EDITORIAL: A look at oil dependency

Jan. 7, 2002
A useful policy-making exercise for the new year would be a fresh look at the concept of oil dependency. In the oil-consuming world, especially the US, fret over oil dependency is a ready and rich source of bad ideas.

A useful policy-making exercise for the new year would be a fresh look at the concept of oil dependency. In the oil-consuming world, especially the US, fret over oil dependency is a ready and rich source of bad ideas. In the oil-exporting world, fret over oil dependency doesn´t occur often enough.

Discussions about energy policy in the US routinely pivot on the supposed problem of oil dependency. Consumers worry about it when prices rise for gasoline and heating oil. Producers use it as a lever for their arguments. Antipetroleum activists invoke it on behalf of state intervention in energy markets.

Wrong issue

Most of the time, dependency is the wrong issue in the oil-consuming world. Worrying about the dependency of industrial countries on oil is akin to worrying about the dependency of people on food. Life beyond subsistence agriculture requires energy from sources other than people and animals. Economically sustainable systems of life require economically efficient forms of inanimate energy. It´s basic. People need to work in order to eat and energy in order to work, which makes them dependent on the most efficient forms of energy available. The problem is adequacy of supply, not the fact of need.

In debates over energy policy, excessive worry about oil dependency breeds the worst proposals: heavy subsidies for economically hopeless fuels, high taxes on the consumption of oil, forced conservation, and fuel selection by politicians and bureaucrats. All of them detract from efficiency of energy use. Furthermore, attempts to distinguish dependency on imported oil from dependency on oil never succeed. In the coarse logic of politics, if imported oil is a problem, the solution is to use less oil.

When markets are allowed to work, consuming-world problems associated with oil dependency solve themselves-often by proving never to have been problems in the first place.

For the world´s most important exporting countries, however, oil dependency is a festering disadvantage. Of course, the object of dependency in places like Saudi Arabia, the most important case in point, is not fuel supply but income from resource development.

The Saudi government relies on foreign oil sales for 80% of its revenue. Political pressures keep the kingdom from raising taxes on Saudi citizens or cutting spending more aggressively than it has done in recent years. Price targets and production decisions therefore derive from the national budget, where revenue needs grow over time.

The Centre for Global Energy Studies, London, recently studied the Saudi budget for 2002 in search of clues about price and production needs. The budget yields a $12 billion deficit on the heels of a $6.7 billion deficit in 2001. To generate target revenue against that standard requires an OPEC basket price of $16-20/bbl and Saudi production of 7.1-8.5 million b/d, CGES reports in the November-December 2001 edition of its Global Oil Report. To balance the Saudi budget this year within the same output range would require an average price of $21-26/bbl.

The floor of the deficit-budget price range exceeds the hurdle price most commercial producers use for investment decisions, which has fallen because of technical and other types of innovation to $15/bbl or less. And the price range at which the kingdom could balance its accounts would stimulate exploration and development, which would intensify competition for Saudi Arabia and other members of the Organization of Petroleum Exporting Countries.

The budgetary appetite for oil revenue makes almost irrelevant Saudi Arabia´s notoriously low production costs. Fiscal oil dependency thus has cost the kingdom much of its natural competitive advantage. To varying degrees, the same can be said for other exporters with national budgets funded mainly by oil sales.

Price prop

That the Saudi and other governments in similar straits recognize the problem is evident in their efforts to diversify sources of foreign revenue. Success will enable them to reclaim the competitive power of low operating costs. When that happens, a prop will have been removed from beneath the price of crude. But it will not happen quickly.

While the Saudis and other exporters struggle to fund national operations with oil sales, consuming nations can only hurt themselves by treating their own form of oil dependency as a crisis warranting economic compromise.