Tara Weber

BNN Bloomberg Western Bureau Chief

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Canada has many areas of leverage going into the North American Free Trade Agreement renegotiation talks, scheduled for Aug. 16-20, but one of its largest comes from the oil patch.

Currently, the majority of Canadian energy exports head south of the border. The U.S. is Canada’s largest market for crude oil and its only market for natural gas. This lack of a diversity of export markets - and pipelines to reach them - would appear to put Canada at a disadvantage in these negotiations.

But on the flip side, Canada is also largest supplier to U.S. for the energy imports it requires. This trade is incredibly consistent, reliable and secure.

Some say that could make energy a bit of 'Trump card' for Canada.

"Let's hope the Trudeau negotiating team is using Canadian heavy oil as leverage for negotiating," says Dan Tsubouchi, Principal, Chief Market Strategist at Stream Asset Financial Management. "I don't disagree we have no choice but to send it to the U.S., but if the U.S. doesn't get our heavy oil, their economy comes to a standstill."

Carlo Dade Director of the Trade and Investment Centre at the Canada West Foundation adds that may be overstating Canadian oil's importance in the discussions, but agrees there's no doubt U.S. refineries rely on our heavy crude.

Even as American shale production continues to grow, Dade says "the U.S. will still need to import to meet its refinery needs. The U.S. makes a lot of money and employs a lot of people refining crude for export to booming middle class markets in Latin America.”

American refineries need consistent sources to supply customers. For example, refineries on the U.S. Gulf Coast take in roughly 40 per cent of crude from Canada, 24 per cent from Mexico and just over 20 per cent from Venezuela. With political instability and declining output from other suppliers, it makes Canadian crude imports more appealing and bolsters our negotiating position.

The energy relationship between Canada and the U.S. is working well, but there "could be some potential to get guarantees about getting even better access to other parts of the U.S. that could use Canadian heavy oil, such as the Gulf Coast,” Martin King Director, Institutional Research GMP FirstEnergy said.

However, King warns using Canadian energy as leverage can only be taken so far.

"The U.S. Midwest refineries are very dependent on Canadian heavy oil and provide nearly 100 per cent of the heavy oil used in this region, and about half of all the oil used in the region," King said. He adds it will be "tough to threaten to restrict that without creating much bigger problems in retaliation."

SOME POSSIBLE ENERGY 'ASKS' IN NAFTA RENEGOTIATIONS

There may be some potential to address pipeline access issues and speed up the pipeline approval process, as well as add pressure "to ensure that energy is completely exempt from any potential border adjustment tax (or any other tax/fee) as has been discussed recently," says King. "This would certainly take some negative pressure off the investment picture for some Canadian energy names."

The Canadian Association of Petroleum Producers agrees, calling the energy relationship supported by the current free trade pact a "great North American success story" in its NAFTA submission to Global Affairs Canada. Although the United States takes in a vast amount of Canadian product, it's very much a two-way relationship. The relationship includes market access, the elimination or reduction of tariffs in cross-border trade, and liberalized trade of oil and gas products up and down the supply chain.

"Eastern Canadian refineries have also become a new market for growing U.S. light oil production while U.S. shale gas now fuels homes in eastern Canada," CAPP notes in the document. "Along with the flow of energy goods and products, North America enjoys rapid transfers of technology and continental flows of investment capital all of which sustain the North American energy advantage."

CAPP supports the continuation of free energy trade under NAFTA, but says parts of the two decades-old agreement have since become outdated and it would like to see some tweaks.

There are three product-specific rule changes it wishes to have adopted.

"First, the addition of diluent in oil pipelines for export. Second, the treatment of natural gas from liquid to gaseous form and finally, the recognition that all Canadian oil, natural gas or refined products exported are NAFTA origin," Nick Schultz, CAPP's Vice-President of Pipeline Regulation and General Counsel outlined.

On the first point, the diluent that is added to crude to improve the flow during pipeline transportation can run into trouble depending where it  originates from and where in the process it's added to the mix. CAPP says a new agreement should include a product-specific rule for the product in order to allow it to qualify more easily.

In regards to the treatment of Natural Gas, CAPP says once the liquefied natural gas is returned to a gaseous state, it should be treated as part of the North American supply. Otherwise, it warns "any gas anywhere on the North American pipeline grid could fail the test for origin" leaving commercial parties on the hook.

On the last point, CAPP says NAFTA has not kept pace with the developments that have occurred in the energy commodity marketplace, where crude oil and natural gas are digitally traded, pass through many hands, and buyers and sellers remain blind to one another. Sellers often don’t provide the certificates of origin that are required to obtain access to U.S., resulting in Canadian crude being charged both duties and customs fees. It estimates roughly U$20-$30 million in duties and fees are being paid to U.S. Customs on Canadian heavy crude oil, with similar amounts being paid on Canadian light oils.

Instead, CAPP says, "the rules of origin should recognize any crude oil or natural gas or refined product that is received into a pipeline or loaded onto a ship, train, or truck in North America as being of NAFTA origin."

CAPP says without these changes occurring during the renegotiations, Canadian oil and gas products will continue to be deprived of some of the benefits promised under the NAFTA.