Energy Revolution

Offers Return of
20
th
Century U.S.
Strategic Weapon:
Spare Production
Capacity
By
William Murray
2014
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International Research Center
for Energy and Economic
Development

Occasional Papers:
Number Forty-Nine










ENERGY REVOLUTION OFFERS RETURN OF
20
TH
CENTURY U.S. STRATEGIC WEAPON:
SPARE PRODUCTION CAPACITY


by


William Murray







ISBN 0-918714-75-3






Copyright 2014 by the International Research Center for
Energy and Economic Development

No part of this publication may be reproduced or transmitted,
except for brief excerpts in reviews, without written permission
from the publisher.



Cost of publication: U.S. $10.00





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Energy Revolution Offers Return of
20th Century U.S. Strategic Weapon:
Spare Production Capacity

William Murray*


I ntroduction

The era of U.S. energy abundance has arrived with such speed
and force that we can all be excused for feeling somewhat
disoriented. Even as the economic benefits to the United States
quickly become apparent, the strategic value created by the tens
of billions of barrels discovered through the use of hydraulic
fracturing and horizontal drilling technology is just beginning to
be tested. U.S. President Barack Obamas decision on March 12,
2014, to sell 5 million barrels of oil from the Strategic Petroleum
Reserve (SPR) was partially a political signal to Russia in
response to its military move into the Crimean Peninsula. Such a
responsea non-supply disruption-related release of sour crude
barrels that compete directly with Russias Urals benchmark
would have been unimaginable less than a decade ago, when the
crude imports made up roughly 60 percent of total U.S.
consumption and the SPRs supplies covered only 69 days of
imports.
But what a difference several years make. The decades-worth
of additional domestic oil and gas now accessible in shale and
other geologic strata has the U.S. Energy Information Admin-
istration (EIA) estimating that the United States will surpass
Russia in 2015 to be the worlds largest oil producer. The EIA
reports the United States has already surpassed Saudi Arabia as
the world largest producer of total hydrocarbons. While it is an
open debate to what degree SPR oil can be used to greatly influ-
ence U.S. foreign policy, the most recent use of the SPR begs the
question. Are there other unforeseen strategic weapons that are
2
now worth considering related to oil supplies that could become
available in the medium- to long-term future? The short answer
is yes. The newly accessible tight oil has given the United States
a chance to recreate one of the greatest strategic weapons of the
20th century: spare oil production capacity.
Spare oil production capacityalso known as swing
capacityis the Excalibur sword of economic and diplomatic
weaponry, but before going into detail, it is worth reviewing a bit
of economic history. From the 1930s until the early 1970s, the
United States was able to lead its allies to victory in the Second
World War and fight the first half of the Cold War thanks to ample
supplies of crude oil. In a long-forgotten development, the state of
Texas in the mid-1930s stabilized volatile oil prices by regulating
private production within its borders, periodically releasing or
constraining millions of barrels of production at a moments notice.
This capacity gave the U.S. effective control over the global price
of oil as Texas regulators, with full authority delegated by
Congress, used proration to restrict output when prices were soft
and order more pumping when prices started to spike, creating a
strategic tool of immense influence. The existence of spare
capacity was used as an instrument of statecraft to build the free-
trade and military alliances in the 1950s and 1960s that became
the foundation of U.S.-led containment policy against Soviet and
Chinese communism.


The Geopolitical Value of Swing Capacity

The central question to be answered by this paper is whether
the United States can recreate spare crude oil production capacity
given current technology and whether the strategic and
geopolitical benefits accrued to the nation by such a tool are
justified. I argue that the United States can and should recreate
spare capacityvia Americas vastly underutilized federally-
owned offshore resourcesand in order to support my argument, I
will explain the theoretical basis by which the United States can
3
create spare capacity after an absence of nearly a half century.
This paper will explore the uses of spare production capacity as a
tool of statecraft using historical examples, including two U.S.
actions restricting oil supplies to compel political allies to end
their military operations and Saudi Arabias use of spare capacity
to equalize its strategic relationship with the United States.
Finally, this paper will explain how the redevelopment and
management of new spare capacity by the federal government
can be sustained both technically and politically.
Oil has been a central factor in a series of conflicts from the
beginning of the 20th century as the world economy industrial-
ized and gasoline and diesel-powered tanks and airplanes began
to dominate European battlefields during the First World War.
One reason the Allies won the Second World War was the ability
by the United States to expand oil production to almost any de-
sired level, while historians point to oil shortages as a major rea-
son for both Germany and Japans failure to permanently secure
their early military gains.
1
Oil was one of the primary causes of
the conflict between the United States and the Empire of Japan
as the Roosevelt administration banned oil exports to Japan in an
effort to discourage Japanese militarism. During the Six-Day
War of 1967 between Israel and Arab nations, the reserve petro-
leum capacity of the U.S. prevented Arab states from using the
threat of an oil embargo to apply political pressure on Western
Europe.
2
Without such a reserve, the United States could have
forfeited many of its foreign policy objectives at critical junc-
tures during the Cold War to whichever governments controlled
allied oil supply. And, in an example of strategic compellence
underappreciated by energy and geopolitical analysts today, dur-
ing the 1956 Suez crisis the United States threatened to withhold
emergency oil supplies from Britain and France until they re-
moved their occupying troops from the Suez Canal zone.
3

A combination of strong U.S. oil demand growth and a de-
cline in oil discoveries in the 1960s led to the loss of Americas
position as the worlds swing petroleum producer. This disap-
pearance in spare capacity surprised U.S. policy makers, causing
4
the United States to enter a decade of failed attempts to protect
the national economy from high and volatile oil prices through
protectionist measures. Spare production capacity was retained
in Saudi Arabia where it has been zealously guarded ever since.
The Saudi Kingdom used the capacity to fill-in missing supplies
disrupted during the 19901991 Gulf War and the 2003 invasion
of Iraq. More recently, Saudi capacity was used for the output
shortfall caused by the 2011 Libyan civil war and U.S.-led sanc-
tions regime against Irans oil industry. Spare capacity gives the
market stability, since traders can count on additional supplies
being available in times of emergency. In return for periodically
using this spare capacity, Saudi Arabia has maintained its strate-
gic relationship with the United States, even in the face of major
policy and political disagreements. On one occasion, its exist-
ence may have created deterrence against a U.S. military attack
on Saudi oil installations.
4



The Role of Compellence and Deterrence in Energy and
National Security

U.S. spare oil capacity can become a tool of statecraft if the
United States has the will to make it so. The use of compellence
is often linked to deterrence theory and nuclear weapons doctrine.
Nuclear weapons theorists such as Thomas Schelling have de-
fined compellence as using the threat of punishment to get a na-
tion to do something and, as a result, change the status quo.
5
In
this way, compellence is the reverse side of deterrence, which
signals to opponents that actions to change the status quo will
backfire. Second-strike nuclear capability is the most popular
example of nuclear deterrence, although many types of deter-
rence below the nuclear threshold exist. Compellence is consid-
ered harder to maintain than deterrence and must be
accompanied with credibility, capacity, and rationality. Compel-
lence usually involves initiating an action on the part of a state to
change an opposing states behavior and can be done through a
5
variety of meansharassment, blockade, travel bans, electronic
disturbance, the use of violent air power, covert activity, and
prisoner-taking to name a few.
6

All of these examples, however, are a type of hostile pres-
sure that can provoke a military response. A less common com-
pellence method involves non-hostile pressures. Schelling uses
the example of the French Armys occupation of a province in
northern Italy in June 1945, just after the end of the Second
World War, with the intention of annexing the area as a minor
frontier adjustment.
7
Despite the action being contrary to Allied
plans and U.S. policy, the French announced that any effort by
allies to dislodge them would be treated as a hostile act. After
arguments with the de Gaulle government went nowhere, Presi-
dent Harry S. Truman informed the French that no more supplies
would be issued to the French army until it had withdrawn to
pre-existing national boundaries.
8
Because the French were en-
tirely dependent on American logistics and supply, this non-
hostile pressure, which did not reach the threshold of provoking
a militant response, was viewed as an unusually safe coercive act,
causing French forces to withdraw quickly. As we will see in
more detail later in this paper, U.S. non-hostile political pres-
sure in the form of a refusal to use spare oil production, initially
promised for use by European allies, will be used against the
French and British militaries during the 1956 Suez Crisis.
In addition to the strategic value of spare capacity to coerce
opponents, its loss over the past 40 years has led to an addiction
to imported oil that has taken a toll on U.S. finances, politics,
and its strategic doctrine. The point has been made many times
that dependence on crude oil imports has become one of the
most serious strategic challenges faced by the United States go-
ing forward. Between 1965 and 2005, the amount of oil import-
ing by the United States increased from 10 percent of its daily
consumption to nearly 60 percent, accounting for trillions of dol-
lars of lost wealth and an enlarged trade deficit. Over the decades,
this dependency transformed the United States from a creditor to
a debtor nation, weakened its currency to a point where its re-
6
serve currency status was questioned, and created a strategic
doctrine leading to limited wars of occupation in oil-exporting
regions, costing both blood and treasure to American society.
The tight oil revolution, combined with improved fuel
efficiency standards, has cut the percentage of imports for daily
consumption in half since 2005, and additional tight oil supply
growth is expected in the next five to seven years. The creation
of a spare capacity would, over time, change the U.S. strategic
relationship with oil exporters even more than the changes
currently under way. The United States, as a result of its military
and political primacy developed during the Cold War, has taken
responsibility as prime defender of the global commons. As a
result, the U.S. military has become the global sheriff in
charge of security of supply for Middle East oil resources
shipped to its European and Asian allies. This Cold War-era
responsibility has not been re-adjusted in the past two decades,
allowing strategic competitors like China, India, and Iran to
benefit from essentially free economic security.


New Hydrocarbon Supply

Up until 20082009, the conventional wisdom held that U.S.
crude production was in inexorable decline. Production of
conventional crude oil peaked in the United States in 1970 at
roughly 9.6 million barrels a day (b/d) and fell to less than 5
million b/d in 2008, the lowest level since the 1940s (see figure
1).
9
But the twin developments of hydraulic fracturing and
horizontal drilling have combined to dramatically increase the
amount of accessible hydrocarbon reserves. By drilling
horizontally, oil explorers can access far greater amounts of oil
or natural gas-bearing formations from a single drilling pad
compared to a vertical well, while hydraulic fracturing uses a
slurry of high-pressure water, silica sand particles, and chemical
additives to create large rock fractures from which hydrocarbons
can drain into the well pipe.
10

7
Figure 1
U.S. FIELD PRODUCTION OF CRUDE OIL, 19202013
(in thousands of barrels per day)



Source: U.S. Energy Information Administration, U.S. Field Production of
Crude Oil, available at http://www.eia.gov.

This allows large amounts of tight oil to escape from the rock
that otherwise would have been trapped and irretrievable.
Spurred by oil prices over $100 a barrel, over the past five years
the United States has reversed the long-term domestic production
decline and, in March 2014, produced 8.2 million barrels of
crude a day, the most since May 1988.
11
When adding the addi-
tional production of natural gas liquids, which can also be re-
fined into motor fuels, the United States produced more than
11.5 million b/d of liquid hydrocarbons at the end of 2013.
12

These developments caused the federal governments EIA to es-
timate that tight oil will make up half of the 9.6 million barrels a
day b/d of crude to be produced in the United States in 2020.
13

Roughly 2 million b/d of additional crude has been produced in
the United States in the last two years, and some experts believe
another 2.5 million b/d or more will be added by 2020.
14

0
2,000
4,000
6,000
8,000
10,000
12,000
1920 1930 1940 1950 1960 1970 1980 1990 2000 2010
8
Along with hydraulic fracturing success, advances in computer
power have allowed geologists to increase the rate of discovery
of conventional hydrocarbons. Four decades ago, the discovery
rate per conventional exploratory well drilled was between 20 to
30 percent. Now, explorers are able to drill at 70 to 80 percent
discovery rate, which lowers the risk to investors and increases
the amount of capital available for exploration companies. As a
direct consequence of these technical advances, a study for the
National Association of Regulatory Utility Commissioners
(NARUC) published in 2010 found the resulting increase in
estimated oil and gas resources from 1970 to 2009 in the Gulf of
Mexico to be between 4 to 6 times larger than initially thought as
a result of evolutionary technology.
15
The U.S. Department of the
Interior in 2006 estimated a mean of 86 billion barrels of oil and
420 trillion cubic feet of natural gas could be discovered in
offshore Continental Shelf areas of the Atlantic, Pacific, and
Eastern Gulf of Mexico by incorporating advances in petroleum
exploration and development technologies.
16
This is roughly four
times the amount of proved reserves currently believed to be
available in the entire United States, but for several decades,
presidential and congressional moratoria had blocked
development of the Atlantic, Pacific, Alaska, and Eastern Gulf of
Mexico. Record high oil prices in July 2008 caused President
George W. Bush to end a presidential moratorium on off-shore
drilling in those areas, followed by a lapse in a congressional
moratorium in September 2008.
A conservative estimate using a NARUC methodology that
accounts for unexpected technological advances would put addi-
tional off-shore production beyond the three-mile limit of 34
million barrels a day over a period of more than a decade, which
when added to the expected expansion of on-shore production
would combine to over 7 million barrels a day of additional U.S.
production. This could give the United States over 15 million
barrels a day of oil production, nearly double what is currently
being produced and well in excess of the record for total liquid
hydrocarbons of 10.975 million barrels a day set in 1973.
17

9
U.S. Use of Oil as Compellence during 1956 Suez Crisis

The true geopolitical potential of spare capacity can be seen
most clearly through the Eisenhower administrations dealings
with both political allies and adversaries during the 1956 Suez
Crisis. The trio of Britain, France, and Israel took military action
against the Egyptian government of Gamal Abdel Nasser in
October 1956 to wrestle back control of the Suez Canal zone
from Egyptian troops who had taken over the corridor in late July.
The Suez was a crucial passageway for Middle Eastern energy
supplies to Europe, and both the United Kingdom and France
had shared ownership and control of the Suez Canal Company
concession for almost 100 years.
18
The fading colonial powers
were interested in regaining control of the canal, but there was
no consensus with Europes newly hegemonic superpower ally,
the United States over how to deal with Nasser.
19
In response to
the July crisis, U.S. President Dwight D. Eisenhower authorized
the creation of a Middle East Emergency Committee, which was
charged with organizing oil supplyderived mainly from U.S.
spare capacityfor Western Europe if the canal was blocked by
Nassers forces.
20

President Eisenhower in particular was adamantly opposed to
military action against Egypt, based on fears of setting off a
wider international crisis involving the Soviet Union. But the
British and French, through a separate, secret track, coordinated
the re-occupation of Suez with help from Israel. On October 29th,
Israel launched an attack into the Sinai, and in early November,
British and French paratroopers arrived in the Canal zone.
21
This
gap of several days between deployments allowed the Egyptian
government to damage the canal, scuttling dozens of ships to
block the waterway and choke off the supply of oil, the security
of which had been the immediate justification of the Europeans
attack.
22
In one of the worst geopolitical calculations of the era,
the British assumed that the United States would step into any oil
shortage with U.S. supplies, but Eisenhower was livid, both for
the secrecy and because the Europeans had failed to account for
10
U.S. elections scheduled for November 6 that had Eisenhower
running for re-election on the top of the ballot. The British
failure to understand U.S. interests also had to do with the
diminishing vision of the British Empire and the expanded vision
and responsibilities of the United States. At the same time as the
Suez Crisis, Soviet troops were entering Budapest to crush the
Hungarian rebellion. To have Western colonial powers invading
a former colony at the same time as the Hungarian uprising
undermined U.S. efforts to unite global opposition against Soviet
aggression in Eastern Europe.
The secret military move by Britain and France was unforgiv-
able in Eisenhowers eyes, and it motivated him to refuse to
permit any of the emergency oil supply arrangement to be put
into action. Instead of providing supplies to U.S. allies, Eisen-
hower would impose oil sanctions to punish and pressure his
allies in Western Europe until they removed their troops from the
Suez Canal zone.
23
The administration thus refused to activate
the Emergency Committee, which had the authority to order new
production from U.S. spare capacity, and without this American
aid, the combination of a blocked Suez Canal and a Saudi em-
bargo would cause all of Western Europe to fall short of oil as
winter approached. With the U.S. announcement of sanctions,
the die was cast. Harold Macmillan, the British Chancellor of the
Exchequer and future British Prime Minister, threw up his arms
into the air when he heard of the move, exclaiming Oil sanc-
tions? That finishes it.
24
French and British troops were out of
the Canal zone by the end of November, only after which did
Eisenhower authorize the activation of the Middle East Emer-
gency Committee.
25

While this episode has fallen down the list of significant
political confrontations during the Cold War, U.S. behavior
regarding its spare oil capacity is instructive. Eisenhower
understood the power of oil capacity as a political tool. Being
able to compel an adversaryor in his view a misbehaving set
of alliesso quickly and in a non-military manner is rare, and
the fact that such episodes have so infrequently occurred in
11
history speaks to its punitive value. Once used as a tool, nations
on the receiving of oil embargos and sanctions rarely forget. In
Britain, the Suez Crisis is seen as one of the defining geopolitical
events of the Cold War, symbolizing a final transfer of
superpower status from Britain to the United States. Prime
Minister Anthony Eden resigned as a result of the failed re-
occupation of the Suez, while the French government within the
next year signed the Treaty of Rome, which laid the foundations
for the European Union by creating the Common Market.
European consolidation was likely sped up by the U.S. action.
German Chancellor Konrad Adenauer told French Premier Guy
Mollet in a Paris meeting in early November 1956 just as the
United States began its Suez response that because individual
European states could never again be leading global powers on
par with the United States and the Soviet Union, there remains
to them only one way of playing a decisive role in the world; that
is to unite to make Europe. . . . Europe will be your revenge.
26



Saudi-U.S. Relations, Deterrence, and Spare Capacity

We have seen strong evidence of the geopolitical power of
spare capacity over the past 40 years concerning U.S.-Saudi
relations. Most observers identify the February 14, 1945 meeting
between President Franklin Delano Roosevelt and King
Abdulaziz al-Saud aboard the U.S.S. Quincy in the Red Sea as
the starting point of a deep U.S.-Saudi political relationship. In
return for U.S. military protection of Saudi Arabias oil industry,
the Saudis agreed to meet global oil market demand and the
needs of U.S. allies. But the Saudi embargo of the United States
and Europe, in response to the 1973 Arab-Israeli War, created an
oil shock that brought the alliance into question. The embargo
produced large-scale inflation in the United States, new concerns
about the security of foreign investment in oil-producing countries,
and open speculation about the feasibility of militarily seizing oil
fields in Saudi Arabia or other countries.
27
Both the Nixon and
12
Ford administrations felt such actions were too high a price to
pay, according to Secretary of State Henry Kissinger at the
time.
28
If you bring about an overthrow of the existing system
in Saudi Arabia and a Qaddafi takes over, . . . youre going to
open up political trends that could defeat your economic
objectives.
29

As mentioned at the beginning of this paper, Saudi Arabia
has had the only meaningful spare capacity in the world since
the 1970s and its importance to the stability of the oil mar-
ketsand equally on the stability of the world economyhas
allowed it to maintain a close relationship with the United
States. The alliance has survived both dramatic differences in
each societys views on political liberty and womens rights
and the consequences of Salafist terrorism practiced by al -
Qaeda and its late Saudi-born founder, Osama bin Laden.
Considering the interventionist policies of a number of U.S.
administrations in the past 20 years in Iraq and elsewhere, it is
likely the U.S.-Saudi relationship has operated on an equal
footing only because of the deterrent effect of Saudi Arabias
massive oil reserves.
While it has been a rule of thumb that spare capacity must
make up about 5 percent of the total oil demand in the world to
be effective, the average over the past decade (20042013) for
the Organization of Petroleum Exporting Countries (OPEC) has
been less than that, according to the EIA, with Saudi Arabia
holding the vast majority. This lowers the bar for the United
States creating a meaningful capacity because, even without
additional U.S. and other production over the next several
decades, Saudi Arabias great strategic asset may be on the
wane. Domestic Saudi electricity demandwhich is currently
produced by burning oil, not natural gascontinues to grow by
10 percent a year and threatens to eat away much of countrys
current spare capacity by 2030.
30
The relative narrowing of
Saudi spare capacity is considered one of the key reasons for
currently high oil prices. While total OPEC spare capacity in
2014 is between 2 to 4 million barrels, analysts such as Londons
13
Chatham House estimates Saudi Arabia will be a net importer of
petroleum as early as 2038,
31
while other estimates imply that
spare capacity may end in the Kingdom as early as 2030 (see
figure 2).
32
The consequences of this dwindling spare capacity
is that high oil prices and high price volatility seen during the
past five to seven years could return rapidly, fueling inflation,
promoting a rise in interest rates, and hampering economic
growth over the long term.
33
If the timing of the elimination of
Saudi spare capacity is accurate, this situation also gives the
United States a two-decade window of opportunity to move
away from its petroleum-based transportation while at the same
time ramping up extra production in order to potentially replace
Saudi Arabias position as producer of last resort.

Figure 2
OPEC SURPLUS CRUDE OIL
PRODUCTION CAPACITY, 20032015
(in million barrels per day)



Source: U.S. Energy Information Administration (EIA), Short-Term Energy
Outlook (Washington, D.C.: March 2014), available at http://www.eia.gov.
0
0.5
1
1.5
2
2.5
3
3.5
4
4.5
2003 2005 2007 2009 2011 2013 2015
Projected
14
A Change in Demand

New technologies and techniques to increase domestic produc-
tion highlighted above are changing the nature of energy supplies
in the United States today, but there is no way the country can cre-
ate spare crude oil capacity unless it undergoes a radical shift in
the amount of oil used by its thirsty transportation sector. The
United States is the number one user of petroleum in the world
each day, burning 18.9 million b/d in 2013. While the amount of
oil imported has fallen by almost 4 million barrels since 2007, U.S.
imports are still about 7 million b/d.
34
The only way to create
enough spare production capacitythe 2 or more million b/d need
to meaningfully influence global marketsis to dramatically shift
the use of oil in the U.S. transportation system, which currently
consumes about 13.5 million b/d of crude.
35
The United States is
estimated to have used 8.5 percent less oil in 2013 than it did in
2007, largely due to changes in transportation usage, with an addi-
tional 6 percent less by 2025 thanks to new fuel economy stand-
ards passed during the Bush administration and enhanced at the
start of the Obama administration. The new rules will increase
light duty-vehicle fuel efficiency by almost 50 percent, equaling a
savings of about 800,000 b/d.
36

It is not within the purview of this article to detail the dramatic
advances in automotive batteries, hybrid-automobile technology,
compressed and liquefied natural gas-driven vehicles, and full-
electric vehicles made in the past five years. That said, the current
trends show the potential to impact U.S. oil demand in ways simi-
lar to hydraulic fracturing and horizontal drillings impact on re-
cent U.S. oil supply growth. Rigorous studies show that the
continued gap between global oil prices and the price of U.S.-
based natural gas and electricity could, over time, displace internal
combustion-driven transportation vehicles with non-oil-based ve-
hicle fleets. Such a movement toward electricity-driven light-duty
and natural gas-driven vehicle fleets over the next two decades
could dramatically cut the amount of oil being used by the U.S.
transportation systemby as much as 6.5 million b/d by the
15
2040s.
37
The time it takes for disruptive transportation technology
to become standard is generally measured in many decades. The
adoption of combustion-engine automobiles in the United States
took 25 years to take hold from its invention around 1900, and the
full expansion of the U.S. Interstate Highway System took an ad-
ditional 50 years to fully implement. A similar transition to a non-
oil-powered fleet will take decades but will be justifiable if, as a
consequence, the country could de-link its economy from petrole-
um use while developing a strategic spare production capacity that
could be used to the nations advantage.


Policy Suggestions and Implications

The compellent and deterrent power of spare oil production
capacity has few equals as a tool of statecraft, but even if one
comes to accept its strategic value, a second large hurdle to im-
plementation immediately comes into view: politics.
How would the United States manage the asset in a way that
clearly benefits the countrys national and public interest, rather
than a sub-set of oil producers and automobile manufacturers who
already benefit from government incentives and can be defined as
representing special, politically connected interests? Several ex-
amples exist at the federal level involving regulatory institutions
that manage commodities trading and wholesale electricity mar-
kets. These organizations grew out of the Progressive and New
Deal era and continue to operate with little question of their legit-
imacy. Examples include the National Labor Relations Board
(NLRB), the Federal Energy Regulatory Commission (FERC) that
regulates natural gas pipelines and manages wholesale electricity
prices, the Commodity Future Trading Commission (CFTC), and
the Securities and Exchange Commission (SEC). These boards all
operate with quasi-judicial powers and do so in a way that depolit-
icizes (to the degree it is possible) the industries they regulate. The
same is true of the hundreds of state-level commissions and boards
operating throughout the country that deal with everything from
16
retail electricity pricing to coastal zone management and cos-
metology licenses. To be sure, there are several dilemmas and
challenges in the creation of a federal spare capacity board, not
the least of which is the simple congressional politics of creating
the grand bargain between those interested in more supply and
those interested in less oil demand. This paper does not deal with
the raw politics of crafting U.S. national energy policy except to
say that issues of legitimacy have become paramount in the eyes
of the U.S. electorate concerning all federal office holders. The
fact that quasi-judicial regulatory bodies have operated throughout
federal and state governments for roughly a century suggests that
the model works for what it is designed to do, which is to regulate
commercial industries. In terms of commodity and specifically oil
production, there have been three government policies used by
U.S. federal and state regulators in the 20th century to support and
control production: oil import quotas, a percentage depletion allow-
ancebasically a tax deduction that acted as an incentive for oil
productionand proration.
38
Of the three, proration has shown it-
self to be the most flexible regulatory tool available to limit oil pro-
duction because it allowed the wells to stay in operation, rather than
shutting down wells in order to lower production. By limiting pro-
duction proportionally to a percentage of the total capacity of each
producer, spare production can be created, and in this way would
likely be the first tool utilized by a federal spare capacity system.
Unfortunately, despite the attraction of a regulatory structure
that aims to de-politicize a major energy security issue like oil de-
pendence and spare capacity, a federal spare capacity
board/commission would probably not have the political legitima-
cy needed on simple constitutional grounds. There are obvious
separation of power issues to deal with, and attempts to influ-
ence the global price of crude oil using federal resources would
have foreign policy implications with every other nation on the
planet. Since the U.S. President is constitutionally obligated to run
foreign policy, any President interested in protecting his or her
constitutional prerogatives would not allow a regulatory body to
directly influence foreign policy. The President already has direct
17
control over the Strategic Petroleum Reserve, which has been used
sparingly to fill supply disruptions in other parts of the world.
These releases are usually done in concert with other developed
nations in Europe and Asia that are members of the International
Energy Agency (IEA), although the most recent one in March
2014 was a test release and not coordinated.
So the problem of partisanship and political equities are a real
concern, but this criticism must be measured against spare
capacity as a unique national asset over many election cycles and
political eras. Indeed, it is arguable that swing crude oil capacity is
one of the pre-eminent tools of strategic deterrence and
compellence available short of a nuclear weapon. In terms of
compellence, spare capacity should be viewed as superior to
nuclear weaponry, since there is no de facto taboo against its use,
nor has there been an entire international movement against its
existence in the way the anti-nuclear movement has developed.
This strategic argument has the potential to overwhelm the
ideologies of some partisans, even in the current political
environment. It should also be remembered that spare capacity
was one of the tools of statecraft that knit the free-trade alliances
made with Europe and Asia during the 1950s and 1960s that
served as the foundation for U.S.-led containment policy during
the Cold War. Given these restrictions of constitutional authority
and political legitimacy, it is preferable to pass federal legislation
that allows creation of a committee within the National Security
Council (NSC) bringing together principals from the Departments
of the Interior, Energy, Treasury, Defense, and State while taking
direction from the U.S. President and the National Security
Advisor on how to manage spare capacity. It also makes sense to
focus the actual physical areas of spare capacity on solely
federally-owned offshore areas that have not yet been opened up
to development. The length of both the Presidential and
Congressional moratoria on Outer Continental Shelf (OCS)
exploration that expired in 2008 has allowed for huge swaths of
the Atlantic, Pacific, and Arctic Ocean to become available even
though the areas are largely unexplored. Taking into account
18
estimates by the 2006 Department of the Interior survey, total
undiscovered reserves in these areas may be in excess of 80 billion
barrels thanks to technological developments involving computer
technology and robotics. It is possible to foresee 34 million
barrels a day of production being available on the OCS that could
become part of a spare oil capacity regime for a period of several
decades. The announcement by the Department of the Interior in
February 2014 of an environmental review validating plans to
expand the acquisition of seismic data off the central and southern
portions of the U.S. Atlantic Coast could be the first baby step
toward future production.
39

Any law passed by Congress creating spare capacity would
focus solely on the unexplored sections of federal off-shore and
exclude all onshore areas, both privately and publically held. The
United States could also enhance its energy security relationship
with the bordering nations of Canada and Mexico, which already
send roughly 1 million and 500,000 barrels a day of oil, respec-
tively, and have a special trading relationship with the United
States through the North American Free Trade Agreement
(NAFTA). This relationship could involve strengthening current
special trading rights and monetary compensation in return for
having some Canadian and Mexican capacity taken off-line at
times of the U.S.s choosing. This type of special relationship be-
tween the United States and its closest neighbors concerning ener-
gy security is not unprecedented. The Eisenhower administration
exempted overland imports from its Mandatory Quota Program
created in 1959, allowing Canadian and Mexico imports special
access to U.S. markets.
40

Building and holding spare capacity is extraordinarily expen-
sive. The most recent large field constructed in Saudi Arabia, the
900,000 barrel-a-day Manifa field, cost $16 billion to build while
the costs of deep-water offshore construction is considerably high-
er.
41
Given that the OCS areas in the Atlantic, Pacific, and Arctic
are essentially frontier provinces with no production infrastructure,
costs would run into the hundreds of billions. It is therefore worth
remembering that the estimated value of the OCS oil at current
19
pricesif taking the technologically enhanced estimatesis
roughly $8 trillion in crude oil alone. These areas could be open to
private investment and production in the many years before U.S.
oil demand fell to levels that allowed the country to start ordering
a proration regime. It would be possible to motivate investment
through the tax code, creating increased deductions or a low or
zero-tax regime during the first decade or more of production in
return for the understanding that in response to a Presidential order,
production could be prorated to achieve a strategic or foreign poli-
cy goal. The Congress could also include state revenue-sharing
with coastal states that currently are not part of the federal royalty
and bidding schemes but would bear the brunt of any environmen-
tal degradation caused by accidents or spills.


Conclusion

In order to create U.S. spare capacity on the scale of several
millions of barrels a day needed to impact world markets, this
paper has explained the policy decisions needed to increase U.S.
crude production to at least 1415 million barrels a day while
cutting domestic oil demand by 6.5 million barrels to 1212.5
million barrels a day. By expanding U.S. energy production to
include off-shore spare capacity, a radical shift would take place in
the relationship between the United States with oil exporters in the
Middle East, Russia, and elsewhere, especially if the spare
production is built while the U.S. economy transitions away from
an oil-based transportation system.
If this was done, high oil prices would not threaten the U.S.
consumer economy in the same way as it would other oil-
importing economies. The United States could send excess oil on-
to the market at times of global shortage or threaten to ration pro-
duction at times of surplus. In global energy markets, the threat of
decisive action is as potent a tool as the action itself, and this tactic
would accrue political power to the United States if it lowered
energy price volatility for consuming countries in Europe, Asia,
20
and the Americas. Conversely, by rationing off-shore production,
the United States could increase prices in a way that disrupts the
economies of importing countries with whom it disagrees, as hap-
pened with Britain and France during the Suez Crisis. For strategic
competitors such as Russia, Venezuela, and Iran, this new political
weapon would be of serious consequence, with the potential to
undermine their primary earning power as petro-states.
Now is the time to initiate a debate unimaginable only five
years ago, namely, should the United States as a matter of national
security build spare oil production capacity? Perhaps, but only if
the American electorate has confidence that the resource
development is taking place with the explicit goal of first creating
spare capacity used to further the nations strategic interests,
followed closely by maintaining the levels of environmental
stewardship modern society has come to demand. Because the
U.S. government never overtly controlled spare production
capacity and because more than a generation has passed since such
a tool existed, Americans can be excused for doubting elements of
a spare production capacity strategy. But given how dramatically
the energy landscape has shifted in favor of the United States in
the past five years, it makes sense to consider the possibility of
creating a major strategic tool for this country that could last until
the end of the Oil Age.

NOTES

* William Murray is a Washington D.C.-based senior reporter with Energy
Intelligence Group (EIG), publisher of 15 energy-related trade magazines, in-
cluding Oil Daily, Petroleum Intelligence Weekly, and Oil Market Intelligence.
Before joining EIG, Mr. Murray worked for Bloomberg News from 20002008
in Washington D.C. and London covering natural gas, oil product, and crude
markets. The author spent the second-half of 2008 embedded with U.S. and Iraqi
military forces in Iraq, reporting for the Long War Journal website. Mr. Murray
received his undergraduate degree from Whitman College and has graduate
degrees from the Columbia University School of Journalism and Georgetown
Universitys Security Studies Program. The opinions expressed in this paper
are his own and do not reflect the views of EIG or its employees with which the
author is associated.
21


1
Daniel Yergin, The Prize: The Epic Quest For Oil, Money & Power (New
York: Simon & Schuster, 1991), p. 137.

2
Ibid.

3
Ibid., p. 491.

4
Ibid., p. 643.

5
Thomas Schelling, Arms and Influence (New Haven: Yale University
Press, 2008), chapter 2.

6
Ibid., p. 77.

7
Ibid., p. 69.

8
Ibid.

9
U.S. Energy Information Administration, U.S. Field Production of Crude
Oil, available at http://www.eia.gov/dnav/pet/hist/LeafHandler.ashx?n=PET
&s =MCRFPUS2&f=A.

10
Congressional Research Service, Unconventional Gas Shales: Development,
Technology, and Policy Issue, report no. R40894, Washington, D.C., October 30,
2009, p. 22, available at http://www.fas.org/sgp/crs/misc/R40894. pdf.

11
Moming Zhou, U.S. Crude Oil Production Rises to Highest in Almost 26
Years, Business Week, March 19, 2014.

12
Amrita Sen, Virendra Chauhan, and Shweta Upadhyaya, US Oil and
Shale Ouptut Dec 2013, Energy Aspects, February 27, 2014.

13
U.S. Energy Information Administration (EIA), 2014 Early Release
Outlook (Washington, D.C.: EIA, 2013), available at http://www.eia.gov/
forecasts/ aeo/ er/executive_summary.cfm.

14
Royal Bank of Canada Report, Conversation with Brookings Charles
Ebinger, March 21, 2014.

15
National Association of Regulatory Utility Commissioners (NARUC),
Analysis of the Social, Economic and Environmental Effects of Maintaining Oil
and Gas Exploration and Production Moratoria on and Beneath Federal Lands
(Washington, D.C.: NARUC, February 15, 2010), pp. 312.

16
U.S. Department of the Interior (DOI), Bureau of Ocean Energy Man-
agement, Regulation and Enforcement, Assessment of Undiscovered Technical-
ly Recoverable Oil and Gas Resources of the Nations Outer Continental Shelf
2006 (Washington, D.C.: DOI, February 2006), available at http://www.boem.
gov/uploadedFiles/BOEM/Oil_and_Gas_Energy_Program/Resource_Evaluatio
n/Resource_Assessment/2006NationalAssessmentBrochure%283%29.pdf.

17
U.S. Energy Information Administration, U.S. Production of Crude Oil
and Petroleum Products, available at http://www.eia.gov/dnav/pet/hist/LeafHan
dler.ashx?n=PET&s=MTTFPUS2&f=A.

18
D. Yergin, op. cit., p. 483. It might be noted that unlike the Panama Canal,
the Suez Canal was considered the sovereign property of Egypt. The Suez Ca-
nal Company (Compagnie de Suez) negotiated a concession in 1854 to build
and operate the canal.
22


19
Ibid.

20
Ibid.

21
Ibid., p. 490.

22
Ibid.

23
Ibid., p. 491.

24
Ibid., p. 49192.

25
Ibid., p. 493.

26
Martin Feldstein, The Failure of the Euro: The Little Currency That
Couldnt, Foreign Affairs, January/February 2012, available at http://www.for
eignaffairs.com/articles/136752/martin-feldstein/the-failure-of-the-euro.

27
D. Yergin, op. cit., p. 625 See Congressional Research Service, Oil
Fields as Military Objectives: A Feasibility Study, Committee Print Prepared
for the House Committee on International Relations Special Subcommittee on
Investigations, Washington, D.C., August 21, 1975.

28
Ibid.

29
Ibid.

30
Paul Gamble and Brad Bourland, Saudi Arabias Coming Oil and Fiscal
Challenge, Jadwa Investment, July 2011.

31
Glada Lanh and Paul Stevens, Burning Oil to Keep Cool: The Hidden
Energy Crisis in Saudi Arabia, Chatham House, December 2011.

32
P. Gamble and B. Bourland, op. cit.

33
Robert McNally and Michael Levi, Foreign Affairs, A Crude Predica-
ment: The Era of Volatile Oil Prices, June 12, 2011.

34
U.S. Energy Information Administration, This Week in Petroleum:
Crude Oil Section, March 14, 2014, available at http://www.eia.gov/oog/info/
twip/ twip_crude.html#production.

35
U.S. Energy Information Administration, Annual Energy Outlook 2014
Early Release (Washington, D.C.: EIA, December 16, 2013), available at http://
www.eia.gov/forecasts/aeo/er/early_consumption.cfm.

36
Ibid.

37
Electricity Coalition, Electrification Roadmap: Revolutionizing Transporta-
tion and Achieving Energy Security (Washington, D.C.: Electricity Coalition,
November 2009), p. 11.

38
Richard Vietor, Energy Policy in America since 1945 (Cambridge, United
Kingdom: Cambridge University Press, 1984), p. 224.

39
U.S. Bureau of Ocean Energy Management (BOEM), Atlantic Geologi-
cal and Geophysical (G&G) Activities Programmatic Environmental Impact
Statement (PEIS), available at http://www.boem.gov/Atlantic-G-G-PEIS/.

40
R. Vietor, op. cit., p. 128.

41
R. McNally and M. Levi, op. cit.