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Poor Policies Produce Gas Pains by J. F. Kelly, Jr. 6/18/08

Multiple congressional committees are reportedly studying causes and solutions regarding the drastic run-up in oil prices. They are prompted by angry constituents experiencing economic pain, not only at the pump, but every time they buy anything affected by the price of oil which is to say just about everything. This Congress hasn’t demonstrated much capacity to understand complex issues, let alone solve them, so don’t expect too much. As always, politics and interest groups will largely shape positions.

Citizens have been upset before over price increases but this time the anger has escalated to rage over the rapid increase in the price of gasoline and the effect it is having on their lives. And wait until the heating season is upon us and the fuel bills arrive. As it is, many people are unable to afford enough gas to drive to work without drastic cuts in other personal or family expenditures, necessitating painful choices. At the same time, they are seeing price increases practically across the board without commensurate increases in their incomes. Many are tapping or exhausting their savings and increasing credit card debt just trying to keep up. Vacations are being scaled back or cancelled and recreational driving is becoming a luxury only the affluent can afford.

Europeans, who are and have been paying far more, seem somewhat amused that we feel so put upon. But the effect of high gas prices is much greater here in our spacious country. Automobiles play a larger role in our daily lives and we have a particular fondness for big ones. Additionally, public transportation in European countries, especially rail, is vastly superior to ours. With airlines reducing their fleets, schedules and routes because of fuel prices and the cost of air travel increasing, the mobility of lower income Americans is shrinking rapidly. We had gotten used to relatively cheap air transportation. That travel option is fading fast while the cost of gasoline and added travel time makes auto and even bus travel barely, if at all, less expensive. Train service between our cities, where it exists at all, is often slow, uncomfortable and unreliable.

Members of Congress babble on about windfall profit taxes, conservation and the need to utilize alternative and renewable energy sources but many of them seem stuck in a state of permanent denial. Many just say what they think constituents want to hear, e.g., Sen. Hillary Clinton’s unhelpful promise to put the bite on “big oil”. Such demagoguery plays to the crowd but contributes nothing to a solution. In fact, it makes matters worse, adding to the upward pressure on prices and discouraging further investment.

What we are witnessing in this crisis is a convergence of multiple causal factors to form a perfect storm, to use that overworked metaphor. First, there is the rapidly growing demand, notably from the two largest rapidly developing nations, China and India, which between them, account for more than a third of the world’s population. As everyone knows from Economics 101, increased demand forces prices upward. Rising prices often slow demand and even drive prices down but not this time because of surging population growth, increased prosperity in these countries and for other reasons discussed below.

Second, speculation in the futures market for crude oil is driving prices up as investors buy oil at today’s prices for future delivery because they think that prices will be even higher in the future.  Speculation is not a crime. It’s just an investment or planning strategy. A certain major airline that has managed to remain profitable, at least until now, saved a lot of money on fuel costs some time ago by shrewdly buying fuel at the then-current market prices for future delivery. What many people don’t realize is that any perceived risk or even uncertainty can affect the price of commodities futures. These include any factors that could impact production like hostilities, terrorism, government policies or even just rumors. It works in both directions, also. For example, if Congress were to authorize drilling in the Arctic National Wildlife Refuge and/or off the coasts of California and the Gulf states now, the price of crude oil would likely drop as traders reacted to the prospects of increased supply in the future.

Third, we buy crude in dollars which, having taken a beating relative to other currencies, doesn’t buy as much as it used to. Blame Fed policies for the weak dollar.

Fourth, we lack sufficient refinery capacity in the U.S. because of restrictions on construction and opposition by environmental activists who persist in embracing and promulgating the delusion that we can solve this crisis if we would just build enough windmills and solar collectors and if, meanwhile, everyone would just ride a bicycle and drive a Prius.  But it isn’t that simple. We will still be dependent upon oil for decades which is not to say that we shouldn’t be pursuing alternatives with all reasonable speed.

The pain has been worsened by poor political decisions and their unforeseen consequences. Using corn to produce ethanol has been an expensive failure economically, except, of course for the farmers who were subsidized to grow it for fuel. It helped to produce a serious food shortage and subsequent increase in food prices. We failed to provide sufficient public transportation options for the millions of Americans who now need it because they can’t afford gas for the gas-guzzling SUVs and trucks they are still paying for and who can’t afford to run out and buy a Prius.

Perhaps the greatest policy failure is the stubborn refusal to authorize additional Artic and offshore drilling. It is ironic that China will soon be drilling just 60 miles off the Florida coast. Other nations are sure to follow, while at the same time, busily drilling off their own coasts. It is estimated that the Arctic National Wildlife Refuge contains 10.4 billion barrels of crude which, along with an estimated 86 billion off our coasts and 420 trillion cubic feet of natural gas, would greatly reduce our dependence on foreign sources. These resources are doing no one any good buried underground. It simply boggles the mind that we have let Congress and the environmental extremists get away with this. CRO

copyright 2008 J. F. Kelly, Jr.

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