Archaic US Trade Policies Inflate Gas Prices, Enrich Cronies

Cross-posted on Cato's blog:

The summer driving season is still weeks away, but rising U.S. gas prices are already back in the news.  Last week, the average price for regular gasoline at U.S. gas stations hit $3.6918 a gallon – the highest since March 22, 2013 and up 43 cents this year.  Much of this price depends on global supply and demand, but certainly not all of it.  In fact, two archaic, little-known U.S. policies – vigorously defended by the well-connected interest groups who benefit from them – restrict free trade in petroleum products and, as a result, force American consumers to pay considerably more at the pump.

First, the Jones Act - a 94-year-old law that requires all domestic seaborne trade to be shipped on U.S.-crewed, -owned, flagged and manufactured vessels – prevents cost-effective intrastate shipping of crude oil or refined products.  According to Bloomberg, there are only 13 ships that can legally move oil between U.S. ports, and these ships are “booked solid.”  As a result, abundant oil supplies in the Gulf Coast region cannot be shipped to other U.S. states with spare refinery capacity.  And, even when such vessels are available, the Jones Act makes intrastate crude shipping artificially expensive.  According to a 2012 report by the Financial Times, shipping U.S. crude from Texas to Philadelphia cost more than three times as much as shipping the same product on a foreign-flagged vessel to a Canadian refinery, even though the latter route is longer.

It doesn’t take an energy economist to see how the Jones Act’s byzantine protectionism leads to higher prices at the pump for American drivers.  According to one recent estimate, revoking the Jones Act would reduce U.S. gasoline prices by as much as 15 cents per gallon “by increasing the supply of ships able to shuttle the fuel between U.S. ports.”

Some of these costs could potentially be mitigated if it weren’t for the second U.S. trade policy inflating gas prices: restrictions on crude oil exports.  As I wrote for Cato last year, current U.S. law – implemented in the 1970s during a bygone era of energy scarcity and dependence – effectively bans the exportation of U.S. crude oil to any country other than Canada.  Because U.S. and Canadian refinery capacity is finite, America’s newfound energy abundance has led to a glut of domestic oil and caused domestic crude oil prices (West Texas Intermediate and Louisiana Light Sweet) to drop well below their global (Brent) counterpart.  One might think that this price divergence would mean lower U.S. gas prices, but such thinking fails to understand that U.S. gasoline exports may be freely exported, and that gasoline prices are set on global markets based on Brent crude prices.  As a result, several recent analyses – including ones by Citigroup [$], Resources for the Future and the American Petroleum Institute - have found that liberalization of U.S. crude oil exports would lower, not raise, gas prices by as much as 7 cents per gallon.

Thus, the Jones Act and the crude oil export ban – each implemented decades ago – together inflate U.S. gasoline prices by as much as 0.22 per gallon – or about 6% of the current price at your local gas station.  Not everyone in the United States, however, is harmed.  In the case of the Jones Act, the American shipping unions and shipbuilders that benefit from the law have long opposed any type of reforms, regardless of the pains imposed on the American economy and U.S. consumers.  The crude oil export restrictions, on the other hand, have found new support from a small group of U.S. refiners who profit handsomely from depressed domestic crude prices and the lack of any legal limits on their exports.  As is always the case with protectionism, these groups win and U.S. consumers lose.

Given this political dynamic, reform of either law appears unlikely in the near future, regardless of how dramatically the U.S. trade and energy landscape has changed since the laws were imposed.  So the next time you fill up the tank, note that about 6 percent of your bill pads the bottom lines of a few well-connected cronies.

Oil & Gas Exports Event: Video and Materials (and Two Important Updates)

If you weren't lucky enough to hear me, Mark Perry and Jim Bacchus opine on the "shale revolution" and the myriad problems with current US policy on oil and gas exports, you're in luck: Cato just posted the video, which is also imbedded below.



If you'd like a closer look at Mark's or my presentation, you can download them here and here, respectively.  They remain up to date, except for two big developments that warrant mention:

• First, a few minutes after the Cato event ended, Senator Ted Cruz announced a comprehensive energy plan, one of the core planks of which is the liberalzation of both crude oil and natural gas exports.  (Boy, we were effective!)  Cruz also will be sponsoring formal legislation to implement the plan in the coming days.  Shortly thereafter, Senator Rand Paul stated his opposition to the current export restrictions.  Thus, there now is a more robust reform proposal on the table in Congress and, soon, legislation along those lines.  This is a far more ambitious approach than any before it, including that hinted by Senator Murkowski last month. Thus, it seems like Congress may be catching up to the rest of the policy and business world far more quickly than we imagined just a few short weeks ago.  Giddyup.

• Second, the non-partisan outfit Resources for the Future published an extensive new study which, echoing previous studies, finds that eliminating the current restrictions on US crude oil exports would lower - yes lower - domestic gasoline prices.  Here's the money line: "Given our projections for the change in crude oil prices and increased efficiency in refinery operations [caused by lifting the crude oil restrictions], we estimate US gasoline prices would be reduced by 2.8 to 6.9 cents per gallon."  This, of course, makes perfect sense if you understand domestic and global oil markets, current US policy (which permits unlimited exports of refined petroleum products), and, well, basic economics. (See my Cato presentation for more.)

More to come, I'm sure.

New Podcast re: License to Drill

The good folks at Coffee & Markets had me back on today to discuss my new Cato Institute paper on natural gas and crude oil export restrictions.  The podcast is available for listening or downloading here.  Enjoy!

Speaking of Distortions...

In my new Cato paper, I discuss the distortions and economic loss caused by current US export restrictions on natural gas and crude oil - one of the big reasons why fundamental reform of our export licensing systems is desperately needed.  Most of the current policy debate has focused on the natural gas market, but the economic distortions are just as prevalent for crude oil.  Case in point: this new Bloomberg article (emphasis mine):

A glut of shale oil in fields from Texas to North Dakota is forcing producers to find ways around the U.S.’s three-decade-old ban on crude exports in order to seek higher prices in foreign markets.

Kinder Morgan Energy Partners LP (KMP) is among companies setting up mini-refineries to process certain grades of crude just enough to qualify them as refined fuels, which are legal to export.

The industry’s best hope is ultra-light oil, which is so abundant in shale rock that it has flooded the Gulf Coast and traded for a record discount to global benchmark Brent crude last quarter. Potential revenue for exports is $40 billion a year based on global prices, or about $9.7 billion more than what the same oil fetches in the U.S....

Because there are not enough buyers where it’s pumped, the easy-to-refine crude has become the vanguard of an effort by the oil industry to get Congress to further weaken U.S. limits on most crude oil and natural gas exports that have been in place since the early 20th century....

Valero Energy Corp. (VLO), Kinder Morgan and Marathon Petroleum Corp. (MPC) are spending $850 million to build mini-refineries or upgrade existing plants to process the ultra-light crude. The soonest to come online is Kinder’s, set for the first quarter of 2014.

The plants will do little more than heat oil and condensate to a boiling point and distill them into separate fluids. Prices for condensate average about $4.57 less per barrel than heavier U.S. crude, crimping producer profits by as much as $1.7 billion a year, according to calculations based on RBN Energy data....

The units, called splitters, may be able to process as much as 300,000 barrels of crude a day, Luaces said. The mini- refineries being built “split” the condensate into naphtha, a feedstock for making plastic and other chemicals, and kerosene, which can be exported to markets in Asia and Latin America, he said.

Those chemically simpler products may not fetch as much as finished gasoline or diesel fuel, but the lower cost of running the splitter makes it attractive to sell them on international markets, said Judith Dwarkin, chief economist at ITG Investment Research Inc. in Calgary.

“It’s a cheap way around the export limitation,” Dwarkin said in an interview.

There are no limits on refined products. U.S. fuel exports reached an all-time high last year of an average 2.6 million barrels a day, according to Energy Department data. U.S. fuel imports from OPEC have fallen 37 percent, and the country’s petroleum deficit, the difference between the cost of its hydrocarbon imports and exports, fell to $18.7 billion, the lowest since 2004, according to data compiled by Bloomberg.

“Some molecules are painted with a no export sign,” said Braziel, of RBN. “Other molecules are painted with the OK to export sign, and there doesn’t seem to be any rhyme or reason as to why some molecules are OK and some aren’t.”

So because of US crude oil export restrictions, domestic oil producers are spending billions of dollars to construct mini-refineries that produce a slightly-refined product that may be freely exported but sells at a discount to crude on the international market.  Meanwhile, simply getting the US government out of the way and permitting unlimited crude oil exports would generate $40 billion per year for US energy producers and their workers.

That seems... inefficient.

So isn't it time we established some rhyme and reason to the system?

Permitting Oil and Gas Exports Is a No-Brainer

The following entry was cross-posted at the Cato Institute's blog, Cato at Liberty:

Following today’s deadline for interested party comments, the U.S. Department of Energy will begin to consider sixteen pending applications to export natural gas to countries like Japan with whom the United States does not have a free trade agreement.  The issue is a contentious one: energy producers, many other U.S. companies and a large, bipartisan swath of Congress have urged DOE to approve all export license applications, but opposition has materialized among certain domestic consuming industries and environmental groups.  As a result, the Obama administration has delayed consideration of all but one application, and is expected to eventually permit a portion of the remaining exports in an attempt to placate both sides of the debate.

As I explain in a new Cato Institute paper, however, such a Solomonic decision might achieve the administration’s political objectives but will do nothing to fix the fundamental problems raised by U.S. export regulations for natural gas or similar rules for crude oil.  These exports continue to be governed by licensing systems adopted when the United States was a net energy importer and dependent on fossil fuels for energy production – a picture far different from the production, price, and trade realities that exist today due to revolutionary fossil fuel extraction technologies like hydraulic fracturing (“fracking”) and horizontal drilling.  In fact, domestic production of crude oil and natural gas has skyrocketed in recent years, driving down prices, boosting downstream industries, creating ample export opportunities and potentially reversing the United States’ historic position as a net energy importer.  However, our gas and oil export licensing systems – respectively governed by the Natural Gas Act of 1937 and the Energy Policy and Conservation Act of 1975 – continue to treat fossil fuel exports as a rarity and subject them to a long, opaque approval process under which the federal government retains ample discretion to approve or deny most export license applications.

Perhaps unsurprisingly, these outdated systems, and the restrictions they impose on U.S. exports, create a host of problems:

• First, by depressing domestic prices and subjecting export approval to the whims of government bureaucrats, the U.S. licensing systems retard domestic energy production, discourage investment in the oil and gas sectors, and destabilize the domestic energy market. Artificially low prices prevent producers from achieving a sustainable rate of return on the massive up-front costs required to drill and extract oil and gas, and investors lack any assurances under the discretionary licensing systems that domestic prices will not collapse when output increases.  Such concerns have led the IEA to recently warn that U.S. export restrictions put the “American oil boom” at risk.  And contrary to certain politicians’ claims, independent reports show that the exportation of oil and gas would not cause a traumatic spike in prices, thus enabling consumers to continue to benefit from hypercompetitive U.S. fuel and feedstock supplies.

• Second, restricting U.S. gas and oil exports could hurt the U.S. economy. Recent studies indicate that these exports - even in unlimited quantities - would not only benefit U.S. energy producers, but also increase real household income.

• Third, both export licensing systems raise serious concerns under global trade rules.  The General Agreement on Tariffs and Trade (GATT) prohibits WTO Members from imposing export restrictions implemented via slow or discretionary licensing systems like those at issue here.  Moreover, several nations, including the United States, impose anti-subsidy measures (called “countervailing duties” or “CVDs”) on downstream exports (e.g., steel) due to export restrictions on their upstream inputs (e.g., iron). Thus, the crude oil and natural gas licensing systems could lead to anti-subsidy duties on energy-intensive U.S. exports that negate the very price advantages created by the licensing systems – a heightened risk, given that American exporters are increasingly targeted by foreign CVD actions.

• Fourth, current policy contradicts several other Obama administration priorities.  Most obviously, restricting oil and gas exports undermines the president’s National Export Initiative and stands in stark contrast to his full-throated advocacy of other energy exports, particularly renewables like biofuels and solar panels. Moreover, the use of export restrictions to benefit downstream industries contradicts longstanding U.S. policy of using countervailing duties to discourage foreign imports that unfairly benefit from export restrictions on upstream inputs.  Finally, the U.S. government has long opposed restrictive and opaque export licensing systems in WTO negotiations and dispute settlement.  The current U.S. export licensing regulations for oil and gas contradict these positions and undermine multilateral efforts to rein in such restrictions.

If President Obama really wants to develop America’s vast energy resources, grow the U.S. economy, restore some coherence to U.S. trade and energy policy, and avoid potentially embarrassing trade conflicts, he should order DOE to immediately approve all, not just some, of the pending license applications for natural gas and crude oil.  He then should pursue, with Congress, an overhaul of our archaic licensing systems so that they reflect the new American energy landscape and the United States’ position as a global export power.  Such reforms would bolster investment, production, and employment in the oil and gas sector, stabilize the U.S. energy market and benefit the overall economy, avoid the myriad policy and legal problems raised by the current system, and produce a rare moment of bipartisan comity in Washington.  It’s a no-brainer.

License to Drill: The Case for Modernizing America’s Crude Oil and Natural Gas Export Licensing Systems

That's the pun-tastic name of my new briefer for the Cato Institute.  Here's introduction:

Revolutionary extraction technologies have helped increase the supply of fossil fuels in the United States, driving down prices, spurring economic activity, and potentially reversing the longtime status of the United States as a net energy importer to a significant exporter. Impeding that transition are outdated federal regulations—in particular discretionary export licensing systems for natural gas and crude oil—that restrict exports, distort domestic energy prices, deter investment, and encourage graft. They also subvert some of the Obama administration stated policy objectives and could run afoul of U.S. international trade obligations.

Despite the potential economic windfall, opposition to exporting natural gas and crude oil has materialized among certain domestic consuming industries and environmental groups, causing the administration to delay any approvals on pending export-license applications. But there are compelling reasons to approve those applications and to overhaul our disjointed, anachronistic, export license systems to properly reflect the new energy landscape. This paper describes those reasons and provides a basic roadmap for reform.

The full paper is available on Cato's website here.  Probably my favorite part is the section on the inconsistency between the Obama administration's use - intentional or otherwise - of archaic licensing systems to restrict oil and gas exports and various other White House policies:

First, the restrictive export licensing systems undermine the National Export Initiative (NEI) and its goal of doubling U.S. exports between 2009 and 2014. Second, the administration’s reticence with respect to fossil fuel exports stands in stark contrast to its full-throated advocacy of other energy exports, particularly renewables like bio fuels and solar panels. Indeed, the September 2010 White House report setting forth the NEI’s priority recommendations calls for increased government support for renewable and nuclear energy exports—but never mentions oil or natural gas. A November 2012 follow-up report lauds the U.S. government’s efforts to achieve these objectives, yet continues to ignore American fossil fuels, despite the massive increases in production and export potential that occurred between 2010 and 2012. Furthermore, increased fossil-fuel exports could actually spur domestic production of renewable energy through higher oil and gas prices. According to the EIA, the role of renewables in electricity generation would be “greater in a higher-gas-price environment.”

Third, the use of export restrictions to benefit downstream industries contradicts longstanding U.S. policy with respect to export restraints and illegal subsidies. The Commerce Department repeatedly has imposed anti-subsidy duties on imports to countervail subsidies resulting from foreign export restrictions on upstream inputs. The administration’s embrace of similar restrictions would not only be hypocritical, but would also expose U.S. exports of energy-intensive products (e.g., fertilizer) to “copycat” duties in key foreign markets.

Fourth, the U.S. government has long opposed restrictive and opaque export licensing systems in WTO negotiations and dispute settlement. For example, in China—Raw Materials (DS394), the U.S. government challenged China’s “non-automatic” export licensing systems for various raw materials as impermissible restrictions on exportation in violation of GATT Article XI. In March 2009, the United States and several other countries submitted a proposal to the WTO Negotiating Group on Market Access calling for increased disciplines on Members’ use of export licensing. The current U.S. export licensing regulations for oil and gas contradict these positions and undermine laudable efforts to rein in such restrictions globally.

Be sure to read the whole thing. And I'd be remiss not to note some of the other recent work on this topic:

• Heritage's Nicolas Loris on the economic benefits of natural gas exports and empowering states to control their own energy policy.

• The Peterson Institute's comments urging DOE approval of pending natural gas export license applications.

Enjoy!

Winning the Energy Future (If, By "Future," You Mean 1980)

This week, President Obama announced his big plan to Win America's Energy Future (seriously).  In his speech announcing the plan, the President explained why it was so necessary:

In an economy that relies so heavily on oil, rising prices at the pump affect everybody -– workers, farmers, truck drivers, restaurant owners, students who are lucky enough to have a car.  Businesses see rising prices at the pump hurt their bottom line. Families feel the pinch when they fill up their tank. And for Americans that are already struggling to get by, a hike in gas prices really makes their lives that much harder. It hurts.

So gas prices are the target, and the President's solution?  Attacking foreign oil:

The United States of America cannot afford to bet our long-term prosperity, our long-term security on a resource that will eventually run out, and even before it runs out will get more and more expensive to extract from the ground. We can’t afford it when the costs to our economy, our country, and our planet are so high. Not when your generation needs us to get this right. It’s time to do what we can to secure our energy future.

And today, I want to announce a new goal, one that is reasonable, one that is achievable, and one that is necessary. When I was elected to this office, America imported 11 million barrels of oil a day. By a little more than a decade from now, we will have cut that by one-third. That is something that we can achieve. (Applause.) We can cut our oil dependence -- we can cut our oil dependence by a third.

Ahh, yes, Energy Independence, the politician's holy grail, white whale and black unicorn all rolled into one smelly package.  As Obama admitted in his speech, pretty much every President since Nixon has futilely chased this mythical beast, but this time, my friends, it's different.  The President's got a Blueprint.  According to the White House blog, this planblueprint focuses on three things: (i) developing and securing America’s energy supplies; (ii) providing consumers with choices to reduce costs and save energy (e.g., mass transit and weatherization); and (iii) innovating our way to a clean energy future (i.e., green energy subsidies).


Now that, folks, is how you win the freakin' future!  (Suck it, China!)

Or not.

You see, upon closer review, the President's big plan is hardly a "winner."  First, there's the fundamental silliness of any domestic energy plan designed to provide American consumers with cheaper, more abundant fuel through "energy independence."  As William Teach over at the Pirate's Cove humorously put it, "With Oil Prices Rising, Obama Looks To….Reduce Imports!"  Exactly.  And Cato's Dan Griswold elaborates:

In a speech today at Georgetown University, President Obama called for a goal of cutting America’s oil imports by one-third within a decade. Like all efforts to wean Americans from big, bad imports, such a policy will mean we will all pay more than we need to for the energy that helps to power our economy....

We Americans benefit tremendously from our relatively free trade in petroleum products. Like all forms of trade, the importation of oil produced abroad allows us to acquire it at a price far lower than we would pay if we had to rely more heavily on domestic oil supplies.

The money we save buying oil more cheaply on global markets allows our whole economy to operate more efficiently. Oil is the ultimate upstream input that virtually all U.S. producers use to make their final products, either in the product itself or for shipping. If U.S. manufacturers and other sectors are forced to pay sharply higher prices for petroleum products because of import restrictions, their final goods will cost more and will be less competitive in global markets. If households are forced to pay more for gasoline and heating oil, consumer will have less to spend on domestic goods and services.

The president talked in the speech about the goal of not being “dependent” on foreign suppliers, but most of our oil imports come from countries that are either friendly or at least not in any way an adversary. According to the U.S. Department of Commerce, one third of our oil imports in 2010 came from our two closest neighbors and NAFTA partners, Canada and Mexico. Another third came from the problematic providers in the Arab Middle East and Venezuela (none from Iran, less than one-third of 1 percent from Libya.) The rest came from places such as Nigeria, Angola, Colombia, Brazil, Russia, Ecuador and Great Britain.

Even if, by the force of government, we could reduce our imports by a third, there is no reason to expect that the reduction would be concentrated in the problematic providers. In fact, oil is generally cheaper to extract in the Middle East, so a blanket reduction would probably tilt our imports away from our friends and toward our real and potential adversaries.

Second, even assuming that energy independence is a worthy goal, the President's three-part plan is one part lip-service and two-parts boondoggle:

• Increased domestic production.  Few, if any, free marketers (and certainly not me) would oppose a US energy plan that sought to rapidly increase domestic oil and gas production.  And considering that a new CRS report shows that the United States is sitting on top of the largest fossil fuel reserves in the world, the easiest thing the US government could to to lower energy prices is to make it easier for private companies to exploit our natural comparative advantages.  Unfortunately, the administration doesn't appear very interested in approving existing requests for domestic oil and gas drilling permits, and it certainly isn't interested in streamlining the process to request and receive such permits.  And they're not even going to talk about drilling in ANWR, dude.  So just drop it.

• Energy efficiency.  Everybody likes conservation and efficiency, but unfortunately, when the federal government tries to mandate it, things rarely (if ever) go well.  Just consider the two cost-saving initiatives mentioned by the White House - mass transit and weatherization.  Each has repeatedly proven to be an absolute, money-burning debacle.  On the former, Cato's Randall O'Toole has ruthlessly documented the utter folly of federal mass transit programs, especially those for this administration's beloved high-speed rail.  Here's a sample of O'Toole's findings: "Since Congress began giving states and cities incentives to take over private transit systems in 1964, worker productivity — the number of transit riders carried per worker — has declined by more than 50 percent; the amount of energy required to carry one bus rider one mile has increased by more than 75 percent; the inflation- adjusted cost per transit trip has nearly tripled, even as fares per trip slightly declined; and, despite hundreds of billions of dollars of subsidies, the number of transit trips per urban resident declined from more than 60 trips per year in 1964 to 45 in 2008."  I don't know about you, but to me those stats just scream "yes, let's pour more borrowed money into federal mass transit programs!"  On weatherization, the Obama administration's previous efforts have proven equally awful.  Just consider Tennessee's very recent audit of its federally-funded weatherization program which found a "laundry list" of problems - involving half of all homes surveyed! - including "everything from work not being done or done incorrectly to work being done by people who were not authorized or properly trained. Auditors also found homes and homeowners who were not eligible for weatherization had work done."  Nice.  Of course, other federal energy efficiency initiatives - like those super-awesome CFL lightbulbs - have gone much, much better.  Oh, wait, nevermind.

• Green energy subsidies.  I've spent a lot of time here documenting the utter folly (and danger) of the federal government's attempts to pick winners and losers in the alternative energy market.  Of course, there's ethanol, the granddaddy of of alternative fuel messes, but it's certainly not alone.  Lots and lots of taxpayer-subsidized alternative energy projects - be they biofuels or wind or solar or geothermal or hyrdo or whatever - have failed over the last few decades (in the US and around the world).  And, of course, when the government's involved, fraud and corruption - or at least the appearance of such nastiness - almost always follow.  According to recent reports by ABC and the Center for Public Integrity, the White House has funneled hundreds of millions of dollars in green energy "loans" to failing US companies that just so happen to be run by big Obama campaign fundraisers.  Blech.

Finally, the President's big plan for winning the future isn't really futuristic at all.  In fact, it's rather boring and archaic.  Every US President since Nixon has pursued "energy independence," and, as I've documented above, the "big plans" in the White House's energy blueprint are as recycled as the paper on which it was undoubtedly printed.  But hey, don't take my word for it.  Just look at these two eerily similar videos - one from President Obama and one from President Carter - announcing their big energy independence plans (h/t Mises Institute):

President Carter's energy plans - which also relied on increased domestic production, conservation and alternative fuels - failed over thirty years ago.  Why should we expect anything different when President Obama tries them now?

Oh, right, we shouldn't.