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Saturday, June 21, 2008

Oil at the margin 


Andrew Sullivan links approvingly to a post that argues against drilling for oil in the Arctic National Wildlife Refuge because the marginal impact on the price of gasoline is likely to be only a few cents per share.

Supposing for a moment that is true, may I respectfully suggest that is a foolish basis for arguing against drilling in ANWR or on our territorial continental shelf. The first person to comment to the linked post observed, obviously, that "[t]he market and sources of oil are so vast any single field can be said to have 'no meaningful impact on price.' By this reasoning we shouldn't develop any new sources."

More importantly, though, the marginal impact on the price of oil is not the only story. There is also the marginal impact on our balance of payments. If ANWR were producing at its estimated capacity of one million barrels of oil per day, at today's prices that is a reduction in our trade deficit of more than $100 million per day, or almost $40 billion per year. At the margin, that is $40 billion out of the pockets of the (generally) disgusting countries that export oil, money that we do not have to repatriate in order to sustain the value of our currency (which we have to do if we want other people to keep accepting dollars in return for their stuff).

Now, none of this is to suggest that we can drill our way out of high oil prices or the importation of oil. America can and should reduce its consumption of oil by using it more efficiently and substituting other sources of energy. Even though oil prices may in fact head lower again, it is foolish for either individuals or our government to plan on the assumption that they will. Since we can expect the government to be foolish, individuals -- that means you -- ought to be changing their habits and reorganizing their lives on the assumption that high oil prices are here to stay.

But, and this is critical, the decision about whether to drill for oil and gas in supposedly sensitive areas ought to be weighed against alternatives. Is it really better for American drillers to invest their capital in foreign countries, most of which are adversarial to the interests of the United States? Is it really better for our best engineers and executives to devote themselves to Nigeria, Russia, and Saudi Arabia? If you are a transnational progressive (and most anti-growth environmentalists are), do you really want to push drilling, at the margin, into environmentally sensitive places in foreign countries with less regulation and more corruption? These are the choices we make when we close our own country to new exploration and production. While it may have made sense during the quiescent '90s when energy prices were low and we did not understand the many ways in which the dollars we trade for oil were being used against us, but how does it make sense now?

Drill here, drill now, even if we will not pay less.


20 Comments:

By Blogger SMGalbraith, at Sat Jun 21, 11:46:00 AM:

Excellent post.  

By Anonymous feeblemind, at Sat Jun 21, 01:23:00 PM:

I wonder what Andrew Sullivan would say to this argument: Let's stop doing AIDS research. The gains are likely to be incremental and it is unlikely that any major breakthrough will be achieved. This is essentially the logic being used to oppose domestic oil drilling.  

By Anonymous Boludo Tejano, at Sat Jun 21, 03:29:00 PM:

The average American views oil like it does water: turn on the tap and it flows. Easy as pie.

Unfortunately, as those in the biz know, it ain't that easy.  

By Blogger grl, at Sat Jun 21, 04:28:00 PM:

Quote from Larry Kudlow:
"...There’s something more here. Democrats reading from their talking points are completely opposed to Bush and McCain proposals to open up new oil drilling offshore and onshore. The Democratic argument — which I heard again last night on my show from Robert Reich — is that it will take ten years to lift new oil, which will never help today’s price problem. Obama says exactly the same thing, as do Harry Reid, Nancy Pelosi, and all the rest. But they’re forgetting the role of oil traders.

Oil futures markets have contracts that run out five years and beyond. If these traders — or “speculators” — believe new oil supplies are on the way in the future, they will sell those out-year contracts. And before long market arbitragers will backward-ize those price drops toward the spot market, bringing prices down there as well.

In other words, trader/speculators can be very handy instruments of energy (and economic) policies. If demand exceeds supply they are buyers. But a prospective future supply increase makes them sellers. In a free market prices move both ways. And if Sen. McCain would take the time to learn this he could respond accordingly to Obama’s silly criticism that we shouldn’t drill because it will “take too long.”  

By Anonymous Anonymous, at Sat Jun 21, 05:44:00 PM:

At the point where the primary arguments for drilling drop the price fixture, (see the thought experiment in the previous rendition of this post,) and focus on drilling alternatives, I will reiterate the point: someday soon, we need to break the oil addiction. Not just to foreign oil, but to oil period by investing in alternative power sources. This COULD include nukes, though the storage and security of pollutants would be a problem (see the Air Force stories for the security point.) For evidence that such alternatives are reasonable, see Nanosolar (invested in by Google, if you doubt the validity of scientific wonkery) and Heliovolt. Fundamentally though, this boils down to a central disagreement on the nature of governmental funding which I have articulated elsewhere: I along with others think that the government can play a useful role in subsidizing pure science, the experiments that flesh out the theory in meaningful ways. Such experiments rarely have direct or obvious financial import, but establish theories (in materials science, for example) that are useful in other profit-motivated endeavors. Further, I'll reiterate the monopoly problem: there are big risks to any one company pursuing revolutionary change in a theoretical free market, because should they succeed they either must A) share the technology and mitigate the recouping of costs or B) have the government bring down the hammer with the sound arguments of monopolistic harms to the economy. Genetics, telecommunications, computing technology and the Internet; these fields among others have shown the utility of governmental intervention by opening vast sectors in the market that wouldn't have come about so quickly or easily otherwise, because the free market does incremental improvement really well, but pure science (often funded by government, as in stem cell research here and abroad) does revolutionary improvement.

Summing up: invest heavily in technology that is 1) sound as reviewed by a panel of experts 2) meaningful in terms of impact on current understanding and 3) outside the reach of the market as it is. Some projects, such as genetic computing and modern stem cell research, get a whole lot of benefit from government support because there aren't many market actors with sufficient resources to engage them; these technologies deserve a boost, and in the realm of energy can resolve our crisis by addressing price in a more meaningful way. Further, stripping our dependence on foreign oil (which won't go away, even with complete local drilling due to consumption rate arguments brought up previously) would do a whole lot more to address the trade deficit and foreign drilling.


Also TH, a sidebar on your suggestion that oil will head lower as referenced in the NYT: I'll believe it when your predictions regarding $/barrel come true. What did you call it, $80? $90?  

By Anonymous Anonymous, at Sat Jun 21, 05:49:00 PM:

Ach, forgot: oil reserves can be strategic. Dry up everyone else and THEN run on what we have locally, rather than burning it now to alter prices in two decades by $0.02 and minimally hit the trade disparity.  

By Blogger TigerHawk, at Sat Jun 21, 06:56:00 PM:

Don't get me wrong -- I have long supported higher taxes on gasoline to change consumption habits (I would give it back by cutting other taxes) and stimulate investment in other technologies. No, I am not a big fan of the United States government investing in new technologies, because I think that the US government sucks at that. Yes, I believe those technologies are coming, even if as a result of subsidies or other investments by governments that are better at directed investment than ours (France comes to mind). So I'm with you, but that does not change the fact that the arguments in favor of the ban on drilling in ANWR and US coastal waters are, well, not persuasive in the least. Even the strategic argument, which had its appeal, has outlived its useful life. Oil has increased in price 13 times since its price trough in the nineties. I think that moment of high prices and tight supply that we have apparently been waiting for has come.  

By Blogger TigerHawk, at Sat Jun 21, 07:01:00 PM:

Oh, and my price prediction was even more aggressive than you suggest. Back when it was at $100/bbl I predicted oil would hit $60 befoe it hit $140. I am still alive on that prediction, but on life support. However, check out the cover story of this weekend's Barron's!  

By Anonymous Stan/Tx, at Sat Jun 21, 07:48:00 PM:

Energy consumption is one of the foundation stones of our modern society (here in the USA for sure and increasingly world wide).

The American society is at a critical point in its history. The choices made in the next few years will lead to both spiraling energy cost and a reduced standard of living for the majority of Americans or, they will lead to affordable energy cost and a continued improvement in the lifestyle for the majority.

The answer is not a simple pick one and you win deal. It involves a strategy that rewards conservation and does not impede new energy source development. The winning strategy involves using oil, gas and coal in the short term (5 to 10 years) while we develop more nuclear power. The long term (5 to 20 years) involves developing Gen IV nuclear power to produce electricity, hydrogen and fresh water. The alternative energy source will play some minor part but will never satisfy the main demand for energy.

The politicians of American currently form the roadblock to a secure energy future. While they have no ability to provide secure energy, they can stop any progress toward secure energy by taxes, subsidies and restrictions. The best thing that the politicians could do for the people of America is to pass enabling legislation that removes the road blocks and then let the free market decide.  

By Anonymous Anonymous, at Sat Jun 21, 09:11:00 PM:

The American society is at a critical point in its history

Can't we extend that to the world? Or the industrialized one.

I.e., the 21st century will belong to that nation that is best able to transition from a petroleum-based economy to a, what, hydrocarbon-based one?

I still think we're at least 10 years or so away from that critical point.  

By Blogger Assistant Village Idiot, at Sat Jun 21, 09:13:00 PM:

anonymous - what you propose is what we have supposedly had for several decades, resulting in our current $130/barrel. When the government "has a role" in pure science research, that role inevitably turns into money spent elsewhere - see ethanol subsidies, for example. You are positing what should work on paper - and it should, because pure research is usually a good investment even if there is no obvious immediate applicability - but has consistently gone awry in practice.

As to the idea that "we need to break the oil addiction" - why? Do we have a water addiction? An oxygen addiction? We use oil for energy - why is that a problem? I do not dispute the potential wonders of nanosolar - bring it on - but the distaste for oil as a source usually resolves into some very suspect arguments.  

By Anonymous Anonymous, at Sat Jun 21, 10:05:00 PM:

Irregardless of all those "new technology breakthroughs" that are just waiting to happen, liquid fuels for vehicles will remain attractive for a variety of reasons: Ease of handling, quick to refuel, common standards are possible everywhere, and the ease of converting liquid fuels into mechanical energy, either through the Internal combustion engine, diesel, turbine, or even the furthest out, fuel cells.

The car fleet in the US is pretty stable in size, as is the number of cars on Japan and most of Western Europe. But approximately 7 million cars are added worldwide every year. Where are they being added? China, India, and a host of countries with emerging economies that want a standard of living like ours. So the demand for liquid fuels isn't going to go away tomorrow, or next week, or even after a million Chevy Volts are built. This time next year, gas will probably be around $5.00 a gallon in the US. Think about that the next time some jounalist-sophist without the knowledge to tell you how gas is refined from oil tells you that increasing supply on the margin is unimportant. Andrew Sullivan and his tribe are symptomatic of those whose answer to everything is "NO!". I hope the chorus of "No!" will help to fill your gas tank and replenish your bank account.

-David  

By Anonymous Anonymous, at Sat Jun 21, 11:50:00 PM:

On breaking the need for breaking oil addiction: because if we stick to oil we will have to compete with the needs of China and India, making things more expensive for everyone. Having domestic wells solves for the national security concern in terms of physical disruption, but I think most everyone would be howling if drillers were unable to sell on the open market (the only way to stop the pricing concern). As long as China and India are growing at their current pace, competition for oil will keep prices high. Further, oil is fundamentally different from oxygen and water because there exists a reasonable belief that alternatives, cheaper, more efficient, better alternatives can be found. As long as we accept the finitude of oil, (and I hope that we all can,) we're going to have to make the shift eventually. Let's jump start it, leaving our oil reserves in place for national security reasons, and stop competing for scare resources.

On why the free market shouldn't decide this: for the same reasons government is ever required to act, as in collective action problems. It makes no sense for individual institutions, (be they large corporations, medium-sized partnerships, or purely private endeavors,) to seek revolutionary tech. Either they don't find it and lose dollars, they give it up for general use and are everyone's sucker for having paid, or the government wrests it from their hands due to monopoly harms. It is in everyone's best interest that such research is done, but no one's particular interest to do it; a classic formulation of the collective action problem, which the free market doesn't deal well with. See public goods, and how they are treated without regulation, including every public dumping of toxins in secrecy ever.

On government implementation of research: If you think the program is busted, draft a fixed version. At the point where you agree on the principle and we are noodling over implementation, it seems that you have agreed to the bargain and we are haggling over price. We're all clever people, and should have no problem detailing the sampling and approval measures necessary for bequeathing grants. I just don't buy that such government money is ineffective; see all the telecomm work by NASA, the genesis of the computer, or modern hormonal research by Phyllis Wise as examples of good government-funded science. If you think that that the free market could have done it faster, better and cheaper, you'll have to explain 1) why it didn't, when these areas of research are so wildly powerful and 2) how the critical assumptions that underpin "free market over all" arguments actually transpire. We don't have free information. We have bargaining costs. We don't have equal endowment in early life, causing unequal opportunity. We have economically irrational actors, as in the endowment effect and much of psychology. All of these things produce systemic harms, and only an institution that can change the rules can correct these imbalances.  

By Anonymous Anonymous, at Sun Jun 22, 12:05:00 AM:

News Flash! Oil is "fundamentally different than water or oxygen".

Enlightened collective action is just the ticket to solve our economic woes! The new Gosplan indicates that we can solve this crises in the next five years, if the capitalist reactionaries expecting to make "profits" can be liquidated.

Anyone care for a cracker made from Soylent Green?

All that central planning works Jim-crackin-dandy, as long as you don't have a total sociopath like Mao, Hitler or Stalin in charge.

Thanks, I'll pass on that one.

-David  

By Anonymous Anonymous, at Sun Jun 22, 12:46:00 AM:

David, WTF are you talking about. I brought up the profit motive to kill the "drilling drops price" argument dead; perhaps you missed the memo. Not a single person advocated central planning, or Soylent Green; the rest of us were talking about ways in which government could/should act to address technological advances that the free market can't touch for various reasons. Also, perhaps you might address arguments sometime.

Go back to bed, the adults are talking.  

By Blogger Miss Ladybug, at Sun Jun 22, 02:19:00 AM:

Part of the problem with the speculators driving the price of oil higher is the potential for great instability in the Middle East. Iran is fighting a proxy war against the US in Iraq and Israel through Hamas/Hezbollah. Didn't I read somewhere in the last day or so that recent Israeli military exercises were practice for a strike against Iranian nuclear facilities? Iran could reek havoc on world oil markets by essentially making the Strait of Hormuz impassable. I'd much rather we have a domestic source of oil because our need of it isn't going to go away. Yeah, it might take 10 years to develop ANWR, but it Clinton hadn't vetoed it, we'd be getting those first barrels right about now, at a time it would be really helpful. And, as I've commented elsewhere, the Chinese are drilling off the coast of Florida, in cooperation with Cuba, in waters where it is illegal for American oil companies to drill. I, for one, would trust an American oil company to be more environmentally conscious than the Chinese/Cubans.

I'm not saying don't look for alternatives. Put a nuke power plant in my town, I don't care. Nuke power is used safely and effectively all over Europe. We should do the same. But, the need for oil isn't going away - petroleum goes into much more than just our cards...  

By Blogger Miss Ladybug, at Sun Jun 22, 02:21:00 AM:

cars...  

By Blogger Purple Avenger, at Sun Jun 22, 09:02:00 AM:

It is in everyone's best interest that such research is done, but no one's particular interest to do it; a classic formulation of the collective action problem, which the free market doesn't deal well with.

Depends on the cost. I'm working on some very transformational technology in the general area of energy. We're doing all the R&D on the cheap cheap cheap without government involvement. Since our R&D doesn't cost billions, we can do it without government.  

By Anonymous Anonymous, at Sun Jun 22, 11:14:00 AM:

Just a few facts that may not be apparent to all dear readers here:

1) The price of oil is "fungible"; meaning that regardless of where the oil is drilled or extracted, the world price (or contract) dictates the price. So if new wells are producing oil in North Dakota or the barren shores of northern Alaska, the price is going to be about the same. That sort of supply and demand economics is what makes long term development projects financially feasible. It sometimes takes oil companies years and billions of dollars to bring a field into production and the first dollar is returned.

2) Presently, the US imports an average of 13M barrels a day of oil. Most of this comes from Mexico and Canada. About 22% of the 13M barrels comes from the ME. But the price and supply of oil from the ME very critically affects Japan, Europe and China.

3) In the past five years, all the refineries in the US have gone through major refits to lower the sulfur content in gasoline and diesel, mandated by the Federal EPA. All that cost has been adsorbed by the refiners, and reflected in the cost of product. The private refiners did this efficiently and on time, as expected.

4) Using the Federal Gov, and NASA in particular as some kind of golden example of R&D is showing a lack of knowledge of the subject. NASA has indeed produced some fine successes over the years, and has some very fine scientists and engineers working for it. And the cost has been 3-5 times what it would have cost private industry to do the same thing. NASA's problem solving method (as is true of DoD, and other branches of the Fed Gov) is to throw money at a problem until it is solved. And to think that the Space Shuttle has been flying for over 27 years and a follow on vehicle still will not be ready for another 5-7 years, is a testament to the mis-management inherent in any federal research program, rather than the engineering expertise available. And the plans for the International Space Station? After spending billions to make it happen, it will be shut down by 2012. There will be no vehicle or money to service it.
5) The state of Ohio, where I live, spent millions in the '80's and '90's on coal-gasification research, to develop a market for all the high-sulfur coal in southeast Ohio that power companies no longer want to burn.
And the results are.....?
6) Billions have been spent on fusion power research since the 1960's by the Fed Gov, and the results are...? I have been hearing all my life that "fusion power is still 30 year away". Another success story for Fed Gov research?
The late Robert Bussard had a novel approach that MAY work for generating electrical power from nuclear fusion, and the Navy financed him on a relative shoe-string budget (less than 10 million dollars over 5 years) to demonstrate the feasibility of it. The big fusion research establishment is trying to quash any further funding by the Fed Gov of Bussard's ideas because if his theories prove correct, they will have proven to have squandered billions in dead-end projects. Yet another success story for the Federal subsidized research.
7) Shell Oil, Occidental Petroleum, Exxon, etc., have all been working out on the Western Slope of Colorado since the late '70's to develop commercial means of extracting oil out of oil shale. That may seem short term to some (like Federally funded fusion power researchers). Shell actually now has a practical method that may scale up and work. But wait! The Federal Gov (led by ....Congress!) has mandated that the enviromental impacts must be "fully studied", which is a euphemism to delay this more years, while the politicians think up ways to line their own pockets with money. The Shell method is much less enviromentally intrusive than previous methods, some of which required thermally retorting (burning some of it to cook out the rest)the oil out of the mountains, creating all kinds of air and water pollution. And the Federal Gov has been observing all the way; it's just that more study is needed.

So yeah, let's do more of the same. Bring it on. This sort of approach has gotten us in the predicament we are in now.

-David  

By Blogger Big D, at Mon Jun 23, 08:36:00 PM:

BTW, for the sun-worshippers...

Nanosolar is bragging about its ability to produce 1GW/yr in cells. This greatly exceeds current domestic construction... but, it is equivalent to building ONE coal or nuclear plant per year.

That ain't gonna cut it.

Also, solar won't run your car... not until plugins are available, and even then, it will be years (many more years than it would take for ANWR/coastal oil to come online) for them to become numerous enough to make enough difference.

We're running short on our supplies of both stationary (electricity) energy and mobile (oil) energy, not because we've hit Peak Oil already, but because other countries are paying through the nose for them and forcing us to copy them (fungibility), and because the things that we DO have in plentiful supply, we are not allowed to touch by our new priesthood.  

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