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By Andrew Holland on Feb 27, 2012 with 5 responses

An Oil Bank for Gas Price Stability?

Rising Gas Prices Prompt Calls For Release of Oil From SPR

Rising gas prices are back in the news again. Oil has gone back above $100 a barrel, and gasoline prices are about to push through the $4 a gallon price. This has led to President Obama sparring with Republican Congressional leaders and his potential opponents. It has also led to Congressional Democrats asking for a release of oil from the Strategic Petroleum Reserve (SPR) in an effort to dodge this issue any way they can. Fellow columnist, Robert Rapier, has often criticized the usage of the SPR as a political tool in an effort to lower gas prices.

Don’t count me as one who thinks that, if only we allowed drilling anywhere, we would suddenly have $2.00/gallon gas. I sat through Newt’s 30 minute speech on energy policy, and it drives me crazy that people actually expect that simply pushing more domestic drilling will fix the problem. I went on the record as supporting Jon Huntsman’s energy policy because it lived in the real world and acknowledged that there were no quick fixes.

Oil prices are a factor of global supply and demand, both currently, and in the future. Prices are being pushed up by increased demand for oil from developing countries, combined with prospects of renewed conflict in the Persian Gulf. I would suggest reading Dr. James Hamilton’s Econbrowser “Crude Oil and Gasoline Prices: Betting on Iranian Tensions” post about what’s driving prices.

How to Mitigate Against High Oil Prices

Ultimately, I actually don’t think that low gas prices should be the goal. Over the long term, low gas prices in America encouraged an auto-dependent lifestyle. And now, with oil prices going through the roof, American consumers are left without other options; they simply must drive, and our deliveries must be trucked across county. This acts as a drag on the economy. President Bush was correct when he said that “America is addicted to oil.” And that addiction has harmed us – but there’s no easy solution.

Increased efficiency of cars is important, as is encouraging alternative forms of transportation like mass transit. Those are ways to reduce our exposure to gasoline price spikes. But, the price of gasoline will remain very important to the economic well-being of the country for a long time, and we need a way to manage those prices better: I’m a free-marketeer, but the market is not delivering a stable, predictable price for oil.

Thought Experiment: A National Oil Bank

So how can we fix that market failure? The talk about releasing reserves from the Strategic Petroleum Reserves planted an idea: what about a national ‘oil bank’. This would function somewhat like the Federal Reserve does for money supply. The Fed’s duel mission is full employment and price stability, and it uses its control over the money supply to achieve these aims. The Oil Bank would have a similar mission.

The Fed was made independent of Congress because politicians are always going to want expansionary monetary policy, even though that’s not in our long-term best interest. Similarly, politicians always have to push for low gasoline prices, even though that is not in our our long-term best interest. So, the Oil Bank would have to be independent of political pressure, like the Fed. The Oil Bank’s board would track national oil and gasoline prices and buy oil when prices are low, and sell when prices are high (though I must admit, easier said than done).

With a dual mission to promote ‘gas price stability’ and economic growth, the bank would buy oil and put it in reserve when the price is low, and sell it when the price is high. This would dampen speculation in the market, because the board would smooth the wild price gyrations that Hedge Funds make so much money off. It would also act as a counterbalance to OPEC; giving the U.S. real negotiating power in global oil markets.

So – that’s my solution. I think it’s fairly novel: I have not read anyone else proposing it. Now, maybe that’s because it’s a dumb idea, but I think it could work. Does anyone else think this is workable?

  1. By Risk_Transfer on February 27, 2012 at 3:12 pm

    That is certainly a worthwhile thought experiment, and no thought experiment should be viewed as “dumb,” even if it proves your initial position false, unworkable, etc.
    To start, you would need to ballpark the purchasing power and volumes necessary to achieve the desired outcome (smoothing out volatility, not necessarily keeping prices down).  One would have to look at how much oil the US consumes and imports (IIRC, ~18 million bpd and 9 million bpd, respectively).  Then you would have to take into account how much oil is available to purchase/reserve in the Oil Bank.  Of the 70-80 million bpd produced worldwide, only a fraction is available as net exports, so let’s say only 5 million bpd are available (from various sources).  The Oil Bank would have to shop around each source and be the highest bidder just to secure the oil. 
    Given disruptions like the Japan earthquake, which triggered a sharp increase in oil imports to Japan or the Libyan violence, which took over 1 million bpd production offline for months, I would expect the Oil Bank would need to have in its reserves 100s of millions of barrels of oil just to stave off a single crisis. 

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    • By Andrew Holland on February 27, 2012 at 5:37 pm

      Risk: Thanks - 
      If the bank had the full-faith and credit of the US government, I’m pretty sure that it would be able to secure oil – as the SPR has been able to fill up to about 800 million barrels of oil over time. Those existing reserves seem to be just sitting there – and they are probably enough to move markets. It seems like a bank wouldn’t just start up new, it would have to be a repurposing of the SPR.

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  2. By Robert Rapier on February 27, 2012 at 4:27 pm

    The Oil Bank’s board would track national oil and gasoline prices and buy oil when prices are low, and sell when prices are high (though I must admit, easier said than done).


    I think there’s the rub. What is high and what is low? Are oil prices today low or high? We think they are high and $50 oil is low. A few years ago $50 oil was high. A year from now, $100 oil may be low. 

    Further, you are going to have people with very different views influencing the outcome. Some will argue that we are in an era of permanently rising oil prices, and others will argue that we are in a speculative bubble. Whoever wins that argument may be grossly incorrect in the end, and they may influence the bank to make a disastrous investment decision.

    RR
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    • By Andrew Holland on February 27, 2012 at 5:44 pm

      Robert- you’re absolutely right, of course. But, that’s why you have an independent board of experts, not specific rules. 
      You could just as easily be talking about monetary policy. e.g. What is the right amount of money supply in the economy? Are these low interest rates fueling a bubble, or are they needed to prop-up our economy? A discount rate of 14% was appropriate in the early 1980s, but a rate of just about 0% is appropriate right now. 
      The repeated monetary crises of the 1800s, like runs on the banks and financial panics, led to the creation of the Federal Reserve in 1913. Could constantly repeated oil price spikes and crises lead to a similar response?
      I think the free market has failed to provide a stable price for oil, and maybe its time to get something that would regulate that price…

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  3. By Douglas Hvistendahl on February 27, 2012 at 5:55 pm

    Um, hate to bust any idea, but how about storage? Also, if dealing in oil, could oil companies just adjust their well pumping rate according to the inflation adjusted price? Come to think of it, isn’t something like that called price sensitivity, only with drilling rates? Don’t think our domestic drilling and pumping rates are keeping up with our demand. Higher inflation adjusted prices may change that.

    BTW, read that someone in a power blackout bought an inverter, hitched it up to the 12 volt battery of their hybrid car, and plugged the result into their house until the blackout was over, several days later. The high voltage battery recharged the 12 volt one as needed, the engine would turn on and recharge the high voltage one as needed. Can’t tell if this is reality, but it sounds like a nice idea if it will work. Hope they turned off the switch at the top of the load box – power company people dislike unexpected shocks when they are working on a power line. Come to think of it, if they didn’t, it would likely have overloaded the inverter! Can anyone vouch for this one?

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