[Senate Prints 109-64]
[From the U.S. Government Publishing Office]
109th Congress S. Prt.
2d Session COMMITTEE PRINT 109-64
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ENERGY DIPLOMACY AND SECURITY
__________
A COMPILATION OF
STATEMENTS BY WITNESSES
BEFORE THE
COMMITTEE ON FOREIGN RELATIONS
UNITED STATES SENATE
One Hundred Ninth Congress
Second Session
June 2006
Printed for the use of the Committee on Foreign Relations
Available via World Wide Web: http://www.gpoaccess.gov/congress/
index.html
_____
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COMMITTEE ON FOREIGN RELATIONS
RICHARD G. LUGAR, Indiana, Chairman
CHUCK HAGEL, Nebraska JOSEPH R. BIDEN, Jr., Delaware
LINCOLN CHAFEE, Rhode Island PAUL S. SARBANES, Maryland
GEORGE ALLEN, Virginia CHRISTOPHER J. DODD, Connecticut
NORM COLEMAN, Minnesota JOHN F. KERRY, Massachusetts
GEORGE V. VOINOVICH, Ohio RUSSELL D. FEINGOLD, Wisconsin
LAMAR ALEXANDER, Tennessee BARBARA BOXER, California
JOHN E. SUNUNU, New Hampshire BILL NELSON, Florida
LISA MURKOWSKI, Alaska BARACK OBAMA, Illinois
MEL MARTINEZ, Florida
Kenneth A. Myers, Jr., Staff Director
Antony J. Blinken, Democratic Staff Director
(ii)
C O N T E N T S
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Page
Letter of Introduction........................................... v
``U.S. Energy Security--A New Realism'' speech delivered by Hon.
Richard G. Lugar on March 13, 2006, at the Brookings
Institution.................................................... vii
June 7, 2006
Hon. Richard G. Lugar, U.S. Senator from Indiana, Chairman, U.S.
Senate Committee on Foreign Relations.......................... 1
Hon. Joseph R. Biden, Jr., U.S. Senator from Delaware, Ranking
Member, U.S. Senate Committee on Foreign Relations............. 3
Hon. Alan Greenspan, President, Greenspan Associates LLC,
Washington, DC................................................. 6
May 16, 2006
Hon. Richard G. Lugar, U.S. Senator from Indiana, Chairman, U.S.
Senate Committee on Foreign Relations.......................... 11
Hon. Joseph R. Biden, Jr., U.S. Senator from Delaware, Ranking
Member, U.S. Senate Committee on Foreign Relations............. 13
Vinod Khosla, Partner, Khosla Ventures, Menlo Park, CA........... 15
Jason S. Grumet, Executive Director, National Commission on
Energy Policy, Washington, DC.................................. 23
March 30, 2006
Hon. Richard G. Lugar, U.S. Senator from Indiana, Chairman, U.S.
Senate Committee on Foreign Relations.......................... 41
Hon. Joseph R. Biden, Jr., U.S. Senator from Delaware, Ranking
Member, U.S. Senate Committee on Foreign Relations............. 44
Milton R. Copulos, President, National Defense Council
Foundation, Alexandria, VA..................................... 46
Dr. Hillard Huntington, Executive Director, Energy Modeling
Forum, Stanford University, Stanford, CA....................... 53
Dr. Gary W. Yohe, John E. Andrus Professor of Economics, Wesleyan
University, Middletown, CT..................................... 57
November 30, 2005
Hon. Richard G. Lugar, U.S. Senator from Indiana, Chairman, U.S.
Senate Committee on Foreign Relations.......................... 63
Hon. James Schlesinger, Senior Advisor, Lehman Brothers,
Washington, DC................................................. 66
Hon. R. James Woolsey, Vice President, Booz Allen Hamilton,
McClean, VA.................................................... 70
(iii)
LETTER OF INTRODUCTION
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June 8, 2006.
Dear Colleague: The Committee on Foreign Relations is
continuing to hold a series of hearings examining the
geopolitical consequences of global energy imbalances and U.S.
dependence on energy imports. Given the growing importance of
energy security in our foreign policy today and the prominence
of energy in our ongoing policy debates, I believe it is
important that these analyses be made available to the entire
Senate.
The current United States energy portfolio, and in
particular our dependence on foreign oil, has widespread and
dramatic impacts on our national security. On March 13, 2006,
in a speech at the Brookings Institution, I outlined the scope
of the challenge before us, including myriad threats to our
national security and economic prosperity. Over the past few
months, the Committee held several hearings focusing on these
threats caused by our current dependence on oil.
The Honorable Alan Greenspan, former Chairman of the
Federal Reserve, testified on the subject of ``Oil Dependence
and Economic Risk'' at a hearing on June 7, 2006, including the
vulnerabilities of the current global oil market and the need
for reducing the dominance of oil in our energy portfolio.
On May 16, 2006, the Committee examined strategies to
reduce our oil dependence at a hearing on ``Energy Security and
Oil Dependence.'' Mr. Vinod Khosla, Partner of Khosla
Associates, and Mr. Jason Grumet, Executive Director of the
National Commission on Energy Policy offered testimony.
A hearing on March 30, 2006, entitled ``Hidden Costs of
Oil'' focused on understanding the full range of economic costs
associated with U.S. oil dependence. Testimony was heard from
Mr. Milton Copulos, President of the National Defense Council
Foundation, Dr. Hillard Huntington, Executive Director of the
Energy Modeling Forum at Stanford University, and Dr. Gary
Yohe, John E. Andrus Professor of Economics at Wesleyan
University.
On November 16, 2005, The Honorable James Schlesinger,
former Secretary of Defense, Secretary of Energy, and Director
of Central Intelligence, and The Honorable R. James Woolsey,
former Director of Central Intelligence, gave testimony on the
severity of the challenges posed by energy security at a
hearing entitled ``High Costs of Crude: The New Currency of
Foreign Policy.''
I believe that the information contained in this print can
be helpful in preparing Members for subsequent Senate debate on
this issue of vital national security interest.
Sincerely,
Richard G. Lugar, Chairman,
Senate Committee on Foreign Relations.
U.S. Senate Foreign Relations Committee Chairman, Richard G. Lugar,
addressed the Brookings Institution, March 13, 2006, on ``U.S. Energy
Security--A New Realism.''
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It is a privilege to deliver the inaugural speech for the
Brookings Institution's 90th Anniversary Leadership Forum
series. I have had the opportunity to come here to share my
thoughts on a number of national security issues over the
years, and your reception has always been generous. I
appreciate very much receiving the invitation to speak from my
good friend, Strobe Talbott, who has been a source of sound
counsel for many years and who continues to provide outstanding
national and international leadership.
Last August, I represented President Bush on a diplomatic
mission to North Africa. The President asked me to go to
Algeria and Morocco to facilitate the release of the longest-
held prisoners of war in the world--404 Moroccan soldiers, some
of whom had been held since the 1970s by the Polisario Front
operating out of Algeria. American diplomats had discussed
their potential release, and General Jim Jones, Supreme Allied
Commander Europe, had offered to transport the POWS home to
their families in Morocco. After this humanitarian mission had
been fulfilled, I had the opportunity, with the
Administration's blessing, to continue on to Libya for meetings
with Libyan officials, including Muammar Qaddafi.
While staying overnight in the Corinthia Hotel in Tripoli,
overlooking the Mediterranean, I came face to face with a
microcosm of the new reality of global economic life. It was
impossible to walk around the hotel without meeting someone who
was hoping to tap into Libya's oil reserves. The hotel was
populated with representatives from China, India, and Western
oil companies who were in Libya to stake out drilling or
refining options for every pool of oil that the government
might make available. The world had come to the Corinthia Hotel
to compete for the energy opportunities that were expected to
develop with Libya's hopeful return to the international
mainstream.
I relate this anecdote to underscore how rapidly the world
is changing due to the expansion of energy demand. These
conclaves of modern day oil prospectors can be found wherever
there are proven energy supplies and a government willing to
bargain. Indeed, my delegation also saw evidence of this in
natural gas-rich Algeria. The Chinese and Indians, with one
third of the world's people between them, know that their
economic future is directly tied to finding sufficient energy
resources to sustain their rapid economic growth. They are
negotiating with anyone willing to sell them an energy
lifeline.
the shifting balance of realism
The gasoline price spikes following the Katrina and Rita
hurricanes underscored for Americans the tenuousness of short-
term energy supplies. But, as yet, there is not a full
appreciation of our economic vulnerability or the competition
that is already occurring throughout the world.
In a remarkable moment during the State of the Union
Address, President Bush caught the attention of the nation with
five words: ``America is addicted to oil.'' Those five words
probably generated more media commentary than all the rest of
his remarks from that evening combined. I had an opportunity
soon after the speech to talk to the President about energy,
and he admitted that he had not anticipated the impact of that
statement or that some commentators would find it incongruous.
I believe he is genuine in wanting to devote more focus to
pursuing alternative energy sources. But his Texas roots, his
administration's high-profile advocacy of opening up the Arctic
National Wildlife Refuge to drilling, and other associations
with the oil industry have created long-standing public
impressions that the President is an oil-man who believes in
the oil economy.
Though not hostile to alternative energy sources, the Bush
administration clearly downplayed their significance during the
early part of his Presidency. Vice President Cheney, who
oversaw Bush administration energy policy, stated on April 30,
2001, ``Years down the road, alternative fuels may become a
great deal more plentiful than they are today. But we are not
yet in any position to stake our economy and our way of life on
that possibility. For now, we must take the facts as they are.
Whatever our hopes for developing alternative sources and for
conserving energy--and that's part of our plan--the reality is
that fossil fuels provide virtually 100 percent of our
transportation needs and an overwhelming share of our
electricity requirements. For years down the road, this will
continue to be true.''
For decades, the energy debate in this country has pitted
so-called pro-oil realists against idealistic advocates of
alternative energy. The pro-oil commentators have attempted to
discredit alternatives by saying they make up a tiny share of
energy consumed and that dependence on oil is a choice of the
marketplace. They assert that our government can and should do
little to change this. They have implied that those who have
bemoaned oil dependency do not understand that every energy
alternative comes with its own problems and limitations. Lee
Raymond, the former CEO of Exxon offered an example of this
line of reasoning in 2005: ``There are many alternative forms
of energy that people talk about that may be interesting. But
they are not consequential on the scale that will be needed,
and they may never have a significant impact on the energy
balance. To the extent that people focus too much on that--for
example, on solar or wind . . .--what they are doing is
diverting attention from the real issues. And 25 years from
now, even with double-digit growth rates, they will still be
less than 1 percent of the energy supplied to meet worldwide
demand. I am more interested in staying focused on the 99
percent than the 1 percent.''
Indeed, advocates of alternative energy must resist the
rhetorical temptations to suggest that energy problems are
easily solved. They are not. Relieving our dependence on oil in
any meaningful way is going to take much greater investments of
time, money, and political will. There is no silver bullet
solution. But the difficulty of solving the problem does not
make it any less necessary. The President's State of the Union
address indicates that he understands this.
Whether or not one classifies America's oil dependence as
an addiction, the bottom line is that with less than 5 percent
of the world's population, the United States consumes 25
percent of its oil. If oil prices remain at $60 a barrel
through 2006, we will spend about $320 billion on oil imports
this year. Most of the world's oil is concentrated in places
that are either hostile to American interests or vulnerable to
political upheaval and terrorism. And demand for oil will
increase far more rapidly than we expected just a few years
ago. Within 25 years, the world will need 50 percent more
energy than it does now.
With these basics in mind, my message is that the balance
of realism has passed from those who argue on behalf of oil and
a laissez faire energy policy that relies on market evolution,
to those who recognize that in the absence of a major
reorientation in the way we get our energy, life in America is
going to be much more difficult in the coming decades. No one
who cares about U.S. foreign policy, national security, and
long-term economic growth can afford to ignore what is
happening in Iran, Russia, Venezuela, or in the lobby of the
Corinthia Hotel in Tripoli. No one who is honestly assessing
the decline of American leverage around the world due to our
energy dependence can fail to see that energy is the albatross
of U.S. national security.
We have entered a different energy era that requires a much
different response than in past decades. What is needed is an
urgent national campaign led by a succession of Presidents and
Congresses who will ensure that American ingenuity and
resources are fully committed to this problem.
We could take our time if this were merely a matter of
accomplishing an industrial conversion to more cost effective
technologies. Unfortunately, U.S. dependence on fossil fuels
and their growing scarcity worldwide have already created
conditions that are threatening our security and prosperity and
undermining international stability. In the absence of
revolutionary changes in energy policy, we are risking multiple
disasters for our country that will constrain living standards,
undermine our foreign policy goals, and leave us highly
vulnerable to the machinations of rogue states.
The majority of oil and natural gas in the world is not
controlled by those who respect market forces. Geology and
politics have created petro-superpowers that nearly monopolize
the world's oil supply. According to PFC Energy, foreign
governments control up to 77 percent of the world's oil
reserves through their national oil companies. These
governments set prices through their investment and production
decisions, and they have wide latitude to shut off the taps for
political reasons.
I am not suggesting that markets won't eventually come into
play to move America away from its oil dependence. Eventually,
because of scarcity, terrorist attacks, market shocks, and
foreign manipulation, the high price of oil will lead to
enormous investment in and political support for alternatives.
Given enough time, overcoming oil dependence and imbalances is
well within the scope of human, and indeed American, ingenuity.
The problem is that such investment cannot happen overnight,
and even if it did, it will take years or even decades to build
supporting infrastructure and change behavior. In other words,
by the time a sustained energy crisis fully motivates the
market, we are likely to be well past the point where we can
save ourselves. Our motivation will come too late and the
resulting investment will come too slowly to prevent the severe
economic and security consequences of our oil dependence. This
is the very essence of a problem requiring government action.
The first step is to admit how grave the problem is.
Hopefully, we will look back on President Bush's declaration
that America is ``addicted to oil'' as a seminal moment in
American history, when a U.S President said something contrary
to expectations and thereby stimulated change. Like President
Nixon using his anticommunist credentials to open up China or
President Johnson using his Southern roots to help pave the way
for the Civil Rights Act, President Bush's standing as an oil
man would lend special power to his advocacy, if he chose to
initiate an all-out campaign for renewable energy sources.
six threats
As a national security problem, energy is unique in that
the risks we face from this single condition are diverse and
are intensifying simultaneously. In fact, our energy dependence
creates at least six different threats that could directly or
indirectly undermine American security and prosperity. Each of
these threats could be the subject of its own speech, but
today, I will provide an abbreviated review.
First, as we have seen, oil supplies are vulnerable to
natural disasters, wars, and terrorist attacks that can disrupt
the lifeblood of the international economy. The entire nation
felt the spike in prices caused by Hurricanes Katrina and Rita
last year. But these shocks, which helped send the price of oil
to $70 a barrel, were minor compared to what would occur if
major oil processing facilities in Saudi Arabia were sabotaged.
In late February, terrorists attempted such an attack. They
penetrated the outer defenses of Saudi Arabia's largest oil
processing facility with car bombs before being repulsed. A
successful terrorist attack--either through conventional ground
assaults, suicide attacks with hijacked aircraft, terrorist
inspired internal sabotage, or other means--would be
devastating to the world economy. Al-Qaeda and other terrorist
organizations have openly declared their intent to attack oil
facilities to inflict pain on Western economies.
Recently, we have also seen the shutdown of a fifth of
Nigeria's production by militants, and Iraq's continuing
struggle to expand its oil production capacity amidst terrorist
attacks.
The vulnerability of oil supplies is not a new concern. But
the lack of spare oil production capacity is new. As recently
as 4 years ago, spare production capacity exceeded world oil
consumption by about 10 percent. As world demand for oil has
rapidly increased in the last few years, spare capacity has
declined to less than 2 percent. Thus, any major disruption of
oil creates scarcity that will drive prices up.
These circumstances require massive expenditures to
preserve our oil lifeline. One conservative estimate puts U.S.
oil-dedicated military expenditures in the Middle East at $50
billion year.
Second, over time, even if oil and natural gas supplies are
not disrupted in dramatic ways that produce local or global
economic shocks, worldwide reserves are nevertheless
diminishing. This is occurring within the context of explosive
economic growth in China, India, Brazil, and many other
nations. The demand for energy from these industrializing
giants is creating unprecedented competition for oil and
natural gas.
Americans paid 17 percent more for energy in 2005 than in
the previous year. That increase accounted for 40 percent of
the rise in the consumer price index. Last November, we spent
more than $24 billion on oil imports, accounting for more than
a third of our trade deficit.
To meet world oil demand, the International Energy Agency
estimates a need for $17 trillion in investment, with the bulk
going to the Middle East. But political and economic conditions
may not let this investment happen. Even if some investment
does occur and reserves prove to be much larger than
anticipated, there is no guarantee that hostile governments
will either choose to develop new capacity or make any new oil
available to the United States.
In the decades to come, price will not be the only issue.
We will face the prospect that the world's supply of oil may
not be abundant and accessible enough to support continued
economic growth in both the industrialized West and in large
rapidly growing economies. As we approach the point where the
world's oil-hungry economies are competing for insufficient
supplies of energy, oil will become an even stronger magnet for
conflict and threats of military action, than it already is.
Third, the use of energy as an overt weapon by producing
nations is not a theoretical threat of the future; it is
happening now. Oil and natural gas are the currency through
which energy-rich countries leverage their interests against
import dependent nations such as ours. Iran has repeatedly
threatened to cut off oil exports to selected nations if
economic sanctions are imposed against it. Similarly Hugo
Chavez in Venezuela has issued threats of an oil export embargo
against the United States.
In January, Ukrainians were confronted by a Russian threat
to cut off natural gas exports in mid-winter if Ukraine did not
submit to a four-fold price increase. Russia took action to
deny some natural gas to Ukraine. The dispute led to sharp
drops in gas supplies reaching European countries that depend
on natural gas moving through Ukrainian pipelines from Russia.
Russia charged that Ukraine was diverting gas intended for
Austria, Italy, France, Hungary and other European nations.
Eventually, the confrontation was resolved with a near doubling
of the price of natural gas sold by Russia to Ukraine. In
contrast, Russia did not inflict such a price increase on
Belarus, considered by Moscow to be a good partner, compared to
the pro-Western Ukrainian Government. The episode underscored
the vulnerability of consumer nations to their energy
suppliers.
We are used to thinking in terms of conventional warfare
between nations, but energy is becoming the weapon of choice
for those who possess it. It may seem to be a less lethal
weapon than military forces, but a natural gas shutdown to
Ukraine in the middle of winter could cause death and economic
loss on the scale of a military attack. Moreover, in such
circumstances, nations would become desperate, increasing the
chances of armed conflict and terrorism. The use of energy as a
weapon might require NATO to review what alliance obligations
would be in such cases.
Fourth, even when energy is not used overtly as a weapon,
energy imbalances are allowing regimes in countries that are
rich in oil and natural gas to avoid democratic reforms and
insulate themselves from international pressure and the
aspirations of their own people.
We are seeing Iran and Venezuela cultivate energy
relationships with important nations that are in a position to
block economic sanctions. For decades, we have watched Saudi
Arabia and other gulf states use oil wealth to create domestic
conditions that prevent movement toward democracy. In Russia
and Nigeria, energy assets have offered opportunities for
corruption. In many oil rich nations, oil wealth has done
little for the people, while ensuring less reform, less
democracy, fewer free market activities, and more enrichment of
elites.
Beyond the internal costs to these nations, we should
recognize that we are transferring hundreds of billions of
dollars each year to some of the least accountable regimes in
the world. Some are using this money to invest abroad in
terrorism, instability, or demagogic appeals to populism.
At a time when the international community is attempting to
persuade Iran to live up to its nonproliferation obligations,
our economic leverage on that country has declined due to its
burgeoning oil revenues. If one tracks the arc of Iran's
behavior over the last decade, its suppression of dissent, its
support for terrorists, and its conflict with the West have
increased in conjunction with its oil revenues, which soared by
30 percent in 2005.
Sometimes observers comfort themselves with the thought
that most U.S. imports come from friendly nations such as
Canada and Mexico, rather than from Iran or other problematic
countries. But oil is a globally priced commodity. Even if our
dollars are not going directly to Iran, this does not mean that
our staggering consumption of oil is not contributing to the
price paid to Iran by other consumers.
Fifth, the threat of climate change has been made worse by
inefficient and unclean use of nonrenewable energy. In the long
run this could bring drought, famine, disease, and mass
migration, all of which could lead to conflict and instability.
There are no unilateral solutions to climate change. I have
urged the Bush administration and my colleagues in Congress to
return to a leadership role on the issue of climate change. I
have advocated that the United States must be open to
multilateral forums that attempt to achieve global solutions to
the problem of greenhouse gases.
Our scientific understanding of climate change has advanced
significantly. We have better computer models, more
measurements, and more evidence--from the shrinking polar caps
to expanding tropical disease zones for plants and humans--that
the problem is real and is caused by man-made emissions of
greenhouse gases, including carbon dioxide from fossil fuels.
Sixth, our efforts to stem terrorist recruitment and
prevent terrorist cells and training grounds in the developing
world are being undercut by the high costs of energy. The
economic impact of high oil prices is far more burdensome in
developing countries than in the developed world. Generally,
developing countries are more dependent on imported oil, their
industries are more energy intensive, and they use energy less
efficiently.
The United Nations Conference on Trade and Development
estimates that non-OPEC developing nations spend 3.5 percent of
their GDP or more on imported oil--roughly twice the percentage
paid in the main OECD countries. World Bank research shows that
a sustained oil-price increase of $10 per barrel will reduce
GDP by an average of 1.47 percent in countries with a per-
capita income of less than $300. Some of these countries would
lose as much as 4 percent of GDP. This compares to an average
loss of less than one half of one percent of GDP in OECD
countries. Some nations, such as Nepal and the Democratic
Republic of the Congo, would experience GDP losses from a
sustained $10 increase in the price of a barrel of oil that are
twice the amount of foreign assistance that they receive from
the United States. Even a nation like Ethiopia, which receives
the substantial sum of $134 million in U.S. assistance because
it is a focus country of the President's AIDs initiative, would
see almost all of this offset by a $10 oil price increase.
Last week I chaired a Senate Foreign Relations Committee
hearing on the nomination of Randy Tobias to be the new
Administrator for USAID. In this capacity he would oversee a
large share of our foreign assistance budget, which now exceeds
$20 billion per year. This budget is intended to meet our
humanitarian goals, but its success is also directly linked to
national security. But all of this effort and money, in
essence, can be wiped out merely by an increase in the price of
energy.
Without a diversification of energy supplies that
emphasizes environmentally friendly energy sources that are
abundant in most developing countries, the national incomes of
energy poor nations will remain depressed, with negative
consequences for stability, development, disease eradication,
and terrorism.
Each of these six threats from energy dependence is
becoming more acute as time passes. Any of them could be the
source of catastrophe. Any realistic American foreign policy
must redeploy diplomatic, military, scientific, and economic
resources toward solving the energy problem.
The basic dilemma for U.S. energy policy is how can our
Government speed up the transition to alternative renewable
energy sources so that we can prevent irreparable harm to our
nation or the world associated with these threats? The realist
must ask: How can we shape our energy future before it shapes
us in disastrous ways?
working toward energy security
American energy policy to date has suffered from two
fundamental flaws. First, we have let two decades of relatively
cheap oil and natural gas deepen our dependence on imports. An
approach that focuses on research, while ignoring deployment of
new fuels will not meet our national security challenge.
The second flaw is that we have lacked a truly
comprehensive energy policy with energy security as a strategic
goal. American energy policy has been focused on a narrow
definition of energy security that strived to ensure sufficient
supplies at affordable prices. This has translated into
policies promoting diversification in supplies of oil and
natural gas, with little emphasis on energy alternatives. A
policy that relies on a finite resource concentrated in a few
countries is doomed to failure. Our long-term security and
prosperity require sufficient, affordable, clean, reliable, and
sustainable energy.
A first component of energy security is to ensure
sufficient supplies. Our energy intensity per unit of GDP has
steadily decreased, but our energy consumption is still
projected to increase by more than a third over the next 25
years. This demand scenario is not inevitable. Public policy
can do more to promote efficiency while still growing the
economy. Expanded programs to enhance energy efficiency in
appliances, building construction, and industry are all
necessary to keep our energy intensity declining.
One third of our projected energy growth is in oil, a
majority of which we have to import. I have cosponsored a
bipartisan bill with Senators Bayh and Lieberman that would
require federal agencies to implement a plan to reduce U.S. oil
consumption by 10 million barrels a day by 2031. The
legislation contains many provisions to enhance energy
conservation--from tire efficiency to reduced school bus idling
to light-weight materials research.
Automakers have a central role to play in improving our oil
efficiency. We are working to close the SUV CAFE standards
loophole, and to get more hybrids and flex-fuel vehicles on the
road. A fleet of hybrid, and future plug-in hybrids, that run
on E-85 could reduce our oil use by 10 million barrels a day.
The bill I have cosponsored removes the cap on the number of
tax rebates for hybrid vehicles. It also fosters demand by
requiring that 30 percent of the government auto fleet be
hybrids and advanced diesels. With increased demand for fuel
efficient cars, new manufacturing facilities will be built that
provide jobs for Americans.
In partnership with the American auto industry, we should
provide a set of incentives that give them the opportunity to
regain their strength and save jobs through innovation. This
bill offers a 35-percent tax credit for automakers to retool
their factories so that they can make fuel efficient, advanced
technology vehicles.
Affordability of energy supplies also remains a key goal
for energy security. Crude oil still hovers around $60 a
barrel, and last October's price for natural gas was more than
double what it had been in the previous year. These high energy
prices increase inflation and inhibit future economic growth.
Elevated oil and natural gas prices do have the benefit of
making alternative fuels more competitive. With the end of 20
years of low oil and gas prices, investment in alternative
fuels has surged. As more is invested, innovation in technology
and production will drive prices down further. That is why it
is so important to get the first cellulosic ethanol facilities
up and running. The President said in his State of the Union
Address that he wanted to make cellulosic ethanol ``practical
and competitive within 6 years.'' In fact, one plant is ready
to be built in Idaho, and many others could be built within the
6-year timeframe. I have asked the President to make sure that
the loan guarantees that Congress authorized for cellulosic
ethanol production are in place by this summer.
As alternative fuels become more competitive, oil and gas
producers have strong incentive to drop prices to kill the
competition. Investors need to know that alternative energy
initiatives will continue to be competitive. A revenue-neutral
$35 per barrel price floor on oil would provide the security
investors need. At this price, alternative fuels like
cellulosic ethanol, shale and tar sands oil, and Fischer-
Tropsch diesel could still compete with regular gasoline. Many
analysts say that expensive oil is here to stay, but most
energy investors are hesitant to take on that risk. A modest
price floor for oil that we may never reach would provide a
major stimulation for energy alternatives.
Long-term energy security also requires the use of clean
energy, a third component of energy security. As long as we
continue to consume fuels that do not burn cleanly or cannot
have their damaging gases sequestered, we will continue to pay
environmental costs and will remain vulnerable to a climate
change induced disaster.
The Congress must pass legislation establishing a cap and
trade mechanism. A cap and trade system would provide
regulatory certainty, reward innovation to improve energy
efficiency, and provide strong market incentives for clean
renewable fuels. Any such system should give credit for carbon
sequestration in coal-fired plants and allow farmers and
foresters to sell credits for the carbon they sequester.
I have introduced a resolution that calls for America to
lead other nations to new agreements under the United Nations
Framework Convention on Climate Change. Thanks to new
technology, we can control many greenhouse gases with
proactive, progrowth solutions, not just draconian limitations
on economic activity. Industry and government alike recognize
that progress on climate change can go hand in hand with
progress on energy security, air pollution, and technology
development.
Even as we strive to reduce the prevalence of fossil fuel
in our energy portfolio, pragmatism requires that we diversify
to the greatest extent possible our sources of oil and natural
gas. I have supported opening ANWR for exploration. While we
continue to debate production there and on the outer
continental shelf, we have to carefully consider both the
security and economic benefits of more exploration, as well as
the environmental costs.
We must also ensure that we are not wasting fossil fuel
resources in end-use that could be fueled by other means. I am
encouraged by DuPont's commitment to replacing petrochemicals
with bio alternatives. This wise business choice leaves DuPont
less vulnerable to price spikes than competitors who still rely
exclusively on oil and gas.
With natural gas prices high, there is now a shift to coal-
fired electrical generation. New plants should favor coal,
which we have in abundance, over natural gas. I continue to
vigorously support the deployment of clean coal technology with
carbon sequestration.
We can also use coal to reduce our oil dependence. The
energy bill included legislation I coauthored with Senator
Obama authorizing $85 million for federal research into the
production of coal-based transportation fuels. One of the
technologies that will be encouraged by this program, the
Fischer-Tropsch process, yields a diesel fuel that is
compatible with existing vehicle technology. It is superior to
oil-derived fuel with respect to performance and emissions.
Another critical component of reliability is protection of
the physical infrastructure and transit of our energy supplies.
Terrorists have made clear their intentions to destroy
refineries and pipelines worldwide. At home, in addition to
power plants, ports, refineries, and platforms, we have 160,000
miles of oil pipelines. As the United States considers
liquefied natural gas and nuclear facilities, we must be
vigilant to the security implications.
While diversity in supplies at home and abroad is necessary
for more reliable energy in the coming decades, diversification
of sources for oil and gas is an outdated strategy that will
never bring energy security. Reserves are too concentrated and
infrastructure too vulnerable. Real diversity can only be
achieved by an energy portfolio dominated by sustainable
energy, the final component of energy security.
As we make policies to influence the composition of our
future energy portfolio, we should strive to consume fewer
hydrocarbons than we can produce domestically. This means more
clean coal and renewable fuels of all types. I am encouraged
that some states and municipalities are taking the initiative
to increase their use of renewables. With Congressman Pete
Visclosky, I am advocating a bill that will do that for
Indiana.
Our policies should be targeted to replace hydrocarbons
with carbohydrates. Obviously this is not a short-term
proposition, but we can off-set a significant portion of demand
for oil by giving American consumers a real choice of
automotive fuel. We must end oil's near monopoly on the
transportation sector, which accounts for 68 percent of
American oil consumption.
I believe that biofuels, combined with hybrid and other
technologies, can begin to move us away from our extreme
dependence on oil in the next decade. Corn-based ethanol is
already providing many Midwesterners with a lower cost fuel
option. Most of this is in a 10-percent ethanol mix, which is
fully compatible with nearly all vehicles. I have recently
called for my home State of Indiana to mandate that all gas
stations in the state offer a 10-percent blend.
Cellulosic ethanol, which is made of more abundant and less
expensive biomass, is poised for commercial take-off. I am
pleased the President now supports the ethanol research that
began under my legislation in 2000. I have long championed a
renewable fuels standard, and we finally passed a 7.5 billion
gallon ethanol mandate in the 2005 energy bill. The bill I am
cosponsoring with Senators Bayh and Lieberman will increase the
proportion of ethanol from cellulose that will be in that mix.
As our domestic ethanol industry strengthens and demand
grows, we will have to revisit the tariff we put on ethanol
imports. We do not want to trade oil import dependency for
biofuel import dependency, but trade in alternative energy also
creates jobs, provides new markets for our advance technology,
and diversifies our own supply. In the end, I believe the
United States is well positioned to produce ethanol at
competitive rates.
We have to make sure that consumers have access to E-85
ethanol. Already there are millions of E-85 capable vehicles on
the road. I have introduced legislation that would require
manufacturers to install flexible-fuel technology in all new
cars in the next 10 years. This is an easy and cheap
modification, which allows vehicles to run on a mixture of 85
percent ethanol and 15 percent gasoline, and will make their
products more attractive to consumers.
Next we have to make sure that consumers can buy the E-85
fuel. I'm pleased that many independent gas station owners are
taking advantage of the tax credit for E-85 pump installation
that we passed in the energy bill. I have cosponsored
legislation that would back loans for even more E-85 pumps. The
next challenge is to get E-85 distributed through the big gas
station chains. I've asked the oil majors about this, and they
have said that sufficient demand for E-85 does not exist. But
demand will not develop for something that consumers do not
have an option to buy. It is time for the oil companies to make
E-85 available to the consumer. If these companies do not take
advantage of the incentives Congress has provided, I would be
in favor of legislation mandating that they install E-85 pumps
in appropriate markets.
There is still more work to be done to tilt our energy
balance toward alternative fuels. That is why Senator Obama and
I will soon introduce a new bill that will promote other means
to move these fuels into additional markets and make them more
widely available for consumers. Among many provisions, the
Obama-Lugar bill would create an alternative diesel standard
comparable to the renewable fuels standard that I helped put
into the 2005 energy bill. It would also provide new incentives
for the production of flexible fuel vehicles. We believe that
U.S. national security will be served by more robust
coordination of all the elements that contribute to energy
security. Consequently, the bill also would establish the post
of Director of Energy Security, who would answer to the
President.
energy partnerships
As we pursue energy security at home, we must seek energy
partnerships abroad. This week, I will introduce framework
legislation that calls for a realignment of our diplomatic
priorities to meet energy security challenges. Partnerships
with foreign governments can help speed our conversion to real
energy security, rebalance power in geopolitics, and open new
markets for fuel technologies.
The ``Energy Diplomacy and Security Act'' calls upon the
Federal Government to expand international cooperation on
energy issues. This bill will enhance international
preparedness for major disruptions in oil supplies. A
particular priority is to offer a formal coordination agreement
with China and India as they develop strategic petroleum
reserves. This will help draw them into the international
system, providing supply reassurance, and thereby reducing
potential for conflict.
The bill would also stimulate regional partnerships in the
Western Hemisphere. Most of our oil and virtually all of our
gas imports come from this Hemisphere. The bill creates a
Western Hemisphere Energy Forum modeled on the APEC energy
working group. This would provide a badly needed mechanism for
hemispheric energy cooperation and consultation.
Finally, the bill calls for international partnerships with
both energy producers and consumers. In addition to seeking new
avenues of cooperation, the bill is intended to give focus to
existing bilateral energy dialogues, which have lacked clear
objectives and political backing.
We must engage major oil and natural gas producers. We
should advocate more transparency, improved investment
climates, and greater infrastructure security. Oil exporting
states wield power for which we must account. Not working with
these states will lead to unproductive political showdowns and
conflict. Even in challenging relationships such as Venezuela
and Russia, we must explore how to improve our energy dialogue.
Strategic energy partnerships with other major consuming
countries are crucial for our national security. Energy
security is a priority we hold in common with other import
dependent countries, which constitute 85 percent of the world's
population. Strategic partnership for energy security with the
world's largest consumers will increase leverage in relation to
petro-states. In November, I introduced S. 1950, a bill that
specifically targets India for enhanced cooperation on
alternative energy sources, such as clean coal technology and
biofuels.
To close, I would like to express my optimism for the
future. Our current energy balance is the result of industrial
and consumption choices of the past. Despite our import
dependence today, the United States is in a strong position to
choose a different path, a path toward real energy security.
Success would free future generations of Americans from the
energy dilemma that threatens to compromise our security and
prosperity. It could also lead to opportunities in many new
industries that could reinvigorate our economy. These are
problems that can be solved. We must act now. We must act
together.
Thank you.
``OIL DEPENDENCE AND ECONOMIC RISK''
Wednesday, June 7, 2006
------
Opening Statement
HON. RICHARD G. LUGAR
U.S. Senator From Indiana,
Chairman, Senate Committee on Foreign Relations
----------
The Foreign Relations Committee meets today to continue our
examination of the geopolitical consequences of energy
imbalances and U.S. dependence on energy imports. In previous
hearings, we have focused on quantifying the costs of U.S.
energy dependence and examining options for improving our
energy security. We also have explored in detail how energy is
shaping our relationships with other nations, including India,
China, and the Persian Gulf states. Later this month, we will
have hearings that look at energy in the context of our
relationships with Latin America and Russia.
Today, with the help of our esteemed witness, former
Federal Reserve Chairman Alan Greenspan, we will have a unique
opportunity to examine the economic effects of U.S. energy
dependence. We are delighted that Chairman Greenspan has joined
us today. He has given extraordinary service to our country
over many years, and nobody speaks with greater authority on
the U.S. economy. His presence here, for his first
congressional testimony since leaving the Federal Reserve, is a
testament to the economic importance he ascribes to solving our
energy dilemma.
The Foreign Relations Committee has devoted intense
scrutiny to energy issues because we believe that America's
national security and economic well being depend on reducing
our dependence on foreign oil and establishing more
predictable, transparent, and cooperative relationships with
both producer and consumer nations. To this end, I have
introduced the Energy Diplomacy and Security Act. This bill
would strengthen U.S. diplomatic capabilities related to energy
and encourage greater international cooperation on energy
security.
As Secretary Rice stated before this committee, our
diplomatic activities around the world are being ``warped'' by
petro-politics. Important foreign policy goals--from
accelerating progress in the developing world and expanding
trade, to preventing weapons proliferation and promoting
democratic reform--are being undermined by international energy
imbalances that have weakened our foreign policy leverage,
while strengthening the hand of oil-rich authoritarian
governments. In a speech in March at the Brookings Institution,
I outlined these dynamics in greater detail, and I ask those
remarks be entered into the record.
As recently as 4 years ago, spare production capacity
exceeded world oil consumption by about 10 percent. As world
demand for oil has rapidly increased in the last few years,
spare capacity has declined to less than 2 percent. Any major
disruption of oil creates scarcity that will drive prices up.
Our vulnerability was made clear to Americans after the
devastation of Hurricanes Katrina and Rita. But even as
supplies rebounded from those disasters, we experienced a
continued upward trend in oil prices. Events such as the civil
unrest in Nigeria, uncertainty over Iran's nuclear program, and
worries over Venezuelan supply have kept the price of oil above
$70 a barrel.
Our capacity to deal with these energy vulnerabilities in a
foreign policy context is shaped in part by the ability of our
own economy to adjust to changing energy markets. Eventually,
because of scarcity, terrorist threats, market shocks, and
foreign manipulation, the high price of oil will lead to
enormous investment in and political support for alternatives.
The problem is that by the time sufficient motivation comes to
markets, it may be too late to prevent the severe economic and
security consequences of our oil dependence.
Today, we will have the benefit of Chairman Greenspan's
insights into the risks of oil dependency to our economic
prosperity. We are interested in a clearer picture of how
current high energy prices are affecting our economy, how our
economy may react to certain types of supply disruptions, and
what steps we should take as a nation to reduce the economic
risks of our energy vulnerability.
We welcome Chairman Greenspan to the Foreign Relations
Committee and thank him for lending his expertise to our
ongoing inquiry.
Opening Statement
HON. JOSEPH R. BIDEN, JR.
U.S. Senator From Delaware,
Minority Leader, Senate Committee on Foreign Relations
----------
Dr. Greenspan, welcome.
Mr. Chairman, today's headlines make clear just how
important this hearing is. On one hand, we have concern about
inflation--led by petroleum-based energy costs that increased
at a 61-percent annual rate in the first quarter of this year.
And on the other hand, we have our financial markets roiled
by the worry that the Federal Reserve's prescription--
continuing a course of 15 straight rate increases--could put
the brakes on an economy that may already be slowing down.
We could not have clearer evidence of our country's
vulnerability to global oil prices.
I am pleased to be working with you, Mr. Chairman, on this
series of hearings on the cost of our dependence on imported
oil, and to join you in our search for alternatives.
Today we are privileged to have former Federal Reserve
Chairman Alan Greenspan, who guided our Nation's monetary
policy for almost two decades, through a wide variety of
domestic and international challenges, and through profound
changes in our economy.
No one in the world who spoke on economic affairs was more
listened to than Alan Greenspan. Not always understood, but
listened to. It is a little daunting to have before this
committee not only someone of your stature, Dr. Greenspan, but
someone who once warned an audience, ``If I turn out to be
particularly clear, you've probably misunderstood what I
said.''
Your pronouncements can still move markets, but I hope your
new life in the private sector will allow you more freedom of
speech than you enjoyed in your last job.
We will need candor and clarity, if we are to understand
and confront the challenges before us.
The last time you appeared before this committee, we were
facing the Peso crisis, the first wave of international
financial crises in the late 1990s. The topic of today's
hearing presents threats of a similar magnitude to our economy,
and to our security.
Today we are concerned about fundamentals, about the fuels
that make our economy run, and about threats to our economic
security because we do not control access to those fuels. And
we are looking for ways we can move to more secure sources in
the near future.
Our failure to set a national energy policy to reduce our
consumption of oil has handcuffed our foreign policy and
weakened us economically.
Global oil consumption--especially with the extremely rapid
modernization of countries like China and India--is growing
faster than the discovery and development of new supplies.
Supply has never been so tight relative to demand. We now
live in a world that consumes 85 million barrels of oil every
day. It's an enormous amount. Meanwhile, worldwide spare
production capacity has shrunk to just 2 percent of demand. And
that means the slightest thing--a terrorist attack in Saudi
Arabia, tough talk from Iran, violence in Nigeria, or even a
bad storm in our own gulf region--can cause oil markets to
panic.
Here in the Foreign Relations Committee, we deal every day
with the foreign policy implications of our dependence on
imported fossil fuels. Most obviously, there are our complex
relationships with what Michael Mandelbaum and others have
called the ``Axis of Oil,'' the oil-rich regimes around the
world.
This dependence has a pernicious effect on our foreign
policy. It literally helps to fuel the terrorism we are
fighting, because some of the dollars we spend on crude oil
wind up in the pockets of radicals. It limits our options and
limits our leverage in dealing with national security threats,
because oil rich countries can stand up to us, and oil
dependent countries are afraid to stand with us. And it
undercuts our hopes for advancing democracy and freedom,
because repressive regimes, swimming in a sea of high-priced
oil, can resist pressure to reform.
To cite just one example, Iran's most recent threats to
disrupt oil exports--as a direct response to our attempts to
deal with their nuclear ambitions--was immediately translated
into an increase in oil prices--a jump to $73 a barrel. Not
just economic forces, but political conflicts, drive this
market.
We are here today to hear from Dr. Greenspan about the
economic impact of oil and gas prices. During his long tenure
as Chairman of the Federal Reserve, oil and gas prices spiked
dangerously several times.
Dr. Greenspan has repeatedly warned us about the potential
impact of those fundamental energy prices on inflation as they
worked their way through the economy, as well as their
potential to slow economic activity as consumers and producers
moved limited dollars from other sectors to cover energy costs.
In your last Monetary Report to Congress last year, Dr.
Greenspan, you placed significant stress on the potential
problems that could arise from the jump in energy prices. You
reported then that the impact they could have on consumer
spending--the hit to the average American's pocketbook--would
depend on how much incomes were growing. On that front, the
news is not encouraging.
The latest reports from the job market show yet another
disappointingly small increase in the number of Americans
finding work, and the persistence of very troubling stagnation
in wages. Something is wrong, this far into an economic
recovery, when the job picture is this weak.
Wages are still flat--up just a penny an hour. That's 40
cents for a 40-hour work week. And the cost of living--
including the cost of gasoline, and everything made and
transported with petroleum--continues to grow faster than
incomes.
The cost of gasoline went up over 2 cents a gallon last
week. That's over 40 cents more for a 20-gallon tank of gas.
That means that higher prices for gasoline really hurt real
families. Gas is pretty much a fixed cost for the average
American family who can't switch cars or move closer to work.
For them, this is not an abstract discussion.
Here is what the wall Street Journal wrote last Friday:
``Rising Energy Costs Pinch Low-Income Shoppers.''
Slow job growth, flat wages--American households are part
of the context we need to understand the impact of oil prices.
In the bigger picture, our dependence on foreign oil feeds a
cycle of dependence on foreign lenders to finance it.
Our trade deficit through March this year was $192
billion--that's 6 percent of our economy. Thirty percent of
that deficit--$65 billion--was the cost of our petroleum
imports. That number could grow to $100 billion this year.
To finance that trade deficit, we are borrowing from other
countries. The supply of our debt will eventually outrun
demand. As we are already seeing, that means a weaker dollar,
making importing oil--and the thousands of other consumer goods
from cars to computers--even more expensive. Until we do
something about our dependence on imported oil we will not be
in control of our economic security.
We can restore our energy security by reducing our
consumption of oil. We can make the most progress, in the
shortest amount of time if we focus on the fuel we put in our
cars and trucks. Seventy percent of the oil we consume is used
in transportation. We can immediately begin reducing our oil
consumption by switching to fuels we can grow at home and
making better, more efficient use of the energy we consume.
First we need to make sure we're all driving good cars by
increasing fuel efficiency and requiring that every car sold in
the United States is a flexible-fuel vehicle or FFV--that can
run on alternative fuel like E-85--an 85-percent ethanol fuel
blend.
Second, we need to make sure that we're using good fuel by
requiring that major oil companies add alternative fuel pumps
to at least half of their gas stations. Finally, we need to put
in place the market and infrastructure for alternative fuels so
that as new, more advanced fuel technology--like cellulosic
(switchgrass) ethanol--becomes widely available we have the
cars and pumps for it ready to go.
We have asked you here today to help us understand better
the shape we are in today, and to draw on your experience to
understand how we can manage the future.
I look forward to your statement, Dr. Greenspan, and to a
discussion of these and other issues before us.
Thank you, Mr. Chairman.
Prepared Statement
HON. ALAN GREENSPAN
President, Greenspan Associates LLC, Washington, DC
BEFORE THE
U.S. Senate Committee on Foreign Relations
JUNE 7, 2006
----------
Mr. Chairman, Senator Biden, and members of the committee,
this morning I shall try to detail how the balance of world oil
supply and demand has become so precarious that even small acts
of sabotage or local insurrection have a significant impact on
oil prices. American business, to date, has largely succeeded
in finding productivity improvements that have contained energy
costs. American households, however, are struggling with rising
gasoline prices.
Even before the devastating hurricanes of last summer,
world oil markets had been subject to a degree of strain not
experienced for a generation. Oil prices had been persistently
edging higher since 2002 as increases in global oil consumption
progressively absorbed the buffer of several million barrels a
day in excess capacity that stood between production and
demand. Today world oil production stands at about 85 million
barrels a day, and little excess capacity remains. Just how
much excess capacity, and of what quality oil, is a matter of
debate. But no matter what the precise answer, the buffer
between supply and demand is much too small to absorb shutdowns
of even a small part of the world's production. Moreover,
growing threats of violence to oilfields, pipelines, storage
facilities, and refineries, especially in the Middle East, have
increased the private demand to hold oil inventories worldwide.
Oil users judge they need to be prepared for the possibility
that at some point a raid will succeed, with a devastating
impact on supply.
For most of the history of oil, its producers and consumers
determined its price. Only those who could physically store
large quantities of oil had the ability to trade. But important
advances in finance have opened the market to a much larger
number of participants. There has been a major upsurge in over-
the-counter trading of oil futures and other commodity
derivatives. Thus, when in the last couple of years it became
apparent that the world's oil industry was not investing enough
to expand crude-oil production capacity quickly enough to meet
rising demand, increasing numbers of hedge funds and other
institutional investors began bidding for oil. They accumulated
it in substantial net long positions in crude oil futures,
largely in the over-the-counter market. These net long futures
contracts, in effect, constituted a bet that oil prices would
rise. The sellers of those contracts to investors, when all of
the offsetting claims are considered, are of necessity the
present owners of the billions of barrels of private
inventories of oil held throughout the world--namely, the
producers and consumers.
Even though inventories of oil have risen significantly in
recent years, persistent upward price movements have made it
apparent that the rise in investors' ownership claims to the
world's oil inventories has likely exceeded the inventory
increase. This implies a reduction in the unencumbered
inventory holdings of producers and consumers. In other words,
some part of the oil in the world's storage tanks and pipelines
is spoken for by investors. The extent of the surge in
participation by financial institutions in claims on real
barrels of oil is reflected in the near tripling of the
notional value of commodity derivatives (excluding precious
metals) during the four quarters of 2005 reported by U.S.
commercial banks. Most of those contracts are for oil. The
accumulation of net long positions in oil on the New York
Mercantile Exchange by noncommercial traders , which is to say
by investors, has exhibited a similar pattern.
The new participants, investors, and speculators, to the
world's $2 trillion a year oil market are hastening the
adjustment process that has become so urgent with the virtual
elimination of the world supply buffer. With the demand from
the investment community, oil prices have moved up sooner than
they would have otherwise. In addition, there has been a large
increase in oil inventories. In response to higher prices,
producers have increased production dramatically and some
consumption has been scaled back. Even though crude oil
productive capacity is still inadequate, it too has risen
significantly over the past 2 years in response to price.
Hypothetically, if we still had the 10 million barrels a
day of spare capacity that existed two decades ago, neither
surges in demand nor temporary shutdowns of output from
violence, hurricanes, or unscheduled maintenance would be
having much, if any, impact on price. Returning to such a level
of spare capacity appears wholly out of reach for the
foreseeable future, however. This is not because there is any
shortage of oil in the ground. The problem is that aside from
Saudi-Aramco, few, if any, of national oil companies which own
most of the world's proved oil reserves are investing enough of
their surging cash flow to convert the reserves into crude oil
productive capacity. Only Saudi-Aramco appears sufficiently
concerned, at least publicly, that high oil prices will reduce
the long-term demand for oil, which could significantly
diminish the value of Saudi Arabia's--or indeed, any
country's--oil reserves.
Although outlays on productive capacity are rising, the
significant proportion of oil revenues held as financial assets
suggests that many governments perceive that the benefits of
investing in additional capacity to meet rising world oil
demand are limited. Moreover, much oil revenue has been
diverted to meet the perceived high-priority needs of rapidly
growing populations. Unless those policies, political
institutions, and attitudes change, it is difficult to envision
a rate of reinvestment by these economies adequate to meet
rising world oil demand. Some members of the Organization of
Petroleum Exporting Countries (OPEC) have recently announced
expansion plans. But how firm such plans are, is difficult to
judge. They and other nations have rebuffed offers by
international oil companies to help tap their reserves.
Opportunities to expand oil production elsewhere are limited to
a few regions, notably the former Soviet Union.
Besides feared shortfalls in crude oil capacity, the
adequacy of world refining capacity has become worrisome as
well. Over the past decade, crude oil production has risen
faster than refining capacity. A continuation of this trend
would soon make lack of refining capacity the binding
constraint on growth in oil use. This may already be happening
in certain grades of oil, given the growing mismatch between
the heavier and more sour content of world crude oil production
and the rising world demand for lighter, sweeter petroleum
products.
There is thus a special need to add adequate coking and
desulphurization capacity to convert the average gravity and
sulphur content of much of the world's crude oil to the lighter
and sweeter needs of product markets, which are increasingly
dominated by transportation fuels that must meet ever more
stringent environmental requirements. Yet the expansion and
modernization of world refineries are lagging. For example, no
new refinery has been built in the United States since 1976.
The consequence of lagging modernization is reflected in a
significant widening of the price spread between the higher
priced light sweet crudes such as Brent which are easier to
refine and the heavier crudes such as Maya, which are not.
To be sure, refining capacity does continue to expand,
albeit too gradually, and oil exploration and development is
continuing, even in industrial countries. Conversion of the
vast Athabasca oil sands reserves in Alberta to productive
capacity, while slow, has made this unconventional source of
oil highly competitive at current market prices. However,
despite improved technology and high prices, additions to
proved reserves in the developed world have not kept pace with
production; so those reserves are being depleted.
The history of world petroleum is one of a rapidly growing
industry in which producers have sought to provide consumers
with stable prices to foster the growth of demand. In the first
decade of the 20th century, pricing power was firmly in the
hands of Americans. Even after the breakup of the Standard Oil
monopoly in 1911, pricing power remained with the United
States--first with the U.S. oil companies and later with the
Texas Railroad Commission, which would raise limits on output
to suppress price spikes and cut output to prevent sharp price
declines.
Indeed, as late as the 1950s, crude oil production in the
United States (more than 40 percent of which was in Texas)
still accounted for more than half of the world total. In 1951,
excess Texas crude was poured into the market to contain the
impact on oil prices of the nationalization of Iranian oil.
Excess American oil was again released to the market to counter
the price pressures induced by the Suez crisis of 1956 and the
Arab-Israeli war of 1967.
American oil's historical role ended in 1971, when rising
world demand finally exceeded the excess crude oil capacity of
the United States. At that point, the marginal pricing of oil
abruptly shifted--at first to a few large Middle East producers
and later to market forces broader than they, or anyone, can
contain.
To capitalize on their newly acquired pricing power in the
early 1970s, many producing nations, especially in the Middle
East, nationalized their oil companies. The full magnitude of
the pricing power of the nationalized companies became evident
in the aftermath of the oil embargo of 1973. During that
period, posted crude oil prices at Ras Tanura, Saudi Arabia,
rose to more than $11.00 per barrel, far above the $1.80 per
barrel that had been unchanged from 1961 to 1970. The further
surge in oil prices that accompanied the Iranian Revolution in
1979 eventually drove up prices to $39 per barrel by February
1981. That translates to $76 per barrel in today's prices.
The higher prices of the 1970s abruptly ended the
extraordinary growth of U.S. and world consumption of oil and
the increased intensity of its use which were hallmarks of the
decades following World War II. Since the more than tenfold
increase in crude oil prices between 1972 and 1981, world oil
consumption per real dollar equivalent of global gross domestic
product (GDP) has declined by approximately one-third.
In the United States, between 1945 and 1973, consumption of
petroleum products rose at a startling average annual rate of
4.5 percent, well in excess of growth of our real GDP. However,
between 1973 and 2006, U.S. oil consumption grew, on average,
at only .5 percent per year, far short of the rise in real GDP.
In consequence, the ratio of U.S. oil consumption to GDP fell
by half.
Much of the decline in the ratio of oil use to real GDP in
the United States has resulted from growth in the proportion of
GDP composed of services, high-tech goods, and other less oil-
intensive industries. The remainder of the decline is due to
improved energy conservation: greater home insulation, better
gasoline mileage, more efficient machinery, and streamlined
production processes. These ongoing trends seem to have
intensified of late with the sharp, recent increases in oil
prices.
To date, it is difficult to find serious erosion in world
economic activity as a consequence of sharply higher oil
prices. Indeed, we have just experienced one of the strongest
global economic expansions since the end of World War II. The
United States, especially, has been able to absorb the huge
implicit tax of rising oil prices so far. However, recent data
indicate we may finally be experiencing some impact.
Clearly, if the current almost nonexistent supply buffer
were significantly increased through a step-up in supply or a
stepdown in consumption, oil prices would fall, perhaps
sharply. This would likely occur even if there were no decrease
in the threat to oil facilities from attacks or hurricanes. A
large enough buffer could absorb such contingencies with modest
impact on price.
But for good reason, holders of claims to the existing
private inventories of oil apparently do not foresee a
likelihood of change sufficient to alter the current outlook.
This does not mean that oil prices will necessarily move
higher, however. All of the concerns about future contingencies
are already discounted in today's spot price. It will require a
change in the outlook one way or the other to move crude oil
prices. History tells us that will happen--often.
The U.S. economy has been able to absorb the huge impact of
rising oil prices with little consequence to date because it
has become far more flexible over the past three decades owing
to deregulation and globalization. Growing protectionism would
undermine that flexibility and make our nation increasingly
vulnerable to the vagaries of the oil market.
Current oil prices over time should lower to some extent
our worrisome dependence on petroleum. Still higher oil prices
will inevitably move vehicle transportation to hybrids, and
despite the inconvenience, plug-in hybrids. Corn ethanol,
though valuable, can play only a limited role, because its
ability to displace gasoline is modest at best. But cellulosic
ethanol, should it fulfill its promise, would help to wean us
of our petroleum dependence, as could clean coal and nuclear
power. With those developments, oil in the years ahead will
remain an important element of our energy future, but it need
no longer be the dominant player.
``ENERGY SECURITY AND OIL DEPENDENCE''
Tuesday, May 16, 2006
------
Opening Statement
HON. RICHARD G. LUGAR
U.S. Senator From Indiana,
Chairman, Senate Committee on Foreign Relations
----------
The Foreign Relations Committee meets today to consider
strategies for reducing dependence on oil. This dependence
brings intolerable costs to American national security and
economic well being. If oil averages just $60 a barrel this
year, the import cost to the U.S. economy will be approximately
$320 billion. This revenue stream emboldens difficult oil-rich
regimes and enables them to entrench corruption and
authoritarianism, fund anti-Western demagogic appeals, and
support terrorism. As global oil demand increases and the world
becomes more reliant on reserves concentrated in unstable
regions, the likelihood of conflict over energy supplies will
dramatically increase, and energy rich countries will have more
opportunity to use their energy exports as weapons against
energy poor nations.
High prices over the past 10 months have demonstrated the
vulnerability of supply. A global oil market tightened by
under-investment in production and surging global demand has
been aggravated by hurricanes, unrest in Nigeria, speculation
about developments in Iran, weakened capacity in Venezuela, and
terrorist activity in Iraq and elsewhere. In this environment,
the price shock from a major supply disruption could cause a
recession.
Today, we will concentrate on how our government can speed
up the transition to alternative sustainable energy sources. We
are cognizant that despite past campaigns for energy
independence and a constant improvement in energy intensity per
GDP, we are more dependent on oil imports today than we were
when President Nixon authorized ``Project Independence'' in
1973. Yet, I believe that we are turning a corner. The American
public and elected officials are becoming more aware of the
severe problems associated with energy dependence and are more
willing to take aggressive action.
The new realism of energy geopolitics requires us to
abandon the notion that simply finding more oil will solve oil-
driven threats to our national security. More than three-
quarters of the world's oil reserves are controlled by foreign
governments. With global oil demand projected to rise from 83
million barrels a day to 120 million barrels per day by 2030,
the security threats related to oil dependence will continue to
intensify, unless we make dramatic changes in policy.
Efforts to reduce oil consumption must focus on developing
sustainable fuels and increasing efficiency. I am pleased that
the first commercial scale cellulosic ethanol plant in the
United States is ready for construction and that Americans are
beginning to demand more fuel efficient vehicles. We must
continue investing in advanced energy research, but threats to
our national security require us to efficiently deploy the oil-
saving technology that is available now.
The benefits of reducing oil use at home will multiply when
other countries also switch to alternative fuels and decrease
the energy intensity of their economies. I have introduced S.
2435, the Energy Diplomacy and Security Act to reorient our
diplomatic activities to give greater priority to energy
matters. We need bold international partnerships to blunt the
ability of producer states to use energy as a weapon, to
increase our own security of supply, and to reduce the
vulnerability of our economy to high oil prices.
Today we will benefit from the views of two distinguished
experts. We will ask them to identify the best options for
reducing oil use through alternatives and efficiency gains. We
will also seek their counsel on what government can do to
accelerate the transition away from oil and how we can most
effectively encourage helpful actions by the private sector and
consumers.
First, we will hear from Mr. Vinod Khosla, the founding
partner of Khosla Ventures, a leading venture capital firm that
has invested in many cutting edge energy technologies. A
cofounder of Sun Microsystems, Mr. Khosla, is an influential
voice on the viability of alternative energy sources. Next, we
will hear from Mr. Jason Grumet, Executive Director of the
National Commission on Energy Policy. In December 2004, the
bipartisan commission released its recommendations for a long-
term energy strategy. The report comprehensively examined
numerous technologies and methods for increasing energy
supplies, as well as for moderating energy demand. Prior to
joining the Commission, Mr. Grumet served as Executive Director
of Northeast States for Coordinated Air Use Management.
We welcome our witnesses and look forward to their
insights.
Opening Statement
HON. JOSEPH R. BIDEN, JR.
U.S. Senator From Delaware,
Minority Leader, Senate Committee on Foreign Relations
----------
With gasoline at $3 a gallon, and with our most pressing
foreign policy challenges centered in the oil-producing
countries of the world, today's hearing before the Foreign
Relations Committee could not be more timely or more important.
We heard a few weeks ago in this committee about the hidden
costs of our dependence on foreign oil. The United States has
just one-third of the world's oil reserves, and less than 5
percent of its population, but we consume fully one-third of
the global oil output.
Over 60 percent of the world's oil reserves are held in the
Middle East, and as one of our witnesses points out today only
9 percent of world reserves are held in countries we would call
``free.''
We are dependent on oil, and that makes us dependent on
countries with whom we will continue to have at best many
differences and at worst open hostility. What Michael
Mandelbaum has called ``the axis of oil''--an axis that
stretches from Russia to Iran to Venezuela to Saudi Arabia--
will have as great an impact on our national security as the
so-called ``axis of evil.''
That dependence means we pay a huge price militarily for
access to a resource that we cannot do without. One estimate
suggests we pay as much as $825 billion a year in security
expenditures to project our influence and secure access to oil.
Some part of every dollar we pay for imported oil finds its
way into the hands of our sworn enemies. As some observers have
put it, the war on terror is the first war in which we are
paying for both sides in the conflict.
Disruption to our economy from interruptions in supply can
be huge, and will grow as our dependence grows. As Alan
Greenspan has warned us, all economic downturns since the 1970s
have been preceded by spikes in the price of oil.
We pay a price environmentally for our dependence on oil,
most profoundly in dealing with the repercussions of climate
change, driven by our use of fossil fuels.
There can no longer be any doubt that our dependence on oil
is a critical problem, one that must be addressed.
The sheer size of this problem is such that there will be
no quick fix. Oil represents about 40 percent of our energy
consumption and we import about 60 percent of the oil we use.
Fully 70 percent of our transportation is dependent on oil.
That statistic will not be transformed overnight.
But there are other statistics that will not change, as
well. China has accounted for fully 40 percent of the recent
increase in global oil demand. It will put another 120 million
vehicles on the road over the next 5 years. Along with India,
and a reindustrializing Eastern Europe, that growth in global
demand is not going to be reversed.
The fit between global supply and demand today is extremely
tight. Billions of dollars of new investment may keep pace with
demand, but will do little to ease the price at the pump. And
new supply, from conventional or unconventional sources of oil,
will only hasten the process of climate change, and will simply
delay our transition to the alternatives than can address our
addiction to oil.
What are our alternatives to oil? In the short term,
ethanol from corn could be a first step away from our oil
addiction, by providing a liquid fuel that is compatible with
existing internal combustion engines that power our cars,
trucks, and buses. We will hear today about the costs and
benefits of taking such a step, and the steps that must follow
toward sugar or cellulosic ethanol.
Ethanol will be just part of a broader energy policy that
will reduce our dependence on oil, and will reduce the leverage
that the oil producing nations have over our foreign policy and
our national security.
If it was not clear before, it is now. Domestic energy
policy is at the center of our foreign policy.
Prepared Statement
VINOD KHOSLA
Partner, Khosla Ventures, Menlo Park, CA
BEFORE THE
U.S. Senate Committee on Foreign Relations
MAY 16, 2006
----------
Good Morning. Chairman Lugar and esteemed members of the
committee, I want to start by thanking you for allowing me the
opportunity to speak to you today about our unique ability to
secure America's energy independence. Since the President's
State of the Union Address and rising prices at the pumps,
there has been a lot of talk about our oil addiction. I come
here to talk not about what must be done but rather how to get
it done, simply and pragmatically, in a manner aligned with the
major political interests that carry clout in this country. We
can not only do the right thing, but also the politically
correct thing, if each interest group compromises a little.
If it were not for the rapid growth of our domestic ethanol
industry, Americans would see gas prices approaching $4 a
gallon with no real alternative or hope in sight. In
comparison, the Department of Energy estimates ANWR drilling
would save 1 cent per gallon at the pump by 2025. (As quoted in
Fortune May 15, 2006) We could be the architect of a global
development plan, a Marshall Plan for our times that would
support technological advancements and sustainable development
of a global alternative to petroleum . . . and best of all it
takes very little money to do so.
I come to you today with ambitious goals, but goals that
are grounded in sound science, technology and business. I am
convinced that we can replace the majority of our petroleum
used for cars and light trucks with ethanol within 25 years.
This is not an alternative fuel--it can be a mainstream fuel.
More importantly, with a few simple policy changes, we can be
irreversibly traveling down this path in less than 7 years.
You may ask, ``why ethanol''? Ethanol is substantially
cheaper to produce today than gasoline before all subsidies and
taxes. For example, the cost to produce ethanol in Brazil is
less than $0.75 per gallon, while a U.S.-based corn-to-ethanol
plant's production costs are roughly $1.00 per gallon. That
equates, even with U.S. costs, to about $1.25 per ``gasoline-
equivalent'' gallon of ethanol. Gasoline, on the other hand,
costs $1.60-$2.20 or more per gallon to produce, depending upon
the cost of a barrel of oil.
Why shouldn't ethanol sell for much less than gasoline at
the pump? Oil interests distort the price to ensure they don't
lose their lucrative profit opportunity or temporary supply/
demand dynamics. As new technologies ramp up, ethanol can be
cheaper than gasoline even if oil drops to $35-$40 per barrel--
a level it is not expected to reach, according to the EIA. In
addition to lower cost, E-85 reduces volatile organic compounds
by 15 percent, carbon monoxide by 40 percent, NOX by 10 percent
and sulfate emissions by 80 percent when compared to gasoline,
according to an estimate from one environmental organization.
With ethanol, we get a fuel that is cheaper for consumers
and automakers, cleaner and greener, and it takes Middle East
terrorism-fueling dollars and moves them to rural America. We
capitalize on American technology to create more jobs and
cheaper transportation costs for the American public. What is
wrong with this picture?
What is the single biggest risk we face from the oil
interests distorting the price to ensure they don't lose their
lucrative profit opportunity? If you were making $36 billion of
profit per year like Exxon, would you want things to change?
Reports of oil company executives lying under oath are
reminiscent of the 1985 price manipulation episodes, Enron's
energy price manipulation, and other examples, be they Iran,
Russia or Sudan. I personally received a warning from a senior
executive of a major oil company that they could drop the price
of oil if biofuels started to take off. We cannot let this
opportunity slip away again.
My friends from the Mid-West tell me ethanol is the talk of
coffee shops there and may be the most important thing to hit
rural America in 30 years. It may also be the most important
thing for global peace and welfare, the climate crisis, and for
consumers. Fortunately, at this time the environmentalists, the
automakers the agricultural interests, the security and energy
independence proponents, and even the evangelicals are all
aligned. Finally, a cause all interests can rally behind. As
Tom Freidman recites a New York Times poll: 89 percent of
Americans favor a mandate of more efficient cars; 87 percent
say no to a gasoline tax, but that figure drops to 37 percent
if the tax is to ``reduce our dependence on foreign oil'' and
to 34 percent if the tax is to ``reduce global warming.''
The oil interests keep propagating myths like insufficient
land, poor energy balance, and high production costs to curb
enthusiasm for ethanol. This is reminiscent of the tobacco
companies funding studies to prove that smoking does not cause
cancer. The NRDC, more concerned about land use than the oil
interest, estimate a modest 114m acres of land needs. Argonne
National Labs and UC Berkley among many others have discounted
the energy balance claims. In my opinion, these are bogus if
not ill-intentioned claims and I will address these falsehoods
one by one.
Crop Land: Yields of corn are increasing in the United
States and Brazil. Brazil has had a 4x increase since 1975 and
knowledgeable scientists are forecasting another 4x in the next
10 years. U.S. gallons per acre yields can reach 10x the
current levels even without the innovations that are
commonplace in Silicon Valley. Based on my forecasts, I can see
my way to yields increasing more than 10x to between 3,000 to
5,000 gallons per acre compared to 400 gallons per acre today,
demolishing all land use and energy balance arguments. I agree
with Rick Tolman, CEO of the National Corn Growers Association,
who believes that corn can provide 14-17 billions of gallons of
ethanol by 2015 without impacting food supply. Based on my
forecasts, including the considerable upside afforded by
technology innovations, biomass based ethanol can replace most
of our gasoline needs in 20 years, using less than 60m acres of
land.
Energy Balance: The only study that claims corn ethanol has
an unfavorable energy balance is an outdated study performed by
Professor Pimentel. Both USDA & DOE affiliated researchers
claim that Pimentel's 2005 study overstates energy
requirements. Professor Kammen at UC Berkley further states
that corn ethanol results in a more than 90 percent reduction
in petroleum use and a moderate 10-30 percent reduction in
greenhouse gases. The NRDC agrees, stating that: (1) Corn
ethanol provides important fossil fuel savings and greenhouse
gas reductions; (2) cellulosic ethanol simply delivers
profoundly more renewable energy than corn ethanol; and (3)
very little petroleum is used in the production of ethanol.
From this information, the conclusion is that a shift from
gasoline to ethanol will reduce our oil dependence.
Though a 25-percent mileage reduction is the reality today,
it can be immaterially small over time as engines are optimized
for a flex-fuel world. Saab sells a model in Sweden that
adjusts itself to take full advantage of E-85's higher octane--
100 to 105, versus 87 to 93 octane for gasoline. Called the
Saab 9-5 BioPower, its turbocharged engine generates 175
horsepower on gasoline and a whopping 215 hp on E-85. (USA
Today, 5/4/2006). Even with the additional horsepower, the Saab
9-5 only has an 18-percent lower mileage on ethanol. If the
engine was designed to provide the 175 hp on ethanol, we would
get an additional substantial step increase in ethanol mileage.
This proves that engines can be optimized for ethanol, thus
substantially eliminating the mileage penalty which has been a
convenient excuse for the oil companies.
In the United States in 2000 the ethanol industry sold
about 1.6 billion gallons of ethanol at about $1.20 per gallon.
By 2005, the industry more than doubled its sales to 4 billion
gallons, at a price of about $1.50 per gallon. In my view
plants can meet all their cash flow requirements and pay off
construction debt at prices in the $1.30-$1.40 per gallon
range, given a cost of production of roughly $1 per gallon
without subsidies or tax credits. At today's prices of over
$2.50 per gallon, ethanol producers can pay off their plants in
just 11 months rather than the standard 7-year payoff period.
It is indisputable that ethanol is not only cheaper to produce
than gasoline at about $40/barrel, but also, that the returns
can be outstanding. It is disturbing to me to see some factions
calling for permanent extensions to the credits, instead of
supporting a variable VEETC model, which is genuinely needed to
prevent oil price manipulation by interested parties.
We have sufficient land and the energy balances and
economics are favorable for ethanol as a transportation fuel.
All we need to do is kick start the process.
Chairman Lugar and members of the committee, the time has
come for us to ask ourselves: Do we want to feed our farmers or
Middle-East terrorism? Do we want ANWR oil rigs or prairie
grass fields? Fossil fuels or green fuels? Should we create
farm jobs or Middle-East oil tycoons? Gasoline cars or cars
that offer the choice of gasoline or biofuels? Expensive
gasoline or cheaper ethanol? This appears to be nothing less
than a Darwinian IQ test.
Risk capital from investors is the only solution to the oil
stranglehold. Three simple things that need a little bit of
courage, but not a lot of money are sufficient to get this
capital flowing. These three are:
1. Mandate that at least 70 percent of the new cars
sold in America be FFVs by 2014 with 10 percent annual
increases starting with 20 percent by 2009, and that
all such cars, old and new, be provided with yellow gas
caps, with possible tax incentives of $50 per car.
2. Mandate that 10 percent of all gas stations owned
or branded by major gas station owners offer at least
one ethanol pump. Alternatively, mandating a separate
RFS for E-85 and cellulosic ethanol, defined later,
would serve a similar purpose. For the first 20,000
stations that convert at least one pump, an incentive
can be offered up to $30,000 per station in the first
year, $25,000 per station in the second year and
$20,000 per year in the third year, the proceeds being
appropriated from the Leaking Underground Storage Tank
Fund or through a special tax on oil company profits,
up to a maximum of $600m over 3 years.
3. Make VEETC credit variable with oil price varying
from $0.20 at current prices up to $0.80 instead of the
current $0.51 credit as oil prices vary from $70 to $30
per gallon. This will insure that OPEC or the National
oil companies cannot manipulate prices as easily, hence
driving ethanol producers out of business. Such credits
should expire once ethanol capacity exceeds 15 billion
gallons in this country.
These three policies will assure investors that a permanent
market will exist for ethanol and will not be subject to price
manipulation by the oil nations. Billions of dollars will flow
into the ethanol economy creating a permanent alternative to
gasoline, without material government funds.
In addition, certain other polices can accelerate the
process but are not essential:
1. Shift the $0.51 blender's credit to an ``ethanol
producers' credit,'' preferably to be used only for
plant construction instead of giving it to the oil
companies as a ``blender's credit.'' This will build
permanent U.S. capacity for new ethanol production,
independent of whether the ethanol is U.S.-made or
imported. In fact, this format will supply all the
capital required for plant construction the industry
needs to replace all our petroleum and can be
structured to be self-effacing when we reach
appropriate plant capacity.
2. Allow imports of ethanol for consumption above the
RFS standard without tariff, subject to switching the
VEETC ethanol credit to one directed exclusively toward
building plant capacity in the United States. This will
create permanent capacity for ethanol production in the
United States. It is likely that we will see WTO action
challenging the tariff's legality. A proactive program
is more likely to be effective than a reaction in
hindsight to WTO action. Early availability of lower
priced ethanol in the market will accelerate the switch
to E-85 and take ethanol into the domain of a primary
replacement for gasoline instead of just being an
additive. Concurrent with this provision the ethanol
RFS can be extended to 12b gallons by 2015. Based on
the national security exemption of the WTO, an
incentive or VEETC like credit is probably allowable if
it is directed toward building ethanol fuel plant
capacity in the United States. An alternative would be
to eliminate the tariff only for E-85 ethanol use,
accelerating E-85 adoption while keeping the blending
market protected against imports. This would allow U.S.
farmers to ease the learning curve on ethanol costs.
Tariff removal could be coincident with funding of
additional E-85 stations.
3. Institute a similar limited period credit for
cellulosic ethanol or monetize the current ``1.5
times'' credit for cellulosic ethanol defined in the
2005 energy bill.
4. Institute separate RFS standards for E-85 (and
possibly cellulosic ethanol) to kick start the E-85
market, which is currently being discouraged by the oil
companies.
5. Reform and strengthen CAFE, replacing CAFE mileage
with CAFE ``petroleum mileage'' to align and
incentivize automakers to promote the use of ethanol
and other gasoline alternatives, giving them credit for
any technology used to replace petroleum; in addition
to increases in mileage standards.
6. Provide loan guarantees for the first few
cellulosic ethanol plants built with any new
technology.
7. Institute a cap and trade system for carbon
trading. This could effectively reduce the price of
ethanol by as much as $0.20-$0.30 per gallon (based on
the current trading price of carbon in the European
Union) depending upon the ethanol production
technology. This would provide incentives to make corn
ethanol greener, and less dependent on fossil fuels.
8. Switch agricultural subsidies from row crops to
energy crops.
As oil prices continue to soar in the United States, I see
the following. First, oil companies use big budget advertising,
expensive PR firms and armies of accountants to prove they are
not making too much money while making more money than any
industry has ever made in the history of the corporate world.
It is amazing what money can buy.
Second, oil companies blame everybody but themselves, but
more importantly are doing relatively little to invest in
alternatives to gasoline, other than token investments and PR
campaigns.
Third, they put obstacles in the way of their franchisees
who want to offer ethanol instead of offering E-85 themselves.
Why don't we require them to sell ethanol at least 10 percent
of their gas stations? We have CAFE standards for automakers,
why not E-85 green fuel standards for the oil companies?
Finally, with a fraction of their oil profits invested in
new ethanol capacity or ethanol distribution we could be
producing tens of billions of gallons of ethanol and solving
our addiction to oil. Instead they are sending these profits to
the Mideast instead of creating jobs in the USA. Are they
entitled to their profits? I believe they are. But that should
not prevent us from developing alternatives to their
stranglehold on our transportation fuel for the good of
society. Here are some examples of why it is clear we need to
reign in big oil:
1. Gov. Pataki proposed a new bill in New York. The
bill would exempt renewable fuels from the provisions
of ``exclusivity'' contracts between fuel providers and
retail service stations, which only allow the service
stations to sell specific brands of fuel. In most
cases, these brands do not include renewable fuels.
Since the ``exclusivity'' contracts prohibit service
stations from obtaining renewable fuels like ethanol
(E-85) from other sources, these fuels are not
available for sale to consumers. The Governor's
proposal would exclude renewable fuels from these
contracts if the distributor does not offer these types
of fuels.
2. A Mobil gas station in St. Louis does not allow
the use of credit cards for payment and warns against
ethanol. This is typical of how oil companies
discourage consumer use with scary notices. An Exxon in
Brazil stated that for all flex fuel vehicles every
third fill-up should be with gasoline, another
falsehood.
3. The Foundation for Consumer & Taxpayer Rights
released a new study of rising gasoline prices in
California that found corporate markups and
profiteering are responsible for spring price spikes,
not rising crude costs or the national switchover to
higher cost ethanol, as the oil industry claims. One
can find the study at: http://www.consumerwatchdog.org/
energy/rp/6132.pdf
4. The 1985 price manipulation and recoupling of an
economy that was decoupling from oil is well known.
Gaining independence from foreign oil would not be unique
to the United States. I just recently returned from Brazil,
which has declared independence from foreign oil. Let me share
some insights with you.
I got a very instinctive good feeling about carbon capture.
As I looked at sugarcane varieties capable of producing 200
(wet) tons per hectare I could imagine the sound of carbon
dioxide getting sucked out of the atmosphere. My estimates of
less than 60 million acres required to fuel most of America's
cars and light trucks by 2030 started to feel conservative as I
saw Brazilian entrepreneurs developing technologies to produce
over 3,000 gallons per acre. Imagine what would happen if we
let Silicon Valley entrepreneurs and American scientists and
technologists innovate in this area. Some fraction of the land
used for export crops could replace much of our gasoline needs.
We must signal to our innovators that this is a long-term,
large market, as Brazil has done.
As I saw bagasse roll off the conveyor belts into heaps of
waste for burning, it struck me that because of the
preprocessing already done on this waste material it could
produce cellulosic ethanol very soon. Even today's
semideveloped cellulosic ethanol processes could make economic
sense without waiting for full development. Orange peels from
Florida and wood chips from our Northwestern forests would be
next in line.
It became clear that America, Brazil, Australia, India, and
Africa could each produce enough ethanol to meet their local
gasoline replacement needs and then export enough to serve much
of the planet.
It was surprising to learn that the average wage at Cosan,
the largest Brazilian ethanol producer, was many times the
average for similar industries in Brazil. Over a million jobs
had been created in the ethanol economy in Brazil. Ethanol
produces substantially more jobs per dollar invested than oil
does.
Almost astounding was the claim by some entrepreneurs that
they could see technology driving costs well below 50 cents per
gallon. There is no reason U.S. ethanol production costs won't
come down too. The big manufacturers confirmed their ability to
produce ethanol at below 75 cents a gallon today. Why are we
paying over $3 a gallon for our gasoline?
If ethanol supplies run low Brazilian producers can switch
production in hours away from sugar to produce more ethanol.
Consumers constantly switch back and forth between ethanol and
gasoline based on cost and availability. Wouldn't it be nice if
consumers here had a choice and were not held hostage by oil
companies?
It was embarrassing to see Brazilian experts laugh at the
myths U.S. energy companies spread, like we cannot use the same
storage tanks or tanker trucks or transport ethanol in
pipelines. They have been doing this for years with no adverse
consequences. Why do we let people interested in slowing down
biofuels spread these myths by turning molehills into
mountains? Surely, some issues exist but they are easily
resolved in the context of a market as large as the
transportation fuels market. I was passionate about ethanol
before I went. Going there seemed to completely confirm the
potential and opened my eyes to all sorts of new possibilities.
Finally, I will leave you with some thoughts on why now is
the time to take action. We have a climate crisis, we have an
energy crisis, and we have a terrorism crisis and they are all
coupled. The price of oil is up, the cost of ethanol production
is down and we have a visible climate crisis and an
overwhelming terrorism crisis. Economics and the right thing
coincide this time around. Consumer pull has been proven in
Brazil. Our risks are minimal. According to the firm Expansion
Capital Partners, clean, or green, technologies netted less
than 1 percent of venture capital funds 6 years ago. Today,
however, the figure has risen to 8 percent, the firm told
TechNewsWorld. (http://www.technewsworld.com/story/50076.html)
Recent news reports that the U.S. insurance industry has
decided to formally study the relationship of global climate
change to rising insurance costs and availability concerns.
Geopolitics & OPEC politics deserve a special mention.
Venezuelan President, Hugo Chavez, is poised to launch a bid to
transform the global politics of oil by seeking a deal with
consumer countries which would lock in a price of $50 a barrel,
according to the Monday April 3, 2006 issue of ``The
Guardian.'' A long-term agreement at that price could allow
Venezuela to count its huge deposits of heavy crude as part of
its official reserves, which Caracas says would give it more
oil than Saudi Arabia. A $50-a-barrel lock-in would open the
way for Venezuela, already the world's fifth-largest oil
exporter, to demand a huge increase in its official oil
reserves--allowing it to demand a big increase in its
production allowance within OPEC. Venezuela holds 90 percent of
the world's extra heavy crude oil--deposits which have to be
turned into synthetic light crude before they can be refined
and which only become economic to operate with the oil price at
about $40 a barrel. Newsnight cites a report from the U.S.
Energy Information Administrator Guy Caruso suggesting
Venezuela could have more than a trillion barrels of reserves.
Saudi Arabia's Oil Minister scorned the popular notion that
America can achieve energy independence as a myth (SF
Chronicle, May 3, 2006).
Iran, China, India, Sudan, Nigeria, Venezuela, Argentina,
and Bolivia are all responding to the scramble for oil. Rules
and principles go by the wayside given the urgency of energy
needs for each nation.
Asset valuation--increase in Venezuela and Saudi Arabia
(each) asset values of over a trillion for every $4 rise in the
price of a barrel of oil. According to press reports, for
similar reasons, the U.S. oil companies have resisted inventory
revaluation methods proposed by FASB.
I came to you today with ambitious goals. I hope that you,
too, are convinced that we can replace the majority of our
petroleum used for cars and light trucks with ethanol within 25
years. More importantly, with a few simple policy changes, we
can be irreversibly traveling down this path in less than 7
years and achieve energy independence, reduce greenhouse gas
emissions, and create more jobs for rural Americans. I thank
you for your time and attention.
Prepared Statement
JASON S. GRUMET
Executive Director, National Commission on Energy Policy, Washington,
DC
BEFORE THE
U.S. Senate Committee on Foreign Relations
MAY 16, 2006
----------
INTRODUCTION
Good day, Chairman Lugar and members of the committee. I
have the privilege to speak to you today on behalf of the
National Commission on Energy Policy (NCEP), a diverse and
bipartisan group of energy experts that first came together in
2002 with support from the Hewlett Foundation and several other
leading philanthropies. In December 2004, the Commission
released a report entitled ``Ending the Energy Stalemate: A
Bipartisan Strategy to Meet America's Energy Challenges.'' The
first chapter of that report was about oil security because our
Commission believed then, and still does, that oil security is
one of our nation's foremost economic, national security and
energy challenges.
This isn't news to anyone, of course--least of all this
committee. In fact, as national policy obsessions go, America's
oil dependence has been one of our most enduring. For more than
50 years, Congress and multiple administrations of either party
have decried our reliance on imported oil and vowed to do
something about it. Today, with oil prices topping $70 per
barrel and gasoline prices at $3 per gallon, we are again
enmeshed in an active debate over energy policy. The lack of
real options to address near-term energy prices is a source of
great frustration here in Congress and throughout the country.
The challenge we face is to move beyond slogans, blame, and
false promise of ``quick fixes'' and seize upon this moment of
collective focus to develop long-term policy responses that
will meaningfully protect our economy while strengthening our
national security.
The basic elements of an effective response to our current
oil predicament are as easy to summarize as they are difficult
to execute. Put simply, the Commission believes we must:
1. Expand and diversify supplies,
2. Reduce demand, and
3. Develop alternatives.
At the outset, I want to stress four themes that I hope
will resonate throughout my remarks. First, the elements
identified above are complementary components of an effective
strategy. If they are not pursued in concert the effort will
fail. We must have supply increases and demand reductions. We
must pursue greater vehicle fuel economy and aggressive efforts
to displace petroleum with biofuels. Simply put, we must move
beyond divisive and false choices to develop a comprehensive
approach that does not seek to trade one element off against
the success of another.
Second, until, and unless, private markets reflect the full
economic, security, and environmental costs of oil dependence--
and until, and unless, consumers possess adequate information
to make efficient choices--policies that rely solely on private
market decisions will continue to fail. It is therefore
incumbent upon government to overcome market barriers and
motivate private sector innovation by creating incentives that
better reflect the true benefits of greater energy security.
Third, improving our energy security is a long-term
challenge. If we commit the nation to a fundamental course
correction, a secure energy future is within our reach. It will
take several years, however, before we begin to reap the
benefits of improved policies and technologies. During this
time, the problem of high prices and tight supplies will almost
certainly get worse as growth in petroleum demand continues to
outstrip the rate at which vehicle fuel economy improves and
new sources of oil come on line. While biofuels hold great
potential, near-term gains will also be incremental when
compared against our annual petroleum consumption. If history
is a guide, public interest and support for long-term policies
will wax and wane as the price of gasoline rises and falls. A
real solution therefore will require the kind of commitment,
consistency, and courage our nation has mustered in the past
when we understood that our future was at risk.
Finally, we must better understand and articulate the risks
of oil dependence and establish goals that encourage consistent
progress and accountability. I believe that our failure over
the past 30 years to implement measures commensurate with the
risks is in part due to widely held misconceptions about the
true nature and scope of the problem and to our inability to
establish realistic interim goals and mechanisms to measure our
progress in achieving them.
Rethinking ``Energy Independence''
Before delving into solutions, I would like to take on the
somewhat heretical task of challenging the aspiration of
``energy independence'' with its attendant focus on reducing
our nation's use of ``foreign oil.'' While emotionally
compelling, these concepts are vestiges of a world that no
longer exists. By failing to recognize the fundamentally global
nature of the oil market, and the increasingly global nature of
markets for natural gas, the call for energy independence has
become an obstacle to effective policy design. There is one
world market for oil. It is a fungible global commodity that
has a single benchmark price. Wide disparities in the price of
gasoline around the world are the product of national subsidies
and taxes, but have nothing to do with how much oil different
nations import or produce. Our economic vulnerability to oil
price shocks is entirely a function of how much oil we use--the
continent from which the oil was extracted has no bearing
whatsoever on this equation.
Moreover, as members of this committee know better than
anyone else, some of the most profound consequences of
America's dependence on oil go well beyond the economic. It's
virtually impossible to put a dollar figure on all the costs of
that dependence, but there is no question that our thirst for
oil constrains our foreign policy, imposes burdens on our
military, accounts for approximately for one-third of the U.S.
current account deficit which soared to $805 billion in 2005,
swells the coffers of undemocratic and even actively hostile
governments, and directly or indirectly provides some of the
funding for terrorist organizations that mean us harm. These
risks and vulnerabilities too, like those we face strictly in
terms of our own economic well-being, will surely continue to
grow if we don't take action. Put simply, if current trends
don't change we face a global scramble for energy resources
within this century that is sure to be economically and
geopolitically damaging to all concerned.
Confronted with these realities it is tempting--but wrong--
to imagine that if we could only become energy self-sufficient
everything would be fine. I can't underscore this point too
strongly: energy ``independence'' must not be confused with
energy ``security.'' Energy independence is simply unrealistic
and has been ever since President Nixon first proposed to
enshrine it as a national goal in the 1970s. U.S. oil imports
have been rising inexorably ever since. The United States alone
currently accounts for fully one-quarter of world oil demand.
What may be less well known is that we are also the world's
third largest oil producer at present. But this will not last
forever. Our nation holds less than 3 percent of the world's
proved oil reserves. Sixty-one percent of world reserves, by
contrast, are located in the Middle East.
World's Proved Oil Reserve*
------------------------------------------------------------------------
Percent of
Region World's Proved
Reserves
------------------------------------------------------------------------
Middle East.......................................... 61.7
Europe/Eurasia....................................... 11.7
Africa............................................... 9.4
South & Central America.............................. 8.5
North America........................................ 5.1
Asia Pacific......................................... 3.5
------------------------------------------------------------------------
* = Only 9% of world reserves are held by countries considered ``free''
by Freedom House.
Current projections indicate that oil production by the
United States and other industrialized countries will decline
by 6 percent over the next two decades, even as oil production
in the former Soviet Union increases by nearly 50 percent and
OPEC output increases 33 percent. This means that U.S. oil
imports will continue to grow in the future, as they have for
the last several decades, and that we like everyone else will
increasingly need to rely on oil supplies that originate in
what are now unstable and undemocratic regions of the world.
Nor will our dependence on foreign sources of energy be limited
to oil: given declining domestic production of natural gas--
another fuel that plays an extremely important role in the U.S.
economy--it appears inevitable that we will increasingly need
to rely on overseas sources for natural gas as well. The key,
then, to greater energy security for the United States lies in
recognizing--and better managing--our fundamental energy
interdependence.
Oil Market Fundamentals
Nearly all experts agree about the fundamental drivers
behind today's high oil prices and extreme market volatility.
For some time now, rising global demand for petroleum--driven
not only by growing U.S. demand, but in part by the very rapid
modernization of countries like China and India--has been
outpacing the discovery and development of new sources of
supply. The result is that we now live in a world that requires
approximately 85 million barrels of oil daily, but has only
very little spare production capacity (as little as 2 percent,
according to various estimates) and barely sufficient refining
capacity. In this environment even small disruptions along the
supply chain can cause serious repercussions. The dynamics are
further strained by OPEC's ability to manipulate production
quotas and by the participation of market players that operate
on motives outside the bounds of economic efficiency.
Unfortunately, this set of conditions seems unlikely to change
soon. U.S. and total world demand for oil are expected to
increase substantially over the next 20 years. Between 2004 and
2025, U.S. demand is projected to grow 24 percent (from 21 to
26 million barrels per day) and total world demand is expected
to increase 34 percent (from 82 to 110 million barrels per
day). (In the last year, the U.S. Energy Information Agency has
downgraded its 20-year domestic demand projection by 3 million
barrels a day based on expectations that high global prices are
here to stay.) The world is suffering from what can best be
described as a ``demand shock`` as China, India, and much of
the developing world, modernize their economies and
dramatically increase their use of motor vehicles. Equally
concerning, there is currently very little spare capacity in
the global oil market to make up any shortfall in oil supplies
that arises as a result of political instability, unforeseen
demand growth, acts of terrorism, or weather-related events. In
2005, global spare production capacity totaled approximately
1.5-2.0 million barrels per day; by contrast spare production
capacity in 2001 was approximately 7.3 million barrels per day.
This means that any event that prevents even a relatively small
amount of oil from reaching today's global markets can have a
dramatic impact on prices.
In partnership with the organization, Securing America's
Energy Future (SAFE), NCEP has been exploring the potential
consequences of today's tight supply margins by examining the
impacts of any number of possible disruptions in global oil
supply. With help from industry and military experts, as well
as from the Wall Street analysis firm Sanford C. Bernstein and
Co. LLC, we concluded that any number of truly unexceptional
circumstances could cause global oil prices to literally sky
rocket. As part of an oil crisis simulation called Oil
ShockWave, we found that a mere 4-percent shortfall in daily
world oil supplies could lead to a 177-percent increase in
world prices. It wouldn't take much, in other words, to send
oil prices even higher--perhaps significantly higher--than they
already are. With the U.S. transportation system over 97
percent reliant upon petroleum, the impacts of such an increase
could be devastating. As then Chairman of the Federal Reserve
Alan Greenspan observed in 2002, ``All economic downturns in
the United States since 1973 have been preceded by sharp
increases in the price of oil.''
A Better Goal for Oil Security
If we accept that the key measure of our energy security is
not how much oil we import, but how much our economy depends on
oil, we can begin to articulate more realistic goals and
actually set about achieving them. In fact, the oil intensity
of the U.S. economy, as measured by gallons consumed per dollar
of GDP generated, was cut in half between 1975 and 2000. There
were multiple reasons for this decline and they are worth
reviewing as we explore our policy options for the future.
First, there were structural shifts in the U.S. economy that
led to reduced oil consumption, including a shift to less
energy-intensive enterprises generally, together with more
efficient oil use in some industries and a shift away from oil
to different fuels altogether in other industries, notably in
the electric power sector. Second, and very important, were
vehicle fuel economy standards introduced in the late 1970s
that doubled the average mileage of our passenger car and
light-duty fleet.
An ambitious goal is to cut the oil intensity of the U.S.
economy in half again over 20 years. To achieve this goal would
require roughly a 7.25 million barrel per day reduction in oil
consumption by 2025. Unfortunately, progress in further
reducing the overall oil intensity of the American economy has
slowed in recent years, while progress in improving the
efficiency of the nation's vehicle fleet has stalled
altogether. But for a modest recent increase in light-truck
standards, fuel economy requirements for passenger vehicles
have been essentially unchanged since 1980. As a result,
average fleet efficiency actually began to decline in recent
years as large trucks and SUVs captured ever larger shares of
the U.S. auto market. Simply stated, the United States will not
have a serious policy to increase oil security until we achieve
a significant increase in the fuel economy of our vehicles.
A fundamental premise underlying the Commission's oil
security recommendations is the belief that we can neither
drill nor conserve our way to energy security. We simply must
address both the supply and demand sides of the equation if we
are to have any hope of lasting success. As Congress and
ordinary Americans search for solutions to the current costs of
gasoline, it is painfully clear that there are no good near-
term options. We must accept this unfortunate reality and
direct our attention to minimizing the harmful effects of the
oil shocks that are likely to occur with increasing regularity
and severity over the next 20 years.
Solutions
As noted at the outset, the Commission believes that there
are three essential elements to enhanced oil security:
Increasing supply, reducing demand, and developing
alternatives. The first two of these imperatives can be seen as
buying us time to achieve the more fundamental benefits of a
diversified portfolio of transportation fuels. We must seek to
widen the gap between available supply and demand in the short-
to medium-term as a means of calming today's extremely volatile
markets and putting downward pressure on prices, even as we
begin developing clean and affordable alternatives for the
long-term. The Commission's specific recommendations for
widening the gap on the supply side include:
1. Expanding and diversifying conventional supplies
of oil, both at home and abroad;
2. Expanding the global network of strategic
petroleum reserves; and
3. Exploring technologies and processes that would
allow for the use of unconventional oil resources in a
manner that is compatible with climate change and other
environmental concerns.
On the demand side, the Commission recommends:
1. Significantly strengthening fuel economy standards
for new passenger vehicles, while simultaneously
reforming the existing CAFE program to reduce
compliance costs and provide cost-certainty for
manufacturers and consumers;
2. Creating incentives to accelerate the market
penetration of highly efficient hybrid vehicles while
also helping the domestic auto industry retool to meet
growing demand for these vehicles; and
3. Exploiting opportunities to boost the efficiency
of heavy-duty vehicles and to improve the fuel-economy
performance of the existing light-duty vehicle fleet.
Finally, to develop long-term alternatives to petroleum,
the Commission recommends a sustained and vigorous effort to
spur public and private sector investment in the development
and early deployment of domestically produced transportation
fuels derived from biomass and organic wastes. Of all available
alternatives to petroleum fuels, the Commission believes that
cellulosic ethanol holds the most potential for displacing a
significant fraction of transportation oil demand within the
next 20-30 years and should therefore be a focus of near-term
RD&D activities.
A summary of the potential benefits of supply and demand
measures can be found at Appendix A.
Oil Supply Measures
The Commission believes that opportunities exist to
substantially boost global oil production within the next 10 to
20 years. This would help to relieve upward price pressures and
reduce the risk of significant supply disruptions over the same
timeframe.
Domestic Production: The United States is currently the
third largest oil-producing nation after Saudi Arabia and
Russia. As such, U.S. production clearly has a significant
impact on the stability of the global oil market and efforts to
expand production within our own borders must be pursued.
Currently, the United States produces about 8.5 million barrels
per day of oil (crude and products) and consumes about 21
million barrels per day of finished oil products. Domestic oil
production is important to the nation's economy--it remains an
important source of jobs and tax revenues in some regions of
the country--and it offers the important advantage of reducing
financial transfers to foreign nations. Although domestic
production has generally declined over the past decade, it is
now projected to increase modestly in the near term (1 million
barrels per day in 2016) and to resume a gradual decline
thereafter.
The United States is thought to have about 25 billion
barrels of proved, conventional oil reserves, the great
majority in Alaska and off our Pacific Coast with a smaller
fraction off the Atlantic Coast and the eastern Gulf of Mexico.
U.S. Proved Conventional Oil Reserves
------------------------------------------------------------------------
Crude Oil
Conventional Reserves (billions of
barrels)
------------------------------------------------------------------------
Alaska (ANWR)........................................ 10.36
Pacific Offshore..................................... 10.71
Eastern Gulf of Mexico............................... 3.58
Atlantic Offshore.................................... 2.31
------------------------------------------------------------------------
Though technically recoverable, much of this oil is
currently off-limits to leasing. If all of it were tapped, it
is estimated that U.S. oil output could be increased by about 2
million barrels per day in 2020. Obviously, many issues must be
considered in weighing whether it is appropriate to open a
particular area to oil drilling and the Commission takes no
position on whether the status of specific regions that are
currently off-limits should be changed. To provide a sound
basis for future decision-making, however, the Commission does
believe that an inventory of domestic petroleum reserves should
be undertaken as part of a regular, comprehensive assessment of
the nation's known and potential energy resources. Again,
however, it cannot be stressed often enough that while U.S.
production makes an important contribution to global supplies
(and hence is critical to maintaining the near-term stability
of global markets), our nation's economic vulnerability to oil
price shocks is largely a function of how much oil we use and
not how much we produce.
Global Production: Much more substantial oil reserves
exist, of course, in other parts of the world, including--
besides the Middle East--parts of the former Soviet Union,
Africa, and South and Central America. The Commission therefore
recommends that the U.S. Government encourage nations with
significant underdeveloped oil reserves to allow foreign
investment in their energy sectors to increase global oil
production. Kazakhstan, for example, provides an example of the
benefits of liberalized investment policies. Having opened its
oil resources to significant foreign investment in the mid-
1990s, Kazakhstan's crude oil production rate more than doubled
between 1996 and 2002. Output from this one nation is now
expected to reach 2 million barrels per day in the next few
years and could peak at as much as 4 million barrels per day
further down the road. The Commission also recommends that the
U.S. Government consider impacts on world oil markets in cases
where unilateral economic sanctions imposed by our nation may
be limiting investment in foreign energy markets without
necessarily achieving their stated policy objectives.
Unconventional Oil Supplies: Accounting for unconventional
oil supplies--such as tar sands in Canada, heavy oil in
Venezuela, and oil shale in the United States--would
significantly shift the hemispheric balance of world petroleum
resources. With today's high prices, these unconventional
resources are already being tapped to a greater extent and by
2015 it is likely that Canada and Venezuela together will
produce nearly 3.5 million barrels per day of unconventional
crude. At the same time, the Fischer-Tropf process, which has
been used for over 50 years to convert coal into a form of
clean diesel fuel, could--at prices above $50 per barrel--
become a significant source of domestic transportation fuel.
Further reliance on unconventional oil resources in the
future, however, will require substantial progress toward
reducing the substantial energy requirements and negative
environmental impacts currently associated with extracting and
processing them. Absent efforts to sequester the carbon used in
producing unconventional oil, for example, the total greenhouse
gas emissions associated with these resources are roughly two
and a half times greater than the emissions associated with
conventional oil production. While the Commission does not
believe that our nation's oil policy must be viewed as a
vehicle for achieving its climate protection objectives, it
seems equally clear to us that it would be foolhardy to pursue
an oil policy that is at odds with other compelling public
policy objectives. Unless and until we learn how to develop
these resources without significantly increasing greenhouse gas
emissions, the Commission believes that exploiting
unconventional oil reserves does not offer a viable long-term
pathway toward a more secure energy future. Therefore, the
Commission has recommended increased funding to improve the
environmental performance of technologies and practices used to
produce unconventional oil resources.
Strategic Reserves: Oil stockpiles provide an important
insurance policy against the potentially dire consequences of a
significant short-term global supply disruption. Combined with
private stocks, the U.S. Strategic Petroleum Reserve currently
provides us with enough spare capacity to cover the loss of all
imports for approximately 150 days, or a partial disruption for
much longer. To improve global and domestic oil security, the
Commission recommends that the U.S. Government work with other
major oil-consuming nations to increase their public reserves
and participate in the global network of strategic reserves.
In particular, membership in the International Energy
Agency (IEA) could provide major emerging oil-consuming nations
like China and India with: (1) A greater feeling of ownership
on their part in how the ``global energy system'' is run; (2)
improved transparency in energy statistics and policymaking;
and (3) an established forum to communicate concerns, success
stories, and partnership ideas. IEA membership also brings with
it a requirement that nations maintain strategic oil stocks
sufficient to supply 90 days of demand and agree to manage them
in coordination with IEA member countries (although this
requirement is not legally binding). Because the IEA is a
cooperative group of the Organization for Economic Cooperation
and Development (OECD)--the IEA's 26 member nations include
most OECD countries--a number of issues would have to be
addressed with respect to the inclusion of currently non-OECD
developing nations. In the past, initiation into the OECD has
been a lengthy and sometimes controversial process in which
standards of economic development, openness, and human rights
are considered. Given the potential benefits noted above,
however, possibilities for bringing countries like China or
India into the IEA on an expedited or alternative basis--
perhaps with special observer or some other unique status--
should be explored.
Oil Demand Measures
While the Commission firmly believes that both supply and
demand measures must be pursued as part of an effective
strategy to enhance the nation's energy security, it is
important to emphasize that when it comes to protecting the
economy from oil price shocks, a barrel produced and a barrel
conserved are not the same thing. The benefits of every added
barrel of supply--whether produced domestically or abroad--
accrue to oil consumers the world over, in the form of a
marginal reduction in the market price. By contrast, the
benefits that can be achieved through demand-side measures and
alternative fuel production--besides being much larger in
absolute magnitude--are largely captured by those who implement
them. The Commission therefore devoted significant attention to
the potential for reducing our nation's oil demand,
particularly in the transportation sector, which--because it
accounts for nearly 70 percent of current domestic consumption
and is nearly solely dependent on petroleum fuels--is key to
oil use in the broader U.S. economy.
Strengthening and Reforming CAFE While Promoting Advanced-
Technology Vehicles and Addressing Jobs and Competitiveness
Concerns: Improving passenger vehicle fuel economy is by far
the most significant and reliable oil demand reduction measure
available to U.S. policymakers. As noted previously, CAFE
standards played an important role in substantially reducing
the oil intensity of the U.S. economy between the late 1970s
and early 1990s. However, a longstanding political stalemate
has blocked significant progress in fuel economy for over two
decades. People often confuse our failure to increase domestic
fuel economy with the view that technology options for
improving vehicle efficiency have not advanced over the past
two decades. Nothing could be farther from the truth. The
efficiency of our automobiles increases annually. Estimates of
this annual increase vary substantially from a low estimate of
roughly 1.5 percent per year to a high estimate of over 5
percent per year. However, absent any requirement to direct
these substantial efficiency gains toward achieving the public
good of reduced oil dependence, vehicle manufacturers have
instead devoted recent technological advancements to simply
maintaining fuel economy while dramatically increasing vehicle
size and power. While vehicle fuel economy is now no higher
than it was in 1981, vehicle weight has increased by 24 percent
and horsepower has increased by over 100 percent over this same
time period. In fact, most of today's economy cars outperform
the ``muscle'' cars of the 1970s. If we enhance the rate of
efficiency advancement and channel the majority of this
improvement into greater fuel economy, we can maintain the
amenities of the current vehicle fleet while gradually
increasing fuel economy every year.
In proposing to significantly strengthen and reform vehicle
fuel economy requirements, the Commission sought to address the
three issues we believe are most responsible for the last two
decades of stagnation in this critical policy area: (1)
Uncertainty over the cost of future fuel-saving technology; (2)
concern that more stringent standards will compromise vehicle
safety; and (3) fears that new standards will put the U.S. auto
industry and U.S. auto workers at further competitive risk
relative to foreign automakers.
CAFE Reform: Pairing a significant increase in standards
with reforms that would make the CAFE program more flexible and
reduce the compliance burden for manufacturers would help to
address cost concerns. The Commission commends recent efforts
by the National Highway Traffic Safety Administration (NHTSA)
to introduce program reforms as part of its 2005 rulemaking to
update CAFE standards for light trucks. Further reforms that
should be considered include allowing manufacturers to trade
fuel economy credits with each other and across the light truck
and passenger vehicle fleets, as well as ``safety valve''
mechanisms that would set a defined upper limit on compliance
costs in the event that fuel-savings do not mature as expected
or prove more expensive than anticipated.
The adequacy of NHTSA's authority to craft effective CAFE
standards for passenger cars has recently been called into
question. The Commission believes that NHTSA should be granted
the requested authority and similarly that Congress should
provide NHTSA with clear direction about how to apply it. When
NHTSA sets new standards, the Agency seeks to fully offset the
costs of new fuel-saving technology with the value of saved
gasoline. This approach has obvious merit, but its application
depends significantly upon NHTSA's ability to assess the full
societal benefits of avoiding a gallon of gasoline consumption.
At present, NHTSA lacks both the tools and authority to
adequately factor in many of these broader externalities. This
inability results in a systematic undervaluation of the
benefits achievable through improved vehicle fuel economy and
results in standards that are lower than would be justified by
a more comprehensive assessment. It's not that NHTSA doesn't
work hard to assess these externalities--in its recent light
truck rulemaking, the Agency sought to include factors such as
reduced vulnerability to oil price shocks, reduced air
pollution, and even the value of spending less time at gas
stations.
However, NHTSA has no ability to quantify the value of
reduced future tensions with China over tight oil supplies or
the constraints that oil dependence imposes on our foreign
policy. After considering the costs of protecting our access to
global oil resources, NHTSA, in its recent rulemaking, decided
not to include any value in reduced military costs as a result
of increased fuel economy. The Regulatory Impacts Assessment
reads:
The U.S. military presence in world regions that
represent vital sources of oil imports also serves a
range of security and foreign policy objectives that is
considerably broader than simply protecting oil
supplies. As a consequence, no savings in government
outlays for maintaining the Strategic Petroleum Reserve
or a U.S. military presence are included among the
benefits of the light truck CAFE standard adopted for
MY 2008-2011.
All told, NHTSA's recent rulemaking assesses total
petroleum market externalities to be slightly less than 6 cents
per gallon. When added to projected gasoline costs of $1.60 per
gallon over the next decade ($2 pump price minus roughly $.40
in taxes), NHTSA arrives at a total societal value of a gallon
of gasoline saved at just under $1.70 gallon. This number
clearly helps explain why the increase in truck standards that
emerged from the rulemaking process was so modest.
When considering the administration's recent request that
Congress grant NHTSA broad authority to reform passenger car
standards along the same lines as the recent light-truck
rulemaking, Congress must also consider giving the agency
specific, updated guidance about the factors to be considered
in establishing standards and about how these factors should be
weighted and analyzed. Moreover, given the apparent political
difficulty of revisiting fuel economy regulations, Congress
should also consider establishing--or directing NHTSA to
establish--a dynamic fuel economy target that becomes gradually
but steadily more aggressive over time, rather than picking a
single number. A defined percent-per-year improvement goal,
coupled with an effective cost-capping mechanism or well-
defined ``off-ramps'' in the event that later requirements
begin to impose unacceptable tradeoffs in terms of cost or
other vehicle attributes, may prove more effective over time
and more palatable in the short run, than choosing a particular
mpg requirement that remains fixed for years or even decades.
Vehicle Safety: Safety concerns have long contributed to
the prevailing CAFE stalemate, but there is reason for optimism
that the terms of this debate, too, have begun to shift in
important ways. First, the rapid emergence of hybrid-electric
vehicle technology clearly demonstrates that substantial fuel
economy improvements can be achieved while maintaining or even
increasing horsepower and without reductions in vehicle weight
or size. Second, a more sophisticated approach to the issue of
safety--one that accounts for the impact of heavier vehicles on
other vehicles in the event of a collision and their effects on
overall fleet safety as well as on the safety of their
individual occupants--has served to illuminate the fact that
while the relationship between vehicle weight and safety is
clearly important, it is far from straightforward. Finally,
some argue that advances in light but very strong composite
materials that allow for significant weight reductions to be
achieved in concert with ongoing safety improvements--together
with other advances in vehicle design and safety features--will
prove fundamentally game-changing, although for now cost issues
remain.
Domestic Industry Competitiveness: Given the recent, well-
publicized troubles of U.S. automakers, concerns about jobs and
competitiveness will continue to figure prominently in any
debate over vehicle fuel economy. The Commission worked with
the United Auto Workers and experts at the University of
Michigan to assess the competitive impacts of a significant
increase in fuel-economy requirements on the domestic
automobile industry. Our analysis suggests that the domestic
automakers currently are at a disadvantage, relative to their
foreign competitors, in terms of the expertise and
manufacturing capacity needed to design, produce, and
incorporate the most advanced hybrid-electric and diesel
technologies. Therefore the Commission urges policymakers to
consider mechanisms for addressing jobs and competitiveness
concerns that would strengthen the domestic industry and better
position it to meet future global demand for advanced
technology vehicles. Specifically, the Commission recommended
in its 2004 report that consumer tax incentives to stimulate
consumer demand for highly efficient, advanced-technology
vehicles be extended and coupled with business tax incentives
aimed at helping parts suppliers and manufacturers with U.S.
facilities retool their plants to produce these vehicles.
Importantly, the Commission's analysis showed that such
incentives could be designed to ensure that their cost to the
U.S. Treasury would be more than covered by the additional tax
revenues associated with increased domestic production. In
light of the fact that domestic manufacturers are presently
losing money and hence not paying much in the way of taxes,
additional work is underway to design alternative mechanisms to
provide the suggested incentives.
Oil Savings through Increased Fuel Economy: The oil savings
achievable through improved new vehicle fuel economy depend, of
course, on specific assumptions about how quickly and
aggressively new standards would be introduced and on whether
other aspects of the current CAFE program are reformed at the
same time. Appendix A summarizes the results of a bounding
exercise intended to portray the savings that could be achieved
if new vehicles technologies were employed to increase fuel
economy over the next 20 years. The results are cumulative
(that is, each row includes the demand reductions associated
with all of the rows above it) and reflect oil savings in 2025
from a baseline business-as-usual demand forecast of 26 million
barrels per day. The table suggests that the United States
could reduce oil consumption in 2025 by 2.2 million barrels per
day by implementing a 40-percent improvement in gasoline
vehicle efficiency. If a significant fraction of fuel-efficient
hybrid vehicles were added to the mix, the savings would rise
to roughly 3.5 million barrels per day. Under the most
aggressive scenario considered, U.S. oil consumption could be
reduced by nearly 5 million barrels per day if the new-vehicle
fleet in 2025 were comprised of a combination of efficient
gasoline, gasoline hybrid and plug in hybrid vehicles.
Fuel Economy Improvements in the Heavy-Duty Truck Fleet and
Existing Light Vehicle Fleet: Smaller but nonetheless important
opportunities exist to reduce U.S. oil consumption by improving
the fuel economy of the heavy-duty truck fleet and of the
existing light-car fleet. The Department of Energy's 21st
Century Truck Program, for example, is being undertaken with
the cooperation of major heavy-truck engine manufactures; it
estimates that the fuel economy performance of so-called
``Class 8'' long-haul trucks, which are the largest fuel
consumers of all heavy trucks, could be improved as much as 60
percent. Enhanced diesel technology and improved aerodynamics
in the heavy-duty truck fleet could produce oil savings of as
much as 1 million barrels per day in 2025. As an initial step,
the Commission recommends that EPA be instructed to develop a
test procedure to assess heavy-duty vehicle fuel economy so
that we have an opportunity to seek reductions from this sector
should the will to do so emerge in the future. For the existing
light-duty vehicle fleet, simply ensuring that replacement
tires have the same low rolling resistance as original-
equipment tires can improve vehicle fuel economy by as much as
4.5 percent at very low cost to the vehicle owner.
Efficiency improvements are important not only because they
produce demand reductions that will allow us to ``buy time'' to
develop new alternatives to oil (a serious effort to diversify
our fuel supply will likely take decades), but because they are
essential to making many of those alternatives technologically
and economically viable on a commercial scale. Biofuels and
most other alternative fuels suffer from feedstock constraints,
a lower energy density than gasoline, or both. Unless the
vehicle fleet becomes more fuel-efficient, efforts to promote a
greater reliance on alternative fuels will likely falter due to
inadequate supply or inadequate driving range. Conversely, the
land requirements for cellulosic ethanol production or the
battery requirements for a plug-in hybrid-electric vehicle
become much more manageable if the vehicles that employ these
fuels or technologies are also highly efficient to begin with.
Once one recognizes that the successful development of
petroleum alternatives depends on highly efficient vehicle
technologies, it becomes apparent that current provisions
intended to promote the production of flexible-fueled vehicles
by providing credits that weaken overall fleet fuel economy are
shortsighted and ultimately counterproductive.
Developing Alternatives to Oil
The United States burns nearly 140 billion gallons of
gasoline each year and relies on petroleum-based fuels to
supply nearly all of its transportation energy needs. To
meaningfully improve our nation's energy security, alternative
transportation fuels must be capable of being economically and
reliably produced on a truly massive scale. The Commission
identified four criteria that characterize a promising
alternative fuel: (1) It can be produced from ample domestic
feedstocks; (2) it has low net, full fuel-cycle carbon
emissions; (3) it can work in existing vehicles and with
existing infrastructure; and (4) it has the potential to become
cost-competitive with petroleum fuels given sufficient time and
resources dedicated to technology development. Among the
variety of alternative fuel options potentially available for
the light-duty vehicle fleet, the Commission believes that
ethanol produced from cellulosic biomass (i.e., fibrous or
woody plant materials) should be the focus of near-term federal
research, development, and commercial deployment efforts. Let
me briefly discuss the attributes of traditional corn-based
ethanol and then turn to cellulosic ethanol.
Corn-based ethanol is far and away our most successful
nonpetroleum transportation fuel. The Renewable Fuels Standard
adopted in the 2005 Energy Policy Act imposes an annual ethanol
sales requirement that grows to 7.5 billion gallons in 2012.
Ethanol sales were roughly 4 billion gallons last year. Despite
the beneficial sales-volume credits given to producers of
cellulosic ethanol, virtually all of this mandate will be met
with traditional corn ethanol. A requirement to sell 250
million gallons of cellulosic ethanol takes effect in 2013. To
an extent, Congress's effort to stimulate demand for cellulosic
ethanol may be undermined by the unexpected demand for ethanol
of any kind. Present expectations are that demand for ethanol
will exceed the requirements of the RFS for most if not all of
the program. In this context, credits may have little or no
value and the 2.5:1 cellulosic credit advantage may provide no
meaningful benefit. Congress may want to investigate other
policy approaches to achieve the intended aims of these credit
provisions.
For years, detractors of corn-based ethanol have asserted
that the energy content of a gallon of ethanol is matched or
even exceeded by the energy required to produce it. The
Commission's analysis disputes this conclusion, finding that
corn-based ethanol provides nearly 20 percent more energy than
it takes to produce. A more recent study by Argonne National
Laboratory finds nearly a 35-percent benefit. Nevertheless, the
fundamental liability of corn-based ethanol is that there is
simply not enough corn to begin to keep pace with expected
growth in transportation energy demand, let alone to reduce
current U.S. gasoline consumption in absolute terms. Put
simply, it takes roughly 4 percent of our nation's corn supply
to displace 1 percent of our gasoline supply. Even
organizations devoted to ethanol advocacy agree that it will be
difficult to produce more than 10-12 billion gallons of ethanol
a year without imposing unacceptable demands on corn supply and
significant upward pressure on livestock feed prices.
Cellulosic ethanol is chemically identical to corn-based
ethanol and is equally compatible with existing vehicle
technology and fueling infrastructure. The added advantages of
cellulosic ethanol lie in its significantly lower energy inputs
and greenhouse gas emissions, its much larger base of potential
feedstocks, and its greater potential to become cost-
competitive with gasoline at very large production volumes. For
cellulosic ethanol to succeed on a commercial scale, however,
important concerns about land requirements must be overcome and
production costs must be reduced. The central challenge is
producing enough feedstocks without disrupting current
production of food and forest products. Some cellulosic ethanol
can be produced from currently available waste products such as
corn stalks, sugar cane bagasse, and wheat straw. Production
volumes on the order of 50 billion gallons per year, however,
will require improved high-yield energy crops like switchgrass,
the integration of cellulosic ethanol production into existing
farming activities, and efficiency improvements in the
processes used to convert cellulosic materials into ethanol.
A Commission-sponsored analysis of the land required to
produce enough cellulosic ethanol to fuel half of the current
U.S. passenger vehicle fleet reveals the importance of the
advancements noted above. Using status quo assumptions for crop
yields, conversion efficiency, and vehicle fuel economy, Oak
Ridge National Laboratory has estimated that it would take 180
million acres or roughly 40 percent of the land already in
cultivation in the United States to fuel half the current
vehicle fleet with cellulosic ethanol. Estimated land
requirements can be reduced dramatically--to approximately 30
million acres--if one assumes steady but unremarkable progress
over the next two to three decades to (1) double per-acre
yields of switchgrass, (2) increase the conversion efficiency
of ethanol production by one-third, and (3) double the fuel
economy of our vehicle fleet. As a point of reference, there
are roughly 30 million acres in the Conservation Reserve
Program (CRP).
Another central challenge is reducing production costs for
cellulosic ethanol. Because energy crops like switchgrass can
be grown with minimal inputs of energy, fertilizer, and
pesticides, the use of such feedstocks offers obvious economic
benefits, as does producing ethanol from materials that would
otherwise be treated as waste. The National Renewable Energy
Laboratory and a separate analysis sponsored by the Commission
both suggest that mature cellulosic ethanol production could
compete economically with gasoline. However, these studies are
projections. At this time, no full-scale production of
cellulosic ethanol exists anywhere in the world. Until
cellulosic ethanol is produced in a variety of commercial
facilities, it will not be possible to prove or disprove
current cost estimates. These are serious challenges, but they
are achievable if we dedicate ourselves to a serious,
coordinated, and sustained research, development, and
commercialization effort.
As a critical first step in this direction, the Energy
Policy Act of 2005 contains at least 10 major programs to
promote ethanol derived from cellulosic feedstocks. These
programs include explicit authorizations for more than $4.2
billion over the next decade to support critical R&D as well as
``first-mover'' commercial facilities through a combination of
grants, loan guarantees, and production incentives. While these
programs demonstrate Congress's clear intention to promote
biofuels, continued vigilance will be required to ensure that
this vision is achieved. Historically, efforts to promote
biofuels have been undermined by a lack of appropriations,
inconsistent funding year to year, and an unusual degree of
congressional earmarks. These factors, if continued, will make
it difficult to achieve the critical objective of diversifying
our nation's fuel supply.
The 2005 Energy Policy Act also took steps to ensure that
increased use of ethanol will not undermine air quality and
public health standards. Eliminating the opportunity for
ethanol-blended gasoline to meet less protective evaporative
emission standards remains necessary to ensure that our efforts
to increase energy security do not undermine our clean air
goals. Finally, carmakers will need to take some steps to
better accommodate ethanol-blended gasoline. The Coordinated
Research Council, which is supported by the automotive and
petroleum industries and the State of California, has been
conducting research to examine the extent to which automobile
evaporative emissions increase in cars using ethanol-blended
fuels. The research appears to indicate that when a small
quantity of ethanol is blended into gasoline, the resulting
mixture escapes more readily through the hoses and seals in the
vehicle's fuel system leading to more smog-forming emissions.
The problem appears less prevalent in newer vehicles but
demonstrates the type of challenges that will arise as we begin
to transition toward a more diverse suite of transportation
fuels. One of the many reasons for interest in promoting
flexible-fueled vehicles capable of running on up to 85 percent
ethanol blends is that when ethanol is the dominant
constituent, the overall volatility of the fuel is reduced and
evaporative problems go away. Efforts by Chairman Lugar,
Senator Obama, and others to increase the number of flexible-
fueled vehicles sold over the next decade and significantly
increase ethanol refueling infrastructure deserve serious
consideration.
In sum, the Commission urges Congress to make every effort
to fund the research and demonstration projects authorized in
the Energy Policy Act of 2005. While it is clear that all
discretionary programs must come under continual budget
scrutiny, inconsistent funding from year to year can be
devastating to long-term research efforts by making it
impossible to hire and train experts, build infrastructure, and
amass knowledge based on iterative experimentation. The
Commission recognizes that Congress alone is responsible for
appropriations, but can't help but note that the high level of
noncompetitive earmarks is undermining the strategic goals of
our nation's bioenergy programs. For example, in 2004, of the
$94 million in appropriations for DOE's bioenergy programs,
nearly $41 million was directed to earmarked projects. In 2005,
earmarks accounted for nearly 50 percent of the program's
budget. Paradoxically, this high level of earmarks reflects the
enthusiasm of many Members of Congress for promoting domestic
alternatives to petroleum. However, an effective national
effort that coordinates the efforts of Federal, State, and
private institutions cannot be mounted under these
circumstances.
Conclusion
Sadly, there are no good options for delivering immediate
relief from high prices at the gas pump. And while it's
understandable at times like this that people want to focus on
price gouging, windfall-profits, or restrictive environmental
laws--as if our plight was somehow the result of a few greedy
people or poorly written statutes--we must direct the vast
majority of our attention to confronting the fundamental roots
of our oil security predicament. To make real progress, we must
substitute thoughtful analysis for rhetoric and rise above the
temptation to take political advantage of the current crisis by
crafting a truly bipartisan response.
Prices may, of course, fall again in the months ahead. But
there is almost no scenario in which the underlying causes of
the current crisis simply resolve themselves without a
concerted effort by the United States and other major oil-
consuming nations to change course. The real tragedy would be
if this ``moment'' simply passes as others have with no real
progress toward a lasting solution. In short, there is no
question that we will someday use less oil than we do now. The
question is rather whether we arrive at that point on our own
terms or on someone else's. The Commission believes that the
sacrifices we choose are infinitely preferable to those imposed
on us by forces we cannot control. The National Commission on
Energy Policy looks forward to working with this committee in
its ongoing effort to chart a more secure energy future for our
nation.
------
Appendix A
Summary of Measures for Improving U.S. Oil Supply
----------------------------------------------------------------------------------------------------------------
Projected Impact/Projected Oil
Measure Savings
----------------------------------------------------------------------------------------------------------------
Increasing Supply
Exploit all domestic conventional Increase U.S. output by 2.0 MBD
reserves
Exploit global reserves Increase global supply by 4.0+
ofunconventional oil MBD
----------------------------------------------------------------------------------------------------------------
Reducing Demand
Heavy Duty Trucks
Enhanced Diesel Technology and 1.0 MBD
Aerodynamics
Reduce Average Highway Speed by 0.3 MBD
10 mph
---------------------------------------------------------------------
Passenger Vehicles and Delivery Trucks
Advanced Gasoline Engine 2.2 MBD
Technology (32 mpg)
---------------------------------------------------------------------
Advance Gasoline Engine 3.5 MBD
Technology + 50% Advanced Hybrid/
Diesel Sales (40 mpg)
---------------------------------------------------------------------
Advanced Gasoline Engine 4.6 MBD
Technology + Advanced Hybrid/
Diesel + 25% Plug-in Hybrids (50
mpg)
----------------------------------------------------------------------------------------------------------------
DevelopingAlternative Fuels
Quadruple ethanol production post- 2.0 MBD (30 billion gallons)
2012
---------------------------------------------------------------------
Dramatically increase biodiesel 0.5 to 1.0 MBD (7.5 to 15 billion
production gallons)
Create Domestic Fischer-Tropsch 0.5 to 3.0+ MBD (7.5 to 45+
Industry (Coal to Diesel) billion gallons)
----------------------------------------------------------------------------------------------------------------
``THE HIDDEN COST OF OIL''
Thursday, March 30, 2006
------
Opening Statement
HON. RICHARD G. LUGAR
U.S. Senator From Indiana,
Chairman, Senate Committee on Foreign Relations
----------
The Foreign Relations Committee meets today to consider the
externality costs of U.S. dependence on fossil fuels. The
gasoline price spikes following the Katrina and Rita hurricanes
underscored for Americans the tenuousness of short-term energy
supplies. Since these events, there is a broader understanding
that gasoline and home heating prices are volatile and can
rapidly spike to economically damaging levels due to natural
disasters, terrorist attacks, or other world events. But, as
yet, there is not a full appreciation of the hidden costs of
oil dependence to our economy, our national security, our
environment, and our broader international goals.
Today, with the help of experts who have thought a great
deal about these issues, we will attempt to more clearly define
some of these costs. We are cognizant that this is a difficult
and imprecise exercise. We are also aware that most, if not
all, energy alternatives have some externality costs. But we
are starting from the presumption that if we blithely ignore
our dependence on foreign oil, we are inviting an economic and
national security disaster.
With less than 5 percent of the world's population, the
United States consumes 25 percent of its oil. If oil prices
remain around $60 a barrel through 2006, we will spend
approximately $320 billion on oil imports this year. Most of
the world's oil is concentrated in places that are either
hostile to American interests or vulnerable to political
upheaval and terrorism. More than three-quarters of the world's
oil reserves are controlled by national oil companies. And
within 25 years, the world will need 50 percent more energy
than it does now.
These basic facts demand a major reorientation in U.S.
policy aimed at reducing U.S. dependence on fossil fuels. Our
goals must be to mitigate the short-term costs of our
dependence on oil, while pursuing energy alternatives that
would reduce the international leverage of petro-superpowers,
improve environmental quality, cushion potential oil price
shocks, stimulate new high-tech energy industries, and ground
the American economy on energy sources that will neither run
out nor be cut off by a foreign supplier.
There are at least six basic threats associated with our
dependence on fossil fuels. First, oil supplies are vulnerable
to natural disasters, wars, and terrorist attacks that can
produce price shocks and threats to national economies. This
threat results in price instability and forces us to spend
billions of dollars defending critical fossil fuel
infrastructure and choke points.
Second, over time, finite fossil fuel reserves will be
stressed by the rising demand caused by explosive economic
growth in China, India, and many other nations. This is
creating unprecedented competition for oil and natural gas
supplies that drives up prices and widens our trade deficit.
Maintaining fossil fuel supplies will require trillions in new
investment--much of it in unpredictable countries that are not
governed by democracy and market forces.
Third, energy rich nations are using oil and natural gas
supplies as a weapon against energy poor nations. This
threatens the international economy and increases the risk of
regional instability and military conflict.
Fourth, even when energy is not used overtly as a weapon,
energy imbalances are allowing oil-rich regimes to avoid
democratic reforms and insulate themselves from international
pressure and the aspirations of their own people. In many oil
rich nations, oil wealth has done little for the people, while
ensuring less reform, less democracy, fewer free market
activities, and more enrichment of elites. It also means that
the United States and other nations are transferring billions
of dollars each year to some of the least accountable regimes
in the world. Some of these governments are using this money to
invest abroad in terrorism, instability, or demagogic appeals
to anti-Western populism.
Fifth, reliance on fossil fuels contributes to
environmental problems, including climate change. In the long
run, this could bring drought, famine, disease, and mass
migration, all of which could lead to conflict and instability.
Sixth, our efforts to facilitate international development
are often undercut by the high costs of energy. Developing
countries are more dependent on imported oil, their industries
are more energy intensive, and they use energy less
efficiently. Without a diversification of energy supplies that
emphasizes environmentally friendly options that are abundant
in most developing countries, the national incomes of energy
poor nations will remain depressed, with negative consequences
for stability, development, disease eradication, and terrorism.
Each of these threats comes with short- and long-term
costs. As a result, the price of oil dependence for the United
States is far greater than the price consumers pay at the pump.
Some costs, particularly those affecting the environment and
public health, are attributable to oil no matter its source.
Others, such as the costs of military resources dedicated to
preserving oil supplies, stem from our dependence on oil
imports. But each dollar we spend on securing oil fields,
borrowing money to pay for oil imports, or cleaning up an oil
spill is an opportunity missed to invest in a sustainable
energy future.
Certain types of costs are extremely difficult to quantify.
We understand that many national security risks are heightened
by our oil dependence. But how, for example, would we assign a
dollar figure to Iran's use of its energy exports to weaken
international resolve to stop its nuclear weapons program?
Yet we should do our best to quantify the externality costs
of oil, so we have a clearer sense of the economic and foreign
policy tradeoffs that our oil dependence imposes on us. As the
U.S. Government and American businesses consider investments in
energy alternatives, we must be able to compare the costs of
these investments with the entire cost of oil. Public
acknowledgement of the billions of dollars we spend to support
what the President has called our ``oil addiction,'' would shed
new light on investment choices related to cellulosic ethanol,
hybrid cars, alternative diesel, and other forms of energy.
As we address these questions today, we will have the
benefit of a distinguished panel of experts. Dr. Hillard
Huntington is executive director of the Energy Modeling Forum
at Stanford University. He is a senior fellow and past
president of the United States Association for Energy
Economics. He recently coordinated two studies funded by the
Department of Energy that evaluated the economic risks of oil
price shocks. Mr. Milton Copulos is President of the National
Defense Council Foundation. He has advised Secretaries of
Defense, Energy, and Interior and was a member of the National
Petroleum Council. He is widely published on military affairs
and has devoted much study to the military expenditures
associated with ensuring the flow of oil. Dr. Gary Yohe is the
John E. Andrus Professor of Economics at Wesleyan University.
Professor Yohe is widely published on the adaptation and
mitigation of climate change. He recently edited Avoiding
Dangerous Climate Change, the collection of papers on the
subject that were prepared for last year's G-8 Summit.
We welcome our three witnesses and look forward to their
insights.
Opening Statement
HON. JOSEPH R. BIDEN, Jr.
U.S. Senator From Delaware,
Ranking Member, Senate Committee on Foreign Relations
----------
Mr. Chairman, thank you for holding this hearing on the
``Hidden Costs of Oil.''
For most of us, the costs of oil seem far from hidden. They
are right up there on the signs at our gas stations, they are
there in black and white on our heating bills.
But as our witnesses will show us today, the price at the
pump, the price on our heating bills, as bad as they may be,
are only part of the story.
Those prices conceal the hidden tax we pay to OPEC
countries who use their pricing power to charge us more than
they could get in an open international market for oil.
In addition, those prices conceal the costs of the security
commitments we face to protect the supply of oil from OPEC and
other foreign sources.
And they conceal the costs to our foreign policy, which has
been handcuffed for over half a century by our dependence on
oil from parts of the world with very different interests from
our own.
At the same time, the rising price of oil has created a
cushion that props up despotic regimes and finances their
militaries or allows other countries to put off hard decisions
about democratic and economic reform.
Finally, the price at the pump hides the long-term
environmental damage--as well as the economic and social
disruptions--that will come with global warming.
The economic, social, political, and environmental costs we
face today--and the costs of dealing with their repercussions
in the future--will not stay hidden.
There is no free lunch, as economists never tire of telling
us. Somebody eventually has to pick up the tab.
When we pay too much for oil--because OPEC can use its
market power--we have less money for other priorities. That
artificial inflation affects both domestic and imported oil,
since there is essentially just one world market for oil.
In turn, we pay too much for transportation, and power. We
pay too much for the plastics and other products derived from
oil.
That is a dead-weight loss for the entire economy. Every
watt of electricity from our power plants, every minute we run
a refrigerator or air conditioner, every trip to the store,
everything shipped by truck or rail--all those parts of our
everyday lives costs more than they should.
That leaves us with less to spend on other priorities. It
make us poorer--as individuals, as families, as a nation.
Mr. Chairman, we often speak about the costs of our foreign
policy--usually we are speaking metaphorically. We may talk
about trading values or prestige in one area to secure
influence or leverage in another.But there are real costs to
our policies, too, of course. As hard as they may be to
calculate, we must try to measure the economic costs of our
reliance on oil, especially on imported oil, on oil from
countries that are themselves unstable or that promote
instability.
That will be important testimony for the record of this
committee, Mr. Chairman.
Throwing our net a little wider, Mr. Chairman, from the
quantifiable costs of oil to our economy, and the costs of our
foreign entanglements to secure that oil, we come to the costs
we will incur to cope with the climate change that will result
from our use of oil and other fossil fuels.
You and I share a concern about all of the foreign policy
implications of climate change, Mr. Chairman. Climate change
will alter growing seasons, redistribute natural resources,
lift sea levels, and shift other fundamental building blocks of
economic, social, and political arrangements around the world.
It could spark massive human migrations and new wars over
resources. We will pay a price for those, too.
No other issue carries such a threat to our way of life.
Putting a dollar value on that threat can show us what we are
risking if we don't act now to slow global warming.
In every one of the areas we will look at today, the near-
term prospects are grim. The rise of the massive economies of
China and India will continue to put pressure on supply, will
demand tens of billions in investments, will further complicate
global oil and energy politics, and will accelerate the
accumulation of carbon dioxide and other greenhouse gases.
Half the world's population--3 billion people--live on $2 a
day. Just to provide them with a little electricity to replace
wood and kerosene for cooking, to pump water, to light a
schoolhouse--will require more than our current energy system
can provide.
To meet the inevitable challenges built into our current
fossil fuel economy, we must first start with the facts. Today
we will learn the many ways the true costs of oil are hidden
from us.
To make clear choices, we need to have the right
information. Hidden costs lead consumers to make the wrong
choices. They distort investment decisions--we invest too much
in systems that will make our problems worse, and we invest too
little in solutions.
This hearing will give us some of the facts we need to
start making the right choices.
Thank you, Mr. Chairman.
Prepared Statement
MILTON R. COPULOS
President, National Defense Council Foundation, Alexandria, VA
BEFORE THE
U.S. Senate Committee on Foreign Relations
MARCH 30, 2006
----------
My name is Milton R. Copulos, and I am president of the
National Defense Council Foundation.
I would like to thank Chairman Lugar for giving me the
opportunity to speak with the committee today and I would also
like to commend him for his leadership addressing our nation's
perilous energy dependence.
A HEADLONG RUSH INTO DISASTER
America is rushing headlong into disaster. What is worse,
however, is that it is a disaster of our own design.
More than three decades have passed since the 1973 Arab Oil
Embargo first alerted the nation to its growing oil import
vulnerability. Yet, despite this warning, we are now importing
more than twice as much oil in absolute terms than we did in
1973, and the proportion of our oil supplies accounted for by
imports is nearly double what is was then. What makes this
dependence even more dangerous than it was three decades ago is
the fact that the global market has become a far more
competitive place with the emerging economies of China, India,
and Eastern Europe creating burgeoning demand for increasingly
scarce resources.
Indeed, over the past decade the Chinese economy has grown
at a frenetic pace, officially estimated at 9.2 percent in
2005. India's growth rate for that year was 7.1 percent. In
Eastern Europe, Belarus grew at 7.8 percent, the Czech Republic
at 4.6 percent, and the Ukraine at 4.4 percent. This compares
with 3.5 percent for the United States, 2.1 percent for Japan,
and 1.7 percent for the European Union.
As a result of this explosive growth, oil consumption in
the developing countries is expected to increase at a rate of 3
percent annually over the next two decades. But even this
figure may severely understate the problem. Indeed, China alone
has accounted for 40 percent of the total increase in world oil
consumption over the past several years. Moreover China plans
to add 120 million vehicles to its automobile fleet over the
next decade, ultimately requiring 11.7 million barrels per day
of new crude oil supplies. India, too, is expected to continue
to require increasingly large amounts of oil with a projected
increase of 28 percent over just the next 5 years.
Even conservative estimates suggest that nearly 30 million
barrels per day of new oil supplies will be required by the
year 2025 just to service the developing world's requirements.
When Europe and the Americas are included the requirement is
closer to 40 million barrels per day. It is doubtful that new
supplies sufficient to meet this skyrocketing demand will be
found from conventional sources.
UNCERTAIN SUPPLIERS
Nor is it just the potential physical shortfall of
resources that is a source of concern. An even greater concern
lies in the instability of U.S. sources of oil imports.
The top six sources of U.S. oil imports, Canada, Mexico,
Saudi Arabia, Venezuela, Nigeria, and Iraq account for 65.1
percent of all foreign crude reaching our shores and 38.9
percent of total domestic consumption. Of these, four, Saudi
Arabia, Venezuela, Nigeria, and Iraq provide 38.2 percent of
oil imports and 22.6 percent of total consumption. For a
variety of reasons, none of the four I just mentioned can be
considered a reliable source of supply.Venezuela's President
Hugo Chavez is a vocal opponent of the United States who has
twice threatened to cut off oil shipments to the United States.
Nigeria's production has been repeatedly disrupted by civil
unrest, and some 135,000 barrels of oil per day are lost to
theft.
Last month, a terrorist attack on the massive Saudi oil
processing facility at Abqaiq was barely thwarted, but not
before two of the terrorist's explosive-laden cars were
detonated. Moreover, this was not the only instance of an
attempt to disrupt the flow of Saudi oil. In the summer of
2002, Saudi Interior Ministry forces blocked an al-Qaeda plot
to attack and cripple the loading dock at Ras Tanura which
handles 10 percent of the world's oil supplies.
Attacks on oil facilities in Iraq are a frequent
occurrence.
Nor are the attacks on U.S. oil supplies a coincidence. In
December of 2004, al-Qaeda issued a fatwa that said in part:
We call on the mujahideen in the Arabian Peninsula to
unify their ranks and target the oil supplies that do
not serve the Islamic nation but the enemies of this
nation.
The fatwa went onto declare:
Be active and prevent them from getting hold of our
oil and concentrate on it particularly in Iraq and the
Gulf.
Clearly, given the instability that characterizes four of
our top six sources of oil, the question is not whether we will
experience a supply disruption, but rather when. The disruption
could occur as a consequence of a terrorist act, or could
result from a politically motivated embargo. In the end, it
doesn't really matter why a disruption occurs, because the
consequences would be identical, and severe.
THE CONSEQUENCES OF DISRUPTION
The supply disruptions of the 1970s cost the U.S. economy
between $2.3 trillion and $2.5 trillion. Today, such an event
could carry a price tag as high as $8 trillion--a figure equal
to 62.5 percent of our annual GDP or nearly $27,000 for every
man, woman, and child living in America.
But there is more cause for concern over such an event than
just the economic toll. A supply disruption of significant
magnitude, such as would occur should Saudi supplies be
interdicted, would also dramatically undermine the nation's
ability to defend itself.
Oil has long been a vital military commodity, but today has
taken on even more critical importance. Several examples
illustrate this point:
A contemporary U.S. Army Heavy Division uses more
than twice as much oil on a daily basis as an entire
World War II field army.
The roughly 582,000 troops dispatched to the Persian
Gulf used more than twice as much oil on a daily basis
as the entire 2-million man Allied Expeditionary Force
that liberated Europe in World War II.
In Operation Iraqi Freedom, the oil requirement for
our Armed Forces was 20 percent higher than in the
first gulf war, Operation Desert Storm, and now amount
to one barrel of refined petroleum products per day for
each deployed service member.
Moreover, the military's oil requirements will be even
higher in the future.
Therefore, a shortage of global oil supplies not only holds
the potential to devastate our economy, but could hamstring our
armed forces as well.
THE HIDDEN COST OF IMPORTED OIL
While it is broadly acknowledged that our undue dependence
on imported oil would pose a threat to the nation's economic
and military security in the event of a supply disruption, less
well understood is the enormous economic toll that dependence
takes on a daily basis.
The principal reason why we are not fully aware of the true
economic cost of our import dependence is that it largely takes
the form of what economists call ``externalities,'' that is,
costs or benefits caused by production or consumption of a
specific item, but not reflected in its pricing. It is
important to understand that even though external costs or
benefits may not be reflected in the price of an item, they
nonetheless are real.
In October 2003, my organization, The National Defense
Council Foundation, issued ``America's Achilles Heel: The
Hidden Costs of Imported Oil,'' a comprehensive analysis of the
external costs of imported oil. The study entailed the review
of literally hundreds of thousands of pages of documents,
including the entire order of battle of America's Armed Forces
and more than a year of effort. Its conclusions into divided
the externalities into three basic categories: Direct and
Indirect economic costs, Oil Supply Disruption Impacts, and
Military Expenditures.
Taken together, these costs totaled $304.9 billion
annually, the equivalent of adding $3.68 to the price of a
gallon of gasoline imported from the Persian Gulf.
As high as these costs were, however, they were based on a
crude oil refiner acquisition cost of $26.92. Today, crude oil
prices are hovering around $60 per barrel and could easily
increase significantly. Indeed, whereas in 2003 we spent around
$99 billion to purchase foreign crude oil and refined petroleum
products, in 2005 we spent more than $251 billion, and this
year we will spend at least $320 billion.
But skyrocketing crude oil prices were not the only factor
affecting oil-related externalities. Defense expenditures also
changed.
In 2003, our Armed Forces allocated $49.1 billion annually
to maintaining the capability to assure the flow of oil from
the Persian Gulf.
I should note that expenditures for this purpose are not
new. Indeed, last year marked the 60th anniversary of the
historic meeting between Saudi monarch King Abdul Aziz and U.S.
President Franklin Roosevelt where he first committed our
nation to assuring the flow of Persian Gulf oil--a promise that
has been reaffirmed by every succeeding President, without
regard to party.
In 1983 the implicit promise to protect Persian Gulf oil
supplies became an explicit element of U.S. military doctrine
with the creation of the United States Central Command,
CENTCOM. CENTCOM's official history makes this clear stating in
part:
Today's command evolved as a practical solution to
the problem of projecting U.S. military power to the
gulf region from halfway around the world.
I am stressing the longstanding nature of our commitment to
the gulf to underscore the fact that our estimates of military
expenditures there are not intended as a criticism. Quite the
opposite, in fact. Without oil our economy could not function,
and therefore protecting our sources of oil is a legitimate
defense mission, and the current military operation in Iraq is
part of that mission.
To date, supplemental appropriations for the Iraq War come
to more than $251 billion, or an average of $83.7 billion per
year. As a result, when other costs are included, the total
military expenditures related to oil now total $132.7 billion
annually.
So, where does that leave us?
In 2003, as noted, we estimated that the ``hidden cost'' of
imported oil totaled $304.9 billion. When we revisited the
external costs, taking into account the higher prices for crude
oil and increased defense expenditures we found that the
``hidden cost'' had skyrocketed to $779.5 billion in 2005. That
would be equivalent to adding $4.10 to the price of a gallon of
gasoline if amortized over the total volume of imports. For
Persian Gulf imports, because of the enormous military costs
associated with the region, the ``hidden cost'' was equal to
adding $7.41 cents to the price of a gallon of gasoline. When
the nominal cost is combined with this figure it yields a
``true'' cost of $9.53 per gallon, but that is just the start.
Because the price of crude oil is expected to remain the
$60 range this year, expenditures for imports are expected to
be at least $320 billion this year. That amounts to an increase
of $70 billion in spending for foreign oil in just one year.
That increase would raise the total import premium or ``hidden
cost'' to $825.1 billion, or almost twice the President's
$419.3 billion defense budget request for fiscal year 2006. If
all costs are amortized over the total volume of imports, that
would be equivalent to adding $5.04 to the price of a gallon of
gasoline. For Persian Gulf imports, the premium would be $8.35.
This would bring the ``real'' price of a gallon of gasoline
refined from Persian Gulf oil to $10.86. At these prices the
``real'' cost of filling up a family sedan is $217.20, and
filling up a large SUV $325.80.
But, can anything be done about this enormous drain on our
economy? The answer to that question is, ``yes.''
SOLVING THE PROBLEM
The simple truth is that we do not suffer from a lack of
energy resources. Rather, what we suffer from is a lack of the
political will and public consensus to use them.
As Pogo said, ``We have met the enemy and they is us.''
What then can we do?
The first step is to recognize that we face a two-fold
problem. The first part entails assuring adequate fuel supplies
for the 220 million privately owned vehicles on the road today.
These vehicles have an average lifespan of 16.8 years and the
average age of our vehicle fleet is 8.5 years. Therefore, we
will require conventional fuels or their analogs for at least a
decade, even if every new vehicle produced from this day forth
runs on some alternative.
The second part of the problem is how to affect a
transition to alternatives to conventional petroleum. This
transition will take much longer than a decade--perhaps a
generation or more--but the longer we delay beginning to make
the change, the longer it will take to accomplish.
In the near term, say the next 5 to 10 years, we
essentially have two options. First, to make the greatest
possible use of our readily accessible conventional domestic
resources, particularly the oil and natural gas that lay off
our shores. We should also consider using some of our 1,430
trillion cubic feet of domestic gas reserves as a feedstock for
motor fuels produced through the Fischer-Tropsch process.
Indeed, we currently have 104 trillion cubic feet of so-called
``stranded'' natural gas in Alaska and a pipeline with some 1.1
million barrels per day of excess capacity. Stranded gas could
be converted into clean burning motor fuel and transported in
the existing pipeline to the lower 48 states.
We can also expand our use of renewable fuels such as
alcohol and biodiesel. A concerted program to make full use of
them could significantly add to our motor fuel stocks within
the stated time frame.
We should also encourage the acquisition of advanced
vehicle technologies such as flex-fuel vehicles, hybrids and
plug-in hybrids and vehicles that use propane or natural gas.
At the same time, we should encourage the installation of
biodiesel and E-85 pumps in our nation's filling stations so
that the infrastructure for alternative fuels can keep pace
with the growth of the alternative fuel vehicle fleet.
Another point is to make sure that we do not forget to
address nontransportation petroleum consumption. The fact that
two-thirds of our petroleum is consumed in the transportation
sector means that one-third is not. The opportunities to reduce
oil consumption from nontransportation are greater than you
might expect.
Take residential energy use for example. Roughly 12 percent
of distillate use goes to home heating, most of it imported
from the Middle East. Yet, there are alternatives readily
available that could totally eliminate this use, and at the
same time save consumers money. For instance, a developer in
Moline, IL, is currently building homes that are between 85
percent and 90 percent energy efficient, and meet their heating
and cooling requirements with geothermal energy. More
important, these homes are being sold for 20 percent less than
conventional housing sold in the same area. So consumers are
not only saving energy, they are saving enormous amounts of
money.
There is another commercial process that converts waste
wood into a zero-sulfur industrial boiler fuel. Our Clean
Forests program that removes dead wood and debris from national
forests to prevent fires is generating an enormous amount of
such waste wood, and that is just the tip of the iceberg. Oak
Ridge National Laboratory estimates that a total of 1.366
billion tons of biomass is available for energy production each
year. Utilizing this process, it could be turned into 5.6
million barrels of oil per day, or close to 27 percent of our
total domestic requirements.
These, of course, are just two examples. Many more exist.
The important consideration is that we have a wealth of options
that could help in the near to intermediate term if we would
only make use of them. To do this, however, we must have
leadership.
In this regard, I should note that Chairman Lugar and his
colleagues, Senators Chaffee, Coleman, Nelson, and Obama,
deserve particular praise for their sponsorship of S. 2025, the
Vehicle and Fuel Choices for American Security Act, which is
based on the Energy Security Blueprint of the Set America Free
Coalition, of which I was a founding member. It is focused on
reducing our dependence on foreign oil, not by compromising the
American way of life, but by encouraging fuel choice,
utilization of the vast array of America's domestic energy
resources and accelerated deployment of advanced vehicle
technologies. It is clear that this sort of bipartisan effort
is exactly the kind of action that is required if we are to
make any progress on this critical issue.
In the longer term, there are other domestic energy
resources that can be brought into play. We have between 500
billion and 1.1 trillion barrels of oil contained in our huge
oil shale resources. We have 496.1 billion tons of demonstrated
coal reserves--27 percent of the world total. We also have
320,222 trillion cubic feet of natural gas in the form of
methane hydrates. This is equivalent to 51.1 trillion barrels
of oil. Indeed one on-shore deposit in Alaska alone contains
519 trillion cubic feet of natural gas. That is equal to 82.9
billion barrels of oil.
We also have 4.85 billion pounds of uranium reserves.
Harnessing this vital resource to provide electricity for our
cities, towns, and farms is only common sense. Moreover, it
could serve to reduce the need to use natural gas for
electricity generation, preserving it for higher uses.
There is one final point I want to make sure is not
forgotten. Some portion of every dollar we spend on imported
oil finds its way into the hands of individuals who wish to do
us harm. The simple truth is that international terrorism
stands on two financial pillars: Oil and the drug trade. To the
extent that we reduce the revenues generated by either of these
activities, we hinder the ability of terrorists to operate.
To conclude, while we our nation is in dire peril due to
its excessive dependence on imported oil, the situation is far
from hopeless. We have the resources necessary to provide our
nation's energy needs if we can only find the political will to
do so.
Prepared Statement
DR. HILLARD HUNTINGTON
Executive Director, Energy Modeling Forum, Stanford University,
Stanford, CA
BEFORE THE
U.S. Senate Committee on Foreign Relations
MARCH 30, 2006
----------
Thank you, Chairman Lugar, Ranking Member Biden, and
distinguished members of the committee, for the opportunity to
discuss with you today the hidden cost of oil.
Tight oil markets with minimal surplus capacity have made
world oil prices particularly jumpy over recent months. In the
last 6 months, a series of political and natural events have
cascaded around the globe and left their impact on increasingly
nervous oil-consuming nations. These developments have been
extremely varied and include the following:
A thwarted suicide attack in February at the Abqaiq
oil processing facility in eastern Saudi Arabia;
A string of turmoil in the Niger Delta highlighted
by a recent speedboat attack in January by gunmen on
the riverside offices of Italian oil company Agip;
Antigovernment attempts to disrupt congressional
elections in Venezuela culminating in an explosion at
an oil pipeline connected to that country's largest oil
refinery; and
Devastating hurricanes Katrina and Rita in the
United States in August and September.
Their sporadic nature conveys an element of
unpredictability and surprise.
I have recently coordinated several studies for the Energy
Modeling Forum at Stanford University that relate directly to
this issue. I would like to share a few observations that I
think summarize the perspectives of many (but certainly not
all) participants who were involved in the studies. Our forum
frequently brings together the leading experts and advisors
from government, business, and university and other research
organizations to discuss how we can improve analysis of key
energy problems that keep policymakers awake at night. In this
particular case, the work was done primarily for the U.S.
Department of Energy, but we were asked to invite individuals
we thought were the leading people on this issue.
Our two studies focused on the risks of another major oil
disruption and the economic consequences of oil price shocks. I
am also submitting both reports that expand considerably over
my brief remarks here today. I will also briefly discuss a
third issue: Our dependence on the oil-producing cartel.
Although these episodes have made oil-importing countries
nervous and have imposed some very high costs on people and
infrastructure, they have yet to duplicate the types of oil
shocks that were experienced during the 1970s and early 1990s.
As a result, their economic impacts have been more tolerable
than in the past. Despite recent oil price volatility, for
example, real GDP in the United States has grown strongly, by
3.5 percent annually since the end of 2001.
A number of knowledgeable experts, however, are concerned
about the very real possibility of much more damaging shocks in
the future. A group assembled by Stanford's EMF thought that
the odds of, at least, one very damaging shock over the next 10
years were higher than those of an oil market with some
volatility but without such a shock. Although another major oil
disruption is not a certainty, its likelihood is significantly
high enough to be worrisome.
Your odds of drawing a club, diamond, or heart from a
shuffled deck of playing cards are three out of four. In the
EMF study, the participants found that the odds of a foreign
oil disruption happening over the next 10 years are slightly
higher at 80 percent. Disruption events included surprise
geopolitical, military, or terrorist turmoil that would remove
at least 2 million barrels per day--an amount representing
about 2.1 percent of expected global oil production. Foreign
disruptions of this magnitude would have more serious effects
on oil prices and the economy than we have seen with the
Katrina and Rita hurricanes. Oil prices, however, would rise
more and for longer than a few months or a heating season.
In the study, experts estimated the amount of oil lost to
the market as the number of barrels removed by the initial
disruption, minus any offsets from the use of excess capacity
from undisrupted regions. The experts were asked to exclude any
releases from the U.S. strategic petroleum reserve, as these
actions require separate decisions from the government during
an emergency.
The approach identified four major supply regions where
disruptions are most likely. These regions account for
approximately similar shares of total world oil production.
Collectively, they account for about 60 percent of total world
oil production. The study lumped Algeria, Angola, Libya,
Mexico, Nigeria, and Venezuela as the first region, called
``West of Suez.'' Saudi Arabia was the second region, and other
Persian Gulf states--Iran, Iraq, Kuwait, Qatar, UAE, and Oman--
were the third. Russia and the Caspian states comprised the
fourth region.
The riskiest areas were the Persian Gulf countries outside
of Saudi Arabia and several countries along the Atlantic Basin,
such as Nigeria and Venezuela. The least risky area was Russia
and the Caspian states. Although the participants found the
possibility of disruptions was lower in Saudi Arabia than in
several other vulnerable regions, disruptions there would tend
to have larger effects.
In the second study on the economic consequences of a major
disruption, we sought to understand how easily the economy
could absorb such a shock. Figure 1 shows that oil price shocks
preceded 9 of the last 10 recessions in the United States. The
solid line indicates the path of inflation-adjusted crude oil
prices since 1950. The gray bars denote periods when the U.S.
economy was experiencing recessions as defined by the National
Bureau of Economic Research (NBER). This finding was first
advanced by Professor James Hamilton at University of
California at San Diego and has been confirmed by numerous
other researchers.
If a large disruption does occur, we can expect very
serious economic consequences. Large disruptions, especially if
they move inflation-adjusted oil prices higher than experienced
recently, will cause unemployment and excess capacity to grow
in certain key sectors. Many large-scale models of the U.S.
economy estimate that the level of real GDP could decline by 2
percent for a doubling of oil prices. Since the economy is
growing more rapidly than 2 percent per year, that impact would
not mean a recession.
Other researchers, however, think that these estimates
underestimate the impacts, because they do not focus explicitly
on sudden and scary oil price shocks. These other researchers
think that our historical experience suggests that the level of
real GNP would decline by more, at 5 percent for a doubling of
the oil price. My personal view is that the higher estimate may
be closer to what would actually happen if we had a major
disruption. That would mean a recession.
Some people think that oil shocks may not be a problem
because the Federal Reserve Board could intervene and lessen
the impact. I have a great deal of faith in the Federal Reserve
Board. They have done a marvelous job in controlling inflation,
which places the U.S. economy in a better position for
offsetting oil disruptions than in previous decades. I am not
yet convinced that they can compensate the economy for a large
devastating disruption. They would have to make some important
decisions very quickly at a time when fears were running
rampant. They may also find it difficult to stimulate the
economy because nominal interest rates are already very low,
not only here but also abroad. For this reason, I think that
the United States should seriously consider other types of
insurance policies that would allow the Federal Reserve Board
more leeway and flexibility in controlling our inflation rates.
As a general rule, strategies that reduce our dependence on
oil consumption are more effective than policies that reduce
our imports. One should view the world oil market as one giant
pool rather than as a series of disconnected puddles. When
events happen anywhere in the market, they will raise prices
not only there but also everywhere that connect to that large
pool. Since reducing our imports with our own production does
not sever our link to that giant pool, disruptions will cause
prices to rise for all production, including that originating
in the United States. More domestic supplies do not protect us
from these price shocks.
Unfortunately, insurance policies are never free. It will
cost us something to implement a strategy that reduces our risk
to another major oil disruption. But it will also cost us a lot
of money and jobs if we do not adopt an insurance policy and
the nation faces another major disruption.
As a result of the 1970 oil price shocks, we shifted away
from oil in many sectors in the early 1980s, but that trend has
slowed considerably since then. Moreover, transportation
remains strongly tied to oil use. The dependence on oil in
transportation not only affects households directly through
higher gasoline costs but it also raises the costs of
transporting goods around the country.
Our most recent studies did not address a third issue that
could influence the costs of using oil. It is sometimes argued
that the United States could adopt policies that would try to
minimize or break the oil-producing cartel's control over the
market. Our forum addressed this issue many years ago. Although
the range of views was wide, our working group conservatively
estimated that the hidden cost of oil from this source might be
$5 per barrel, or 12 cents per gallon. Several years ago, the
National Research Council used a very similar estimate in their
review of the corporate average fuel economy standards for
automobiles. That estimate is not trivial, but it is
considerably smaller than various estimates for gasoline's
hidden costs due to pollution, congestion and automobile
accidents.
In summary, the nation is vulnerable to another major
disruption not because the economy imports oil but primarily
because it uses a lot of oil, primarily for gasoline and jet
fuel. Even if domestic production could replace all oil
imports, which I am not advocating, the economy would remain
vulnerable to the types of disruptions discussed here. However,
it is very appropriate that this committee focus its energy on
this issue. Oil-importing governments have committed
significant political and military resources to the Middle East
over a number of decades in order to provide regional stability
that is critical to world oil supplies. Excessive exposure to
oil vulnerability risks in this country increases these costs
or reduces the capacity to pursue foreign policy objectives
that are critical for mitigating nuclear proliferation,
terrorism, and other risks that reduce global security. I
cannot provide you with an estimate for this political cost of
using oil, but it is extremely important.
Prepared Statement
DR. GARY W. YOHE
John E. Andrus Professor of Economics, Wesleyan University, Middletown,
CT
BEFORE THE
U.S. Senate Committee on Foreign Relations
MARCH 30, 2006
----------
Mr. Chairman, Senator Biden, and members of the Committee
on Foreign Relations, thank you for your invitation to present
testimony in on ``The Hidden (Climate Change) Costs of Oil''.
It is indeed an honor to be here, today.
The task that I accepted when I agreed to testify involves
providing some insight into the economic cost of carbon
emissions so that you can ``back out the share of oil to get
the right order of magnitude.'' I am afraid, however, that this
deceptively complicated question has the same answer as nearly
every other question in economics: ``It depends.'' My testimony
will therefore be directed at providing insight into the
underlying factors upon which these costs depend. I will,
however, also offer some thoughts about what the underlying
uncertainty means for climate policy and the hidden cost of
oil.
I will begin with a brief review of the range of more than
100 published estimates of what is termed the ``social cost of
carbon''; this is the calculation by which we can attribute a
share of cost to oil based on its carbon content (per unit
energy). I will highlight why the range of these estimates is
so large. I will suggest which of the factors that make the
range so large can be influenced by political decisionmakers,
but I will also focus attention on scientific factors that are
beyond their control. Thinking about how we should cope with
these scientific factors will lead me to identify two
fundamental sources of hidden cost that may not be immediately
obvious.
I will, in particular, suggest an alternative way to
calculate the hidden climate costs of oil based explicitly on
hedging against the potentially severe economic costs of abrupt
changes in policy. These policy adjustments may be required
over the near to moderate term as we come to know more about
the impacts and/or likelihoods of climate change (particularly
abrupt climate change). It is important to recognize that many
of these impacts have not yet been included in the direct
calculation of social cost. Adopting a risk-management
(hedging) approach to minimize the cost of future policy
adjustments is therefore an appropriate, economically rational
way to think about the social cost of carbon. Moreover, it
makes uncertainty a reason to act immediately rather than a
reason to procrastinate.
I will, as well, argue that ignoring social costs
calculated by either a tradition direct method or one derived
from a risk-management approach systematically undervalues
projects and programs that would reduce our consumption of
petroleum (like investment in ethanol as an alternative source
of energy) while it produces an symmetric overvaluation of
projects and programs that would do just the opposite (like
drilling in the Arctic National Wildlife Refuge).
To begin, I recall ``burning ember'' diagram from the Third
Assessment Report (the TAR) of the Intergovernmental Panel on
Climate Change (2001) in Figure 1. It duplicates Figure TS-12
from the Technical Summary of the Third Assessment Report where
five Lines of Evidence'' were identified. These are the five
sources of concern, or indicators of vulnerability, that have
captured our attention. Two are essentially economic indicators
of aggregate impacts at the global and regional levels. They
are dominated by estimates of the costs of the climate impacts
in market-based sectors like real estate (in response to rising
seas), agricultural, energy, and the like. As such, they do
include evaluations of how various nations and even communities
within nations might adapt to climate-related stress. It is
important to recognize, of course, that these impacts are felt
unevenly across the globe. Panel A of Figure 2 offers a
representative portrait of a possible geographic distribution
of vulnerability to climate impacts in 2050 calibrated in terms
of aggregate impacts. Developing countries show up as most
vulnerable, but developed countries are surely not immune to
climate risk even when their superior capacities to adapt are
recognized.
A third row in Figure 1 focuses attention squarely on
ecosystems, although the IPCC did not provide the detailed
assessment of ecosystem services that was so thoroughly
documented in the recently completed Millennium Ecosystem
Assessment. The last two rows reflect vulnerability to two
potentially more significant areas concern: ``Risks from Future
Large-Scale Discontinuities'' and ``Risks from Extreme Weather
Events''. Figure 2 illustrates the uneven impact point by
displaying a plausible global distribution of vulnerability in
2050 calibrated to the risks of extreme weather events.
Developing countries are still most vulnerable, but developed
countries also face significant vulnerabilities from a more
urgent ``source of concern.''
Economists have been trying for some time to assign
currency values to the impacts of climate change identified in
Figure 1 by tracking their potential trajectories along long-
term scenarios of how the future might unfold. Not
surprisingly, economists do not agree on what that future might
hold. They do, however, agree on what measure to use: ``The
social cost of carbon.'' What is that? It is the damage caused
over time by releasing an addition unit of ton of carbon in the
atmosphere discounted back to the year of its emission. That is
to say, the social cost of carbon represents the ``marginal
cost'' of emissions; alternatively, it represents the
``marginal benefit'' of unit of carbon emissions reduction.
Most importantly for present purposes, the social cost of
carbon, when modified by the carbon content of petroleum, is
the hidden (climate change) cost of oil.
Figure 3 displays the range of more than 100 estimates
currently available in the published literature; it is derived
from Tol (2005). Panel A of Figure 3 displays the social cost
in dollars per metric ton of carbon; Panel B tracks the
estimate to the hidden cost of oil by expressing social cost in
dollars per barrel of oil.
How should the data portrayed in Figure 3 be read?
Percentile values are recorded up the vertical axis for cost
estimates ordered from lowest to highest. So, for example,
point A indicates that 12 percent of the published estimates
were below $0. Point B highlights the median estimate,
suggesting that 50 percent of the estimates were below $13 per
ton of carbon ($2 per barrel of oil), and 50 percent of the
estimate were above this benchmark. Point C shows that 20
percent of the estimates were above $73 per ton of carbon ($9
per barrel of oil). Finally, the average across all of the
published estimates is $85 per ton ($11 per barrel of oil).
How should the content of Figure 3 be read, given all of
the disagreement that it reveals? Richard Tol, an economist
from Germany, read the data to mean that $45 per ton should be
interpreted as the upper bound for a reasonable ``best''
estimate of the social cost of carbon; this is $6 per barrel of
oil. Thomas Downing (2005), a geographer from the Stockholm
Environment Institute office in the United Kingdom looked at
the same distribution through the lens of enormous experience
in developing countries where changes in climate produce
enormous displacement effects that cannot be quantified in
terms of currencies. He read the data to mean that $45 per ton
or $6 per barrel of oil should be interpreted as a lower bound
to the true social cost of carbon.
I have been told that presenting such a figure in a
political environment would allow people who do not think that
climate is a problem to focus on the lower part of range and
people who think that climate is a large problem to focus on
the upper part of the range. Productive conversations between
the two sides, I have also been told, would seldom be a product
of such readings.
For this, and a few other reasons, I now preach caution to
all. To appropriately read Figure 3, we must work to understand
what is going on behind the scenes. Why is the range so large?
Which of the ``Lines of Evidence'' do the estimates include,
and which do they miss? What combinations of underlying factors
produce low or even negative estimates of social cost, and what
other combinations support estimates on the high end of the
scale? Answers to these questions can be enormously revealing.
The choice of discount rate and the incorporation of equity
weights are extremely important, and both lie within the
purview of decisionmakers. High discount rates sustain low
estimates because future damages become insignificant.
Conversely, low discount rates produce high estimates because
future damages are important. Meanwhile, strong equity
weighting across the globe support high estimates because poor
developing countries are most vulnerable. Conversely, weak or
no equity weighting can produce low estimates because poor
developing countries do not factor heavily in the overall
calculation.
It turns out, however, that several scientific parameters
that decisionmakers cannot choose are even more important in
explaining the variability depicted in Figure 3. Indeed,
climate sensitivity (i.e., the increase in global mean
temperature that would result from a doubling of greenhouse gas
concentrations from preindustrial levels) is the largest source
of variation. It is possible to derive high estimates for the
social cost of carbon even if you assume low discount rates and
almost no equity weighting. All that is required is the
assumption that the climate sensitivity lies at the high range
of the latest range of estimates. Andronova and Schlesinger
(2001), for example, find that the historical record could
easily be explained with climate sensitivities as high as 8 or
9 degrees Centigrade (even though the TAR reported an upper
bound of 5.5 degrees).
Moreover, none of the estimates from which Figure 3 was
drawn include the economic costs of ``Risks from Extreme
Climate Events'' or ``Risks from Future Large-Scale
Discontinuities.''
To offer one glimpse at the role that these sources of
concern might play, I can report the results of some more
recent work that focuses on what we know about when the
Atlantic thermohaline circulation (the Gulf Stream when it
flows close to the United States) might weaken or suddenly
collapse. Schlesinger, et al. (2006) put the chance of collapse
at 50 percent if the global mean temperature were to climb by
another 2 degrees Centigrade. Put another way, Yohe, et al.
(2006) show more than a 40 percent chance of collapse by 2105
along a ``middle of the road'' emissions scenario. Imposing a
global policy targeted at a $100 per ton social cost of carbon
($12 per barrel of oil) would reduce that likelihood to 25
percent if it were initiated immediately; but only to 35
percent if it were delayed by 30 years.
At this point, it is essential to re-emphasize the point
that none of these critical scientific factors can be decided
by committee deliberation and popular elections. Their values
are up to nature to decide, and we simply do not know what she
has in the cards for us. The bottom-line is that the planet
faces significant risks whose economic impacts have not yet
been quantified. We have some idea of their likelihood, though,
and so it is impossible to claim with certainty that they will
not materialize as the future unfolds.
What should we do? We should recognize that the climate
policy will be adjusted over time as we learn more, especially
if all (or even one) of the really bad news scenarios begin to
materialize. We should also recognize that these adjustments
could significantly and immediately change the economic
environment in which we will be living. Moreover, we should
recognize that these adjustments might be required sooner
rather than later.
All of this risk in the policy realm suggests an
alternative method for estimating the social cost of carbon.
Yohe, et al. (2004) conducted a simple ``act-then-learn''
experiment which showed that the expected discounted cost of
global policy adjustment in 2035 could be minimized if a modest
hedging policy were begun now. Their work suggests a risk-based
social cost of carbon in 2005 equal to about $10 per ton ($1.50
per barrel of oil). And their approach makes uncertainty is the
reason to act in the near term rather than a reason to delay.
To be clear, tacking on $1.50 to the price of a barrel of
oil will not do the trick. This risk based social cost would
increase over time at the rate of interest. So it would be $3
per barrel in 2020 and $5 per barrel just after 2030. The
critical component of the policy, and this estimate of social
cost, is not the starting point. Consistent with the
observation by Watkiss, et al. (2005) that the traditionally
computed social cost of carbon increases over time, it is the
persistent and predictable ratcheting-up of the effective price
of carbon that would give the hedging strategy any traction at
all.
This observation brings me to my last point--identifying a
second potentially expensive consequence of ignoring the hidden
climate cost of oil. Failing to include estimates of the social
cost of the carbon content of oil simply makes projects that
use more oil or provide more oil more likely to go forward.
Why? Because the calculations upon which the investment
decisions would be made would inappropriately underestimate
true costs. They would, in other words, show exaggerated
benefit-cost ratios because the denominators would be too low.
Conversely, failing to include the social cost of the carbon
content of oil makes projects that conserve oil or provide
alternative sources of energy less likely to go forward. They
would simply show deflated benefit-cost ratios because the
numerators would be too low.
So, what if I had to pick a number? What would I say if
asked to estimate place the hidden social cost of oil in
perspective? I think that my $1.50 per barrel risk-based
estimate is too low, since our analysis assumed immediate
global participation in any policy response 2005 and it
captured only a very limited set of possible sources of
uncertainty. Given all of the impacts that are not yet part of
the more traditional approaches, though, I do not think that
the $6 per barrel estimate that separated Tol from Downing is
too high. If pressed, I would probably say $5 per barrel for
2006, but I could be just as comfortable with $10. Indeed, I
would insist only that the social cost attributed to oil for
its climate impacts increase over time at the real rate of
interest.
Again, thank you for the opportunity to be here today, and
thank you for your attention.
``HIGH COST OF CRUDE:
THE NEW CURRENCY OF FOREIGN POLICY''
Wednesday, November 16, 2006
------
Opening Statement
HON. RICHARD G. LUGAR
U.S. Senator From Indiana,
Chairman, Senate Committee on Foreign Relations
----------
The committee meets today to examine the effects of U.S.
oil consumption on American foreign policy and on our wider
economic and security interests. High oil prices have hurt
American consumers at the gas pump, and record revenues flowing
into oil producing nations are changing the world's
geopolitical landscape. Increasingly, oil is the currency
through which countries leverage their interests against oil
dependent nations such as ours.
Oil is not just another commodity. It occupies a position
of singular importance in the American economy and way of life.
In 2003, each American consumed about 25 barrels of oil. That
is more than double the per capita consumption in the United
Kingdom, Germany, and France and more than 15 times that of
China. With less than 5 percent of the world's population, the
United States consumes 25 percent of its oil.
Higher oil prices have helped drive the consumer price
index up 4.7 percent during the past year. Motorists felt this
pinch at the pump long before the destruction of Hurricanes
Katrina and Rita. This year, the United States has spent about
$19 billion per month on oil imports. The cost of imported oil
now accounts for approximately one-third of our trade deficit.
In the short run, our dependence on oil has created a drag
on economic performance at home and troubling national security
burdens overseas. In the long run, this dependence is pushing
the United States toward an economic disaster that could mean
diminished living standards, increased risks of war, and
accelerated environmental degradation.
Up to this point, the main issues surrounding oil have been
how much we have to pay for it and whether we will experience
supply disruptions. But in decades to come, the issue may be
whether the world's supply of oil is abundant and accessible
enough to support continued economic growth, both in the
industrialized West and in large rapidly growing economies like
China and India. When we reach the point where the world's oil-
hungry economies are competing for insufficient supplies of
energy, oil will become an even stronger magnet for conflict
than it already is.
Since 1991, we have fought two major wars in the oil-rich
Middle East, and oil infrastructure and shipping lanes are
targets for terrorism. In addition to the enormous dollar cost
we pay for the military strength to maintain our access to
foreign oil, our petroleum dependence exacts a high price in
terms of foreign policy and international security.
Massive infusions of oil revenue distort regional politics
and can embolden leaders hostile to U.S. interests. Iran, where
oil income has soared 30 percent this year, threatened last
month to use oil as a weapon to protect its nuclear ambitions.
At a time when the international community is attempting to
persuade Iran to live up to its nonproliferation obligations,
our economic leverage on Iran has declined due to its
burgeoning oil revenues. Similarly, the Chavez government in
Venezuela resists hemispheric calls for moderation, in part
because it has been emboldened by growing oil revenues. Russia
uses its gushing oil and natural gas income and reserves as
leverage over new democracies in East Europe. Globally,
critical international security goals, including countering
nuclear weapons proliferation, supporting new democracies, and
promoting sustainable development are at risk because of
dependence on oil.
Diversification of our supplies of conventional and
nonconventional oil, such as Canada's tar sands, is necessary
and under way. Yet because the oil market is globally
integrated, the impact of this diversification is limited. Our
current rate of oil consumption, coupled with rapidly
increasing oil demand in China, India, and elsewhere, will
leave us vulnerable to events in the tumultuous Middle East and
to unreliable suppliers such as Venezuela. Any solution will
require much more than a diversification and expansion of our
oil supply.
Despite the widening discussion of our energy
vulnerability, the U.S. political system has been capable of
only tentative remedial steps that have not disturbed the
prevailing oil culture. The economic sacrifices imposed on
Americans recently by rising oil prices have expanded our
nation's concern about oil dependence. But in the past, as oil
price shocks have receded, motivations for action have also
waned. Currently, policies for mediating the negative effects
of oil dependence continue to be hamstrung in debate between
supply-side approaches and those preferring to decrease demand.
We must consider whether the political will now exists to
commit to a comprehensive strategy.
Our weak response to our own energy vulnerability is all
the more frustrating given that alternatives to oil do exist.
Oil's importance is the result of industrial and consumption
choices of the past. We now must choose a different path.
Without eliminating oil imports or abandoning our cars, we can
offset a significant portion of demand for oil by giving
American consumers a real choice of automotive fuel. We must
end oil's near monopoly on the transportation sector, which
accounts for 60 percent of American oil consumption.
I believe that biofuels, combined with hybrid and other
technologies, can move us away from our extreme dependence on
oil. Corn-based ethanol is already providing many Midwesterners
with a lower cost fuel option. Cellulosic ethanol, which is
made of more abundant and less expensive biomass, is poised for
a commercial takeoff. We made progress in the 2005 energy bill,
which includes incentives to produce 7.5 billion gallons of
renewable biofuel annually. I introduced legislation last week
that would require manufacturers to install flexible-fuel
technology in all new cars. This is an easy and cheap
modification, which allows vehicles to run on a mixture of 85
percent ethanol and 15 percent gasoline.
We will get even greater payoffs for our investment in oil
alternatives if American technological advances can be marketed
to the rest of the world. Nations containing about 85 percent
of the world's population depend on oil imports. These nations
could reap many of the same security and economic benefits by
breaking their oil import chains. Developing countries could
improve their balance of payments and promote rural development
by growing profitable biomass, while offering new markets for
fuel technologies.
We need to think creatively about cooperating with other
countries to address today's global energy challenges. For
example, earlier this month I introduced S. 1950, ``The United
States-India Energy Security Cooperation Act of 2005.'' This
bill would promote greater cooperation with India on clean coal
technology, ethanol, and other energy sources.
I am particularly pleased to welcome two old friends,
today, who will assist us in our inquiry today. Dr. James
Schlesinger, former Secretary of Defense, Secretary of Energy,
and Director of Central Intelligence, has seen America through
oil shocks and has remained committed to improving America's
energy situation. He is a keen analyst of the geopolitical
consequences of oil dependence, as well as an authority on
America's energy future.
Also joining us is Mr. James Woolsey, former Director of
Central Intelligence. In 1999, Jim and I--and I would stress my
dependance on his tutelage in this--coauthored ``The New
Petroleum,'' an article in Foreign Affairs that laid out the
case for a greater role for cellulosic ethanol. He has
continued to serve as a leading advocate for forward-looking
reforms of our energy policy. We thank our distinguished
witnesses for coming and look forward to their insights.
Prepared Statement
HON. JAMES SCHLESINGER
Senior Advisor, Lehman Brothers, Washington, DC
BEFORE THE
U.S. Senate Committee on Foreign Relations
NOVEMBER 16, 2005
----------
Mr. Chairman, members of the committee, I thank the
committee for this opportunity to discuss the quest for energy
security, the implications of our heavy dependence on imported
oil, the rise in oil prices, and their manifold political and
economic repercussions for our nation. In so many ways, the use
of oil as our primary energy source turns out to be a two-edged
sword. Given that dependence, the ramifications are too
numerous to discuss in detail. Given the necessary limitations
on time, I must be selective. Therefore, I shall touch only
upon several salient points.
1. Mr. Chairman, the problem of energy security is of
relatively recent origin. When mankind depended upon windmills,
oxen, horses, etc., energy security was not a strategic
problem. Instead, as a strategic problem it is a development of
modem times--and reflects most crucially the turn to fossil
fuels as increasingly the source of energy. The Industrial
Revolution in the 19th century, strongly reinforced by the
rapid growth of oil-dependent transportation in the 20th,
unavoidably posed the question of security of supply. Imperial
Germany took over Lorraine with its coal fields after the
Franco-Prussian War--to insure its energy security. When
Britain, pushed by Churchill, converted its Navy to oil early
in the 20th century, it sought a secure supply of oil under its
own control in the Persian Gulf--which incidentally increased
its concern for the security of the Suez Canal. For the United
States, where the production of oil had started and for long
was primarily located, the question of security of supply did
not arise until the 1960s and 1970s. Since then, we have
regularly talked about--and sought by various measures--to
achieve greater energy security. Such measures, limited as they
were, have generally proved unsatisfactory. The nation's
dependence on imported hydrocarbons has continued to surge.
Mr. Chairman, until such time as new technologies, barely
on the horizon, can wean us from our dependence on oil and gas,
we shall continue to be plagued by energy insecurity. We shall
not end dependence on imported oil nor, what is the hope of
some, end dependence on the volatile Middle East--with all the
political and economic consequences that flow from that
reality. That is not to say that various measures and
inventions will not, from time to time, shave our growing
dependence, but we will not end it. Instead of energy security,
we shall have to acknowledge and to live with various degrees
of insecurity.
To be sure, we have certain short-term problems to which I
shall presently turn. More importantly, we face a fundamental,
longer term problem. In the decades ahead, we do not know
precisely when, we shall reach a point, a plateau or peak,
beyond which we shall be unable further to increase production
of conventional oil worldwide. We need to understand that
problem now and to begin to prepare for that transition.
The underlying problem is that for more than three decades,
our production has outrun new discoveries. Most of our giant
fields were found 40 years ago and more. Even today, the bulk
of our production comes from these old--and aging--giant
fields. More recent discoveries tend to be small with high
decline rates--and are soon exhausted. Since the issue is
crucial--and is not widely understood--I have prepared a chart
which lays bare the problem.
Mr. Chairman, the upshot is, quite simply, that, as the
years roll by, the entire world will face a prospectively
growing problem of energy supply. Moreover, we shall inevitably
see a growing dependency on the volatile Middle East. We shall
have to learn to live with degrees of insecurity--rather than
the elusive security we have long sought. To be sure, some
insecurity will be mitigated by the Strategic Petroleum
Reserve, and other emergency measures. That will provide some
protection against (short-term) supply disruptions, but it will
not provide protection against the fundamental long-term
problem.
2. In addition to the long-term problem of the prospective
limit on conventional oil production, we have a number of
short-term or cyclical problems that have contributed to the
current stringency and current high prices. Spare production
capacity has essentially disappeared. This reflects the
volatility of oil prices, which has led to a low rate of
investment in new capacity, as well as an unexpected surge of
demand, particularly from China and the United States. For many
years, we have had excess capacity in refining. That, too, has
largely disappeared, and we lack capacity to refine the heavy,
sour crudes that remain available. Here in the United States,
the problem has been amplified by the battering of gulf
infrastructure by Hurricanes Katrina and Rita. We also have an
added, self-inflicted problem of some 17 boutique blends of
gasoline, mandated by state authorities.
The insurgency in Iraq has prevented the increase in
production, even to the prewar level, that many expected. Long-
term sanctions against Iraq, Iran, and Libya, both United
States and international, have reduced their contribution to
world supply. This has taken place against inelastic domestic
production of natural gas. There are, in addition, problems of
electric power generation and transmission. The point about all
of these is these are not inherent problems. In principal, they
would all yield to additional investment. Yet, we must bear in
mind that investment activity depends upon price signals, and
that there is a long period of gestation before additional
investment activity brings supply to market. Some of these
problems may, however, be ameliorated by changes in law or in
regulation.
By about 2010, we should see a significant increase in oil
production as a result of investment activity now under way.
There is a danger that any easing of the price of crude oil
will, once again, dispel the recognition that there is a finite
limit to conventional oil. In no way do the prospective
investment decisions solve the long-term, fundamental problem
of oil supply.
3. Let me turn now to the political and economic
ramifications. Again, let me underscore that energy actions
tend to be a two-edged sword. To some extent, the recent higher
prices for oil reflect some of our own prior policies and
actions. For example, the sanctions imposed upon various rogue
nations, by reducing world supply, have resulted in higher
prices. Operation Iraqi Freedom, followed by the insurgency,
has caused unrest in the Middle East. The consequence has been
somewhat lower production and a significant risk premium that,
again, has raised the price of oil.
The effect of higher oil prices has been significantly
higher incomes for producers. A much higher level of income has
meant that a range of nations, including Russia, Iran,
Venezuela, as well as gulf Arab nations have had their economic
problems substantially eased. As a result, they have become
less amenable to American policy initiatives. Perhaps more
importantly, the flow of funds into the Middle East inevitably
has added to the moneys that can be transferred to terrorists.
As long as the motivation is there and controls remain
inadequate, that means that the terrorists will continue to be
adequately or amply funded. To the extent that we begin to run
into supply limitations and to the extent that we all grow more
dependent on the Middle East, this problem of spillover funding
benefits for terrorists is not going to go away.
4. There are, of course, additional problems of an economic
nature. We all understand that higher oil prices can depress
spending on other goods and services--and thereby cause slower
growth rates and possibly a worldwide recession. The reverse
side of rising receipts for producers is, of course, rising
out-payments by consumer nations. This can readily augment
structural imbalances. This year, the American balance-of-
payments deficit looks to be almost three-quarters of a
trillion dollars. That is not small change. Of the well over
$700 billion of that deficit, some $300 billion comes from oil
and gas. It is recognized that the U.S. balance-of-payments
deficit represents the locomotive that drives much of the
world's economies. In performing this service--for which we get
little thanks--the United States is steadily adding to its
financial obligations to others. How long this process can
continue is uncertain, but high oil prices add to the dilemma.
Finally, Mr. Chairman, I must point to another problem. The
United States is today the preponderant military power in the
world. Still, our military establishment is heavily dependent
upon oil. At a minimum, the rising oil price poses a budgetary
problem for the Department of Defense at a time that our
national budget is increasingly strained. Moreover, in the
longer run, as we face the prospect of a plateau in which we
are no longer able, worldwide, to increase the production of
oil against presumably still-rising demand, the question is
whether the Department of Defense will still be able to obtain
the supply of oil products necessary for maintaining our
military preponderance. In that prospective world, the
Department of Defense will face all sorts of pressures at home
and abroad to curtail its use of petroleum products, thereby
endangering its overall military effectiveness.
In closing, Mr. Chairman, I trust that I have fulfilled the
request in your letter of invitation to analyze ``the
complexity of U.S. reliance on imported energy sources,
particularly oil, and the difficulties the United States faces
in mediating detrimental effects of this dependency.'' Even in
the short run, actions that we take may substantially increase
the resources and reduce the economic and political pressures
on states that are hostile to us. In the longer run, unless we
take serious steps to prepare for the day that we can no longer
increase production of conventional oil, we are faced with the
possibility of a major economic shock--and the political unrest
that would ensue. The United States has just over 4 percent of
the world's population and uses roughly 25 percent of the
world's oil production. In a sense, this statistic in itself is
misleading, because the United States produces roughly 20 to 25
percent of the gross world product. Nonetheless, that statistic
does underscore our potential vulnerability in an era that we
may no longer be able to produce additional conventional crude
oil worldwide.
Thank you very much, Mr. Chairman. I shall be happy to
answer any questions that you or the members of the committee
may have.
Prepared Statement
HON. R. JAMES WOOLSEY
Vice President, Booz Allen Hamilton, McClean, VA
BEFORE THE
U.S. Senate Committee on Foreign Relations
NOVEMBER 16, 2005
----------
Mr. Chairman and members of the committee, it's a real
pleasure to appear before this committee today on this issue. I
am appearing solely on my own behalf and represent no
organization. By way of identification I served as Director of
Central Intelligence, 1993-95, one of the four Presidential
appointments I have held in two Republican and two Democratic
administrations; these have been interspersed in a career that
has been generally in the private practice of law and now in
consulting. The substantial majority of the points I will make
today are drawn from an August 2005 paper by former Secretary
of State, George P. Shultz, and myself, although I have updated
some points due to more recent work; the two of us are
cochairmen of the Committee on the Present Danger and the full
paper may be found at the committee's Web site
(www.fightingterror.org).
Just over 4 years ago, on the eve of 9/11, the need to
reduce radically our reliance on oil was not clear to many and
in any case the path of doing so seemed a long and difficult
one. Today both assumptions are being undermined by the risks
of the post-9/11 world, by oil prices, and by technological
progress in fuel efficiency and alternative fuels.
There are at least seven major reasons why dependence on
petroleum and its products for the lion's share of the world's
transportation fuel creates special dangers in our time. These
dangers are all driven by rigidities and potential
vulnerabilities that have become serious problems because of
the geopolitical realities of the early 21st century. Those who
reason about these issues solely on the basis of abstract
economic models that are designed to ignore such geopolitical
realities will find much to disagree with in what follows.
Although such models have utility in assessing the importance
of more or less purely economic factors in the long run, as
Lord Keynes famously remarked: ``In the long run, we are all
dead.''
These dangers in turn give rise to two proposed directions
for government policy in order to reduce our vulnerability
rapidly. In both cases it is important that existing technology
should be used, i.e., technology that is already in the market
or can be so in the very near future and that is compatible
with the existing transportation infrastructure. To this end
government policies in the United States and other oil-
importing countries should: (1) Encourage a shift to
substantially more fuel-efficient vehicles within the existing
transportation infrastructure, including promoting both battery
development and a market for existing battery types for plug-in
hybrid vehicles; and (2) encourage biofuels and other
alternative and renewable fuels that can be produced from
inexpensive and widely available feedstocks--wherever possible
from waste products.
PETROLEUM DEPENDENCE: THE DANGERS
1. The current transportation infrastructure is committed to oil and
oil-compatible products
This fact substantially increases the difficulty of
responding to oil price increases or disruptions in supply by
substituting other fuels.
There is a range of fuels that can be used to produce
electricity and heat and that can be used for other industrial
uses, but petroleum and its products dominate the fuel market
for vehicular transportation. With the important exception,
described below, of a plug-in version of the hybrid gasoline/
electric vehicle, which will allow recharging hybrids from the
electricity grid, substituting other fuels for petroleum in the
vehicle fleet as a whole has generally required major, time-
consuming, and expensive infrastructure changes. One exception
has been some use of liquid natural gas (LNG) and other fuels
for fleets of buses or delivery vehicles, although not
substantially for privately owned ones, and the use of corn-
derived ethanol mixed with gasoline in proportions up to 10
percent ethanol (``gasohol'') in some States. Neither has
appreciably affected petroleum's dominance of the
transportation fuel market.
Moreover, in the 1970s about 20 percent of our electricity
was made from oil--so shifting electricity generation toward,
say, renewables or nuclear power could save oil. But since
today only about 3 percent of our electricity is oil-generated,
a shift in the way we produce electricity would have almost no
effect on the transportation or oil market. This could change
over the long run, however, with the advent of plug-in hybrid
vehicles, discussed below.
There are imaginative proposals for transitioning to other
fuels for transportation, such as hydrogen to power automotive
fuel cells, but this would require major infrastructure
investment and restructuring. If privately owned fuel cell
vehicles were to be capable of being readily refueled, this
would require reformers (equipment capable of reforming, say,
natural gas into hydrogen) to be located at filling stations,
and would also require natural gas to be available there as a
hydrogen feed-stock. So not only would fuel cell development
and technology for storing hydrogen on vehicles need to be
further developed, but the automobile industry's development
and production of fuel cells also would need to be coordinated
with the energy industry's deployment of reformers and the fuel
for them.
Moving toward automotive fuel cells thus requires us to
face a huge question of pace and coordination of large-scale
changes by both the automotive and energy industries. This
poses a sort of industrial Alphonse and Gaston dilemma: Who
goes through the door first? (If, instead, it were decided that
existing fuels such as gasoline were to be reformed into
hydrogen on board vehicles instead of at filling stations, this
would require onboard reformers to be developed and added to
the fuel cell vehicles themselves--a very substantial
undertaking.)
It is because of such complications that the National
Commission on Energy Policy concluded in its December 2004,
report ``Ending The Energy Stalemate'' that ``hydrogen offers
little to no potential to improve oil security and reduce
climate change risks in the next 20 years.''
To have an impact on our vulnerabilities within the next
decade or two, any competitor of oil-derived fuels will need to
be compatible with the existing energy infrastructure and
require only modest additions or amendments to it.
2. The Greater Middle East will continue to be the low-cost and
dominant petroleum producer for the foreseeable future
Home of around two-thirds of the world's proven reserves of
conventional oil--45 percent of it in just Saudi Arabia, Iraq,
and Iran--the Greater Middle East will inevitably have to meet
a growing percentage of world oil demand. This demand is
expected to increase by more than 50 percent in the next two
decades, from 78 million barrels per day (bbl/d) in 2002 to 118
bbl/d in 2025, according to the Federal Energy Information
Administration. Much of this will come from expected demand
growth in China and India. One need not argue that world oil
production has peaked to see that this puts substantial strain
on the global oil system. It will mean higher prices and
potential supply disruptions and will put considerable leverage
in the hands of governments in the Greater Middle East as well
as in those of other oil-exporting states which have not been
marked recently by stability and certainty: Russia, Venezuela,
and Nigeria, for example. Deep-water drilling and other
opportunities for increases in supply of conventional oil may
provide important increases in supply but are unlikely to
change this basic picture.
Even if other production comes on line, e.g., from
unconventional sources such as tar sands in Alberta or shale in
the American West, their relatively high cost of production
could permit low-cost producers, particularly Saudi Arabia, to
increase production, drop prices for a time, and undermine the
economic viability of the higher cost competitors, as occurred
in the mid-1980s. For the foreseeable future, as long as
vehicular transportation is dominated by oil as it is today,
the Greater Middle East, and especially Saudi Arabia, will
remain in the driver's seat.
3. The petroleum infrastructure is highly vulnerable to terrorist and
other attacks
The radical Islamist movement, including but not
exclusively al-Qaeda, has on a number of occasions explicitly
called for worldwide attacks on the petroleum infrastructure
and has carried some out in the Greater Middle East. A more
well-planned attack than what has occurred to date--such as
that set out in the opening pages of Robert Baer's recent book,
``Sleeping With the Devil'' (terrorists flying an aircraft into
the unique sulfur-cleaning towers in northeastern Saudi
Arabia), could take some 6 million barrels per day off the
market for a year or more, sending petroleum prices sharply
upward to well over $100/barrel and severely damaging much of
the world's economy. Domestic infrastructure in the West is not
immune from such disruption. U.S. refineries, for example, are
concentrated in a few places, principally the gulf coast. The
recent accident in the Texas City refinery--producing multiple
fatalities--points out potential infrastructure
vulnerabilities, as of course does this fall's hurricane damage
in the gulf. The Trans-Alaska Pipeline has been subject to
several amateurish attacks that have taken it briefly out of
commission; a seriously planned attack on it could be far more
devastating.
In view of these overall infrastructure vulnerabilities
policy should not focus exclusively on petroleum imports,
although such infrastructure vulnerabilities are likely to be
the most severe in the Greater Middle East. It is there that
terrorists have the easiest access, and the largest proportion
of proven oil reserves and low-cost production are also located
there. Nor is anything particularly useful accomplished by
changing trade patterns. To a first approximation there is one
worldwide oil market and it is not generally useful for the
United States, for example, to import less from the Greater
Middle East and for others then to import more from there. In
effect, all of us oil-importing countries are in this together.
4. The possibility exists, particularly under regimes that could come
to power in the Greater Middle East, of embargoes or other
disruptions of supply
It is often said that whoever governs the oil-rich nations
of the Greater Middle East will need to sell their oil. This is
not true, however, if the rulers choose to try to live, for
most purposes, in the seventh century. Bin Laden has advocated,
for example, major reductions in oil production and oil prices
of $200/barrel or more.
In 1979 there was a serious attempted coup in Saudi Arabia.
Much of what the outside world saw was the seizure by Islamist
fanatics of the Great Mosque in Mecca, but the effort was more
widespread. Even if one is optimistic that democracy and the
rule of law will spread in the Greater Middle East and that
this will lead after a time to more peaceful and stable
societies there, it is undeniable that there is substantial
risk that for some time the region will be characterized by
chaotic change and unpredictable governmental behavior. Reform,
particularly if it is hesitant, has in a number of cases been
trumped by radical takeovers (Jacobins, Bolsheviks). There is
no reason to believe that the Greater Middle East is immune
from these sorts of historic risks.
5. Wealth transfers from oil have been used, and continue to be used,
to fund terrorism and its ideological support
Estimates of the amount spent by the Saudis in the last 30
years spreading Wahhabi beliefs throughout the world vary from
$70 billion to $100 billion. Furthermore, some oil-rich
families of the Greater Middle East fund terrorist groups
directly. The spread of Wahhabi doctrine--fanatically hostile
to Shiite and Suffi Muslims, Jews, Christians, women,
modernity, and much else--plays a major role with respect to
Islamist terrorist groups: A role similar to that played by
angry German nationalism with respect to Nazism in the decades
after World War I. Not all angry German nationalists became
Nazis and not all those schooled in Wahhabi beliefs become
terrorists, but in each case the broader doctrine of hatred has
provided the soil in which the particular totalitarian movement
has grown. Whether in lectures in the madrassas of Pakistan, in
textbooks printed by Wahhabis for Indonesian schoolchildren, or
on bookshelves of mosques in the United States, the hatred
spread by Wahhabis and funded by oil is evident and
influential.
On all points except allegiance to the Saudi State, Wahhabi
and al-Qaeda beliefs are essentially the same. In this there is
another rough parallel to the 1930s--between Wahhabis'
attitudes toward al-Qaeda and like-minded Salafist jihadi
groups today and Stalinists' attitude toward Trotskyites some
60 years ago. The only difference between Stalinists and
Trotskyites was on the question whether allegiance to a single
state was required or whether free-lance killing of enemies was
permitted. But Stalinist hatred of Trotskyites and their free-
lancing didn't signify disagreement about underlying
objectives, only tactics, and Wahhabi/Saudi cooperation with us
in the fight against al-Qaeda doesn't indicate fundamental
disagreement between Wahhabis and al-Qaeda on, e.g., their
common genocidal fanaticism about Shi'a, Jews, and homosexuals.
So Wahhabi teaching basically supports al-Qaeda ideology.
It is sometimes contended that we should not seek
substitutes for oil because disruption of the flow of funds to
the Greater Middle East could further radicalize the population
of some states there. The solution, however, surely lies in
helping these states diversify their economies over time, not
in perpetually acquiescing to the economic rent they collect
from oil exports and to the uses to which these revenues are
put.
6. The current account deficits for a number of countries create risks
ranging from major world economic disruption to deepening
poverty, and could be substantial reduced by reducing oil
imports
The United States in essence borrows about $2 billion a
day, every day, principally now from major Asian states, to
finance its consumption. The single largest category of imports
is the approximately $1 billion per working day borrowed to
import oil. The accumulating debt increases the risk of a
flight from the dollar or major increases in interest rates.
Any such development could have major negative economic
consequences for both the United States and its trading
partners.
For developing nations, the service of debt is a major
factor in their continued poverty. For many, debt is heavily
driven by the need to import oil that at today's oil prices
cannot be paid for by sales of agricultural products, textiles,
and other typical developing nation exports.
If such deficits are to be reduced, however, say by
domestic production of substitutes for petroleum, this should
be based on recognition of real economic value such as waste
cleanup, soil replenishment, or other tangible benefits.
7. Global-warming gas emissions from man-made sources create at least
the risk of climate change
Although the point is not universally accepted, the weight
of scientific opinion suggests that global warming gases
produced by human activity form one important component of
potential climate change. Oil products used in transportation
provide a major share of U.S. man-made global warming gas
emissions.
THREE PROPOSED DIRECTIONS FOR POLICY
The above considerations suggest that government policies
with respect to the vehicular transportation market should
point in the following directions:
1. Encourage improved vehicle mileage, using technology now in
production
Three currently available technologies stand out to improve
vehicle mileage.
Diesels
First, modern diesel vehicles are coming to be capable of
meeting rigorous emission standards (such as Tier 2 standards,
being introduced into the United States, 2004-08). In this
context it is possible without compromising environmental
standards to take advantage of diesels' substantial mileage
advantage over gasoline-fueled internal combustion engines.
Substantial penetration of diesels into the private vehicle
market in Europe is one major reason why the average fleet
mileage of such new vehicles is 42 miles per gallon in Europe
and only 24 mpg in the United States. Although the United
States has, since 1981, increased vehicle weight by 24 percent
and horsepower by 93 percent, it has actually somewhat lost
ground with respect to mileage over that near-quarter century,
In the 12 years from 1975 to 1987, however, the United States
improved the mileage of new vehicles from 15 to 26 mpg.
Hybrid gasoline-electric
Second, hybrid gasoline-electric vehicles now on the market
show substantial fuel savings over their conventional
counterparts. The National Commission on Energy Policy found
that for the four hybrids on the market in December 2004 that
had exact counterpart models with conventional gasoline
engines, not only were mileage advantages quite significant
(10-15 mpg) for the hybrids, but in each case the horsepower of
the hybrid was higher than the horsepower of the conventional
vehicle.
Light-weight carbon composite construction
Third, constructing vehicles with inexpensive versions of
the carbon fiber composites that have been used for years for
aircraft construction can substantially reduce vehicle weight
and increase fuel efficiency while at the same time making the
vehicle considerably safer than with current construction
materials. This is set forth thoroughly in the 2004 report of
the Rocky Mountain Institute's ``Winning the Oil Endgame.''
Aerodynamic design can have major importance as well. This
breaks the traditional tie between size and safety. Much
lighter vehicles, large or small, can be substantially more
fuel-efficient and also safer. Such composite use has already
been used for automotive construction in Formula 1 race cars
and is now being adopted by BMW and other automobile companies.
The goal is mass-produced vehicles with 80 percent of the
performance of hand-layup aerospace composites at 20 percent of
the cost. Such construction is expected to approximately double
the efficiency of a normal hybrid vehicle without increasing
manufacturing cost.
2. Encourage the commercialization of alternative transportation fuels
that can be available soon, are compatible with existing
infrastructure, and can be derived from waste or otherwise
produced cheaply
Biomass (cellulosic) ethanol
The use of ethanol produced from corn in the United States
and sugar cane in Brazil has given birth to the
commercialization of an alternative fuel that is coming to show
substantial promise, particularly as new feedstocks are
developed. Some 6 million vehicles in the United States, and
all new vehicles in Brazil other than those that use solely
ethanol, are capable of using ethanol in mixtures of up to 85
percent ethanol and 15 percent gasoline (E-85). These are
called Flexible Fuel Vehicles (FFV) and require, compared to
conventional vehicles, only a somewhat different kind of
material for the fuel line and a differently programmed
computer chip. The cost of incorporating this feature in new
vehicles is trivial. Also, there are no large-scale changes in
infrastructure required for ethanol use. It may be shipped in
tank cars (and, in Brazil, in pipelines), and mixing it with
gasoline is a simple matter.
Although human beings have been producing ethanol, grain
alcohol, from sugar and starch for millennia, it is only in
recent years that the genetic engineering of biocatalysts has
made possible such production from the hemicellulose and
cellulose that constitute the substantial majority of the
material in most plants. The genetically engineered material is
in the biocatalyst only; there is no need for genetically
modified plants.
These developments may be compared in importance to the
invention of thermal and catalytic cracking of petroleum in the
first decades of the 20th century--processes which made it
possible to use a very large share of petroleum to make
gasoline rather than the tiny share that was available at the
beginning of the century. For example, with such genetically
engineered biocatalysts it is not only grains of corn but corn
cobs and most of the rest of the corn plant that may be used to
make ethanol.
Such biomass, or cellulosic, ethanol is now likely to see
commercial production begin first in a facility of the Canadian
company, Iogen, with backing from Shell Oil, at a cost of
around $1.30/gallon. The National Renewable Energy Laboratory
estimates costs will drop to around $1.07/gallon over the next
5 years, and the Energy Commission estimates a drop in costs to
67-77 cents/gallon when the process is fully mature. The most
common feedstocks will likely be agricultural wastes, such as
rice straw, or natural grasses such as switchgrass, a variety
of prairie grass that is often planted on soil bank land to
replenish the soil's fertility. There will be decided financial
advantages in using as feedstocks any wastes which carry a
tipping fee (a negative cost) to finance disposal--e.g., waste
paper, or rice straw, which cannot be left in the fields after
harvest because of its silicon content.
Old or misstated data are sometimes cited for the
proposition that huge amounts of land would have to be
introduced into cultivation or taken away from food production
in order to have such biomass available for cellulosic ethanol
production. This is incorrect. The National Commission on
Energy Policy reported in December that, if fleet mileage in
the United States rises to 40 mpg--somewhat below the current
European Union fleet average for new vehicles of 42 mpg and
well below the current Japanese average of 47 mpg--then as
switchgrass yields improve modestly to around 10 tons/acre it
would take only 30 million acres of land to produce sufficient
cellulosic ethanol to fuel half the U.S. passenger fleet. By
way of calibration, this would essentially eliminate the need
for oil imports for passenger vehicle fuel and would require
only the amount of land now in the soil bank (the Conservation
Reserve Program (CRP) on which such soil-restoring crops as
switchgrass are already being grown. Practically speaking, one
would probably use for ethanol production only a little over
half of the soil bank lands and add to this some portion of the
plants now grown as animal feed crops (for example, on the 70
million acres that now grow soybeans for animal feed). In
short, the United States and many other countries should easily
find sufficient land available for enough energy crop
cultivation to make a substantial dent in oil use.
There is also a common and erroneous impression that
ethanol generally requires as much energy to produce as one
obtains from using it and that its use does not substantially
reduce global warming gas emissions. The production and use of
ethanol merely recycles in a different way the CO2 that has
been fixed by plants in the photosynthesis process. It does not
release carbon that would otherwise stay stored underground, as
occurs with fossil fuel use, but when starch, such as corn, is
used for ethanol production much energy, including fossil-fuel
energy, is consumed in the process of fertilizing, plowing, and
harvesting. Even starch-based ethanol, however, does reduce
greenhouse gas emissions by around 30 percent. Because so
little energy is required to cultivate crops such as
switchgrass for cellulosic ethanol production, and because
electricity can be coproduced using the residues of such
cellulosic fuel production, reductions in greenhouse gas
emissions for celluslosic ethanol when compared to gasoline are
greater than 100 percent. The production and use of cellulosic
ethanol is, in other words, a carbon sink.
Biodiesel and renewable diesel
The National Commission on Energy Policy pointed out some
of the problems with most current biodiesel ``produced from
rapeseed, soybean, and other vegetable oils--as well as . . .
used cooking oils.'' It said that these are ``unlikely to
become economic on a large scale'' and that they could ``cause
problems when used in blends higher than 20 percent in older
diesel engines.'' It added that ``waste oil is likely to
contain impurities that give rise of undesirable emissions.''
The Commission notes, however, that biodiesel is generally
``compatible with existing distribution infrastructure'' and
outlines the potential of a newer process (``thermal
depolymerization'') that produces renewable diesel without the
above disadvantages, from ``animal offal, agricultural
residues, municipal solid waste, sewage, and old tires.'' (This
has recently been designated ``Renewable Diesel'' in the Energy
Act of this past summer.) The Commission points to the current
use of this process at a Conagra turkey processing facility in
Carthage, Missouri, where a ``20 million commercial-scale
facility'' is beginning to convert turkey offal into ``a
variety of useful products, from fertilizer to low-sulfur
diesel fuel'' at a potential average cost of ``about 72 cents
per gallon.''
Other Alternative Fuels
Progress has been made in recent years on utilizing not
only coal but slag from strip mines, via gasification, for
conversion into diesel fuel using a modern version of the
gasified-coal-to-diesel process used in Germany during World
War II.
Qatar has begun a large-scale process of converting natural
gas to diesel fuel.
Outside the realm of conventional oil, the tar sands of
Alberta and the oil shale of the Western United States exist in
huge deposits, the exploitation of which is currently costly
and accompanied by major environmental difficulties, but both
definitely hold promise for a substantial increase in oil
supply.
3. Plug-in hybrids and battery improvements
A modification to hybrids could permit them to become
``plug-in-hybrids,'' drawing power from the electricity grid at
night and using all electricity for short trips before they
move to operating in their gasoline-electric mode as hybrids.
With a plug-in hybrid vehicle one has the advantage of an
electric car, but not the disadvantage. Electric cars cannot be
recharged if their batteries run down at some spot away from
electric power. But since all hybrids have tanks containing
liquid fuel plug-in hybrids have no such disadvantage.
The ``vast majority of the most fuel-hungry trips are under
6 miles'' and ``well within the range'' of current (nickel-
metal hydride) batteries' capacity, according to Huber and
Mills (``The Bottomless Well,'' 2005). Current Toyota Priuses
sold in Japan and Europe have a button, that Toyota has removed
for some reason on American vehicles, that permits all-electric
driving for up to a kilometer; all that is really needed is to
equip hybrids with adequate batteries so that this capability
can be extended. Over half of all U.S. vehicles are driven less
than 30 miles/day, so a plug-in hybrid that can obtain that
range might go for many weeks without visiting the gasoline
station. Other experts, however, emphasize that whether with
existing nickel-metal-hydride battery types or with the more
capable lithium-ion batteries now commercially available for
computer and other applications, it is important that any
battery used in a plug-in hybrid be capable of taking daily
charging without being damaged and be capable of powering the
vehicle at an adequate speed and argue that battery development
will be necessary in order for this to be the case.
But the California experience with electric vehicles (EVs)
in the 1990s suggests otherwise. It demonstrated that batteries
used in those vehicles, particularly the nickel-metal-hydride
ones that were used in later EV models (some of which are still
on the road), have easily shown the capability for being
charged daily for a number of years. And at U. Cal. (Davis)
Professor Andy Frank has been designing and operating plug-in
hybrids for years that now, with commercially available
batteries, operate all electrically for 60 miles at up to 60
mph before the hybrid gasoline-electric feature needs to be
used. Whether development is needed for some improvements to
lithium-ion batteries or only financial incentives for mass
production of them or the more mature nickel-metal-hydride
batteries, such efforts should have the highest priority
because plug-in hybrids promise to revolutionize transportation
economics and to have a dramatic effect on the problems caused
by oil dependence.
Moreover the attractiveness to the consumer of being able
to use electricity from overnight charging for a substantial
share of the day's driving is stunning. The average residential
price of electricity in the United States is about 8.5 cents/
kwh, and many utilities sell off-peak power for 2-4 cents/kwh.
When one takes into consideration the different efficiencies of
liquid-fueled and electric propulsion, then where the rubber
meets the road the cost of powering a plug-in hybrid with
average-cost residential electricity would be about 40 percent
of the cost of powering the same vehicle with today's
approximately $2.50/gallon gasoline, or, said another way, for
the consumer to be able to buy fuel in the form of electricity
at the equivalent of $1/gallon gasoline. Using off-peak power
would then equate to being able to buy 25-to-50 cent/gallon
gasoline. Given the burdensome cost imposed by current fuel
prices on commuters and others who need to drive substantial
distances, the possibility of powering one's family vehicle
with fuel that can cost as little as one-tenth of today's
gasoline (in the U.S. market) should solve rapidly the question
whether there would be public interest in and acceptability of
plug-in hybrids.
Although the use of off-peak power for plug-in hybrids
should not require substantial new investments in electricity
generation for some time (until millions of plug-ins are on the
road), greater reliance on electricity for transportation
should lead us to look particularly to the security of the
electricity grid as well as the fuel we use to generate
electricity. In the United States the 2002 report of the
National Academies of Science, Engineering, and Medicine
(``Making the Nation Safer'') emphasized particularly the need
to improve the security of transformers and of the Supervisory
Control and Data Acquisition (SCADA) systems in the face of
terrorist threats. The National Commission on Energy Policy has
seconded those concerns. With or without the advent of plug-in
hybrids, these electricity grid vulnerabilities require urgent
attention.
CONCLUSION
The dangers from oil dependence in today's world require us
both to look to ways to reduce demand for oil and to increase
supply of transportation fuel by methods beyond the increase of
oil production.
The realistic opportunities for reducing demand soon
suggest that government policies should encourage hybrid
gasoline-electric vehicles, particularly the battery work
needed to bring plug-in versions thereof to the market, and
modern diesel technology. The realistic opportunities for
increasing supply of transportation fuel soon suggest that
government policies should encourage the commercialization of
alternative fuels that can be used in the existing
infrastructure: Cellulosic ethanol and biodiesel/renewable
diesel. Both of these fuels could be introduced more quickly
and efficiently if they achieve cost advantages from the
utilization of waste products as feedstocks.
The effects of these policies are multiplicative. All
should be pursued since it is impossible to predict which will
be fully successful or at what pace, even though all are today
either beginning commercial production or are nearly to that
point. The battery development for plug-in hybrids is of
substantial importance and should for the time being replace
the current r&d emphasis on automotive hydrogen fuel cells.
If even one of these technologies is moved promptly into
the market, the reduction in oil dependence could be
substantial. If several begin to be successfully introduced
into large-scale use, the reduction could be stunning. For
example, a 50-mpg hybrid gasoline/electric vehicle, on the road
today, if constructed from carbon composites would achieve
around 100 mpg. If it were to operate on 85 percent cellulosic
ethanol or a similar proportion of biodiesel or renewable
diesel fuel, it would be achieving hundreds of miles per gallon
of petroleum-derived fuel. If it were a plug-in version
operating on either upgraded nickel-metal-hydride or newer
lithium-ion batteries so that 30-mile trips or more could be
undertaken on its overnight charge before it began utilizing
liquid fuel at all, it could be obtaining in the range of 1,000
mpg (of petroleum).
A range of important objectives--economic, geopolitical,
environmental--would be served by our embarking on such a path.
Of greatest importance, we would be substantially more secure.