We've chosen tactics over strategy
It's time to stop draining the SPR
“The bravest men can do nothing without guns, the guns nothing without plenty of ammunition, and neither guns nor ammunition are of much use in mobile warfare unless there are vehicles with sufficient petrol to haul them around.” - Nazi Field Marshal Erwin Rommel
The Strategic Petroleum Reserve was created in response to the 1973 energy crisis, but its origins stretch back farther than that. The emergence of the oil industry and its products—gasoline, jet fuel, and diesel among them—enabled new and enhanced forms of transportation driven by the internal combustion engine.
Naval ships powered by oil were faster and required fewer men than those powered by coal. An armored version of the humble farm tractor, equipped with the internal combustion engine, became what we now know as the tank. The emergence of aerial warfare as a serious fighting domain was reliant on energy-dense hydrocarbons.
Caught between the strategic importance of oil and a lack of domestic production, the Axis powers in WWII had to look elsewhere for hydrocarbons: Germany lunged towards the Russian oilfields in the Caucasus; Japan stretched to Indonesia. The ultimate victory of the Allies was, of course, due to a number of factors, but reliable oil production from the United States was key. Of the 7 billion barrels of oil consumed by the Allied powers during the war, 6 billion came from the US.
It was against this strategic backdrop that the 1973 oil crisis showed that oil production could be used also as an economic weapon. US domestic production had begun to decline, and the world was increasingly reliant on supply from the Middle East. In response to American support for Israel during the 1973 war, Saudi Arabia and its allies in the region launched an oil embargo against the west and slashed production, causing prices to spike over 3x, contributing to the decade’s stagflation.
So in 1974, the United States and an international consortium of other oil importers agreed to build up domestic reserves to be used in the case of a future shock. We then created the Strategic Petroleum Reserve — the SPR.
The SPR has been subject of a lot of debate this year as we have drained it to alleviate oil prices in wake of the Russian invasion of Ukraine. As a petroleum geologist and analytics guy, I have received a lot of questions from friends and family about the SPR. In this article, I’ll take a look at the SPR history, current levels, price history, and consider future supply scenarios.
How much of the SPR have we drained?
Sales from the SPR have taken it down to the lowest level since the 1980s. Against a capacity of 714 million barrels, the reserve has been drained to below 400 million barrels, by far the deepest drawdown in its history. Previously, we had released small amounts in 1991 (Persian Gulf War), 2005 (Hurricane Katrina) and 2011 (Libyan supply disruption), but you can see that these are small bumps on the chart compared to our current drop.
Ultimately, the fears of massive supply disruption from the Russian invasion of Ukraine have not been realized. Russian exports have fallen by just over half a million barrels a day, though an EU embargo could reduce that further. Contrast this with the supply disruption in 2018 due to sanctions on Iran, which reduced Iranian crude exports approximately two million barrels a day.
I do want to note that the draining the SPR has not been a unilateral move on the part of the Biden administration. There has been bipartisan support for SPR sales, at least when Congress has needed an under-the-radar revenue generation mechanism for funding. In that context, the recent releases are more an acceleration of planned sales, rather than a totally new plan.
That still leaves us with the questions: has it been worth it? Should we be emptying the SPR? For that, we will have to discuss the historical context of prices, production, and imports.
How high have oil prices been, really?
While we have had quite the run in oil prices since the COVID lockdowns, oil prices are by no means astronomical by historic standards. Adjusting for inflation, our current prices per barrel sit below the 2007-2014 average price and well below the 2008 highs that broke $170/bbl (in 2022 dollars).
But those in favor of the SPR release would argue that there is one crucial difference between now and the 2008 peak: we produce a LOT more oil in the US now.
What about US oil production?
Since 2008, oil production in the US has soared, now number one in the world above Saudi Arabia and Russia. This is thanks mostly to unconventional “shale” reservoirs, produced with horizontal drilling and large hydraulic fracturing treatments. The surge in US production has been so dramatic that we are now a net exporter of crude oil. However, because historically we have built our refineries to take in heavier crude grades, we import ~8 million barrels a day against ~10 million barrels a day of exports.
Let’s get strategic.
The purpose of the SPR is to ensure supply in the event of significant disruption. The ~400 million barrels in the SPR equates to ~49 days of US import supply, easily enough to cover a short-term issue like a pipeline rupture. But my chief concern is in the tails: what would we do if something really major happened?
The US is better-equipped for global oil supply disruption now than it has been since the 60s, but there are limits to our domestic production capabilities, as illustrated by the recent plateauing of shale production in the face of high prices.
In a nightmare scenario where suddenly we need to bring on millions of barrels of supply, what would our options be? Huge stretches of unconventional plays would be profitable north of >$150/bbl, but the industry would struggle to scale that up quickly due to constraints on steel for casing, sand for proppant, and workers for drilling rigs. There are huge amounts of heavy oil in Canada to be exploited, though those require huge capital commitments and years of construction.
Gas-to-liquids conversion would allow us to make use of our prolific natural gas production. We could ramp up biodiesel production, though it would compete with food supply. And there is always the old favorite, oil shale: the USGS estimates nearly 2 trillion barrels in place in the Uinta-Piceance Basin.
These alternative supply sources all have long lead times, significant costs, and unpleasant tradeoffs. Of course, spiking prices would reduce demand, and the economy would reorient towards other energy sources and conservation. But are we willing to endure that economic pain?
It’s all too easy to imagine a $200/bbl scenario where the Strait of Hormuz has been closed, China has invaded Taiwan, or Russian aggression has broadened. Then, we’ll be scratching our heads, wondering why we sold off half the SPR at a lowly $100/bbl. Draining the SPR has been a decision to trade long-term tail risk for short-term political expediency. We’ve chosen tactics over strategy.
Ted, this is a good thought provoking article.
Is the US really better equipped to handle severe global supply dislocations now than since the 1960's Is LTO a fungible equivalent to the oil stored in the SPR? I don't think it is.
The US exports most LTO production. SPR oil is intended to be refined and subsequently used in the best interest of the nation. Except of course for that stuff Biden exports in a somewhat vain attempt to lower global oil prices.
It is extremely unlikely that Congress will fund the replenishment of the SPR in the next 2 year. It is much more likely that Congress continues to dip into the SPR to make spending bills appear revenue neutral.
Dave that is a great question. I am not familiar with what the recovery is from oil stored in salt caverns. Presumably some amount is residual. I will ask around.