Editorial:Embargos and instability

April 22, 2002
The future of oil-supply security is manifest in present tumult. Embargo threats thunder around violence in Israel, lift prices of crude oil, and come to little. Political upheaval paralyzes Venezuela, meanwhile, and exports of crude oil and petroleum products cease.

The future of oil-supply security is manifest in present tumult. Embargo threats thunder around violence in Israel, lift prices of crude oil, and come to little. Political upheaval paralyzes Venezuela, meanwhile, and exports of crude oil and petroleum products cease.

So it has gone in modern history. Disruptions to oil supply happen, almost always due to war, rebellion, or natural disaster. Oil importers and traders, however, tend to focus on politically motivated curtailment of oil sales, which hasn't happened since the Arab embargo of 1973-74, as the market's prominent hazard.

Embargo unlikely

For two simple reasons, a repeat of the Arab embargo is in fact unlikely. An embargo would hurt the perpetrators more than it would the intended victims. And it would fail.

The world's most important oil exporters need oil revenue to sustain national infrastructures, defense systems, and in many cases populations much larger than they were in the early 1970s. To affect the modern oil market at all, they would have to cut off all exports, not just refuse sales to targeted buyers. To exporters, a politically motivated embargo amounts to a hunger strike. Only exporters with nothing to lose can find much appeal in the tactic.

Futility magnifies the dissuasion. There's more oil in trade from more sources than there was in 1973. And the trade itself is more flexible. Consuming nations hold strategic reserves that didn't exist in the early 1970s. And a price rise resulting from an embargo would stimulate production not under sponsors' control. An embargo would be uncomfortable for major consumers but not devastating. For embargo sponsors, refusing to sell oil would be economically-and therefore politically -suicidal.

The major exporters know all this. That's why they instantly rejected Iraqi President Saddam Hussein's nothing-to-lose call for an embargo by Arab and Muslim exporters against supporters of Israel. The anxiety he generated in the market, institutionally mindful as it is of 1973-74, wasn't warranted.

Oil supplies nevertheless remain subject to interruption. Iran's Islamic revolution shorted oil supplies in 1978-79. Iraq's invasion of Kuwait shorted oil supplies in 1990. Venezuela's bloody rebellion shorted oil supplies this month.

Unlike an embargo, recurrence of the Venezuelan type of supply jolt is all but certain. It's the threat for which industry planners and consuming-nation policy-makers should prepare. Wars, upheavals, and natural disasters are more likely nowadays than are politically motivated, self-sacrificial refusal by exporters to sell oil.

Surprise makes preparing for this type of supply interruption difficult, of course. But there's a feature of Venezuela's experience that's common to most such disruptions and likely to gain influence in the future.

Venezuelans at the end of 1998 elected a mercurial president who promised to help the poor then wrecked his country's commercial integrity. Discontent became a short-lived but deadly rebellion on Apr. 12. President Hugo Chávez was out of office-or just away from it-less than 2 days. Venezuelan oil operations, idled by strikes beginning Apr. 9, were resuming last week.

The central feature of Venezuela's turbulence was instability rooted deeply in economics. In an economy that vacillates with the price of oil, real incomes have declined for most of the past 2 decades. By the Venezuelan standard of poverty-income below $700/month for a family of four-almost 80% of the population is poor. Hence Chávez's election. Hence his endurance despite his mishandling of Venezuela's economy.

Disruption likely

Even a rogue like Chávez knows that a country dependent on oil revenue must sell oil. But a supply disruption will happen again-if not in Venezuela then elsewhere, possibly in another oil exporter, possibly in more than one at a time, possibly in the Middle East. The world suffers no shortage of instability. And instability can only grow along with global population unless economies improve where the growth will be fastest: in countries now the poorest.

Disruptions to oil supply are much more likely to result from political instability related to economic desperation than they are from embargos undertaken to influence international affairs. Planners and policy-makers worried about security of oil supply should focus on instability and its causes. Future oil supply problems will look more like Venezuela of 2002 than Arabia of 1973.