PIRINC WARNS AGAINST SPR IMPORTS SETASIDE

Petroleum Industry Research Foundation (Pirinc) warns against proposals to set aside a percentage of U.S. oil imports to fill the Strategic Petroleum Reserve. Since the U.S. budget cannot afford multibillion dollar outlays to fill the SPR, the foundation said, leasing crude from foreign producers for storage in the SPR is the next best option. Sen. Bennett Johnston (D-La.) and Malcolm Wallop (R-Wyo.) have proposed requiring oil importers to give about 9% of their crude and products imports to

May 13, 1991

5 min read

Petroleum Industry Research Foundation (Pirinc) warns against proposals to set aside a percentage of U.S. oil imports to fill the Strategic Petroleum Reserve.

Since the U.S. budget cannot afford multibillion dollar outlays to fill the SPR, the foundation said, leasing crude from foreign producers for storage in the SPR is the next best option.

Sen. Bennett Johnston (D-La.) and Malcolm Wallop (R-Wyo.) have proposed requiring oil importers to give about 9% of their crude and products imports to the SPR or the Defense Department.

And Rep. Phil Sharp (D-Ind.) has filed a bill requiring oil importers to put 3% of their imports in the SPR, but they would continue to own the oil and would receive the revenues if and when the crude were sold.

FLAWS SEEN

The foundation says either plan amounts to am oil import fee, which would have a high cost to the economy, although a lower direct cost to the federal budget than some other alternatives.

In a recent study, Pirinc said the recent drawdowns of SPR oil in response to the Iraq-Kuwait conflict proved the importance of the reserve and the need to expand it to the 1 billion bbl target.

It criticized the Johnston-Wallop proposal, saying it is inappropriate to single out oil consumers to bear SPR costs as well as Defense Department needs.

"The benefits of both items accrue economy wide, not just to oil users. In particular, asking petroleum consumers to pay for Defense Department supplies cannot be justified on any logical grounds. Military oil consumption and oil consumption in other sectors are unrelated. This is a ,user fee' where the universe of users has been badly misidentified."

The study noted the 9% volume surcharge on importers would mean a 9% price increase for U.S. oil, helping or hurting U.S. oil companies on the basis of how much domestic oil vs. foreign oil they use.

"The fee-induced price increase will cause a negative ripple effect across the economy. Numerous studies on import fees have demonstrated that there are considerable economic costs: lower disposable income, lower employment, lower GNP, and reduced government tax revenue, for instance."

It said the relatively low level of the fees would not have catastrophic effects on the economy, "But benefits also pale at low fee levels. Increased domestic production due to the higher price will not be material."

LEASING NEED

Pirinc said, "The time may be ripe for consummating a leasing arrangement with one or more producing countries because the Persian Gulf conflict has underlined a commonality of interest between some producers in the region, especially Saudi Arabia of course, and consuming nations.

"The economic well being of the two are undeniably interdependent, just as it would be intertwined with any important trading partners. The relatively modest step of cooperating on oil fill for the SPR benefits both parties."

The study said the U.S. should continue to buy oil for the SPR directly until a leasing arrangement with a producing country could be arranged.

It said leasing would put significantly higher volumes of oil in SPR storage and under the government's control but some questions remain: What would happen to the oil at the end of the lease term, what would happen if the oil is drawn down, and how to treat the lessor's revenues for U.S. tax purposes.

"The cost structure for the leasing agreement is the critical question. The ceiling for government payments for leased oil is generally perceived as its alternative cost: borrowing money at the Treasury rate for the outright purchase of SPR supplies.

LEASING APPROACHES

"The floor for producing country revenues from a leasing arrangement is the rate of return on the cost of production ... the negotiating room is thus the cost of money on, say, $18/bbl (purchase) vs. the cost of money on, say, $2/bbl production cost (lease).

"Some additional one time costs incurred in shipping oil the SPR--transportation and handling--would also have to be covered. The Energy Department estimated these costs at roughly $1.25/bbl, rising to $2.50/bbl over the next decade."

The study said acceptable lease revenue for the producing country will depend on its expectations of future prices, terms of repayment in the event of SPR drawdown, terms for oil return in event of expiration and nonrenewal of the lease, and its motivations for storing oil.

"Saudi Arabia, for instance, already stores significant volumes, for which it produces, pays transportation, storage, and carrying charges. If the Saudis decided to reduce their stocks held abroad in tankers and in the Caribbean and elsewhere, using some of these supplies for SPR fill could benefit both nations.

"The oil could provide a quick increment for SPR fill, a help to the U.S. For the Saudis, they would no longer incur the carrying charges for having it available. Moving from storage to the SPR, it would remain outside commercial channels and the Organization of Petroleum Exporting Countries' quota, thus minimizing the market impact of destocking. Furthermore, Saudi production could remain higher, since market needs would be met only from new supplies, not from stocks.

"The need for SPR oil coincides with the growing excess capacity in producing countries. Some of these countries have stated their policy of maintaining a capacity margin, but their investments, with their planned idleness, do not earn a return. The leasing option thus may provide a benefit to both sides: the U.S. gets the oil and the producing country utilizes an idle asset."