How the oil boom could change U.S. foreign policy

January 16

The United States is suddenly awash in crude oil. From 2008 to 2013, domestic oil production rose by 2.5 million barrels per day — the biggest five-year increase in the country's history. Last year, U.S. produced more oil than it imported for the first time since 1995.

The Valero refinery in Port Arthur, Tex., glows in the dusk. The state of Texas has placed a historical plaque noting the oil boom that started in 1901. (Michael S. Williamson / The Washington Post)
The Valero refinery in Port Arthur, Tex., glows in the dusk. (Michael S. Williamson/The Washington Post)

So what does that mean for the rest of the world? Or for U.S. foreign policy? Well, for starters, it probably doesn't mean that Americans can now safely ignore the Middle East. The U.S. economy is still heavily reliant on oil, and prices are still largely swayed by what goes on in the global markets. Disruptions in places like Saudi Arabia, Iran or Iraq still have a big impact. That's one conclusion of a major new report by a commission of former generals and senior officials, backed by Securing America's Energy Future (SAFE).

"The oil boom has sparked a lot of loose talk about how we can now ignore what goes on in the Middle East," said Adm. Dennis Blair, a former director of National Intelligence who led the commission, in an interview Tuesday. "But that's just not true."

Blair pointed out that the oil boom has already had some impact on U.S. foreign policy. For example, increased North American oil production likely allowed the United States and Europe to impose stricter sanctions on Iran without worrying as much about resulting price spikes. There are also early, tentative signs that China could become more cooperative on Middle East issues now that the fast-growing nation has displaced the United States as the biggest oil importer from the region.

But what's arguably more telling is how much hasn't changed. Even with the boom, the United States is still quite vulnerable to oil shocks. As such, the SAFE report proposes a number of policy steps to deal with that, from working with China to protect global oil shipping lanes to developing more predictable guidelines for using strategic petroleum reserves. It also calls for a renewed push to curtail the U.S. economy's dependence on oil, such as shifting to alternative vehicle fuels such as electricity and natural gas. After all, even with the shale boom, U.S. production is still expected to peak by 2020 or so.

The report also offers a detailed look at how the U.S. oil boom is upending the world energy markets and affecting everyone from African oil producers to China and Russia. Here are six highlights:

1) Even as imports dwindle and efficiency improves, the U.S. is still spending as much on oil as it did in the 1970s:


The United States has seen a colossal surge in oil production over the past five years. And Americans are becoming increasingly oil-efficient (that's what the orange dotted line shows). As a result, U.S. imports keep dwindling.

Nonetheless, the United States is still spending as much on oil, as a share of its economy, as it did back in the late 1970s. Even as we use less and less crude oil to get by, global prices keep surging — in part because of growing demand from China and India. That means the United States is still very exposed to what happens in global energy markets.

2) The world is losing its capacity to deal with serious supply disruptions:


Oil prices are a function of global supply and demand. And one way to gauge the balance between supply and demand is to look at the "spare capacity" that Saudi Arabia and other OPEC countries have on hand. This is the oil production that these countries essentially keep in reserve. It's a way to manipulate markets. But it's also extra oil that can be released in the event of a sudden shortage.

Historically, OPEC has tried to keep spare capacity at about  4 percent of global oil demand. But as the world's thirst for oil has increased, and supply has struggled to keep pace, that spare capacity has dwindled. That means that disruptions in places such as the Middle East — say, a war in Syria or violence in Iraq or labor unrest in Libya — can cause sharp lurches in global oil prices. (And, in fact, those sorts of disruptions became much more common between 2011 and 2013.)

The two charts above help illustrate why the SAFE report argues that the United States isn't yet in a position where it can just stop worrying about what goes on in the Middle East and elsewhere.

3) China is now the biggest importer of oil from the Middle East:


Thanks to the North American oil boom and dwindling U.S. imports, the United States is now less directly dependent on Middle East oil than China. Right now, however, the U.S. still shoulders much of the burden for maintaining the flow of oil  in the Middle East — such as using its Navy to protect the Strait of Hormuz, which about one-fifth of the world's petroleum passes through.

This role reversal is likely to continue in the years ahead. China became the world's biggest oil importer in 2013. And by some projections, Chinese oil demand could account for 40 percent of demand growth by 2025. "Increasingly vulnerable to oil supply disruptions," the report notes, "China could grow more assertive as a global power."

In response, the report suggests that U.S. policymakers try to find points of cooperation on energy issues while possibly finding ways for China to share more of the burden for operations to protect oil shipping.

4) Africa is becoming increasingly less important to the U.S. as an oil source:


The biggest geopolitical shift from the U.S. oil boom? The United States now imports far less oil from Africa than it used to. Case in point: Nigeria used to send a dozen supertankers worth of crude each month to the U.S. That's shrunk down to about three.

Many of these African oil producers are now struggling to find buyers — Europe is a temporary solution for countries such as Angola and Nigeria, but that may not last. As a result, many of these countries' economies will be extremely vulnerable to downward swings in oil prices for the foreseeable future. And, the report argues, they're likely to deepen ties with Asian countries like China as they try to find new markets.

5) The extent of the U.S. oil boom will depend a lot on what global prices do:


This is a great chart showing what oil prices are necessary to sustain different types of crude production. So, for instance, countries in the Middle East and North Africa can keep pumping out oil at a profit even when prices drop to $30 a barrel.

It's a different story in the United States, however. Production of "light tight oil," like that in North Dakota and Texas, typically requires higher prices (between $50 a barrel and $100 a barrel).

The flip side, however, is that many OPEC countries need high prices  to sustain the social spending they've ramped up in recent years. By some estimates, Saudi Arabia needs oil prices to stay at about $82 a barrel to maintain its current budget. Iraq needs prices around $104 per barrel. Russia's "break-even" point might be even higher. So there are a lot of nations that would actually prefer to keep prices high.

6) The future of global oil markets (and oil prices) is still very uncertain:


The SAFE report sketches out four scenarios for how supply and demand for oil could unfold between now and 2025. All have different implications for the United States:

— Reference: This is what the big forecasters are currently predicting. Global demand keeps growing modestly (to 99.3 million barrels per day). Supplies mostly keep up, as both OPEC nations and countries like the United States boost production. Prices stay at more or less their current level.

— Flush: In this scenario, OPEC nations like Saudi Arabia figure out how to boost production to meet growing demand. Since OPEC oil is usually the cheapest to produce, global prices fall. In that case, investment drops in "unconventional" sources like shale oil in North Dakota or tar sands in Canada.

— Grind: In this scenario, global demand surges (to 103.7 million barrels per day). Saudi Arabia and other OPEC producers struggle  to keep up, so prices soar to much higher levels, which leads to increased demand for "unconventional" oil sources.

— Hypergrowth: This is a scenario in which demand soars, but supply somehow soars as well. This is pretty similar to the "Reference" scenario price-wise — it's just that everyone's using more oil.

The report notes that different scenarios would have wildly different effects around the world. For instance, if prices plunged, Russia would find it difficult to sustain its current level of government spending (especially since its domestic production levels are falling). By contrast, China's economy could see a massive slowdown if prices rose sharply.

That's why the report suggests that the United States be ready for any of these different scenarios. Much of the current discussions of the U.S. oil boom and foreign policy, it notes, "ignores the potential for wide-ranging uncertainty in current forecasts."

Further reading: How the oil and gas boom will change America: An interview with Michael Levi. He has a number of smart things to say on this topic.

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