Domestic production won’t solve oil woes

If you are one of those lucky people whose car uses premium fuel, you know all too well why they call it that. The premium price this past weekend at our pump was $4.09 per gallon, with the cost of regular gasoline right behind it.

The demand for oil is what economists call “inelastic” in the short run, meaning that we buy the same amount even when the price goes up. After the initial shock, though, we demand less oil as we begin to change our driving habits and find substitutes.

The real question raised by the recent rise in price is whether it will go up far enough and last long enough that the country will finally do something about its heavy dependence on foreign oil.

There hasn’t been much talk of bringing back widespread use of car pools, whose negative reputation represents a minor triumph of experience over hope.

There is little doubt, though, that if consumers believe that these recent higher gasoline prices are permanent, they will find mass transit, car pools, and smaller cars more attractive — and will perhaps even consider electric cars as a valid option.

The substitution of electricity for oil as the energy source for automobiles brings its own set of environmental, economic, and infrastructure problems, but they generally lie outside the scope of consumers’ decisions at this point.

In addition to changes in consumer behavior, gasoline price increases have amped up the volume of demands to increase domestic oil production. Boosting U.S. production makes sense, of course, but it also raises some interesting economic and political questions that do not have simple answers.

One of the most important economic questions is also a political one, or, at least it has been in the past. It is one of those deceptively simple questions — the kind that has an obvious, “well, duh” answer — until we start thinking about it.

The question is this: What happens to the oil after it is produced? And what do we want to happen to it?

Congress wrestled with exactly the same question in the early 1970s when the Arab oil embargo transformed our worries about oil imports into the ugly reality of fuel shortages and long, long lines at filling stations. One of the more memorable reader-board signs of those days was posted by a gas station owner to explain the situation to his impatient customers: “We can fuel some of the people all the time; and we can fuel all of the people some of the time. But we can’t fuel all of the people all of the time.”

The fuel shortages were aggravated by the price controls on oil products enacted by Congress in 1973, which reduced the supply and provided an unpleasant lesson in basic economics to consumers.

That same year, Congress also took action to increase the supply of oil to the U.S. market by prohibiting the export of the North Slope oil flowing through the Alaska Pipeline. This export ban was lifted in 1995 as global oil markets seemed to calm down.

As a policy, promoting domestic production of oil has two components: national security and economics. The national security element involves continuity of supply, and the economics element focuses on price stability. There is little doubt that increased domestic production scores high on the national security scale. Almost anything would be an improvement if it reduces our dependence on the volatile Middle East, an increasingly worrisome Mexico, and a hostile Venezuela.

The economics component, though, is a lot less certain. Oil is a global commodity purchased and sold in a complex global market that we do not control.

We could, over time, create a sub-market to meet more, or all, of our domestic demand by legally restricting the export of oil and oil products produced here. We would not expect the global capital market to support it, though, and our oil industry would have to look to subsidies of one sort or another to make up the difference between its profitability and that of its international competition for investment capital.

Ultimately, what our sub-market would look like is one of the kind of state-controlled oil production entities that now dominate the global oil market. It hasn’t brought those countries much gladness, though, and we should expect the same for ourselves.

It would be great if a few lines in an Act of Congress would fix things, but there is no easy way out of our oil dilemma. Increasing domestic production would be a good thing for our nation’s security, but it can’t, in the words of the country music song, “Make the World Go Away.”

Oil is a problem. We have to deal with it.

James McCusker is a Bothell economist, educator and consultant. He also writes a monthly column for the Snohomish County Business Journal.

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