BUYING OIL RESERVES

The nation’s Strategic Petroleum Reserve is meant as a hedge against emergencies that cut off oil supplies. The reserve, however, is inadequate to meet several potential scenarios, according to a review of the Government Accountability Office. The GAO reinforces the importance of recently passed federal legislation requiring that the size of the reserve be increased. Both add the important caveat that the additional oil be obtained in a cost-effective way, something that has not happened with past inventory increases.

The Department of Energy would have saved taxpayers nearly $590 million from October 2001 to August 2005 if it had deferred deliveries of oil to the reserve when prices were high, the GAO found. Instead, the department adds a relatively constant amount of oil to the reserve each day regardless of price.

The GAO investigation was requested by Sens. Susan Collins and Carl Levin, a Michigan Democrat. Both also sponsored legislation, which became law as part of last year’s energy bill, requiring that the reserve be expanded to 1 billion barrels – it currently holds 700 million barrels in underground caverns – and that the filling be done in a way to

save consumers and taxpayers money.

The GAO review affirms that the reserve is too small to alleviate the consequences of a major supply disruption. There is enough oil in the reserve to make up for losses from

a major Gulf Coast hurricane and a Venezuelan oil strike. However, if the Strait of Hormuz is closed, something Iran has threatened, there is not enough oil in the reserve to make up for that loss. Even with a release from the U.S. reserve, the GAO predicts oil would increase by $141 a barrel.

The review also supports the push by Sens. Collins and Levin to change the way the energy department acquires oil for the reserve. Deferring deliveries when prices are high in exchange for more oil later makes sense. Because companies deliver oil to the reserve in lieu of cash royalty payments to the government, the companies would rather sell oil on the market when prices are high than deliver it to the government. Another option is for

the department to spend a set amount on oil each month, which has the effect of averaging out prices over time.

Either option is preferable to the current system and the department should adopt a new policy as it increases the amount of oil it acquires to increase the reserve.