By Robert Bradley Jr.
Ed. Note: This week marks the 55th anniversary of President Richard Nixon’s 90-day wage and price order of August 15, 1971. With extensions, maximum prices caused oil shortages beginning in 1972. More shortages with the Arab Embargo of October 1973 ensured passage of the Emergency Petroleum Allocation Act of 1973, which continued federal price and allocation controls until President Reagan’s decontrol order in early 1981. This post adds to the historical record of one of the greatest peacetime energy policy failures in U.S. history.
A while back, Alex Tabarrok with Tyler Cowen recorded “Oil Shocks, Price Controls and War” at the Marginal Revolution website. They advertised it:
Our second podcast on the 1970s titled Oil Shocks, Price Controls and War is now available! Here’s one bit:
Tabarrok: …Sheikh Ahmed Yamani, in a famous statement, he was the oil minister for the Kingdom of Saudi Arabia, he’s a leader of OPEC, he says on October 16th, this is 10 days after the war begins, “This is a moment for which I have been waiting for a long time. The moment has come. We are masters of our own commodity.” They raise the price of oil. Oil production falls by about 9 percent to 10 percent. That doesn’t seem on the surface to be a huge amount, but it reveals something which people had not been prepared for, and that was the inelasticity of oil demand.
I would put it this way. I think this is the key idea here. Almost accidentally, the exporting countries had discovered that the demand for oil was more inelastic than anyone had ever realized. The main lesson they drew before 1973, the oil exporting countries thought that the only way to increase revenues was to produce more. After 1973, they learned that an even better way to increase revenues was to produce less.
Here’s another:
COWEN: Since the 1980s, economists, for a number of reasons, have underrated real shocks as a source of business cycles and downturns. You have the Keynesians who didn’t want to talk about it, and then you had the Monetarists, Milton Friedman, who wanted to promote their own recipe, and people just stopped talking about it. Even 2008, which clearly had a lot to do with a major negative shock to aggregate demand, but the price of oil is quite high at the time when that’s breaking, and it was a major factor behind the downturn.
TABARROK: Absolutely.
COWEN: No one wants to talk about that.
After listening to the Podcast, I wrote the authors about some points that added to their analysis, touching on electricity.
I just listened to your Podcast with Alex on energy in the 1970s. A nice walk down memory lane and yes, it was great to be interested in public policy in that decade. Did it for me being in the gasoline lines and in class watching the Phillips Curve being refuted outside the window…. 1974 …
Just a few ‘adder’ thoughts, and if you have remaining or new questions, try me.
- Natural gas shortages (interstate, federal controls) were on a different political track in the 1970s, but peak-demand shortages were severe (heating demand in the extra-cold winters of 1971/72 and 1976/77, the overhyped global cooling era). Warmer weather quickly turned the market into surplus, and relaxed pricing took over, creating the ‘take or pay’ problem that bankrupted/hurt some major interstate pipelines. A whole other political economy story but illustrative…. Gas shortages subsidized coal tremendously in the 1970s, an unintended consequence. Hurt the fuel-oil situation also.
- Yes (!), shortages predated the war/Arab Embargo. Even spot gasoline lines in 1972. What became the major regulatory law, the EPAA of 1973, was well along to passage before as well. Independent service station dealers were getting cut-off by their major-company suppliers, so complicated allocation-side programs were introduced for ‘fairness’.
- One major missing piece that will fascinate Alex and jog your memory perhaps…. We were in the gasoline lines for several months in each of two years (1974 and 1979), but not in lines otherwise during the price control period where wellhead price ceilings were intended to get lower (pre-OPEC) prices to the pump. No shortage because of market-clearing prices. Yes, some of it was blending unregulated prices for oil imports (which were driven artificially high from domestic price controls), but a couple of hundred nouveau oil resellers entered to buy price-controlled oil and resell it toward the market price. The most bizarre regulatory story in US history by my counting, and the reason I got into energy (I worked at a bank where the resellers were concentrated getting letters of credit without physical collateral …). Joe Kalt missed the resellers, but his one mmb/d estimate of lost production from domestic controls might be a good number.
- The knowledge problem. The regulatory agencies had huge staffs trying to allocate supply given the price controls. William Simon was a hyper-regulator during it all and blew his top many times (not in his A Time for Truth book).
- The interventionist thesis of expanding government applies to oil in the 1970s rather remarkably (illustration below). Unbridled politics driving the process, not economic logic.
- Without Nixon’s price controls, a price surge in early 1974 and again in the summer 1979 would have been quickly experienced and reversed. What happened in the 1980s with the price collapse would have been at work a decade earlier. The government-created price spiral (OPEC too) caused a sectoral business cycle that wasted untold resources in the oil (and gas) industry that also reached the automative and support industries (oil field service and supplies). I wonder if micro business cycles like this are more important to study and understand than macro cycles.
- The whole conservation movement that defines a lot of government intervention with energy today came out of the 1970s shortages. Huge new area for environmental groups. One reason why price controls are off the table for energy is the wrong signal for conservation in the eyes of environmentalists (although wink, wink, the oil industry could benefit from it—and not benefit under drill, baby, drill).
- Alex mentioned the finite nature of oil. Is this an operational concept in a business/economic sense. My ‘Austrian’ theory of ‘resourceship’ grapples with the paradox of increasing ‘depleting’ resources. (Trick question: Does America have more oil now or back in 1776 when the nation was founded?) And just imagine if the subsoil was privatized around the world for incentives to develop…. I believe now, as decades ago, that the oil era is still young.
- Your quick discussion about oil pricing and government could be qualified as perfect knowledge about the problem/solution vs. reality. Market failure vs. government failure is a major theme. I do not see the case for imposing a price premium on oil outside of standard regulation on the criteria air emissions.
- Nuclear. A wholly government created industry, a subject I need to write a primer on. Implementation failures (very predictable) blew up the public utility model leading to mandatory open access for electrics (average costs vs. the very low marginal cost from new gas-fired combined cycle). Oil for power generation was big through the 1980s but is gone today.
The oil futures market should never have been allowed to be started, and should now be ended. It should be take delivery when purchased. Either by direct possession and transfer to tankage owned or rented/leased by the purchaser, or buying oil already in tankage and paying storage fees.
Tank rent/lease and storage fees would push oil owners to get it moved and refined into fuels and other fractions as quickly as possible.
All the futures markets for food crops need to go away too. These markets are used by people who have zero actual participation in the resource extraction, processing, and use, or the crop growing and use – as a method of making huge amounts of money. They don’t care if their market manipulation bankrupts farmers or makes bread and gasoline prices skyrocket.
To Gregg and Rud: you’ll never be able to impeed speculation, but you can significantly dampen it by getting rid of fiat currency and return to sound money…aka gold and silver….much to the dislike of governments and bankers but we should give a hoot on what they want.
The thing that I hated most from the “energy crisis” of the 1970’s was when Nixon mandated 55 mph maximum speed on highways. It took decades to change that idiotic rule.
Oil is only finite because political impediments make it that way. The carbon cycle is still operating and oil and gas are still being created. What is debatable is if the rate of formation matches our rate of consumption. As a geologist with many decades experience exploring for oil I tend to believe we have much more than we realize. As for known resource, in 2000 Chevron had a web page proclaiming there were 3 Trillion barrels of resource, and we had used 1 Trillion since the 1800’s. Funny thing, those resource estimates for the world now push toward 12 Trillion barrels, thanks to better technology and better science, also known as the shale revolution. You don’t hear much about Peak Oil anymore but a little more than a decade ago it was the hot topic (and we saw $147 oil, coincidentally money was flowing from real estate to the futures markets for commodities and the number of WTI futures contracts doubled). But to your point, if the world outside of the United States and a few other smaller places allowed private ownership of mineral rights, the world’s oil and natural gas supplies would inundate the market, and drive prices of all energy toward the floor. Finding oil is not that difficult, but getting permission to extract it is the challenge. I basically follow the Julian Simon philosophy, that resources are only limited (or unlimited) by human ingenuity, not by physical shortages.
I remember it well. I had a job in the field with IBM and needed my car to get to the customers. If you could prove the need you got a pass. I never needed the pass and could get by on every other day. Those that lived far from work, common in CA, were in trouble. The worst part about the odd/even day gas was the lines. You learned to time and which stations to use.
The French government’s decision in the mid-1970’s to go with nuclear power for the nation’s supply of electricity was driven by the oil shocks of that period.
It was a decision made for purposes of maintaining French national security and economic sovereignty, not because nuclear would be the cheapest means of generating electricity.
Fifty years later, what are people’s opinions as to whether or not the public policy decision made by the French government of the 1970’s to go with nuclear was the right decision?
My wife and I went to Yellowstone Park during the 70s oil crisis. It was great, only a few Americans and Japanese, you could go anywhere you wanted anytime no problem.