Viewpoint: Energy Conservation

How much is too much?

At the depths of the Great Depression, US Geological Survey data proved conclusively that if the United States continued to consume petroleum at even the rather austere 1933 rate, the country would run out of proved reserves in 15 years. In 1944, the United States had only a 14-year supply of proved oil reserves at the 1940-44 rate of use.

The lesson from this is that proved reserves have rarely looked adequate to last more than a decade or two, even without any increase in consumption. But reserves have in fact turned out to increase substantially despite sizable increases in consumption. US proved reserves of petroleum were 7.2 billion barrels in 1920, 19 billion in 1940, and 39 billion in 1970 (at $3.18—not much above the $3.07 1920 price). Even US oil reserves, much less world reserves, have scarcely shown signs of rapid depletion, although each generation has expected that the end was near. In 1958, the world's known crude oil reserves were estimated at 275.7 billion barrels; in 1976, one estimate was 678 billion.

In his first energy message, President Carter nonetheless claimed that if world oil consumption continued to rise by five percent per year, the world would run out of proved reserves by the end of the decade. The trouble with that statement, as we have seen, is that it has almost always been equally true in the past. The United States was sure to run out of oil in 1948, and again in 1962, but it didn't. The entire world would surely have run dry by now, too, if we had drawn down the 1959 proved reserves instead of nearly tripling them.

Long before the world runs out of oil, the presumed growing gap between demand and supply would, of course, drive the price sky high. Such prices would have to stop or reverse the growth in demand, because neither consumers nor nations have unlimited budgets. We will not simply run full speed into a situation of zero supply without any warning or reactions.

But soaring prices would also provide both the means and the incentive to increase reserves. There is some room for rational disagreement over the possibilities for increasing the reserves and production of fossil fuels. Nobody really knows what another generation of technological improvement will accomplish in the way of squeezing more oil and gas out of existing wells, or exploiting oil shale, tar sands, offshore oil and gas, and geopressurized methane gas.

What cannot be disputed is that, in the absence of government price controls, there will always be some price at which demand and supply will be in balance. Since that price would become prohibitively high (relative to alternatives) if we were literally running out of oil and gas, it is virtually certain that oil and gas will become economically obsolete long before they are entirely gone.

Both the United States and the world will, of course, eventually run out of all fossil fuels that can be sold at a price that will justify their development. That is, we will run out in an economic sense, not a physical sense. Some oil, gas and goal will simply be too costly to recover.

It is often said that because we will ultimately run out of fossil fuels, we should conserve some for future generations. Or, it is said that since we will run out anyway (particularly of natural gas), there is no point in letting the price rise to encourage added production, since that would just push doomsday in a little closer. These arguments are extremely weak, and following them would actually promote waste.

If a non-perishable resource like oil is expected to be extremely scarce and valuable in the future, private owners will have an incentive to conserve it unless the revenue from selling oil now could be invested in such a way as to yield more money in, say, 10 years than waiting to sell the oil then. If oil is really more valuable for the future than the goods that can be made by using oil now, then the discounted present value of leaving oil in the ground will exceed the price of selling it today. On the other hand, if it is more lucrative to pump the oil now, and invest the proceeds, then those who have the best incentive to make accurate predictions must expect that oil is more valuable now than it will be later.

The market's natural tendency to promote such rational conservation is thwarted by the absence of secure private property rights in energy resources (many of those resources are owned by governments, or subject to expropriation or divestiture). Moreover, if such conservation by producers did occur, it would probably be called "hoarding" or "withholding," and be promptly investigated. That gives some indication of a degree of insincerity in the prevailing rhetoric about conservation.

Restricting supplies of an exhaustible resource, whether done by the OPEC cartel or by a conservation policy, cannot be of any lasting benefit to private resource owners. The long-run supply is already restricted by nature, so that further restrictions can only raise prices now at the expense of lower prices later. This is why supply restrictions are always imposed by OPEC and US governments, whose myopic concern for short-run political benefits contrasts with private owners' desire to maintain the optimal value of their property.

Consuming energy often means converting it into more valuable forms of wealth, such as construction of a factory or feeding the world's starving children. If conserving energy means the failure to use it to expand wealth and economic capacity, then future generations would inherit more energy resources, but less wealth and a less productive economy. It is not at all obvious that they would make that choice, since oil and gas may become museum curiosities in a few generations.

A related argument for holding the prices of US oil and gas below world prices is that higher prices would not increase domestic energy supplies, and increasing supplies is futile anyway since they will be gone some day. One unimpressive piece of evidence that is frequently cited (e.g. by James O'Leary) is that natural gas prices rose sharply last year, but supplies still declined. The obvious error here is that it takes years to explore and develop natural gas, and to hook up the necessary pipelines. Such long-term expansion cannot be accomplished in a year, and not much will ever be accomplished if price changes are subject to whimsical political and administrative manipulations. The increased risk, due to the ups and downs of energy price controls, means that profits will have to be higher than otherwise in order to justify any given amount of investment.

Moreover, the case for price decontrol does not rest on the merit of faster pumping from existing known reserves, but also on development of new reserves and, most importantly, on the efficient use of whatever supplies are available. Vast areas of the United States remain virtually unexplored—the Appalachians, the Rocky Mountains, the Great Lakes, and most of the offshore area. And an unhindered price would convey the correct information about scarcity relative to demand. The price system, if allowed to function, would effectively allocate energy supplies to the uses consumers value most highly—whether that is production of gasoline, diesel fuel, or plastic bags. New England, for example, whose homes and factories are heavily dependent on costly imported oil, would be able to bid natural gas away from less-productive uses in other areas of the country. The only alternative to such rationing by price is to substitute arbitrary administrative decisions about who shall get favored access to cheap energy for what purposes.

It is true that the uncontrolled price of fuel reflects the supply restrictions of the OPEC cartel, but it is not true that the resulting price is not a market price—that is, a price that brings supply and demand into balance. It makes no sense for the United States to pay a higher price for imported oil and gas than it is willing to pay for domestic supplies. It makes no sense to misuse domestic energy supplies at artificially low prices when it will obviously cost much more to replace those supplies from either domestic or foreign sources.

Our problem with OPEC is that the cartel has made energy scarce and costly, requiring us to give up more goods and services in exchange for each barrel of oil. We will not solve that problem by simply making energy even more scarce and costly, which is like imposing an embargo on ourselves. Instead, the nation must move toward developing all energy sources which can be produced as cheaply as imported energy, while also promoting efficient use of energy supplies. The price system is capable of fulfilling these objectives; discriminatory taxes and allocations are not.