I am sufficiently old — and then some, distressingly — to remember 1973. Among the prominent memories of that year were the large international price increases for oil, the long lines at gasoline stations, the handwritten “NO GAS” signs, the five- or 10-gallon purchase limits, the utterly silly license plate odd-even system for determining who would be allowed to get in line on a given day, the favoritism toward contractors, other small business types, and rural areas, the unofficial favoritism toward friends of the station owners, and on and on. Somewhat more hidden were the large misallocations of fuels and sheer waste caused by the metastasizing regulatory apparatus, as well as the other massive dislocations in U.S. energy markets.
Both then and to this day, the lines and distortions were blamed widely on the oil “embargo” imposed by the Arab members of OPEC on the United States, the Netherlands, and a few others: Those consuming nations supposedly were not allowed to buy oil from those producers.
However widely believed, that interpretation of the causes of the market dislocations is not correct. The three central oil-market events of 1973-74 were the large production cutback by OPEC, the embargo, and the imposition of price and allocation controls by the Nixon administration.
The production cutback yielded a quadrupling of international oil prices over the fall and winter of 1973-74. The embargo, imposed in the context of the 1973 Yom Kippur War, had no independent effect on the targeted economies because there can be only one world market price for crude oil. Market forces have powerful incentives to reallocate oil so that prices are equalized everywhere, with minor differences caused by differential transport costs, exchange rate fluctuations, and other such second-order parameters. From an analytic perspective, an embargo is an attempt to impose a higher price on some oil consumers than others, but that condition cannot be preserved given the market-driven reallocation process.
That is why the economies ostensibly “embargoed” in 1973, in reality, obtained all the oil that they were willing to buy at the (substantially higher) world market price, on the same terms as all other buyers (although the transport directions of the international oil trade changed because of the reallocation process). That is why nations such as the United Kingdom that import none of their oil face the same prices and price fluctuations as nations such as Japan that import all of their oil. It was the system of price and allocation controls, the bureaucratization of market processes, that created the gasoline lines and other market dislocations.
There was no embargo in 1979. However, there was a substantial production cut in the wake of the Iranian Revolution, resulting in sharp increases in international prices, and more gasoline lines and market chaos as the Carter administration enforced price and allocation controls yet again.
Accordingly, the usual Beltway assumption that “energy security” requires increased domestic oil production and fewer oil imports is fundamentally incorrect but has yielded very large distortions, only one example of which is the massively wasteful “alternative fuels” (e.g., ethanol) program. It is market forces that yield “security,” defined as the ability to obtain supplies at whatever market price prevails at a given moment.
Because international oil supply disruptions are frequent and not easily predictable, market incentives to stockpile supplies are powerful and represent an important dimension of energy “security” moderating sharp price fluctuations. But — can this surprise anyone? — the legacy of the 1970s lives on in the form of profiteering accusations, antitrust investigations and lawsuits, demands for “windfall profits” taxes, and other perverse policy proposals when prices rise sharply. Such policies reduce the expected returns to investments in emergency stockpiles, and so reduce energy “security.”
The Strategic Petroleum Reserve, a federal government stockpile, is often cited as a favorable substitute for private emergency supplies. That is not correct because the uses to which a government stockpile is aimed inexorably are politicized, while markets have incentives to allocate such supplies in ways that maximize the economic value of the oil. (Moreover, the mere existence of a government stockpile reduces incentives for private preparation.) The many historical drawdowns of the oil in the SPR without exception have been ad hoc, driven by the perceived immediate political needs of the respective administrations.
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The real reason that market forces ought to be encouraged to make efficient investments in the discovery, development, and production of fossil fuel resources is not the pursuit of “energy security.” It is instead the expansion of the national wealth of which fossil fuels are an important form. That increased national wealth historically has yielded huge benefits for mankind in the form of large improvements in life expectancies, living standards, environmental quality, and a host of other dimensions of human well-being.
Ideological efforts to suppress the expansion of fossil energy supplies will engender effects that are precisely the reverse. They are fundamentally anti-human.
Benjamin Zycher is a senior fellow at the American Enterprise Institute.
