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Mixed Reviews At Home But Boffo In Beijing

President Obama’s decision to tap America’s Strategic Petroleum Reserve is getting mixed reviews at home, but some foreign audiences should be on their feet to applaud.

Beijing’s central planners must love the American president’s determination to bring down the price of their imported oil without asking them to touch one drop of their own strategic reserves. Italy’s business and political elite, cut off from their usual supply of light, sweet and oh-so-close Libyan crude by that country’s civil conflict, welcome anything that shores up their country’s less-than-rock-solid economic prospects.

Americans, on the other hand, have to consider economic and political reasons, rather than strategic ones, to make any sense of the administration’s action. Lower energy prices might bolster consumer wallets and confidence, helping to spur the spending that drives more than two-thirds of the U.S. economy. At the same time, lower gasoline prices and higher economic growth figures might also bolster the president’s political prospects as he heads into his re-election year.

These are not the sorts of rationales for which the SPR was created following the 1973-1974 oil embargo. The stockpile, which consists of 727 million barrels of oil and related products stored in massive salt caverns beneath Texas and Louisiana, “provides the President with a powerful response option should a disruption in commercial oil supplies threaten the U.S. economy,” according to the Department of Energy’s website.

Prior to last week, the reserve had been used only twice: first in response to the 1991 outbreak of the first Persian Gulf War, and again in 2005 when Hurricane Katrina knocked out 25 percent of the country’s domestic production.

Obama acted in coordination with the International Energy Agency, a consortium that consists of 28 developed nations, including the U.S., most of which are net oil importers in Europe and Asia. Eleven of those nations pledged to open their stockpiles in addition to the U.S., which is providing half of the 60 million barrels of crude and product that the IEA plans to release in a 30-day period.

The administration and the IEA pointed to Libya as the source of the “supply disruption” that justifies invading the emergency reserves. An IEA press release claimed that the disruption “has been underway for some time and its effect has become more pronounced as it has continued,” and warned that “the normal seasonal increase in refiner demand expected for this summer will exacerbate the shortfall further.”

But in reality, there is no shortfall. At the crude oil trading hub in Cushing, Okla., stockpiles reached their highest level since at least 2004 this April. Even now, well into the “ongoing disruption” of the supply chain, the Cushing stockpiles have 41 percent more oil than the five-year average for this time of year.

The civil war in Libya costs the global oil market around 1.5 million barrels a day, according to the Energy Department. But Saudi Arabia has already agreed to increase its own production to compensate for that loss, as have some other oil-producing countries around the Arabian Peninsula. Oil prices, though still well above year-earlier levels, slumped for more than a month prior to the IEA’s statement, even as the Libyan conflict dragged into a stalemate and the peak summer consumption season approached.

So oil markets are functioning fairly well overall. Almost anywhere in the world someone wants fuel, outside of conflict zones or the planet’s worst-managed economies, it is readily available on demand. It just costs a lot compared to what some consumers (or governments in countries that subsidize their consumers) are used to paying.

Obama and the IEA are trying to use a supply-management mechanism, the SPR and its equivalents in other countries, as a price-management mechanism. It is unlikely to work, at least not for long, and the attempt could very well backfire into a crisis if a real supply disruption occurs before the reserves are replenished.

The total 60 million barrel release amounts to less than one day’s global oil consumption. Tapping the reserves does not bring a single drop of new fuel into the world’s total supply. Any short-term price relief is liable to be offset on the supply side in short order, since lower prices will spur increased consumption that will just leave everyone with lower inventories — only by that time, we will have lower reserve stockpiles as well.

If this release is followed by others, the cycle will repeat itself, each time leaving oil-dependent countries with smaller reserves to cushion a real shock. That will make oil prices more volatile, not less.

The release also undercuts Saudi Arabia’s effort to offset the loss of the Libyan supply. By dumping stockpiled reserves on the market just as the Saudis were bucking other OPEC members and boosting their own production, Obama and the IEA have embarrassed Saudi leaders and scrambled their financial calculations. Obama and the IEA probably should not count on Saudi help next time they ask the kingdom, which has most of the world’s spare production capacity, to boost output.

The release reeks of panic, not just in response to slowing economic growth but also in response to higher inflation. Higher energy and commodity prices are leaking rapidly into the overall inflation rates in many countries, including China, Brazil and the United States. The combination of higher inflation and slowing growth is raising concerns about stagflation. The last U.S. president whose administration suffered through stagflation was Jimmy Carter, and he was resoundingly defeated in his bid for a second term. Obama appears to be well aware of this piece of economic and political history.

So the release is pointless and, on balance, bad news for oil producers and most of the countries that are releasing their reserves. But it is cost-free for the Chinese. Not surprisingly, China’s National Energy Administration said it appreciates and supports the IEA’s decision.

I suppose our president can take comfort that someone, at least, thinks he did the right thing. Now that he has released American oil for China’s benefit, he can try to figure out a way for China to release some Electoral College votes on his behalf in 2012.

Larry M. Elkin is the founder and president of Palisades Hudson, and is based out of Palisades Hudson’s Fort Lauderdale, Florida headquarters. He wrote several of the chapters in the firm’s recently updated book, The High Achiever’s Guide To Wealth. His contributions include Chapter 1, “Anyone Can Achieve Wealth,” and Chapter 19, “Assisting Aging Parents.” Larry was also among the authors of the firm’s previous book Looking Ahead: Life, Family, Wealth and Business After 55.

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