Limiting Oil Imports

An Economic History and Analysis

Douglas R. Bohi,Milton Russell

• Publisher: RFF Press
• Year: 2013
• ISBN:
  9781135986377
• Edition: 1
• Topic: Business
• Subtopic: Energy Industry
• Index: Business

First Published in 2011. This book presents the results of the third phase of our analysis of U.S. oil imports in relation to U.S. energy policy. It presents a definitive history and analysis of the United States' experiment with formal oil import controls and addresses three questions: The first is how the U.S. energy situation, especially energy security, was affected by what was going on in the rest of the world. The second is the more narrow issue of what energy security options appeared available to the United States from the perspective of the special conditions which existed during 1974-75. The third question, the main subject of this book, and the one with which we initially began, was what lessons might be learned from earlier efforts to limit imports, especially through the Mandatory Oil Import Program.

1

Introduction

Oil import policy over the past quarter century has been subject to a changing world oil market and a shifting role for the United States within it. Through all these changes two policy issues regarding oil imports have been debated: what costs should U.S. consumers and taxpayers be asked to pay for uncertain future benefits from greater energy security, and how are these costs to be distributed. As we demonstrate in the work that follows, the resolution of these issues has taken different forms at different times, but one characteristic is predominant: each decision has been heavily influenced by broad political factors. The evaluation of oil import policy has been an experience in political economy and, as such, cannot be contained within the narrow confines of economic analysis. Neither, of course, can it be viewed solely as a matter of ideology or political power groupings; frequent reference must be made to its impact on resource allocation, income distribution, and market structure.

There was no formal U.S. position on controlling oil imports until 1957, when a voluntary control program was implemented to hold back an anticipated surge in imports. Predictably, the voluntary program foundered as soon as it seriously affected private interests, and the Mandatory Oil Import Program was implemented in 1959. That program came to limit crude oil and petroleum product imports to approximately 12.2 percent of domestic production. It was designed in such a way that its costs were somewhat camouflaged, and its effects could be shifted among interest groups. It was administered with flexibility and political skill. Consequently, the basic elements and structure of this program survived great changes in its economic effects, rationale, and political impact. During its life the quota brought about substantial changes in the structure of petroleum production, refining, and consumption; effects that will far outlive its formal abandonment in 1973.

The mandatory quota program came under increasing attack in the late 1960s on two fronts: it was regarded by oil producers as badly administered because of an increasing number of special quota allocations, both inside and outside the 12.2 percent rule; it was offensive to consumer groups because its cost had become higher, more obvious, and the inefficiences of its discriminatory application were better recognized. A Cabinet Task Force on Oil Import Control was formed in 1969 to study oil import policy and make appropriate recommendations for changes. The task force recommended in 1970 that the quota program be abolished in favor of a less restrictive and more neutral import tariff.

The quota instrument was not abandoned, but quantitative restrictions were eased to allow more imports during the period from 1970 to 1973. Relaxation of controls owed less to a change in import policy than it did to the Nixon administration’s willingness to abandon restraint in order to relieve the upward pressure on prices. On April 18, 1973, the mandatory quota program was suspended and a license-fee system was imposed—but at rates which actually lowered the total levy below the previous tariff. Oil imports returned to the formally uncontrolled status that they had known before 1957.

The Arab oil embargo of October 1973 revived general support for a policy of limiting U.S. dependence on imports—or in any event, for a policy which would avoid the vulnerability which had so forcefully been exposed. President Nixon responded with the Project Independence Program, promoted initially as a series of actions which would eliminate U.S. dependence on foreign energy supplies by 1980. It was soon clear that the cost of any such program would be far higher than the public would tolerate, and, moreover, far higher than the present expected value of any benefits it might yield.

Denied easy solutions, the nation agonized over how much energy security it was worth buying, how efficiently it was to be provided, who was going to pay for it, and in what way. The issues were not posed in this way, of course, but in such terms as: demand reduction versus supply enhancement; market decision making versus government allocation; strategic storage and standby emergency preparedness versus “drain America first” or “strength through exhaustion”; and unjust enrichment of energy companies through exploitation of the poor versus subsidization of wasteful energy consumption. While laws were passed, research budgets increased, slogans adopted, international conferences called, solemn declarations signed, and developments in the oil market closely watched, the level of oil imports rose, the ratio of imported oil to domestic oil grew, the proportion of imported oil used in total energy consumption increased, and dependence on those nations which had sought to restrict oil supplies in 1973 was escalated.

The debate regarding energy security is likely to continue for some time. As it progresses, however, inaction means that the course chosen, in effect, is one of increased imports of Arab oil. Oil consumption is rising relative to domestic oil production, a process that will not be reversed until the long-term world transition away from oil and gas is well under way. The debate, in the meantime, will return over and over again to the basic issues of the amount of security that should be purchased, how it is to be acquired, and who is to pay for it.

It is hoped that this volume will improve the quality of that debate and indicate the implications of some of the choices available. It supplies a history and analysis of past oil import policy, including recent attempts to formulate changes in that policy. The bulk of the discussion is directed to the mandatory quota program, which constitutes the only U.S. experience of sufficient duration and effectiveness to be informative. The rationale for the program, its administration and special provisions, and the associated political responses by vested interest groups remain of interest because they are all present in or lie behind current energy policy discussions. Indeed, to some degree the roots of the current energy dilemma can be traced to the program and to the reactions to it. To a remarkable degree, despite the changes in the world oil market, the current situation is the predictable outcome of actions taken and rejected over the twenty or so years before 1973.

Our investigation of U.S. import policy proceeds on two levels: institutional and theoretical. Chapters 2 through 6 provide a detailed institutional history of the mandatory quota program to give readers an idea of how the program evolved and was implemented. The discussion extends beyond the program’s end and through the reformulation of energy policy, culminating with the Energy Policy and Conservation Act of December 1975. The theoretical analysis in chapters 7 through 9 identifies and measures the effects of the program on consumers, the domestic industry, and on imports. These measures are used in comparisons with the projected effects of alternative policies that might have been implemented instead of the quota. The institutional and theoretical implications of past import policy are then brought together in chapter 10 in connection with possibilities for future oil policy.

Continuity of Oil Import Policy

The assertion made above regarding the continuity of oil import policy over the past three decades deserves further emphasis, especially since, while the policy thrust has remained the same, the problem has changed. The volume of oil imports has been taken as synonymous with the degree of energy insecurity facing the United States, and energy insecurity, in turn, has been regarded as contrary to the national interest. Consequently, and consistently, the reaction has been to devise and implement schemes for reducing the quantity of imports. Also consistently, the schemes that have been implemented have had, as their basic methodology, the repudiation of market forces as a means to achieve the national security goal. In short, the nation has thought it faced the same import security problem over the past three decades, has believed that this problem has grown worse over time, and has reluctantly recognized that it has failed repeatedly to come to grips with the problem. With equal consistency it has adopted, or thought it should adopt, increasingly Draconian political solutions to the problem.

This is not to say that an energy security problem has not existed. Indeed it has. But it has not always been one that the policies adopted were capable of dealing with. Further, the nature of the problem has changed significantly with changes in domestic and international energy markets. The problem in the first part of this period was to preserve short-term U.S. oil supply flexibility; import controls or emergency response capability was an appropriate basic policy. The more recent security problem, and one that remains for the future, is fundamentally different—it is to obtain a foreign source of oil at predictable and nonexploitative prices. This goal cannot be met through use of traditional devices—it can only be acomplished through creation of an international order based on the collective interest of nations in economic stability, and the particularized self-interest of oil producers and consumers in using oil efficiently during the transition away from dependence on this fossil fuel. The “energy independence” response of the 1950s is wrong when applied to the problem of the ’70s: it would exact exorbitant costs while at the same time placing the United States, and perhaps the world, on an inefficient path for the ultimate move away from oil and gas. Domestic oil and gas would be used too fast, and the oil and gas of the nations with vast reserves of these fuels would be expensively and prematurely replaced by alternate fuels brought on-stream by forced-draft efforts, and perhaps without full recognition of their environmental and other consequences. Nevertheless, U.S. policy has consistently been one of “energy independence,” and threatens to remain so in the future.

The thrust of the response to the security issue, however, has changed from time to time. It started with designation of the Naval Petroleum Reserves early in this century. In the mid-1950s, there were first informal efforts to get imports reduced, then formal voluntary programs, then a passively enforced voluntary program. Finally, in 1959, the mandatory quota program was established with active enforcement. That program was eroded over time as its political and economic cost rose with changes in domestic and world oil markets. Its philosophy remained intact, however, and very much a part of the political rhetoric.

The Arab oil embargo of October 1973 reignited concern over energy security and prompted renewed avowals of dedication to the same goal which had motivated energy policy all along—self-hsufficiency. While the recognition that energy self-sufficiency was impossible came tardily, it was never part of the rhetoric to accept substantial dependence on foreign oil. Acceptance came implicitly with the actions of Congress, which reflected the wishes of a public that refused to pay the price of implementing self-sufficiency. This choice was reaffirmed with the passage of the Energy Policy and Conservation Act of 1975 and its acceptance by President Ford. But again, despite the inadequacy of the efforts undertaken, the policy of the nation remained unchanged: to promote security through reducing dependence on foreign oil. The nation has been unwilling either to change this policy or to implement it.

The Changing Environment for Oil Policy

The economic and political environment of world oil has changed dramatically over the years since the mandatory quota program and its predecessors were devised. Perhaps the most dramatic change has been the shift in international market control from a cartellike group of private oil companies during the 1950s to a cartellike group of oil-exporting countries during the 1970s. This change has important implications for the security risk attached to oil imports because of the widely different motives of oil companies and exporting governments. Both may share a desire for greater net revenues, but the governments have much more complex cultural and geopolitical motives—and greater freedom to act upon them.

In the past, individual host governments could and did interrupt oil supplies, but there was no organization to coordinate export policy among oil producers. The exporting countries depended upon the oil companies to market their oil; if one country stopped production, supplies were made up from other sources, and there was little effect on consumers. The oil-exporting countries still rely on the oil companies to market the bulk of their oil, but bargaining strength has shifted. Individual companies and consuming countries face, as a matter of OPEC policy, the prospect of attempted selective boycott by several or all exporting countries. In the meantime, the OPEC countries are continuing to develop their own capacity in refining and transporting oil, and more importantly, have begun to develop an open market for oil so that they are no longer dependent on one or a few off-takers. Reliance on the oil companies for downstream facilities may be expected to decline further with time, though for the reasonable future the companies will still be necessary to the oil-exporting countries.

The tensions associated with the Arab–Israeli conflict are much the same now as twenty-five years ago. But the Arab position today is much stronger, both militarily and politically, than before. The change in control of international oil altered the distribution of income and wealth in favor of the Arab countries. They are now in a stronger position to advance their interests. In addition, Arab control over oil resources has forced oil importers to reassess their support of U.S. policy toward Israel. The Arabs now have an effective weapon to use against the United States (or others) for political purposes.

On the other hand, as the oil-exporting countries take their place in the community of influential nations, they begin to accumulate a vested interest in the economic and political institutions that surround that community and bind it together. This has a special significance with respect to future trade and financial relationships with industrialized nations. Oil is a source of economic benefit to the exporting nations only if it can be traded for goods and assets in the industrial countries. This is in contrast to oil as a source of political strength. While the oil exporters gain political strength because they possess a scarce resource which they can deny to the rest of the world, they gain and maintain economic strength only so long as they continue to supply that resource and keep the rest of the world both prosperous and cooperative. That is to say, as the oil-exporting countries gain influence and strength, they also acquire the necessity to act responsibly. They find, as did the United States after World War II, that strength breeds restraints on freedom of action. As OPEC nations store today’s surplus for constructive use tomorrow, they become increasingly dependent on the stability of existing financial institutions for their future welfare.

The vast transfer of wealth to the oil-exporting countries that is now occurring could, indeed, be dissipated in an orgy of wasteful consumption. To their credit, however, the major oil-exporting nations have limited their nouveau riche excesses. Some countries have, of course, current productive outlets for the greatly augmented resource flows. The others, for the most part, have at least proclaimed that they intend to use current revenues to raise the permanent income of their peoples. To do so means that they must use oil as the basis for economic growth—a gradual process requiring time to convert current export surpluses into real capital for future use. Wealth not consumed today may be stored for future use by purchasing the assets of other countries. This means that they are dependent on the oil-importing countries to redeem the traded assets on future demand. Dependence of this sort is a new phenomenon to the oil-exporting countries; they have never had surplus wealth before.

The U.S. petroleum situation has also experienced important changes since the late 1950s. In 1959 the United States could choose to reduce import dependence at relatively small opportunity cost by preventing the real price of energy from falling as fast as it otherwise would. Now, reducing import dependence would require a relatively large observed cost because the real price of energy would have to rise even faster than it already has. This shift has come about because the monopsonistic world oil market of the 1950s has been replaced by the monopolistic market of the 1970s, and because domestic production capability and the domestic oil resource base have shrunk relative to domestic consumption. We describe in the body of this work some of the factors that have contributed to the pattern that evolved domestically, but in large measure it was the natural consequence of the usual process of resource exploitation over time. Its apparent suddenness and its “crisis” aspects, however, were the result of policy choices—most importantly, those which reduced the flexibility and responsiveness that we have come to expect when market forces are allowed to allocate resources over time.

The “crisis” in domestic oil supply and demand was magnified by two decades of developments with regard to oil substitutes. The regulation of the field price of natural gas reduced incentives for discovery, increased consumption, and distorted allocation among consumers. The growing demand for gas forced prices sharply higher in nonregulated intrastate markets, which absorbed new supplies. The resultant shortages in natural gas supplies in interstate markets forced consumers to switch to petroleum products, accelerating demand pressure on oil supplies. The coal industry was in poor condition to meet the growing energy demands of the 1970s. A period of secular decline, extended by the low-price policy for natural gas, left the industry with reduced production capacity, inadequate transportation equipment, shortages of skilled manpower, and reduced capacity in essential supporting industries. Just when coal demand may have been expected to grow because of prospective shortages of natural gas, the nation sought to make up for decades of neglect of its environment and brought future levels of coal consumption into question. Moreover, similar overdue environmental concerns threatened to greatly increase the cost or prohibit surface coal mining just as, again overdue, health and safety regulations reduced labor productivity in underground mines. As the final thread in this story, expectations regarding the cost and acceptability of nuclear power were excessively optimistic. This had the double-barreled effect of denying the nation anticipated nuclear power and the lead time and research infrastructure to seek alternatives to it. As a result, there was a shortage of energy supplies, and the residual claimant for the energy demand not supplied by these alternative energy sources was oil, which came from abroad.

The market conditions that led to the price increases of 1973–74 resulted from many separate and unexpected influences that came together at the same time. Not only was energy supply constrained, but there was an unexpectedly high growth in both U.S. and world oil demand. Most importantly, the demand increases were not localized, but general, and promised to be around for some time. The increased oil supply was to be found only in the Middle East, and it could not be obtained from other oil provinces or from other energy sources. The worldwide nature of the energy “crisis” is the first important distinction which must be drawn between 1973 and the situation in earlier years. OPEC was created in 1960 following two years of nominal price declines and several years of real price deterioration. There was a glut of oil in the world’s markets that would require years of growing demand to absorb. Inexpensive oil was in the process of replacing coal in many traditional uses. Consequently, there was also surplus coal production capacity. Energy was abundant and therefore cheap. Twenty years ago plans were made in all phases of life that implicitly assumed energy would remain cheap and abundant in the future. All such plans and expectations must now be changed; the abrupt switch from monopsonistic t...

Table of contents

• Cover
• Half Title
• Title Page
• Copyright Page
• Original Copyright Page
• Contents
• Tables
• Figures
• Foreword
• Preface and Acknowledgments
• 1 Introduction
• 2 The Beginning of Oil Import Controls
• 3 The Mandatory Quota Program
• 4 Major Controversies Within the Mandatory Quota Program
• 5 Special Programs in the Import Control System
• 6 The End of the Quota and the Search for a New Energy Program
• 7 Oil Import Controls and the Crude Oil Market: A Framework for Analysis
• 8 The Economic Effects of the Mandatory Quota Program
• 9 Alternatives to the Quota
• 10 The Quota Program and Subsequent Energy Policy
• Index