From 1859, when Colonel Drake discovered oil in Pennsylvania, through 1973, the U.S. was the dominant player in the global energy business. For much of that time, America was both the dominant producer and dominant consumer of oil and gas on the planet.
That dominance extended into technology, finance, transportation, and refining. When it came to developing oil reserves and getting those reserves into the marketplace, the U.S. had no serious rivals. American drill bits, like those made by Hughes Tool Co., bored the holes. American companies, like Gulf Oil, or Standard Oil of New Jersey, did the seismic work, managed the production, built the pipelines, and did the refining. The drilling work was done by companies like Sedco. The drilling technology was developed by outfits like Halliburton. The bridges, or dams, or cities needed to support the cities that were created by the new oil wealth were built by Halliburton's subsidiary Brown & Root, or by American engineering giants like Bechtel. Texas-based law firms like Baker Botts or Vinson & Elkins handled much of the legal work. And all the while, the prolific oil fields in Texas, Oklahoma, and other states allowed the U.S. to effectively set the global price of crude.
Those days are gone.
A half century ago, American-based energy companies pumped about 45 percent of all the oil produced overseas. Today, that percentage is about 10 percent. Out of the top 20 oil-producing companies on the planet, 14 are national oil companies like Saudi Aramco or the National Iranian Oil Company. Furthermore, the national oil companies now control about 77 percent of the world's proven oil reserves. The international oil companies control less than 10 percent.
American energy companies are still big players in the global market, but they are no longer the dominant players. Instead of dictating terms, American energy companies and other international energy companies must now court the national oil companies who sit atop the vast majority of the world's remaining oil and gas deposits. That means that state-controlled outfits like Saudi Aramco, Russia's Gazprom and Venezuela's Petrleos de Venezuela (PDVSA), are, in many cases, able to dictate the rules by which the major oil companies must play.
At the same time that the big oil companies are losing their negotiating strength, rising demand from China, India, and other developing countries is allowing the national oil companies to change their focus. Instead of looking first to export their products to Western consumers, they are looking east.
Long before the rise of OPEC, and years before Saudi Arabia became the key player in the global oil business, the world's most important oil cartel was based in downtown Austin, Texas.
Between the 1930s and the early 1970s, the three members of the Texas Railroad Commission were the most important people in the global oil business. They met once per month to set "allowables" -- the volume of oil that each operator in the state was allowed to produce from his wells that month. The allowables were set to meet current oil demand and not a barrel more. The Texas cartel operated in a straightforward manner. The three commissioners looked at oil inventories. If they were rising, they cut production. If inventories were falling, they allowed production to rise. And because the Railroad Commission controlled the flow of oil from the world's most prolific fields -- the ones in Texas -- the system worked. No other entity was able to control the supply of oil with the discipline and effectiveness of the commission. And by controlling the prices in the burgeoning American market, the Texas cartel effectively determined world prices, too.
By the late 1940s and 1950s, increasing amounts of oil were being discovered in Texas, Venezuela, the Persian Gulf and elsewhere. And those discoveries led to an enormous oversupply of oil production capacity. So the Railroad Commission simply cut the allowable for Texas producers, thereby balancing supply with demand. Even in a potentially glutted market, prices didn't fall. In fact, they rose, giving every producer even bigger profits. As one economist explained it, the system allowed the big American oil companies to "fix their own prices and make them stick." Another study, done in 1949 by the U.S. Senate's Small Business Committee, said the Railroad Commission's system formed "a perfect pattern of monopolistic control over oil production and the distribution thereof and ultimately the price paid by the public."
The Railroad Commission may have been a cartel and it may have had monopolistic control, but it also brought stability to a chaotic market. Without the cartel, oil producers were constantly being whipsawed by prices, going back and forth between boom and bust, between underproduction and overproduction, as prices rose and fell in chaotic patterns. In the absence of the cartel, producers rushed to get as much oil out of the ground as they could in order to profit before the market became even more saturated with oil.
Neighbors with wells tapping into the same field would overproduce oil from their well to assure that "their" oil wasn't pumped out by adjacent landowners. The chaos in the American oil business reached its acme in the early 1930s, shortly after prospectors discovered the giant East Texas oilfield. After several years of legal wrangling at the state and federal level, the Railroad Commission was empowered to impose production limits and "unitize" fields thereby apportioning the underground oil rights to the owners of the land above.
But Texas' dominance of the industry went far beyond legal issues and oil prices. That oil was a strategic weapon during times of war and crisis. Texas oil provided a critical advantage in World War II. The Big Inch and Little Big Inch pipelines, both of which were built in record time during the war, provided huge quantities of fuel to the East Coast and became key elements of the American war effort. (That said, it's worth noting that America's domestic oil production couldn't keep pace with demand during the war. In both 1944 and 1945, at the height of World War II, the U.S. was a net crude importer. The war years are notable for another fact: the last time the U.S. was a net crude exporter was 1943.)
But America's dominance of the global oil business couldn't last forever. And the end of its dominance can be traced to a specific date: March 16, 1972. At the meeting on that day, the three members of the Texas Railroad Commission met and declared "a 100 percent allowable for next month." In other words, the state's oil producers could run their wells at full capacity. Without explicitly saying so, the commissioners had admitted that Texas' oil wells had reached the limits of their productive capacity. The U.S. oil business, which, for four decades, had near-total dominance of the world market, no longer had the ability to supply extra oil to the market, and therefore drive prices down. Without that ability to produce more oil than the market needed, the Railroad Commission's power as a cartel was lost.
Although few people recognized it at the time, the commissioners' move was an inevitable result of the peak in America's overall oil production. In 1970, two years before the Railroad Commission's announcement, U.S. oil production hit its all-time high of 9.6 million barrels of oil per day. And ever since 1970, America's oil production has been in a gradual decline (In 2005, U.S. oil production averaged just 5.1 million barrels per day, its lowest level since 1949.)
The stability and price protection that the U.S. got from the Railroad Commission was only part of America's ability to control the world's oil supply. American oil companies were also protected from OPEC by federal laws, which limited the amount of oil that could be imported into the U.S. In 1959, Congress mandated that no more than 20 percent of America's oil supply could come from foreign producers.
America's independence from foreign oil producers meant that a new organization, the Organization of the Petroleum Exporting Countries -- which was founded in the early 1960s by Saudi Arabia, Iran, Iraq, Kuwait, and Venezuela -- could not control the world's price of oil. Nor could the OPEC members -- who generally had lower production costs than American producers -- gain much market share in the U.S.
One of the biggest backers of the quota on imported oil during the 1960s and 1970s, was a Republican Congressman from Texas named George H.W. Bush. And the language he used to justify the import quotas was remarkably similar to the rhetoric being used by today's advocates for energy independence. For instance, in early 1970, Bush spoke to an oil industry group in Beaumont, Texas, telling them that he was introducing legislation that would protect them from foreign oil. Bush's legislation was designed to further reduce the amount of foreign oil that could be imported into the U.S. to 12 percent of total demand -- a decrease from the 20 percent limit that was being enforced at the time. Bush told the group that imposing the quota would stimulate oil and gas drilling in Texas and make the U.S. less dependent on foreign oil. "This is particularly true now," he told them, "when instability in the Middle East severely threatens sources of our petroleum imports from that region of the world."
But neither the protectionist strategies advocated by Bush nor the Railroad Commission's pricing power would last. America's increasing oil consumption and declining oil production assured that. In April 1973, the import quota on foreign oil ended. And just six months after that, America was hit by the biggest energy crisis in its history, the Arab Oil Embargo.
Nearly all of the discussions about energy independence and global warming include prominent mentions of the need for better energy efficiency. The argument is simple: if only we used energy more efficiently, then consumption will fall and everything will be better. There's no doubt that efficiency is a marvelous thing. It allows consumers to get more work out of the same pound of coal, or gallon of gasoline, or windmill blade, or photovoltaic cell. And the more efficient a given process becomes, the more profitably it can be used. A car that gets 30 miles per gallon can effectively deliver much of the same value as one that gets 15 miles per gallon -- and do so at half of the fuel cost. A compact fluorescent light bulb that consumes 18 watts of electricity and yet delivers the same amount of light as an incandescent bulb using 60 watts makes a great deal of economic sense.
But efficiency alone won't deliver energy salvation. Proof of that can be had by looking at other technological innovations. In the early days of the personal computer, there were claims that the computer would result in the advent of the paperless office. That didn't happen. Instead, whole new industries, like desktop publishing, were born, resulting in ever greater amounts of paper consumption. Likewise, predictions that greater efficiency would result in lower energy consumption have proven utterly and completely wrong.
For decades, energy maven Amory Lovins has been claiming that greater efficiency would lower energy demand. For instance, in 1984, Lovins told Business Week magazine that, "we see electricity demand ratcheting downward over the medium and long term. The long-term prospects for selling more electricity are dismal .... We will never get, we suspect, to a high enough price to justify building centralized thermal power plants again. That era is over."
Except that it isn't.
America's electricity production has jumped by about 66 percent since Lovins made his declaration, rising from 2,400 billion kilowatt-hours in 1984 to just over 4,000 billion kilowatt-hours in 2005. And to meet that demand, utilities have built dozens of centralized thermal power plants. In fact, Lovins has repeatedly been proven wrong when it comes to energy trends. In 1976, he predicted that renewable energy would be supplying 30 percent of the total energy demand in America by 2000. The reality was closer to 1 to 2 percent. And yet, "inexplicably" notes Vaclav Smil, of the University of Manitoba, "Lovins retains his guru aura no matter how wrong he is."
Just as Lovins wrongly predicted that efficiency would quell electricity demand, there is a widespread belief that federal mandates for higher-mileage cars will result in less fuel consumption. In September 2005 after Hurricane Katrina caused fuel supply problems in the southern U.S., the New York Times published an editorial which concluded that the U.S. cannot drill its "way out of oil dependency and high prices. The only sure relief will come through improved fuel efficiency."
The Times' editorial board may be convinced, but there's precious little evidence to prove that fact. History shows that as the U.S. economy has grown more energy efficient, energy consumption has continued climbing. In 1980, the U.S. was using about 15,000 Btus per dollar of GDP. By 2004, the energy intensity of the U.S. economy had improved dramatically so that just over 9,000 Btus were required for each dollar of GDP. The EIA expects those efficiency gains to continue. By 2030, the EIA projects that energy intensity will fall from about 9,000 Btus per dollar of GDP to about 5,800 Btus per dollar of GDP. But even with that dramatic increase in efficiency, overall energy consumption in the U.S. will rise by more than 30 percent, going from 100.1 quadrillion Btus in 2005 to 131.1 quadrillion Btus in 2030. (A quadrillion Btus is equal to about 172 million barrels of crude oil.)
What's true for the broad economy is also true for automobiles. Toyota Priuses and other hybrid cars are cool. But they are, as one Houston-based oil industry analyst put it, a "Band-aid on an amputee." Even dramatic increases in America's automobile fuel efficiency will likely only slow the rate of growth in the amount of oil we are importing from abroad. In late 2004, a group of Washington power brokers and insiders calling themselves the National Commission on Energy Policy, looked at the Corporate Average Fuel Economy (CAFE) standard, the federal mandate that requires the automakers to meet certain efficiency targets. The group determined that even if Congress mandated that the domestic auto fleet increase its average fuel economy to 44 miles per gallon -- a major increase over the 27.5 miles-per-gallon standard in effect in 2007 -- America's motor fuel consumption will still increase by 3.7 million barrels per day by 2025.
Indeed, America's motor fuel consumption continues ever upward. For instance, in February 1983, the U.S. was using about 259 million gallons of gasoline per day. By February 2007, that figure had jumped by 44 percent to nearly 373 million gallons per day.
There are a number of reasons why American motorists are using more fuel.
First and foremost among them: Americans have a lot of machines that burn motor fuel. In 2005, (the last year for which statistics are available) the U.S. had 247.4 million registered motor vehicles. That's more than double the number of vehicles that were on American roads in 1970. In addition to the huge number of vehicles, Americans owned over 224,000 general aviation aircraft and 12.9 million recreational boats. And of course, those numbers don't count the proliferation of other machines that use motor fuel, i.e., snow blowers, generators, tractors, lawnmowers, and chainsaws, to name but a few.
Second, Americans are keeping their vehicles longer, which means that older, less efficient cars will be staying on the road for substantially longer periods. In 2005, the average motor vehicle in the United States was nine years old. That's a big jump when compared to 1990, when the average vehicle was just 6.5 years old. People are keeping their cars longer for a simple reason: today's cars are much higher quality than they were two decades ago.
Third, given America's huge motor fleet and its age, replacing it with a more fuel efficient fleet will take decades. This long lag time between the scrapping of older cars in favor of newer more efficient ones is often overlooked. It simply doesn't make sense for most consumers to get rid of their current vehicle -- even if their fuel bills are relatively high -- to replace it with a more efficient one.
While consumers pay homage to the Toyota Prius and other super-efficient hybrid cars, they are still buying SUVs and pickups that use lots of fuel. In 2005, the number of hybrid vehicles sold in America doubled to about 200,000. That same year, hybrids were outsold by SUVs by a ratio of 23 to 1. In 2006, hybrid sales continued their upward trend, with sales increasing by 28 percent over the year-earlier numbers. But even with that increase, hybrids still only accounted for about 1.5 percent of all the cars sold in America. Those sale numbers show that American drivers love the concept of energy independence and hate the fact that the U.S. buys foreign oil. But when it comes time to strap on their seat belts, they aren't as interested in efficiency as they are in the comfort, convenience and power offered by larger vehicles.
The limits of energy efficiency were made clear by Peter Huber and Mark Mills in their provocative 2005 book on the energy business, The Bottomless Well. The two concluded that "efficiency doesn't lower demand, it raises it." They explain that the pursuit of energy efficiency has been the "one completely consistent and bipartisan cornerstone of national energy policy since the 1970s." And yet, even though overall energy efficiency has increased dramatically since that time, "demand has risen apace." This passage explains why energy demand will almost surely continue rising:
Efficiency may curtail demand in the short term, for the specific task at hand. But its long-term impact is just the opposite. When steam-powered plants, jet turbines, car engines, light bulbs, electric motors, air conditioners, and computers were much less efficient than today, they also consumed much less energy. The more efficient they grew, the more of them we built, and the more we used them -- and the more energy they consumed overall. Per unit of energy used, the United States produces more than twice as much GDP today as it did in 1950 -- and total energy consumption in the United States has also risen three-fold.Efficiency fails to curb demand because it lets more people do more, and do it faster -- and more/more/faster invariably swamps all the efficiency gains.
Huber and Mills were not the first to conclude that efficiency does not reduce consumption. In 1865, a noted British economist, William Stanley Jevons, published a book that would become his most famous work, The Coal Question. Jevons' book was the beginning of what is now known as the field of energy economics. After studying coal consumption patterns in Britain and assuming (wrongly) that his country's coal deposits would soon be exhausted, Jevons concluded that "It is wholly a confusion of ideas to suppose that the economical use of fuels is equivalent to a diminished consumption. The very contrary is the truth." This observation has since come to be known as the Jevons Paradox.
In 2003, Vaclav Smil published a magnificent book, Energy at the Crossroads, which provides readers with a comprehensive understanding of the history of energy consumption, the problems with forecasting energy use, and the challenges facing any transition away from fossil fuels. When it comes to energy efficiency, Smil -- like Huber, Mills, and Jevons -- concludes that history is "replete with examples demonstrating that substantial gains in conversion (or material use) efficiencies stimulated increases of fuel and electricity (or additional material) use that were far higher than the savings brought by these innovations."
None of this is offered to imply that efficiency is bad. Efficiency is wonderful. It is an essential part of America's ever-evolving economy. It makes sense to wring more work out of each unit of energy. Energy efficiency conserves capital. It is good for the environment. It is good for rich and poor alike. Efficiency helps reduce the impact of energy price volatility and possible oil price shocks on consumers. In 2002, two economists at the Congressional Research Service, Marc Labonte and Gail Makinen, wrote a report on this issue which concluded that efficiency "has reduced, and can continue to reduce, the effect of these shocks on the overall economy."
While efficiency is laudable, efficiency alone cannot -- will not -- mean that America uses less energy. Nor will it make the U.S. energy independent.
From the book "Gusher of Lies" by Robert Bryce. Reprinted by arrangement with PublicAffairs, a member of the Perseus Books Group. Copyright 2008.