APTD-1460
AN ANALYSIS
OF THE
REGULATORY ASPECTS
OF FUEL OIL SUPPLY
(ABRIDGED REPORT)
U.S. ENVIRONMENTAL PROTECTION AGENCY
Office of Air and Water Programs
Office of Air Quality Planning and Standards
Research Triangle Park, North Carolina 27711
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AN ANALYSIS
OF THE
REGULATORY ASPECTS
OF FUEL OIL SUPPLY
(ABRIDGED REPORT)
by
Foster Associates, Inc.
1101 Seventeenth Street, N.W.
Washington, D. C. 20036
Contract No. 68-02-0640
EPA Project Officer: Frank Collins
Prepared for
ENVIRONMENfAL PROTECTION AGENCY
Office of Air and Water Programs
Office of Air Quality Planning and Standards
Research Triangle Park, North Carolina 27711
March 1973
APTD-1460
-------
The APTD (Air Pollution Technical Data) series of reports is issued by
the Office of Air Quality Planning and Standards, Office of Air and
Water Programs, Environmental Protection Agency, to report technical
data of interest to a limited number of readers. Copies of APTD reports
are available free of charge to Federal employees, current contractors
and grantees, and non-profit organizations - as supplies permit - from
the Air Pollution Technical Information Center, Environmental Protection
Agency, Research Triangle Park, North Carolina 27711 or may be obtained,
for a nominal cost, from the National Technical Information Service,
5285 Port Royal Road, Springfield, Virginia 22151.
This report was furnished to the Environmental Protection Agency by
Foster Associates, Inc., Washington, D.C. in fulfillment of Contract
No. 68-02-0640. TIle contents of this report are reproduced herein
as received from the contractor. The opinions, findings, and con-
clusions expressed are those of the author and not necessarily
those of the Environmental Protection Agency. Mention of company
or product names is not to be considered as an endorsement by the
Environmental Protection Agency.
Publication No. APTD-1460
11
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TABLE OF CONTENTS
1.
CURRENT REGULATORY PICfURE AFFECfING OIL SUPPLY
A. Backgrmmd Information
B. State and Local Regulation
C. Federal Regulation
Executive Office of the President
Executive Departments
1. Department of the Interior
2. Department of State
3. Department of Defense
4. Department of Commerce
5. Department of Justice
6. Department of the Treasury
7. Department of Transportation
Independent Agencies
II. MANDATORY OIL IMPORT PROGRAM
A. Establishment of MJIP
B. Administration of MJIP
C. Treatment of Residual Fuel Oil Under MOIP
D. Assesslilent of MJIP on Fuel Oil Supply
E. Alternatives to MOIP
III.
REGULATORY MEANS OF INCREASING LOW SULFUR FUEL SUPPLY
A. Regulatory ~ans of Increasing Crude Oil Supply
1. Increasing Domestic Crude Oil Supply
2. Increasing Foreign Crude Oil Supply
B. Regulatory ~ans of Increasing Low Sulfur Fuel Manufacture
1. Increasing Domestic Manufacture of Low Sulfur Fuel Oil
2. Increasing Foreign Manufacture of Low Sulfur Fuel Oil
C. Legislative ~ans of Increasing Crude and Fuel Supply
Page
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1
7
10
10
14
14
15
15
17
18
18
18
19
20
20
24
28
32
35
40
43
43
46
47
47
49
49
IV. OPTIMAL REGULAroRY STRATEGIES ro INCREASE lDW SULFUR FUEL SUPPLY 52
A. Short Term 52
B. Longer Term 53
C. What BPA Can Do 55
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ABRIDGED REPORT
Foster Associates has undertaken a study for the Environmental
Protection Agency to review the current regulatory picture affecting the
supply and distribution of natural gas and low sulfur fuel oil, to analyze
possible changes in this regulatory picture, and to appraise alternate
regulatory strategies which could bring about increased supplies of these
clean-burning fuels.
This abridged report deals only with the regulatory situation
pertainin,g to the supply of low sulfur fuel oil.
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1.
CURRENT REGULATORY PICTURE AFFECTING OIL SUPPLY 1/
Compared with the regulation of natural gas which thus far has
been concentrated in relatively few governmental bodies, the regulation of
oil involves a very large number of departments, agencies, councils and
commissions -- federal, state and local.
In part this diffusion of regu-
latory authority results from the control of oil and oil product imports
under the Mandatory Oil Import Program.
Because of foreign policy and
other ramifications of MOIP, many governmental organizations have come to
playa role in regulating or influencing one or more aspects of oil supply.
Also, the critical importance of oil to the nation's economy and security
has undoubtedly contributed to the proliferation of agencies involved.
A.
Background Information
Before getting into the regulatory aspects of low sulfur fuel
oil supply, some background information may be helpful to readers who are
not familiar with the oil industry.
Oil is discovered in the ground by drilling wells, then addi-
tional wells are generally drilled to develop the discovery.
Generally,
gas is discovered with oil, and is produced with it.
Or, gas may be dis-
covered instead of oil.
The "crude oil" from the wells moves to refin-
eries for conversion into finished products and finally moves to the
customer through gasoline service stations, etc.
The movement of
petroleum and its products is by pipeline, tanker, barge, and/or truck.
Y The contents of this report are current as of January 1973.
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The maj or segments of the industry are, thus, exploration, production,
refining, and marketing, and these are linked together by transportation.
In its details, the oil industry has become very complex
indeed.
Its great size -- each man, woman, and child in the United States
conslUlles an average of more than three gallons per day of petrolelUll
products -- and its vital contribution to practically every segment of
all developed economies has very much entangled the industry in both
domestic and international politics.
The United States for many years was totally or nearly self-
sufficient in oil.
However, in the late 1950' s, cheap foreign oil became
available in almost unlimited quantities (compared to relatively much
lower conslUllption at the time), and in 1959 the Mandatory Oil Import
Program (MJIP) was established to preserve the domestic industry in the
interest of national security.
This program is discussed in depth
later in this study.
We are now, as a nation, however, in the situation where domestic
production of oil has peaked out -- we have no surplus capacity, and aside
from the North Slope of Alaska, no maj or new source of conventional oil is
in sight.
Domestic demand is, nevertheless, continuing its inexorable
rlse, so our foreign dependence is skyrocketing. By 1975, we are likely
to be about 50%Y dependent on foreign petroleums, and over 60%Y by 1980,
barring massive new action to change this trend.
It is true that the U.S.
does have options in the form of supplemental ("synthetic") oil from shale
Y
National PetrolelUll Council "U.S. Energy Outlook" December 1972, page
262, Case IV, with 1980 adjusted slightly by Foster Associates.
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or coal, but, agaln, barring massive new programs they will not contribute
much by 1980.
There are currently two problems relating to oil in domestic
refining.
One is an actual shortage of physical domestic capacity, whid1
will not really be upon us for perhaps a year or two, and the other is
lack of utilization of capacity already in place.
The product supply
problem was felt this winter in distillate, with a very tight supply situa-
tion and some actual shortfalls in meeting needs.
The reasons for lack of
utilization of available domestic capacity are several, one of wllich is a
ten~orary shortage of crude oil particularly for inland refineries.
Crude oil as it comes from the well generally contains a wide
range of components ranging from those that are gaseous at ordinary condi-
tions to black solids.
Ideally, crude oil is nearly pure hydrocarbon.
However, most crude oil also contains impurities that must be partly or
totally removed before use.
Particularly important is sulfur, which if
not removed will pollute the atmosphere when the oil is finally burned.
Some crudes, such as much of Venezuelan oil, have high metals content,
which makes sulfur removal much more difficult.
Typically, crude oils
contain nitrogen and other chemically combined impurities as well as
sulfur.
Also, crude oils generally are physically contaminated with
water, salt, and sediment which must be removed in refining.
Crude oil
from different areas varies widely in composition and impurities content.
Crude oil, its components, and its products are generally
classified according to their range of boiling temperature.
Products such
as gasoline, with lower boiling ranges are generally described as "light,"
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while high boiling range materials such as residual fuel oil are referred
to as "heavy. II
Light products are "clean," a residual oil, where the term
residual means that it has not been distilled, is generally "dirty."
Heavy products are generally more viscous than light, and may be solid at
ordinary conditions.
The term "fuel oil" generally includes both "distillate" and
"residual" fuel oils.
Distillate, as the term is cOITUllonly used, is a clean,
distilled oil that is heavier than gasoline.
It is also called No.2 oil,
and generally includes both home heating oil and diesel fuel.
Distillates
are typically free flawing liquids except in extreme cold conditions.
Residual fuel oil, which is often called No.6 oil, contains undis tilled
"bottoms," and is generally a heavy, viscous, dirty product that ordinarily
has to be heated to be used.
Residual fuel oil is used for such things as
electric power generation, large industrial boilers, ships bunkers, etc.
The sulfur content of distillate is generally quite low.
If it is not, it
is relatively simple to process it to a law sulfur content.
On the other
hand, sulfur and metals in crude oil tend to concentrate in residual fuel.
Therefore, a high sulfur crude oil will generally yield an even higher
sulfur residual fuel oil unless a special desulfurizing step is added to
refining.
And, metals also concentrate in residual fuel, so a high
metals, high-sulfur crude oil will be particularly costly to refine into
low sulfur residual fuel oil because metals interfer with the desulfuriza-
tion step.
Distillate is generally considered a premium product vs. residual
oil -- distillate can often be used in place of residual but the reverse
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1S not the case.
The term "gas-oil" generally refers to a refinery inter-
mediate -- a semi-refined product that is heavier than gasoline.
The amOllllt of any product that can be made from a given crude
oil depends on refining facilities available.
The relative value of the
products will determine the actual product mix at a refinery.
Generally,
the more sophisticated refineries typical of the United States versus the
rest of the world offer more flexibility in product mix.
However, there
is not total flexibility in product mix -- usually crude oil contains
light (more volatile) components not suitable for fuel oil but usable for
gasoline or other products.
Therefore, most refineries have to make some
other products besides fuel oil.
There is generally not a lot of flexi-
bility in the amount of distillate than can be made in a refinery, even
wi th substantial changes in processing.
On the other hand, residual fuel
oil capability is more flexible, and processing can be varied to vary
residual yield over a wide range.
This is in large part because residual
specifications are less stringent, and if one wants to put more valuable
components into residual fuel it can be done within broad limits.
In fact,
with some modifications of storage and facilities, it is possible to burn
whole crude oil in installations designed for residual fuel oil, and this
1S practiced in some parts of the world, especially Japan.
The u.S. oil industry consists of the following major segments:
1.
2.
3.
4.
5.
The large international oil companies.
The large domestic oil companies.
Independent producers.
Independent refiners.
Independent distributors and marketers.
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The first two groups together account for most of the domestic refining,
marketing, and transportation operations in the U.S. and account for the
majority of producing.
Independent producers sell about one-third of the
oil produced in the U.S.
Domestic gasoline marketing is dominated by the
large con~anies in the sense that they own most of the gasoline stations
and use their brand names.
The degree of integration (proportion of crude
production owned by refiners) varies for the large companies, but ITDst are
substantially integrated.
The oil industry is also characterized by massive investment
requirements in all phases of the business.
It is also an industry of
long lead times -- the time between the initiation of an exploration pro-
gram and the first oil coming to market is generally in the two to five
year range, and for engineering efficiency reasons, it generally takes in
the range of 10 to 25 years or even longer to produce all the oil in a
given field.
The lead times for building refineries, pipelines and tankers
are generally measured in the one to five year range, depending mainly on
the size of the proj ect.
The consequence is that it is not easy to change
direction quickly in this business.
We are now realizing the consequences
of past actions, and we will in the rest of this decade and beyond reap the
consequences of action or inaction now.
Federal and local government have an unusually large influence on
the oil industry.
The federal government, among other things, regulates
oil imports through !v[)IP , gives special tax treatment to oil producers
(depletion allowance and intangible writeoff), regulates interstate trans-
port at ion of oil, and controls leasing federal property.
State governments,
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particularly in Texas and Louisiana, influence oil production through con-
servation and "market demand pro-rationing" laws.
The latter has been a
subject of much controversy in the past, but has now become academic
because these states are operating at essentially 100% of productive
capaci ty .
B.
State and Local Regulation
The supply of oil is affected by three types of state or local
control:
conservation regulation, leasing of lands, and local ordinances
regarding land zoning and building permits.
In general, neither state con-
servation controls nor state leasing practices are deemed at this time to
present any material barrier to the development of supply.
However, the
extent to which public opposition in coastal states lnay be able to block.
leasing, drilling and construction of deepwater terminals or refineries on
environmental grounds will have an obvious effect on the future develop-
ment of supply.
Virtually all producing states exercise a variety of conserva-
tion regulations aimed primarily at preventing physical waste of oil and
gas. Another purpose is to protect correlative rightsY of property owners.
The regulations relate, among other things, to well completion techniques
and equipment; spacing of wells; pooling of tracts ; unitization of reser-
voirs and portions thereof; limitation of production to reasonable market
y
Correlative ri.ghts are the rights of each oil property owner to his
fair share of the oil and gas under his property. A single oil
reservoir may have many owners, and regulations are designed to keep
one owner from withdrawing oil which belongs to others.
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demand; allocation of allowable production to pools and among wells in a
pool; secondary recovery operations; and protection against land and water
pollution as a result of oil and gas drilling and production.
State regulation of production through market demand prorationing
developed during the 1930's in response to excessive output and sharp price
drops following huge oil discoveries, particularly in Texas and Oklahoma.
In states where producing capacity exceeded market demand, prorationing of
production based on market demand clearly put a brake on the level of
domestic supply output for many years.
However, prorationing is not a
factor in the current fuel shortage because excess productive capacity
no longer exists.
In the two principal producing states, Texas and
Louisiana, monthly allowable production of oil has been authorized at
maximum efficient producing ratesl/ of the wells for several months (with
the exception of a few fields held to lower rates because of reservoir
problems, or other reasons).
Three other states (Oklahoma, Kansas and
Hew Ivexico) ilave been producing essentially at 100% -- or more -- of
maximillil efficient well rates for two or raore years.
Producing states all have authority to lease state lands.
general, leases are awarded at public auction to parties offering the
In
highest cash bonus, and provide for a fixed royalty to the state on all
oil and gas produced.
In general, a basic objective of the states in the
past has been to lease lands in order to maximize revenues. In some states,
y
The maximwn rate at which oil can be produced without excessive decline
or loss of reservoir energy. If rate is exceeded, lower ultimate
recovery of oil will result.
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royalties from production on state lands are a significant source of revenue.
Except perhaps for local situations, there has been little pressure to
restrict leasing and development of potential oil and gas lands.
Recently,
however, environmental considerations -- the threat of oil spills in particu-
lar -- have caused various state legislatures and/or regulatory bodies to
seek to halt or ban leasing and drilling activities on certain offshore
lands .
However, these problems have been minimal in Texas and Louisiana,
the two dominant offshore producing states.
In California, for example, there has been no further leasing
and almost no drilling of state offshore lands since the major oil spill
in the Santa Barbara Channel in early 1969.
On the East Coast, similar pressures are building up against off-
shore leasing and drilling.
For example, several bills were introduced in
the New York State Legislature in 1972 to ban oil and gas well drilling in
the Atlantic Ocean off Long Island and/or adopt other measures aimed at
environmental protection of offshore lands.
Two of these bills were passed
but subsequently vetoed by Governor Nelson Rockefeller.
One b ill would
have prohibited the leasing of any offshore lands for oil or gas extraction
within three miles of the New York coastline (or such other boundary as may
be ultimately determined to be subject to state jurisdiction).
In vetoing
this bill, Governor Rockefeller stated that the nation's growing energy
needs may make it desirable to permit drilling off New York shores at some
future time, and that the State Commissioner of Environmental Conservation
has adequate powers to insure that any such drilling will be consistent
with the need to protect the state's marine sanctuaries and recreational
areas .
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Finally, state and local officials have the right to impose
restrictions on the use of private property through local zoning ordin-
ances.
During the past few years, there have been increasing instances
where local officials have yielded to environmental protests and refused
the necessary zoning and/or building permits for energy producing facili-
ties.
To illustrate, the State of Delaware in 1971 passed a law pro-
hibiting the building of any new refinery or superport wi thin that state.
C.
Federal Regulation
On the federal level, oil supply is influenced by several
councils or other bodies within the Executive Office of the President, by
at least seven Executive Departments and by a number of independent
agencles.
The more important of the various organizations, together with
a rough outline of the organizational structure, are depicted on the chart
following this page.
Executive Office of the President
Below the President and his immediate White House assistants, the
Oil Policy Committee is the principal oil policy formulation body in the
Federal Government.
Established in 1970 as a result of a recommendation by
the Cabinet Task Force on Oil Import Control, the Oil Policy Committee
includes the Director of the Office of Emergency Preparedness (who serves
as Chairman) ,11 the Secretaries of Interior, Defense, State, Commerce and
1/ Under a Reorganization Plan submitted by the President to Congress on
- January 26, 1973, the Office of Emergency Preparedness would be abolished
and its functions transferred to other agencies. The Deputy Secretary of
the Treasury would replace the Director of OEP as Chairman of the Oil
Policy Committee.
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DEPARTMENT OF TRANSPORTATION
DEPARTMENT OF THE TREASURY
-National Transportation Safety Board conducts
investigations of accidents involving petroleum
or gas in pipelines or other modes of transport
-U;S. Coast Guard e~forces the Oil Pollution Act
in joinder with the Bureau of Customs
-The Secretary may influence petroleum policy as
a member of the Council on International
Economic Policy. Domestic Councilor as a member
of the Oil Policy Commit tee
-The Bureau of Customs collects all information
regarding oil importation for the SESA;' 1/ acts
as the field policing agent in the implementa-
tion of the oil allocation licenses issued by
the Office of Oil and Gas (Interior); and
assists the U.S. Coast Guard in the enforcement
of the Oil Pollution Act which prohibits the
discharge of ' oil and refuse upon coastal waters.
FEDERAL GOVERNMENT ORGANIZATIONS DEALING WITH REGULATION OF OIL SUPPLY
COST OF LIVING COUNCIL
-Monitors voluntary system of price controls to
assure consistency with national goal to hold
back inna tion
COUNCIL ON ENVIRONMENTAL UALITY
-Influences petroleum policy in that the manufac-
ture and transportation of petroleum affects the
environment
OFFICE OF THE SPECIAL REPRESENTATIVE
FOR TRADE NEGOTIATIONS
-Negotiates tariff on oil and 011 products
DEPARTMENT OF STATE
-The Secretary may influence oil policy as a mem-
ber of the National Security Council and the Oil
Policy Ctlmmittee
-Maintains Petroleum Attaches in the embassies of
the -major 011 producing and consuming nations
-Office of Fuels and Energy within the Bureau of
Economic Affairs coordinates departmental activi-
ties and policies pertaining to petroleum and
petroleum products
-Participates in negotiations with National
Energy Board of Canada regarding level of oil
to be imported into Districts I-IV
NATIONAL SECURITY COUNCIL
-Considers the petroleum aspects of all govern-
mental policies related to the national security
-Reviews studies showing the ability of the
nation to provide for gas and petroleum needs
in time of national emergency
DOMESTIC COUNCIL !I
-Composed of the President. Vice President, and
several members of the Cabinet
-Council may form Ad Hoc Committees wi th agency
experts
-Enables the President to respond quickly to
urgent domestic problems
COUNCIL OF ECONOMIC ADVISERS
-Chairman also chairs Subcommittee on ~ational
Energy of the Domestic Council and serves as a
member of the Oil Policy Committee
DEPARTME~T OF DEFENSE
-The Secretary of Defense may influence oil
policy as a member of the Domestic Council, Oil
Policy Committee or Council on International
Economic Policy
-The Special Assistant for Petroleum :1atters.
Office of Assistant Secretary, for Logistics
and Installations acts as DOD advisor regarding
programs. systems and procedures for making
available petroleum products under conditions
of war or peace
-Defense Fuel Supply Center is responsible for
the procurement of fuels for military and
civilian agencies, coordinates movements of
bulk petroleum by military, and administers the
DOD import allocation issued by the Office of
Oil and Gas (Interior)
DEPARTMENT OF THE ARMY
-The Secretary influences oil policy as a member
of the Foreign Trade Zone Board
-Corps of Engineers designs and constructs
petroleum storage, distribution and dispensing
systems; water resources development; expansion
of oil transport on intercoastal waterways; and
proposed development of superports
DEPARTMENT OF THE NAVY
-Chief of Naval Operations coordinates participa-
tion in interagency programs and establishes war
reserve levels of supply for major pe troleum
products .
-Office of Naval Petroleum and Oil Shale Reserves
administers petroleum and oil shale reserves and
acts as advisor on matters pertaining to oil
shale or crude oil
-Navy Fuel Supply Center administers the supply
system for all petroleum products but does not
maintain physical stocks of material
DEPARTMENT OF THE AIR FORCE
-Headquarters, USAF. establishes policies to pro-
vide the Air Force with petroleum products.
principally jet fuel
---------------------------------------~
I
I
I
I
OIL POLICY COMHITTEE !I
-Hembers are:
Director. OEP, Chainnan
Secretary of The Interior
Secretary of Treasury
Secretary of Commerce
Secretary of State
Secretary of Defense
The Attorney General
Chairman, Council of Economic Advisers
-Provides policy direction and surveillance of
the ~andatory Oil Import Program
OFFICE OF EMERGE~CY PREPAREDNESS
-:1aintains constant surveillance over Mandatory
Oil Import Program
-Advises President whenever importation of crude
oi1 and products are in such quantities as to
threaten the national security
-Oil and Energy Work Group makes independent
studies of oil and energy problems
DEPARTMENT OF THE INTERIOR
-The Secretary may influence oil policy as a mem-
ber of the Domestic Council. Oil Policy Committee
or through program policies within the Department
-Office of Oil and Gas administers oil import pro-
gram by issuing allocations and licenses for
importation of crude oil, residual fuel oil.
petroleum products and unfinished oils; and
coordinates federal oil and gas policy
-Bureau of Mines collects, analyzes and publishes
materials on pe,troleum production, trade and con-
sumption; conducts basic research on oil shale
and synthetic fuels
-Geological Survey collects, analyzes and dis-
tributes geological data pertaining to petroleum
and gas resources; collects royalties from min-
eral leases; and supervises the development of
minerals under lease on federal, Indian and
Outer Continental Shelf lands
-Office of Coal Research conducts and funds
research for converting coal to clean forms of
gaseous and liquid fuels, finding more effici-
ent systems for generating electric power, and
utilizing coal without damage to the environ-
ment
-Bureau of Land :1anagement grants rights-of-way
for petroleum and gas pipelines on lands in the
public domain; issues mineral leases for lands
in the public domain; and conducts sales of
Outer Continental Shelf leases
INDEPENDENT AGENCIES
-Interstate Commerce Commission regulates all
modes of surface transport including pipe-
lines for oil and oil barges on inland water-
ways
-Export-Import Bank provides favorable financing
to facilitate foreign trade
-Environmental Protection Agency coordinates
effort to abate and control pollution; analyz.es
data pertaininK to the impact of fuels on air
quality i and is concerned with prevention or
redress from oil spills
-Tariff Commission advises and administers tariff
on crude oil and all other petroleum products
except asphal t .
-Federal Maritime Commission regulates water
borne shipping in foreign and domestic offshore
commerce. and ascertains financial responsibili-
ties of ship owners for removing oil from
navigable waters and shorelines
-Federal Power Commission administers and
enforces the Natural Cas Act
DEPARTMENT OF COMMERCE
DEPARTMENT OF JUSTICE
-The Secretary may influence oil policy as a mem-
ber of the Oil Policy Committee, Domestic Council
or as Chairman of the Foreign Trade Zone Board
-Foreign Trade Zone Board enables private corpora-
tions to establish Zones in the interest of
encouraging international trade
-Petroleum and Coal Division of the Bureau of
Domestic Commerce provides staff assistance for
the Deputy Assistant Secretary for Resources in
the discharge of his duties as a member of Oil
Import Appeals Board
-Maritime Administration has the responsibility
for organizing and directing emergency ship
operations. including tankers
-The Attorney General may influence oil policy as
a member of the Domestic Councilor the Oil
Policy Committee
-Civil Division handles oil litigation matters
-Antitrust Division is a member of the OIAB
-Lands and Natural Resources Division handles
lease ma t ters
-National Oceanic and Atmospheric Administration
establishes seaward boundaries in offshore lease
areas when problems of jurisdiction arise
STATE AND LOCAL REGULATION
-Oil Import Appeals Board is composed of one
representative esch from the Departments of
Commerce, Justice and Interior to hear petitions
and appeals from persons adversely affected by
oil ~mport regulations
INTERSTATE OIL COMPACT Cm!HISSION
INTRASTATE CONSERVATION AGENCIES
(e.g., Texas Railroad Commission)
STATE LEASINC AUTHORITY
ZONING AND BUILDING ORDINANCES
11 Relationship of Uomestic CoWtcil to Oil Policy Corm:dttee is closer than
- this chart implies. This largely results from overlapping membership.
l/ SESA is Social and Economic Statistical Administration.
January 1973
-------
Treasury, the Attorney General, and the Chainnan of the Council of Economic
Advisers.
In addition, observers normally sit in the Committee from the
White House and the Office of Management and Budget.
Prior to the creation of the Oil Policy Committee, the OEP played
the major role in oil policy and was responsible for the policy direction
of the Mandatory Oil Import Program.
Under the Presidential Proclamation
setting up the MOIP in 1959, the Director of OEP was directed to maintain
a constant surveillance of imports of petroleum and its primary derivatives
in respect to national security and to inform the President of any circum-
stance which, in the Director's opinion, might indicate the need for further
Presidential action.
Such surveillance was to include a determination of
whether any increases in the prices of crude oil or its products occurring
thereafter were necessary to accomplish the national security objectives of
the Proclamation.
The Director of OEP is also Chainnan of the Joint Board on Fuel
Supply and Fuel Transport, the purpose of which is to identify emergency
problems in fuel supply and fuel transport and to coordinate prompt and
appropriate remedial action by federal agencies.
Other members of this
Board include the Secretaries of Interior and Commerce, and the Chairmen
of the Council of Economic Advisers, Council of Environmental Quality,
Interstate Commerce Committee, and Federal Power Commission.
OEP has
established Field Boards to help implement the decisions of the Joint Board,
and to assist with fuel and energy problems at the local level.
Other organizations within the Executive Office of the President
affecting oil supply include, among others:
-11-
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- National Security Council
- Domestic Council
- Council of Economic Advisers
- Council of Environmental Quality
- Cost of Living Council
- Office of Management and Budget
- Office of the Special Representative for Trade Negotiations
The newest of the above organizations -- and one with substantial
impact on the supplies of low sulfur fuel oil supply which will be forth-
coming at least over the short term -- is the Cost of Living Council.
Established by Executive Order 11615, issued August 15, 1971, the COLC was
charged with primary "responsibility for administering the 90-day price-
wage freeze program imposed at that time.
Following the 90-day freeze and the initiation of Phase II of the
Economic Stabilization Program (which imposed mandatory price and wage con-
trols on most sectors of the economy), the COLC continued to be responsible
for overall policy guidance, while formulation and implementation of specific
criteria to govern price adjustments in particular industries was delegated
to the Price Commission.
However, the Price Commission was abolished on
January 11, 1973 by Executive Order 11695 which terminated the mandatory
price-wage controls in effect in Phase II for all but a few sectors of the
economy and substituted instead a "self-administering" system of price
restraints based on voluntary compliance.
The COLC was directed to oversee
this program and given authority to establish mandatory standards if con-
sidered necessary to assure that future actions in a particular industry are
-12-
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consistent with the national goal of reducing the rate of inflation to 2.5%
or less in 1973.
Policies adopted by the COLCY in the months ahead will be criti-
cally important to fuel oil supply.
This sterns from the fact that, during
Phase II, the price of No.2 fuel oil was restricted to a fairly low level
relative to gasoline and other refinery products.
Accordingly, refineries
were reluctant to increase their distillate yields without an increase in
the price of No.2 fuel oil.
This is considered to be a major factor con-
tributing to the development of No.2 fuel oil shortages in the current
winter.
During the last few weeks of January, following the termination
of the mandatory control program and the institution of voluntary price
controls, several companies announced increases in prices for No.2 heating
oil.
These increases were encouraged by the opinion of the outgoing OEP
Director that the COLC guideline providing for price adjustments (in excess
of certain other prescribed standards) "as necessary for efficient alloca-
tion of resources or to maintain adequate levels of supply," had the effect
of lifting price controls on No.2 fuel oil.
However, the COLC reacted by
setting the No.2 fuel oil increases for public hearings beginning
February 7,1973.
At the moment of writing, the impact of the new
1/ Under the latest Executive Order, the COLC presently consists of -- in
- addi tion to the Secretary of the Treasury who serves as Chairman - - the
Secretaries of Agriculture, Conunerce, Labor, HEW and HUD, the Director
of the Office of Management and Budget, the Chairman of the Council of
Economic Advisers, the Director of OEP, the Special Assistant to the
President for Consumer Affairs, and such other members as the President
may designate from time to time. The Director of the COLC, appointed
by the President, is also a member of the Council.
-13-
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voluntary price control program on crude oil and oil product prices is,
at best, unclear.
Executive Departments
At least seven departments within the Executive Branch affect
some aspect of petroleum supply.
Some -- such as Interior, State, Defense
and Commerce - - obviously have a greater impact than others.
Nevertheless,
others can and do playa substantial role. Some of the more important
functions of these departments relating to oil are identified below.1I
1.
Department of the Interior
- The Office of Oil and Gas administers the oil import program.
- The Bureau of Land Management issues mineral leases (oil, gas and
oil shale) for lands in the public domain, as provided for in the Mineral
Leasing Act, the Acquired Lands Act and the . Outer Continental Shelf Act.
- The Geological Survey regulates operating practices on federal
oil, gas and oil shale leases; is responsible for, and evaluates the results
of geological and geophysical exploration on OCS lands; collects royalties
from mineral leases; and supervises the development of fuels and minerals
under lease on Indian, OCS and other federal lands.
- The Bureau of Mines collects, analyzes and publishes technical
and economic materials on petroleum production, trade and consumption; con-
ducts basic research on oil shale and synthetic fuels; and disseminates
11
These functions are in addition to participation in oil policy formula-
tion by the heads of the Interior, Commerce, State, Defense, Treasury
and Justice Departments as members of the Oil Policy Committee.
-14-
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infomation relevant to health and safety programs for the petrolewn and
gas industries.
- The Office of Coal Research conducts research directed toward
developing processes for converting coal to clean foms of gaseous and
liquid fuels, finding more efficient systems for generating electric power
without pollution, and utilizing coal in conventional fom without environ-
mental damage.
- Office of Territories is responsible for territorial matters
involving the Trust Terri tory of the Pacific Islands, Guam, American Samoa
and the Virgin Islands.
The Virgin Islands, the location of a 400,000 bid
refinery operated by Amerada-Hess, is presently a major source of low sulfur
fuel oil.
Guam has a 30,000 bid refinery operated by Guam Refining Company.
2.
Department of State
The Office of Fuels and Energy is principally responsible for
coordinating departmental activities and policies in all matters pertaining
to petroleum and petroleum products.
Also, Petrolewn Attaches are main-
tained in the embassies of all maj or oil producing and conswning countries.
3.
Department of Defense
The Department of Defense (DOD) is a major contributor to u.S.
oil policy, a sizeable importer of foreign oils (over 60,000 bid) and a
major conswner of both domestic and foreign oils.
(lhe military purchased
over 750,000 bid of petroleum products in 1972.)
- The Special Assistant for Petroleum Matters, Office of the
Assistant Secretary for Installations and Logistics, acts as the principal
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DOD advisor regarding programs, systems and procedures for making available
petroleum products under conditions of peace and war.
- The Joint Chiefs of Staff monitor the requirements for petroleum
products in relation to strategic and logistic plans, and also provide
policy guidance for the Joint Petroleum Office.
- The Defense Fuel Supply Center (DFSC) within the Defense Supply
Agency is responsible for the procurement of fuel, petroleum products and
contracts for commercial petroleum services for the military and federal
civil agencies; coordinates the movements of bulk petroleum by the Military
Sealift Command with the needs of the military services; and maintains
stocks of bonded fuel oil and jet fuel for use by the military in opera-
tions outside u.S. boundaries.
- Army Corps of Engineers is responsible for the design and con-
struction of petroleum storage, distribution and dispensing systems at Army
installations, and for water resources development activities, including
river and harbor development and maintenance; also is involved in the pro-
posed development of super-tanker ports wi thin the U.S. and the expansion
of oil transportation on the intercoastal waterways.
- Office of the Chief of Naval Operations provides logistic guid-
ance for petroleum products for operating forces and shore establishments;
coordinates participation in interagency petroleum programs; establishes
war reserve levels of supply for the principal petroleum products; and
maintains a tanker fleet to transport oil for all the services.
- Office of Naval Petroleum and Oil Shale Reserves maintains two
sizeable oil reserves, one in Northern Alaska (Point Barrow) and the other
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at Elk Hills, California.
(The Elk Hills Field has been fully developed
and is capable of producing over 100,000 bid of crude oil.)
The Navy
also has a large shale oil reserve in western Colorado.
- U.S. Navy Fuel Supply Center administers the supply system for
all petroleum products but does not maintain physical stocks of material.
- Headquarters, U.S. Air Force establishes policies to provide
the Air Force with petroleum products, principally jet fuel.
The Air
Force is the predominant military user of petroleum, accounting for over
50% of all petroleum products purchased by the military.
4.
Department of Commerce
- Office of Import Programs considers special problems involving
industries affected by import competition.
- The Foreign Trade Zone Board (consisting of the Secretaries of
the Treasury, Anny and Commerce, with the Secretary of Commerce serving as
Chairman) passes on the establishment of Foreign Trade Zones on U.S. soil
in the interest of encouraging international trade.
- Petroleum and Coal Division of the Bureau of Domestic Commerce
provides information to individuals, governmental agencies, and industry
relative to petroleum production, manufacture and consumption in the interest
of promoting U. S. industry and commerce.
- The Maritime Administration is responsible for the development,
promotion and operation of the U.S. Flag Merchant Marine; organizing and
directing emergency ship operations; and the granting of subsidies for the
construction of tankers.
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- National Oceanic and Atmospheric Administration establishes sea-
ward bOlmdaries in offshore lease areas when problems of jurisdiction occur.
- Office of Foreign Direct Investment administers a program which
restricts the dollar outflow for direct investments abroad in order to help
correct the balance of payments deficit.
5.
Department of Justice
- Assistant Attorney General of the Civil Division handles all liti-
gation in petroleum matters on behalf of the government.
- Assistant Attorney General in the Antitrust Division enforces the
various statutes designed to prevent restraint of trade through monopoly or
cartel and issues consent decrees for the merging of petroleum companies.
- Assistant Attorney General in the Land and Natural Resources
Division establishes rights to mineral leases, and supervises suits to abate
water and air pollution.
6.
Department of the Treasury
- Bureau of Customs polices the implementation of oil allocation
licenses issued by the Office of Oil and Gas (Department of the Interior)
and enforces the Oil Pollution Act which prohibits the discharge of oil and
refuse upon coastal waters.
7.
Department of Transportation
National Transportation Safety Board investigates accidents
involving the transportation of petroleum or gas in pipelines or other
modes of transport.
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- The U.S. Coast Guard enforces the Oil Pollution Act of 1961
together with the Bureau of Cus toms, U. S. Treasury Department.
Independent Agencies
Finally, the supply of oil is affected directly or indirectly by
several independent agencies, including:
- The Interstate Commerce Commission regulates common carrIers
engaged in various modes of surface transport, including oil pipelines and
barges on inland waterways.
- The Export-Import Bank of the United States provides financing to
facilitate the exchange of connnodi ties such as crude oil and/or petroleum
products between the U. S. and any foreign agency or individual.
- The Federal Power Commission regulates the natural gas industry,
which indirectly affects fuel oil.
- The Envirorunenta1 Protection Agency coordinates goverrunenta1
efforts to abate and control pollution.
- The United States Tariff Connnission provides advice in regard to,
and administers, the tariff on crude oil and all other petroleum products
except asphalt.
- The Federal Maritime Connnission regulates water borne shipping
in foreign and domestic offshore connnerce; administers those provisions of
the Water Quality Improvement Act of 1970 concerned with oil pollution; and
polices the Merchant Marine Act of 1920 -- the so-called "Jones Act" --
which restricts foreign flag vessels from commerce on inland waters, as well
as from coastal trade between U.S. ports, including the U.S. Territories and
possessions.
(A single exception pertains to trade with the Virgin Islands.)
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II.
MANDATORY OIL IMPORT PROGRAM
Over the years, the Mandatory Oil Import Program (MJIP) has
undoubtedly had a greater effect on the supply of oil and fuel oil than
any other Federal Government regulatory program.
Moreover, for the future
at least short term, increased imports under this program (or some other)
appear to be the only available alternative for achieving any significant
increase in supplies of low sulfur fuel oil.
tion of the MOIP is warranted here.
Therefore, a brief descrip-
A.
Establislunent of MOIP
MOIP was established by Presidential Proclamation 3279, issued
March 10, 1959.
The Proclamation culminated a series of governmental
actions looking toward the restriction of imports into the United States.
Beginning in 1954, the matter of crude oil and oil product
imports became the subject of investigation by special committees and by
the Office of Defense Mobilization (predecessor of the Office of Emergency
Preparedness). Subsequently, the Director of ODM was required by Section 7
of the Trade Agreement Extension Act of 1955 to advise the President when-
ever the Director had "reason to believe that any article is being imported
into the United States in such quantities as to threaten to impair the
national security." Following the receipt of such advice, the President
was authorized to make an investigation and, if necessary, to adjust the
imports of such article to a level that would obviate the threat.
Various recommendations were made regarding limitation of oil
imports, but no action was taken until the promulgation of a Voluntary Oil
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Import Program in the second half of 1957.
Established importers were
asked to cut back crude oil imports to a level approximately 10% below their
average imports over the period 1954-1956, with the objective of achieving
an overall level of imports into the area east of the Rockies equivalent to
approximately 12% of crude oil production in that area.
After about a year,
however, it became apparent that the Voluntary Program was not accomplishing
the desired end, in part because (1) the only penalty for companies failing
to comply with the program was loss of government contracts; and (2) imports
of finished petroleum products, which were not in the program, rose precipi-
tously, thus throwing the crude program out of balance.
On February 27,1959, the Director of ODM reported to the President
that crude oil and the principal crude oil derivatives and products were
being imported in such quantities and under such circumstances as to
threaten to impair the national security.
A week later, a ~pecial Committee
to Investigate Crude Oil Imports recommended the imposition of mandatory con-
trols on imports of crude oil and crude oil products (including liquefied
petroleum gases, gasoline, kerosene, jet fuel, distillate fuel oil, lubri-
cating oils, residual fuel oil and asphalt), together with specific maximum
limits on the level of imports of crude oil, unfinished oils and finished
products into states east of the Rockies (Districts I-IV), the West Coast
(District V) and Puerto Rico.
Proclamation 3279 essentially ordered into effect the Special
Committee's recommendations, including the proposed maximum import levels.
The Secretary of Interior was directed to issue regulations creating a
system for allocating authorized imports of crude oil, unfinished oils and
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finished products.
With respect to crude oil and unfinished oils, the
Proclamation specified that allocations be made to companies with refinery
capacity on the basis of refinery inputs during a particular period
(except that initially no company having inputs during the base period
would receive less than 80% of its last allocation under the Voluntary
Oil Import Program), and that imported crude and unfinished oils must be
processed in the licensee's refinery -- except that exchanges could be
made for domestic crude or unfinished oils, again if processed in the
licensee's refinery.
As to finished products, the Proclamation provided
that allocations be made to companies which imported such products during
the respective base periods.
In addition, Proclamation 3279 established an Oil Import Appeals
Board -- to be comprised of one representative each from the Departments
of Interior, Commerce and Defense (the Defense representative was subse-
quently replaced by one from the Justice Department) -- with power, on the
ground of hardship, error or other relevant special consideration, to (1)
modify any allocation granted to any company, (2) grant allocations of
crude oil and unfinished oils in special circumstances; and (3) review
the revocation or suspension of any license.
The MOIP has been modified by the President 23 times in the 14
years since its inception.
In addition, the implementing regulations of
the Secretary of the Interior have been revised and amended some 70 times.
In general, the modifications have provided for changes in the level of
allowable imports; changes in the treatment of Canadian imports; the inclu-
sion of "newcomers" and other new groups (such as petrochemical plants) in
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the program; the grant of special allocations allegedly to promote the
economic development of Puerto Rico and the Virgin Islands; the grant of
special bonuses to promote the production of low sulfur fuel oil; and the
relaxation or elimination of import restrictions on certain products (such
as residual fuel oil imported into District I, asphalt and liquefied
petroleum gases); and other changes.
Some parts of the original program
have been eliminated, such as historical allocations for crude oil and
products (with some exceptions).
In general, however, the principal
overall procedures and regulations for determining allocations of imported
oil have been retained.
In the past two years or more, several revisions have been made
in the MOIP raising authorized import levels in recognition of potential
shortages of crude oil and petroleum products.
The latest Presidential
Proclamation dated January 18, 1973 is especially significant in this
regard.
First, based on a finding by the OEP Director that increases in
domestic production in 1973 will not be sufficient to supply demand for
petroleum and petroleum products in that year, the President upped the
level of allowable imports of crude, unfinished oils and finished products
(excluding residual fuel oil) into Districts I-IV by over 50% -- from
1,785,000 bid in 1972 (after all adjustments) to 2,700,000 bid in 1973.
Second, based on a finding of a threat of temporary shortage of No.2 fuel
oil, the President removed all restrictions on import of that product into
Districts I-IV for the first four months of 1973.
District V controls,
since th0Y set import levels at tile difference between demand and domestic
supply (which makes them self-adjusting) have not been changed.
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The MJIP was subjected to a searching reVlew a few years ago by
a Cabinet Task Force on Oil Import Control, appointed by the President in
March 1969.
In February 1970, the Task Force issued a majority report
recommending that the present import quota system be replaced over a transi-
tion period of three to five years with a tariff system giving preferences
to Western Hemisphere sources and incorporating a "security adjustment" to
protect against undue Eastern Hemisphere imports.
This recommendation was
not adopted by the President.
At this time, the MOIP is now again under intensive review
within the Administration.
Major changes, or proposals for change, could
be announced within the next one or two months.
B.
Administration of MOIP
As noted previously, the policy direction of the MOIP is now pro-
vided by the Oil Policy Committee -- an interdepartmental group presently
chaired by the Director of OEP.
The day-to-day administration of the pro-
gram is performed by the Office of Oil and Gas within the Department of
Interior.
For purposes of applying the MOIP, the U.S. is divided into five
districts, plus Puerto Rico.
These districts, which correspond to the
Petroleum Administration Districts (PADs) used in World War II, cover the
following geographic regions:
District I
District II
District III -
Dis tri ct IV -
District V
East Coast
Midwest
Gulf Coast
Rocky MJuntain
Pacific Coast (plus Arizona and Nevada)
-24-
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In Districts I-IV, the only significant distinction in implementation of
the tv()IP relates to residual fuel oil which is practically exempt from
import controls in District I (East Coast).
In District V, quotas are
determined on a different basis than in Districts I-IV.
Puerto Rico is
also treated separately.
Commodity-wise, the MOIP classifies petroleum imports in four
categories:
(1) crude oil; (2) unfinished oils (products imported for
further processing, such as naphtha); (3) finished products (products
imported for use without further processing, such as No.2 home heating
oil, jet fuel, gasoline, lubricating oils and asphalt); and (4) residual
fuel oil to be used as fuel.
In general, overall quota levels are estab-
lished for the first three categories combined -- with unfinished oils
generally limited to a specific percentage of the total and finished products
generally limited to specified volun~ levels within these overall quotas --
and separately for residual fuel oil
In Districts I-IV, the level of imports of crude oil, unfinished
oils and finished products (ex residual fuel) has been officially set at
12.2% of estimated domestic production of crude oil and natural gas liquids
since 1962.
However, this percentage figure has been exceeded by increasing
margins in the pas t three years.
In 1972, for example, total imports into
Districts I-IV (excluding residual fuel oil) were ultimately fixed at
1,785,000 bid after all adjusrn~nts during the year, representing over 17%
of esti~mated domestic production.
Including residual fuel oil increases
the percentage to 35%.
-25-
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In District V, the level of imports of offshore crude oil and
tmfinished oils is set at an amotlllt which, together with domestic supply
and production and exempt Canadian overland imports, will approximate total
demand in that district.
The licensed level of imports of crude and
tlllfinished oils into District V in 1972 was 289,000 bid.
In addition,
as explained later, 150,000 bid of crude oil were set aside for granting
"bonus" allocations of crude oil to persons in District V who produced
low sulfur residual fuel oil.
Allocations of quota levels are handled differently for crude
and tlllfinished oils, finished products, and residual fuel oil to be used
as fuel.
In the case of crude and tlllfinished oils, import licenses --
called "tickets" - - are issued in all areas (except Puerto Rico) to refining
companies on the basis of refinery inputs and are calculated according to a
"sliding scale" whereby decreasing percentages are assigned to higher incre-
ments of refinery rtmS of a company.
This obviously favors the small
refiners.
All licensees are required to rtm (a) the imported crude oil in
their own refineries, or, alternatively, (b) to import the oil and then
exchange it for domestic oil which they must process in their own plants. The
ability to exchange licenses or "tickets" results in virtually all imported
crude oil being processed in coastal refineries, thereby avoiding the need
for transportation of the imported crude to inland refineries.
Thus, the
exchange of "tickets" creates a certain value for inland refiners -- this
value being roughly measured by the difference in price between foreign
crude and domestic crude of approximately the same quality delivered to
the same point.
These values, however, are subject to negotiation where
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the exchanges involve different qualities of crude and depending on the
demand for foreign crude.
Over the years, "ticket" values have ranged
between zero and $1.50jbbl.
Late in 1972, "tickets" were valued at about
50~/bb1.
Beginning in 1966, allocations of crude oil and unfinished oils
also have been made to eligible petrochemical companies on the basis of
their petrochemical plant inputs.
For 1972, the allocation was based on
11.2% of their plant inputs in Districts I-IV and 11.9% in District V.
Petrochemical companies are permitted additional allocations based on
amounts of petrochemical products exported to foreign lands.
In the case of finished products (other than residual fuel oil),
allocations were originally granted in all areas to companies which were
historical importers in a certain past period.
Historical product alloca-
tions were eliminated in 1970 (except for the U.S. military) at which
time a program was adopted for No.2 oil imports into District I.
Special programs are followed for Puerto Rico and the Virgin
Islands .
In Puerto Rico, import allocations are granted to (1) historical
refiners (those in operation in 1964) who are allowed imPorts to meet all
local Puerto Rican demand, demand for export sales to foreign areas, and
the vohnne of shipments made to the U.S. mainland in 1965; and (2) four
companies (Phillips Petroleum, Sun Oil, Union Carbide and Commonwealth Oil
& Refining) which, under special arrangements negotiated with the Secretary
of the Interior in the mid-1960's, agreed to build petrochemical plants or
refineries which would promote economic development in Puerto Rico, subject
to access to Continental U. S. markets for a portion of plant output.
Asa
result, the four companies were granted licenses to import crude oil from
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Western Hemisphere sources into Puerto Rico and ten-year permits to move
64,000 bid to the U.S. mainland of finished or unfinished oils (excluding
residual fuel oil, which requires no permit for shipment to the Continental
U.S.) in the Virgin Islands -- which lies outside U.S. customs territory
so that a license is not required to import crude oil but is needed to
ship products to the U.S. mainland -- the Interior Department in 1967
approved a special arrangement granting Hess Oil Co. (now Amerada-Hess
Corp.) permission to ship 15,000 bid of finished products (other than
residual fuel oil) from its Virgin Islands refinery to Districts I-IV. 11
As in the case of the Puerto Rico deals, this special allocation was
justified primarily on economic development.
In addition, the Oil Import Appeals Board has the power to make
special allocations on hardship grounds from so-called "set-aside" amounts
granted to it from the total crude and products quota on grounds of hard-
ship.
OIAB allocations have become increasingly important in the past few
years.
C.
Treatment of Residual Fuel Oil Under MOIP
The subject of residual fuel oil~ is deserving of special mention
because of its quite different treatment from that of other products under
11
On December 18, 1972, the President authorized additional shipments of
No.2 fuel oil and finished products from Puerto Rico and the Virgin
Islands into Districts I-IV to help alleviate current fuel shortages.
Residual fuel is a black viscous material primarily composed of the
residuum (or bottoms) of the refining process. This residuum is suit-
able, within limits, for the firing of boilers in industry, electric
utility plants, ship propulsion, and heating large buildings, etc.
Residual fuel oil is not used for heating individual homes because small
furnaces require a free flowing and clean distillate type of fuel oil.
~
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IVDIP, the present dependence of the East Coast on imports of this fuel, and
tile consequences of importing a finished product rather than crude oil.
Imports of residual fuel oil have increased over threefold in
the past 14 years -- from about 500,000 bId in 1958 to about 1,750,000 bId
in 1972 (nearly all of which is consumed on the East Coast) .
This increase
is due to three principal factors.
First, domestic production of residual
fuel oil has declined as improvements in refining technology have permitted
refiners to lower the proportion of residual output in favor of gasoline
and other more profitable lighter products.
Second, the MOIP was modified
in 1966 to virtually decontrol imports of residual fuel oil (for use as
fuel) into District I.
The result has been to make the East Coast almost
totally reliant on foreign imports for its residual fuel supply.
Third,
demand has risen because of air pollution regulations restricting sulfur
content. The increasing dependence of the U.S. on imported residual fuel
oil is as follows (from the U.S. Bureau of Mines, in millions of barrels
daily):
1958
1959
1960
1961
1962
1963
1964
1965
1966
1967
1968
1969
1970
1971
1972
Domestic
Production
Total Demand
Imports
1.00
0.95
0.91
0.86
0.81
0.76
0.73
0.74
0.72
0.76
0.76
0.73
0.71
0.75
0.80
1.46
1.54
1.53
1. 50
1.50
1.48
1.52
1.61
1.72
1. 79
1. 83
1.98
2.20
2.30
2.54
0.50
0.61
0.64
0.66
0.72
0.75
0.81
0.94
1.03
1.09
1.12
1.27
1.53
1.58
1. 75
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Sulfur content regulations have had a twofold effect from the
standpoint of residual fuel oil supply.
One has been to force Caribbean
refiners - - which produce the bulk of the residual fuel oil imported into
the United States -- to alter their operations in order to meet the sulfur
requirements.
Specifically, these refiners are now required to be more
selective in their choice of crude oils (i.e., with respect to sulfur con-
tent, pour points and metals contained in the crude) used to manufacture
low sulfur residual and, in many cases, they must also install elaborate
and expensive systems for desulfurizing gas oil (distillate) for blending
wi th the residual)J While the amount of desulfurized gas oil to be
blended depends on the sulfur content of the residual and the required
sulfur content of the end product, as much as 50% gas oil may be required
in the blend.
The overall result is to reduce the quantities of No.2
oil which could be made available by Caribbean refiners for importation
into the U.S.
In addition, air pollution conditions and the ensulng sulfur
regulations have led to various amendments to the MOIP designed to encour-
age imports of low sulfur residual fuel oil, or crude oil as bonuses for
the production of low sulfur residual fuel oil.
The first such amendment
11
For example, Venezuela -- currently the largest supplier of residual
fuel oil to the U.S. -- produces crude oil with a sulfur content of
some 2% to 3.5% and without desulfurizing, residual fuel oil with an
even higher sulfur content. This is far above the requirements for
East Coast residual fuel needs. l
-------
occurred in October 1967 when the Secretary of Interior provided for bonus
allocations of crude oil on a barrel-for-barrel basis to refiners in
District V who manufactured low sulfur residual fuel oil (under 0.5% sulfur
content), whether refined from domestic or imported crude oil, and delivered
it to "customers required to burn such fuel in order to comply with local
government regulations." Allocations under this bonus program have
increased steadily; from an initial rate of 12,000 bid in 1968, they are
estimated to have totalled 150,000 bid in 1972 and to reach 200,000 bid
in 1973.
Next, in December 1968, the Secretary of the Interior sought to
promote the production of low sulfur residual fuel oil in Districts I-IV by
authorizing additional allocations to refiners manufacturing low sulfur
residual oil.
However, unlike District V, the allocations were restricted
to unfinished oils imported from Western Hemisphere sources and to persons
who installed a desulfurization facility.
This amendment to the regula-
tions was indefinitely suspended five months later, although not before
three companies were granted 10-year allocations (which were not suspended)
in return for agreement to construct desulfurization facilities to produce
low sulfur residual on the East Coast.
Thus far, however, construction had
not started on any of the facilities mainly because of inability to obtain
suitable plant sites.
In Districts II-IV, environmental pressures led several electric
utilities and oil companies to apply to the Oil Import Appeals Board in
the past three years for special allocations of low sulfur residual fuel
oil on "hardship" grounds.
In 1970, the OIAB granted such allocations to
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Commonwealth Edison Co. and Detroit Edison Co. -- representing the first
major import allocations to utility companies -- and announced the avail-
ability of about 26,000 bid for allocation in Districts II-IV during the
succeeding year.
In 1972, the OIAB was granted a "kitty" of some 40,000
bid of residual fuel oil for allocation in Districts II-IV in cases of
demonstrated hardship.
Still another measure designed to provide some flexibility in
residual fuel oil markets was a proposal by the Secretary of Interior to
permit the topping of imported crude oil for the purpose of producing
burner fuel, subject to the proviso that all products of the topping
process be utilized in the importer's own facilities.
It was further pro-
posed that importers in District I could obtain the imported oil from any
source, while importers in Districts II-IV would be restricted to Canadian
sources only.
Adoption of this proposed regulation would have supplemented
existing provisions authorizing the direct burning of crude oil by encourag-
ing, in the interest of safety, the topping of imported crude prior to
burning.
However, most of the comments in response opposed the proposal
because of, among other reasons, the lack of a procedure for utilizing the
naphtha topping for production of synthetic gas.
adopted.
The proposal was not
D.
Assessment of MOIP on Fuel Oil Supply
The overall impact of MOIP on crude oil and fuel oil supply is
subject to considerable controversy.
Over the years, MOIP -- in conjunction
with state prorationing -- has clearly held domestic oil and most product
prices well above world levels and has guaranteed a market for at least
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part of any oil discovered.
But whether this degree of price maintenance
and market assurance has led to substantially greater supply of domestic
oil has been widely debated -- for example, some say that the huge discov-
eries of oil on the North Slope of Alaska would not have been made were it
not for MOIP.
Others say the discoveries would have been made anyway even
wi thout MOIP because the potential was so great in that area. Undoubtedly,
dOlllestic production of oil is larger than it would have been without the
program, but the added domestic output has not been without cost to the
public.
Wi th respect to fuel oil, MOIP has obvious ly not resulted in an
adequate supply at the present time, especially on the East Coast but also
in the Middle West and the Gulf Coast as well.
This situation, however, is
not entirely attributable to MOIP but stems from the complex interaction of
a large nUli1ber of factors including a rapid and mainly lUlaIlticipated increase
In demand.
From the standpoint of national security, the District I residual
fuel oil exemption has resulted in nearly total dependence on imported
residual oil for the East Coast region.
Another adverse consequence of
this exemption has been to promote - - more than any other program encom-
passed in MOIP -- the exportation of u.S. refinery capacity.
To a lesser
degree, the special No.2 fuel oil program (and the removal of import
restrictions on LPGs from Western Hemisphere sources) has also contributed
to this situation.
While there appears to be no way of eliminating the
need for imports to meet the petroleum needs of the U.S., the adverse
security consequences of dependence upon imported oil could at least be
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minimized through limiting imports to the extent possible to crude oil,
thereby allowing refining operations to take place in the United States.
A collateral effect has undoubtedly been the discouragement and
postponement of investment in promising long-run domestic energy sources,
e.g., coal and nuclear power.
Residual fuel oil is used by large consumers,
e.g., utilities, industry and large space heaters, who frequently have
sufficient capital resources to enable a choice between competing fuel
sources.
Thus, insofar as MOIP programs either exempt residual oil imports
from quota levels or promote the domestic production of residual oil at
low prices, these consumers will tend to avoid the investments necessary
to use either coal or nuclear power in favor of residual oil.
This problem is compounded by environmental considerations, since
the economics of low sulfur residual oil use are considerably more favorable
at the present time than attempting to adapt to the use of coal with appro-
priate facilities to reduce harmful emissions.
However, it should be
recognized that, at least until 1975, there is really no practical alterna-
tive to the use of law sulfur residual oil in those regions where stringent
pollution regulations are in effect.
A further major detriment of the MOIP is its adverse effect on
balance of payments.
While there is no way of avoiding this adverse effect,
given the necessity of imports, the consequences can nevertheless be mini-
mized by limiting imports, insofar as possible, to crude oil rather than
hi~ler cost products.
On the plus side, the various import measures relating to residual
fuel oil (and No.2 fuel oil) supply have unquestionably had a beneficial
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effect on prIces to consumers because of the lower cost of the foreign
products.
The District I residual fuel oil exemption has kept the price
of this product at a considerably lower level than if imports had been
restricted.
The independent terminal operators and fuel distributors in
District I maintain that even their limited access to imports of No.2
fuel oil has had a beneficial effect on home heating oil prices on the
East Coast, although this benefit has been eroded by recent substantial
price increases on the part of the principal foreign suppliers of No.2
fuel oil.
E.
Alternatives to NDIP
The purpose of MJIP is primarily to support the domestic oil
industry by limiting imports of foreign crude oil and products on a
volumetric basis.
This is not the only way to support a domestic industry.
In general terms, there are at least four general approaches to supporting
a domestic industry versus its foreign competition:
l.
2.
Volumetric limits on imports, such as MJIP.
Tariffs or fees on imports, such as recommended in 1970 by
the U.S. Cabinet Task Force on Oil Import Control in 1970.
3.
Methods which combine features of both of the above, such
as import auctions proposed by at least one major oil com-
pany in the last few years.
Direct subsidy of the domestic industry.
4.
The major advantages (as seen by proponents) and disadvantages
(as seen by opponents) of each are as follows:
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1.
Volwlletric Limitations
Advantages
1.
Volun~tric limitations can totally insulate domestic prices from
downward pressure of lower foreign prices (on a delivered to the
u.s. basis).
2.
If administered properly, the minimum portion of the domestic
market available to the domestic industry can be delineated and
predicted.
MOIP has not, obviously, had this advantage.
3.
Once properly set up, minimal "fine tuning" adjustment or revision
. is required.
Again, I~IP did not have this advantage because of
its specific structure.
4.
Planning by industry and government is probably easiest with this
I
approach, at least in theory, because each c0T11pany should know
5.
well in advance exactly what import volume he will get.
Cost of imports to the importer (not necessarily the consumer)
is minimized, i. e., nothing is added in duty or fee.
Dis advantages
1.
Does not generate revenue in basic form.
2.
It is convlex in structure, because iT1~ort volumes have to be
allocated in some fashion to all of the recipients and a balance
between crude and product in~orts must be determined.
3.
There is usually no pnce competition between domestic and foreign
crude and products.
4.
Hhen domestic supply is inadequate, a reV1Slon in quota levels is
required.
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2.
3.
5.
The program generates pressure for added low cost imports, which is
a disincentive for developing domestic oil operations.
Tariff or Fee Approach
Advan tages
1.
Allows maximum interplay of market forces, i.e., who buys what from
whom at what price is only minimally restricted.
Also, there is
some prlce competition between domestic and foreign crude and
products.
2.
Fecieral revenues are generated, whidl if domestic versus foreign
price differential is large can be very large.
3.
4.
In basic fonn, the structure can be very simple conceptually.
TIle most generally used method of restricting imports is through
tariffs.
Disadvantages
1.
Import volumes are quite unpredictable, therefore, portions of the
domestic market available to the domestic producer are unpredictable.
2.
Price of domes tic crude can be quite volatile, depending on vagaries
of tanker rates and foreign oil prices, reducing the incentive to
develop new domestic reserves.
Even careful "fine tuning" may not
avoid this probleJil.
3.
Cost of invorts to the importer are increased.
The consumer may
or may not know the difference in cost.
Combination Approaches
The major combination approach proposed in recent years has been
the import auction, and advantages and disadvantages of this are
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discussed here.
In the in~ort auction system, the desired volumes of
lll~orts are periodically auctioned by the government to the highest
bidders.
It is largely a volumetric approach -- total import volume
is limited, and tilere is also what could be called a variable tariff
or fee according to how high the bidding goes.
Advantages and Disadvantages
This approach has all the advantages of tile volumetric, except
that eaCh company does not know wiwt i~orts he will get until
after each auction.
Also, revenues are generated whidl weans cost
of imports are not minimized.
It also has the unique disadvantage of favoring the cheapest
foreign product(s) over all O~lers.
Direct Subsidy
4.
This is much like the tariff or fee approach, except instead of
tacking on a tariff or fee to i~orts, a roughly equivalent per unit
subsidy is tacked on to domestic products. Obviously, this approach
call be a heavy drain on federal funds, but tilese are returned to the
public in lower prices. Politically, this is probably the worst
approadl because funds required can be so! large.
Whidl of the above is the best approach has been tile topic of
mudl debate and controversy.
Whether any type of in~ort res trictions at
all are desirable is perhaps the most controversial issue, and that
question is beyond the scope of this study.
As to the more specific concern of this study -- availability of
clean fuel - - either the volumetric or the tariff/ fee approadl can be
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structured so as not to restrict cleml fuel or raw material imports short
term during periods when domestic refining capacity is not adequate or
cannot be completed in time.
Also, either can be structured long tenn so
as to encourage domestic refining of clean fuels, and to encourage more
domestic raw material for clean fuels.
MOre specifically, a volumetric
approadl can be set up to increase allowed volumes of crude or product
short tenll as needed, and have fina volwne limits longer term to encourage
dOl,lestic production and refining.
The finn limits can be phased in over
a period of years to provide as smooth a transition as possible.
Similarly,
a tariff/fee approach can have minimal or no fees on crude oil and on
products needed short tenn, and rise over a period of time to predetennined
levels whidl will encourage domestic production and refining over foreign.
Regardless of the approach, it should be reviewed frequently,
1. e. ,
more than once a year, to see if its low sulfur fuel oil and other
objectives are being met.
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III.
REGULATORY MEANS OF INCREASING LOW SULRJR FUEL SUPPLY
The regulatory means of increasing low sulfur fuel oil supply
are reviewed below in two general categories:
measures which could increase
crude oil supply, and measures which could encourage manufacture of low
sulfur fuel.
As will be discussed, the options differ for the short and
longer terms.
Before proceeding with this analysis, a brief review of the possi-
ble order of magnitude of the foreign contribution to the U.S. total supply
of oil in the next ten to thirteen years may serve to lend same perspective.
Numerous projections of U.S. demand for oil and sources of supply
have been advanced in recent years. Wi th respect to demand, the pro j ec-
tions differ according to assumptions made as to the rate and timing of
nuclear power development, the extent of future coal usage and numerous
economic growth factors.
In regard to supply, the variables include,
among others, the rate of increase (or decrease) in domestic drilling,
the availability and timing of Alaskan North Slope oil reserves, the rate
of offshore leasing, the rate of development of supplemental sources of
oil supply from domestic oil shale and coal resources, and price and
economic considerations. Variations in assumptions as to these factors
make a considerable difference in the projected results.
Nevertheless, a
salient feature of all the projections is an increasing dependence of the
U.S. on foreign sources of supply to meet estimated petroleum demand.
Recent projections by the National Petroleum Council illustrate
this point. In a report released in December 1972,1/ the NPC presented
11 National Petroleum Council, "U.S. Energy Outlook," December 1972.
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four different studies of u.s. oil supply-demand balances to 1985.
The
most optimistic study -- in terms of the greatest availability percentage-
Wlse of domestic supply -- showed u.s. dependence on foreign imports rising
to 41% in 1975, but thereafter declining to about 30% in 1980 and 18% in
1985.
These projections, however, seem highly unlikely considering the
underlying assumptions:
an lncrease of 5.5% annually in domestic oil and
gas drilling activity, finding rates for domestic oil and gas discoveries
approximately 50% higher than in the recent past, all new base load gen-
erating plants between now and 1985 will be nuclear, an increase of 5%
annually in coal production for domestic consumption, and development and
production of synthetic fuels at the maximum possible physical rate with
no environmental or economic restrictions.
NPC's most pessimistic projection -- in terms of least proportion
of domestic supply to total supply -- indicates u.s. dependence on foreign
imports rising from about 23% in the early 1970 's to about 65% in 1980 and
1985.
This projection assumes continuation of recent adverse trends in the
development of domestic energy sources, including a further decline in
domestic oil and gas drilling, the same or lower finding rates than those
experienced in the past, continued siting and licensing problems with
respect to nuclear plants, no improvement in incentives to develop new coal
mines, and continued environmental constraints retarding development of new
resources.
Intermediate projections of NPC -- reflecting assumptions between
those underlying its most optimistic and least optimistic studies -- show
u.s. dependence on foreign imports ranging between 42% and 46% of total
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projected oil supply in 1975 and between 38% and 52% in 1985.
These
results probably represent a realistic range of projections -- at least
insofar as such proj ections can be made at this point of time.
Notwithstanding their differences, the implication of the NPC
projections -- and numerous others as well -- is that the U.S. must strive
to develop adequate additional dOilIes tic supply in order to keep dependence
on foreign oil from rising too far above present levels.
Otherwise, the
combination of rapidly rising foreign imports and the likelihood of con-
tinually rising foreign oil prices threatens severe consequences from the
standpoint of national security and balance of payments.
The amount we
will be paying for foreign oil unless we dlange our course becomes very
large, even in just a few years, and the balance of payments outflow which
resul ts is enonnous.
(James Akins, U.S. State Departn~nt, in testimoI1Y
before the Senate Commerce Committee, October 1972, estimates at least
$10 billion per year by 1980 if we do not change our course.)
Ivbreover, since there is a long lag time in most measures whidl
would achieve adequate domestic supply, and since we have not yet changed
our course, there is likely to be a period in the late 1970's when we do
not have enough domestic energy, and may not be able to afford the balance
of payments outflow of importing enough energy (mainly as oil) to meet pro-
jected needs.
This is, in our view, what will ultimately limit low sulfur
fuel oil supply (as well as supply of all petroleum products) later in the
1970's.
This is also a maj or reason why we emphasize domestic crude oil
supply in the discussion which follows.
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A.
Regulatory Means of Increasing Crude Oil Supply
1.
Increasing Domestic Crude Oil Supply
There are relatively few purely regulatory options for increasing
future domestic crude oil supply.
The most significant are first, acceler-
ated leasing, and second, letting prices rise under Phase III, both while
continuing to limit imports under MOIP.
Accelerating and regularizing the leasing of offshore lands is
one of the more obvious ways to increase domestic crude oil supply.
Only
about 1% of federal offshore area has been leased.
For comparison, about
20-25% of tilis area is estimated to have favorable oil prospects.
11oreover,
the U.S. Continental Shelf out to a depth of 200 meters can be drilled with
teChnology now at llllild.
Oil and gas lease sales in the 1960's were sporadic, with the
result that promising drilling prospects for the industry did not become
available as fast as they might have with a more regular schedule.
The
response of the industry to those sales which were held gives every indica-
tion that additional leasing would have been as favorably received.
For
example, in every general lease sale held by the Interior Department begin-
ning in 1967, total bonus bids to the U.S. Government exceeded $500
million, with the last in December of 1972 bringing an all time record of
nearly $1.7 billion.
The Gulf of Mexico is the logical focal point of the Department
of Interior's current leas ing plan because of large potential crude oil
(and gas) reserves.
Offshore Louisiana is already a prolific producing
area; offshore Texas has shown less promise to date, although significant
potential is believed to exist.
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From the standpoint of location, the Atlantic OCS is an obvious
source of providing substantial supply increases of both oil and gas for
the East Coast, already heavily dependent on imports of foreign oil and
likely to become also dependent on imports of foreign gas (LNG) in the
future.
While East Coast states will benefit from the development of poten-
tial reserves in the Gulf of Mexico, they must share that potential with
other areas of the country which rely on Gulf Coast sources.
By contrast,
all of the Atlantic OCS potential would presumably be available for local
East Coast markets.
Though not as strategically located, the potential of the Gulf
of Alaska could also be very large.
In offshore California, leasing was halted by the major oil spill
occurring in January 1969, and further drilling on some 3S leases granted
prior to that time has been suspended.
Interior's authority to order sus-
pension of operations is now in the courts.
Thus, the situation is uncer-
tain in California at the moment.
However, the same basic considerations
dictating the leasing of Atlantic OCS lands also favor a reslUnption of
leasing of the California OCS and extension of this leasing, assuming
sufficient industry interest and favorable geological data, to other
Pacific Coast offshore areas.
A corollary issue connected with offshore leasing concerns the
leasing method which will best promote early and rapid exploration and
development of the OCS lands.
Interior's present method of awarding leases
is through cash bonus bidding, with a fixed royalty (16-2/3%) required on
any ensuing production.
This method has been criticized on the ground that
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it siphons off large amooots of capital in bonuses which might otherwise
be expended on exploration and development.
Another criticism is that
tne bidding process is restricted to larger operators able to afford
the cash bonus plus finance subsequent drilling acti vi ties, thereby dis-
° fO. 1 1/ 'T'1 ° °
couraging by sJilaller operators wlth less 1nanCla resources.- !Jus 1S
said to deter the widest possible participation in offshore development.
Alternative methods have been suggested, the two principal ones being:
a deferred bonus-fixed royalty system under which portions of the bonus
(1)
would be due at various times in the future; and (2) a royalty bidding
system, with no bonuses.
Both of the suggested alternatives could make available large
sums of capital for exploration and development that otherwise would be
committed to bonus payments.
Thus far, however, Interior has taken the
position that these methods would result in less incentive for full lease
development and recovery of resources.Y
Letting crude oil prices roo free ooder Phase III (or its suc-
cessor), while continuing to limit imports ooder MOIP, would certainly
result in greater supply of conventional crude oil.
And, if prices ran
far enough, to say over $5/bbl (in 1973 dollars), supplemental (synthetic)
oil would likely become economic.
The amooot of new conventional oil that
Y
The present method has not precluded smaller operators from partici-
pating in offshore leasing and exploration in joint ventures with other
companles.
In testimony before the Senate Interior Committee on Jooe 19, 1972,
then Assistant Secretary of the Interior Harrison Loesch defended
the present cash bonus bid-fixed royalty system as the best of the
possible alternatives and said Interior does not currently plan to
change this system ooless directed to do so by Congress.
y
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would be found at higher prices is impossible to quantify, but is
certainly
substantial.
The potential amount of supplemental domestic oil, mainly from
shale or coal, is almost unlimited by shale or coal supply.
However,
environmental problems may represent a limiting factor on both coal and
shale, as well as the availability of water (needed to process shale oil)
in the case of shale.
Supplemental oil supplies ultimately will have to
playa major role in our energy picture, and much research and attention
has been given this subject.
We will not labor this complex supply alterna-
tive here, however, because the massive subsidies or other special incen-
tives needed to develop supplemental oil (barring raising crude oil prices)
can only come from legislative action.
Other regulatory means of increasing domestic oil supply include
granting import quota "tickets" under MOIP to those who find new oil and to
those who produce otherwise uneconomic oil.
This approach has been pro-
moted, especially by independent producers, at various times in the past.
Potential would be limited both by availability of tickets, and by the
uncertainty in future ticket values.
2.
Increasing Foreign Crude Oil Supply
Short term, there is probably no alternative to higher import
quotas under MOIP for increasing foreign crude oil supply.
Longer term, other than Canada and possibly selected other Western
Hemisphere countries, we do not recommend regulatory measures to increase
foreign oil supply.
The option of letting prices run up under Phase III
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or its successor, and then granting Canada special preference under MOIP,
would encourage both conventional and supplemental oil (from tar sands)
from that country.
B.
Regulatory Means of Increasing Low Sulfur Fuel Manufacture
1.
Increasing Domestic Manufacture of Low Sulfur Fuel Oil
An obvious regulatory option for increasing domestic manufacture
of low sulfur fuel oil (and naphtha) would be to either hold all residual
fuel oil imports at present levels, or to scale down such imports over a
period of time under MOIP.
Concurrently, domestic fuel oil prices (and
naphtha) would have to be permitted to rise under Phase III (or its suc-
cessor) enough to make domestic manufacture attractive, and crude oil
imports would have to be increased, at least in the short term.
There are a variety of other options that have been studied and/or
proposed to specifically encourage domestic manufacture of fuel oil (and
naphtha). Most involve using "ticket" values under MOIP in some way as
an incentive to make fuel oil or naphtha domestically}! The two most
1/
The future trend in "ticket" values -- measured roughly by the differ-
ence in the relative price of u.S. and foreign oil of comparable quality
at the same point -- will be an important factor in determining the
effectiveness of some of the options for increasing supply of low sul-
fur fuel oil. "Ticket" values are now about $0 .50/bbl, substantially
lower than they were a few years ago partly because of a fairly rapid
rise in foreign oil prices compared with only a modest rise in domestic
prices. Although there is disagreement on this subject, we expect
foreign oil prices to continue to rise rapidly over the next decade.
This means that if the present slow trend of increase in domestic oil
prices continues, foreign and domestic prices will converge in just a
few years, and ticket values will be nil. On the other hand, if imports
continue to be restrained under MOIP, there is no supply and demand
reason why domestic oil prices cannot maintain a substantial spread over
foreign, which would mean a substantial ticket value. On the other hand,
because of inflationary pressures or for political reasons, the govern-
ment may not permit a spread to continue or could even go so far as to
keep domestic prices below foreign. In sum, the future value of import
tickets can only be considered as quite uncertain at this time.
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:important are extending the "bonus" approach now in effect in District V
to the rest of the country, and the so-called "drawbac~' approach.
The
first simply grants import tickets for manufacture of low sulfur fuel oil
on a one barrel for one barrel ratio.
Thus, the ticket value is a direct
subsidy for making low sulfur fuel, regardless of what it is made from.
The "drawback" approach, on the other hand, is an attempt to give
some of the advantage now accruing to foreign refiners to domestic refiners
as well.
In this option, the refiner is granted import tickets in direct
proportion to the amount of unrestricted products (under MOIP) he makes
from foreign oil.
Thus, if a refiner makes 20 barrels of residual fuel oil
and 10 barrels of naphtha for synthetic natural gas feedstock from 100
barrels of foreign crude, he will receive tickets for 30 barrels more
foreign oi 1.
This approach is not as favorable to low sulfur fuel manu-
facture as the bonus plan, but it does encourage domestic fuel manufacture
as well as domestic refining.
Another type of proposal is the so-called ICOP (Imported Crude
Oil Processing) plan which contemplates the processing of :imported oil in
a simple, separate refinery into residual fuel oil, synthetic gas, or
other products not subject to import restrictions.
There does not appear
to be much interest in this approach now, presumably because building
separate refineries of this type is a less efficient allocation of
resources than integrated additions to existing refineries such as
would occur with the "drawback" plan.
Another option is desulfurizing of imported high sulfur unfin-
ished heavy oil, which could be encouraged under MOIP and Phase III.
This
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has the disadvantage that, in general, balance of payments outflow from
importing an unfinished product, i.e., a partially refined product, is
greater than importing crude oil, though less than importing a finished
product.
It would certainly be desirable to encourage domestic refining by
restraining environmentalist and other opposition to refineries and super-
ports, especially on the Atlantic Coast.
However, purely regulatory
measures would not seem to contribute much here -- this is a complex mixture
of political, legislative, regulatory, and judicial problems largely at the
state and local rather than the federal level.
2.
Increasing Foreign Manufacture of Low Sulfur Fuel Oil
Short term, there may be no choice but to permit imports of low
sulfur fuels.
Longer term, as in the case of foreign crude oil, we do not recom-
mend measures to encourage foreign manufacture of low sulfur fuel, although
again, Canada and possibly other Western Hemisphere sources may be exceptions.
Here, Canada, etc. could get special preference in MOIP, with fuel oil prices
in the u.S. permitted to run up under Phase III (or its successor) to levels
sufficient to encourage Canadian manufacture and export to the U.S.
c.
Legislative ~ans of Increasing Crude and Fuel Supply
Present regulatory means of increasing low sulfur fuel oil supply
are extrelJlely limited, so new legislation may be needed to increase crude
and fuel oil supply.
Possible legislative measures fall into two broad
categories -- new incentives to increase domestic oil production and
refining, and new measures to reduce consumption of oil and its products.
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Broadly, legislative incentives to increase domestic crude oil
production (beyond what can be achieved within the regulatory framework of
oil import policy and price controls) fall within three basic groups --
new tax incentives, direct subsidy of or participation in oil operations,
and R&D support.
We think the first and third can be effective and are the
most palatable politically, providing one adds the qualification on the
first that tax incentives apply only to ''new'' (in contrast to already dis-
covered or "old") oil or to developing of oil supply not otherwise economic,
such as lligher cost secondary or tertiary recovery oil.
In our opinion, the
outlook for legislation which applies new tax incentives to "old" oil in
addition to "new" oil is rather dim, because this would contribute to
inflation, and in the view of some, unfairly enrich the owners of reserves
already found.
Across the board incentives may be more palatable if the
incremental profit accruing to holders of "old" oil reserves were required
to be reinvested in exploration.
Tax incentives to increase domestic exploration and production
could take various fOITns, from increasing the depletion allowance to an
investment tax credit on exploration expenditures.
Increasing domestic pro-
duction in response to such incentives would almost directly increase low
sulfur crude oil availability, because the bulk of domestic oil found in
the past has been of low sulfur (sweet) variety).
Direct subsidies or federal participation in exploration, to be
effecti ve, would place heavy drains on the Treasury, hence we do not see
these as really viable options.
R&D support, though it may be somewhat
costly, has obvious advantages in such areas as developing supplemental
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oil supply (from shale or coal), improving offshore and deep well drilling
tedmology, and improving secondary recovery technology.
Incentives that increase domestic refining could tend to increase
low sulfur fuel oil availability, if incentives are structured to particu-
larly encourage making clean fuel oils rather than just to encourage domestic
refining in general.
Types of legislative incentives that can be applied to
encourage dOli1estic refining are fast tax write off , investment tax credits,
reduced income tax on domestic refining or direct domestic refining subsidies.
The measures indicated above would not tend to discourage short
tenn importing of low sulfur fuel oil or raw materials.
Thus, they do not
have the problelll discussed for import policy where it is difficult to recon-
cile the long term objective of increasing domestic supply with the short
term need for imported supply.
In the long term, these measures will increase
domestic supply and enable us to reduce imports.
In addition to these
measures, a tariff or fee on imports may be needed to il~ure that domestic
supply so developed will be used by the consumer.
Legislative measures to reduce consumption of other petroleum prod-
ucts, which would make more oil available for conversion to low sulfur fuel,
cover a wide range of possibilities.
We do not think rationing is a reason-
able alternative longer term.
On the other hand, such things as promoting
mass transit and requiring better insulation on houses appear desirable and
have other important benefits.
Ultimately, substantial selective fuel taxes
to reduce consumption will probably be needed.
SUdl taxes have the political
advantage of generating much needed revenues, but have the major political
disadvantages of being unpopular (barring a much more severe energy crisis)
and of affecting the less affluent disproportionately.
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IV.
OPTIMAL REGULATORY STRATEGIES TO INCREASE lDW SULFUR RJEL SUPPLY
A.
Short Term
Short term (to about the end of 1975), we think the optimal regu-
latory changes which would tend to increase supply of low sulfur fuel oil
are:
1.
Raise don~stic low sulfur fuel oil ceiling price permitted under
Alase III to encourage domestic manufacture of low sulfur fuel oil (Phase III
does not control price of imports).
2.
Adopt a "bonus" and/or "drawback" plan under .MJIP to encourage
domestic manufacture of low sulfur fuel oil in Districts I-IV.
3.
Remove iwport restrictions on low sulfur fuel oil in Districts
II-V under MOIP.
4.
Offer import ticket bonuses under .MJIP for newly discovered
domestic crude oil and for domestic crude oil which would otherwise be
uneconomic to produce.
The amount of low sulfur fuel oil which would be innnediately
forthcoming with these measures is likely to be small -- while their effect
would be to encourage optimum use (in terms of fuel oil) of desulfurization
and existing refining capacity, desulfurization capacity is limited both in
the U.S. and abroad.
The amount of domestic crude oil those measures would
bring out immediately would also likely be small, although some high cost
oil might be shut in now that such measures would make profitable.
The additional domestic low sulfur fuel oil generated by these
measures in a year or two may again be small, though imports into Districts
II-V might become significant.
The effect of those measures depending on
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ticket bonuses is likely to be small due to the uncertainty in future
ticket values; refining and particularly desulfurization equipment is
very costly and is unlikely to be added unless incentives can be expected
to last for some time.
Also, because of the time lag between looking for
oil and producing it, ticket values which are uncertain longer term may not
offer much new incentive to look.
Letting prices rise is probably less
uncertain, but refiners have been faced with so much uncertainty in so
many phases of their business that they may be reluctant to invest any
large sums they cml avoid.
In addition, special incentives for low sulfur
fuel oil could reduce supply of other petroleum products now in short
supply.
Legislation assuring refiners of incentives, whether price or
otherwise, would probably change this view, but that is not a regulatory
option.
Of course, the regulatory agencies involved would be the Cost of
Living Council for higher prices, and the Oil Policy Committee for the rest.
The cost to the consumer of letting low sulfur fuel oil prices
rise would probably be moderate if the amount of the increase were not
excessive.
The cost could be substantial, however, if such increase acted
to pull up the price of imported fuel oil.
The cost of removing import restrictions may be increased balance
of payments deficits, but short term this may be tolerable.
B.
Longer Term
Longer term. (from about 1976 on), we think the optimal regulatory
changes which would tend to increase supply of low sulfur fuel oil include
all the short-term measures except removing import restrictions (item 3),
plus the following:
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1.
Accelerate offshore leasing.
2.
Limit or reduce imports of low sulfur fuel oil, but on a specified,
long-tenfi phased in basis.
Accelerating federal offshore oil (and gas) property leasing will
lllcrease crude and potential fuel oil supply, and probably at relatively
low cost compared with other domestic options.
Also, substantial federal
revenues are generated.
The main cost involved is environmental, although
strict regulation should keep this cost low in the Gulf. The environmental
cost of leasing offshore in the Atlantic and in the Gulf of Alaska, where
there has not been the background of experience as in the Gulf, may be
higher, although it would seem that strict regulation and care in choice
of areas to be leased should keep this cost reasonable compared to benefits.
Leasing is relatively slow to increase crude oil supply.
It takes several
years to find and develop a new field, and then reserves so discovered are
produced over a long time frame of 10, 20 or more years.
The benefit of limiting or reducing imports of low sulfur oil
longer term lies in improving balance of payments and security factors.
Also, there is a relative benefit here from importing oil as crude than
as a finished product.
As in the short tenn, using import tickets as incentives to
increase low sulfur fuel oil manufacture and to increase crude oil reserves
may also not be very successful longer tenn due to uncertainty as to longer
term ticket values.
We did not include letting crude oil prices rise substantially
under Phase III or its successor as an optimal regulatory strategy, because
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this option does not appear to be politically viable.
Letting crude oil
prices rise across the board, compared to specific incentives for newly
discovered oil or oil that would not otherwise be economic, does not appear
consistent with solving the currently critical problem of inflation.
A
specific, controlled increase in price of a single product SUdl as low
sulfur fuel oil which is needed to meet pollution control objectives is
not in the same category.
Given the likelihood of strong inflationary
pressures in the u.s. for the foreseeable future, it is hard at this time
to see any Administration pernlitting large increases in dOJnestic crude oil
prices across the board.
Barring a large domestic crude prlce increase, the quantity of
low sulfur fuel oil generated longer term by all of the regulatory measures
above will likely be limited by availability of domestic crude oil, and
availability of domestic crude oil will not be much affected by these
measures.
As discussed earlier, if we do not alter our present course on
domestic oil, and this is, in our view, mainly a legislative matter, the
availability of low sulfur or any other fuel oil may be very limited indeed
later in this decade.
C.
What EPA Can Do
From the above, it appears that the regulatory options for
increasing low sulfur fuel oil supply are very limited.
In our view, it is
mainly up to Congress to provide the incentives and the stable investment
climate to develop the domestic oil base needed to assure availability of
low sulfur fuel oil.
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Nevertheless, we think EPA can make a significant contribution to
increasing low sulfur fuel oil supply long term by doing the following:
1.
Encourage and support legislation now which will eventually
~crease domestic oil supply.
Optimal legislation from the standpoint of
both developing low sulfur fuel supply and political palatability would
seem to be selective new incentives (a) to develop new or otherwise uneco-
nomic oil and (b) to develop supplemental oil supply from shale and/or coal.
2.
Use the influence of EPA as an independent agency to publicize
the environmental tradeoffs involved in running short of low sulfur fuel
oil versus increasing domestic oil supply.
EPA is in a better position
than any other agency or group to convince the public that if we do not
accept some environmental risk from say offshore drilling, we may face
greater and more certain environmental damage from not having low sulfur
fuel oil.
3.
Use the influence of EPA to try to achieve the goals of enVlron-
mentalist groups with minimal court or other delay of domestic oil projects.
This might take various forms, such as acting as an intermediary, helping
other agencies write environmental impact statements, or encouraging con-
troIs stiff enough to avoid environmentalist intervention but not so stiff
as to kill important energy projects.
4.
Use the influence of EPA to tell the story of environmental con-
sequences of domestic energy measures in a balanced and level headed manner,
rather than letting the extremists and alarmists of the environmental move-
ment dominate the scene.
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BIBLIOGRAPHIC DATA 11. ~fff- r~oO
SHEET
14. Title and SubtItle
An Analysis of the Regulatory Aspects of Fuel Oil
(Abridged Report)
12.
3. Recipient's Accession No.
Supply
S. Report Date
June 1973
6.
7. Authorls)
J. G. Tewksbury, ]';1. W. Rockefeller. T. Snedeker
9. Performing Organization Name and Address
8. Performing Organization Rept.
No. --
10. Project/Task/Work Unit No.
Foster Associates, Inc.
1101 Seventeeth Street, N.W.
Washington, D.C. 20036
12. Sponsoring Organization Name and Address
11. Contract/Grant No.
68-02-0640
13. Type of Report & Period
Covered
EPA, Office of Air Quality Planning and Standards
Strategies and Air Standards Division
Research Triangle Park. North Carolina
1 S. Supplementary Notes
14.
F mal Report
27711
16. Abstracts
A study was conducted to review the current regulatory picture affecting the supply and
distribution of natural gas and low sulfur fuel oil, to analyze possible changes in thi
regulatory picture, and to appraise alternate regulatory strategies which could bring
about increased supplies of these clean-burning fuels. The results of the study are
contained in two separate reports, one report for natural gas and the other for fuel
oil. Also, abridged copies of the two comprehensive reports are provided.
t
17. Key Wor.Js and Document Analysis.
Government
Law
170. Descriptors
17b. Identifiers/Open-Ended Terms
Air pollution
Fue 1 Oil
17c. COSATI Field/Group
SD
Unlimited
19. Security Class (This
Re~~:~).,
:Rr. Security Class (This
Page
UNCLASSIFIED
21. No. 01 Pages
S6
18. Availability Statement
22. Price
FOR" NTIS.3, (REV. 3-72)
USCO"".DC 14g'2.P72
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