Feeding the Oil Monster with a Dixie Cup

Tapping the Strategic Petroleum Reserve is a welcome move, but energy players and consumers still fear a supply squeeze and price hikes

Hurricane Katrina did what months of political heat couldn't: It breached the Bush Administration's stone wall against responding to soaring gasoline prices.

On Aug. 31, with 91% of the Gulf region's oil production shut down and nine major refineries knocked out by floods and power failures, the Energy Dept. announced it would let refiners draw crude from the Strategic Petroleum Reserve, while the Environmental Protection Agency temporarily eased clean-air rules for fuel. Critics had been urging similar steps ever since pump prices passed $2 a gallon.


  Now gas stations are putting the never-before-seen 3s up on their signs -- and the White House moves won't bring them down anytime soon. At best, the few million barrels of crude likely to flow from the SPR will replace missing supplies to keep a few refineries going. Of course, that's better than nothing. "For those refineries that are operating, it's the difference between running and shutting down," says Red Cavaney, president of the American Petroleum Institute.

But the real problem is the refineries that aren't operating. As of Aug. 31 up to 1.8 million barrels a day of refining capacity were offline, taking as much as 45 million gallons of gasoline a day out of a national fuel system that was pumping as hard as it could before Katrina. Until those refineries are running again, all the extra crude in the world can't be turned into gas.

Tapping the SPR "is good policy, but it doesn't fix the fact that we have very low gasoline inventories -- and they're likely to get much lower because we're not producing," says David Pursell, a partner in Houston research firm Pickering Energy Partners.


  Any further disruptions could spike prices higher. Even a small increase in fuel hoarding by price-shocked consumers could make things much worse, should scattered reports of gas lines create a panic. Political leaders face a dilemma: Encouraging drivers not to top off their tanks could raise fears of shortfalls -- and spur more buying.

The SPR -- some 700 million barrels of crude stored in four salt caverns in Texas and Louisiana -- was a political football long before gasoline prices started their unrelenting climb. After September 11, President George W. Bush ordered a 159 million-barrel campaign to fill the depleted reserve.

As oil prices passed $40, $50, and then $60 a barrel, critics blasted that plan and called on the White House to draw down the SPR. Bush aides insisted the reserve was meant solely for emergencies -- and that the SPR's crude couldn't dent the global market.


  The government did lend some 5.4 million barrels to refiners after 2004's Hurricane Ivan -- a clear precedent for the current deals. Platts Oilgram News, a newsletter published, like BusinessWeek, by The McGraw-Hill Companies, reported on Aug. 31 that seven refineries had lined up with initial requests for at least 1.5 million barrels. If the deals follow last year's template, refiners will repay oil loans within six months with up to 5% "interest" in the form of added crude.

Some analysts argue that the SPR draws will dampen speculative pressure. Crude prices backed off slightly from their near-$70 level after the release was announced.

With the SPR "in play," traders "have to wonder how large the release will be," says Amy Myers Jaffe, an energy expert at Rice University's James A. Baker III Institute for Public Policy in Houston. "It puts a psychological lid on the market." Similarly, the EPA's easing of clean-air rules will let refineries squeeze more gallons of gas from a barrel of oil and ship gasoline tailored for one region's pollution limits into other areas.

But these steps, however welcome, aren't likely to calm a supply chain where players at every level -- refiners, wholesalers, retailers, and consumers -- fear a supply squeeze and price hikes. For now, price parity between a gallon of premium fuel and a cup of premium coffee is likely to remain a hard fact of life.


By Mike McNamee and Lorraine Woellert in Washington

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