The Public Policy

International Energy Blather

Energy ministers meet in Beijing tomorrow -- hoping to apply statist solutions to the problem of high petroleum costs.

By and 12.13.06

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Energy ministers from the world's largest oil consuming nations are meeting in Beijing tomorrow to see if they can agree on a coordinated response to high petroleum prices. Action items include diversification of energy resources, improving stockpile strategies, removing obstacles for investment in oil production, and promoting energy conservation. If past is prologue, any agreement will likely make things worse.

What's wrong, say, with diversifying energy supplies? Nothing at all. What's wrong is giving that job to government planners rather than market actors. If diversification makes sense, private investors will diversify of their own accord. Government need not put a gun to the head of businessmen to get them to make sensible investments. Force is only required when politicians think energy investments should look like this but private companies think investments should look like that. Which party do you think is best informed to make such decisions? Which party do you think has the greatest incentive to get it right?

The same goes for oil inventories. If it makes economic sense to increase inventory holdings, market actors will do exactly that. And in fact, that's what they're doing at present. Inventory levels are very high by historical norms, and private inventories worldwide are at least three times larger than public inventories.

Oil analysts understand that public oil inventories to some extent displace private oil inventories, so it's unclear to what extent -- if any -- total inventories are increased by public inventory build-ups. Regardless, the history of the U.S. Strategic Petroleum Reserve demonstrates that public officials are pretty poor inventory managers. They tend to buy high and sell never. What makes anyone think that politicians know better than businessmen when to buy, when to hold, and when to release?

Removing obstacles to oil development is all well and good, but even if the industry were allowed to drill wherever it pleased within the borders of the countries meeting tomorrow in Beijing, prices would remain relatively high as long as OPEC, Russia, and other major producing countries keep their fields closed to foreign investment and impose limits on total extraction. Fully 96 percent of all proved reserves are controlled by state-owned oil companies that for the most part take their orders regarding how much to drill and how much to invest from their respective governments.

Promoting conservation seems reasonable enough, but isn't that what market prices do of their own accord? Rising oil prices induce conservation whether politicians lift a finger or not. Given that many of the countries at this summit impose artificial caps on fuel prices to some degree, simply letting prices rise or fall freely as supply and demand dictates would be a positive thing.

The real question, however, is whether government should substitute its judgment regarding the merits of conservation for millions of private judgments exercised every day in the market. If I decide that the price of gasoline imposes less of a burden on me than the benefit I gain from buying the gasoline, then I will likely buy and my well-being will be enhanced if government allows me to do so. If the price goes up, my calculation may change.

When government "promotes" conservation, it's either (a) telling me that I'm not allowed to exercise my preferences, or (b) lying to me about the true scarcity of gasoline by imposing an artificial tax on the product to make it seem more expensive than it actually is. In either case, both personal well-being and the economy as a whole are made worse off.

If the countries attending this summit were truly interested in reducing oil prices, they could go a long way towards that end by reducing geopolitical tensions in the Middle East. Uncertainty about future production in that region is fueling inventory buildup and thus keeping oil out of the market for present consumption. The Beijing attendees could also treat OPEC nations as the economic predators that they are. If participants simply refused to help countries that are engaged in international price-fixing -- meaning no economic aid, no military assistance, and no favors of any kind in any policy arena -- then countries might think twice about keeping the market starved for oil.

Otherwise, the meeting simply amounts to a planning exercise for more state control over private energy investment decisions. Good luck with that.

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