Commentary
THE UNITED STATES consumes about 7 billion barrels of oil a year. Quite a few of those barrels come to our shores from the Persian Gulf, a fact that has elicited, since 9/11, a surprising convergence in our politics. Today, it is not just leftwing environmentalists who complain about our consumption of oil but also a range of sober-minded centrists and conservatives, from commentators like Fareed Zakaria and Max Boot to former Clinton CIA director R. James Woolsey to one-time Republican officials like Robert McFarlane, C. Boyden Gray, and Frank Gaffney. The concerns of these "oil hawks" (or, less felicitously, "geo-greens," as the New York Times columnist Thomas Friedman calls them) touch only incidentally on the environmental issues that previously drove most energy activists. Their primary aim is not to "save the earth" but rather to secure our own small corner of it.
The oil hawks' agenda was neatly summarized in a letter sent to President Bush earlier this year by the Energy Future Coalition (EFC), an umbrella group that also includes a range of Democratic pragmatists and Al-Gore-style environmentalists. The EFC's basic analysis of the problem is as straightforward as it is familiar: America's dependence on imported oil threatens both our economic well-being and the physical safety of our home land. While we face increased consumption by the rising economies of China and India, and thus greater risk to our own supplies, the "foreign interests" that benefit from our dependence–a euphemism for the sundry extremisms of the Middle East–"have used oil revenues in ways that harm our national security."
The EFC's basic recommendation is familiar, too: we must consume less foreign oil. "With only 2 percent of the world's oil reserves but 25 percent of current world consumption," the oil hawks declare, "the United States cannot eliminate its need for imports through increased domestic production alone." More innovation on the supply side–"advanced biomass, alcohol, and other petroleum-fuel alternatives," as well as an expansion of our strategic oil reserves–will help. But the focus, they insist, must be on "demand-side measures," especially "increased efficiency in our transport system," with the goal of reducing consumption by about 15 percent–a billion barrels of oil a year–over the next quarter-century.
For Jimmy Carter, who presided over the energy crisis of the late 1970's, weaning the U.S. from oil was the "moral equivalent" of war. For the oil hawks of the post-9/11 era, our energy dependence is (as Woolsey puts it) "a war issue" plain and simple, one that demands ambitious new regulations, research subsidies, and tax incentives. When Carter told us that we should never again import as much oil as we did in 1979, the country ignored him. But times have changed–more so, in fact, than even the seemingly forward-looking oil hawks have recognized.
THE PRICE of oil has fluctuated wildly over the past several decades, thanks largely to the volatile politics of the Middle East. In 1979, when Carter was at his most pessimistic about energy, oil cost $30 a barrel (in 2005 dollars, which we will use throughout this essay). In the fall of 1980, Iraq's war with Iran knocked a billion barrels of oil from the former's annual output; for the next five years, the mostly Arab members of the Organization of Petroleum Exporting Countries (OPEC) held firm to a policy of dramatically reduced production, leading to spot prices in early 1981 above $80 a barrel.
By 1985, the price of oil had stabilized at $50, but the Saudis, exasperated by the cheating of other members of the cartel and in possession of unmatched reserves, ramped up production. The price quickly fell to under $20 a barrel. Iraq's August 1990 invasion of Kuwait sent it back up to $40. By 1998, it had fallen to a historic low of $12. The battle over oil, many analysts declared, had finally been won. Now, just seven years later, it is said to have been lost again. A barrel costs some $60, and many forecasters believe that high prices are here to stay.
But price is just part of the picture, and does not by itself tell us much. Even as oil has become much dearer in recent years, saddling Americans with tens of billions of dollars in extra costs, our oil problem, in a strictly economic sense, has become smaller, and promises to become smaller still.
Oil supplies only about 40 percent of the raw energy we use today, and we use it mainly in our cars, trucks, and aircraft. Coal, uranium, natural gas, and hydroelectric dams supply the other 60 percent. These latter fuels–not oil–generate almost all of the power available through our electrical grid. More significantly, about three-fifths of our gross domestic product (GDP) now comes from industries and services that run on electricity. All the fastest-growing sectors–most notably, information technology and telecom–are fueled entirely by electrons.
Even within the energy budget, the relative economic importance of fuel in general, and of oil in particular, is receding. Each year we spend relatively less on raw fuel and relatively more on the hardware–refineries, furnaces, generators, car engines, motors, light bulbs, lasers–needed to transform fuel into highly refined power. At the end of the day, the economy does not much care about the cost of the fuel alone or of the hardware alone; what matters is the distilled power that the two deliver together.
As we look forward, and even if the price of a barrel rises quite a bit more, there is every reason to suppose that year by year the U.S. economy will continue to grow less sensitive to the price of crude. Yes, we will buy more barrels, and perhaps pay more for them, too. But our GDP will continue to grow faster than our total spending on oil.
Moreover, of the 7 billion barrels of oil (BBO) we currently use each year, only 0.9 come from the Persian Gulf. We produce about 3 billion barrels domestically; our largest foreign suppliers are Canada (0.6 BBO) and Mexico (0.6 BBO); Venezuela and more than a dozen smaller suppliers take care of the rest. Getting to the point where the U.S. need not import any oil from the Middle East would not be very hard.
It would be harder for our allies, particularly Europe and Japan, whose economies are deeply intertwined with our own. These two entities jointly consume over 7 billion barrels of oil a year, a little more than we do, with one third of those barrels imported from the Persian Gulf, and their untapped domestic reserves are far smaller than ours. Nor does our own eventual ability to do without oil from the Middle East change the fact that, for the foreseeable future, massive sums of petrodollars will continue to flow to the region, with all the deleterious geopolitical consequences rightly emphasized by the oil hawks.
WHAT, THEN, are we to make of the oil hawks' call to arms? Much depends on how we define the battle.
There is more comfort to be found on the supply side of the global oil economy than the hawks acknowledge, but not enough. Since 1981, non-OPEC supplies of oil have increased by 5 billion barrels a year–but global demand has risen by 8 billion barrels a year. And the new non-OPEC oil did not come cheap. Gaining access to the 70-billion-barrel reserve located beneath the deep, frigid waters of the North Sea required an enormous capital investment, now embedded in the cost of the 2 billion barrels per year that those wells yield. Tapping the 100 billion barrels under the verdant fields of Kazakhstan has required a $2.4-billion pipeline just to get things started. Exploiting the 150 billion barrels that Russia thinks it has will require still larger sums. An Exxon Mobil consortium is planning to invest $12 billion in Siberia just to get the pump primed.
Every time such investments are made, the people who make them must wonder if they will ever get their money back. When prices collapsed in 1997, oil ministers, multinational conglomerates, and wildcatters from Siberia to Texas found themselves ruing the day they had poured cash into expensive new holes. How could they have been so foolish? Saudi Arabia and Iraq alone are capable of pumping oil for under $5 a barrel from proven reserves that still probably exceed 350 billion barrels. A quick hand on a big spigot is the key to controlling the global market. If a few major producers abruptly choke the flow, they can gouge consumers. If they quickly crank it up again, they can ruin competing producers, who cannot recover their huge capital investments in the face of sharply lower prices.
Some oil hawks have suggested enlarging the U.S. Strategic Petroleum Reserve (SPR) as a cushion against such potential market shocks. But no plausible expansion would be nearly large enough. The current Reserve has a maximum capacity of 0.7 BBO. This is enough to make sure that tanks and fighter jets will have fuel if a hot war suddenly erupts, but it is not a number that speaks loudly to Middle Eastern potentates sitting on total reserves of 600 billion barrels.
U.S. reserves of the old-fashioned kind–that is, in the ground–are quite a bit larger than the SPR. By current estimates, Washington's 1980 prohibition of oil and gas development in the Arctic National Wildlife Reserve placed a billion barrels per year off limits for 15 years. Another billion barrels per year (at least) lie under waters off the coast of California and in the Gulf of Mexico west of Florida. But Californians like unsullied ocean views when they cruise the coastal highway from Los Angeles to San Francisco, and President Bush is not about to propose any new offshore drilling to his brother, the governor of Florida.
Thus stymied, advocates of supply-side fixes often shift to grander schemes to draw something very much like oil from things that do not look at all like oil wells. There are plenty of candidates. In a pinch, engineers can extract, refine, or synthesize gasoline, or something like it, from almost any combination of carbon and hydrogen. Alberta's tar sands, which currently yield about 0.4 BBO per year, contain at least 180 billion barrels that are recoverable with current technology and over a trillion barrels that will become available as technology improves. Over 10 percent of the American corn crop is used each year to produce an amount of ethanol equivalent to 0.05 BBO; production could be multiplied tenfold if we grew crops on another 40 million acres that we currently pay farmers not to cultivate.
But these alternatives require huge capital investments, and unless the federal government is committed to maintaining price floors for them with import quotas or through its own purchasing power, few of them (other than the Canadian tarsand projects) will ever be able to produce ersatz oil cheaply enough to survive the next orchestrated price collapse. The $20-billion Synfuels Corporation signed into law by Jimmy Carter in 1980 was supposed to yield 0.7 BBO a year by 1992. By December 1985, it had been swept away under a flood of Saudi oil.
WITH THE supply side of the oil market so refractory and unstable, the oil hawks–quietly embracing policies first promoted decades ago by advocates on the Left–have instead put their emphasis on curbing demand. But how?
Over the long run, higher prices would certainly help. Taxes currently translate into about $11 per barrel of oil in the U.S. (excluding those earmarked to fund highway construction), and as much as $85 per barrel in Europe and Japan. But suppressing consumption in this way requires political muscle and nerve, a commodity in much shorter supply than petroleum. Consider the Clinton administration's attempt in 1993 to impose the country's first comprehensive energy levy. It would have added a trifling $3 per barrel to the price of crude, and even so the proposal was resoundingly rejected by the House and Senate, both then controlled by Democrats.
Technological fixes have encountered much less political resistance. Since the 1970's, virtually every proposal for dealing with America's oil problem has recommended doubling the fuel economy of our cars. Progress on this front, today's oil hawks suggest, would cut consumption by as much as 1.5 billion barrels a year.
It would indeed, provided that nothing else changed. But things invariably do change, and always in ways that more than offset the promised gains. Though oil hawks never make note of it, the efficiency of the typical car engine has in fact doubled since 1950; a gallon of fuel now moves a ton of vehicle twice as far as it did then. Much the same has happened in every other sector of the economy. With each unit of energy, we now produce more than twice as much GDP as we did half a century ago.
But we also now consume more than three times as much total energy. With better engines under the hood, Americans have sharply increased the weight of their cars, the number of miles they drive, and their average speed, all the while adding energy-hungry comforts like air-conditioning. Miles traveled by air have increased even faster, as have freight miles. All of our efficiency gains–and then some–have been swallowed by the rising demand for bigger, better, faster transportation.
To save the day, oil hawks are counting on higher fuel-economy standards to be imposed fleet-wide. These would require car manufacturers to compensate for their fuel pigs by selling roughly equal numbers of dinky little cars. Though the standards are often characterized as an "efficiency" mandate, their real aim is to change how people behave. But such prescriptions invariably fail. They would do nothing to halt the 3-percent annual increase in the total number of miles we drive. Nor would they control how fast we drive, how often two-car households favor the fuel pig in their personal fleets, or how frequently people fly or order goods from the other side of the continent.
Oil hawks (including R. James Woolsey in these pages(*)) point out that during the 1979-1985 crunch, when federal law prescribed quite strict fuel-economy standards, U.S. oil consumption dropped by about 15 percent. But it was not car manufacturers that delivered the oil savings. Almost all of it came from electric utilities and industrial users, who shifted to other fuels.
Whether developed by the market or mandated by the government, better technology simply does not curb demand over the long term. The British economist Stanley Jevons exposed this paradox in 1865, and all experience since then confirms that he was right. More efficient engineering makes Humvees, monster refrigerators, and watt-guzzling plasma TV's more affordable, and puts relentless upward pressure on our consumption of energy. Even if Americans somehow reached a saturation point in their appetite for energy-hungry machines, there is the rest of the world to consider. China currently consumes just over 2 billion barrels of oil a year, slightly more than Japan, and that is while most of its economy is still pretty much where England's was in 1865. As super-efficient hybrid technology matures, American demand will push the price of core components down sharply, and China will use them to build the $5,000, 100-mile-per-gallon hybrid rickshaw, affordable to a billion people whose economy is now still powered largely by carbohydrates.
IT IS not by dumb accident that our entire transportation system has been designed to run on refined crude oil. Pound for pound, liquid hydrocarbons deliver far more accessible energy than any other fuel that is economically practicable today. But outside the transportation sector, pounds matter much less, which is one big reason why America's overall energy economy, as we noted earlier, is dominated by much cheaper, non-oil fuels. As opposed to the 7 billion barrels of oil a year that we consume, we use the equivalent of 11 billion barrels in coal, gas, uranium, and hydroelectric power, almost all of which comes from the U.S. and Canada. We already know how to tap these vast resources, and our technology keeps improving.
The trick, then, is to figure out how best to collapse our bipolar energy economy into a single market, one in which non-oil fuels can more readily substitute for oil. Happily, we are already well on the way. During the crunch of 1979-85, utilities in the U.S. quickly shifted away from oil; today we depend on it for just 3 percent of our electric power. The huge opportunity ahead is to use electricity–and thus coal and uranium, principally–to displace still more oil. Doing this will depend on the price of oil, which we cannot control; on the price of electricity, which we can; and on the evolution of technology that will bridge the divide.
Let us begin with the technology. We still use about a billion barrels of oil a year for industrial, commercial, and residential heating. But other forms of high-intensity radiant power now provide more precise, calibrated heating, especially for industrial applications. Substitution is already robustly under way in this sector. Another 1.5 billion barrels of oil are used each year by heavy trucks, delivery vehicles, and buses. These vehicles can be easily modified to run on natural gas, and quite a few already have been.
That leaves our cars and "light trucks" (that is, SUV's), which burn roughly 3 billion barrels of oil a year. The Bush administration has actively promoted hydrogen as a solution, and perhaps someday the U.S. will make that transition. Hydrogen is technically easy, if quite expensive, to extract from water or natural gas, and we have some idea of how to use it as a battery-like storage medium that will allow cars to run indirectly on the non-oil fuels that power the grid. Greens love this possibility because it allows them to envision a day when car bon-free fuels will be used to propel zero-emission wheels down our highways.
But to get there, it will be necessary to redesign the car completely as well as to create, from scratch, an entirely new distribution system for a gas that is very difficult to handle. The hydrogen option entails a gigantic bet on a wholly new intermediate fuel and on the untried technology required to use it. We know from experience that such bets often end badly.
A more promising solution is the plug-in hybrid, which requires a much more modest technical leap. Alongside their gas tanks, hybrid vehicles are equipped with high-capacity nickel-metal-hydride (and, before long, lithium) batteries that are capable on their own of handling distances under six miles, which represent a substantial share of all car trips. Once the technology for these vehicles is fully developed, with a suitable interface for recharging, all they will require is a place to plug in when parked. The energy trade-off is fairly simple, too: each kilowatt-hour of grid power used by a hybrid replaces roughly a pint of gasoline.
More important, hybrids that are recharged by their own gas engines (as opposed to an electrical outlet) are already on the road. None were available as recently as 1998, but this year over 200,000 will be sold. There are now a dozen different hybrid models in showrooms, and nearly every automaker has more on the drawing boards. This has happened not because of decrees from Washington but because the vehicles are attractive, perform well, and allow their owners to visit the gas station much less frequently. Market forces alone are already in the process of transforming the car into a giant appliance.
AT FIRST glance, shifting to electricity may not seem to make economic sense. After all, kilowatt-hours cost a lot more than oil–the equivalent of about $160 per barrel if the comparison is made in terms of the raw energy delivered. But electricity is a much higher-grade form of energy. Power delivered through a plug to a hybrid's battery will propel the car at least four times as far as the same amount of energy pumped into the tank as gasoline, which currently retails for about $100 per barrel. Such trade-offs are no less economically attractive in other sectors, where they are also occurring. Because a microwave, as opposed to a gas range, heats only the soup, it is cheaper to use in the end. The same holds true for the radiant heaters, microwaves, lasers, and other technologies now being used in industry to displace gas- and oil-fired heat.
The most important thing that policy-makers could do to accelerate this transformation would be to rationalize the market for electricity. Retail electricity prices are already regulated–badly. Rates are too low during peak hours of use and much too high during off-peak hours–that is, too high for most industrial and commercial users and too low for residential users. Proper pricing would sharply lower the cost of electricity used for heating, industrial processing, and the nighttime recharging of batteries for plug-in hybrids. If electricity were to cost less on average, we would use more of it, and it would inevitably displace more of the oil we burn.
Electricity is also much more expensive than it should be because environmentalists relentlessly oppose the construction and renovation of large power plants that operate on cheap fuels. State regulators control most such choices, and their divergent policies have created a wide national spread in price–under 5 cents per kilowatt-hour in states that have welcomed coal and nuclear energy (Kentucky, Kansas, Illinois, Virginia, Wyoming), 12 cents or more in such green-dominated states as New York, California, and Massachusetts. Federal regulators can help tip the balance toward the lower-cost states by promoting new investment in the interstate grid, thus facilitating trade in power.
Finally, we could flatten the tax structure for energy. States and localities typically impose what amounts to a 10-percent tax on the retail prices of both electricity and gasoline. Recalculated as defacto taxes on the raw fuel used upstream, these rates are grossly disproportionate: about 20 percent ($11 per barrel) for crude oil, 25 to 50 percent ($20 per ton) for coal, and 1,000 percent ($100 per pound) for unenriched uranium oxide. Competition would be promoted by repealing all current energy taxes and replacing them, on a revenue-neutral basis, with a flat, uniformly applied sales tax on raw fuels.
The electrical grid is the ultimate equalizer among competing sources of energy. Big stationary power plants can spin their turbine-generators with steam (produced by burning coal, gas, oil, wood, trash, or other combustibles), or they can replace their furnaces with uranium reactors, or they can replace steam with water or wind. Solar cells skip the turbine, transforming sun directly into electricity. Many environmentalists despise the grid because they despise the coal and uranium that generate 70 percent of our electricity. But renewable sources like wind and solar energy–which currently supply a negligible 0.03 BBO worth of energy–need the grid, too. It is the only way they will ever achieve any kind of competitive foothold in the battle to displace oil.
OIL DOES indeed pose a problem; the hawks are right about that. At current prices, the world is going to send some $30 trillion to Persian Gulf states over the course of the next several decades, a terrifying amount of wealth to dispatch to feudal theocracies festering with hate. But because the oil economy is so huge, the problem cannot be solved by yet another round of hasty and heavy-handed prescriptions and ideologically driven subsidies from Washington. The energy bill just signed into law by President Bush contains too much of both. We would do better to calm down, take realistic stock of an energy economy now bifurcated between oil and non-oil sources, and implement the quite modest tax and regulatory reforms that can help spur competition across the divide.
Luckily, whether or not we enact such reforms, technologies bridging the oil and electricity sectors are on their way. As costs fall and performance improves, they will be adopted quickly by industry and consumers alike. The process of convergence will be complex, and better policies can help it along. But the details are best left to the market, and to the intricacies of supply and demand.
(*) See "Defeating the Oil Weapon" in the September 2002 issue of COMMENTARY.
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PETER W. HUBER is a senior fellow of the Manhattan Institute. MARK P. MILLS is a founding partner of Digital Power Capital. They are the coauthors of The Bottomless Well (Basic Books, 2005).
