With gasoline prices skyrocketing and America’s fragile economic recovery at risk, isn’t it time to open the spigot on the federal government’s massive oil reserve? Probably, but the decision isn’t quite the no-brainer it appears.
First, a reality check. The 727 million barrels of crude now stored in the Strategic Petroleum Reserve is a relatively modest amount compared to global consumption (now around 88 million barrels a day). And the quantity that could be delivered for processing into fuels (a few million barrels a day, at very most) is far too small to make up for a major disruption of the global supply chain. So, while the reserve could make a material difference in an utterly implausible military emergency – say, the closing of the sea lanes by the Russian submarine fleet – the point of selling oil from the reserve in relatively normal times is to change the prevailing psychology in the strikingly volatile market for oil.
But expectations only loosely linked to reality sometimes matter in commodity markets – sometimes, a lot. In January 1991, during Operation Desert Storm (the only time the reserve has been used to counter fears of an international supply disruption), the sale of just 17 million barrels apparently had a salutary effect on prices in a jittery market. Why not give it another try?
One argument against a sale collapses at a glance. Congressional Republicans have used the opportunity to promote a more aggressive effort to increase domestic production. That might be a good idea (even in the wake of the BP blowout), but it is hardly a substitute for a policy designed to increase the supply of crude oil next month.
A more serious argument against tapping the reserve goes like this: Government intervention would be bad because it would prevent higher prices from performing their magic in a free market, increasing both incentives to produce oil and to conserve it. Trouble is, there’s little evidence that the global oil market responds efficiently, especially when it comes to near-term political risk; nor are the consequences of rapid price changes limited to those actually buying the oil. Indeed, the original purpose of the strategic reserve was to counter OPEC market power – and the disruption (read: recession) that could follow from supply manipulation. Ironically, that market power offers one of the better rationales for not tapping the strategic reserve: Anything we do could easily be offset by changes in exports from Saudi Arabia.
But probably the best reason not to sell oil from the reserve is that the decision might boomerang. A sale without visible impact could lead industrial users, who had been counting on the reserve to dampen price volatility, to attempt to build inventories rapidly and really set off a major price escalation. From this perspective, it would be more prudent to do what the Obama Administration is already doing: threatening to release oil in the hope that speculative (and defensive) demand for oil will abate in response without the need to test the effect of the real thing.
That said, we still think the case for a strategic sale is pretty strong. For one thing, it wouldn’t take very large sales to make up for the reduction in Libyan exports. For another, the consequences of not selling oil might be large. While it’s true that the direct impact of oil price volatility on energy-sensitive businesses has been much reduced in the last few decades, there’s reason to worry about the indirect effect in terms of consumer spending and industrial investment. What’s more, America and the European Union now lack the political will (and, some claim, even the technical ability) to use fiscal stimulus and monetary easing to offset a decline in private demand.
The issue we now face with the Strategic Petroleum Reserve is actually a familiar one. In problematic circumstances short of the extreme – say, the destruction of Saudi oil infrastructure – there will always be plausible economic and geopolitical reasons to use the reserve and plausible reasons to hold back. But with unemployment still hovering around 9 percent and investors all too ready to be spooked by evidence that the recovery is sputtering, we vote for intervention.
(This post was also published on Forbes.com.)