George Bush is Asking the Wrong People For Help To Lower Oil Prices?

Oil prices seem to shoot up just about every Day. President Bush was recently in Saudi Arabia to ask for an increase in oil production, but struck a dry hole. Either the Saudis don’t want to increase production or they can’t. The Saudis may be pumping all of the oil they can. Most of their reserves are old fields that are probably past their peak capacity and starting into decline.

Understanding high and volatile oil prices is really simple economics. It is a function of the supply and demand elasticity for oil. The world’s ability to produce oil is relatively fixed in the short run. Regardless of the price, there is not much capability to increase production because of the long lead times to drill an oil well and bring the production to market. Supply is what economists describe as being short-term inelastic. Small changes in demand can therefore cause large changes in price, either up or down. Big changes in price have very little short term effect on supply. Demand for oil is also short-term inelastic. People don’t change their buying behavior much in the short term even with large changes in price.

Bush should be talking to China, India, Indonesia and other countries that subsidize the price of gasoline and diesel fuel. Subsidies cause the demand for oil to be even less elastic. Higher prices are not felt by consumers with subsidized fuel so they have no incentive to cut back on consumption. Allowing price increases to be felt by all consumers would reduce consumption and may result in a lower price for all of us. Protecting consumers from higher prices could cause oil prices to go very high, much higher than they are now. (Link)

What else can we do? We could open up drilling in parts of our country that have been closed to drilling; areas like Alaska and off-shore. Changing our policy may not increase oil production immediately, but could cause a change of sentiment. This may cause some speculators to sell and lower prices. Stop filling the Strategic Petroleum reserve would take 70,000 barrels a day of demand off the market.

Long term, higher oil prices may lead to more oil production, or the development of alternative energy sources. Because of global warming, we need to be careful that we don’t start developing energy sources like coal to fuel conversion. That would dramatically increase the emission of greenhouse gases. It is not just us as a country, but other countries that may develop alternative fossil fuels. Global warming is a global problem. We may have a choice between developing our remaining conventional oil fields, developing unconventional fossil fuels like coal, tar sands and oil shale, or just plain doing without.