TODAY'S ENERGY ISSUES CHAPTER TWELVE: TABLE OF CONTENTS First Some Facts Agreed-upon facts about nuclear power. How much future supply of petroleum remains. The future supply of natural gas. Whether the "alternative" energy sources are practical. The role of oil conservation. The danger from nuclear energy. The Energy Crisis of the 1970s Politics and the Current Energy "Crisis" Toward a Sound U.S. Energy Policy Conclusions Afternote 1: Externalities of Energy Use Afternote 2: Energy Accounting April 7, 1991, Herblock cartoon in The Washington Post: [enclosed - with whittle? see file drawer folder?]. "[G]iving society cheap abundant energy at this point would be equivalent to giving an idiot child a machine gun" Paul Ehrlich (1975). "Low Oil Prices Are Bad, Some U.S. Experts Say", New York Times, March 12, 1991, quoted by Charles Krauthammer (The Washington Post, March 15, 91, A23). "...gasoline is too cheap. Everyone knows it. None dares say it." Jessica Mathews (The Washington Post, May 19, 1992, A19.) Keynes's famous remark, "In the long run we're all dead," was remarkably foolish. A charitable guess is that his love of a clever line overcame his better judgment (although we saw in chapter 3 that his judgment about the future of raw materials also was entirely wrong-headed). In any case, the remark expresses a common preoccupation with the present and the immediate future. So let us now talk about current energy issues. Energy generally, and oil in particular, raises emotional temperatures. Figure 12-1 shows that the percentage of the public that says energy is the "most important problem facing the nation" jumped from 3 percent in September, 1973, to 34 percent in January 1974, and then quickly fell back down to 4 percent. Then it went sharply up and then down again in 1977, and then up once more in the summer of 1979, following the price rise by OPEC, and then down once more. Fully 82 percent in 1979 said that "the energy situation in the United States" is "very serious" or "fairly serious," but another series of polls also showed that public concern quickly dropped in the 1980s. (See figure 12-1). These swift changes in the public's thinking illustrate the volatility of concern about energy and oil. And since the public has no first-hand experience of energy supply, other than changes in gasoline prices (which show no increased scarcity in the long run), these poll results also suggest that the public's concern derives from how the press and television describe the situation. Fig 12-1[-a Data from Cambridge Reports polls, 83-89 and Lunch and Rothman] Our true energy situation can be seen in the price data for coal, oil, and electricity shown in figures 11-2, 11-3, and 11-4. These figures cover a long span of time, however, and they could obscure important changes in the recent past. Therefore, let us analyze the recent course of energy costs, with emphasis on the proximate cause of concern - oil. The chapter will also touch on "alternative" sources of energy. (Chapter 13 examines special issues of nuclear power.) The key short-run issue is government policy with respect to energy. Persons who worry most about energy supply in the immediate future tend to call for various government interventions. In contrast, those who conclude that energy supply should not worry us at all - I am among them - tend to believe that just about every likely government intervention in energy markets will be both costly to the public and damaging to the supply of energy. The programs called for by environmentalists combine support for "alternative" sources of energy such as wind and solar, taxation of fossil fuels to reduce their use, and raising all possible obstacles to the use of nuclear power. These actions would have the following effects: 1) increase the number of deaths, because nuclear power is much safer to produce than coal or oil, and because lightweight autos are less safe than heavy ones; 2) limit the rise in the standard of living and the creation of jobs by raising energy costs to enterprises, and by hampering the efforts of energy producers; 3) raise costs to consumers and hence lower the purchasing power of their incomes; and 4) enmesh the economy in regulations that fritter away the energies of entrepreneurs. The reasons that activists desire these programs are complex. Consumer welfare certainly is not the only or even the preeminent motive, as seen in the arrogant headnotes by Ehrlich that people who have plentiful energy are dangerous, and by Mathews that "gasoline is too cheap" (stated in the original context without any explanation). One motive is energy activists' belief that economic growth is bad in itself, as is seen in the Ehrlich quote above, and in the quotations from Herman Daly on pages 000; this motive is hostile to every reasonably-efficient energy source including nuclear, oil, and coal. An official of the World Resources Institute says, "Coal burning is a fundamental threat to life on this planet. We'll eventually have a fight over every coal-powered electric plant." It's harder to be against such options if you worry about supplying enough energy for growing public demand. FIRST SOME FACTS Energy in general, and oil in particular, are topics about which it is most difficult to find agreement. But let us see how far we can get. Let us briefly note which facts scholars agree on, which matters are in dispute, and how the energy situation is tangled with conflicting interests, politics, and ideology. Agreed-upon facts about oil. (a) Enough oil to supply the world for several decades can be produced in the Middle East at perhaps fifty cents per barrel (1992 dollars), to be compared with a market price of about twenty dollars per barrel. (b) Transportation from the Middle East to the U.S. and elsewhere costs $2 to $4 per barrel. [Old source O.K. for new $2-4 amount?] Apparently, few speculators believe that the price of oil will sharply and continually go up in the future. If anyone really did believe that, it would make sense to buy and stockpile oil for long-term appreciation, even with the cost of storage. But no one does so (though South Africa is said to have a seven-year supply because of its political- military situation). Much of the world has not been explored systematically for oil. This may be seen in the numbers of wells that had been drilled in various parts of the world up to 1975, and the number of producing wells as of 1989, respectively: U.S. - 2,425,095 and 603,365; U.S.S.R. - 530,000 and 145,000; Latin America - 100,000 and 17,500; Canada - 100,000 and 38, 794; Australia and New Zealand - 2,500 and 1,024; Western Europe - 25,000 and 6,856; Japan - 5,500 and 368; Africa and Madagascar - 15,000 and 5,381; South and South East Asia - 11,000 and 9,900; China - 9,000 and 1,944; and the Middle East - 10,000 and 6,827. The reason why so much more exploration and drilling have been done in the U.S. than elsewhere is not that the U.S. has so much greater potential for oil production but rather that it has had a high demand for oil, plus plenty of production know-how, trade protection against imported oil for many years, and political stability. Estimates of crude-oil reserves are highly sensitive to the definition of crude oil. The U.S. Geological Survey uses a definition that includes only oil that will come to the surface at atmospheric pressure. If one also includes oil that can be forced to the surface under pressure, plus naturally non-liquid oil in shale and tar sands and other sources, the estimate would be considerably greater. The most important long-run fact about oil is the decline in the price of crude since it was first discovered. The most important short-run fact is the decline in the price of gasoline - the key petroleum product - so that the price now is lower than ever in our history, despite the activities of the OPEC cartel. (See figure 12-2) Figure 12-2 old A14 plus new data Agreed-upon facts about coal. (a) There are known quantities of coal in the U.S. and elsewhere that are vast compared with the known quantities of oil. (b) Coal is expensive to transport. (c) In energy yield at 1990s market prices, coal is cheaper than oil or gas. [Old source O.K.?] (d) The use of coal creates air pollution that can raise coal's total social cost above that of oil. e) Most important, coal's damage to health due to mining risks as well as air pollution is much worse than even the most pessimistic estimates of the possible risks from nuclear power, and dwarfs any likely damage from nuclear power. Agreed-upon facts about oil substitutes. In addition to shale rocks, tar sands, coal, and methane from coal seams, oil substitutes can be derived from a wide variety of agricultural crops. Aside from methanol - which may be viable commercially even at present - none of these substitutes can presently be produced at a price which is competitive with fossil oil (perhaps $15 to $20 per barrel in 1992 dollars). But if the price of fossil oil were to rise considerably, there would be much greater incentive for research on reducing the costs of gasoline substitutes, and the prices of some substitutes - perhaps liquid fuel made from tar sands and coal are the likeliest possibilities - would undoubtedly fall considerably. The cost of fuel from cane sugar, corn, biomass (such as hardwood), or municipal solid waste is presently about three times the cost of gasoline from petroleum. Lowering that cost substantially would require large gains in agricultural productivity which probably would take several decades at least, though the speed of progress can often surprise us. Many are attracted to the idea of home-grown alternatives to fossil fuels, but forced reliance on such fuels can run into self-made disasters. Brazil, for example, heavily subsidized ethanol from its cane sugar (aided by a big subsidy from the World Bank), and many autos converted to that fuel. But when the world price of sugar went up, Brazil could not buy raw material, and motorists therefore could not obtain fuel. Wind power, geothermal sources such as geysers, and solar energy may be viable alternatives in some places, but the chance that any of them will gain a large share of the market without heavy government subsidy is almost nil. Even at the present high costs of substitutes, however, a modern society such as the U.S. or Europe or Japan would not be affected much if it had to turn to such substitutes. Oil accounts for a sufficiently small part of total expenditures that such a cost increase would therefore not much affect total costs or, consequently, people's consumption. The market price of oil affects the market price of other fuels. For example, as soon as OPEC increased the price of oil in 1973, the price of coal and uranium jumped, apparently because the owners of those commodities perceived greater demand for them. On the other hand, investment in coal and nuclear power is made risky by the possibility that oil prices might fall due to a collapse of the OPEC cartel, which would make investment in coal and nuclear power a financial disaster. Agreed-upon facts about nuclear power. The physical supply of nuclear fuel is awesomely large and inexhaustible on any human scale. Electricity can be produced from uranium at perhaps half or two-thirds the 1992 price of oil - if the burden of regulation does not greatly lengthen the period over which plants are constructed, and does not complicate design and construction. This is shown by experience in France, and in earlier decades in the United States. If nuclear power is cheaper than oil, it is therefore much cheaper than other, non- fossil-fuel energy sources. Perhaps the most revealing statement is a compilation by the pro-solar and pro-wind-power group World Watch. They estimated that the number of persons employed in the energy-producing industries per thousand gigawatt-hours per year in the U.S. is: nuclear, 100; geothermal, 112; coal, 116; solar thermal, 248; wind, 542. They presented these data as being favorable to solar and wind because they "create more jobs", apparently without recognizing that the amount of labor required is the most basic measure of a good's social cost. Using a spade "creates" more jobs than using a bulldozer, but working only with spades dooms us to near-subsistence living. (This is apparently what is meant by the phrase "sustainable economy". It is the same view of the world as held by members of the Glass Bottle Blowers Association, who "for many years had an unwritten law that after a member of the union finished a bottle of beer, it was his duty to break the bottle and so provide employment for the bottle blowers." Nuclear fission creates radioactive wastes that raise storage and disposal problems. (This point will be elaborated in chapter 13.) Shifting to nuclear power greatly reduces the emission of all important by-products of fossil fuel combustion, including carbon dioxide (a possible problem in connection with global warming) and dust particulates (the most dangerous pollutant). Data on the reduction in emission of these and of sulfur dioxide and nitrogen-oxygen compounds that accompanied the increase in nuclear power and decline in fossil fuels are shown in figures 12-3a, b, and c. Figures 12-3 Other countries have made nuclear power their main source of electrical power - to a much greater degree than the United States (see figure 12-4). Figure 12-4 Nuclear fusion, as distinct from fission, would be relatively clean with respect to radioactive wastes. Fusion is not yet controllable as an energy source, but it may become an economical source of energy. The following matters are in dispute: How much future supply of petroleum remains. Some geologists tell us that at present prices and rates of consumption, production of oil will peak sometime soon and then decline. Other geologists confidently predict that vast new sources of oil will be found when sought. The official spokespersons for various organizations with different interests in the matter put forth a cacophony of different views. Also in dispute are the amounts of oil and other fossil fuels that people can safely burn without creating excessive atmospheric levels of carbon dioxide - the "greenhouse effect". All now agree that the 1980s forecasts of the sea rising many inches or feet due to global warming are nonsense. The future supply of natural gas. The 1970s saw extraordinary confusion and contradiction in the estimates that various politicians and experts put forth about the future of natural gas (see chapter 11). That scare ended toward the end of 1978 when the official views of the U.S. government had flip-flopped sufficiently so that the Secretary of Energy announced, "DOE is encouraging industries and utilities that now burn oil to switch, not to coal, but to gas." So much for another energy panic. Whether the "alternative" energy sources are practical. Tidal power, ocean thermal power, geothermal power, windpower, fuel cells, conventional solar power, or geopressurized methane and alcohol might be able to compete with oil in the near or not- so-near future if the price of oil were to remain at the present level. On the other hand, these sources might not be important even if the price of energy were to double, triple, or quadruple. Tidal power may be the best bet of the lot, especially in Great Britain where a variety of devices that the sea compresses or bumps to convert its movements into electricity are well into the testing stages. There is considerable dispute whether shale oil, available in vast quantities in the U.S. and elsewhere, could be profitable at present energy prices even with considerable research and development. Also an open question are the potentials of a variety of new and radical ways to harness solar power, some of which promise energy at remarkably low costs if they are developed. One such idea is launching huge orbiting satellites to convert solar rays into electrical energy which would then be transmitted to earth by microwaves. Another plan is to build mirrors in space that would turn night into day for agricultural areas and hence increase food productivity as well as the productivity of solar-heating systems. A third possibility is new forms of solar cells. These alternatives - and others, too - are backed by solid scientific evidence that they can work in principle, and by considerable engineering support that they might be practical in the foreseeable future. The fundamental - and unchangeable - difficulty with solar power is that the energy is so dilute. That is, the amount of sunlight that falls on any square meter of ground is only about 1300 watts. It now seems unlikely that during the next few decades any source of energy other than fossil fuels and nuclear power will be available over a wide geographic area at a price low enough to serve a large proportion of the total demand. (It would take many chapters to provide the necessary details to properly support this statement). If this forecast should be falsified by some great new scientific discovery - which is unlikely in the near future, despite the frequent overly-optimistic forecasts that have been made since the 1960s - that would be marvelous. And good luck to those who enjoy testing their wits and their muscles by racing sun-powered two-horsepower automobiles across Australia, or crossing the English Channel in a pedal-powered airplane; even if such endeavors do not pan out economically, they often produce useful new knowledge, as well as entertainment. But they are most unlikely to make a difference in the energy outlook. The role of oil conservation. Some informed persons argue that it is possible to increase greatly the efficiency of energy use - that is, to waste less of it. Other informed persons doubt that there is great potential or great benefit. Raising the price of fuels such as gasoline to very high levels could affect consumption considerably, of course, but whether this makes economic sense is also in dispute, as chapter 00 discusses. A commonly-heard idea is that "[I]t's cheaper to save energy than to create it," and "The cheapest way to cut oil dependence is by conservation." That notion is not logically wrong. It is equally correct - and equally nonsensical - to say that the cheapest way to save on food is to stop eating. If a given individual chooses to keep the house cooler in the winter and warmer in the summer to save on fuel bills in order to spend more on artwork or vacations - fine. But that has nothing to do with social policy. If the government forces someone to cut oil use, that is quite another matter, and in no logical sense is it true that that is "cheap". The danger from nuclear energy. The main-line scientific position - expressed in a report of the National Academy of Sciences Committee on Nuclear and Alternative Energy Systems - concluded that "if one takes all health effects into account (including mining and transportation accidents and the estimated expectations from nuclear accidents), the health effects of coal production and use appear to be a good deal greater than those of the nuclear energy cycle." As to waste disposal, the main-stream scientific consensus is that "risks from the disposal of radioactive waste are less than those of the other parts of the nuclear energy cycle - if appropriate action is taken to find suitable long-term disposal sites and methods." A standard view is that "the task of disposing of the radio-active wastes - is not nearly as difficult or as uncertain as many people seem to think it is." The geoscientist for the American Physical Society's study group on nuclear fuel cycles and waste management says much the same thing, "The problems, including hazards and waste disposal, about which much has been made, are not so serious as commonly pictured." On the other hand, opponents of nuclear energy, such as those associated with the Sierra Club, assert that these assertions about waste-disposal risks are "not true," just "myths." These issues will be addressed briefly in chapter 13. THE ENERGY CRISIS OF THE 1970S As so often is the case, government is once again the problem rather than the solution. Typically, "Abandoning its laissez-faire policy of the 1980s, the Energy Department said yesterday that it will conduct an ambitious campaign to promote energy conservation and the use of renewable fuels." Under the guise of "saving" money, governments frequently coerce people to use fuels that are more expensive and less convenient than consumers' free choices. As explained in chapter 21, such interventions are disastrous - designed with good motives, perhaps, but fatally flawed by abysmal ignorance of economic theory and the history of energy supplies. The sharp rise of crude oil prices in the 1970s provides an illustrative case history of government intervention in the energy market. While the first edition of this book was in production, the price of oil tripled to $30 and even $35 per barrel, and all the conventional "experts" predicted a continued rise - to, say, $3 per gallon for gasoline by 1990. The analysis given in this book led to quite a different conclusion - that in the long run "energy will become more available and less costly". The intervening years have confirmed the latter view, of course (as with just about all other predictions made in the first edition). Hence from here on the discussion is either the same as in the first edition or is a slight paraphrase of the discussion there. The 1979 price rise was clearly due to the cartel agreements of the oil-producing countries' association (OPEC) - that is, expensive oil was clearly a result of political power rather than rising extraction costs. Of course the consumer is interested only in the market price of oil, not production cost. But if one is interested in whether there is, or will be in the future, an economic shortage of oil, or if one wants to know about the world's capacity to produce oil, the appropriate indicator is the cost of production and transportation - and for oil that cost remains only a small fraction of the world market price. During the years of the "energy crisis," the cost of oil production did not rise at all. It remained far less than 1 percent of the selling price of crude - a cost of perhaps $0.05 to $0.15 per barrel, in comparison with a selling price of somewhere around $30.00 per barrel in 1980. For perspective, we should remember that energy prices to the consumer have been falling over the very long haul, as we saw in figures 11-2 to 11-4. Before the OPEC cartel became effective, the price of Iranian oil fell from $2.17 per barrel in 1947 to $1.79 in 1959, and the price of oil at Rotterdam was at its lowest point in 1969; an inflation adjustment would show even more decline. The cost of electricity - and especially electricity for residential use - also had been falling rapidly in the decades prior to 1973 (and continues to fall; see figure 11-4b). And the overall index of energy prices (weighted by their values and deflated by the consumer price index) fell steadily from 1950 to 1973, as follows: 1950, 107.2; 1955, 103.9; 1960, 100.0; 1965, 93.5; 1970, 85.4; June 1973, 80.7. The index was falling at an ever- increasing rate over this period. The history and the basic economic theory of cartels square with each other. A cartel such as OPEC, whose members have differing interests, is subject to pressures that make it difficult to maintain whichever price maximizes profit for the cartel as a whole. There is a great temptation for individual countries to sell more than their quotas. Furthermore, a sharp increase in price - as happened when OPEC raised prices in the early 1970s - reduces consumer demand. The result is an oversupply of oil and an underutilization of production facilities - a true "surplus" of oil - and this is exactly what has happened. Even as early as 1974 the press was reporting that, in the face of a world-wide oil surplus, Saudi Arabia and several other OPEC nations have cut their oil production by 10 percent this month in order to prop up oil prices. Industry sources attribute the decision to cut production to ARAMCO, owned jointly by Saudi Arabia, Exxon, Texaco, Mobil and Standard Oil of California. ARAMCO officials however, blamed "weather conditions" for the slash. By March 1975 the reports were, "Growing oil glut ... sagging Western demand for oil has forced OPEC members to cut production sharply to maintain the current high price of crude. By 1976, the price of fuel oil and gasoline had apparently fallen in real terms (adjusted for inflation). And the OPEC members were fighting among themselves about whether to raise prices. At the beginning of 1978, OPEC decided not to raise prices at all, despite inflation, which meant a fall in the relative price of oil. Newspaper headlines again referred to an "oil glut". The executive director of the International Energy Agency, though choosing not to speak of a glut, foresaw that OPEC and oil- producing countries "will face a slight overcapacity problem all the way into 1981-82... [due to] inadequate demand for [OPEC's] oil for some years". Then came a huge price jump in 1979. Yet the first edition of this book asserted that "Even if the present price of oil should rise even higher, the costs of oil, and of energy in general, are not likely to be so high as to disrupt Western economies. In the long run, however, it is reasonable to assume that economic forces will drag the market price of oil down closer to the cost of production, which implies a lower world-market oil price." And so it turned out. The price of oil in 1993, adjusted for inflation, is close to its low point in history. Even the Persian Gulf War of 1991 did not boost price for more than a very short time. The analysis of the first edition of the book has been completely vindicated. And there is more reason than ever to extrapolate the same trends of falling price and increasing supply into the indefinite future. Curiously, the oil situation of the 1970s produced the strange spectacle of an "illiterate" person teaching at the Hebrew University of Jerusalem. In 1974 or 1975 a poll of the Israeli public asked such questions as the name of the prime minister, and whether respondents were familiar with the world's "energy crisis". Those who gave the "wrong" answers to such questions were labeled "illiterate". I declared that I was not familiar with the "energy crisis", because in fact there was none; the concept was a fiction of the press. Ergo I was illiterate - while professoring. Another costly lesson about government intervention in energy markets was taught (though unfortunately, few learn from it) during the late 1970s under the Carter administration when there was much fear about running out of natural gas. In response, laws were passed prohibiting the use of gas in power plants and restricting use in industry. The supply of gas was not increased by producers, and prices rose. Then in the 1980s prices were decontrolled and power-plant use allowed. As a result, supply increased vastly, and price fell sharply. Still another economic waste due to false energy scares was the $15 billion dollars thrown away on the development of synthetic fuels. There is no great secret for predicting the energy future with considerable accuracy. Simply predict that, as with all other raw materials, the trends in the future will resemble the very- long-run trends of the past - toward lower prices. One must simply avoid being seduced by Malthusian theories of "finite" resources and the exponential growth of demand. Here I repeat my offer to wager on this forecast, as discussed in chapter 1. POLITICS AND THE CURRENT ENERGY "CRISIS" The energy scares of the 1970s led to a web of U.S. government interventions which (as predicted by economists) aggravated the situation. The policies and arguments were so tangled that it would take a whole book to sort them out. The system of energy regulation was sufficiently complex that even a professional economist could not understand it without much study. In the crude oil market, for example, the price that oil producers were allowed to charge depended upon the date the well had been drilled; this device was an attempt to a) keep "old" oil wells from obtaining a windfall gain due to the rise in the world oil prices since 1973, but at the same time b) provide an incentive to producers to keep drilling new wells. Different amounts of taxes had to be paid for "new" and "old" oil to equalize the market price. Then there were "entailments" that refiners got for purchasing old or new oil, allowing them to make other products of oil of different "ages"; these "entailments" could be bought and sold. This system was a patchwork crazy quilt that hid from view the actual facts of oil supply. George Stigler once remarked that a business firm is a collection of devices to overcome obstacles to profit. The energy market nicely illustrated the remark. For example, the price of gas for interstate delivery was controlled far below the price of oil for an equivalent amount of thermal energy, but gas prices were not controlled in intrastate commerce. The regulatory structure in which energy firms operated was a mine field of such obstacles to profit. Each obstacle, however, provided an opportunity to some firms just as it blocked others; it was an invitation to finagle. And sure enough, the finagling had not only begun by the time of the first edition, it had already been discovered and was a huge scandal. The government-induced energy scams would have been amusing if the corruption had not been so damaging to business morals as well as to energy production. Furthermore, the government's price-regulation system had the effect of supporting the OPEC cartel's price-fixing power and subsidizing member countries' operations. Adding insult to injury, consumers had to wait in long lines at gasoline stations. The U.S. may have been the only country where there were lines, because it was the only country stupid enough to attempt to control the price of gasoline. Here is a sample of the news stories that had surfaced by the time of the first edition about these government- created crimes against both the laws of the nation and the laws of economics governing the supply of energy: July 21, 1978: Continental Oil Co. is under criminal investigation for alleged violations of federal oil-pricing rules. According to government sources, Continental, the nation's ninth largest oil company, is the first major oil company to face possible criminal charges in a new crackdown by the Energy and Justice departments on improper oil-pricing practices during the years immediately following the 1973 Arab oil embargo.... In separate cases, also in Texas, federal investigators are considering seeking indictments soon against several smaller companies that resell oil bought from major producers. The smaller concerns are suspected of participating in a criminal scheme to sell lower-priced "old" crude oil at the higher prices that apply to "new" oil. August 14, 1978: The Florida case involves a so- called "daisy chain" scheme during late 1973 and 1974. The government alleges that five oil companies sold fuel oil back and forth to raise their paper costs and, thus, the allowable price under federal regulations, before selling it to the buyer, Florida Power Corp. The government lawyers admitted that "the oil pricing rules they are trying to apply may have been too confusing and vague." December 11, 1978: "Possible Misconduct within Energy Unit Is Charged in Study of Oil-Pricing Cases." Washington - Energy Department officials failed to move swiftly against suspected massive oil-pricing frauds in recent years and thus may have been guilty of serious, even criminal misconduct, a congressional report charged. February 9, 1979: "Kerr-McGee to Settle U.S. Oil- Price Claims, Firms to Refund $46 Million in Alleged Overcharges from 1973 through 1978". July 28, 1979: "Tenneco Inc. pleaded guilty of concealing the transportation of natural gas from federal regulation officials". November 9, 1979: "U.S. Is Accusing Nine Major Oil Concerns of $1.1 Billion in Consumer Overcharges". February 15, 1980: "Mobil Oil Ordered to Pay $500,000 Fine on Criminal Charges Involving Gas Sales," and "Indiana Standard Settles Price Case for $100 Million". February 25, 1980: "[L]eading domestic oil refiners have agreed to pay a total of $1 billion to settle charges of overpricing brought by the Department of Energy. Last week, DOE announced the biggest single settlement yet: a $716 million package arranged with Standard Oil Co. of Indiana. August 13, 1980: The Energy Department "has filed some 200 actions accusing the 15 top oil companies of violations amounting to more than $10 billion since 1973, and seeking restitution. Who benefits from the various government interventions into energy markets? The politicians and bureaucrats tout every policy change as benefiting the consumer. But even those policies which are intended to transfer funds directly from business to consumers - such as the price controls of the 1970s on oil and gas - inevitably harm the consumer by causing short-run shortages and long-run diminished supply. And the myriad other actual and potential interventions - such as requirements that cargo be carried in American ships, and oil import taxes, inevitably have huge benefits for some segment of the industry. The first edition gave readers insight into the pulls and tugs on government policy made for the benefits of various segments of the industry - the owners of "old" and "new" wells, international oil firms, nuclear plant construction firms, the merchant seamen's union, and so on - by imagining the thought processes of each group. In each of these economic-political roles you find yourself fabricating reasons why your type of energy should not have its price controlled while the others' prices ought to be controlled, and why the government should finance research on your type of energy but not on others. One excellent all-purpose reason that you find, of course, is that the "supplies" of the other sorts of energy will soon run out, which makes your sort of energy deserving support as the best hope. And you tie your arguments to expected economic and population growth, which will make the other fuels run out faster and make the need for yours that much greater. Is it any wonder, then, that the rhetoric about energy is so impassioned and hard to untangle? It should also be clear why population growth is dragged into the discussion by all sides as posing an immediate threat to our supply of energy, and as being a reason for special treatment of each particular industry. This situation breeds not only tortured arguments and frightening forecasts, but also (as we saw earlier) scams on a vast scale. One more example: Prior to 1973, Westinghouse contracted to sell large quantities of uranium to nuclear power plants, uranium that it planned to buy from the producers at market prices. When OPEC boosted the price of oil in 1973, the price of uranium began a jump from $8 to as much as $53 a ton within three years. This meant that Westinghouse might accrue losses of perhaps $2 billion. Along the way, Gulf Oil (a producer of uranium) got together with the Canadian government and other producers of uranium to keep the price of uranium high - which in the U.S. is illegal price-fixing, of course - so that Gulf and the others would profit from the final purchases of all consumers of nuclear electricity, and, incidentally, from Westinghouse. Sweet. The matter tied up the courts for years. Toward a Sound U.S. Energy Policy What is the best U.S. policy with respect to energy? Before anything else, let us take up the question of national security, because the rest is easy in principle - and, for that matter, in principle the national security problem is not very difficult either. If the U.S. has a large enough stockpile of oil - say, a year's worth - no foreign nation can exert much economic leverage or endanger U.S. military security with the threat of an oil shut-off. And there is no reason why the U.S. should not have such a stockpile, as apparently exists now. With national security taken care of, importing oil and gas poses little more threat than importing television sets or tourist services. The balance of payments is not a worry; economics teaches that importing whatever buyers want and can get cheapest abroad maximizes economic welfare. There are always, however, hands outstretched for government funds with the claim of benefiting the public by developing one or another form of energy - subsidies for solar- powered homes, tax credits for research into hydropower and coke-gas equipment, development programs for shale oil. Which sources of energy should the U.S. government promote? The appropriate reasoning was stated clearly as "the least cost principle" by the Paley Commission decades ago. "This Commission believes that national materials policy should be squarely founded on the principle of buying at the least cost possible for equivalent values...we cannot afford to legislate against this principle for the benefit of particular producer groups at the expense of our consumers and foreign neighbors, and ultimately with prejudice to our own economic growth and security." That is, the economic mechanism that hews most closely to the least-cost principle is a free market. No government decision-maker can match the efficiency of millions of individual buyers and investors who go comparison shopping among gas, oil, coal, and so on. If the solution is so simple, why is there a multi-billion-dollar Department of Energy supporting hundreds of experts working on other kinds of schemes? Answer that for yourself. In addition to the indirect but large costs of misallocation due to government controls, the direct costs of the energy bureaucracy are not trivial. The Department of Energy had in 1990 a budget of $12 billion. This represents: - $633,379 per employee (it employed 18,968 people in 1991),or - $48 for each and every person in the country, or - $1.98 per barrel of petroleum products consumed (1989), or - 10 cents for every gallon of gasoline consumed (1989). A few activities of the Department of Energy may benefit the public, such as collecting useful data. But if DOE were abolished today and its functions assigned to no other government agency, on balance we surely would be better off. To the best of my knowledge, no systematic analysis has shown the opposite. That is, there is no evidence that DOE is on balance a constructive force, and there is much reason to call that proposition into question. We are simply expected to accept on faith that such government agencies are of net benefit. This conclusion is not welcome to those of us who prefer to think well of government agencies and employees. But the older I get and the more evidence I see, the more convinced I have become that such faith is misplaced in many cases - DOE being a leading example. CONCLUSIONS The Herblock cartoon at the head of this chapter, calling for a national energy policy, is typical media fare. But government planning and control in the energy and raw-materials markets inevitably raises prices, creates scandals, and reduces rather than increases the supplies of resources; all this the record of the past shows again and again. Chapter 11 provides the data which document that natural resources always become less rather than more scarce in the long run, and chapters 3 and 11 give the theory that explains this anti-intuitive phenomenon. (The supply of energy is not even finite, and its price may be expected to fall forever.) Government controls on resources -- such as the price controls on oil and gas of the 1970s -- are based on false ideas about diminishing returns and inevitable scarcity. Governmentally-mandated conservation of energy would only be a drag on the progress toward ever cheaper and more plentiful energy. AFTERNOTE 1: EXTERNALITIES OF ENERGY USE Some moralists call for a reduction in energy use because of religious-like beliefs that a return to a "simpler" life would be more "natural" and good for all of us. Others would have us reduce energy use because they believe there is something inherently valuable about energy, and especially fossil fuels. Both groups would have us waste our time and effort, slow the progress of civilization, and cripple our economy in order to mitigate a shortage of energy that they speculate will finish us off starting perhaps seven billion years from now. (See quotations of Lovins, Daly, and Ehrlich below and in chapters 00.) One cannot easily argue about such matters, because they are matters of taste. Others, however, argue that energy use should be reduced because of purported negative externalities - that is, consumers supposedly do not pay the full cost of the energy that they use while other members of the public pay part of the cost - and that rules of the market should "internalize" these externalities. "Using energy involves potential costs for society that aren't fully reflected in market prices." This can be a meritorious argument. If a coal furnace deposits pollution on other people's wash, or harms their health, the polluters should pay the cost. If the use of gasoline causes highways to deteriorate, vehicle operators (or owners) should pay for the damage. But large difficulties lie in the assessment of the externalities, and in the choice among policies to internalize them. Gasoline use makes an interesting brief case study in these difficulties. At first it seems reasonable to charge for road use with a gasoline tax. But then we realize that light vehicles apparently wear out much less road per gallon of gasoline than do heavy vehicles, so this device does not work well. The CAFE standards which dictate the proportion of cars of various weights that the automakers can sell, by way of a requirement for maximum average miles per gallon for the year's output, work even less well because this rule leads to people buying lighter cars and suffering more injuries as a result - somewhere between 2,200 and 3,900 people dying during the ten-year period following adoption of CAFE in 1975 who would not have died otherwise; nor were there clearcut economic gains that offset this human loss. (The main advantage of the CAFE rules over a gasoline tax seems to be that CAFE is political; the cost to consumers is better disguised.) Such alternatives as subsidized mass transit, which go farther and farther afield from the initial problem, enmesh the economy in an ever-thicker web of regulations and cross-forces which are ever more difficult to evaluate; another result is ever-increasing opportunities for special interests to feather their nests. Probably the best system would be a direct toll tax based on the weight of vehicles as well as miles driven; nowadays this is technically possible. My point, however, is the difficulty of choosing an appropriate remedy, rather than any specific suggestion. The press - of course - focuses on negative externalities because they make good stories. But there also are positive externalities. For example, though off-shore oil rigs are anathema to many environmental activists, they provide remarkable habitat for sea life. Working rigs, and the tipped-over carcasses of old rigs, have brought many new species to barren Texas and Louisiana waters, which attract the majority of recreational saltwater fishing trips off Louisiana. One commercial diver said, "These are probably the biggest and best aquariums in the world." And the warm waters that flow from many nuclear power plants constitute remarkable fisheries. When assessing the effects of an energy-providing activity, it is important to make a complete accounting that includes the positive as well as the negative externalities, even though the positive effects are usually much harder to spot. It is also necessary to take into account the negative effects - some of them large - of energy regulations that force people into activities that they would otherwise not choose. For example, government manipulation of gasoline and public transportation prices in such fashion that people are induced to spend more time commuting than they would with free-market prices can be a very expensive drag upon productivity. A reduction of half an hour in time at the work place might cause a drop of (say) 8 percent in output, a huge proportion of loss to the economy. These indirect effects are often omitted from consideration when making rules that force energy "conservation". The belief that conservation forced upon others is the "cheapest source of energy" is not just nonsense, it is destructive. (See chapters 20 and 21.) AFTERNOTE 2: ENERGY ACCOUNTING Because of their worry that humanity will eventually run out of energy - even if it be 7 billion years from now - some writers assert that we should make our economic decisions on the basis of "energy accounting" rather than on the basis of the theory of value determined by prices that is at the core of standard economics. They write fearfully about an increase in "entropy" -- a disappearance of order and a disintegration of all patterns of life into chaos. This flies in the face of the trend over the decades and centuries of energy becoming more rather than less available, just like all other raw materials such as copper and land. Human life becomes better organized rather than more disordered. The idea of a "currency based on energy units" goes back at least as far as the novelist H. G. Wells in 1905. According to the theory of energy accounting, the value of any good or service should be determined by the amount of energy that goes into making it. For example, a trip by bicycle should be valued more highly by society than the same trip by auto because less total energy is expended in powering the bicycle. Typically, Lester Brown and company recommend the use of bicycles because their "energy intensity" is only 35 compared to an index of 100 for a pedestrian and 100 for each of two passengers in a light car or 350 in a big car. In this line of thought any energy-supplying process that uses more raw energy than it produces is judged to be perverse, and should be avoided. For example, a farming operation that inputs more energy by way of tractor operations than the energy output to human consumers in the food supplies is ipso facto a waste. This kind of thinking is another part of the notion of a "sustainable economy" (see discussions of nuclear and solar power in chapters 12 and 13). These analyses exclude any other values. The difference in time a traveler expends in going by car rather than by bicycle is assumed irrelevant. And the fact that food produced with the help of a tractor keeps us alive, and with enjoyment, whereas the diesel fuel that powers the tractor cannot provide those benefits, is omitted from the calculation. Energy accounting has great intellectual charm, just as does Marx's labor theory of value to which it bears close resemblance. But of course if society were to follow an energy-economizing rule, we could not have modern life. Less energy comes out of an electricity-producing operation in the form of electricity than goes in as coal or nuclear fuel. But in the form of power for our appliances, the electricity is more valuable to us than is the raw coal or uranium. The prices we are willing to pay for goods and services express our values for these goods and services; we pay more for a unit of energy as electricity than as a lump of coal. The price system directs economic activity. And it is this price system that enthusiasts wish to replace with energy accounting. An analogy may help explain the intellectual issues at the root of the discussion. Imagine yourself in a lifeboat marooned at sea after a tropical shipwreck. The supply of water is frighteningly low. Because water is so valuable, you and the other passengers decide to ration the water, allocating a cupful to each person each day. And each of you is likely to drink your ration of water yourself rather than trading it even if another passenger offers to swap you an expensive wristwatch or necklace, because you figure that the watch or jewelry is worthless if you die of thirst. This is the logic of conserving energy irrespective of other values. Now notice how different is the value of a given amount of water on the lifeboat and ashore. It makes sense to swap a cup of water for a watch where there is plenty of water, and hence the relative values -- expressed in trading prices -- are different ashore and on a lifeboat. But the energy accountants do not agree that trading prices as set by the market embody the sensible bases for exchange. Aboard a lifeboat, if the water is at the other end of the boat, you will need to sweat a bit to move to get the water to drink, and the sweat moisture will be borne off you into the air and "lost" to the lifeboat -- just as the process of cultivating food mechanically may "lose" energy. But if you don't move to the other end of the lifeboat to get the water, you will die, so it obviously makes sense to do so even though that operation reduces the amount of water in the lifeboat. By the same token, urinating overboard is a loss. But you cannot live without urinating, and hence you do so. In just the same way, it makes sense for us to spend more energy in producing electricity than is embodied in the electricity we use. If we were suddenly to find ourselves in a situation in which the supply of energy were much more limited than it really is -- say, a year's availability instead of at least a seven billion years' supply -- it would make sense for us to value energy and other goods and services differently than we now do, and the market would reflect this difference. But to enforce an energy- based theory of value in our present circumstances is simply to doom ourselves to ridiculously-impoverished lives. (Anyone who disagrees and believes in energy accounting ought to buy and stockpile supplies of coal and oil for later resale.) The average American uses about 150 times as much energy as did a Native American before the white man introduced horses to North America. We each employ the equivalent of about 15 horses' power around the clock every day (which would require a stable of about 50 actual horses), and a horse exerts about 10 times as much energy as a human does. Some would lament this, and say that it shows how expensive human life is, in energy terms. Another way to look it these data is that they show how cheap energy has become; we are now able to afford the benefits of all that help in getting the things that we want. Marx's labor theory of value is cut from the same cloth as energy accounting. Marx would have us value each good and service by the number of minutes of human time involved in its production, irrespective of whether the time is that of a surgeon or a janitor, a leading soprano or a stagehand, the president of IBM or a shipping clerk. The basis for this valuation scheme is primarily moral rather than economic, however, because the purported scarcity of human life or time is not the issue for Marx, unlike the argument for energy accounting. Curiously, the leading proponents of energy accounting also assert a moral-theological basis for the use of such a scheme, not dissimilar from the Marxian valuation system. Herman Daly founds his belief in reducing energy use and his opposition to economic growth on an "Ultimate End" which "presupposes a respect for and continuation of creation and the evolutionary process through which God has bestowed upon us the gift of self- conscious life". From this he deduces that "The apparent purpose of growth economics is to seek to satisfy infinite wants by means of infinite production. This is about as wise as chasing a white whale, and the high rationality of the means employed cannot be used to justify the insanity of purpose." That is, the call for energy conservation is involved with the belief that "sanity" requires living more simply - a moral-theological belief that would be imposed on everyone else. page # \ultres\ tchar12\ January 31, 1994CHAPTER TWELVE