After eighteen high-level hearings, and a review of 29,000 pages
of written material and hundreds of proposals, the Energy
Department earlier this year released its National Energy Strategy.
Known as the NES, this is a wide-ranging list of particular
recommendations for every type of energy and just about every
The report comes at a time of much confusion about America's
energy situation and the policies that will best guarantee
America's energy security. For example, figures recently released
by the Energy Department show the country's oil imports dropping by
around 1 million barrels per day or 12 percent of the country's
total use. While some observers might thus assume that there is no
energy problem, in the long term America's energy needs will
increase. More energy will have to be produced domestically or
imported from overseas. In addition, Congress is considering a
higher gas tax. Such a tax would increase costs for consumers and
businesses, reducing American competitiveness and lowering American
living standards. At the levels of taxes being discussed, perhaps
ten cents per gallon, oil consumption would not be significantly
reduced. A tax of, say, 50 cents per gallon would reduce
consumption dramatically -- by bringing the American economy to a
halt. This is hardly a result acceptable to most policy makers.
On the whole, the report is well balanced and its
recommendations sound. Its major dual message is the need to reduce
or eliminate government regulations that discourage energy
production and the need to free entrepreneurs to meet America's
As important as what the NES does, however, is what the NES does
not do. In particular, it avoids many of the disastrous errors of
the 1970s, when the federal government believed that it could
control America's energy supply and demand. The results of this are
well known: soaring energy prices, block-long gas lines, and
uncertainty about America's energy and economic future. To be sure,
there are shortcomings. The NES does tend to call for government
research in energy areas that might best be left to the private
sector. And in some cases the report could be more emphatic about
the need for market reforms. But if policy makers do follow the NES
roadmap, in general they will be taking America down the path to
Among NES topics and recommendations:
Energy Production and Efficiency
To promote both production and efficiency, the NES
suggests more deregulation of local electrical monopolies, strict
market pricing for electricity, and federal government purchases of
natural gas vehicles.
To increase the domestic oil supply, the NES recommends
opening the Arctic National Wildlife Refuge and the Outer
Continental Shelf to oil exploration.
Western Hemisphere Energy Security
To reduce America's reliance on oil from the politically
unstable Middle East without raising costs to consumers, the NES
emphasizes negotiating freer energy trade and investment in the
To make maximum use of this clean energy source, found in
abundance in America, the NES suggests, among other things,
deregulating pipeline construction and pricing and removing
restrictions on imports and exports of natural gas.
To make better use of this resource, also found in
abundance in America, the NES recommends a consistent and
predictable, rather than arbitrary, application of environmental
laws, using coal slurry pipelines and preventing the Environmental
Protection Agency from mandating specific technology and production
methods for coal plants.
The NES points out that this is a safe, non- polluting
energy source, and suggests research to develop better designs for
nuclear plants, to reform licensing procedures, and to increase the
potential sites for nuclear waste disposal.
Renewable Energy and Electricity
The NES recommends removing licensing restrictions on
hydroelectric plants and continuing research into nuclear
A major NES failing is the scant attention that it gives some
key issues. For one thing, tax policy needs an overhaul. While the
NES suggests modest changes in the tax code, what is needed is a
restoration of all those tax code pressures dealing with the energy
industry that Congress has eliminated since 1969.
For another thing, the NES should be more emphatic about
developing a Western Hemisphere common market for energy to
diversify supplies and reduce dependence on the Middle East.
These deficiencies, however, are dwarfed by the achievement of
the NES in presenting, for the first time, a comprehensive review
of America's energy situation and in offering many market-oriented
proposals for America's future energy security.
The NES already is prompting action on Capitol Hill. On June 4
the Senate Energy Committee approved S.1220, the National Energy
Security Act, co-sponsored by Bennett Johnston, the Louisiana
Democrat, and Malcolm Wallop, the Wyoming Republican. Essentially
similar to the Bush Administration's NES, the bill faces an
uncertain fate. Many amendments could be added to it that would
make America less energy secure. The House of Representatives is
working on its own version of a comprehensive energy bill.
The Free Market Acts
When Saddam Hussein overran Kuwait about a year ago, crude
oil prices shot to record levels. Some lawmakers urged a return to
the interventionist energy policies of the 1970s. The Bush
Administration wisely resisted this. Although the Iraqi crisis
reduced world crude oil production by 4.1 million barrels per day,
roughly the same as the 1973 Arab oil boycott and 1979 Iranian oil
embargo, thanks to the Bush Administration's response, the results
were entirely different. In both 1973 and 1979, emergency
government controls greatly aggravated the effects of the
disruption. In 1990, the Administration allowed the market to
operate freely. As a result, the oil price rise was brief, peaking
last October. By this February oil prices fell to below prewar
levels. There were no 1970s-style gas lines.
History demonstrates that the best government role in the energy
sector is to assure that markets operate without hindrance.
Markets, as even East European leaders now recognize, are the most
efficient means of allocating resources. Yet federal government
restrictions continue to impede the market's function in energy.
Removing these obstacles deserves a high priority if America is to
achieve energy security.
America's Energy Situation
The United States is a country rich in energy. Domestic coal,
natural gas, and oil are pillars of America's energy base. Still,
current patterns of production and consumption will have to change
in the future as known resources are exhausted.
Fossil fuels account for 89.2 percent of all energy used in the
U.S. Oil is America's most important energy source. Last year, oil
accounted for some 40 percent of American energy use. Next came
natural gas, accounting for 24 percent of consumption, followed by
coal at 23.3 percent. Nuclear energy contributed 7 percent of
America's needs, with the rest coming from hydroelectric dams, and
alternative energy sources.
Even these figures, though, understate the importance of oil.
Some 97 percent of all transportation energy comes from petroleum.
While alternative fuels have made modest inroads in the
transportation market, it will be a decade or more before they can
offset oil consumption significantly.
This May, Americans used an average of 15,844,000 barrels per
day (b/d) of oil, roughly one million less than in 1990. During
this period, America's oil imports fell by 7.2 percent, from
8,649,000 b/d to 8,027,000 b/d. Still, America relies on foreign
oil for more than half of its needs. More disturbing, America's oil
production fell from around nine million b/d in 1985 to roughly 7.3
million b/d in 1990, a decline of almost 19 percent.
Though the Persian Gulf crisis spurred higher American oil
output, the boost was small and as it turns out, temporary. Of more
fundamental importance is the fact that America's "proved reserves"
-- essentially the oil that America has on the shelf -- have
declined by over 27 percent since the 1973 Arab oil embargo.
That America imports great quantities of oil is not, in itself,
a problem. The real concern is whether the level of imports leaves
America vulnerable to severe economic dislocation should foreign
oil supplies suddenly be disrupted. This was the case in the 1970s,
when two sudden and sharp price hikes rocked the American economy.
When all factors are taken into account, the combined effects of
the 1973 Arab oil embargo, and 1979 Iranian oil boycott cost
America an astounding $1.5 trillion between 1974 and 1984.
And the 1970s oil shocks occurred when U.S. oil imports were far
lower than they are today. America now imports over half its oil
compared with 34.8 percent in 1973. Some 27 percent of imports, or
11.8 percent of American consumption, comes from the Persian Gulf,
primarily from Saudi Arabia. The price hike that followed the
invasion of Kuwait cost American consumers nearly $39 billion in
higher oil prices.
To hedge against abrupt interruptions of oil supplies from
abroad, the U.S. government maintains 587.5 million barrels of
crude oil stored in its Strategic Petroleum Reserve (SPR). If all
imports from all sources were cut off, the SPR would last about 75
days at current rates of consumption. Not much more oil could be
obtained at short notice from American sources. The Energy
Department estimates that even under the most favorable
circumstances domestic oil production in the past year could have
been increased by only about 100,000 b/d -- and this would have
taken about a year.
Thus security of supply is a fundamental consideration in
American energy policy. This is recognized by NES. Its
recommendations aim at a secure energy future achieved through
market-based actions that improve efficiency, enhance security of
supply, assure a clean environment, and fortify the foundations of
America's energy economy.
Increasing Energy and Economic Efficiency
The NES devotes 42 of its 189 pages to energy conservation,
attained by boosting energy efficiency. While it is true that the
document does not call for the sorts of mandates, regulations, and
subsidies that were in favor during the 1970s, the dismal failure
of those measures readily justifies their absence. Instead, the NES
makes concrete suggestions for energy efficiency improvements for
electricity generation, residential and commercial buildings use,
industrial use, and transportation.
Most electricity is generated by utility companies, which are
local monopolies closely regulated by state and federal
authorities. This system stifles competition and is inefficient.
The NES addresses these shortcomings by seeking increased
competition within the electricity market. To do this, the NES
proposes amending the 56-year- old Public Utility Holding Company
Act to permit utilities to build, own, and operate power plants
outside their traditional service area. The NES also would
eliminate size restrictions on so-called Independent Power
Producers (IPPs) -- firms that are not part of a public utility,
but that build and operate plants that sell electricity to
utilities. Current size restrictions prevent IPPs from competing
with traditional utilities for the construction of new generating
The NES also supports efforts by the Federal Energy Regulatory
Commission (FERC) to allow IPPs to use existing electricity
transmission lines owned by local electric utility monopolies.
Currently, local monopolies need not permit IPPs access to such
lines. To expand operations, IPPs must have access to transmission
The NES also recommends eliminating subsidies to the federal
Power Marketing Authorities -- or PMAs. Established in 1906 to
distribute the electricity generated by federal water projects, the
PMAs sell power to their customers at prices below market cost; the
taxpayer absorbs the difference. To date, PMAs have cost the
Treasury $4 billion. As a result, PMA customers predictably waste
"inexpensive" electricity. Phasing out the huge subsidies to PMAs
would encourage conservation and promote general economic
efficiency, ending the waste of taxpayer dollars.
** Commercial and Residential Energy Efficiency
Residential use accounts for around 20 percent of American
energy consumption. Each year, 90 million American households spend
around $100 billion for heating, lighting, cooking, and other uses.
Commercial buildings account for about 15 percent of total energy
consumption, and about $70 billion in annual outlays.
Residential use of energy dropped by about one-third between
1962 and 1986 because of efficiency improvements in appliances, and
investments by homeowners in energy-saving measures. Yet the use of
the various kinds of fuel consumed to generate power for homeowners
increased as they shifted away from oil and coal for space heating
and water heating. The fastest growing end users of primary energy,
meanwhile, are commercial buildings, as a result of the spread of
air- conditioning and the proliferation of computers, copiers,
printers, and other office equipment.
A main obstacle identified by the NES to improving residential
and commercial energy efficiency are government regulations that
prevent energy prices from reflecting fully the real costs of
generating the energy. Another obstacle is that government-owned
housing is insulated from market forces and public housing
authorities feel no competitive need to increase energy
NES recommendations for commercial and residential energy mainly
aim to spur research and development and education. The NES
recognizes that conservation must be market-driven. One flaw in the
NES recommendation, however, is the call for government efficiency
standards for residences and commercial buildings. Mandating
efficiency in buildings was attempted in the 1970s without
** Industrial Energy Efficiency
The industrial sector accounts for about one-quarter of American
energy consumption. Industrial energy conservation as a response to
market forces is one of the great success stories of the American
energy economy. Between 1973 and 1989, the value of goods and
services produced in America rose by 50 percent in real terms; the
amount of energy required to produce these actually fell by 6
percent. Private industry reflexively responded to high energy
prices by conserving energy.
The NES's primary recommendation to improve industrial energy
efficiency is additional funding for research and development to
help firms find new ways to use waste as a fuel. Yet industries
already spend an estimated $46 billion annually for pollution
control. Thus industry already has a strong financial incentive to
find ways to use waste as a fuel. This is because the process of
using waste products to generate energy consumes many pollutants.
NES also recommends increased use of energy audits by industry.
Such audits permit firms to identify areas in which they can reduce
energy consumption and thus save money with existing technologies.
The federal Department of Energy's help in this is particularly
important for small - and medium-sized firms, which often lack the
technical capability to perform such audits themselves.
** Transportation Energy Use
The greatest opportunity for improving American energy
efficiency is in transportation. Last year Americans spent $200
billion on transportation fuels, accounting for two-thirds of
petroleum use and one-fourth of total energy consumption. Since
1976, the amount of oil consumed by transportation has exceeded
American domestic production. Petroleum use for transportation is
expected to continue growing, rising to more than 42 percent of
total energy use by 2010, and to 66 percent by 2030.
For transportation, the most important NES recommendation
encourages the use of alternative fuels. In principle this is
sound. Yet the NES shies away from evaluating specific alternative
fuels. The only exception is the NES recommendation to extend an
already existing tax credit to oil companies for using ethanol.
Because of this tax break, "gasohol," a blend of 10 percent
ethanol/90 percent gasoline, accounts for about 10 percent of the
gasoline supply. This means that ethanol is replacing about 1
percent of the gasoline, a very tiny amount. The NES should have
evaluated the merits of alternative fuels. Had it done so, it
probably would have concluded that natural gas is the most
Fleet Conversion to Natural Gas
For America, natural gas is a good substitute for gasoline for
transportation. First, America has an abundance of natural gas.
Were it used in place of oil in all domestic fleet vehicles,
current levels of consumption could be maintained for more than a
half-century. Second, natural gas is clean burning and, as a
gasoline substitute, would reduce air pollution.
Natural gas would be best suited as a gasoline substitute in
fleet vehicles operated by a single owner such as a taxi company, a
delivery service, or a local government. Although comprising 6.5
percent of the total vehicle population, fleet vehicles consume
approximately 10 percent of all motor fuel. The $2,000 to $3,000
cost for converting an engine to burn natural gas is currently a
deterrent to fleet use of this fuel. Were there greater demand,
however, vehicles could be equipped at the factory to use natural
gas. This would cut costs from 50 percent to 70 percent. Chrysler
Corporation and General Motors plan to establish experimental
production lines for alternative fueled cars and trucks. United
Parcel Service and other firms are converting part of their fleets.
Local governments too may want to buy natural gas vehicles to help
meet air quality regulations. Even at the current prices, the cost
of converting fleets to natural gas, the amount can be recovered in
slightly over three years thanks to lower fuel and operating
Fueling Federal Fleets
The NES wisely calls for more public education on the
benefits of alternative fuel vehicles. Better still is the NES
suggestion that the federal government buy natural gas vehicles for
its fleets. The federal government owns more than 200,000 motor
vehicles, and in fiscal 1990 alone purchased 49,188 civilian
vehicles. Federal purchases of natural gas vehicles would create
enough demand to justify the mass production lines that
significantly reduce costs.
This April 17, George Bush issued an Executive Order requiring
federal agencies to purchase as many alternative-fuel vehicles as
possible, and to compute cost/benefit ratios for the purchases on a
"lifecycle costing" basis. This means that the total cost of owning
and operating the vehicle over its useful life, rather than just
its purchase price, will be how a vehicle's cost is reckoned.
Local governments, meanwhile, also could spur use of natural gas
by permitting gas utilities to supply natural gas for the vehicle
fuel market. Such sales would be part of what is termed a utility's
"non- core" business, which is not regulated because it is not part
of a utility's local monopoly. Allowing utilities to sell natural
gas for vehicles would introduce new competition and reduce fuel
Increased demand for natural gas as a fuel for vehicles will cut
the prices of all aspects of this market. Example: It now costs
from $2,500 to $3,500 to buy a home compressor which can be
attached to a residential natural gas line to fuel a natural gas
vehicle. If mass- produced, the price could drop to under $1,000. A
gas utility could install such a unit and recover its cost over,
say, five years through fuel sales. As the number of natural gas
vehicles increased, utilities could also install natural gas
compressors at gasoline filling stations. Several already exist in
the Washington, D.C., area. To do this, however, utilities must be
allowed to sell natural gas fuel as a non-core business.
Domestic Oil Security
The principal problems addressed by the NES are the potential
dangers to America's energy supplies. Oil is the most important
component of the U.S. energy mix, accounting for 42 percent of all
energy consumed and more than 97 percent of all transportation
fuel. Last year Americans consumed an average of 17 million b/d.
U.S. domestic production, however, has been falling, from just
under 9 million b/d in 1985 to 7.3 million b/d in 1990. This is
roughly 19 percent in domestic oil production. As a result, last
year Americans paid some $55 billion for net oil imports. This
figure could rise to $200 billion by 2010 according to Energy
Department statistics. In the first half of the year oil imports
actually fell by one million b/d, or about 12 percent of the total
from the previous year. But this was due to factors other than a
change in America's long-term energy production and consumption
trends. First, due to uncertainty over the situation in the Persian
Gulf, American oil companies drew on their own stored supplies and
therefore required less imports. And second, the recession dampened
oil consumption, thereby reducing some of the need for imported and
domestically produced oil. The NES recommends reducing U.S.
vulnerability to oil "shocks" by encouraging increased domestic oil
** The Arctic National Wildlife Refuge
The NES recommends opening the Arctic National Wildlife Refuge
(ANWR) to oil exploration. Originally established in 1980 under
Section 1002 of the Alaskan National Interest Lands Conservation
Act, ANWR covers 19 million acres of Alaska's northernmost
territory. About 8 percent of this area holds high promise for
petroleum exploration. According to the Energy Department, it may
contain more oil than Alaska's Prudhoe Bay, the largest North
American oil field discovered to date.
Opponents of exploration in ANWR claim that development would
harm wildlife. Yet more than a decade of experience at Prudhoe Bay,
which steadily produces an average of 1.8 million b/d of oil,
demonstrates that oil can be extracted in the Arctic without
damaging the environment. The 1990 Exxon Valdez spill occurred
because of deficiencies in the transportation system, not in
Oil output from production in Prudhoe Bay soon will begin
declining. Unless ANWR is developed, output from Alaska will
steadily fall. With ANWR, however, Alaska could keep pumping around
1.8 million b/d or even more. The NES conservatively estimates
ANWR's potential output at 870,000 b/d by the year 2005. Oil from
ANWR also would extend the life of the Prudhoe Bay field. This is
because without ANWR, the volume of oil from Prudhoe Bay eventually
will fall below the level required to operate the Trans-Alaska
** The Outer Continental Shelf
The NES also recommends expanded drilling for new oil on the
Outer Continental Shelf (OCS), a portion of the Continental Plate
extending underneath the ocean's surface. The OCS is believed to
contain 7.5 billion barrels of oil and 9.4 trillion cubic feet of
natural gas; this would be 26 percent of America's undiscovered oil
and natural resources. The Reagan Administration proposed orderly
development of OCS oil and gas resources in a way that would
protect the environment. This was blocked by a series of lawsuits
and congressional actions. Development of the OCS was further
delayed when the Bush Administration halted leasing in several OCS
areas including the coasts of California, Oregon, and Washington,
the North Atlantic coast, and a portion of the Eastern Gulf of
Mexico. This leaves only portions of the Gulf of Mexico and Mid and
South Atlantic available for development. The freeze on new leases
apparently remains in force for most of these areas until 1996,
ostensibly to allow environmental and economic studies. Some OCS
areas off California, however, will not be available for leasing
until the year 2000.
Environmental concerns obviously are important. But so is
American energy security. The two do not exclude each other.
Technological advances in recent years have reduced significantly
the chances of spills from offshore drilling. In fact, there have
been no major spills at U.S. offshore facilities since 1969 when a
well off the coast of Santa Barbara, California, blew out, fouling
miles of beach. Safety measures developed as a result of this spill
make a re- occurrence unlikely. Today, indeed, there is far less
environmental risk from drilling offshore wells and transporting
oil to shore by pipeline than there is from transporting oil from
other nations by tankers.
The NES recommends that those areas in which leasing has been
halted be considered for inclusion in a five-year leasing plan
being drafted by the Department of the Interior. The NES also
suggests that Congress ban none of the new areas under
consideration for the five- year leasing plan until a study is
completed that weighs resource potential and environmental effects
of energy development.
** The Tax Problem
For more than two decades, unfavorable tax treatment of the oil
industry has contributed significantly to the decline of American
domestic oil production. Addressing this, the NES recommends some
tax code changes. These would give somewhat more favorable tax
treatment to so-called "marginal oil production." This is the
output from wells that are nearly exhausted. The NES also calls for
better tax treatment for "unconventional" natural gas production,
such as that from coal seams.
In its proposed tax changes, the NES stops far short of what is
needed to remove the tax code's penalties on domestic oil
production. The oil industry is treated more harshly by the tax
code than any other sector of the economy. Since 1969, for example,
most oil producers have lost what is knowm as "the depletion
allowance." This is the accounting mechanism that recognizes that
as oil is extracted from the ground, the oil company's capital is
depleted -- just as a manufacturing firm's capital would be
depleted as machinery deteriorated. The depletion allowance for
mineral development is the equivalent of depreciation for a
manufacturing business. It is an allowance that is used as a
deduction from taxable income. Loss of the depletion allowance of
course drives up the cost of oil production in America.
Also driving up the cost is the 1976 law, enacted by Congress
and approved by Gerald Ford, that imposes a minimum tax on what it
called "intangible drilling costs." These typically are the costs
of building roads to oil well sites, of the "muds" used to
lubricate the rotating shaft of an oil rig, and of the energy used
to operate the rig. Such costs from 1976 to last year were taxed at
10 percent of their value. Last year's tax hike package boosted
this tax to 24 percent. The tiny tax credit given to the oil
industry last year offers little real relief. Why drilling costs
themselves should be taxed is, of course, the question. In every
other industry these would be treated as normal business expenses
to be deducted from revenues. Yet for oil drillers they are
effectively treated as income.
Further adding to the burden on the oil industry is the 1980
special tax on oil companies to finance the Superfund, the federal
program to clean hazardous waste sites. Other taxes harm the oil
industry as well. Taxes on refined petroleum products were
increased several times for such diverse reasons as to fund mass
transit and help reduce the deficit. These taxes are imposed
specifically on the oil industry; other industries do not pay them.
A 1987 Energy Department report on energy security concludes that
American oil production would be increased were the full depletion
allowance restored. The report also calls for a 5 percent tax
credit for oil exploration and development costs and for the
removal of tax penalties on the industry. Taken together, these
changes would add 1,233,000 b/d to domestic production within a
decade. While the 1987 report also found that these changes would
reduce Treasury revenues by $7.622 billion over roughly the same
period, it failed to take into account the new revenues that would
be received by the Treasury from wages paid to workers employed to
develop the new oil, and from royalties on oil and gas produced on
federal lands. With these new revenues, the Treasury would collect
an extra $40 billion over the decade.
Western Hemispheric Energy Security
The NES strongly supports developing non-Persian Gulf oil
supplies. The NES specifically targets Eastern Europe and the
Western Hemisphere for development. The NES also urges a review of
U.S. laws to ensure they do not discourage energy development. If
production outside the Persian Gulf is not encouraged, 41 percent
of world oil supplies will come from that region by the year 2010.
Known oil reserves outside the Persian Gulf total about 337 billion
barrels; this is about half the 654 billion barrel reserve in the
The greatest opportunity for expanding secure production outside
the Persian Gulf is in the Western Hemisphere. The nations of North
and South America have proved oil reserves of over 156 billion
barrels and natural gas reserves of over 518 trillion cubic feet.
The hemisphere also has 30 percent of the world's coal reserves and
42 percent of its hydroelectric power capacity.
Latin American countries, of course, generally are more
politically stable and friendlier to the U.S. than are Middle
To increase use of the Western Hemisphere's energy resources,
energy trade should be allowed to flow freely across the borders of
all nations in the Americas through the creation of a common market
for energy. The Western Hemisphere readily could meet its own
energy needs, and even export energy. Latin America could produce
as much as 3.5 million more b/d.
For Latin America, increased energy trade with the U.S. could
help reduce the enormous Latin American foreign debt. For the U.S.,
increased reliance on hemispheric energy sources would improve
energy security. To increase cooperation on energy trade within the
hemisphere, a number of steps must be taken. One of the most
important is the elimination of barriers to foreign investment
common in Latin America.
The U.S. and Canada made a good start towards a hemispheric
common market in energy with their 1988 Free Trade Area agreement.
It provides for unrestricted oil and electricity trade across
borders. Natural gas so far is not covered by the agreement, since
it is highly regulated in both countries.
A key element to an energy free trade area would be the
reduction and eventual elimination of laws, especially in Mexico
and the Latin American countries, that prohibit foreign investment
in resource development, or set confiscatory tax rates on profits
from such investments.
** The Venezuelan Example
A promising development is the proposed Cristobal/Colon joint
venture in Venezuela. The project involves the export of liquefied
natural gas (LNG) from Venezuela to the U.S. The partners include
Exxon Corporation, Royal Dutch/Shell Group, Mitsubishi Corporation,
and a subsidiary of Petroleos de Venezuela, the Venezuelan National
Oil Company. This is the first time in decades that Venezuela is
permitting foreign participation in an energy project. Venezuela is
expected soon to revise its tax laws to make the Cristobal/Colon
project economically viable. A successful Cristobal/Colon project
could serve as a model for cooperation throughout the Hemisphere.
The government of Argentina, meanwhile, is privatizing its oil
industry, one of the most inefficient in the Hemisphere. This
should increase production and foreign participation and give
Argentina an incentive to seek freer energy trade in the
Hemisphere. Though Mexico still resists privatizing its oil
industry or allowing foreign companies to own equity shares in the
industry, this will be addressed in the current U.S.-Mexico free
trade area talks.
Domestic Natural Gas
Natural gas accounts for more than one-fifth of America's
primary energy, and is used to heat nearly half of all homes. The
NES cites natural gas as one of the most promising alternatives to
oil, suggesting that it could replace up to 600,000 b/d of oil use
by 1995, and 1.7 million b/d by 2000.
Natural gas when burned as fuel produces less air pollution than
oil or coal, and the technology to convert from oil to natural gas
is well established. Most important, America has natural gas in
Natural gas competes directly with oil in the industrial boiler
fuel market, with natural gas accounting for 37 percent and oil
only 36 percent of all industrial energy used in 1989. Coal
accounts for most of the balance. Virtually all of the oil burned
in industrial boilers, or roughly 24.7 percent of total American
oil consumption, could be replaced by natural gas. Many boilers are
designed to use either fuel and can be switched back and forth in
response to the relative price of the two fuels.
** Pipeline Construction Barriers
The NES finds that statutory and regulatory impediments are
reducing American natural gas usage by 1 trillion cubic feet per
year. This amount could displace 470,000 b/d of oil. In some cases,
particularly in the Northeast, industrial boilers cannot use
natural gas because there are no pipelines to deliver it. Pipeline
construction often is stymied by a federal regulatory approval
process which can take five times as long as it does for the actual
pipeline to be built.
The cumbersome regulatory system was designed in the days when
some pipeline firms enjoyed near monopoly power in some regions.
Today, with over 1.3 million miles of pipeline and a choice of
routes available in most cases, monopoly no longer is a problem.
Yet the antiquated approval process remains, hurting rather than
protecting the consumer. Reducing regulations would speed pipeline
construction, significantly lower transportation costs, and make
natural gas more attractive as a fuel.
The Federal Energy Regulatory Commission (FERC), the body that
oversees approval of interstate natural gas pipelines and regulates
their rates, recognizes the problem and is trying to reform its
procedures administratively with the support of the Bush White
House. The NES endorses this and suggests clarifying confusing
provisions of the 1938 Natural Gas Policy Act. It recommends that
pipeline companies be allowed to proceed without federal
certification if they forego the right to exercise federal eminent
domain in obtaining the private property needed for the pipeline.
Under current regulations, federal certification of a pipeline
entitles the pipeline company to invoke eminent domain.
** Natural Gas Pipeline Pricing
The price that natural gas pipelines charge for their services
has been regulated by Washington since the Natural Gas Act of 1938.
The NES calls for a reversal of this and for deregulation of
pipeline prices so long as pipeline customers have access to
alternative sources of energy supplies. Today, pipeline companies
can refuse to transport natural gas for producers not affiliated
with them. But because these companies usually enjoy a monopoly in
their service areas, such refusals restrict competition. Requiring
pipeline companies with local, government-supported monopolies to
transport natural gas for other companies would improve
The NES recommends reforming the pipeline rate structure to
encourage efficient use. Current rules often force pipeline owners
to charge higher prices for their services during periods of low
use, to cover the pipeline costs even though demand is low.
Conversely, during periods of peak use, pipeline owners are forced
to underprice their services to avoid making profits higher than
those allowed by the regulators. The NES suggests that FERC permit
pipeline owners to sell their excess capacity during periods of low
use, and to buy additional capacity from other pipelines during
peak periods. This would help even out the pipeline transportation
load and increase efficiency.
** Regulation of Gas Imports and Exports
Natural gas imports and exports are regulated by the Department
of Energy. America last year imported about 8 percent of its
natural gas, primarily from Canada. By the year 2000, American
natural gas imports are expected to rise to around 12 percent of
natural gas consumption, and by 2010 to 14 percent. The U.S exports
a small amount of liquefied natural gas to Japan. Vast amounts of
Alaskan natural gas could be sold to Japan were it not for the
federal limits on exports. The NES recommends ending the Energy
Department's authority over gas import and export transactions.
Coal is America's most abundant fuel, accounting for 90 percent
of American energy resources. Coal use has grown sharply in recent
years. In 1970, for example, the U.S. consumed 523.2 million tons
of coal, in 1980, 702.7 million tons, and in 1990, 894.6 million
tons, accounting for 23 percent of American energy needs. By 2010,
American coal use could rise to 1.6 billion tons. Coal also is a
major export, with more than 100 million tons sold last year.
Increased use of coal, however, could be hindered by the tightened
environmental regulations in the Clean Air Act of 1990. The NES
cites the Energy Department's Clean Coal Technology (CCT) program,
initiated in 1986, as a way to permit increased coal use and still
protect the environment. To accelerate the CCT program, the NES
recommends reforming federal coal leasing policies, reforming
regulations concerning coal mining safety and health, and
encouraging greater use of coal slurry pipelines.
** Promoting Coal Production
The Clean Coal Technology Program aims at developing new
technologies to burn coal cleaner, with less pollution. For the CCT
to succeed, sufficient quantities of low-sulfur coal must be
burned. Much of this type of coal is on federal land. The NES
recommends that the Department of Interior's Federal Coal Leasing
Program insure that adequate low-sulfur coal areas are offered for
lease. At the same time, NES calls on the Bureau of Mines to
continue research and development on technologies to address
environmental concerns about underground coal mining. It also calls
for continued tax credits for extracting the marketable methane gas
found in the underground coal beds.
** Regulatory Reform
The NES stresses the need to eliminate the uncertainty about the
kind of environmental regulations that are to be imposed under the
1977 Surface Mining Control and Reclamation Act. This act has been
inconsistently applied. Reform is especially important to
low-sulfur coal production, most of which is extracted from surface
The NES also calls for performance-based standards for mine
safety and health regulations. Adopting performance-based
standards, where results, rather than specific federally-imposed
methods, are used to measure compliance, will permit a more rapid
introduction of technological improvements and improve worker
** Coal Slurry Pipelines
Coal slurry pipelines, in which pulverized coal mixed with water
is transported as a liquid, reduce coal transportation costs. Since
almost all prospective slurry pipeline routes will cross over or
under highways, rail lines, and other private property, slurry
pipelines require that government exercise the right of eminent
domain to obtain the right-of-way for the pipelines. This is done
for right-of-way for electric wires, roads, and rails. Because
slurry pipelines use large amounts of water, there has been great
opposition to granting pipeline builders eminent domain in Western
states where water is scarce. Yet large deposits of low-sulfur coal
are in the West, and rail transport of the coal to Eastern markets
is much more costly than transport by slurry pipelines. The NES
correctly supports granting eminent domain to slurry pipeline
builders once all questions concerning water rights and usage have
** Clean Air Act Amendments
The Clean Air Act of 1990 mandates that annual emissions of
sulfur dioxide in the U.S. by the year 2000 will be at least 10
million tons below the 1980 level. The act further decrees that the
emissions level reached in the year 2000 will never be exceeded.
The act requires existing coal-burning electric utility plants to
install expensive devices to control emissions of nitrogen
These new requirements could seriously constrain American coal
use. While accepting the clean air goal set by the 1990 act, the
NES stresses that the goal can be met by accelerating the Clean
Coal Technology Program. This would be much less costly to the
economy than the devices called for by the Clean Air Act.
** The WEPCO Decision
When the first Clean Air Act was passed in 1970, most existing
electrical generating plants were exempted from the new air quality
rules. At the time it was assumed that existing plants soon would
be replaced by new facilities that would be subject to the law.
Yet, as the expense and difficulties associated with building new
electrical generating plants increased, utilities typically decided
to refurbish existing plants rather than build new ones. In 1988, a
decision by the Environmental Protection Agency involving a plant
refurbished by the Wisconsin Electric Power Company (WEPCO) held
that when a utility makes "non-routine" changes in the operation,
repair, or maintenance of a unit, the plant may become subject to
air quality rules. This meant that the utility was required to
install specific pollution control devices mandated by
The effect of this decision on the WEPCO plant was
enormous. The capital cost for refurbishment jumped from $80
million to $120 million. It became necessary to cut the plant's
size from 400 megawatts to 320 megawatts. As a result, the cost of
re- outfitting the WEPCO plant rose by 87.5 percent overall. Worse
still, the EPA indicated that it will determine what constitutes a
"non- routine" refurbishment case by case. As a result, utilities
deciding how to meet future power requirements must assume that any
refurbishment will fall under the WEPCO precedent.
The WEPCO decision illustrates the uncertainties that the
inconsistent and unpredictable application of regulations can
introduce into the market. The NES correctly suggests that the
Energy Department work with the EPA to identify the areas of
regulation that create planning uncertainties for electric
utilities with older plants, and strive to make the revisions
necessary to clarify them. A more basic question, however, as with
the WEPCO decision, is whether the EPA will continue to resist
performance-based standards for public utilities. Unlike the more
traditional command and control "cookbook" approach, such standards
emphasize results. If EPA resists this approach, the Administration
should take direct action against EPA to assure the adoption of
such sound policy.
Although nuclear plants generate around 20 percent of American
electricity, for all practical purposes American nuclear energy
development is at a standstill. Because of public opposition and
excessive regulation, no new nuclear plants have been ordered in
America since 1978; only three remain scheduled for construction.
More than 100 orders have been cancelled or deferred.
Still, nuclear energy remains an attractive way to generate
electricity. It is clean and relatively safe. America has huge
deposits of uranium, the source of nuclear fuel. The NES estimates
that America will need from 190 gigawatts to 275 gigawatts of new
electrical generation capacity by the year 2010 (a gigawatt is one
billion watts). Currently it takes two coal-fired plants or one
nuclear plant to produce a gigawatt. Most of America's added energy
will be generated by large, centralized plants, known as "base load
generation." These are best suited to nuclear power.
To give nuclear energy a new chance, the NES addresses several
** Advanced Powerplant Designs
The accidents at the Three Mile Island nuclear facility in
Pennsylvania in 1979 and at the Chernobyl facility in Ukraine in
1986 heightened public concern over plant safety. Since 1979, the
Department of Energy has been researching advanced light-water
reactors (ALWRs), which will be safer than current designs. By
1995, the ALWR design should be complete and a prototype could be
operating by 2000. Other advanced designs are also being developed.
Among the most promising is the Modular High-Temperature Gas
Reactor. With it, if all external power systems were to fail, the
reactor would simply shut itself down. The NES endorses these
research and development efforts.
** Licensing Reform and Design Standardization
Delays encountered in licensing nuclear power plants long have
been among the nuclear industry's greatest problems. The licensing
process in America can take up to fifteen years compared to less
than five years in Japan or France. Unlike other governments,
Washington reserves key licensing approvals until after a plant is
built. As a result, a utility can have a completed plant costing a
billion dollars sitting idle because of a regulatory delay.
This process is complicated further by the tendency of electric
utilities to order unique designs for each plant. This subjects
each plant to its own exhaustive review process. In France and
Japan, by contrast, it has long been the practice to use
standardized models for nuclear plants. Besides reducing licensing
delays, standardization is believed to improve safety by reducing
the number of new and untried components. The NES agrees that power
plant designs should be standardized so that reviews need take
place only once.
** Managing High-Level Nuclear Waste
Another major problem facing the nuclear industry is the growing
backlog of undisposed high-level nuclear waste, that is, highly
radioactive byproducts of nuclear power production that require
special disposal. The Nuclear Waste Policy Act of 1982 directs the
Department of Energy to establish a permanent repository for such
waste, and a monitored retrievable storage facility (MRS) to hold
the waste prior to permanent disposal. Yet just about all
localities strongly oppose being the site of these repositories. As
with other problems facing the nuclear industry, establishing these
repositories is as much a matter of public perception as of
technology. Although the NES suggests that Congress establish
disposal sites, the political battle surrounding such decisions
will result in further delays.
Renewable Energy Sources
Renewable energy sources are those that are not depleted. The
three principal renewable sources in America are hydroelectric
power, geothermal power, and ethanol, produced from corn, grains,
and other biological material. Solar power is a much less important
renewable source. In 1990, renewable energy supplied 8 percent of
American energy needs. Of this, about 47 percent came from
hydroelectric dams. Solar power of all types accounted for under 6
percent of all renewable energy and less than one half of one
percent of American energy needs. Renewable energy sources other
than hydroelectric power or wood have grown in importance
significantly since 1970, when they were virtually nonexistent. The
NES strongly endorses the use of renewable energy, and calls for
continued research and development in this area.
** Renewable Energy and Electricity
The NES recommends removing from the Public Utility Regulatory
Policies Act of 1978 (PURPA) restrictions on the size of renewable
energy plants. These restrictions are a holdover from the Carter
Administration's emphasis on so-called "soft-path" energy schemes,
which emphasized small-scale plants. These provisions made neither
economic nor technological sense.
All hydro-electric plants are licensed by the Federal Energy
Regulatory Commission, and the licenses periodically must be
renewed. The licensing process has become extremely cumbersome. The
NES suggests exempting very small hydro projects from FERC
regulation, and streamlining the licensing process for all other
In 1978, Congress allowed a five-cent per gallon exemption from
the federal gasoline tax for motor fuels blended with ethanol. And
in 1980, the federal government granted a tax credit for refiners
producing gasoline blended with ethyl tertiary butyl ether (ETBE),
an ethanol-based gasoline additive. Because ethanol is more
expensive than gasoline, its advocates believe a tax credit is
warranted to allow ethanol to compete with gasoline. A look at the
performance of ethanol in the market, however, suggests that such a
credit is not needed. With around 10 percent of all gasoline being
blended with ethanol or ETBE the need for the subsidy has passed.
Ethanol is well established in the market and now competes with
gasoline additives in about the same price range, rather than with
gasoline. Clean Air Act of 1990 regulations effectively require
many motorists in urban areas to use gasoline with ethanol, ETBE,
or some similar additive. The NES thus errs in recommending that
the ethanol tax credit continue. Instead, the subsidies for ethanol
and ETBE should be eliminated.
Fusion long has held out the promise of tapping a virtually
inexhaustible supply of energy without endangering the environment
and without producing hazardous wastes. The NES calls for continued
support of fusion energy research. This is wise, yet too much
should not be expected of fusion soon. Under the most optimistic
assessments, the first practical fusion energy plants will not be
available until the year 2035.
Improving Environmental Quality
The needs to make America more energy secure and to protect the
environment too often have been in conflict. Measures designed to
protect the environment often wasted energy or restricted the use
of such plentiful sources as coal.
The NES emphasizes the need to clarify uncertainties about some
environmental issues that have impeded energy development. Typical
of these issues are the claims about global climate change. NES
stresses that research on these issues is essential before imposing
regulations that could have disastrous economic consequences for
American industries. The NES does call for measures to reduce the
emission of "greenhouse gases," which may contribute to atmospheric
warming, while the global warming issue is being studied. But NES
specifies that these measures be limited to those justified for
reasons other than potential global climate change.
The NES wisely rejects the notion of a so-called "carbon tax" to
discourage fossil fuel use. Some environmentalists call for a $135-
per-ton tax on the carbon content of fuels. This would damage the
American economy enormously.
In the past, talk in Washington of an "energy policy" has meant
cumbersome regulations, expensive new bureaucracies, and costly
"conservation" programs and gas lines. How much energy, if any, is
saved by these measures is debatable. What is not debatable is the
enormous economic pain inflicted on Americans. A sound energy
policy is not built on more regulations. A sound policy rather
should remove impediments to the energy market, eliminate barriers
to energy production, and facilitate innovation. This is what the
National Energy Strategy recommends. America's level of foreign oil
imports is too high -- not because oil imports are "bad" for
America but because dependence on oil from unfriendly and insecure
parts of the world carries the risk of future damaging economic
Removing Tax Bias
America can increase domestic energy production and
increase exploration to find new reserves if Congress and the White
house amend the tax code to remove the bias against firms taking
the risks necessary to find new energy supplies, if Congress and
the White House allow exploration in the most promising areas for
new oil discoveries, if Congress and the White House remove the
regulatory impediments now discouraging gas producers and utilities
from fostering greater use of natural gas, and if Congress and the
White House encourage conservation by permitting the market to
reflect the true cost of energy.
Americans, too, could move closer to secure foreign sources of
supply if the U.S. were to negotiate a common market for energy
throughout the Western Hemisphere.
Americans enjoy one of the world's highest standards of
living in large part because they have had ready access to
abundant, inexpensive sources of energy. Continued access to
abundant energy is essential to America's economic future, and
history teaches that the best way to achieve this access is to
permit markets to operate. Reliance on markets assures both
abundant supplies and judicious use. As such, above all else, the
core of any national energy strategy must be to permit markets to
operate. Prepared for The Heritage Foundation by
Milton R. Copulos, President, National Defense Council
Foundation, Alexandria, Virginia