HISTORY SAYS: CONSULT THE INDUSTRY
Phil Verleger - Aug 19,2021
Aug. 15 marked the 50th anniversary of the “Nixon Shock.” On that day in 1971, President Richard Nixon suspended the dollar’s convertibility to gold and imposed a “temporary” freeze on prices. For oil, the freeze lasted almost 10 years. By the end of the controls program, the oil industry and US government were embroiled in an economic war that still smolders, even now. That battle threatens to reignite on a global scale as the oil industry finds itself fighting for survival, with its back just steps from the proverbial wall. A continued struggle between the interests and objectives of governments, environmentalists and the oil industry could have tragic consequences for all parties. The disastrous US experience with price controls should teach everyone that a better, more desirable environmental outcome can be achieved if all sides set aside their differences and cooperate.
Nixon’s 1971 speech announcing price controls and import fees occurred as inflation and the US trade deficit were rising. The dollar was under pressure, and the US faced domestic unrest over the Vietnam War, as well as deficits associated with financing Great Society programs and the armed conflict simultaneously.
On the convertibility issue, countries, foreign institutions, and individuals abroad who owned US dollars were worried by the US economic problems to the point of redeeming their dollars for gold, as allowed under the 1944 Bretton Woods agreement. Nixon ended that convertibility and implemented wage and price controls to address domestic inflation and avoid a looming international run on gold.
The Nixon administration managed the international financial transition away from gold well, despite the anger at the associated import fee, because the plan was implemented and monitored by seasoned, skilled veterans, including a young Paul Volcker. The price control program was a different matter, especially for oil, because it was led by a group of political hacks, including one whose main claim to fame was getting Francis Sargent elected governor of Massachusetts.
The Nixon, Ford and Carter administration officials who oversaw oil prices and allocations -- first in the Cost of Living Council (CLC) and then the Federal Energy Administration and the Department of Energy -- inflicted enormous damage on the oil industry. US production suffered, and conservation efforts were hampered. Imports rose, leaving the nation far more vulnerable to supply shocks, especially during the 1979 Iranian Revolution.
Indeed, the price controls imposed on Aug. 15, 1971 began a process that skewed investment decisions in all sectors of the economy. Such shifts occurred because the oil price controls were anything but “temporary.” They stayed in place until President Jimmy Carter began to phase them out in 1979, and were not fully lifted until President Ronald Reagan gave the order in 1981. The natural gas price controls, already in place in 1971, also continued for more than 10 years.
Between 1971 and 1979, bureaucrats who knew little about the oil or natural gas industries but a lot about self-aggrandizement and game playing imposed thousands of pages of regulations on the oil industry. Anyone who did not obey was fined. Some even went to jail.
While they were squeezing the US oil industry, the politicians were also helping the highly polluting coal industry expand rapidly. These decisions contributed significantly to today’s warmer planet by pushing major energy users to a much dirtier fuel.
Nixon’s “temporary” 90-day price freeze was extended three times. Economists Douglas Bohi and Milton Russell summed up the control program’s devastating impact on the oil industry in their book Limiting Oil Imports: “Conditions had been created where there was no market incentive to raise domestic production, no incentive to reduce consumption, and no incentive to increase imports.”
The price controls ended when Reagan summarily axed them in January 1981. Meanwhile, in the decade before, the US government bureaucrats controlling oil pricing and distribution issued page after page of additional regulations as they desperately tried to correct the program’s myriad imperfections. These rulings generally came with little consultation with the oil industry, even though public hearings were held to vet the changes.
Lesson for Environmentalists
And therein lies the lesson that environmentalists, government officials and the oil industry must pay attention to now. The 1970s were characterized by serious issues in two sectors: agriculture and oil. Food prices rose steadily in the decade due to crop failures in Russia and elsewhere. Oil prices also increased. The Nixon price control program did not distort the agricultural sector, but it created havoc in the oil business.
The difference in outcomes can be explained by the cooperative approach taken by the government regarding agriculture, in contrast to the antagonistic one adopted toward oil. Advisory committees were established in agriculture. Executives from food processors and food retailers were included in their membership. Advisory groups were also set up for the health industries. In addition, the CLC could rely on advice from the Department of Agriculture and the Department of Health, Education and Welfare.
There was no advisory committee composed of oil industry executives. Regulators with little or no experience in the industry “winged it.”
Today, the US and the world confront the existential problem of global warming. The latest report by the Intergovernmental Panel on Climate Change (IPCC) warns of rapid global warming in the absence of action. In response, government policymakers across the globe are formulating action plans. Many of these programs are being designed with little or no input from the petroleum industry, just as the price controls imposed on US firms 50 years ago were created without such information.
Policymakers need to engage actively with the oil industry. The engagement should include incorporating the costs of the industry’s Scope 3 obligations in the price of products distributed to consumers, as well as tapping the industry’s experience in capturing and sequestering carbon in working and retired oil fields. The engagement should also seek to accelerate the capture of fugitive methane gases. Downstream, the collaboration should focus on tapping existing retail structures to facilitate electric vehicle recharging.
Unfortunately, the Biden White House seems bent on continuing the long tradition of excluding the oil industry from participation. For example, the Treasury Department’s just-released “Guidance on Fossil Fuel Energy at the Multilateral Development Banks” is filled with unyielding language: “We will oppose new coal-based projects.” “We will oppose oil-based energy projects.” “We will oppose upstream natural gas projects.” Such language is bound to raise the hackles of those in the energy industry and prompt the further digging in of heels. Nowhere in the document is the phrase “We will work together with...”
The IPCC report offers five scenarios for global warming. In two, net zero is achieved, by 2050 or by 2080, respectively. Three scenarios show continually increasing emissions and seriously rising temperatures. The history of the bungled price control program and the nature of the policies being pushed today – without the engagement and cooperation of experts from the fossil fuel industry -- suggest that the world not reaching the net-zero emission goal before the turn of the century is, sadly, the most likely outcome.
Philip Verleger is an economist who has written about energy markets for over 40 years. A graduate of MIT, he has served two presidents, taught at Yale and helped develop energy commodity markets since 1980. Kim Pederson is editorial director of PKVerleger LLC.