Energy is critical to the operation of our economy and the
maintenance and improvement of our standard of living. Restricting
access to energy hurts the economy, drives income down, and, of
course, drives up prices of other goods. Opening access to our own
petroleum reserves can help our economy as it helps restrain rising
Petroleum Prices Hurt Economy
The past several years have seen a dramatic increase in the
price of petroleum and petroleum products. The price of petroleum
doubled in the past year, though it has eased in the past two
months. The resulting increases in gasoline, diesel fuel, and
heating oil prices directly impact household budgets while reducing
jobs and income.
For example, the EPA estimates that a typical light vehicle
travels 12,000 miles per year and averages about 20 miles per
gallon. Doing the math indicates that the typical
vehicle uses about 600 gallons per year. Further, the Department of
Transportation data show that the average household owns nearly two
cars. Therefore, the cost
to the average household of a $1 per gallon price increase is about
$1,100 per year. But the damage to the economy does not stop
Higher petroleum prices squeeze the production side of the
economy from both the demand and the cost directions. Consumers'
demand for output drops as they divert expenditures from other
items to gasoline and heating oil. In addition, petroleum products
are used to produce and distribute many goods and services.
Faced with these higher costs, producers try to raise their
prices. But the lower demand prevents the prices from rising enough
to completely offset cost increases. This leads to production cuts
and, therefore, lower employment. In turn, these conditions put
downward pressure on wages and salaries.
The effect of high petroleum prices in the U.S. is a weaker
economy; the cause of the high petroleum prices is a change in
supply and demand. In the past decade, worldwide demand for
petroleum has grown faster than supply and has virtually erased
spare capacity. With over 5 million barrels per day as recently as
2002, spare capacity has dropped below 2 million barrels per day in
the past couple of years. When supply is pushed up against its
capacity constraints, as it is now, additional demand in one part
of the world can be met only with demand reductions elsewhere.
When there was spare capacity on the order of 3-5 million
barrels per day, the demand of a new car owner in the developing
world could be met with additional pumping from existing wells.
With no spare capacity, fuel for a new driver can be provided only
when the price rises high enough to force drivers elsewhere out of
their cars. In this situation, slight changes in supply can also
lead to large changes in price.
What If Petroleum Output Rose?
Increasing domestic production of petroleum will affect the
economy two ways: First, it will reduce the amount we spend on
imported oil. Second, it will lower the price of petroleum. The two
effects work together to reduce energy expenditures, reduce the
trade deficit, and expand economic activity.
The impact of increased production on world petroleum prices
depends on the market conditions into which the additional oil is
supplied. In a letter to Representative Jack Kingston (R-GA) dated
July 2, 2008, Guy Caruso, administrator of the Energy Information
Administration, estimated each additional million barrels of oil
would lower world price by $20 per barrel. This price impact is
consistent with other recent research.
Adjusting consumption of gasoline, heating oil, and other
petroleum products is difficult for consumers to do in the short
run. As a consequence, a 1 percent increase in price reduces
consumption by only 0.05 percent. So a 1 percent change in supply
requires a 20 percent change in price to bring markets back into
balance. It is understood that the price impact would be smaller
over time once the world economy fully adjusts to the increased
It seems probable that world petroleum markets, which are not
currently in long-run equilibrium, will continue to see strong
demand growth, especially over the long-run. Nevertheless, if the
world petroleum market eases significantly by the time this
increased production comes on line, the price and economic impacts
will be less pronounced. But this reduced impact would occur in a
world that already had significantly lower petroleum prices.
Increasing domestic production by 1 million barrels per day
would reduce imported petroleum costs by $123 billion, generate an
additional $7.7 billion in economic activity, and cost $25.6
billion in additional oil production costs. The net gain to the
economy would be $105 billion. The impact on employment would be an
increase of 128,000 jobs.
Applying the same analysis to a 2 million barrel per day
increase in domestic petroleum production yields net economic gains
to the economy of 270,000 jobs and $164 billion.
The Artic National Wildlife Refuge (ANWR) and the off-limits
part of the Outer Continental Shelf (OCS) are estimated to contain
28 billion barrels of petroleum. The 10 billion barrels estimated
to be in ANWR are enough to fuel all the vehicles for 7.4 million
households for 50 years. In addition, the Mineral Management
Service conservatively estimates there are nearly 18 billion
barrels of petroleum in the restricted areas of the outer
continental shelf alone.
While bringing an additional 1-2 million barrels per day of
petroleum out of these resources is not a trivial enterprise, it
could be done in less time than the decades often mentioned. A
single platform in the Gulf of Mexico is slated produce one-quarter
of a million barrels per day within the next year. Estimates
claiming less than this amount from the whole OCS are not
A bit of petroleum history is also worth reviewing. The Alaska
Oil Pipeline took two years, two months, and four days from the
first shovel of dirt until completion. This engineering marvel
covers 800 miles, crosses three mountain ranges, and traverses 800
rivers and streams. Within 24 months of completion, the
pipeline throughput reached 1.5 million barrels per day. ANWR is
about 75 level miles from the head of this pipeline, which has over
1 million barrels of unused capacity right now.
In addition, billions of barrels of petroleum are located close
by under the waters off the southern California coast-much of which
can be tapped with existing oil infrastructure and horizontal
drilling from onshore.
Drilling Will Not Hurt
We cannot drill our way out of all energy problems, but we can
certainly lower petroleum prices if we commit to developing our own
resources instead of blocking access to them. Modern technology
allows for safe and clean extraction of petroleum. There is no need
to become ever more dependent on unfriendly and unreliable foreign
producers when we have billions of barrels of petroleum in our own
David W. Kreutzer, Ph.D.,
is Senior Policy Analyst for Energy Economics and Climate Change in
the Center for Data Analysis at The Heritage Foundation.
Jonathan E. Hughes, Christopher R. Knittel, and Daniel Sperling,
"Evidence of a Shift in the Short-Run Price Elasticity of Gasoline
Demand," NBER Working Paper No. 12530, September 2006.
its most recent Mid-Term Oil Market Report, the International
Energy Agency projects a return to spare capacities of less than 2
million barrels per day after a slight easing over the next two
years. See International Energy Agency, "Medium-Term Oil Market
Report," July 2007, at /static/reportimages/0050FF6702557E406B3877BE3E969A65.pdf
(October 1, 2008).