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POLITICAL SCENE |
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June 1999 |
Does SPR Spell Relief for the Domestic Oil Industry?
by David R. Wunsch
Overproduction by many of the major oil-producing countries, compounded
with a decrease in worldwide demand, has created an oversupply of petroleum
in global markets. One consequence is that nearly all U.S. oil storage
facilities are at or near capacity. Even as OPEC and other oil-producing
countries instigate additional production cuts, the volume buffer resulting
from the oversupply will sustain artificially depressed prices for the
foreseeable future.
To address this issue, the Clinton administration proposed
on Feb. 11 to refill the nation’s Strategic Petroleum Reserve (SPR) with
crude oil from outer continental shelf (OCS) leases located along the Gulf
of Mexico coast, replacing the volume drawn down during the Gulf War in
the early 1990s and from government sales that occurred in FY 1996. This
proposal is an effort to remove at least nominal amounts of surplus crude
oil volumes from the market supply and to help ensure national security
by increasing the federal reserves. The proposal would also benefit the
U.S. tax payer. Oil currently stored in the SPR was purchased at prices
that averaged about $27 per barrel. Adding oil to the SPR at the current
price of nearly $15 per barrel would result in a net decrease in the average
price per barrel of oil stored in the SPR.
Congressional Interest in the SPR Issue
Exercising its congressional oversight role, the House Subcommittee on
Energy and Mineral Resources held a hearing on April 15 to evaluate the
administration’s plan. The subcommittee does not directly oversee the SPR
program at the Department of Energy (DOE); but the subcommittee does oversee
the Minerals Management Service (MMS), and the administration’s plan would
use royalty-in-kind (RIK) oil, which federal lease holders deliver to MMS
to fulfill their
royalty obligations. The subcommittee called the hearing to learn the
details of the SPR proposal. Its interest in the SPR proprosal sprouts
from its mission to follow up on efforts taken in the last (105th) Congress
to explore the feasibility of broad-based RIK programs for both onshore
and OCS oil production.
Under RIK, producers give the federal government a percentage
of the oil they produce, rather than pay a royalty based on a specified
market value. RIK is the preferred method of royalty payment by many domestic
oil and gas producers, who argue that it would eliminate the contentious
royalty valuation issues that have existed between the U.S. government
and oil producers operating on federal lands. At a subcommittee hearing
during the 105th Congress, officials from the Department of the Interior
(which includes MMS) testified that DOE doesn’t need additional authority
from Congress to accept royalties in-kind. Accepting RIK oil into the SPR
would also demonstrate that intra-government transfer between the Departments
of Energy and the Interior can be accomplished despite administrative impediments.
Technical Background
Congress authorized the SPR in 1975 to protect the United States from disruptions
to its energy supply and to enhance national security. The reserve consists
of four discrete storage depots located along the Texas-Louisiana coast
that are connected by a complex array of oil transmission pipelines. Each
storage site comprises several geologic repositories that were created
by selectively dissolving large (e.g., 10-million-barrel) cavities in salt
domes. One of the more impressive DOE graphics used to illustrate the size
of these repositories shows the World Trade Center fitting comfortably
within just one of the caverns.
The cumulative volume of the repositories is 700 million
barrels. The current inventory is 562 million barrels, and consists of
approximately 202 million barrels of sweet (less than 0.5 percent sulfur)
and 359 million barrels of sour (0.5 to 1.99 percent sulfur) crude oil.
At a maximum drawdown of 4.2 million barrels per day (b/d), this inventory
could provide approximately 60 days of reserve based on current consumption
rates. Water is used to displace the oil when the cavities are not completely
full, which causes additional dissolution of the host salt deposit upon
each emptying of the storage cavern and can result in a volume increase
reaching 15 percent.
Oil withdrawals have been made in the past to test the
infrastructure of the SPR, as well as for emergency measures during Operation
Desert Storm. More recently, controversial crude oil sales took place in
FY 1996 to generate revenue for deficit reduction that was included in
the Omnibus Fiscal Year 1996 Appropriations bill (P.L. 104-134). The administration’s
SPR refill plan would use RIK oil to replenish 28 million barrels at a
rate of 100,000 b/d. This addition of oil, however, only replaces the oil
previously withdrawn in 1996 and does not completely fill the reserve.
The proposal to partially fill the SPR with RIK oil has
raised some concerns from the petroleum industry, especially about the
physical transfer of petroleum to the SPR. For example, all of the supply
pipelines come from unloading facilities located along the Gulf coast,
and there are no inland supply lines or truck-loading facilities for transporting
future payments from producers operating on inland federal leases. In addition,
crude-oil quality characteristics such as sulfur and acid content and viscosity
can constrain the acceptability of RIK payments.
Rick Furiga, Deputy Assistant Secretary of Energy for
the Strategic Petroleum Reserve, and Walter Cruickshank, MMS Associate
Director for Policy and Management Improvement, testified that the RIK
program for the SPR will be conducted in two phases. In Phase I, DOE will
collect 50,000 barrels per day from a small number of the largest producers
through the end of July 1999. During Phase 2, DOE will take the remainder
of the 28 million barrels by competitive solicitation from all eligible
producers. According to the testimony, the problem of crude-oil quality
differentials will be overcome through oil exchanges such that, in the
event of a national emergency, sufficient quantities of high-quality crude
will be available to refiners connected to the SPR pipeline. Regarding
industry’s concern that the SPR is equipped to take off-shore oil only,
Furiga testified that there are no plans to expand the collection infrastructure
to accept nonpipeline delivery.
Of highest concern to the domestic oil industry is the
effect that removal of RIK oil from the market will have on the recently
low prices of crude oil. But the effect probably won’t be much, as the
DOE estimates that the partial filling of the SPR with 28 billion barrels
of RIK oil might offer minor relief at best, by adding approximately $0.25
to the price per barrel on the market.
In addition to the technical questions answered during
the subcommittee’s hearing, two important findings were also revealed.
First, the refilling of the SPR presents a unique opportunity to demonstrate
the federal government’s ability to accept royalty oil in-kind. Second,
DOE revealed very sobering projections that by 2010, the United States’
increasing consumption of foreign oil would limit the SPR to providing
the nation with only 44 days of import protection if the foreign oil supply
was again disrupted as it was during the 1973 oil embargo. That finding
suggests that even a full SPR may not be enough to meet our national security
needs.
David R. Wunsch
AGI Congressional Science Fellow
David.Wunsch@mail.house.gov
