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Arctic Leaf

It’s not the oil we import that makes us vulnerable, it’s the price

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The United States Energy Security Council has written a brilliant report explaining why neither increased production nor improved conservation will solve our oil problems or free us from dependence on world events.

The Council numbers 32 luminaries from across the political spectrum, including such diverse figures as former National Security Advisors Hon. Robert McFarlane and Hon. William P. Clark, former Secretary of State Hon. George P. Shultz, Gen. Wesley Clark, T. Boone Pickens and former Sen. Gary Hart. The study, “Fuel Choice for American Prosperity,” was published this month.

The report wades right in, pointing out that even though our domestic production has increased and imports are declining, we are still paying as much or more for imported oil than we did in the past. The report states, “Since 2003 United States domestic oil production has risen sharply to the point the International Energy Agency projects that the United States is well on the way to surpassing Saudi Arabia and Russia as the world’s top oil producer by 2017. Additionally fuel efficiency of cars and truck is at an all-time high. As a result of these efforts, U.S. imports of petroleum and its products declined to under 36% of America’s consumption down from some 60% in 2005.”

Good news, right? Well, unfortunately not so fast. The report adds, “None of this has had any noticeable downward pressure on global oil prices. Over the past decade the price of crude quadrupled; the value of America’s foreign oil expenditures doubled and the share of oil imports in the overall trade deficit grew from one third to about 5%. Most importantly, the price of a gallon of regular gasoline has doubled. Despite the slowdown in demand, in 2012 American motorists paid more for fuel than in any other year before.”

How can it be that all this wonderful effort at improving production still has not made a dent in what Americans pay to fill up their cars? The problem, the study says, is that OPEC still has enough monopolistic market leverage to keep the price of oil where it wants. “While non-OPEC supply has been increasing and while the world economy is growing by leaps and bounds, OPEC, which holds some three quarters of the world’s economically recoverable oil reserves and has the lowest per barrel discovery and lifting costs in the world, has failed to increase its production capacity on par with the rise in global demand. Over the past four decades, world GDP grew fourteen-fold; the number of cars quadrupled,; global crude consumption doubled. Yet OPEC today produces about 30 million barrels of oil a day (MBD) – the same as it produced forty years ago.”

This means that even though we’re doing very well in ramping up supply and reducing demand, the overall distribution of reserves around the world still weighs so heavily against us that we’re basically spinning our wheels as far as what we pay for oil is concerned. The Council sums it up succinctly: “What the U.S. imports from the Persian Gulf is the price of oil much more so than the black liquid itself.”

So, what can we do? The Council says we have to change our thinking and come up with an altogether new approach: “If we are to achieve true energy security and insulate ourselves from countries that whether by design or by inertia effectively use oil as a economic weapon against us and our allies, America must adopt a new paradigm – one that places oil in competition with other energy commodities in the sector from which its strategic importance stems: the transportation fuel market.”

In other words, quite simply, we have to find something else to run our cars. “Although this may appear to be a daunting task, our country — and the globe — is abundant in energy resources that are cost-competitive with petroleum.”

In fact, there are numerous alternatives available. We have natural gas that can be used in a variety of ways, we have biofuels and we have electricity; all of which exist in abundant supply. What prevents us from using many of these alternatives is a regulatory regime and political inertia that prevents them from being employed. “Cutting into oil’s transportation fuel dominance has only been a peripheral political objective over the past forty years with inconsistent support or anemic funding from one Administration to the next. Competing technologies and fuels to the internal combustion engine and to gasoline and diesel have often been viewed as political pet projects by the opposing party. . . . What we must do is relatively simple: level the playing field and end the decades-old regulatory advantage that petroleum fuels have enjoyed in the transportation fuel market. By pursuing a free market-oriented policy that has as its primary objective a competitive market in which fuels made from various energy commodities can be arbitraged against petroleum fuels, the United States can lead the world in placing the best price damper of them all – competition – on oil.”

The Council is particularly critical of the “multiplier” system that has allowed the Environmental Protection Agency to become the arbiter of which alternative vehicles win favorable regulatory approval. The Corporate Average Fuel Efficiency (CAFE) standards have now been set so high — 54.5 mpg by 2025 — that no one realistically expects them to be achieved. But automakers can win “multipliers” by manufacturing alternative-fuel vehicles that are counted as more than one car, thus lowering the fleet average. The value of this multiplier, however, is determined solely by the EPA.

But as the study points out, the EPA has a conflicting mandate. On the one hand, it is supposed to be cutting gasoline consumption but on the other it is concerned with cutting pollution and carbon emissions. (Just why the EPA and not the Department of Energy is administering the CAFE program is a question worth asking.) So the EPA tends to favor cars that do not necessarily improve energy consumption, but cut emissions. Thus, it awards a two times multiplier to electric vehicles and fuel cell cars by only 1.3 times for plug-in hybrids and compressed natural gas. Meanwhile, flex-fuel vehicles, which could do most for reducing oil consumption, get no multiplier at all.

The Energy Security Council has many other good recommendations to make as well. I’ll deal with them at length in a later column. But for now, the takeaway is this: Greater production and improved efficiency will only get us so far. The real key to lowering gas prices and freeing ourselves from foreign dependence is to develop alternatives to the gasoline-powered engine.

Arctic Leaf

And that’s the way it is or isn’t — stable oil and gas markets

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“And that’s the way it is” was used by my favorite news anchor, Walter Cronkite, to sign off on his highly respected network news show. And that’s the way the content he generally delivered generally was — clear, factual, helpful. I have tried to apply Cronkitism to today’s media analyses and commentary on oil production and oil prices. The new assumed “way it is” regrettably sometimes seems like the way the journalist or his boss — whether print, TV or cable — wants it to be or hopes it will be. Frequently, partial sets of facts are marshaled to ostensibly determine clear cause and effect relationships but end up confusing issues and generating questions as to the author or speakers mastery of content and conclusions.

What’s a Cronkitist to do? I often look to The New York Times for the wisdom grail. Generally, it works. But, I must confess that a recent piece in the Times by outstanding journalist, Clifford Kraus, titled “Is Stability the New Normal?” Oct. 9 bothered me. I found its thesis that a new stability has arrived with respect to oil prices and by implication gas prices at the pump a bit too simple.

The author indicates that “predictions about oil and gas prices are precarious when there are so many political and security hazards. But it is likely that the world has already entered a period of relatively predictable crude prices…there are reasons to believe the inevitable tensions in oil-producing countries will be manageable over at least the next few years, because the world now has sturdier shock absorbers than at any time over at least the past decade.”

What are these absorbers? First, more oil production in the U.S., Canada, Iraq and Saudi Arabia, to balance the loss of exports from countries like Iran, Libya and, I assume, Venezuela and possibly Nigeria. Second, the continued spread of oil shale development throughout the world, including many non-Middle East or OPEC countries. Third, increased auto efficiency, conservation and lower demand for gas in the U.S. Finally, near the end of the article and not really seemingly central to the author’s stability argument natural gas becomes in part a hypothetical “if.” He notes that American demand for gasoline could drop below a half a billion barrels a day from already below peak consumption, if natural cheap gas replaces more oil as a transportation fuel. (At least he mentioned natural gas as a transportation fuel. Most media reports fail to tie natural gas to transportation) break open the champagne! Nirvana is near! Michael Lynch, a senior official at Strategic Energy & Economic Research Inc., is quoted in the article, saying, “Stable oil prices could reduce future inflation rates and particularly curb transportation costs, helping to steady prices of food and construction materials that travel long distances…Lower inflation can also help reduce interest rates. By reducing uncertainty, investor and consumer confidence should both be increased, boosting higher spending and investment and thus economic growth.”

In the words of Oscar Hammerstein II, I want to be a cockeyed optimist…but something tells me to be at least a bit wary of a too-good-to-be-true scenario, one premised on a historically new relatively high price of oil per barrel (bbl.), just under $100 (the price is now about $105) and gas prices likely only modestly lower than they are now (the U.S. average is close to $3.50 a gallon)

So why be wary and worry?

1. The Times accepts the rapid significant growth in oil shale development and production too easily. Maybe they are right! Perhaps the oil shale train has left the station. But the growth of environmental opposition, particularly opposition to fracking, will likely slow it down until regulations perceived as reasonable by the industry and environmentalists are put in the books. Further, the often very early large expectations with respect to new pools of oil in places like the Monterey Shale, featured in media releases, have not panned out after later sophisticated analyses. Finally, the price of hard to get at oil may come in so high as to limit producer enthusiasm for new drilling.

2. The Times correctly suggests that the relationship between oil prices and gasoline costs may be less than thought conventionally. Lower oil costs in the U.S. do not necessarily trigger lower gasoline costs, and higher gasoline costs are not necessarily the result of higher oil costs per barrel

The Times credits the recent visible break in the relationship primarily to an abundance of oil linked to oil shale production in the U.S. and in many other countries and to falling demand for oil throughout the world, including China, to the lack of economic growth and higher efficiency of vehicles.

It’s more complicated. For example, price setting is affected in a major way by speculation in the financial community, and by oil producers and refiners who govern production and distribution availability. Respected analysts and political leaders suggest that companies base their decisions concerning price at least in part on market and profit assumptions. Fair. But, oil’s major derivative gasoline does not function in a free market, rather, it is a market controlled by oil companies. There is little competition from alternative fuels. Unfair and inefficient.

3. The quest for oil independence and the related justification for drilling lead the media to suggest and the public to believe that there is an equivalency between increased production of oil and closing the gap between what we consume and produce as a nation. Yes, we have reduced the gap — both demands have fallen and production has increased. But it is still around 6.0 to 6.5 million barrels per day. Yet, we continue to export nearly half of what we produce every day or nearly 4 million barrels. Our good friends, China and Venezuela, get 4% and 3% respectively. Companies may sing “God Bless America” while extracting, refining, exporting and importing oil, but theologically based patriotism doesn’t govern the oil market. Sorry, but global prices and profits have precedence. Remember the adage — “the business of business is business.”

4. A recently released Fuel Freedom Foundation paper suggests that energy independence is a misnomer. Based on its review of EIA data and projections through 2035, negative energy balances exist that never drop below a $300 billion deficit. If EIA data is to be believed, energy independence, Saudi America and control of our energy future are developments that will not occur anytime soon.

I am disappointed that natural gas as an alternative fuel seems more like an afterthought coming at the end of Kraus’s long piece. I am glad the author mentioned it but it seems at least a bit forced. The commentary was limited to natural gas and not its derivatives, ethanol and methanol, or, for that matter, other alternative fuels. Put another way, it seemed to assume a still very restricted fuel market. Opening up consumer choices at the pump is a key factor in stabilizing oil and gas markets. It also is a key factor achieving reduced prices at the pump for low and moderate income families; the former spending from 14-17% of their limited income on gasoline.