Author: Jeffrey Frankel, Harvard
In the wake of the April oil well blowout off the coast of Louisiana, policy makers are rethinking the issue of offshore drilling. Clearly the last decade’s neglect of safety rules by federal regulators needs to come to an end. But what larger implications should we draw for domestic oil drilling?
The tension has long been between those who give primacy to the environment, on the one hand, and those who give primacy to business on the other. Probably some of the first group oppose all oil drilling and some of the latter support all oil drilling (even when the government unconscionably offers oil leases on federal lands at below-market rates, as it often has historically). As so often, the right answer lies in between.
Ever since September 11, 2001, ‘energy security’ has received increased emphasis. The energy security argument is viewed as able to tip the balance in between the duelling environmental and business arguments. Usually it is taken as self-evident that the energy security goal argues in the direction of increased exploitation of domestic oil resources: ‘Drill, Baby, Drill.’ But some of us have long thought that a more appropriate slogan for the policy of using domestic reserves as aggressively as possibly would be ‘Drain America First.’ A true understanding of energy security could tip the balance the other way instead, in the direction of conserving American energy resources. Oil wells such as the Deepwater Horizon site, once it is capped, should be saved, their future use to be made conditional on a true national emergency, such as a long-term cut-off of Persian Gulf oil resulting in a global oil price of US$200 a barrel or more.
Public debate is hampered by the lack of a working definition of energy security. A goal of ending US imports of oil would not be attainable, in the foreseeable future, given the gulf between domestic deposits and our consumption (wind and solar will not give us enough energy to make up the difference, certainly not for many decades.) A goal of ending imports from specific geographic regions such as the Mideast would not be relevant, because oil is mostly fungible: a sudden fall in global supply would raise the global price and thus have virtually the same effect on the American economy regardless whether the cut-off occurs in a region where we had been buying our oil or not.
What, then, should be the goal of energy security policy? Imagine that at some point in the coming half-century, there is a sudden cut-off in oil exports from the Persian Gulf (or the Arabian Gulf, as our non-Iranian friends on the Arabian Peninsula prefer to call it.) Perhaps as a result of military conflict between the US and Iran, Islamist revolutions in Saudi Arabia and Gulf emirates, or terrorist use of radiological weapons. Precedents, of course are the oil shocks of 1973-74 (precipitated by the Arab oil embargo in connection with the Yom Kippur War), 1979 (the fall of the Shah of Iran) and 1990 (Iraq’s invasion of Kuwait).
What would be the impact of a big new shock on the economy of the US and other industrial countries? The quantity of oil in the Strategic Petroleum Reserve (SPR) could at best help tide us over only for a few months. If the global crisis threatened to go on for years, the economic effects could be severe. This fact currently constrains US foreign policy and military policy, which is part of what we mean by the phrase energy security. Also important for our national security are two more points. First, our oil imports currently transfer every year many billions of dollars to dictators and extremists who are potential enemies. Second, our military runs on oil, as did Japan’s in 1941, which is largely why it went to war.
The goal of policy now should be to take steps that would reduce the impact of such a shock in the future, creating non-military response options. The solution is to leave some domestic oil underground, or underwater, for use in such emergencies, and only in such emergencies. Reserves in the Gulf of Mexico are precisely the ones we should save. Think of it like the SPR, but without going to the trouble of bringing the oil above ground only to put it back underground.
The argument doesn’t work as well in the case of oil reserves in the North Slope of Alaska. Experts say it would take more than a decade to start pumping from where we are now: in such remote locations drilling and pipeline-laying take time. Onshore oil deposits in the lower 48 states would have been the best opportunity for the argument, except that it is too late. We have already largely depleted them — mostly at far lower prices than today, and sometimes under the same misguided energy security logic. The continental shelf of the Gulf of Mexico may be the best location for designating certain deposits as reserves to be tapped only in the case of a well-defined emergency. The development lags are relatively short and the supplies are still substantial (as a share of US consumption, though not of the world).
Even in the case of known oil deposits off Louisiana and Texas, there would be a certain lag between the date of a geopolitical crisis and the date when the oil would start flowing. But this is no reason to dismiss the idea. Oil shocks such as 1979 and 1990 led to immediate sharp increases in the world price of oil — and caused or at least contributed to US recessions – not because the supply of oil physically fell, but rather because everyone was afraid that it might; as a result, rational speculation increased holdings of oil in inventories, bid up the price, and had the same macroeconomic impact as if the supply cut-off had already gone into effect. The point is that, if there were to be a sudden new Middle Eastern oil shock, the knowledge that some replacement supplies would come on-stream domestically within a few years and so the economy would not be left high and dry would help moderate the panic, and so even in the short term would allow lower inventories and lower prices than otherwise.
I am not claiming that my proposal, to conserve offshore Gulf oil deposits for an emergency, would solve all our energy problems. The quantities are not sufficient to fill the gulf between consumption and production. Only a long-term path of technological progress and energy conservation can do that and only a gradual increase in retail prices can in turn achieve that. But, on the margin, a barrel of Gulf of Mexico oil would be far more valuable under crisis conditions than it is today.
Jeffrey Frankel is James W. Harpel Professor of Capital Formation and Growth at the Kennedy School of Government, Harvard University.
This article was first published here at Jeffrey Frankel’s Weblog.