GAO recommends spending limits for SPR fill

Oct. 5, 2006
The US Department of Energy could have saved about $590 million from late 2001 through 2005 if it had used a steady dollar value of crude oil over time to assure that more purchases were made for the Strategic Petroleum Reserve when prices were low, the Government Accountability Office says.

Nick Snow
Washington Correspondent

WASHINGTON, DC, Oct. 5 -- The US Department of Energy could have saved about $590 million from late 2001 through 2005 if it had used a steady dollar value of crude oil over time to assure that more purchases were made for the Strategic Petroleum Reserve when prices were low, the Government Accountability Office says.

Using this approach, DOE would buy crude for the reserve using a preset target based on expenditures instead of volume. This could take advantage of market fluctuations because a preset dollar amount would buy more oil when prices fell and less when they climbed, GAO concluded in a report it released Oct. 3.

"Simulations we performed of this approach under various potential oil market conditions, including scenarios of rising and falling prices and periods of larger and smaller price volatility, showed that this approach would likely save money in the future as well," it indicated.

DOE currently buys crude for the SPR at a steady pace, which was adopted soon after Congress voted to establish the reserve and begin filling it. The approach places greater emphasis on economic and strategic security than price.

Some of the experts from the oil industry and academia who were assembled by the congressional watchdog also suggested that DOE let producers delay deliveries to the SPR when supplies were tight by providing additional crude for the reserve later.

GAO said that the experts questioned some past presidential decisions about when to use the reserve but generally supported providing broad discretion in reaching those decisions.

The report also concluded that a larger SPR would be needed to maintain the current level of protection if domestic oil demand increases as expected. It cited US Energy Information Administration projections of about 12% higher demand for oil products by 2015 and 24% more demand by 2025 compared with 2005's average.

Under those projections, GAO said, DOE estimates that the US would drop below its stock-building obligations to the International Energy Agency by 2025. Another study prepared in 2005 found that the benefits of expanding the reserve to 1.5 billion bbl outweighed the cost over a range of conditions, GAO said.

Factors could change
Factors that influence the SPR's ideal size could change, it added. "For example, although projections show increasing oil demand in the United States and [the] world, the level of oil demand depends on many factors including rates of economic growth, the price of oil, future policy choices related to increasing conservation and availability of alternative energy sources, and technology changes," GAO said.

"As the world oil market changes, periodic reassessments of the appropriate size of the SPR could be helpful as part of the nation's long-term energy security planning," it said.

GAO also recommended that DOE buy heavier crudes to make oil stored in the strategic reserve more closely matched to what US refineries process under normal supply conditions. It said 3.5 million bbl, about 40% of the 8.3 million b/d of non-Canadian oil imported into the US in 2004, was heavy oil.

"Refineries that process heavy oil may have difficult operating at capacity if their supply of heavy oil is disrupted," it said.

A December 2005 DOE report identified 74 refineries connected to the SPR that receive non-Canadian oil imports. The report found that the types of oil currently stored in the reserve would not be fully compatible with 36 of those refineries, or slightly less than 50%, GAO said.

If these refineries had to use SPR oil, US refining throughput would decrease by 750,000 b/d, or about 5%, with substantial drops in distillate production from refineries processing heavy oil, according to DOE estimations.

GAO said DOE's 2005 report recommended having about 10% heavy oil in the reserve to keep the supply compatible with the current refining lineup. But a larger amount might be better, GAO said, because heavy oil is less costly and refiners who process it say they would not be able to maintain normal gasoline production levels if they used only SPR oil.

DOE's responses
Responding to the report, DOE said it agreed with most of the recommendations but noted that the SPR's history "is replete with changes in priorities that led to either acceleration or deceleration of the fill program."

DOE said that in accordance with both federal law and good management, it always favors minimizing oil acquisition costs but cannot always delay or defer purchases for this reason.

For instance, during 2002-04 several domestic producers that send oil into the SPR under the Department of Interior's royalty-in-kind program were willing to defer deliveries because of spot and future market prices. DOE said that its fossil energy office was focused on security concerns at that point and did not generally agree to deferrals.

"In the current market, futures prices are generally higher than spot prices and consequently companies are not eager to defer deliveries, and there is no opportunity for the department to significantly reduce acquisition costs," it added.

DOE also questioned GAO's estimate of $590 million in potential savings from 2001 through 2005 using dollar-cost averaging because all oil acquired for the reserve during this period was under DOI's royalty-in-kind program and involved no cash purchases.

Although DOE said it agrees that some SPR oil should be heavier than what is currently stored, it does not want to set a specific goal or replace any of the current inventories. Instead, as the reserve expands it would prefer including a third quality stream in addition to the sweet and sour streams it already has because that would be more economical and efficient.

GAO conducted its review at the request of Sen. Susan M. Collins (R-Me.), chairwoman of the Homeland Security and Government Affairs Committee, and Carl Levin (D-Mich.), ranking minority member of the committee's permanent subcommittee on investigations.

The review aimed to answer three questions:

-- Based on past experience, what factors do experts believe should be considered in filling and using the strategic reserve?

-- To what extent can the SPR protect the US economy from damage during oil supply disruptions?

-- Under what circumstances would a larger SPR be warranted?

GAO said it has convened experts from the oil industry and academia, in conjunction with the National Academy of Sciences, to examine the questions. It also reviewed records and reports from DOE and the IEA and interviewed officials from those agencies and other oil industry experts.

Contact Nick Snow at [email protected].