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Jewish World Review March 10, 2000 / 3 Adar 2, 5760

Mort Zuckerman

Mort Zuckerman
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Fuel prices in the red zone

http://www.jewishworldreview.com -- Is the nightmare of the '70s coming back? You can see the long shadow of the '70s at every gas station–prices up by over 50 percent and on the way to $2 a gallon by summer. And heating oil, at over $2 a gallon, is more than double the price of a year ago. What is going on?

The simple answer is that the members of the OPEC cartel have once again limited supply by several million barrels a day, pushing crude oil prices above $32 a barrel for the first time in years. This comes at a time when U.S. gasoline consumption has jumped by about 2 million barrels a day over the past decade. Americans are driving more and traveling farther, and gas-guzzling SUVs and other light trucks are exempt from the same fuel-economy standards imposed on cars. Americans feel they have an inalienable right–and the cheap fuel–to indulge their romance with the open road. But this has put OPEC back in the driver's seat.

After the oil shock of the '70s, the West succeeded in reducing the car- tel's influence by restraining demand through higher taxes and mandating greater efficiency, particularly in automobiles. The lifting of domestic price controls in 1980 created downward pressure in fuel markets. At the same time, the costs of finding energy fell sharply. With computer-assisted three-dimensional imaging, geologists became four times better at finding natural gas and six times as good at discovering oil as they were before the 1973 oil crisis. The average U.S. costs for finding oil dropped from $15 per barrel in the 1980s to about $5 per barrel by the end of the 1990s, and in the North Sea to less than $3 per barrel.

A trigger. Non-OPEC countries were able to get into the act, and production rose by more than 4 million barrels a day over the past two decades. There was a steady decline in oil prices, leading to their collapse in 1998 to below $10 per barrel. The impact of these excessively low prices provoked oil countries to cut production three times. Couple those cuts with more demand in a recovering Asia, and the industrialized world consuming more oil than it produces, and we reach the point where today prices are high enough to trigger inflation and diminish economic well-being. The production limits have not simply stabilized prices but raised them significantly above their marginal or incremental cost.

What can the United States do? The clamor to dip into our strategic petroleum reserves makes no sense. The OPEC countries could simply respond with more cuts. Nor can we countenance giving Iraq more leeway as some countries want to do; in any event Iraq remains badly crippled by a shortage of parts and equipment. The president is taking the best approach by trying to persuade the OPEC countries that it is in everyone's interest for them to produce more. The very able secretary of energy, Bill Richardson, has met with the ministers of leading oil producers to convey U.S. concern that soaring oil prices caused by production quotas can very well jeopardize world economic growth and plunge us back into another era of stagflation. We are calling on some established relationships to help us get our point across. We expended blood for Saudi Arabia and Kuwait in the gulf war, and we saved Mexico from a total financial crash with a nearly $50 billion aid package.

The Saudis are key. They made the original cuts possible by abandoning their production floor of 8 million barrels per day and working with the Iranians to restrain output still more. Saudi Arabia has such vast stores of oil that its national interest is in stretching out the life of petroleum in the international economy as far as possible and preventing excessively high prices from encouraging other sources of energy to emerge as a substitute for their oil.

Many of the other producing countries have a much shorter time horizon, because of the size of their population and their reserves. Fortunately, attitudes are beginning to shift among the oil countries in favor of increasing production, which would in turn lower prices. If these countries increased production by a couple of million barrels a day in several staged hikes, the price would drop and settle at around $20 to $23 a barrel, which would be a fair return and relieve inflationary pressures. Will it happen? It was with a production increase in mind that Mexico, Venezuela, and Saudi Arabia met on March 2 as a prelude to the OPEC meeting on March 27 in Vienna. If these countries value their relationships with the United States and the rest of the trading world, it should be a moment when the shadows begin to fade.



JWR contributor Mort Zuckerman is editor-in-chief and publisher of U.S. News and World Report. Send your comments to him by clicking here.

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© 2000, Mortimer Zuckerman