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Using the Strategic Petroleum Reserve: In for an Inch, In for a Mile

by Michael Levi
March 15, 2012

Oil prices are on the rise, and with them so are rumors of a possible release from the Strategic Petroleum Reserve. I’m ambivalent about the wisdom of a release later this year, on both economic and political grounds. In this post, though, I want to drill down on a separate point: the United States should only release oil from the SPR if it’s fully committed to further releases as the year goes on.

An SPR release would probably do two things. By adding oil to the market, it would lower prices from where they otherwise would be. That would hurt anyone who had been betting on higher prices, either through financial markets or by stockpiling oil themselves. As a result, a release would also deter private stockpiling and financial speculation on high prices.

That’s all well and good if you believe that private hoarding and financial speculation are bad things. But they’re only bad if they’re based on irrational beliefs. If, subsequent to an SPR use, sanctions on Iran or even military conflict took additional oil off the market, the economy would be more exposed that it would have been without a prior SPR release. Private stockpiles would be less adequate to buffer the resulting shock. Oil prices, previously depressed by the release, would jump by more than they otherwise would have, creating greater pain for consumers. The government would thus need to step in once again with a further SPR release to counteract these dynamics.

This is fundamentally different from the situation that surrounded the SPR release last year. Then, the government was responding to previous disruption in Libya; it had good reason to think that a bigger shock wasn’t on the way. But this year is different. Speculators are responding to the prospect of escalating conflict with Iran, and it’s not clear that they’re wrong to do that.

There’s one caveat to all this: an SPR release could backfire. One good reason to release oil from the SPR is to help prime the market for an attack on Iran. If market participants concluded from an SPR release that the U.S. government had decided that an imminent attack was far more likely than they’d previously believed, they might react by bidding up prices and driving oil into stockpiles. That would be the opposite pattern from the one I’ve just described. Of course, if the U.S. government expected such an outcome, it would probably be unwise to release oil in the first place.

In any case, the bottom line is straightforward. An SPR release would send a simple message to private players: the government is going to handle rising oil prices; you can step back. Once government decides to make handling price volatility a public, rather than private, job, it needs to be fully committed to sticking with that program, wherever that leads.

Post a Comment 4 Comments

  • Posted by Anne

    I learn a great deal from your blog post. Oil prices are not one of the subjects on which I’m most knowledgeable, so bear with me please. I’m curious why, if the US is exporting refined petroleum products, as noted in your colleagues post here (https://blogs.cfr.org/levi/2012/02/15/u-s-fuel-exports-barrels-away-2/), why would the government choose to release from the SPR? I understand, roughly, the concept that it takes time for petroleum product production and distribution to be altered– not easily achieved in the short run. But might we be better off taking a longer view, especially if the government perceives an imminent conflict with Iran, which, presumably would be no short term endeavor?

    I’d like to understand this more thoroughly…

  • Posted by Mark Sommer

    I am hoping that conflict is not imminent. Give the sanctions time to work, keep the pressure on Russia and China to prod Iran to cooperate with inspectors, and maintain a strong Naval presence in the Persian Gulf. I may be an eternal optimist but think these strategies have a shot at success. Diplomacy should be given 100% effort.

  • Posted by David B. Benson

    I’m against a release.

  • Posted by Steve Thompson

    Tapping oil from the SPR will make no difference over the long term. Here is an article that discusses the issues that will appear in the world’s economy as oil scarcity looms:

    http://viableopposition.blogspot.com/2011/05/oil-scarcity-and-its-impact-on-global.html

    If the growth in the production rate of oil production drops by a persistent 1 percent annually, over a 20 year period, the price of oil is projected to rise by 200 percent.

    Welcome to our new reality.

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