Running on Empty

January 3, 2006 • Commentary
This article appeared in the New York Times, January 3, 2006.

The rise in fuel prices that followed Hurricanes Katrina and Rita has prompted many members of Congress to call for new and expanded federal reserves of crude oil, diesel fuel, home heating oil, jet fuel and propane. Proponents of stockpiling claim that if the government were to hoard those commodities when prices were low, it could unleash them on the market when supplies are tight, thus dampening price increases and stabilizing the market.

But the experience in this country with the strategic petroleum reserve strongly suggests that such government‐​managed stockpiles are a waste of taxpayers’ money. Rather than increasing the stockpile, the reserve should be emptied and closed.

Public stockpiles are far more expensive to maintain than many analysts realize. For example, after adjusting for inflation, the petroleum reserve has cost federal taxpayers as much as $51 billion since it was created in 1975. If you divide that sum by the amount of oil in the reserve, that’s $80 per barrel by the end of 2003.

Of course, even at that price, some would argue that the reserve is still worthwhile under certain circumstances. That’s because many economists maintain that it’s not the cost of oil that harms the economy during a price spike, but the microeconomic uncertainty caused by supply disruptions, the costs of adjusting to high prices and the political reaction to soaring energy prices. If large volumes of federal oil were released at the early stage of a supply shock, it could temper those effects.

But the government has never employed the reserve in this manner and probably never will. Politicians are simply too loath to risk a premature release of public crude because one can never know how long a supply disruption might last, how high prices might climb or whether additional disruptions are on the horizon.

In its 30‐​year history, the 700‐​million‐​barrel reserve, which was recently authorized by Congress to expand to 1 billion barrels, has been tapped only three major times: 21 million barrels were released at the onset of the Persian Gulf war in the early 1990’s, 30 million barrels in September 2000 and 24 million barrels last year after Hurricane Katrina struck. Those releases were so small considering the size of the reserve that one wonders why politicians are so dead set on having a billion barrels.

Another reason for the reluctance to tap the reserve is the widespread belief that it should be maintained as a hedge against an embargo like the one America experienced in 1973. But embargoes are not the powerful “oil weapon” that people think they are. Once a producer sells its oil on the world market, that oil can be bought, sold and rerouted repeatedly. The producer cannot control the oil’s ultimate destination. The globalization of oil markets ensures that the United States will always have access to Persian Gulf oil whether OPEC members like it or not.

But what if, instead of an embargo, there was a catastrophic disruption in supply, say the kind that might occur were Al Qaeda to seize power in Saudi Arabia? That scenario is worrisome, but the reserve would not be able to do much. No public stockpile would ever be large enough to deal with such a huge disruption. For instance, even if all of the oil in the reserve were released in 2004, it would have amounted to only 2.6 percent of the world supply — nowhere near enough to replace the oil from a major producer on a sustained basis. Building a reserve large enough to replace Saudi production would prove outrageously expensive.

Fortunately, it is highly unlikely that political motivations would lead an oil producing state to cut its production so drastically. Those nations need oil money as much or more than oil‐​consuming nations need the oil. Even anti‐​American regimes like Iran’s and Venezuela’s have no interest in economic suicide by suspending oil production.

Regardless, getting rid of the public petroleum reserve would not mean destroying all oil reserves. Private oil inventories are three times larger than public inventories and would be even larger if investors didn’t have to worry about the government flooding the market with public oil during a price spike. Inventories, after all, are costly to maintain and will only be profitable if market actors can “sell high” during a price increase.

In fact, economists agree that every barrel of oil we put in the public reserve displaces oil that might otherwise have gone into private inventories. How much displacement occurs is unclear, but there is little doubt that it’s significant.

If the reserve is thought of as an insurance policy against high prices, the cost of the policy has been more expensive than the dangers the stockpile is meant to prevent. Americans should resist the drive to expand public stockpiles. Instead, we should sell while the selling is good.

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