Commentary

The Energy Mirage

By Jerry Taylor and Peter Van Doren
This article originally appeared in National Review on September 13, 2004.
One of the few “big ideas” John Kerry has put forward is a sweeping federal program to secure energy independence. This idea is by no means new: It has been embraced to varying degrees by every major national politician for the past 30 years. But Kerry’s constant focus on the issue suggests that he, unlike his predecessors, might actually be serious about it. If so, America would be in for a radical economic transformation; a review of his plan, however, suggests that Kerry is offering more hat than cattle.

Making do solely with domestic sources of energy would require either extreme cuts in energy consumption or major increases in domestic production, or both. Last year, America consumed 20.3 million barrels of oil a day (mbd) but produced only 5.6 mbd. Finding a way to cut out almost three-quarters of America’s oil consumption won’t be cheap or easy. Dramatic cutbacks in consumption would be expensive: Industry would be forced to replace the energy it uses with costlier inputs of labor and capital, and consumers would see drastic price increases. The Kerry camp, of course, is full of energy consultants and policy mavens who claim that we can do far more with less, and save money in the process, without any sacrifices. But the old adage that if something sounds too good to be true, it probably is, certainly applies in this case.

The idea of increasing production from conventional energy sources has obvious appeal, but it flies in the face of geological reality. If we stopped importing oil tomorrow, petroleum prices would soar to over $100 a barrel and gasoline prices would hit current European levels. Even were we to put oil rigs in the Arctic National Wildlife Refuge and other areas currently off-limits to the industry, we would still be forced to get more than half of our petroleum from abroad to meet current demand. Accordingly, if we want more domestic energy, we’ll have to get it mostly from unconventional sources. But alternatives to petroleum in the transportation sector (where most of that oil goes) are so costly that there’s no way to avoid a major and sustained increase in fuel prices.

Energy independence, short of outright withdrawal from the global oil market, wouldn’t insulate U.S. consumers from oil-price shocks: It costs little to transport oil, so a supply disruption anywhere in the world would increase the price for all remaining oil. Outright withdrawal, however, would turn America into an energy island immune from the effects of supply disruptions abroad — and that would be no small thing. Economists who have studied the price shocks that follow such disruptions have concluded that recessions naturally follow as well. Although oil purchases account for only 2 percent of U.S. GDP, major price shocks radically disturb demand in various sectors of the economy and trigger costly reallocations of capital and labor. Uncertainty about how high the prices might rise and how long the spike might last slows investment throughout the economy.

But while real energy independence would probably reduce the likelihood of oil shocks, it would do so at the cost of a dramatic one-time shift away from low energy prices — a shift that would have economic transition costs and, even when fully played out, impose a permanent drag on the economy in the form of higher overall prices.

Would this trade-off be worthwhile? It depends on how volatile you think the global oil market will be, and how high you think domestic prices might go without oil imports to buttress supply. Had a policy of enforced energy independence been in place for the past several decades, however, consumers would almost certainly have been worse off.

Which brings us back to Senator Kerry. Even if we embrace energy independence and judge that the trade-off is worth the price, there’s little evidence to suggest that Kerry feels likewise: Nowhere in his speeches or his campaign material does he even suggest that trade-offs exist. His plan is a neon-lit free lunch, in pursuit of a goal even one of his own energy advisers (anonymously, of course) called “asinine” in the New York Times a few weeks ago.

The first element of Kerry’s plan is to throw vast quantities of tax dollars at corporations that claim to be “this close!” to achieving a commercial breakthrough in just about any energy technology you can think of. For instance, President Bush wants to throw $1.7 billion at hydrogen-powered fuel cells; Kerry sees him and raises him $3.3 billion, for a total of $5 billion. Unfortunately, hydrogen will probably require just as much or more fossil fuel to produce as it displaces, which explains why virtually all environmental organizations rightly dismiss the hydrogen fad as an expensive distraction. Likewise, Bush offers $2.1 billion for “clean” coal research; Kerry sees him and raises him $7.9 billion, for a total of $10 billion — despite the fact that taxpayers have subsidized “clean” coal programs for 20 years now without a single commercially viable facility having ever been built using that technology.

If government subsidies could reliably turn ugly technological ducklings into beautiful economic swans, we’d all be driving around in “Carter Cars” powered by synfuels and buying electricity from fusion, solar, or wind power plants that would be almost too cheap to meter. Technologies with economic merit don’t need government subsidies, and subsidies for technologies without economic merit won’t do any good.

A second key element in Kerry’s plan is a mandate for yet more ethanol consumption. Both he and Bush support requiring the production of 5 billion gallons of ethanol a year by 2012 despite serious questions about whether ethanol, too, might not consume more energy than it produces: If it’s a net energy plus, it’s not by much. The fact that escalating ethanol subsidies have done little to slow down America’s increasing dependence on foreign oil continues to escape notice.

The third element of the Kerry plan is to increase the subsidies directly paid to producers and consumers of unconventional energy. For instance, Kerry proposes expanding tax credits for those who manufacture fuel-efficient cars and promises a whopping $4,000 federal check for anyone who buys them. When Arizona tried a similar program some years ago, it created a budgetary meltdown that almost bankrupted the state. So either the Kerry plan is a fiscal time bomb waiting to go off or it’s so heavily qualified by fine print that it’s not meant to be taken too seriously.

Fourth, Kerry seeks to tighten automobile fuel-efficiency standards, although exactly how much is something of a mystery. (While he is on record in support of a 50 percent increase in these standards, he has buried that initiative over the past several months.) Fuel-efficiency standards undeniably reduce the marginal cost of driving and thus increase travel (the economics literature suggests that for every 10 percent increase in fuel efficiency, people increase travel by 2 percent). But this, too, has undesirable consequences: One of them is increased congestion. Another is a net increase in air pollution. According to a recent study by Andrew Kleit at Pennsylvania State University, a 50 percent increase in fuel-efficiency standards would increase net emissions of volatile organic compounds by 1.9 percent, nitrogen oxides by 3.4 percent, and carbon monoxide by 4.6 percent. So while tighter fuel-efficiency standards might make a significant dent in gasoline consumption (given enough time for the auto fleet to turn over), we’re not sure it would be worth the cost.

There you have it: the Kerry plan for energy independence. It’s highly unlikely that his program would even slow down America’s increasing reliance on foreign oil, much less reverse it. The Kerry campaign has addressed energy matters beyond independence, but most of the offered initiatives are unremarkable. For instance, Kerry promises to “jawbone” OPEC to increase oil production, which is akin to promising to “jawbone” the checkout clerk to reduce grocery prices at the supermarket. The promise, moreover, conflicts with Kerry’s declaration that, in his administration, America won’t rely upon the economic good graces of Saudi oil sheiks. Well, just whom, then, does Senator Kerry plan to sweet-talk? If Bush’s well-known friendship with the Saudi royal family can’t shake out a bit more oil from the Middle East, what reason do we have to believe that Kerry’s begging and pleading would be any more effective?

Kerry also promises to spend $10 billion in tax money to underwrite upgrades of old coal-fired power plants owned by utility companies. But why can’t owners of those plants pay for such upgrades themselves — particularly given the regulatory advantages the plant owners have secured through the Clean Air Act? If President Bush ever promised such a thing, he’d be flayed alive by Democrats decrying Republican handouts to polluters.

In sum, Kerry’s plan makes absolutely no sense as economics. It makes perfect sense, however, as politics. Important industries in swing states will certainly cheer much of it. There’s nothing new here: just the same old slick handouts — dressed up as high-minded policy — that have characterized the energy plans of both parties for far too long.

Mr. Taylor is the director of natural-resource studies at the Cato Institute. Mr. Van Doren is the editor of Cato’s Regulation magazine.