The novel coronavirus crisis has plunged the global economy into a whirlpool, and the energy sector has been quick to show strain. The industry’s troubles began when China’s demand for crude oil fell sharply as economic activity was brought to a halt to slow the virus’s spread. The difficulties have been compounded by a Saudi-Russian price war that sent prices tumbling to $20-per-barrel in the early weeks of March.
Tariff on Foreign Oil?
With supply surging and demand flagging, some American oil companies find themselves in a lurch. They cannot make money—and some cannot survive—unless prices rebound. In response, some industry advocates are asking the federal government to implement a tariff on foreign oil.
To do so would be misguided.
Two central arguments are put forth in favor of an oil tariff. First is that it will protect the livelihoods of Americans. Second is that it will protect the US from price hikes in the future. Neither is valid.
If the tariff worked as intended, the benefits would flow to some American companies and their workers, but they would come at the expense of all other Americans. OPEC and Russia wouldn’t pay for the tariff—Americans would. But while $20-per-barrel crude is bad news for oil companies, it means some of our everyday needs, like fuel, are more affordable. Gasoline in some parts of the US has even dropped below $1-per-gallon. Using a tariff to artificially raise the price of oil would increase the cost of delivering the food and supplies we need to weather this pandemic. Is that fair to the millions of Americans who lost their jobs in the downturn and are now pinching every penny?
Further undermining the tariff’s justification, the US is actually a net exporter of crude oil and refined products, which complicates the neat-and-tidy tariff case. If a tariff excludes some foreign oil from the US market, that oil will find its way to markets outside of the US, dropping the world price further to the detriment of American companies that sell abroad. And those erstwhile exporters would look to the domestic market for buyers, potentially negating the tariff’s price increase and rendering the policy ineffectual.
The second argument is that OPEC is dumping oil onto the market to bankrupt American companies so that it can hike prices to painful levels in the future. “The greater the washout today,” David C. Hendrickson, professor of political science at Colorado College, wrote in the American Conservative, “the greater the peril of upward price explosions in the future.”
This argument contains an ill-conceived premise: that people are short-term thinkers who need government to look out for their long-term interests. We all know that geopolitical risk is inherent in the global energy market. If Hendrickson is smart enough to see the downside of putting all one’s eggs in a basket held by authoritarian foreign regimes, why can’t firms making crude oil purchases see it too? As the virus-related supply-chain slowdown in China has shown, the market punishes those who leave their fortunes vulnerable to the whims of one-party states. This is to the benefit of US producers.
The American oil industry has the potential to exemplify the ingenuity and thrift of a free market system. Like the rest of the country, the energy sector faces difficult times ahead, but the industry has proven that it is flexible and adaptable. The experience of the 2014 price drop demonstrates its resilience. The oil, the technology, and the know-how aren't going anywhere.
We've already seen the fracking industry ramp up with remarkable speed when the price is favorable and we will see it again. Plus, while low prices hurt American companies, they hurt Saudi Aramco, too, and the Saudis may not be able to sustain this posture for long. At this perilous moment, a healthy consolidation, in which the strongest companies buy out those in trouble and re-position for a recovery, may be what the industry needs. A government intervention would only penalize the prudent and exacerbate problems of moral hazard.
A final point against an oil tariff is that it would be vulnerable to exploitation by environmentalists. If that sounds conspiratorial, consider the evolution of the corporate average fuel economy (CAFE).
CAFE was implemented in the 1970s to lessen the ability of Middle East politics to cause oil supply shocks. Over 40 years later, CAFE is still with us, shoehorned into the federal government’s climate change policy. An oil tariff would be welcomed by industry opponents and a similar concept, a carbon tariff, is already part of Joe Biden’s campaign platform. Implementing an oil tariff now could burden Americans for years to come with onerous, distorted prices on their everyday energy needs.
While OPEC doesn’t play by free-market rules, the market reality is that oil is abundant and that the coronavirus has slowed demand. Low prices are the result. Artificially raising prices with a tariff does not make sense.