Biden’s tacit endorsement of fossil fuels

Thank God for the elections! With the 2022 midterm elections looming, President Biden has decided to release more oil from the country’s Strategic Petroleum Reserve to exert downward pressure on gasoline prices. He’s not a model, Biden. He clearly made the link between the price of gasoline – still quite high, around 3.85 dollars a gallon – and the electoral prospects of the incumbent party, which happens to be his.

But another Biden move may be more important. The Energy Department plans to buy oil to replenish the reserve at prices ranging from $67 to $72 a barrel and sign contracts with producers fixing the price two or three years in advance.

Normally, the government purchases oil for the reserve at market prices, timing the purchases so that taxpayers get a good deal out of it. If it sells oil from the reserve when market prices are at $100 a barrel, for example, and replenishes when market prices are at $50, the program is operating at a nominal profit.

Government contracts for future purchases would set a sort of floor price for oil, letting producers know that they would be able to sell oil to a buyer at a known price, even if the market price is lower. The government could end up paying too much compared to the market price, but it could still buy at a lower price than it sold the barrels it replaces. The Biden administration has been selling oil since May, with market prices ranging from $78 to $120. So replacing those barrels at around $70 would still be a good deal for taxpayers.

FREEPORT, TEXAS – OCTOBER 19: In an aerial view, the Strategic Petroleum Reserve storage at the Bryan Mound site is seen October 19, 2022 in Freeport, Texas. US President Joe Biden plans to release fifteen million barrels of oil from the country’s emergency reserves in a bid to continue to drive down gas prices across the country. The deal complements Biden’s initiative in March to release 180 million barrels from the Strategic Petroleum Reserve. (Photo by Brandon Bell/Getty Images)

Why guarantee a fixed price? So far, oil producers have easily increased supply as prices have risen, without the need for any government assistance. Producers cashed in as long as prices remained high, but the extra supply often drove prices down, which was a sort of built-in corrective. But that dynamic has changed. The punishment for oil industry losses in 2020 and the shift to renewable energy has made drillers and their investors much more cautious about adding capacity, especially if it costs a lot of money. No one wants to fund new infrastructure if the payback period is long and demand could dry up before returns hit.

Tighter oil supplies and this new reluctance to increase capacity are largely responsible for the surge in oil and gasoline prices this year. As prices have risen, US drillers have very carefully produced more, with production rebounding from a low in 2020. But the monthly pace of production growth is about 30% slower than it was from 2017 to 2020, when prices were much higher. down. This reflects the industry-wide trend of returning profits to shareholders instead of reinvesting cash flow into infrastructure. Drillers don’t really want to expand anymore, given the pressure on the industry to shrink.

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Biden’s locked-in price is meant to let growers know that there will be at least one big buyer willing to pay a fixed price that should allow them to make a profit, even if market prices are low. “We think this is an important signal for producers,” a senior Biden administration official told reporters Oct. 18. down.”

It’s a pretty drastic move for Biden, considering he came into office promising a green energy revolution and virtually pledging to bankrupt the fossil fuel industry. The Biden White House won’t do it that way, but price guarantees could allow some oil producers to sell to the government at $70 a barrel when the market price could be, say, $50 or $60. This is because the contracts lock in these prices two or three years in advance. So in the future, it might seem like the government is paying too much, like a concession to the fossil fuel industry.

But the goal is to encourage more production by eliminating some of the risk that additional supplies will drive prices down so much that drillers lose money. Energy historian Gregory Brew points out that U.S. oil producers can make a profit at market price ranging from $48 to $69, depending on location. The Biden team appears to have chosen price targets for contract purchases that would allow most U.S. producers to turn a profit. Under the new policy, the government could still buy oil at market prices, and it could offer contract prices below the $67 to $72 range if market conditions warranted it.

If drillers know they will be able to sell at least some of their future product at a profit, they are less likely to worry about overproduction and more likely to increase capacity. Market prices could still be lower than what the government pays, and consumers would benefit from these lower prices, passed on to them through cheaper gasoline and other energy products.

This is a subsidy stolen from the fossil fuel industry, which could send environmentalists into fits of rage. But the turbulent energy markets of 2022 have shown very clearly that most countries, including the United States, lack an effective transition strategy to get to the point, decades from now, where there will be enough renewable energy to meet everyone’s needs. We don’t have enough renewable energy right now, and we will be heavily dependent on fossil fuels for a long time. Private sector energy companies are behaving rationally by reducing capacity and focusing on short-term profitability, given the longer-term threat to oil and gas. Government has a role to play when the private sector fails to meet public needs, which has happened this year.

Biden also threatened to block U.S. companies from exporting oil and gas prices if domestic prices got too high, to encourage them to produce more and drive down U.S. prices. An export block would probably be counterproductive. With foreign markets closed to them, American drillers would likely produce less, which could end up driving up domestic prices even more. It’s a good bet that Biden knows this and is bluffing about stopping exports, allowing him to appear tough on the industry while offering stealth aid. Biden is the bad cop; the energy department is the good cop.

The oil and gas industry is still unlikely to consider Biden a friend. Earlier this year, the American Petroleum Institute describes a variety of things Biden could do to increase production and drive down prices, such as speeding up permits and authorizing more drilling on land and in federally controlled waters. Biden took none of that advice. Instead, it offers less visible incentives that might work behind the scenes. The only thing he wants voters to notice is lower prices at the pump.

Rick Newman is a senior columnist for Yahoo finance. Follow him on Twitter at @rickjnewman

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