing economic growth driver of oil and gas markets was highlighted as a "definite liability" for Houston. The Dallas Fed's conclusion became the headline for a story on the Houston Business Journal's web site discussing the local economy and its growing economic problems. We were, admittedly, taken aback by the Dallas Fed's conclusion, as we would have thought the headline more appropriate for a story about Houston in the 1980s and not today.

We know that Houston is known internationally as the "Energy Capital of the World" due to the concentration of headquarters for international oil companies and oilfield service companies. Houston has benefitted from the boom in oil and gas prices over the past four years, and is coming to grips with the energy industry's reversal of fortune due to the collapse in commodity prices during the second half of 2008. Two economists speaking to a group of real estate people last week said that energy was responsible for 70% of Houston's growth last year and that would be a negative this year. ConocoPhillips (COP-NYSE) earlier announced employee layoffs along with all three of the largest oilfield service companies headquartered here. But to term energy as a liability for the Houston economy seems a little bit too strong, at least for us. That is not to say that there aren't cracks in the veneer of the energy industry, but until some new, non-hydrocarbon based energy source emerges to power global energy needs, oil and gas will remain the dominant energy source both for the U.S. and globally long into this century.

To examine the liability claim of the Dallas Fed, we looked at the latest local employment data, which unfortunately does not provide the extent of detail to really answer the question of how vulnerable Houston's economy is to lower energy industry employment. The U.S. Bureau of Labor Statistics provides monthly data for the Houston-Sugar Land-Baytown MSA (metropolitan statistical area) by broad industry category that enables us to gain some feel for employment trends. The data we gathered covered the 24-month period spanning 2007 and 2008. The data shows that the proxy industry for energy employment did increase its share of the Houston regional employment, but the increase was small and does not appear to present the economic risk suggested by the Dallas Fed.

From January 2007 through December 2008, Houston employment, measured from the establishment data of the employment statistics, grew by 194,500 jobs to 2.67 million. That was a 7.9% increase. The proxy for the energy industry is the employment category Natural resources and mining, and during the period it grew by 13.0% or 10,700. As a share of the total Houston MSA's employment, this sector rose from 3.3% to 3.5% over the 24-month period. A significantly larger employment category, Education and health services, grew by 8.5%, or 23,200 employees over the same period. As we know, Houston has a number of fine universities and a world renowned medical center, which have been significant drivers of Houston economic growth for many years.


The largest employment categories in Houston are Trade, transportation and utilities with 552,800 employees at December 2008, followed by Profession and business services with 399,700 and government with 369,800. Even if we doubled the Natural resource and mining employment (93,300), it would still pale in comparison to these other categories, especially government. For this reason we question the Dallas Fed's statement.

In understanding the role of energy in Houston, we often think about the downtown office buildings that housed many of the famous oil companies -- Continental Oil, Texaco, Humble Oil, Gulf and Pennzoil, to name a few. What we also remember was that during the 1970s the city became the center of the global oil industry boom, only to have that image tarnished by the industry bust of the mid 1980s. After years of Houston being a Mecca for energy industry jobs -- all the Rust Belt states lost population to the Sun Belt states throughout the 1970s U.S. recessionary period -- the city suffered significant economic pain with the oil price collapse of 1986. But from that depression, which left many neighborhoods looking like wild west ghost towns with tumbleweed rolling through, the city of Houston rebounded through increased emphasis put on expanding its other industries, especially the health and education businesses.

A City of Houston Planning and Development document authored in 2000, and subsequently updated, made a number of points about the then recent growth and diversification of the Houston economy. In 1981, energy related industries accounted for 84.3% of Houston's economic base. By 1989 that percentage had declined to 61% and by 2002 it had fallen to 48.3%. According to the Planning and Development report, that energy-related industrial base was comprised of 32.6% upstream oriented businesses and 15.7% downstream focused. While we haven't seen any recent figures, we doubt that there has been a wholesale increase in the dependency of the Houston economy on oil and gas. In fact, the global impact of China and other low-cost labor markets on the U.S. manufacturing sector has also been felt by the energy industry in Houston. Many of us remember when driving west from downtown on the Katy Freeway in the 1970s and passing the 610 interchange that on the right were the plants of Cameron Iron Works (now known as Cameron International after various transitions) with their huge flaming furnaces producing valves and other large iron pieces used in making oilfield products. We have other memories of driving down Navigation Boulevard past the Hughes Tool, Reed Tool and Baker Oil Tool plants, to name a few, that were humming with activity. Most of this manufacturing base has been scattered to lowcost labor markets both here and abroad. That transition occurred over the past 20 years.

While there may be a lot fewer drilling rigs being used by the energy industry today, there haven't been a large number drilling in the Houston-Sugar Land-Baytown region for many years. So while there are a number of drilling contractors headquartered in Houston, most of them are staffed with management people less impacted by the fluctuations of the rig count.

Houston's energy industry does have a vulnerability, but it's not $40 a barrel oil and $4 a Mcf natural gas. It is plug-in automobiles that can run for hundreds of miles on one charge, powered by low-cost, long-lived batteries. That's when you are talking about change that will alter Houston's energy franchise. But just as New Bedford, Massachusetts, the capital of the U.S. whaling industry, didn't die immediately after kerosene and rock oil were introduced into the illumination fuel mix, neither will the oil and gas business die overnight with the introduction of battery-powered automobiles, either. However, the question oil industry executives should be pondering is whether there are, or will be, opportunities for them in the energy business of the last half of this decade. Houston has always been populated by risk-oriented entrepreneurs so we remain confident about the long-term health of this city. But energy as a "definite liability" seems a bit too harsh a characterization of Houston in 2009.


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