Tag Archives: Strategic Petroleum Reserve (SPR)

Playing Politics with Energy Security: How the Latest Congressional Budget Deal Raids the Strategic Petroleum Reserve

Looking to finally reach a longer-term agreement to avoid an extended federal government shutdown last week, a bipartisan deal was reached in Congress in the early morning of February 9 that would fund the government for the next two years. As the details of the deal get combed over there is plenty to digest, even in just energy-related topics (such as the inclusion of climate-related policy), but one notable part of the budget agreement was the mandate to sell 100 million barrels of oil from the Strategic Petroleum Reserve (SPR). The stated goal of this move was to help pay for tax cuts and budgetary items elsewhere in the deal, but will that goal be realized or is Congress paying lip service to the idea of fiscal responsibility at the expense of future energy security?



Purpose and typical operation of the SPR

In a previous post, I covered more extensively the background and purpose of the SPR. In short, the SPR is the largest reserve supply of crude oil in the world and is operated by the U.S. Department of Energy (DOE). The SPR was established in the wake of the oil crisis of the late 1970s with the goal of providing a strategic fail-safe for the country’s energy sector– ensuring that oil is reliably available in times of emergency, protecting against foreign threats to cut off trade, and minimizing the effect to the U.S. economy that drastic oil price fluctuations might cause.

In general, decisions regarding SPR withdrawals are made by the President when he or she 1) “has found drawdown and sale are required by a severe energy supply interruption or by obligations of the United States under the international energy program,” 2) determines that an emergency has significantly reduced the worldwide oil supply available and increased the market price of oil in such a way that would cause “major adverse impact on the national economy,” 3) sees the need to resolve internal U.S. disruptions without the need to declare “a severe energy supply interruption, or 4) sees it a suitable way to comply with international energy agreements. These drawdowns, following the intended purpose of the SPR, are limited to a maximum of 30 million barrels at a time.

Outside of these standard withdrawals, the Secretary of the DOE can also direct test sales of up to 5 million barrels, SPR oil can be sold out on a loan to companies attempting to respond to small supply disruptions, or Congress can enact laws to authorize SPR non-emergency sales intended to respond to small supply disruptions and/or raise funds for the government. This last type of sale is what Congress authorized with the passing of the budget deal (see the previous article on the SPR to read more about how the SPR oil actually gets sold).

Source

While selling SPR oil to raise funds is legislatively permitted, this announced sale of 100 million barrels (15% of the balance of the SPR) is an unprecedented amount– the biggest non-emergency sale in history according to ClearView Energy Partners. More concerning than the amount of oil to be sold, though, is the ambiguity behind what exactly the sale of SPR oil will fund. Historically, an unwritten and bipartisan rule was that the SPR was not to be used as a ‘piggy bank’ to fund political measures. However, that resistance to using the SPR as a convenient way to raise money (for causes like infrastructure or medical research) was waned as Congress has faced the perennial opposition to raising taxes and the need for new sources of income.

Lisa Murkowski, Chairwoman of the Senate Energy and Natural Resources Committee, has echoed these frustrations about how the funds from the SPR sell-off will be used. When asked how Congress would spend the money, she simply replied it would be spent on “whatever they want. That’s why I get annoyed.” Despite the history of the SPR being an insurance policy for the U.S. energy sector and economy from threats of embargo from foreign nations, natural disasters, and unexpected and drastic changes in the market, the inclusion of SPR sales in this budget is just further indication of Congress trading out energy security and buying into other priorities. Taking the issue a step further, once the oil from the SPR is sold off, it likely becomes that much harder to convince Congress in the future to find the money to rebuild stocks with any additional oil stocks that might become necessary, both because the trajectory of oil prices is always climbing and thus naturally becomes more expensive to do so over time and because getting Congressional approval for new spending will always be more difficult politically than ‘doing nothing’ and just keeping SPR stocks at their current levels.

But is this selling of the SPR oil really in the name of deficit reduction and fiscal responsibility? Will the sale of this oil make an appreciable difference and help balance out the budget that Congress agreed to at (or, rather, past) the eleventh hour?

Crunching the numbers

Ignoring the previously authorized SPR sales, this budget deal alone included directive for DOE to sell 100 million barrels of oil from the SPR. What level of funds would this actually raise, and would it be enough to make a dent in the deficit? At current prices of crude oil that have hovered in the $60 per barrel (b) range, the sale would translate to about $6 billion– but the actual number depends on the price at which the oil gets sold, an uncertain number because the oil is being sold over the next 10 years and oil prices are notoriously variable.

We can make a certain degree of estimates based on the outlook of crude oil prices going forward (acknowledging at the outset the significant uncertainty that any forecast inherently assumes, especially in the oil markets that are affected by outside factors like government policy and geopolitical relations). To get a rough idea, though, we can look at the recently released 2018 Annual Energy Outlook (AEO2018) from the Energy Information Administration (EIA) which projects energy production, consumption, and prices under a variety of different scenarios (such as high vs. low investment in oil and gas technology, high vs. low oil prices, and high vs. low economic growth).

Source (Click to enlarge)

Brent crude oil (representative of oil on the European markets) starts at about $53/b in 2018 and goes up to about $89/b by 2027 in the ‘reference case’ (going from $27/b to $36/b in the low oil price scenario and $80/b to $174/b in the high oil price scenario). Similarly, West Texas Intermediate (WTI) oil (representative of the U.S. markets) starts at about $50/b in 2018 and goes to $85/b in 2027 in the ‘reference case’ ($243/b to $33/b in the low oil price scenario and $48/b to $168/b in the high oil price scenario). These figures present a pretty wide range of possibilities, but that is unfortunately the nature of oil prices in today’s climate. Further, EIA does unofficially consider these ranges to be akin to the 95% confidence intervals between which the actual prices are almost assured to be found, so we can still find value in these prices as the ‘best’ and ‘worst’ case scenarios.

For simplicity’s sake, we can assume this 100 million barrels sold will be sold in equal chunks of 10 million barrels per year from 2018 to 2027 (though the actual sale will certainly not follow this neat order, but the assumption will get us in the approximate range). In the below charts, see the amount of funds raised from this SPR sale assuming the actual sale price is the average of Brent and WTI prices in the AEO2018 reference case compared with using the price of Brent in the high oil price scenario (the largest total oil price in any side case) and the price of WTI in the low oil price scenario (the lowest oil price in all of the side cases). The top chart tracks the amount of money raised in each of the 10 years while the bottom chart then shows the cumulative money raised in these three scenarios over the course of the decade.

Click to enlarge

As shown, the low oil price scenario raises between $226 million and $326 million every year for a decade, totaling just shy of $3 billion in funds. In the high price scenario, the annual amount brought in is between $800 million and $1.7 billion per year, totaling about $14 billion in funds. In the reference case, the one that is most likely (though not at all assured) to be representative, each year the selling of SPR oil would bring in between $512 million and $868 million for a total of $7.5 billion in funds.

Now let’s be clear about one thing–raising somewhere between $3 billion and $14 billion is a lot of money. But in the context of this budget that was passed and the rising deficit of the federal government, how much of a dent will this fundraising through the sale of SPR oil really make?

The budget deal will add $320 billion to deficits over the next decade, which is almost $420 billion when factoring in interest according to the Congressional Budget Office. That massive increase in spending, an average of $42 billion per year, makes the funds from the SPR sale look like pocket change:

 Click to enlarge

Both the sale of SPR oil and the impact of this budget will be felt over the next 10 years, meaning these dollar figure present very apt comparisons. At the end of the decade, the high oil price scenario shows that SPR oil sales will only account for 3.4% of the deficit increase, while the reference case would account for 1.8% of the deficit increase and the low oil price scenario would only account for 0.7% of the deficit increase. Since the deficit would increase over the course of 10 years, another way to think of it is that the selling of SPR oil would account for 124 days of the deficit increase in the high oil price scenario, while the reference case would account for 65 days of the deficit increase and the low oil price scenario would account for 26 days of the deficit increase.

Outside of the increase to the deficit, the discretionary spending from the budget increase are to be $296 billion over the next two years (not including money given immediately to disaster spending, healthcare, and tax cuts). The SPR oil sale translates to between 1.0 and 4.8% of the discretionary spending increase or 7 to 35 days of the two years worth of spending increases.

Lastly, after accounting for this latest Congressional budget agreement, the CBO projects the federal deficit will increase to $1.2 trillion in 2019. If the sale of SPR oil is attempted to be pushed as a degree of fiscal responsibility in the wake of this budget deal, it is worth noting that the authorized sale of the SPR oil would only account for 1.2% of the total federal deficit in the best case scenario of high oil prices (0.2% in the low oil price scenario)– a metaphorical drop in the bucket (though for those curious, it’s actually significantly more than a literal drop in the bucket!).

What’s it all mean?

Buckets get filled drop by drop all the time, and it inherently requires many drops to fill up that bucket. So in this metaphor, each drop need not be disparaged for not being larger and doing more to fill up the bucket as it is the aggregate effect we should care about. Despite that truth, it is still fair to bring up whether the sacrifices required to gather that ‘drop’ were worthwhile. Going back to the origin and history of the SPR, Congress selling off large portions of the stocks of oil was never meant to fund ambiguous budgetary measures.

This 100 million barrels to be sold should also not be taken without the context of the sales already authorized by Congress last year that will also become reality in the next decade. Combined with the previously mandated sales, after this budget deal the SPR will be left with just over 300 million barrels of oil— about half of what it had been. So the negative side of this is that Congress appears ready and willing to gut the SPR. However the other side is that, because of the U.S. shale oil boom and other factors, the amount of net imports of oil and oil products to the United States has been dropping significantly. In the context of decreasing net imports, the amount of SPR stock measured in terms of ‘days of supply of total petroleum net imports’ has seen a comparable rise. What this means is that because the United States has become less dependent on foreign oil, less oil needs to be stored in the SPR to provide the same amount of import coverage.

Source (Click to enlarge)

In the wake of this budget passing and the previously announced SPR oil sales, many energy analysts came out to call these moves short-sighted at best, citing the following among the many reasons:

Because the budget that was passed was over 600 pages and was voted on before most people (or anyone) would realistically have a chance to read it, it’s yet to be clear what part of the budget will cause the most noise. But in terms of this surprising move by Congress with respect to the SPR, the questions to wrestle with become the following: Is it wise to sell off our oil insurance policy that might be needed in future tough times just because things are looking good for the present U.S. oil market? Is the financial benefit of reducing SPR oil stocks by such a significant amount  worth paying off a couple of weeks to a couple of months of the increased deficit, or is it possible that such a sale is only paying lip service to fiscal responsibility that allows politicans to point to an impressive sounding source of funds (up to $14 billion!) when in reality it doesn’t move the needle much (a maximum of 3% of the increase in deficit)?

Sources and additional reading

2018 Annual Energy Outlook: Energy Information Administration

America’s (not so) Strategic Petroleum Reserve: The Hill

Budget deal envisions largest stockpile sale in history: The Hill

CBO Finds Budget Deal Will Cost $320 Billion: Congressional Budget Office

DOE in Focus: Strategic Petroleum Reserve

Harvey, Irma show value of Strategic Petroleum Reserve, energy experts say: Chron

Petroleum reserve sell-off sparks pushback: E&E Daily

U.S. Looks To Sell 15% Of Strategic Petroleum Reserve: OilPrice.com

U.S. SPR Stocks as Days of Supply of Total Petroleum Net Imports: Energy Information Administration

Weekly U.S. Ending Stocks of Crude Oil in SPR: Energy Information Administration

Why the U.S. Shouldn’t Sell Off the Strategic Petroleum Reserve: Wall Street Journal

 

About the author: Matt Chester is an energy analyst in Washington DC, studied engineering and science & technology policy at the University of Virginia, and operates this blog and website to share news, insights, and advice in the fields of energy policy, energy technology, and more. For more quick hits in addition to posts on this blog, follow him on Twitter @ChesterEnergy.  

DOE in Focus: Strategic Petroleum Reserve

The Strategic Petroleum Reserve (SPR), owned by the U.S. federal government and operated by the Office of Fossil Energy within the Department of Energy (DOE), is collectively the largest reserve supply of crude oil in the world. These massive reserves of oil are divided between four storage sites along the Gulf of Mexico.
As the name implies, the SPR exists to provide a strategic fail-safe for the United States, ensuring that oil is reliably available in times of emergency, protecting against foreign threats to cut off trade, minimizing potential impacts of price fluctuations, and more. Understanding the SPR, both its history and its present form, are crucial to recognizing the role it may play in the future and understand the implications of its discussion by politicians.



Origin of the SPR

Initial calls for a stockpiling of emergency crude oil began as early as the 1940s, when Secretary of the Interior Harold Ickes advocated for such reserves. The idea continued to be brought up and kicked around through the decades– by the Minerals Policy Commission in 1952, by President Dwight Eisenhower in 1956, and by the Cabinet Task Force on Oil Import Control in 1970– but it wasn’t until the Arab oil embargo of 1973-74 that the concept of a strategic stockpiling of oil really gained traction.

For a detailed history on the embargo itself, I would recommend reading The Prize: The Epic Quest for Oil, Money, and Power by Daniel Yergin (who also wrote The Quest: Energy, Security, and the Remaking of the Modern World). But in short, the embargo was due to the United States’ support for Israel in the 1987 Arab-Israeli War. In response, the Organization of Arab Petroleum Exporting Countries (OAPEC) (not to be confused with OPEC– the Organization of Petroleum Exporting Countries) imposed an oil embargo on the United States, while also decreasing their overall production. U.S. production on its own was not enough to meet the country’s needs, and even in the rare instances when oil originating from the Arab nations made its way to the United States, it came at a price premium three times higher than before the embargo.

While an existing stockpile of oil would not have prevented the United States from paying the market price for oil, the availability of such reserves would be enough to help mitigate the magnitude of the market price jump. Not only that, but having reserves of oil available would buy the government time to continue diplomatic efforts to resolve the dispute before the oil shortage caused more devastating impacts on the national economy. Lastly, having a national reserve of oil would reduce the allure of any oil-exporting nations from using the control of their oil exports as a political tool in the first place, as it would not hold the immediate and impactful sway.

With these goals in mind and to prevent the repetition of the economic impacts felt in the U.S. by the oil embargo, President Gerald Ford signed into law the Energy Policy and Conservation Act (EPCA) in 1975. Among the law’s effects was to declare that the United States would build an oil reserve of up to one billion barrels, owned and operated by the federal government. On July 21, 1977, the first shipment of 412,000 barrels of oil from Saudi Arabia arrived and the SPR was officially open.

Operation of the SPR

Storage

The SPR comprises underground storage facilities at four different locations on the U.S. Gulf of Mexico, with each facility in a hollowed out salt dome. The locations in Texas and Louisiana were chosen because of the existence of the salt domes that have proven to be inexpensive and secure storage options and because the Gulf Coast is the most significant U.S. hub for oil refineries, pipelines, and shipments ports. Additionally, the SPR controls the Northeast Heating Oil Reserve (NEHHOR), which stores up to 2 million barrels of heating oil to ensure the northeast is insulated from emergency interruptions in heating oil during the winter months.

The SPR reserves have a storage capacity of over 713 million barrels, with the active amount of oil stored being enough to cover over 100 days of imports since early 2013.

Drawdowns

As the DOE is an executive agency, the decisions regarding when emergency withdrawals from the SPR are needed are made by the President, as specified in EPCA. According to this authorization, the President is only permitted to direct sales from the SPR if he or she “has found drawdown and sale are required by a severe energy supply interruption or by obligations of the United States under the international energy program” or if an emergency has significantly reduced the worldwide oil supply available and increased the market price of oil in such a way that it would cause “major adverse impact on the national economy.”

In addition to this authorization for full drawdowns, Congress enacted additional authority in 1990 to allow the President to direct a limited drawdowns to resolve internal U.S. disruptions without the need to declare a “severe energy supply interruption” or comply with international energy programs. These limited drawdowns are limited to a maximum of 30 million barrels.  Both full drawdowns and limited drawdowns are limited to the President’s authority.

Other SPR Movements

Outside of these authorities of the President over the SPR, the Energy Secretary also has the authority to direct a test sale of oil from the SPR of up to 5 million barrels. The purpose of these test sales is simply to evaluate the drawdown system of physically removing and transporting the oil from storage, as well as the sales procedure. By law, DOE is required to buy back oil from these test sales within a year.

SPR oil can also be sold through a process known as exchanges, where a company will borrow oil from the SPR to address emergency supply disruptions. The terms of the exchange will include the date by when the company is required to resupply the SPR with the amount of oil it borrowed plus an additional amount of oil as “interest.”

Lastly, Congress can enact laws to authorize additional sales of oil from the SPR. These non-emergency sales are typically to respond to smaller supply disruptions and/or to raise funds for specific reasons, such as the Bipartisan Budget Act authorization to sell a portion of SPR’s oil to pay for modernization of the SPR system and a general fund of the Department of Treasury.

Sales process

Regardless of the authority or reason for it, the oil sold from the SPR is done by competitive sale. The DOE issues a Notice of Sale in the Federal Register, detailing the volume, characteristics, and location of the oil for sale, as well as the procedural information for bidding on that oil. After the official authorization for a sale, it typically takes about two weeks to begin the movement of the oil– which can be moved at up to 4.4 million barrels per day.

Emergency drawdowns in SPR History

Since the embargo of the 1970s, there have been a handful of significant spikes in oil prices and interruptions to the U.S. and world supply caused by international conflict. However, having established U.S. reserves as large as they are has provided a domestic and foreign policy tool during that time.

There have only been three emergency drawdowns in SPR’s history. The first came in 1991, when President George H.W. Bush released 17.3 million barrels of SPR oil for sale to restore stability in world oil markets in response to the Persian Gulf War. In 2005, President George W. Bush called for the second emergency drawdown of SPR supplies, releasing 20.8 million barrels in response to the damage that Hurricane Katrina did to oil production and transportation infrastructure in the Gulf Coast. Most recently President Barack Obama authorized the largest sale by a President yet, releasing 30 million barrels in response to Middle East turbulence and subsequent disruption to the worldwide and U.S. oil supply.

Debate surrounding the SPR

Despite the agreement about the immense negative economic impacts from the oil embargo that prompted the formation of the SPR in the first place, the decisions surrounding the SPR are not without their fair share of critics and controversies.

One notable cause for debate surrounds the meaning of the language in the original authorization, specifically what exactly constitutes a “sever energy supply disruption.” This phrase was initially intended to authorize the SPR to release stocks of oil to resolve discernible, physical shortages of crude oil. However there have been debates about whether to expand that definition– such as the 2011 American Clean Energy and Security Act (which ultimately did not become law) to allow for the SPR to build reserves of additional refined oil products (outside of the already reserved crude oil and heating oil) and use them to mitigate drastic changes in the prices of those products independently of crude oil prices.

Other critics have pointed out that the private stock of inventory in the United States, excluding the SPR, far exceeds the SPR holdings. Some of these people then argue that it would be better to use these private stocks than any government stocks, as the free market would respond in the optimal way to prompt the release of these private stocks. The SPR, on the other hand, is rarely used and is more often positioned as a political tool and thus the role of keeping oil reserved is not one for the federal government, according to these credits.

Another critique of the SPR, according to some, is that the government has demonstrated itself as incapable of using the stocks as they should. These critics point to times where oil prices climbed above $100 per barrel, causing significant economic disruption, without the government responding appropriately by releasing SPR oil to mitigate the price jumps. Instead, according to the argument, the markets (and specifically the oil futures market, which was created well after the inception of the SPR) do a better job.

Even as recently as September 2017, in the aftermath of the devastation in the Gulf Coast by Hurricanes Harvey and Irma, President Donald Trump and his Energy Secretary Rick Perry disagreed on the importance of keeping the SPR. While President Trump’s 2018 budget proposal called for selling off half of the oil in the SPR to pay off part of the federal deficit, Secretary Perry said the hurricanes were an example and reminder of why the United States needs the SPR. Worth noting is that the Trump administration did make the decision to send 500,000 barrels from the SPR to a Louisiana refinery in order to shield the economy from higher gas prices.

Future of the SPR

In August 2016, DOE reported to Congress on the state and the long-term strategy of the SPR. The main conclusions of this report included the following:

  • To ensure the stability of the SPR going forward, the infrastructure of the system needs further investment and upkeep;
  • Adding marine terminals is critical to the future ability of the SPR to add barrels to the market in an emergency;
  • The SPR continues to benefit the economy moving forward, and further reductions in the SPR beyond those already authorized would hinder those abilities;
  • If the SPR were to expand in inventory, new storage capacity would need to be developed;
  • Expansion beyond the current four-site configuration of the SPR would violate operational requirements; and
  • Certain improvements to the management and operations of the SPR could be made with limited amendments to EPCA.

However, the debate surrounding the SPR, the U.S. oil markets, and the worldwide energy landscapes are in a constant state of flux, so knowing what will come next for the SPR requires constant attention.

Keeping up with the SPR

If you’re interested in seeing the level of the reserves or watching the movement of oil into and out of the SPR, that information is publicly available to you. The Energy Information Administration’s website will let you look at the historical monthly/annual numbers for SPR stock. Additionally, the SPR website gives updates on the current inventory, broken out by sweet vs. sour crude.

The sale of oil from the SPR is uncommon enough that it will always be a newsworthy event. To be sure you keep up to date on any sales, you can sign up for email updates from the Office of Fossil Energy.  Subscribe to their email list here, making sure to select that you want information on “Petroleum Reserves.”

Sources and additional reading

History of SPR Releases– Office of Fossil Energy

History of the Strategic Petroleum Reserve

New legislation affects U.S. Strategic Petroleum Reserve– Today in Energy

Long-Term Strategic Review of the U.S. Strategic Petroleum Reserve– Report to Congress

Northeast Home Heating Oil Reserve (NEHHOR)

Statutory Authority for an SPR Drawdown

Strategic Petroleum Reserve- Office of Fossil Energy

Strategic Petroleum Reserve sales expected to start this month– Today in Energy

The Strategic Petroleum Reserve: History, Perspective, and Issues– Congressional Research Service

About the author: Matt Chester is an energy analyst in Washington DC, studied engineering and science & technology policy at the University of Virginia, and operates this blog and website to share news, insights, and advice in the fields of energy policy, energy technology, and more. For more quick hits in addition to posts on this blog, follow him on Twitter @ChesterEnergy.