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The Program for Oil Security

This Program for Oil Security is intended to contribute to a long overdue national dialogue about US oil priorities. That discussion will not be an easy process or admit of ready solution. A national energy approach requires a significant rethinking of how we acquire energy and what price we are prepared to pay for it.

Program Priorities

  • Foreign sourcing agreements
  • Use of the Strategic Petroleum Reserves
  • Tax incentives/recasting existing taxes on oil products
  • System/infrastructure integrity
  • SEC revisions to allow development of oil sands and oil shale
  • Attention to the opportunities provided by the rising LNG markets
  • Commit to a serious coordinated plan to develop and phase in alternative and non-fossil fuels, and to improve overall efficiency

Summary Overview

This Program for Oil Security is intended to contribute to a long overdue national dialogue about US oil priorities. That discussion will not be an easy process or admit of ready solution. A national energy approach requires a significant rethinking of how we acquire energy and what price we are prepared to pay for it. The process is made all the more important because, as a nation, we do not have an overall, coordinated, prioritized energy policy. The move to create one has most recently been demanded by the convergence of persisting high oil prices, global security concerns surrounding primary crude oil production regions, and questions about the integrity of the American production and distribution cycle in the face of natural disasters. Yet the need for that policy has been a long standing one.

Fundamental to these issues is the tradeoff between supply and price. As it is presented in the current climate, the choice is between security of sourcing (usually bringing a call for renewed US domestic exploration and field development) and security of price (attention to the burden placed upon domestic consumers and industry from rising energy costs). The first prioritizes national security considerations at the expense of higher price, while the second provides lower relative prices, but at the expense of making the US market more dependent upon foreign oil.

A national energy plan must attend to both of these considerations, but do so in an integrated manner. Certainly national security is a major factor. Yet national security is not only about defending borders or assets against foreign attack. It also means protecting the American way of life, national employment prospects, and the ability of workers to support families. And the economic elements of national security are now under siege. The US is experiencing the end of an era of cheap energy. Crude oil prices will remain within the $55 to $70 range for the foreseeable future. Currently, the American market is importing 57 percent of its crude oil and is also likely to experience a noticeable rise in reliance upon imported oil products and natural gas (including liquefied natural gas) in the very near future. The reliance on imports has been occasioned by price considerations, since it is considerably less expensive to provide crude oil from abroad for refining here than to rely upon more costly and diminishing domestic sources. From the consumer’s standpoint, therefore, imported crude reduces the rise in prices for gasoline and other refined products. This equation also is likely to increase importation of refined oil products as well from other countries, again on price grounds. Currently, the American market imports on average about 9.5 million barrels a day of crude oil. But we are also importing over 24 million barrels a day of refined product. As domestic based refinery production becomes more cost prohibitive, the rate of oil product imports will also increase. We are becoming more dependent upon imports of both crude and oil products and that will produce significant policy questions in the near future.

North American sources (Mexico and Canada) account for, on average, 26 percent of our crude oil imports. Many of the remaining sources, however, pose significant concerns from a national security standpoint. The Middle East may not be the dominant source of American imports, accounting for about 23 percent in 2004 and about 21 percent in the first six months of 2005, but it remains the source of primary reserves-in-place which significantly affect global market prices. Almost 66 percent of all known reserves are in the Persian Gulf, and Saudi Arabia’s apparent ability to put 1.5 million to 2 million barrels a day of crude into the market on short notice remains one of the main underpinnings of oil trading worldwide. An perceived instability in the regional flow of crude oil from the Gulf has an immediate impact on American national security concerns. Additionally, when one factors in the oil sources from Venezuela and Nigeria, two other primary producers whose political environments are troubling, almost 47 percent of all imported crude comes from areas considered potentially unstable or constituting problems for US security considerations..

Yet the resumption of domestic-based production is not a genuine alternative. US-based fields are mature and extraction rates are declining. The present climate of high oil prices allows for some resumption of secondary and tertiary recovery programs, but the additional flow rates will hardly justify an appreciable decline in imports. The US Energy Information Agency (EIA) noted that domestic production amounted to 9.02 million barrels per day (bbl/d) in 2004, would increase to a peak of 9.69 million bbl/d in 2008 and then chart a slow decline to 8.59 million bbl/d by 2025. Demand, however, amounted to 21.02 million bbl/d in 2004, and is expected to rise to 25.26 million bbl/d by 2025. Additionally, even providing for an unexpected increase in extraction rates, domestic lifting costs remain much higher than corresponding foreign sources. The opening of the Alaskan National Wildlife Reserve (ANWR) will not significantly alter the sourcing equation. Assuming that the level of reserves anticipated is actually realized from the proposed fields, an EIA projection completed in 2003 estimated that, by 2025, ANWR would lessen America dependence on imports only from 70 percent to between 64 and 66 percent of crude needs.

The increasing dependence upon foreign crude oil and oil products is paralleled by the rising shortage of natural gas in the American market. Initial estimates concluded between 2000 and 2003 by several industry agencies suggested a shortage would appear beginning about 2010. Revised projections now place that shortage hitting as early as 2008. As the price of oil products has increased, the price of natural gas has been increasing even faster. Some leverage is provided by additional field capacity which could be added to the national grid, especially during times of high prices, but demand continues to rise faster than expected additional supply. Unlike crude oil, conventional natural gas supplies are limited by pipeline capacity and piping networks. While still expensive, the rise in liquefied natural gas (LNG) trading volumes is likely to provide some relief. For the US market, significant LNG imports will not take place until 2010-2012 at the earliest. The American market will benefit from LNG transit to terminals under construction in Mexico and Canada, as well as increased usage of some two dozen domestic-based terminals in operation or approved. More are expected in offshore locations in the Gulf of Mexico. Given the important position natural gas has in the generation of electricity, LNG will become a major component in international trade, but the overall impact it will have on the American market is not likely to amount to more than 25 percent of demand by 2020.
Greater emphasis needs to be placed upon the development of non fossil and renewable fuels, as well as new uses for existing alternative fuel sources such as coal gasification, oil shale and oil sands. There is no question, however, that for at least the next several decades the American market will be dependent upon hydrocarbons. Conservation and increasing energy efficiency will help restrain the increases in demand to be experienced. But neither will change the essential equation. Until the next series of energy breakthroughs are realized, we need to establish priorities which balance the pricing concerns with sourcing concerns. In the interim, we need to establish a genuine coordination of hydrocarbon and non-hydrocarbon development approaches.

1. Foreign sourcing agreements
There are two complimentary elements in this suggestion. First, a significant new source of both crude oil and refined product is Russia. The so-called “US-Russian Energy Bridge” has been discussed for the past three years, with projections ranging from 8 percent to 15 percent of US market needs coming from Russian sources beginning about 2009. These imports need to be expedited. The addition or expansion of pipelines and export terminals in the Russian north (Primorsk, Murmansk, Varandei, Vysotsk and Izhevskoye) have had one primary objective in mind—additional volume for the American market. Plans for Murmansk and a project on the Adriatic (Omisalj), involving redirection of existing pipelines moving Russian crude across Eastern Europe, expect 90 percent of the crude to be sent to the US.
Second, access to US technology, trade access to the US market in selected goods and related trade, as well as support in international memberships, where appropriate, should be provided to foreign crude sources in return for guaranteed longer term imports at discount prices. .

2. Use of the Strategic Petroleum Reserves

The Strategic Petroleum Reserves (SPR) were established following the oil embargo of 1973-74. The rationale for the move is no longer applicable. An oil embargo, such as that experienced following the actions of Arab producers in late 1973, is not now a serious threat. But the rising cost of oil products in the US is. SPR, and the 700 million barrels of crude contained within the network, needs to be made an integral part of a price control system for the US market. Volume taken should be replenished with higher quality crude than the often heavier crude currently deposited there. Revolving accounts should be established for domestic refineries, with the volume taken out and replenished determined by a coordination of national policy and regional needs. When necessary, tax incentives mentioned below should be incorporated into the provisions of the SPR draw down and replenishment cycles to equalize the impact to US petrochemical companies. Maintaining acceptable price ranges for US consumers and industry is a national security matter.

3. Tax incentives/recasting existing taxes on oil products

Tax incentives to US energy companies need to reflect the security of the American market. Current tax incentives contained in the recently passed Energy Plan will encourage domestic exploration and development of fields but not the prices necessary to maintain the American industrial base. They also will be disturbingly prone to the same problems experienced in the earlier oil depreciation allowance provisions. Such incentives are provided from public funds. They need to reflect public, not private profit, purposes. Existing taxes applied to the distribution and retail sale of oil products, especially gasoline, should be re-tailored to reflect a pricing corridor established to provide maximum price allowances for consumption. As nation we essentially determine the strength or weakness of our economy form the viewpoint of the consumer. Our energy policy must be similarly positioned.

4. System/infrastructure integrity

A federal program of mandated pipeline fees, availability, competition, networking and security must be a priority in any ongoing national energy discussion. The past five decades have resulted in a concentration of pipeline control and throughput access that has more often reflected political favoritism than strategic sense. The overall integrity of the grid is suspect, while the actual structure reflects an earlier stage of national industrial development. We need to review on a continuing basis the effectiveness and security of energy delivery systems, not merely the private sector efficiency rates.

In the case of tanker traffic, the usage of Worldscale (WS) ratings is increasingly frustrating the access to international crude oil deliveries and swaps which are to the advantage of the US market by emphasizing arbitrage opportunities resulting from those consignments delivered to other global locations. WS points are a percentage of a nominal rate, or so-called flat rate, for a specific route. Flat rates, quoted in US dollars per metric ton, are revised annually by the London- based Worldscale Association to reflect changing fuel costs, port tariffs and exchange rates. But what they have been doing of late is putting a premium on tanker traffic to ports where there is a greater profit margin (Singapore and other Asian locations are primary examples), at the expense of lower prices posted by the American market.

5. SEC revisions to allow development of oil sands and oil shale
A considerable amount of oil (tar) sands exist in western Canada, while significant oil shale deposits are available in the western mountain states of the US. Both are much more expensive to develop than traditional crude oil deposits, but exist in great volume. Additionally, the mining of oil shale and the processing of oil sands carry negative environmental impacts, attending to which increases extraction costs even more. At current prices for crude oil, however, the development of both is possible on cost to price considerations. The change in such medium term sourcing would be extraordinary. For example, if the vast oil sands deposits in Alberta were calculated in reserves, Canada would have almost as much in-place reserves as Saudi Arabia.

Unfortunately, the US Securities and Exchange Commission (SEC) prohibits companies from including either oil shale or oil sands in reserve figures. This makes it difficult for US mining companies to sell shares for shale production and impossible for Canadian oil sands companies to float shares in the more liquid US securities markets. SEC regulations should be revised to allow the inclusion of both shale and oil sands in reserve calculations. That would allow private investment to begin developing these promising new sources of oil, instead of relying upon tax payers to finance the projects through government largess.

6. Attention to the opportunities provided by the rising LNG markets
Liquefied natural gas (LNG) is about to encourage decisive shifts in energy usages worldwide. From being an expensive regional spot market (almost all going to the Japanese and South Korean markets) only a few years ago, LNG will comprise the single most important change in worldwide energy patterns by 2010. LNG super cools natural gas into a liquid, thereby allowing it to be transported by tanker. At the receiving terminal it is then re-gasified and injected into existing domestic pipeline systems. A frantic LNG terminal and processing construction surge is underway, which has already translated into a massive change in new tanker building contracts. Currently, LNG terminals are under construction in over 50 countries, while processing facilities are being created and expanded in Australia, the Persian Gulf, in northern Russia and on Sakhalin Island in the Russian Pacific, Nigeria, Latin America, North Africa and even the Caribbean. Given the expected movement from oil to natural gas in energy cycles in most developed nations, reflecting more attention to environmental and utility considerations, LNG will become an important addition to the market. Natural gas has been the energy source of choice in generating electricity, but supply constraints have made gas more expensive. As more LNG comes in line, there will be a positive attention to demand requirements and a stabilizing of price.

7. Commit to a serious coordinated plan to develop and phase in alternative and non-fossil fuels and improve efficiency
As a nation we will be moving from a crude oil-base energy system by necessity. Even the strategic plan of the Organization of Petroleum Exporting Countries (OPEC) expects the US market to be off of crude oil by 2050, with alternative fuel sources being phased in well before that. This is encouraging for the environment, but also still decades away for consumers and industry. As we move from crude to natural gas as a dominant energy source, and then perhaps to a helium-based energy system and beyond, an integrated plan must be in place to oversee prices, secure availability and attend to the inevitable economic dislocation. Alternative energy sources are still far more expensive on average than hydrocarbons, currently lessening their attraction. Improvements in technology and delivery systems will assist to reduce pricing, and some areas may benefit from advances in specific alternative raw materials, such as the prospect for coal gasification in Pennsylvania. But any resulting national energy system will almost certainly be a complex of different energy sources utilized in changing ways. This obliges a concerted coordination strategy.

Coordination also requires recognition of how conservation policies will improve the overall efficiency in energy usage. The US has 8 percent of the world’s population but consumes more than 25 percent of its oil. Whenever prices have dramatically increased, conservation has resulted. Such will be the case this time. But our conservation efforts have rarely been part of an overall approach. Usually, such efforts are seen as a stop gap measure to overcome a transitory inconvenience, reflecting a nation deprived of a benefit still expected to return shortly. We have yet to translate the conservation effort into any overall national standard of efficiency. Why is it that Japan is able to produce one unit of Gross National Product for 50 percent of the energy required to accomplish the same result in the US?

The oil quandary will not go away, and the pricing factor will not significantly improve. As a nation we need to start the dialogue and attend to essential revisions in policy. This will hardly be a short or an easy process. Regional, financial, industrial and political self-interests are deeply embedded in the energy debate. Some parts of the country benefit from the current state of affairs while most others are punished. We must balance priorities and interests, challenges to life style and employment.

This energy debate comprises a fundamental position in considerations of national security. Little involved in defending the national prospects and those of its citizens falls outside its influence.

Duquesne University

Founded in 1878, Duquesne is consistently ranked among the nation's top Catholic universities for its award-winning faculty and tradition of academic excellence. Duquesne, a campus of nearly 10,000 graduate and undergraduate students, has been nationally recognized for its academic programs, community service and commitment to sustainability. Follow Duquesne University on Facebook, Twitter and Instagram.
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