Economists often underestimate the impact of oil on the U.S. economy. Yet rising oil prices, up 40% in the past year and doubled since 2002, are undermining consumer spending and CEO confidence. The effect is significant enough for the Federal Reserve to attribute the slowing of U.S. growth and surprising weakness in the job market to higher energy prices: "This softness likely owes importantly to the substantial rise in energy prices," it said recently. What the Fed didn't say is that the tight supply-and-demand conditions sending oil prices skyrocketing toward $50 a barrel may not be as fleeting as economists, policymakers, and oil-company executives would have us believe.
BusinessWeek has long advocated sensible steps to cut oil consumption and raise production of alternative energy sources (BW -- Feb. 24, 2003). But gridlock in Washington and opposition in Detroit have blocked such obvious actions as raising 25-year-old CAFE mileage standards or ending the fiction that sport-utility vehicles are trucks, not cars, and thus exempt from higher automobile-mileage standards. Upping existing gasoline taxes, a policy favored by many experts, isn't open to discussion.
Rising global demand will probably keep markets tight for years. China's oil imports are up sevenfold since 1998. Japan is growing robustly again. And the U.S. continues to increase its record energy consumption due to strong growth and its affection for gas-guzzling SUVs. Supply, meanwhile, remains constricted. OPEC and Big Oil are not investing enough in exploration despite the runup in prices. Politics is making production in Russia, Nigeria, Venezuela, and Iraq uncertain. And hedge funds are playing in the oil markets, exacerbating price swings. All in all, the current risk premium built into oil prices -- $10 to $15 a barrel -- may remain for a long time.
What to do? Here are four proposals that can lower U.S. energy consumption and dependence on overseas oil. The plans can be financed by reducing federal subsidies for energy giants that are awash in profits but prefer to buy back stock rather than risk building new refineries or exploring for oil.
SUVs, light trucks, and cars consume nearly half of all oil in the U.S. Increasing gas mileage is the fastest way to reduce energy use, and hybrids are the best means to do that. Offering consumers tax credits of $3,000 per vehicle for two million cars, SUVs, and trucks would cost $6 billion and could be spread over five years. The tax credits would offset the higher cost of hybrids, accelerate demand, and speed the transition to a higher-mileage fleet. This step makes sense.
So does boosting investment in alternative fuels. Wind generation is competitive in many regions of the country: General Electric Co. (GE ) has made it a $1 billion business. Solar-energy technology is making incremental strides. New nuclear-reactor designs are cheaper and safer. And hydrogen has great potential for cars and for generating electricity. Both nuclear and hydrogen have big obstacles to overcome. A safe way to dispose of nuclear waste must be found. And an effi-cient means of producing hydrogen has yet to be developed. Still, a combination of alternative fuels has the potential to reduce America's oil habit over the long run.
Raising the energy efficiency of appliances, office buildings, and homes could cut energy use as well. Europe has far higher standards than the U.S. Companies such as Gap Inc. and Toyota Motor Corp. are saving big money by constructing "green" headquarters with more efficient cooling and heating systems, solar roofs, and mechanisms to shut off lights and dim computers when people aren't in their offices. Washington can help by raising standards for air conditioners, refrigerators, and other appliances.
Washington should also revisit its antitrust policy. The wave of energy-company mergers in the '90s may have made sense when oil was at $10 a barrel and there was excess capacity. But at $40 to $50 per barrel and with markets tight as a drum, the mergers in retrospect are questionable. Refinery capacity, now in short supply, was cut in the consolidation, and the competitive drive to open expensive new oil fields may have been curbed. Big Oil now acts more like a risk-averse bank than a wildcatter, following Wall Street dictates on cash flow instead of Texas traditions of risk-taking. Is America well served by the antitrust policies of the '90s? If not, is it too late to undo the damage?
None of this is going to make a huge difference overnight, but clearly this is the time to start. The U.S. has to stop binging on energy, especially imported oil. It is bad economic policy. It is bad geopolitical policy. It is bad environmental policy. America needs a new energy direction.