The phrase oil market should always come with a “*”. Oil’s history is a succession of long periods where some actor sought to control prices, punctuated by occasional periods of free-for-all (usually coincided with crashes). Standard Oil, the Seven Sisters, the Texas Railroad Commission and OPEC were would-be cartels. Today, we have OPEC+, wherein Saudi Arabia seeks to nudge prices this way or that (but usually up) using spare capacity and Russia, with slightly less finesse, invades neighbors and threatens cutoffs.
And we also have Uncle Sam. Bloomberg News reports that the Biden administration is considering buying crude to refill the Strategic Petroleum Reserve when prices drop below $80 a barrel (Nymex near month futures are just under $90 right now). This is not a complete surprise. Almost 140 million barrels, or 24%, have been drained from the SPR since March, when the International Energy Agency agreed an emergency release in response to Russia’s attack on Ukraine. Meanwhile, the Department of Energy has proposed modifying its procedures for refilling the SPR, including the use of fixed price contracts for future delivery.
Before getting to the specifics of that, it’s important to acknowledge the US has long been a huge interventionist in the oil market. How could it not given it is the biggest consumer and the de facto security guarantor of the seaborne oil trade and prominent Middle Eastern producers? In recent years, an ever-increasing proportion of global oil production has become subjected to US sanctions. The championing of markets to counter price-fixers has given way to dreams of “energy dominance.” Diplomacy, both quiet and overt — like Biden’s recent, and reluctant, visit to Riyadh — is a constant in this most vital of markets.
The novel aspect of this new approach to the SPR is the signaling of an effective put in oil prices (the reported $80 level). This is explicitly a bone thrown to US oil producers, as the White House laid out in July:
By instead allowing for the price to be fixed at the time the transaction is executed between the parties, this regulatory change would provide greater certainty to producers regarding the revenues they could expect to generate if they produce more crude oil in the short-term …
Biden has been attempting to pull off a fiendishly difficult balancing act that can be summed up as “drill, baby, don’t drill.” His green agenda explicitly seeks to drastically curb oil demand over time. But, as inflation and the Ukraine war have reminded us, there is also a critical need to maintain supply of the energy we rely on today.
Contradictions abound. Biden has sought to slow drilling and launched verbal volleys at the oil industry for profiteering. Yet he has also sought to encourage oil production, including with these fixed-price purchase proposals, and, in releasing strategic barrels, ease pump prices even as he tries to foster a switch to electric vehicles. There is also something a bit weird about refilling the SPR with oil just so that it can be disposed of again under future Congressionally-mandated sales — why not just net off this year’s sales? On that point, Washington-based analytics firm ClearView Energy Partners says the desire to encourage domestic production, among other reasons, may make it politically useful to take the convoluted approach.
The SPR has long been a strange feature of the oil landscape, in part because the president has such discretion over it and there is never a consensus on what constitutes an emergency. Even a major land-war in Europe combined with post-pandemic disruptions can be deemed a fig-leaf for an unpopular president trying to cram down pump prices ahead of midterms. For decades, the SPR has been largely seen as dead oil; a number on a ledger, inherently political, that most analysts backed out of their inventory calculations.
If we are witnessing the SPR moving from an untouched savings account to something more like a checking account, that has potentially far-reaching implications. For one thing, analysts would have to stop backing out the SPR; as would the industry itself in judging the right level of commercial stocks to hold and finance.
More importantly, the US will have joined Saudi Arabia in explicitly attempting to manage the oil market with the release or withdrawal of liquidity (and luckily they always see eye to eye). China, too, as it happens, which has this past decade also put a floor under the market by filling its own strategic reserve when prices softened, although not explicitly as a favor to domestic producers.
In a way, shale producers should find at least one thing to like about this approach. Investors gave up on the oil-price option embedded in producers’ stock prices several years ago; stability is the prize these days, rather than the prospect of future surge pricing. I’m half joking.
The problem is that the SPR, always primarily a political tool, would now be a more actively-used one and, given the state of our politics, a rather unpredictable one. If a recession hits — or deepens, depending on your current view — and oil crashes to, say, $60, how would fixed price purchases at $80 a barrel look then? How should producers view the SPR as Congress and the White House shift around — or not — every two-to-four years? The underlying issue, of needing to reduce fossil fuel consumption while keeping enough capacity around to get there, remains; as does the outsized influence of gasoline prices on our elections.
These are, again, not entirely new risks but latent ones amplified by the breaking of the taboo on using those dormant barrels. There is no magic level for the SPR, especially for a country that has transformed from the biggest net importer of oil in the world to the biggest producer and a small net exporter.
Rather, coming alongside a host of market interventions in the US, Europe and elsewhere, a dynamic SPR adds to the sense that we have entered a new age of intervention in global energy. This is, by reason of its extent, a sea change. While it has its roots in everything from climate change to the aftermath of the 2008 financial crisis, the primary motivation is to shield consumers from raw market forces. That can be justified in an emergency. As a permanent state of affairs, we can confidently expect unintended consequences.More from Bloomberg Opinion:
• Bernie Sanders Is Wrong About Natural Gas: Karl W. Smith
• Biden Should Give the Oil Industry a Bailout: Matthew Yglesias
• OPEC Sings the Same Old Song Just With New Lyrics: Julian Lee
This column does not necessarily reflect the opinion of the editorial board or Bloomberg LP and its owners.
Liam Denning is a Bloomberg Opinion columnist covering energy and commodities. A former investment banker, he was editor of the Wall Street Journal’s Heard on the Street column and a reporter for the Financial Times’s Lex column.
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