Does Selling Oil From The Strategic Petroleum Reserve Make Sense Now?

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Does Selling Oil From The Strategic Petroleum Reserve Make Sense Now? by Ronald Ripple, The Conversation

Some members of Congress have proposed a novel way to fund the country’s Highway Trust Fund: tapping the Strategic Petroleum Reserve (SPR). One proposal put forward in the US Senate would sell 101 million barrels of crude oil held in the SPR to raise US$9 billion to extend the trust fund three years. The sale would take place over the 2018-2025 period.

The reserve has been tapped before, but this proposal comes during a surge in domestic oil production in the US and the lowest oil prices in six years.

To get a handle on what using oil from the SPR could mean, we first need to understand what it is, what it is not, and how we should decide whether it’s wise to sell proceeds to fund highway projects.

Salt dome caverns

First, and briefly, what the SPR is not.

In the early 1900s, the federal government created the Naval Petroleum and Oil Shale Reserve (NPOSR) to provide oil supply security for the US Navy, whose ships were moving in the direction of being largely oil-powered. There is also the National Petroleum Reserve-Alaska (NPR-A) but none of the NPR or NPR-A is or was part of the SPR.

The SPR, on the other hand, is not one single reserve but a series of salt dome caverns that hold inventories of produced crude oil. It is being stored specifically for emergency use to address significant crude oil supply interruptions.

The SPR was created in 1975 in response to the oil embargo of 1973-74 orchestrated by the Organization of Petroleum Exporting Countries (OPEC), and it grew out of the Energy Policy and Conservation Act of 1975. The SPR consists of 62 underground salt dome caverns distributed across Louisiana and Texas. These are linked to several pipelines that can deliver oil to Gulf Coast refineries and beyond. In addition, the SPR has access to port facilities to deliver crude, which came from both domestic and foreign sources, to refineries on the East Coast and the West Coast via marine transport.

Volumes were significantly increased during the Reagan administration, from 270 million barrels to nearly 590 million, according to the US Energy Information Administration (EIA). The level was relatively stable until 2001, when George W Bush decided to increase the SPR to its capacity. Between entering and leaving office, the Bush administration took the SPR level from 540 million to 726 million barrels.

The maximum level of inventories was 727 million barrels, which was still short of the one billion barrels of authorized capacity. As of July 17 2015, the SPR contained more than 695 barrels of crude oil.

Role of oil prices

Net imports are defined as the difference between our imports and exports of crude oil and refined oil products. Our net imports have trended down over the past five years, from over 10 million barrels per day in 2010 to 4.6 million barrels per day on average for May 2015.

The US has an obligation through its participation in the International Energy Agency (IEA) to maintain 90 days of strategic reserves based on net imports (the IEA was founded in 1974, also in response to the OPEC oil embargo). The current storage level and the net imports for 2014 imply that the SPR currently provides 138 days of supply in the event of a disruption.

Based on these figures, there does seem to be sufficient volumes in storage to accommodate a 101 million barrel sale and still have a 90-day buffer. But should our discussion stop with simple volumetric comparisons?

The rules governing the sale and distribution of crude oil from the SPR, however, do not actually allow for such a sale. The crude oil in the SPR is only to be sold and distributed in response to a significant interruption in the flow of crude oil. The intent is to avoid a severe domestic fuel price increase in response to such an interruption.

According to its mandate, the SPR is not to be used to attempt to manipulate prices. It is meant to meet emergency supply shortfalls.

The currently proposed sale does not seem to meet these requirements. Rather, it appears to be a political decision to avoid the need to cut expenditures in other programs or to raise new revenues, perhaps through an increase in the federal fuel tax, to meet the needs of the highway trust fund. Indeed, historically it is the federal fuel tax that has provided the revenue support mechanism for the federal highway trust fund.

Will it fit the bill?

So far in its history, there have been six sales from the SPR. Five of these were either to meet an emergency crude oil supply interruption or to test the delivery system. The one non-emergency sale was in 1996-97 during the Clinton administration. It has been suggested that this was an effort to have an impact on gasoline prices in an election year; the release was 28 million barrels.

But if the proposed SPR sale does go forward, what is the likelihood that it will actually raise the $9 billion in revenue sought? At current prices, 101 million barrels, if sold all at once, would raise roughly $4.3 billion. The proponents assume an average price over the 2018-2015 period of about $89 per barrel.

To put this value in context, the current forward curve in the NYMEX futures market for West Texas Intermediate (WTI) crude oil extends only to December of 2023, and on a rising price curve reaches just $64.73; the average price over the 2018-2023 period is about $65 per barrel. So there appears to be a substantial gap between what the proposed sale is meant to generate and what the market sees as a likely price at the time of this writing.

While selling 101 million barrels from the currently held volumes would leave the US well above its IEA obligation, an important question is whether this is an appropriate use of this strategic national asset designed as an important source of US national energy security.

US Senator Murkowski (Alaska), chairperson of the Senate Energy and Natural Resources Committee, has taken a strong stand against the proposal. One key aspect of the senator’s argument is that the Department of Energy has only recently begun an analysis of the role of the SPR in providing for energy security for the US in a world that is much different than the one that existed in the 1970s, when the SPR was created.

User pays

An alternative to selling off SPR barrels to raise $9 billion would instead be to increase the federal fuel tax.

Over the past five years, our gasoline consumption has averaged 8.88 million barrels per day (mmbd), which translates to about 130,000 million gallons per year. The EIA has forecast that gasoline consumption will fall from 8.7 mmbd in 2013 to 6.7 mmbd in 2040 because of improving fuel efficiency mandates and other reasons. If we take a seven mmbd value to be representative of what the average may be during the 2018-2025 period, the $9 billion could be raised over the same time period by increasing the gasoline tax by just $0.01 per gallon.

This seems a pretty modest amount to help pay for our federal highway system maintenance in what amounts to a user-pays approach. This $0.01 per gallon is also conservative (in that it is relatively high) because it does not include revenues that would be generated from increased tax on highway diesel fuel sales.

It seems that to sell SPR volumes is simply to postpone the inevitable. Since we have obligations to our IEA partners to maintain strategic reserves, at some point in the future we will have to bite the bullet and fund our highways with revenue generation that does not draw on the SPR.

Also, if we start down this path, where and when will it end?

At current crude oil prices, the sale of 101 million barrels will fall far short of the “required” $9 billion. So do we then return to the SPR for more barrels until we get to the $9 billion? And if using revenues from sales of our strategic energy security supply for highway maintenance seems a good idea, why not sell off more of the inventories to fund schools or airports, or any of myriad other non-energy security government programs in need of funding? This just seems like a bad idea.

If the studies now under way to reassess the role of the SPR find that the required level of storage can be less than we now hold, any revenues generated from selling such excess should first be used to address identified energy security infrastructure investments. We need to ensure the remaining SPR volumes can actually get into the supply system across the country and provide effective protection from severe interruptions – as the SPR was established to do.

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