Government must quit the oil business

September 29, 2000|By Jerry Taylor

WASHINGTON -- Near-record oil and gasoline prices caused President Clinton to flood the oil market with federally stockpiled oil from the Strategic Petroleum Reserve late last week. The SPR holds 582 million barrels of unrefined crude oil, a stock large enough to replace 37 percent of oil imports for 90 days. Mr. Clinton did the right thing: It's time to pump that oil into the marketplace.

The main objection is that the reserve should remain untouched in case of an embargo or other supply disruption. Tapping the reserve, Republicans argue, would compromise our national security by making us more vulnerable to OPEC in general and Saddam Hussein in particular.

Nonsense.

First, let's quit worrying about an embargo. The 1973 embargo -- the seminal event that still haunts American energy policy -- failed to keep a single drop of OPEC oil out of U.S. ports. That's because once OPEC puts oil into the world market, it can't control what happens to it. All that happened in 1973 was a somewhat costly reshuffling of supply lines.

Nor should we be unduly worried about what an oil shortage might mean for our military during some future crisis. In 1995, Joshua Gotbaum, then an assistant secretary for economic security at the Pentagon, testified before the Senate that the military could fight two major regional wars simultaneously while using only one-eighth of America's current domestic oil production.

Fear that Iraq might shut down production to punish the United States is equally far-fetched. Saddam Hussein wants to sell oil on the world market -- it's the only source of revenue for the Iraqi economy and, thus, the Iraqi military. The only threat to the availability of Iraqi oil is a U.N. embargo on Iraqi oil exports, an embargo strongly supported, ironically enough, by the U.S. government.

Since there's no national security rationale for the SPR, we might as well put those 582 million barrels to productive use. Opening up the SPR is already breaking inflationary expectations regarding future price (expectations that seem responsible for at least $5 of the present cost of a barrel of oil) and driving down world oil prices, at least temporarily.

But we can't be sure how much of a role the release is actually playing in world oil markets or how long the moderate price drop will last.

When governments try to manipulate currency markets by increasing or decreasing the supply of money, they often find that markets anticipate and discount government actions and thus resist the intervention over the long run. That's because, in both currency and oil markets, government reserves are so small in relation to the size of the market that interventions at the margins are uncertain affairs at best.

Moreover, crude oil prices are only one cause of high gasoline and home heating oil prices. The other factor is tight refining capacity. Even if the United States were flooded with oil tomorrow, there's nothing we could do with it for now because domestic refineries are already operating at full capacity. Reducing crude oil prices will have only a moderate and indirect effect on product prices in the short run.

Regardless, using the SPR this way sets a dangerous precedent. The idea that government should be in the business of wholesaling important commodities is the path to economic ruin. That's why we should open up the reserves, drain them as fast as possible and shut down the reserve permanently.

The SPR is a bad economic investment. It costs a tremendous amount of money to maintain a physical reserve of oil. A back-of-the-envelope calculation finds that, after adjusting for inflation, stashing away the oil in the SPR for a rainy day has cost taxpayers about $60 a barrel. Rainy days can and do occur, but even at today's prices, the SPR represents an insurance policy that's more costly than the disaster being insured against.

Still, Mr. Clinton's plan is hard to fathom. Instead of selling all the reserves while prices are high (returning $15 billion to $20 billion for the federal treasury), the administration will loan the oil to companies -- which they can sell on the open market -- and require them to return the borrowed oil to the reserve later. They get to sell high now, buy low later and face little or no downside risk.

If there's an argument to be made against the administration's proposal, that's it.

Jerry Taylor is director of natural resource studies at the Cato Institute, a public policy research foundation in Washington.

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