DEVELOPING A NATIONAL ENERGY POLICY

By William F. O'Keefe, Chief Operating officer American Petroleum Institute

Learning From Past History This year, Congress has once again been considering national energy policy. In February, one year after President Bush proposed his "National Energy Policy," the U.S. Senate passed its package of energy-related measures, and the House of Representatives continues to debate its own energy proposals.

Among the questions being considered on Capitol Hill are: • Should government require that consumers use new alternative fuels?

• Should it mandate new automobile technologies?

• Should it mandate energy conservation and efficiency?

In considering such questions, Congress should remember Santayana's warning about learning from history or being condemned to relive it. Contrary to the notion that we never have had a federal energy policy, the federal government has long played an active role in energy markets, reacting to real or perceived energy problems. The current policy is clear: discourage domestic production; encourage imports.

A look at the record is instructive.

The American Petroleum Institute (API) recently reviewed many past government initiatives. The record indicates that, with few exceptions, they were not very successful.

In fact, some were disastrous, and that was well understood at the time.

One of the government's earlier major energy policy initiatives occurred in 1954, when it imposed price controls on natural gas sold in interstate commerce.

With prices held at artificially low levels, the exploration for new gas was discouraged and consumers had an incentive to use more gas. As a consequence, by the early 1970s, shortages of gas—albeit artificial ones—developed, and winter supply curtailments became common, beginning in 1972-73 and continuing through the decade.

In fact, supply problems became so acute one winter, with closed schools and factories, that an aide to President Carter said that if natural gas policy couldn't be set right that year, it never would be. But, instead of removing price controls, Congress extended them to gas sold within state borders and created an even more complex and disruptive regulatory network. There was also a belief that controls on use were needed because domestic supplies of gas would be exhausted in a few decades.

Fears of gas shortages resulting from price controls, and other legislative initiatives encouraged use of less desirable fuels, such as coal, by many large, industrial customers.

Also, certain high-cost categories of gas were encouraged by the controls policy, driving up the price of gas and discouraging its use. As a result of this policy mix, supplies became plentiful, and a so-called natural gas "bubble" of ample supplies appeared.

During the 80s, the bubble persisted and price controls were phased out. Since the phase-out, supplies have been ample and prices have reached very low levels.

What did natural gas policy price controls accomplish? They provided a more than $100 billion subsidy to some favored consumers, who were able to buy it at suppressed prices, while wasting at least $22 billion through excess prices for foreign gas and inefficient uses—waste paid for by consumers throughout the economy.

Price controls were also placed on crude oil and petroleum products— initially as part of overall wage and price controls imposed in 1971. Although most price restrictions were lifted a few years later, controls remained on crude oil, gasoline and other petroleum products.

The controls kept the cost of U.S.

oil below world prices, stimulating consumption and discouraging domestic production. The growing gap between the two was filled by rapidly increasing oil imports. According to estimates at the time, U.S. oil consumption in 1980 was 1 million barrels a day higher than it would have been without price controls— and imports were 2.5 million barrels a day higher. The controls resulted in increased income for foreign oil exporting countries—at least $30 billion a year in the early 1980s, before being finally dropped in 1981.

The oil price controls had another effect as well. When disruptions occurred in foreign oil supplies as a consequence of the Arab oil embargo in 1973-74 and the Iranian revolution in 1979, the controls ensured that markets for oil products could not clear. Instead, the government imposed regulations that contrived to misdirect supplies, create gasoline lines and cause early service station closings, odd-even sales days and so forth.

The removal of controls in 1981 was strongly opposed by some in Congress who predicted that gasoline prices would soar to $2 a gallon.

Instead, they fell throughout the 1980s. In contrast, there were no price or allocation controls in effect in 1990 when Iraq invaded Kuwait and caused a temporary shortfall in world supplies about equal to the shortfall during the embargo 17 years earlier. The shortfall, predictably, caused gasoline pump prices to rise—by about 30 cents per gallon from the first of August to mid-October. By that time, producers and consumers had reacted: new supplies were brought on the market and motorists reduced their gasoline use. Subsequently, prices stabilized and declined. By March 1991, pump prices had fallen to preinvasion levels.

But price controls were not the only counterproductive federal policies.

A mandatory federal oil import program tried to restrict imported oil by holding imports to a fixed percentage of domestic production.

By the late 1960s, the program was raising the cost of oil to U.S. consumers by $5 billion to $6 billion a year—about 50 percent more than what it would have been if oil supplies had been permitted to be traded freely.

The government has not limited itself to supply and price considerations.

It has also tried—at great expense—to forecast the fuels of the future. Thus, the Synthetic Fuels Corporation was created in 1980 to foster development of commercial synthetic fuels as a way of protecting the nation from further oil supply and price disruption.

This program produced little in the way of alternative fuels and actually stifled sensible research and development by prematurely pushing into production existing, inefficient technologies. As oil prices began to fall in 1981, synthetic fuels became increasingly uncompetitive with conventional fuels, even when heavily subsidized by the government. But it wasn't until 1986 that Congress conceded the failure and terminated a program that had been authorized to spend up to $80 billion to develop economically uncompetitive energy.

What should these experiences suggest to policymakers today? The lesson is not that the government has no useful role to play in energy matters. It can have an important role in developing mechanisms to deal with crises by augmenting supplies at such times. Thus, for example, an appropriate policy is the Strategic Petroleum Reserves developed to maintain an emergency supply of oil to cushion the economy and provide national security in time of acute shortage of supply.

The impelling lesson of past experience is that free markets, with a minimum of regulation, are far better at meeting the nation's energy needs than government command and control. Markets send proper signals to consumers and producers alike, telling when it is time to use less and produce more, and vice versa. Market signals also encourage thorough analysis of the risks of doing business, identification of opportunities, sorting out of those that won't work, and encouragement of consumer-responsive choices—without costing taxpayers a dime.

Why should we expect government to be more successful today in selecting the most viable alternative fuel or the best type of car for American motorists in 2005 than it was in selecting the most viable synthetic fuels for the 1990s? All experience suggests not.

Winston Churchill said, "If we look back on our past life, we shall see that one of its most useful experiences is that we have been helped by our mistakes and injured by our most sagacious decisions." The history of U.S. energy policy reveals how true his observation was. In the last few years, nations have been rejecting centralized management of their economies in favor of reliance on market forces. The current debate over a National Energy Strategy will demonstrate whether Congress will do likewise.

Maritime Reporter Magazine, page 32, Apr 1992

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