Summary by Tom Hooper

4/15/02

Stobaugh and Yergin take an in depth look at the Oil Shock of 1979 as well as some of its possible causes and the measures which the U.S. could take to avoid a similar shock in the future. Following the first Oil Shock of 1974, the world witnessed stable oil prices (in fact, given the high inflation of that era, real oil prices actually decreased). Specialists predicted that the price of oil would steadily rise over the next twenty years, as reserves decreased. Yet in the span of a year and a half, oil prices surpassed the predicted numbers for the year 2000.

OPEC had spent its profits on rapid economic development programs designed to provide its member countries with an industrial, non-oil-based economy that it could fall back on once oil production slowed down as reserves dwindled in the future. In addition, it was wiser to slow oil production and keep its livelihood in the ground instead of in western banks, where rampant inflation would eat away at savings, especially in times of negative interest rates. The authors also speculate that Saudi Arabia cut back oil production in order to influence the U.S. to conserve energy, and push the U.S. toward an Arab-Israeli policy stance that was more favorable to Arab countries. In 1978 Iran erupted into rebellion, the Shah overthrown by a coalition of both the left and right wing conservatives that were against his western-backed program of modernization. U.S. economists falsely assumed that all of the oil producing countries would act as simple profit-maximizing firms, without regard to politics.

Jimmy Carter proposed a new energy program geared towards eliminating some of the anxieties that the 2^nd Oil Crisis generated. First, he tried to equalize domestic and world oil prices by slowly raising internal prices, but was defeated by Congress. Second, He urged the de-control of natural gas prices to end the distinction between inter-state and intra-state natural gas trade, which would also serve to stabilize prices. Later he proposed a "windfall" tax on the profits that domestic oil companies stood to gain by the raising of worldwide oil prices by OPEC. When there was an energy conference in Tokyo, Carter pledged that the U.S. would not increase oil consumption, and it was agreed that Europe would also keep consumption constant, while Japan was allowed to increase its own consumption slightly, yet would still face a limit in the years to come.

OPEC threatened to raise prices 25% above the standard level, yet Saudi Arabia held its prices constant, and produced more oil to compensate for the oil withheld by OPEC countries. OPEC's market discipline seemed to be collapsing. Once Iran's new regime began exporting oil, it decided to cut its oil production, leading to cars waiting in gasoline lines in America. The Department of Energy accused oil companies of collusion with OPEC in a conspiracy to keep supply artificially low, but despite world oil production rising 6%, the shortage was in fact real. The discrepancy lay in the fact that the increased production was in middle-weight petroleum which could be refined into diesel gasoline and heating fuel - the unleaded gasoline production went down by 12%.

While America felt OPEC was the problem for the Crisis, Europe blamed both OPEC and America itself. The U.S. offered its people a subsidy of $5 / barrel on heavy oils in order to encourage industrial use of oil, which allowed OPEC to keep its prices high (and even raise them once they found out about the subsidy), forcing Europe to accept the higher prices as well. In the eyes of Europe, the U.S. was anti-oil conservation.

The U.S. admitted the former Shah of Iran into the country for hospitalization, which led to another Iranian boycott of oil shipments to the U.S. (as well as the taking of U.S. hostages). America responded with an embargo against Iran as well, both of which contributed to higher oil prices once more. OPEC internal negotiations failed, and so the countries relied on a market determined price instead, which didn't turn out to be such a bad thing after all, since oil prices doubled - any attempt to fix prices would've created a price ceiling, and not a floor as was usually the case.

Hostile Oil, or oil from nations that regard the West as an enemy also contributed to the Oil Crisis; in 1978, 30% of oil exporting countries held this status. Not only that, but the possibility of unrest existed in each of the Middle Eastern countries - including Saudi Arabia, considered to be the Great Stabilizer of the region. Following the Soviet invasion of Afghanistan, there was also fear of the USSR taking over the entire Gulf region and gaining a monopoly on oil in the Middle East.

The most obvious answer to the unstable world oil situation at the end of the 70's was to simply use less foreign oil. It would slow the bleeding of U.S. funds overseas, and keep money inside of the country for investment, instead of going to sit in Arab coffers as petrodollars which may or may not make it back to the U.S. for investment. There would be the added bonus of lessened oil-related tensions between America and Europe and Japan. Unfortunately, only domestic oil can truly compensate for foreign oil, and there had been a long term trend towards a reduction of domestic oil production.

There was an attempt to compensate with coal and natural gas, but they can't be used for all the same uses as oil. Coal production was indeed rising, yet it is not a good substitute, being used primarily for utilities, as a substitute for nuclear power and other fossil fuel plants. Natural gas was becoming better regulated, and could take on some of the heating uses of oil, but neither could be utilized for transportation purposes. After the Three Mile Island accident, nuclear power was pretty much out of the picture - but it never would've served as a competitor for oil, only for coal.

What officials called "very promising" was that the ratio of rising GNP to rising energy consumption was growing more favorable, though per capita energy use remained high in relation to the rest of the world. Alternative energy sources like solar power, hydroelectric, and synthetic fuel remained a small percent of production, but were gradually rising. The problems laid in that most of these solutions were telescoped - meaning that they would only have an effect in the long run, and would provide no short term solutions. Many people in the 70's were completely ignorant to America's energy concerns; in a survey, 45% of Americans asked were not even aware that the U.S. imported oil. The rest of us were looking for someone to point the finger at. Oil companies were the natural targets, but analysis shows that they did not make a disproportionate amount of profit in relation to any other of the U.S. industries at the time.

A debate also raged over whether or not to allow for the de-control and of domestic oil prices. The authors of this article argued that control of domestic prices only contributed to lowered oil prices, which in turn led to increased consumption of oil, increased reliance on nonrenewable energy resources, and decreased GNP due to high prices of oil and other imports.

It turns out there is no perfect solution to the Oil Crisis; new technical contributions were not expected to kick in for at least another 10-15 years. Carter took a novel approach and saw synthetic fuels as the answer following the Tokyo agreements. Synthetic fuels could replace up to 1/4 of US oil consumption in as early as 5 years, and funding would be financed by his windfall tax on domestic oil. Things did not turn out as planned though, after it became clear that the synthetic fuel was two to four more times as costly than expected. Congress gave the President limited support for this program, but did take a positive step towards conservation. Possibly the only option was to bite the bullet and accept high gas prices, which would encourage oil conservation and result in both higher GNP and lower inflation rates once our country adjusted to lower levels of energy consumption, or at least more efficient energy consumption. Stobaugh and Yergin predicted the Energy Crisis would be a major topic in the 1980 election, but saw this as bad because it would fall back on emotional appeals for short term fixes rather than rational, long-term solutions. The energy future needed to be addressed in the energy present, and the authors advocated that something needed to be done immediately to help alleviate the energy crisis immediately.