Being a Bit Serious About Oil Prices

04/07/2022 12:00am

This week President Biden announced that he would release 1 million barrels per day from the strategic oil reserves. This action was generally derided by politicians and the media, saying that this move would have little effect on the world price of oil. They argued that in a world oil market of just under 100 million barrels per day, Biden’s release would have little impact.

There are a couple of points here worth noting. First, the projected impact of this sort of additional supply would not be all that trivial. The short-term demand elasticity is usually estimated to be quite low, typically around -0.15. That would imply that a 1 percent increase in the supply of oil should lead to a roughly 7 percent decline in oil prices. If we apply that to the current price of gas, that would be a drop of more than 25 cents a gallon.

A price increase of that size would likely be sufficient to prompt a raff of news pieces about how higher gas prices were bankrupting families. A price decline of this size should be equally momentous.

The other point is that it is important to always remember that we have a world oil market, not just when the point is to deride a move by President Biden. Specifically, many Republican politicians are running around saying that if we just produced more oil here, we wouldn’t have to worry about high gas prices.

The numbers indicate otherwise. Let’s say that in the span of a couple of years we could increase domestic production by 2 million barrels per day, an increase of a bit less than 20 percent over current levels. That would be a truly heroic lift, including ignoring a wide range of environmental issues, although perhaps possible in a best-case scenario.

This 2 million barrels per day increment to production, would be a bit more than 2 percent of world production, or twice as large as President Biden’s release from the strategic oil reserves. We should therefore expect that the impact on gas prices would be twice as large as the impact of Biden’s release.

If we view the impact of Biden’s release of oil from the strategic reserve as being trivial, then the impact of a very ambitious increase in domestic oil production is just twice trivial. It will not get us back to $2.50 a gallon gas, or whatever dream Republicans have in their head.

The basic point is that it is hard to have too much impact on world oil prices. Biden’s move will help some. We can do a big push on domestic production, which could also help some, but neither on their own will get us back to pre-pandemic prices.

And of course, burning more fossil fuels will screw our kids as the planet gets warmer, but we know that is not on anyone’s agenda.  

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