Last summer's record-breaking oil and gasoline prices-exceeding
$140 per barrel and $4 per gallon-received plenty of attention in
Washington and sparked a host of proposed responses from Congress.
However, the real lessons are to be learned by studying the
dramatic drop in prices since then. These lessons, if incorporated
into the nation's energy policy, could help prevent prices from
going back up to record levels in the future.
Lesson 1: Blaming Big Oil, Wall Street
Speculators, or Other Scapegoats Is a Waste of Time
Anger at high prices last sumer led to the usual push for
politically convenient scapegoats. The public was told that major
oil companies and Wall Street speculators were responsible by
manipulating prices to their benefit, and in response Congress
proposed all manner of punitive taxes and regulatory crackdowns.
However, the current drop in prices should throw at least some cold
water on these claims.
Such allegations are made every time energy prices go up. They
have been investigated numerous times by the Federal Trade
Commission and others and found to be without merit, but few
critics are ever convinced. But what better proof that sinister
capitalists are not jacking up energy prices than the bottom
falling out on those prices? Oil, at $147 per barrel on July 11,
has recently traded for half that. And gasoline, which reached
$4.11 per gallon around the same time, is now averaging $3.04 and
is falling by several cents per day.
If large oil companies really were responsible for creating last
summer's high prices, why would they give them up so quickly? And
if speculators were capable of profiting by driving prices ever
higher, why would they allow themselves to be caught holding the
bag in a free fall?
Clearly, the drop in prices is strong evidence that the market
is not so easily manipulated. And it suggests that efforts to
punish oil companies and investors-either through price controls,
windfall profits taxes, or trading restrictions-are not really
solutions. Instead, they are noisy diversions from what really
needs to be done, such as expanding domestic oil supplies.
Lesson 2: Markets Work-If We Let
As summer turned to fall, sky-high pump prices in the face of a
weakening economy led to lower demand and a drop in those prices.
In other words, market forces do work, and they tend to counter big
price moves in one direction or the other. The financial meltdown
may have weakened faith in markets over the last few weeks, but the
precipitous decline in oil and gasoline prices should help
strengthen that faith.
Of course, markets can work only if they are allowed to. The
biggest threat to the functioning of energy markets right now is
costly cap-and-trade legislation in the name of fighting global
warming. These measures would set a limit on the emissions of
greenhouse gases, mainly carbon dioxide from the combustion of
coal, oil, and natural gas. This cap-and-trade legislation, and the
energy use restrictions that would result from it, would create an
unprecedented level of interference by the federal government in
the energy sector and the overall economy. Bottom line: Such
legislation would lead to gasoline rationing and higher prices.
The America's Climate Security Act, the only cap-and-trade bill
to be voted on in 2008, was easily defeated in the Senate last
June, largely due to concerns about costs. The bill was estimated
by the Environmental Protection Agency (EPA) to add 0.53 cents to
the price of gasoline by 2030, while analyses by The
Heritage Foundation and others estimated considerably larger
Reps. John Dingell (D-MI) and Rick Boucher (D-VA) have recently
introduced a new cap-and-trade proposal that could serve as a
starting point for global warming discussions in 2009. At the same
time, the EPA is pursuing a regulatory crackdown on carbon dioxide
Costly restrictions imposed by a cap-and-trade bill or EPA
regulations would act as a one-way ratchet on oil and gasoline
prices, precluding the kind of market-driven declines like the one
we have experienced since the summer.
Lesson 3: What Comes Down Can Go Back
We have seen that prices can fall dramatically, but we should
not forget that they can rise just as dramatically. It is good that
gasoline has become more affordable, but the main reason-an
economic downturn that has dampened demand-is one nobody expects
(or wants) to last forever. Now is not the time to get complacent,
lest we see prices take off again once the economy turns
One thing America can do is expand domestic oil supplies.
America remains the only oil-producing nation on earth that has
placed a significant amount of its reserves out of reach. To its
credit, Congress recently allowed the longstanding restrictions on
offshore drilling in 85 percent of our territorial waters to lapse.
This happened because of public anger over high prices. However,
now that the anger has subsided a bit, some Members of Congress are
talking about reinstating the offshore restrictions after the
This is not the time for complacency about energy supplies and
prices, especially given the expected increases in demand in the
years ahead. If a temporary drop from $4 toward $3 a gallon
prevents the new offshore drilling from actually moving forward, it
could end up costing us in the long run.
Much to Learn
The drop in oil and gasoline prices has not gotten nearly as
much attention as the preceding rise. This is unfortunate, as the
decline contains at least as many useful lessons as the increase
that, if heeded, could lead to better news for prices in the years
Ben Lieberman is Senior
Policy Analyst in Energy and the Environment in the Thomas A. Roe
Institute for Economic Policy Studies at The Heritage
Lieberman, "The Lieberman-Warner Climate Change Act: A Solution
Worse Than the Problem," Heritage Foundation Backgrounder
No. 2140, June 2, 2008, p. 5, at http://www.heritage.org/Research/EnergyandEnvironment/bg2140.cfm;
American Council for Capital Formation and National Association of
Manufacturers, "Analysis of the Lieberman-Warner Climate Security
Act (S. 2191) Using the National Energy Modeling System
(NEMS/ACCF/NAM)," p. 12, at /static/reportimages/7FB6D1AE6A2C7924D4A79FB1F1B0BECC.pdf
(October 17, 2008).