Monday, April 30, 2007

It's Still About Oil

By Michael Johns

For all its greatness, long-range thinking is not one of the many attributes one would assign to our nation. Our public companies often run on quarter to quarter corporate plans; our government's focus, frankly, is on the next election. In the United States House of Representatives, that's every two years. That means the campaign never stops, which also means the long-range thinking never starts.

Examples are plentiful: America's health care policy? Not a policy you'd describe as a long-term one, given its minimal focus on disease prevention, no immediate remedy to the mounting burden placed on state governments by long-term care admissions and no apparent solution for the coming demographic tidal wave in federal and state health costs. America's entitlement programs? The only thing certain about them is that they cannot go on as they are currently. Each Congressional Budget Office study confirms the obvious absurdity of our current course, which cannot be sustained without revolutionary changes. But it's not a comfortable political topic, so the absurdity endures.

National security and foreign policy? There are some brilliant long-range thinkers in the Pentagon, the Central Intelligence Agency, and America's think tanks. But these people rarely are making policy. Here too America's policy is defined by a reactive, not proactive, approach to the many global threats to our national interests. Difficult as it may be to imagine today, the Iraq War will one day end. What next of America's role in this world? Perhaps understandably, Iraq seems to preclude such thinking right now, largely precluding the long-range strategic thinking that is required by our government and its policy makers.

And then there's America's energy policy, and it's generous to use the word "policy" in describing it. The transition of our nation from a manufacturing to a service economy may be nearly complete, but it's certainly not reflecting in our continued demand for oil, which is greater than ever.

By necessity (and to its credit), the administration of George W. Bush is now looking at some long-term alternatives to oil dependence, which President Bush rightly labeled an "addiction" in his State of the Union address this past January 31. Since then, it's a credit to this administration that the phrase "alternative energy", used historically to describe ethanol and other non-oil energy resources, is losing its relevance as these energy sources become less of an "alternative" and more a part of our deliberations over America's long-term energy needs. From all of this, a long-term energy policy may yet arise.

Yet, despite the obvious long-term need to adopt these "alternative" approaches to our nation's energy needs, it's troubling that Washington feels the necessity to trump market forces by making their production a federal mandate. If ethanol is all that its advocates represent, such a mandate would prove unnecessary because market resources would naturally flow to its development. This is especially true today, in an economy with abundant liquidity and unprecedented levels of available private capital.

What's troubling amidst all the hype around ethanol, however, is that these market forces have historically viewed ethanol with some degree of trepidation. That may someday change completely; in fact, it appears to be changing at least partly now. But it would be more appropriate to let those market forces flow to our next energy resources, as opposed to mandating one of them--ethanol, as Congress is doing. Federal corn lobbyists: 1, America's energy interests: 0.

The uncomfortable and too seldom discussed reality is that it is oil and natural gas that still drive this economy--and no alternative has yet emerged to supplant it. That's a fact today, and it will likely be a fact for at least several years to come. And oil is not, for two primary reasons, coming cheap.

First, the cost of oil is influenced by some degree of geopolitical risk still factored into its pricing. On Friday, for example, Saudi Arabia arrested 172 suspected al-Qaeda and other militants. At first word of this development, oil futures soared, as the market confronted the uncertainty of the incident. By this morning, as it appeared that Saudi forces had in fact foiled a fairly large Saudi-based terrorist cell, which should prove helpful to regional stability, future prices dropped, ultimately falling lower than they were before their original escalation on Friday on the theory that Saudi Arabia may finally be getting serious about eradicating the al-Qaeda threat. Such price volatility proves only that this is a jittery market looking over it's shoulder, well aware that dangerous geopolitical threats linger.

Second, the escalated price of oil is equally attributable to classic supply and demand forces, with supply negatively impacted by the fact the U.S., even in the midst of enhanced geopolitical uncertainties, has failed to drill sufficiently for oil on its own soil. An estimated 10 billion barrels remain undrilled on a small part of the Arctic National Wildlife Refuge (ANWR). And off of our own coastal waters, European and other nations drill for oil where our own Congress has prohibited such drilling by American oil companies.

Widely unknown to most Americans, Congress also has mandated the production of roughly 30 different types of gasoline to be used in different parts of the nation, which only further increases the cost of its production. Eric Bolling, a strategic advisor to the New York Mercantile Exchange but better known as "The Admiral" on CNBC's excellent daily 8pm ET show Fast Money, predicts that gasoline is headed to $4 a gallon by July. That's the quantifiable cost of a war on terrorism that is not yet won and a Congress that seems clueless as to the extent of this nation's lingering energy crisis. Forget a long-term plan, this Congress doesn't have a short-term one.

Our long-term energy policy, when it does emerge, will not likely be rooted in oil, as President Bush has astutely acknowledged. But the short-term bridge to this long-term policy is very much rooted in oil, and it's a short-term bridge that requires the use of our own oil resources that can be easily extracted now. Such a step would ease the supply cycle that is burdening this nation with unnecessarily escalated oil and gasoline prices and enhancing our dependency on unreliable Persian Gulf, Nigerian and other oil resources.

Ditto the case with nuclear power, which, since Three Mile Island, modern technology has made an impressively efficient and environmentally-friendly mechanism for the delivery of energy. Even in the environmentally conscious European Union nations, this is a fact long ago recognized. But it's been 30 years since bureaucrats at the Nuclear Regulatory Commission have authorized the construction of a nuclear power facility in this nation. The first one since then is now under development in New Mexico, but it's been a long time coming.

A final point: It surely is not a pleasant thought for most Americans, especially given the prolonged nature and excessive loss of life in the Iraq conflict, but the likelihood of a potential conflict with Iran is not insignificant. High school geography taught us that the Strait of Hormuz, which divides Iran and the United Arab Emirates, is roughly 21 miles wide and twenty percent of the world's oil flows through it. In the not so improbable case that Iran ultimately attempts to close this straight (as it has periodically threatened to do), either in provocation, in retaliation, or as part of a larger geopolitical conflict, it will be important that our currently untapped U.S.-based oil reserves are available.

With light sweet crude futures for June currently priced at roughly $65 a barrel, an ambitious short and long-term energy policy that enhances supply becomes important if, for no other reason, than the fact that, at $100 a barrel, the impact on this economy and the American people would be hugely painful. And in such a scenario, which could yet emerge this year or next, ethanol will not be this nation's salvation.

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2 comments:

Mike said...

Interesting post Mike. What do you think about the new development plan for offshore oil exploration and drilling? It's linked to my newest blog if you haven't heard/read, but that should help control oil costs significantly because it allows America to eliminate its dependence on other countries, espeically those who are charging high prices.

Alternative fuels are certainly feasible solutions in the future, however, they need to be generated a costs lower then oil to be economically sound.

daniel said...

Mike,

Great Post. I have been unwillingly engulfed in the hoopla surrounding our countries negative relations with other countries, mostly in part, due to new energy crisis'. I found a great article, which further details some possible implications and scenarios our country might, and most likely will face in the future. Take a look and tell me what you think.

http://www.isecureonline.com/Reports/DRI/EDRIH668/

Enjoy....Cheers!