Friday, May 28, 2004
America deserves better # 11
One of my objections to this administration is economic irresponsibility. You
are now experiencing one of the "unintended consequences" of Bush economic
policy. In effect the high gasoline prices are a tax on gas users, and the biggest
users (relative to their household income) tend to be lower income working class people. Thus the tax cuts for the rich impose a further burden on the poor. Nice work Dubya! I wonder when the working class conservatives are going to catch on.
Since I sent this letter gas prices have again gone up. The following notes explain the 2 increases.
Economic Viewpoint By Robert Kuttner: The Real Reasons For Your Pain At The Pump
U.S. policies have caused the dollar to fall, leading OPEC to hike prices.
Bush is pushing for more tax breaks and regulatory waivers for domestic oil
and gas drilling. Kerry wants to invest more in advanced technologies, such as fuel
cells. Yet in all this public debate, hardly anyone is talking
about what is probably the most important reason behind the first runup in
oil prices -- the weak dollar.
Those who recall the first OPEC oil shock in 1973 will remember the central
role played by the weak greenback. In the period from 1971-73, the U.S.
ceased being able to maintain the Bretton Woods system of fixed exchange
rates, with a dollar pegged to gold at $35 an ounce. Dollar devaluation
ensued, followed by floating exchange rates. For OPEC, this reduction
equaled a huge cut in revenue, because oil is priced in dollars. Since OPEC
is a cartel, it has a fair amount of pricing power. Dismayed by the lost
income and irritated at Western support for Israel in the 1973 Arab-Israeli
war, the OPEC nations decided, for the first time, to use that power to
extract a large oil price increase. The U.S. economy suffered accordingly.
FAST FORWARD 30 YEARS. The dollar has again lost a large part of its value
(over 40% against the euro since 2002, and more than 20% against the yen).
For oil-producing countries, this equals another enormous revenue loss, and
they are raising prices to make it up. Indeed, if oil were priced in euros,
OPEC's revenue per barrel would not have taken a hit. In addition, as in
1973, Arab nations are less than thrilled with Washington's Middle East
policies. Once again, gasoline prices are soaring.
Is it fair to blame the cheap dollar on the Administration? It is, and
here's how the dots connect. First, the Administration's tax and budget
program hasn't produced enough purchasing power for ordinary people. Despite
one month of good job growth, median wages have not kept pace with
inflation. Consumer and business debt are high. The economy also suffers
from a chronic trade imbalance that is increasingly structural. With fiscal
policy exhausted, the Federal Reserve has had to come to the rescue with
very cheap money. Extremely low interest rates, of course, yield a weaker
That can be laid at the Administration's door for another reason. Countries
with irresponsible fiscal policies find that their currencies lose respect
in global currency markets. As budget deficits have gone skyward, confidence
in the dollar has gone down. Some foreign exporters, Toyota Motor Corp.
(TM ) for instance, choose to absorb the exchange-rate loss and take an
earnings hit rather than lose U.S. market share. Others, such as purveyors
of fine French wines, have raised dollar prices. But the oil cartel is a
special case that is able to engineer its prices -- indeed, that's the
definition of a cartel. Gasoline, unlike French wine, is a necessity with no
near substitute. Most consumers just absorb the increase because they have
PS: OPEC's next logical step is to price oil in Euros and Yen, which will cause
a further collapse in the dollar. And don't blame OPEC. This administration
weakened the dollar and damaged their economies without any regard for their
The gasoline price increases we have seen recently are not a result of oil company price gouging, and are not something that should be addressed by drawing down the Strategic Petroleum Reserve (SPR). The high prices result from 4 primary causes. The first is that world-wide oil demand is almost at production capacity. There may be 2% of slack left, all of it in Saudi Arabia and Kuwait. Even with Russia still raising output somewhat, non-OPEC production will probably go into irreversible decline this year, and OPEC will be only a few years behind. World economic recovery and booming energy demand in China are outstripping production increases. Second, the supply of low sulfur crude is even more critical, and most USA refineries are designed for low sulfur crude. The third reason is that no new refinery capacity has been added in the USA in nearly three decades, and with about 30 different gasoline mixes mandated by our 50 states to minimize summer air pollution, refinery capacity is max'd out. USA gasoline demand is up about 3% year on year, mainly due to growing use of fuel inefficient SUVs. The fourth reason is fears about middle-east instability causing governments to increase strategic reserves, and investors to go long. You will hear that oil company profits are up 90% and that is true. What you will not hear is that oil company profits have been dismal for several years, which is one of the reasons that no refinery capacity has been added. Even after this nice rise, profits are not excessive. No, I am not a spokesman for the oil industry.
What most people don't know is that USA oil production has been in decline since 1970, with the rate of decline slowly increasing. It's at about 4%/yr. now. We now produce only about 40% of the oil we consume, and oil imports are the single largest item in our very negative balance of payments. If you had to pay at the pump to maintain the military we keep in the middle-east to keep the supply lanes open, instead of having it buried in the defense budget, gasoline would be over $7.00/gal today.
To make things more interesting, world-wide oil production will probably be in irreversible decline before the end of this decade. The present high gasoline prices are just the first tremors of the earthquake that is coming. My personal expectation for the peak year is 2007/08, but there is no way to make a certain prediction. You SUV drivers had better start thinking about a trade-in, because the day after the world realizes that oil production has peaked, you will be driving a vehicle with zero trade-in value, regardless of how high your unpaid balance on it is.
There are people, mostly economists or politicians, who will tell you that an impending oil peak is not true and we have at least 40 years of oil left. I don't have room in this letter to give you all of the arguments why they are wrong, but you might consider a few points:
- world-wide oil discovery peaked in 1963, and has been in decline ever since, - you can't produce what you don't find
- over the last 15 years annual discovery has averaged about 1/3 of production, and was about 1/4 last year
- out of about 41,000 known oil fields worldwide, more than 20,000 are classed as insignificant. We wouldn't have found all those little ones without finding any more big ones if they were there.
- for the last 3 years the exploration costs of the oil majors have been larger than the net present value of their discoveries.
People will tell you that there is more oil in the Athabasca tarsands and the Orinoco bitumen than all of the recoverable conventional oil that has ever been discovered, and that is true. The problem is that you have to mine it instead of pumping it out of the ground through a pipe, and the production rate is less than 2% of world demand today, and will never exceed 10% of today's demand.
What does all this mean to us? Well, first, Bush is lying when he says that we would not have a problem if his energy bill had been passed 2 years ago. His energy bill focused heavily on supply side spending in America, and the supply side can't solve the problem, either domestically or internationally. North America has been thoroughly explored, and the reason his energy bill has to offer major subsidies to oil companies is because there are no economically interesting prospects for them to pursue independently. Second, Bush is lying when he says that if Congress had approved development of ANWR we would have no price problem today. ANWR has much lower reserves than the government claims, won't reach a production rate that will solve the supply problem ever, and wouldn't be in production yet if we had started 2 years ago. Bush is lying to try to preemptively shift the blame onto the Democrats for not passing his bill. Third, Bush is dead right when he refuses to drain some of the Strategic Reserve to ameliorate prices. If there is any real supply interruption, we will need that reserve. We already have oil supply instability in Venezuela, Nigeria and Iraq, and growing unrest in Saudi Arabia. The SPR could only compensate a 10% shortfall in imports for 1.5 years if there were zero demand growth.
And that last point is the major reason why Bush's energy bill is wrong for America. There are some good points in the bill, but the emphasis is on the supply side and fossil fuel, when the problem can only be addressed permanently through the demand side and renewables. The main thrust of the bill is "Drain America First", and strategically that is dead wrong, just as pulling down the Strategic Reserve would be wrong. His supply side "drain America first" policy is aggravated by a demand side policy that gives subsidies to buyers of the most inefficent vehicles. That's really dumb.
The Administration has known about this problem for a long time, but doesn't want to talk about it. I can think of 3 possible reasons for their reticence:
1)they are afraid the American people can't take the truth and will panic.
2)they are helping their oil company cronies who don't want to be seen as a twilight industry (think about BP's name change).
3)they don't want to hurt big Auto's profitable SUV sales.
Probably the real reason is a mix of all three, but the approach is stupid because, sooner or later, we will all know (peak oil is becoming a topic of discussion in the media), big oil will have to redefine themselves as energy companies (a la BP), and Detroit will have to start building responsible energy efficient cars or die like the dinosaurs. Sooner is better.
We urgently need a comprehensive and responsible National Energy Policy that focuses on demand and renewables. Contrary to what Cheney and several economists would have you believe, we do not have to curtail economic activity to cut demand substantially. The economy is rife with opportunities for efficiency improvements, but that is the subject of another letter. If we act early, we can weather declining petroleum without major negatives, make the nation more efficient and competitive on the world stage, and create a multitude of jobs. If we wait until the crisis is upon us we will have economic disruption that could make the Great Depression pale in comparison. It's time to seize the initiative.
There is no way that this administration is going to present the kind of policy we need. America both needs and deserves better. Replace this administration.
Best regards, Murray