Why Energy Independence May Not Be a Good Idea

Dennis Silverman

Department of Physics and Astronomy

U. C. Irvine

October 29, 2008

www.physics.uci.edu/~silverma/

First of all, energy independence is used by many people with several different meanings. It often is used to back a particular self interest of the people or companies involved. It is currently used in political campaigns to gain favor without much justification for why it is useful, or what the real costs are. I will be looking at it here from a cost perspective, and from a perspective of trying to reduce greenhouse gas emissions.

Secondly, with two thirds of the world’s proven oil reserves in the Middle East, it is really impossible in this century to obtain complete energy independence for the US or for the other countries in the world. Even if we drill out the federal portion of ANWR in Alaska (estimated at 4 to 12 billion barrels, say 10), and drill the presently banned outer continental shelf (estimated 18 billion barrels), plus the estimated 68 billion barrels allowed on the continental shelf, we would only generate about 96 billion barrels of oil, out of a world reserve of 1.2 trillion barrels of oil, which is 8 % of the total. The area previously banned is 28 billion barrels or 2.3 % of the world’s total reserves. Currently, “no new offshore drilling leases will be issued until a new president and Congress decide the matter definitively”, Howard Witt, Chicago Tribune, Oct. 28.

Thirdly, oil is easily traded and shipped around the world, and is thus called a fungible resource. It is suggested that we limit ourselves to not import from certain countries, like Iran, or the Middle East, or Venezuela, and make up for it by oil or alternate energy production at home. Any constraint on our choice of supply will mean more demand on the approved suppliers, which will result in a higher cost. But since other countries will then see sources with reduced demand, the price of oil to them will decrease. Thus we will be in effect subsidizing oil to other countries, such as China, who we are competing with economically.

Fourth, American oil companies have not been patriotically helpful in keeping down the price of oil products to the American people. They have in fact been making record profits year after year from the high price of oil and gas. While they were profitable a few years ago in producing oil at $20 per barrel, they are now charging us the full international price for their oil, as if it were produced abroad. Since their oil is 1/3 of the US mix, mixing it at $20 per barrel would reduce the overall price of oil to us by almost a third. They also have little incentive to invest in more wells, to the extent that a slight shortage of supply and the inelasticity of US oil demand are helping to boost the price of oil. A large part of the oil company profits has been used to buy back stock, thus increasing the value of the stock to stockholders. They also know that Saudi Arabia could unleash an equivalent amount of increased supply, as that from our difficult resources, at little cost when it wants to. As a final comment on US oil companies, there are no restraints in trade on them, since they are not government controlled as is 80% of oil world wide. Hence even after allowing them unlimited drilling sites, there is no guarantee that they would sell any of the oil to the US at any reduced rate than they could get on the world market. This is of course the case at present. On the other hand, we would have given up any emergency reserves that we might have needed in the future, as well as having despoiled some of our shores, national parks and forests, and wildlife preserves.

Fifth, we are of course all concerned by the large outflow of hard earned American wealth in buying foreign oil. That has been greatly exacerbated by the recent increase in the price per future barrel by a factor of seven. While I am not an economist, it is apparent that if you greatly increase the funds seeking a fixed set of commodities, the price will increase proportionately. The fact that oil has now rapidly come down by half from $147 per barrel to $70 per barrel with only a 5 % reduction in US driving shows that it is not really purely supply and demand related, but more related to a realization that the peak in speculation had been reached. The calls for energy independence imply that the foreign suppliers of oil have been setting the price artificially high. In fact, OPEC only fixes the amount of the supply, and the market determines the price. That supply is close to the maximum available. Hence it is really us, through our retirement and hedge funds, who are determining the price. In an August 20, 2008 article in the LA Times business section, it has now been found by the Commodity Futures Trading Commissions that “financial firms speculating for their clients or themselves account for about 81% of the oil contracts on the Nymex (New York Mercantile Exchange)”. So by regulation of speculation of retirement funds and demanding public accountability of hedge funds, we could bring down the price and stem this large cash outflow. The current rate of outflow of funds for 14 million barrels a day at $70 per barrel for a year is about $365 billion a year. However, these dollars may circulate around the world for a while, but they must still come home to roost in terms of buying US products, labor, real estate, bonds, stocks, or companies. This is no different than what stock holders of US oil companies, whoever they may be, will do with their profits if we only consumed home produced oil.

Sixth, it is important to note that countries that export oil are largely dependent on those profits to fund a major part of their government and economy. They are not going to be able to long hold back oil from the market or to engage in warlike behavior that could threaten their facilities or threaten sanctions. Each country only supplies a fraction of our oil imports, and can only be maybe a 10% reduction in supply. Yet in a fungible market and with our high ability to pay more to get available supplies, and also our greater ability to conserve (since we are so wasteful), we really can count on foreign supplies more than is appreciated by the energy independence advocates.

Seventh, we have the US Strategic Petroleum Reserve. The daily supply of world oil is about 84 million barrels per day, with the US consuming about a quarter of this or 21 million barrels per day. Two thirds of that is imported, which is about 14 million barrels per day. The US Strategic Petroleum Reserve contains 707 million barrels of oil, and was adding about 16 million barrels per year. However, in a Middle East conflict or disruption or boycott by an individual country, only a small fraction of our daily usage would have to be replaced. Although Middle East countries ship through the Strait of Hormuz bordering Iran, the Saudis and Iraqies also have pipelines to the west that could be used to handle part of their shipments. A large part of our imports comes from Canada (about 2.5 million barrels per day) and Mexico (1.3 million barrels per day). From the Middle East is Saudi Arabia (1.6 million barrels per day), Iraq (0.7 million barrels per day), Kuwait (0.2 million barrels per day), and none from Iran. Also we get large amounts from Venezuela (1.2 million barrels per day) and Nigeria (1.1 million barrels per day). We thus see that a boycott or total disruption from Nigeria say could be met by the US reserve for 643 days or 1 and ¾ years. This 5% reduction could also be managed by conservation by not driving over the speed limit, or using your smaller car for the drive to work. Of course, again, oil is fungible, and a total disruption from a large oil producing country would lead to a scramble on the world market and a larger share disruption. Historically, hurricane Katrina in 2005 made a 0.85 million bbl per day deficit from the 1.56 million barrels per day in Gulf of Mexico oil.

Eighth, we can look directly at the economic effects of outer continental shelf (OCS) drilling on California. There are an estimated 10 billion barrels available on unleased portions of the outer continental shelf in California (Washington and Oregon have only about 0.4 billion barrels). At a current price of about $100 per barrel, this would be worth about a trillion dollars, minus the cost of recovery operations. The Federal royalties on this could be 12%, or $120 billion, spread out over a few decades. This is worth about $400 per American. Yet in California, for example, a majority of the population lives less than an hour from a beach. California houses run more than those in the middle of America, and houses within most of the large coastal cities run $100,000 to $200,000 more than those inland. While some of this is due to job availability and wages in these cities, I think a part is also due to access to the beaches and to beach cities. There is also a large tourist income associated with the beaches and beach cities. Should there be another coastal oil spill, it could affect the property values not only of beach city houses, but of houses in the large beach access cities. Effects would also be seen in cities all along the coast, not just in the immediate cities affected by the spill, since the potential threat of a spill anywhere would be increased. Tourism would also decrease to the area affected. So when we see that almost half of Californians would favor offshore drilling, it is because they have not yet really considered the economic effects to them of a real or potential oil spill.

Ninth, we examine the estimates of yet unleased outer continental shelf oil (further from shore than 3 nautical miles, or about 3.3 miles) currently in political debates. As of 2003 in DOE estimates of the total of 59 billion barrels of “technically recoverable undiscovered resources” in the outer continental shelf oil, 41 billion barrels are available for leasing in the Gulf of Mexico, 4 billion barrels is banned in the Eastern Gulf of Mexico, 4 billion barrels is banned in the Atlantic, and 10 billion barrels is banned in California. So only 18 billion barrels of OCS oil is banned. Of the California banned oil, the LA Times quotes only but precisely 5.74 billion barrels as “technically recoverable, median value reserves” from San Luis Obispo to the Mexican border, in an area that has yet to be explored.

Tenth, we look at the rate of production of outer continental shelf oil in California. DOE estimates that in 2030 the rate of offshore oil production will be 2.4 million barrels a day out of the total US production of 5.6 million barrels a day. Only 0.2 million barrels a day will come from presently banned offshore sites. The oil industry argues that this will be larger. We have analyzed the OCS production in California up to March, 2003 from Minerals Management Service (MMS) data from 22 California Platforms, and found that total oil output was 1.66 billion barrels, and average yearly output, 81.7 million barrels or 0.22 million barrels per day, in agreement with the DOE estimate for the future output of the banned OCS areas (thanks to John Joseph for this analysis). However, another MMS site shows that in 2003 only 13 of 25 fields were producing 29.7 million barrels for 2003, or 0.081 million barrels a day in 2003, possibly showing the exhaustion of half of the platforms. If there are 10 billion banned OCS oil in California, then at the production rate of 0.2 million barrels a day or 73 million barrels a year, it will take 137 years to extract the presently banned oil. Using the 5.74 billion barrels figure from the LA Times, at 73 million barrels a year, it would take 79 years to exhaust the field. So the much touted promise of OCS California oil is a far cry from an immediate solution to any energy problem or energy independence.

Finally, from the point of view of stemming greenhouse gas emissions, we of course back limiting oil and gas usage through driving smaller, more fuel efficient cars, and conservation such as car pooling, public transportation, obeying speed limits, and substituting modern communications to replace travel. If and when we can create useful car batteries for electric and hybrid cars, constructing CO2 emission free sources of electricity such as wind, solar, geothermal, and nuclear will replace the need for oil. This will still leave us energy dependent on increasing natural gas imports, and diesel and airplane fuel, and possibly sugar cane produced biofuel. It also will involve at least two decades to substantially replace our car fleet with the new types of cars and to build the emission free sources.