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The Trouble with Oil

The problem isn't just supply and demand: It's that the internal political concerns of producing countries trump economics.

12:00 AM, Aug 24, 2004 • By IRWIN M. STELZER
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SO NOW WE KNOW. If the demand for oil grows at a surprising rate, and the supply is constrained, the price will rise. Add myriad threats of supply disruption, an infrastructure which has been starved for capital and environmental permits for a decade, and a producer cartel, and you get increases that are sharp and enduring. Anyone who missed that lesson in his elementary economics course will certainly have learned it from the business press in recent months.

Unfortunately, concentration on daily price movements diverts attention from the more threatening changes taking place in oil markets.

Most important is the realization by consuming countries that the internal political dynamics of their producer-suppliers trumps the needs of customers every time. Consider three of the world's largest producers, sitting on some 40 percent of the world's reserves: Russia, Saudi Arabia, and Venezuela.

Vladimir Putin is unconcerned about the price effects of his assault on Yukos, Russia's largest and most efficient producer. He feels it imperative to eliminate Yukos' principal shareholder, Mikhail Khodorkovsky, as a political rival, and to transfer Yukos' major production properties to a company controlled by his former KGB buddies. If that means oil prices rise and abort the U.S. recovery, too bad for President Bush. Not even calls from national security adviser Condoleezza Rice to Dmitry Medvedev, Putin's chief of staff, could persuade Putin to abandon his political assault on Yukos to help bring crude prices down.

Nor could pressure from his Chinese friends move the Russian president, who must enjoy being in a position to ignore the pleas of the world's greatest superpower and its potential challenger for that crown. Putin may no longer be able to send tanks rolling across Europe, but he is certainly able to make it very expensive for the world's motorists to send their vehicles rolling across their nations' highways.

The important thing to note is that the world's largest oil consumer (America) and the world's fastest growing importer of oil (China), although competing for supplies, now also realize that they have a shared stake in the stability of Middle East producers, and the secure movement of oil on the world's sea lanes. Politics may make strange bedfellows, but a thirst for black gold makes even stranger ones.

Then there is Saudi Arabia, no longer capable of controlling oil prices merely by issuing a press release about its production intentions. One expert on that country's politics and industry tells me that Saudi promises to step up output are worthless, since a significant portion of that country's "reserves" are "political barrels," nonexistent or at best undeveloped barrels reported to enhance Saudi prestige but not actually quickly extractable.

American defense and intelligence officials until recently assigned a 50:50 probability that the Saudi regime would survive for the next ten years. They are now quietly speaking in terms of a mere five years. Which means that there is an even chance that the kingdom's royal family soon will be calling for help to prevent a bin Laden-like takeover. China and America will find themselves with no choice but to join forces to protect the Saudi fields from a takeover that could result in a halt to production. So don't look for China to oppose steps America might feel necessary to keep Saudi oil moving onto world markets. Russia, untroubled by the disappearance of a major competitor from the supply side of the oil market, would be likely to oppose Sino-American intervention.

Then there is the effect tight oil supplies are having in America's backyard, South America. In this region, Venezuela is the key player. That nation's pro-Castro, anti-American president, Hugo Chávez, is now firmly in charge of the Western hemisphere's largest supply of oil, a supply only a six day tanker-trip from the United States (Saudi oil is six weeks away). Buoyed by his recent referendum victory, Chávez plans to divert supplies from the United States to the South American countries he is wooing.

As in Russia and Saudi Arabia, the internal political goals of Venezuela's leader override any desire to make life easier for the U.S. oil-fueled economy. Putin wants to stifle political opposition; the Saudi royal family fears it will be overthrown if it invites needed American capital into the country; and Chávez wants to foment an anti-American movement in South America.

Meanwhile, as these ominous signs accumulate, politicians fret, strut, and do nothing. President Bush has a multibillion dollar energy bill before Congress that at most would squeeze a relatively few drops of oil from the Arctic, perhaps a decade from now, and gives short shrift to any effort to increase the efficiency with which energy is used in America. Fortunately, Congress has so far refused to pass it, not out of any sudden spurt of parsimony, but because it wants still more goodies placed under this Christmas-tree of a bill.

John Kerry is proposing to denude American dinner tables of corn by converting the nation's crop to expensive methanol, along with somehow forcing consumers to pay for expensive solar power, and effectively foreclosing the nuclear option by opposing a bill he once supported that would create a storage site for nuclear waste in Nevada's Yucca mountain, a state with five up-for-grabs electoral votes. How this will allow Kerry to achieve his stated goal of "energy independence" remains a mystery to all serious observers of the energy scene.

Meanwhile, with America's refineries operating at a stretched 96 percent of capacity, environmentalists continue to oppose any significant expansion of the nation's creaking energy infrastructure, local groups continue to fight to prevent the construction of port facilities that would allow the needed increases in imports of liquefied natural gas (LNG), and voters remain unenthusiastic about a tax that might encourage them to use a bit less gasoline.

In sum, current high prices are the least of America's energy problems.

Irwin M. Stelzer is director of economic policy studies at the Hudson Institute, a columnist for the Sunday Times (London), a contributing editor to The Weekly Standard, and a contributing writer to The Daily Standard.