THE BLOG
02/06/2007 03:51 am ET Updated May 25, 2011

Our Strategic Petroleum Reserve -- Iran's WMD

Iran's Weapons of Mass Destruction -- Our SPR. How so?

Let me try to explain. First, let me state categorically that in this unstable world having a Strategic Petroleum Reserve is a decided plus. But filling the reserve blindly without considering the ramifications it signals to markets and policy makers echoes the one dimensional thinking that is inherent to so much of this administration's policies. And that's the best interpretation lest one would permit oneself to think that its all in the interests of the oil boys back down in Texas.
Nah, that couldn't be.

In its management of the SPR the administration has shown not the slightest understanding of the political nor market impact of its actions. The SPR has a major influence on both. In November of 2001 President Bush announced his decision to fill the SPR to its 700 mm/bbl capacity. At the time 545 million barrels of oil were stockpiled. Over the next several years an additional 155 million barrels of oil were added plus another 27 million barrels bringing the total to 727 million. Purchases have been made as "royalty in kind", royalties that were previously collected in cash. Think about it. The oil companies, instead of putting the oil on the market where it might depress prices, turn there oil over to the government in lieu of royalties which would otherwise be paid by them in cash. The government gives them full market value credit (how these credits are actually determined would be a worthy exercise for some valiant reporter) for a product it costs them a small fraction to produce. Like paying your gambling debts with plastic chips. The trouble being, in this case we all own the house.

In November 2001 the FOB spot price for crude oil according to the US Government's Energy Information Administration was about $17.03 per barrel. Since then it began its inexorable rise touching over $78 on the NYMerc in July of 2006 and $59 today. Never it seems, was there any thought given to the impact that these purchases for the SPR had on the psychology of the oil markets, nor the signals it sent producing nations validating and giving Washington's blessing to the upward creep in prices. And that without consideration of the foreign policy consequences those higher prices entailed.

A quick thumbnail review of oil pricing history these past years. Shortly after the Presidents announcement the price of oil started its ascent. By April 2002 it had surpassed $24/bbl. According to press reports at the time, OPEC and other producers were intent on keeping the price of crude range bound within a $22/28bbl. band. There was much hand wringing by OPEC and other suppliers when the price popped above that level. Our government could have sent a meaningful signal to those other governments who were limiting the supply of oil by a simple declaration that we would desist purchases for the SPR until the price fell back below $28. That was not done and in not doing anything Washington validated the price creep and the billions of dollars of wealth transfer it represented. Would such a declaration have changed the price. As you will see below, probably yes. At the very least it would have shown the government's displeasure at the manipulated machinations and direction of the oil market. Not taking any action sent a signal of validation. It said in effect "its OK to push prices higher". The political ramifications of wealth transfer were ignored, and what that wealth was being used for. The oil industry was probably popping bottles of champagne.

When the price headed to $40 barrel in late 2004 amid OPEC expressions of "concern", and yet OPEC decided to cut production ("inventories are high") to push the price ever higher, we blindly continued filling the reserve. In April 2005 with then Crown Prince Abdullah at Crawford Texas holding hands with President Bush and the price of oil approaching $50 barrel, a discreet mention in the Crown Prince's ear "Your eminence, if the price of oil continues to rise we can no longer justify filling our SPR" might have made some headway. But certainly the conversation never got around to that. And the price of oil continued to climb above $50 and well beyond.

With advent of Katrina, not a word from the Department of Energy that it stood ready to
release oil from the SPR to cover any shortfall that might result from the storm in order to becalm the market. Only after the storm hit and the markets had already gone into overdrive was an announcement made releasing reserves. By then the price of oil had already jumped some ten percent.

Nonsense you say. The market is simply reflecting higher demand, limited supply, political uncertainty, storms and weather and on. The usual litany. I would now like to add an additional and very important element. The management of the SPR.

Just over a week ago when word got out that President was going to double the oil stored in the SPR to near 1.5 billion barrels, the price of oil jumped by some 6 percent ($2.40/bbl on one day alone) to $55/bbl. It has continued to climb and has now reached $59. At that current price it will mean a transfer of wealth to the oil industry of some $42 billion in what the government will pay or credit for oil . With financing costs, custodial costs, transport and handling the total cost to tax payers will approach $65 billion.

Since the president's announcement the price of oil has jumped nearly 15 %. The advent of cold weather at this late stage of the winter had but a minimal impact on storage conditions that were brimming to capacity to the point where ships at sea had to cut steaming speed because off loading capacity was limited at their destination ports. Before the Presiden'ts announcement the price of oil was reeling and heading below $50. Many predictions were made of $40/45 levels.

The Presidents announcement dramatically changed the psychology of the market. The psychology and perceptions of those who trade and consume commodities is one of the key elements in pricing. Suddenly in view of the market place there was support under an eroding price structure, and the market, the hedge funds and oil consumers piled in.

At the time of Department of Energy's announcement that it would begin purchases of oil for the SPR the price hovered around $52/bbl. The last close as of this writing was $59.

That's $7 a barrel difference. American's consume some 21 million bbls of oil a day. That means in the U.S. alone an additional $150 million/day or $1 billion/week is transferred to the oil industry and oil interests in this country alone. It represents a tax on all of us, and the irony is that we are being taxed by a runaway industry (see Exxon/Mobil's last years profits just announced) while our dollars are going to pay for the oil being purchased for the SPR stockpile. In other words, they have us coming and going.

But if that's not enough consider this. That $7 increase means a transfer of wealth to Iran of some 1 billion dollars in value and revenues every month. Iran produces over 4million barrels of oil per day (their dependency on oil revenues was outlined in a previous post, "Iran's Khamenei Warns Teheran May Use Oil Weapon. Let Them, Its Time To Call Their Bluff" 6.04.06). And much of that money is going to fuel insurgencies all over the Middle East and supplying militias in Iraq. Had there been any interest by this government in holding the price to say $35 barrel, a reasonable and very healthy commodity price increase over 2001 prices, Iran's current account wealth would have been curtailed by some $3 billion each month or $36 billion a year. An already shaky economy would not have had the luxury of exporting hundreds of millions to stir up trouble around the Middle East and elsewhere in the world. As for the Saudis and their cash flow at these prices which is providing the billions that find their way to radicalize schools and mosques throughout the world and fund in part the Sunni insurgency in Iraq. Well, let's not go there, the numbers are too enormous.

Mr. President, the oil industry, Iran, Saudi Arabia and even Mr. Chavez (he's a devil of a guy) and President Putin thank you. While the rest of us are asked to absorb 54 cents a gallon duty on sugar based ethanol imports from Brazil.

By the way, talk of injustice. Lee Raymond, former head of Exxon-Mobil was handed a $400 plus million golden parachute last year. And yet President Bush, our Energy Secretary Sam Bodman and Dick Cheney did more to help Exxon-Mobil's bottom line than Lee Raymond could ever have dreamt of doing. Wouldn't it be gracious if he carved up the pie between them. And maybe saved a few crumbs for the Department of the Interior. Another way of saying should it ever become the government's agenda to curtail consumption of fossil fuels through higher prices, let's make sure the increased prices aren't simply for the benefit of the oil patch