Achieving Oil Security: A Practical Proposal

The key to U.S. energy security does not lie ultimately in the Middle East. Cutting domestic demand is critical to near-term American success--and it can be done without raising taxes.

The terrorist attacks on September 11 and the subsequent demonstrations of anti-Americanism throughout the Middle East increase the saliency of America's dependence on oil imports from the Gulf states. The United States now imports more than half of all the oil it consumes, and roughly a quarter of those imports comes from Saudi Arabia, Kuwait and Iraq. If there is no change in U.S. policy, that dependence will grow, since those three countries together with the United Arab Emirates have more than half of the world's reserves of oil, while the United States has only two percent of total reserves.

America's dependence on imported oil is a serious cause of economic vulnerability and a major constraint on U.S. foreign and defense policy. Political leaders in the Middle East know that U.S. dependence on their oil gives them leverage over American policies. The possibility of increasing that leverage emboldened Saddam Hussein to invade Kuwait in order to extend the share of Mideast oil controlled by Iraq. And while the governments of Saudi Arabia and Kuwait are basically friendly to the United States, recent events have made it clear how potentially vulnerable those governments are to radical elements within their own countries. All of this is a cloud over the stability of the oil supply from the Middle East.

Political leaders and expert commissions have been calling for a reduction in U.S. dependence on oil imports since at least 1974, when President Nixon established Project Independence with the goal of achieving energy independence by 1980. That goal was never reached. To the contrary, U.S. dependence on imported oil was still 42 percent of domestic consumption in 1980, and rose to 52 percent in 2000.

What can be done to reverse this trend? Increased oil production in the United States could help to reduce dependence on imported oil. Some increased domestic production will occur as a natural response to higher oil prices that result from increasing global demand. A higher price will induce more exploration and more extraction from such higher-cost sources as deep wells and off-shore sites. But even with such market forces at work, experts predict that oil imports will rise to 70 percent of U.S. consumption by 2020.

Relaxing some government restrictions on oil drilling can increase U.S. production further, but the impact on our dependence will be small. For example, although the administration's proposal to open some of the Arctic National Wildlife Refuge to oil drilling would eventually increase production in Alaska by 600,000 barrels a day, that would equal only about seven percent of what we now import from the rest of the world. Neither is it possible to reduce dependence on Middle Eastern oil by importing more from Mexico, Canada and Venezuela, since the U.S. already takes virtually all of the oil that they have for export.

U.S. dependence on foreign oil, and specifically on Middle Eastern oil, can only be limited in a significant way through the reduction of domestic consumption. There is substantial room to achieve such reductions, since the consumption of oil per dollar of GDP is now more than 40 percent higher in the United States than it is in Germany and France. Nevertheless, politicians have been reluctant to pursue consumption-reducing measures aggressively because it has been assumed that doing so would require a European-style gasoline tax. As anyone who has driven in any European country knows, an important reason for their lower consumption of oil is that taxes cause gasoline prices to be nearly three times higher on average than they are in the United States. The political impossibility of imposing such a tax was brought home clearly by the abject failure of President Clinton's 1993 proposal for a general BTU (British Thermal Unit) energy tax. Fortunately, however, it is possible to provide the incentives needed for a substantial reduction in oil consumption without any new tax, by using tradeable Oil Conservation Vouchers.

Before describing how such a voucher system would work, it is useful to review the primary policy tool currently used by the Federal government to reduce oil consumption: the Corporate Average Fuel Economy Standard (CAFÉ). Automobile manufacturers are required to keep the average number of miles per gallon on the entire fleet of new cars in each model year above some level set by the Federal government. That standard has been 27.5 miles per gallon since the 1985 model year, up from 18 miles per gallon for the 1978 model year when the CAFÉstandards were first introduced. Manufacturers may produce some cars with lower fuel efficiency, but these must be balanced by cars that get more than 27.5 miles per gallon so that the average fuel efficiency for all cars sold by the company in the year exceeds 27.5 miles per gallon.

This standard has forced companies to seek ways to design more fuel-efficient cars. Because of the pricing differences that have resulted from the CAFÉ standard, it has also induced many households to shift from conventional autos to sport utility vehicles and other light trucks, since these are subject to a more lenient fuel efficiency standard (now 20 miles per gallon). The net effect on fuel economy is therefore difficult to determine.