P.1 

OAR Box 1865 

Prepped by Charmelle Mathews 

Document Number: 

65) IV-J-8 

Docket Number: 

A-83-27 

Printed 12/3/2008 9:15:30 AM Sheet 65 of 105 
P.2 

World 

Through 2000 

September l')H6 
P.3 

Introduction 

The dramatic collapse of crude oil 

markets in early 1986 was the result of 

forces set in motion by the high oil 

prices of previous years. Reductions in 

oil demand due to conservation and the 

substitution of alternative fuels, along with 

steady increases in non-OPEC oil production, cut OPEC's market share. A disproportionate share of the burden of reducing 

production was borne by Saudi Arabia In 

1985, Saudi production fell to an average of 

3.2 million barrels per day (MMBD) from 

98 MMBD as recently as 1981. Total OPEC 

crude produaion dropped to 16.1 MMBD in 

1985, down from 30.8 MMBD in 1979. Eventually, the problem of parceling out shares 

of a shrinking market became insurmountable. Prices had to fall to accommodate an 

increase in OPEC production. 

The first signs of the impact of the 

price collapse are already apparent. 

Some industrial and electric utility plants in 

the United States, Western Europe, and 

Japan have switched from coal or gas to oil. 

High-cost oil producers have shut 

down wells. Exploration and development expenditures have been slashed. 

There also have been significant effects on 

the global economy, which is not surprising 

since oil still accounts for 46 percent ofthe 

world's energy supply. Inflation and interest 

rates have fallen, and wealth has been transferred from oil producers to consumers. ' 

This pattern represents the minor image of 

the events following the 1973-74 and 1979-

80 oil price increases, and may portend a 

period of healthy, sustained economic 

growth for the United States and other oil 

importers. Nevertheless, even this optimistic 

view has a negative aspect: Just as high real 

oil prices diminished oil's share of world 

energy markets, lower oil prices will lead 

to increasing reliance on Imported oil. 

Since the world's oil reserves are still concentrated in regions where there is a significant potential for supply disruption, rising 

import dependence means (1) a 

higher risk of an economically damaging shortfall, (2) reduced flexibility in 

formulating and Implementing foreign 

policy, and (3) greater military obligations to safeguard vital supply links. At 

the same time, the ability to respond with 

an increase in domestic supply will be 

greatly diminished 

The challenge for the US. government 

in particular is to develop policies that permit consumers to benefit from lower oil 

prices while minimizing the risks of future 

import dependence. The difficulty of this 

task is amplified by uncertainty about when 

and at what level oil prices will stabilize. 

Planners deal with uncertainty by developing several scenarios that bracket the most 

EXHIBIT 1 

Crude Oil Price Scenarios 

(Current Dollars Per Barrel) 

60 

50 

40 

30 

20 

10 

0 1973 1979 1985 

1 I Low Range [^9

 Mi d Range 

1990 2000 

High Range 

likely outcome. Thus, this assessment ofthe 

world energy outlook considers high-, low-, 

and mid-range cases (see EXHIBIT 1), with 

the mid-range case explored in detail. Some 

policy implications are sufficiently robust as 

to apply in all cases. These are discussed at 

the conclusion of the outlook. 

Key Factors 

This oudook is based on developments in 

several key factors that play important roles 

in determining energy supply and demand. 

There have been changes since last year's 

outlook. Some of these are noted below. 

Oil Prices. The supply and demand projections presented in this outlook are consistent with the mid-range price scenario 

mentioned above. (Note that prices are in 

current dollars and reflect U.S. inflation 

averaging nearly 4 percent per year.) In this 

scenario, crude oil prices fluctuate 

between $15 and $20 per barrel 

through 1990. Increased volatility could 

temporarily send prices above $20 per barrel 

or significantly below $15 per barrel. However, a combination of market forces and 

production restraint by OPEC (and perhaps 

some non-OPEC producers) would restore 

prices to the $15-120 per barrel range. During the 1990s, as the supply-demand 

balance tightens, prices begin to move 

up rapidly, reaching $40-$ 50 per barrel 

in 2000. Nevertheless, prices are expected 

to remain below the range anticipated a year 

ago. Note that this scenario does not consider such possibilities as an extended 

supply disruption or a severe economic 

downturn. 

Economic Growth. Non-Communist 

world economies will grow at an average rate of just over 3 percent per year, 

as expected last year. The U.S. economy will 

grow at a rate of slightly less than 3 percent 

per year. Prospects for growth in Japan and 

Western Europe have improved to 4% percent and more than 2'A percent per year, 

respectively, because of their status as oil 

importers. Among developing countries, the 

benefits of lower oil prices to net oil 

importers will outweigh the negative impact 

on oil exporters, and growth should average 

close to 4 percent per year overall. 
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EXHIBIT 2 

World Energy Demand 

(Million Barrels Per Day Oil Equivalent) 

150 

100 

50 

0 1973 1979 

^ United States 

| | Western Europe 

1985 1990 2000 

Japan | | Developing Nations 

Other Developed 

Nations 

Nuclear Power. High plant construction 

costs and safety concerns will limit the 

growth of nuclear power. No new capacity beyond what already is under construction will be added in the United States. In 

Western Europe, Japan, and some developing countries, nuclear programs will go forward, but at a slower pace than in recent 

years. Nuclear power economics are questionable with oil prices below $20 per barrel, but the motive to diversify energy supplies remains in force. 

Renewables. Energy from renewable sources 

such as biomass, wind, and solar power will 

make a limited contribution to energy 

supplies. In most cases, the renewable technology will not be competitive with combustion of conventional fossil fuels. 

Note: Throughout the Outlook, the 

"world" is defined as the non-Communist 

world. Only the net energy trade ofthe 

Communist Bloc is counted in world energy 

supply-demand balances. The developed 

world refers to member countries of the 

Organization for Economic Cooperation and 

Development (OECD). The developing 

world, sometimes called the Third World, 

refers to the remaining non-Communist 

nations. 

EXHIBIT 3 

World Energy Demand & Economic Activity 

(Barrels of Oil Equivalent Per $1,000 of Goods and Services) 

5 

T 

r 

2 

r 

1973 

I United States 

1985 1990 

t j Other Developed 

Nations 

2000 

Developing Nations 

Natural Gas Prices. Natural gas is 

expected to remain competitive with 

oil products in most markets through 

2000. Some regions ofthe United States 

where gas transmission and distribution 

costs are high, however, may find oil 

cheaper than gas. 

Coal Prices. Because of lower oil and gas 

prices, coal no longer has a clear-cut economic advantage in new boilers, even in 

relatively large units. In fact, with oil prices 

near the lower end of the mid range, a few 

plants now using coal may switch to oil. 

Although substantial excess capacity exists 

in the coal industry at present, few producers can reduce prices significantly and 

continue to operate. As a result, coal prices 

will fall only slightly before stabilizing. In the long run, prices will 

increase gradually, limited by productivity gains and expansion of low-cost 

capacity worldwide. 

World Energy Demand 

World energy demand will grow slightly 

faster than 2 percent per year during the 

second half of the 1980s and 1'/. percent 

per year during the 1990s. Developing 

countries will account for nearly half of 

the total increase, although they currently 

represent less than a quarter of demand. 

As EXHIBIT 2 shows, world energy demand 

will increase from 96 million barrels per day 

of oil equivalent (MMBDOE) in 1985 to 107 

MMBDOE in 1990 and 125 MMBDOE in 

2000. Energy use in the developing countries will grow at more than 3 percent per 

year. Energy consumption in the developed 

countries will grow at less than half that rate. 

On average, the developing countries 

will experience faster economic and population growth and will attract a greater share 

of energy-intensive manufacturing capacity 

than will the developed countries. As percapita incomes rise in the developing countries, per-capita energy consumption will 

also increase from current low levels. 

As EXHIBIT 3 indicates, energy intensity (energy use per unit of economic activity) will remain fairly stable in the developing countries. However, in the developed 

countries, shifts in the composition of economic output, together with continuing efficiency gains and saturation of some uses, 

will force energy intensity lower. World 

energy intensity is expected to decline Vh 

percent per year. 
P.5 

Factors responsible for the continued 

decline (even in a low oil price environment) include (1) completion of conservation investments initiated when prices were 

higher, (2) incorporation of cost-effective, 

energy-saving technology in new capacity 

and retrofits, and (3) expectations that low 

prices are temporary. Regulation-induced 

conservation (e.g., U.S. new car fuel economy standards) also will play a role. If efficiency gains are smaller than expected, total 

energy requirements in general and oil consumption in particular will be higher, and 

reliance on OPEC will be greater. 

World Energy Supply 

Coal and oil will provide tbe largest absolute increases in energy supply, while 

nuclear will experience the fastest growth. 

OU will continue to supply over 40 percent 

of total world energy requirements in 

2000; oil and gas together will supply over 

60 percent. 

Oil will contribute a little under 30 percent 

ofthe growth in world requirements from 

1985-2000. As a result, oil's share of world 

energy supply will decline from 46 percent 

to 42 percent (see EXHIBIT 4). Although oil 

is now far more competitive with other fuels 

than in recent years, several factors will 

cause its share to fall: (1) expectations of a 

price rebound, (2) higher consumer taxes 

on oil products, (3) completion of conservation projects already begun, and (4) the 

desire of many developing countries to 

exploit indigenous gas and coal resources 

for internal development and conservation 

of foreign exchange. 

The share of world energy supplied by 

natural gas will remain constant at about 18 

percent. However, the constancy ofthe global share obscures conflicting regional 

trends. For example, the share of natural gas 

will decline in the United States, but it will 

rise in virtually all other regions as (1) lowcost abundant gas reserves are exploited for 

power generation, petrochemical feedstock, 

or other industrial applications; (2) countries seek to diversify their energy supply 

mixes; and (3) environmental concerns 

favor gas over oil or coal. 

Although the price advantage coal has 

maintained over oil and gas has eroded, 

coal will still make a significant contribution 

to incremental energy requirements. Several 

regions currently possess underutilized coalfired electric generating capacity that will be 

put into service as electricity demand 

increases. Furthermore, relative to oil and 

gas, coal is seen as a secure long-term 

choice for fueling new capacity. Many 

developing countries will opt for coal over 

nuclear energy because of lower initial capital costs and simpler technology. Finally, 

developments in coal burning technology, 

EXHIBIT 4 

World Energy Supply 

(Million Barrels Per Day Oil Equivalent) 

150 

100 

50 

1973 1979 1985 

H i OU I 1 Coal 

I I Natural Gas [H I Nuclear 

EXHIBIT 5 

1990 ,, 2000 

I 1 Hydro & Other 

World Oil Product Demand 

(Million Barrels Per Day) 

60 

50 

40 

30 

20 

10 

1985 1990 2000 

i H Motor Gasoline' I I Distillate I I Other 

I I Kerosene ^^jj | Residual Fuel Oil 
P.6 

EXHIBIT 6 

Regional World Oil Demand 

(Million Barrels Per Day) 

60 

50* 

40~ 

30~ 

20 

io" 

0 1985 

H | United States 

| | .Western Europe 

1990 2000 

1 \ Japan | | Developing Nations 

Other Developed 

Nations 

such as fluidized bed combustion and low 

BTU gasification, will hold down the cost of 

compliance with environmental regulations. 

Nuclear power will be the fastestgrowing energy source, rising over 4 percent 

per year, with the most rapid growth during 

the next several years. However, its absolute 

contribution will be less than 20 percent of 

incremental energy supply, far less than previously expected. Once plants currently 

under construction are completed, little 

additional capacity will be added. A combination of high capital costs, low alternative 

fiiel prices, and safety concerns stemming 

from the Soviet reactor accident in April 

1986 will constrain growth in nuclear 

power. 

Hydroelectric and other renewable 

energy sources such as wind and solar 

power will make small contributions to 

incremental energy requirements. With the 

exception of Canada, developed countries 

have already made use of most potential 

hydroelectric sites. Further development of 

Canadian hydro resources will depend on 

availability of a U.S. market for the additional exported power. Developing countries will take advantage of hydro resources 

to provide much-needed power for electrification/modernization. Of course, capital 

constraints could slow development. 

C-eothermal, wind, solar, and biomass will 

continue to play limited roles in world 

energy supply through 2000. 

World Oil Demand 

World oil demand will grow just over 1 

percent per year through 2000 with slightly 

faster growth in developing countries than 

in developed countries. All major products 

will contribute to demand increases. 

World consumption of oil products, shown 

in EXHIBIT 5, will rise from 45 MMBD in 

1985 to 53 MMBD in 2000. Continued 

improvement in the efficiency of oil use, 

expansion of alternative energy supplies, 

and concern over future price increases will 

hold down growth in oil consumption. 

Lower prices will bolster demand, but it will 

take many years to reverse the effects of 

previous high prices, and some changes 

may be irreversible. 

Gasoline consumption over the period 

is expected to increase by l'/2 MMBD, 

limited by (1) continued improvement in 

average vehicle efficiency, particularly in the 

United States; (2) increased consumer taxes 

and higher refining costs (due to the phaseout of lead additives), both offsetting part of 

the impact of lower feedstock costs; and (3) 

market penetration by diesel passenger cars 

outside the United States. 

Demand for middle distillates—kerosene and diesel—will be the fastest growing. Kerosene demand over the period is 

expected to rise by over 1 MMBD. Distillate 

fuel oil, which includes highway diesel and 

heating oils, will increase by 2 MMBD. In 

both cases, transportation use will grow 

faster than heating and cooking applications, 

where natural gas, liquefied petroleum 

gases, and electricity will provide strong 

competition. 

Because of its lower price, residual fuel 

oil will be much more competitive with gas 

and coal in industrial and utility boilers. 

Fuel oil consumption is expected to rise by 

about l'/i MMBD by the year 2000, compared with previous expectations of flat-tbdeclining use at higher prices. 

Other petroleum products, consisting 

primarily of liquefied petroleum gases, 

petrochemical feedstocks, lubricants, and 

paving materials, will rise by nearly 2 

MMBD. In most cases, substitutes for these 

products are limited. 

EXHIBIT 6 displays a regional breakdown of oil demand. Demand in developed 

countries will rise by less than 1 percent per 

year. Increases will be small in Western 

Europe, where ample gas supplies will be 

available. Demand will grow somewhat 

faster in the United States because of limited 

domestic gas availability, and in Japan 

because of higher economic growth. The 

largest gains will occur in developing countries because of rapid growth in population 

and economic output, and a lack of sufficient infrastructure to support massive substitution of gas or coal. 

World crude oil distillation capacity is 

expected to be adequate to meet expected 

product demand. However, additional 

capacity to upgrade the heavy fraction of the 

barrel may be required by the early 1990s. 

World OU Supply 

Non-OPEC production peaked in 1985 and 

will decline steadily as the oil price collapse depresses exploration and development activity. Market shares of OPEC producers with abundant louxost reserves 

will rise dramatically. 

Past increases in non-OPEC crude oil 

production have been an important factor in 

OPEC's loss of market power. High oil 

prices stimulated exploration for new 

reserves and made expensive development 

projects possible. In the United States, 

drilling activity soared to new highs and 

production declines were reversed. OPEC's 

share of world oil supply declined from 59 

percent in 1979 to 38 percent in 1985. 
P.7 

More recently, lower prices have 

caused non-OPEC supplies to decline, and 

this trend will continue. The United States 

will be hardest hit because discoveries are 

smaller on average and have higher unit 

costs. Many ofthe enhanced oil recovery 

(EOR) projects that had been expected to 

sustain output will not be economically 

feasible. Canada and the United Kingdom 

will also experience relatively large production declines. In the near term, only Mexico 

and Norway appear capable of expanding 

produaion significantly. Total non-OPEC 

crude oil production will decline steadily 

from 22'A MMBD in 1985 to 18W MMBD in 

2000. The downward trend will not be 

reversed by the anticipated rapid price rises 

in the 1990s. Moreover, net exports from the 

Communist Bloc will end by the mid-1990s 

as demand rises and supply slowly declines. 

The region is likely to be a net importer by 

2000. 

In conjunction with steady demand 

growth, the decline in non-OPEC supplies 

will lead to rapidly growing dependence on 

OPEC oil, as shown in EXHIBIT 7. OPEC's 

share of supply is expected to reach 60 

percent by 2000, comparable to the levels of 

dependence seen during the 1970s. Furthermore, as EXHIBIT 8 indicates, OPEC 

dominates world oil reserves, and most of 

these reserves are concentrated among the 

Middle East members. As OPEC production 

expands, OPEC producers outside the 

Middle East will reach capacity, leaving 

incremental supply requirements to the 

Middle East exporters. By the mid-1990s, 

their produaion will also approach current 

capacity. At the same time, rising export 

revenues may reduce their desire to boost 

produaion and capacity further, setting the 

stage for a significant price hike. The likelihood of another destabilizing supply disruption will also increase. 

U.S. Energy Supply 

and Demand 

U.S. energy demand will grow 1 percent per 

year. Oil will supply more than half of tbe 

resulting increase in energy requirements, 

while coal and nuclear power together will 

supply tbe remainder. Natural gas use will 

decline slightly. 

U.S. energy intensity will decline 2 percent 

per year from 1985-2000. Despite lower oil 

prices, average energy efficiency will rise as 

(1) new capital equipment and struaures 

require less energy than the existing stock, 

(2) cogeneration increases, and (3) the 

economy continues to shift toward less 

energy-intensive services and light 

manufaauring. 

EXHIBIT 7 

Sources of World Oil Supply 

1985 

United States 

2000 

Other Non-OPEC OPEC 

EXHIBIT 8 

Shares of Proved Oil Reserves 

Middle East—OPEC g ^ United States 

Other OPEC I 1 Other Non-OPEC 
P.8 

EXHIBIT 9 

U.S. Energy Supply 

(Million Barrels Per Day Oil Equivalent) 

50 

40 

30 

20 

10 

0 1973 

H I OU 

| | Natural Gas 

1979 1985 

r " l Coal 

H | Nuclear 

1990 2000 

1 I Hydro & Other 

EXHIBIT 10 

U.S. Natural Gas Supply & Demand 

(Trillion Cubic Feet) 

25 

20~ 

IT" 

10 

5~ 

(T 1973 1979 1985 1990 2000 

Existing Domestic Supply j I New Domestic Supply H I Imports 

EXHIBIT 9 depicts the future pattern of 

US. energy supply. Oil will make the largest 

contribution to incremental US. energy 

requirements. Utility and industrial oil 

demand will increase through rising utilization of capacity currently idle and through 

switching from natural gas. 

Natural gas use will trend downward as 

prices low enough to be competitive with 

fuel oil do not permit development of 

adequate reserves to hold supply steady. 

Coal use will increase slowly, mainly in 

existing utility capacity. Nuclear energy will 

increase rapidly through the late 1980s as 

the last ofthe plants under construaion are 

completed. Afterward, nuclear energy output will trend down as no new plants are 

anticipated. 

U.S. Natural Gas 

U.S. natural gas demand will drop as the 

initial impact of lower oil prices is felt. 

However, drastically reduced drilling will 

cause supplies to shrink and will eliminate 

tbe present surplus by tbe late 1980s. 

Falling oil prices, weakness in the manufacturing seaor, and new nuclear generating 

capacity will cause industrial and elearic 

utility gas demand to fall in the near term. 

Gas demand is expeaed to stabilize at 

lower levels within the next few years, with 

continued weakness in boiler fuel and feedstock markets offset by development of 

markets including combined-cycle electric 

generating capacity, industrial and commercial cogeneration, and co-firing with coal to 

meet environmental standards. 

Low prices will discourage gas well 

drilling, causing the gas surplus to shrink. 

EXHIBIT 10 indicates the likely outlook for 

gas markets, including the timing ofthe 

requirement for new domestic capacity. Gas 

prices, currently depressed by lower oil 

prices and excess gas supplies, will eventually recover, stimulating the increased drilling needed to provide this capacity. Imports 

will also increase, maintaining adequate gas 

supplies and moderating the rate of increase 

in prices. 

U.S. Coal 

Demand for US. coal, including net 

exports, will rise by I1/, percent per year 

to over 1.1 billion tons by 2000. The electric utility sector will remain coal's principal market, accounting for over threefourths of coal output. 

Electricity demand growth of only 1 Vi percent per year, the completion of nuclear 

construaion programs, and growth in 

cogeneration and power imports will limit 
P.9 

growth in the use of coal in the key utility 

market. As EXHIBIT 11 indicates, coal's 

share of electricity supply will decline 

slightly. Relatively little new coal-fired 

capacity beyond what is already under construaion will be needed by 2000. Utilities 

will minimize capital-intensive generating 

projects by purchasing power, installing gas 

turbines or combined-cycle units, or managing load more efficiently. Utility coal bum 

will rise by only Vi percent per year through 

1990 as nuclear generation grows rapidly. 

Growth in coal use will accelerate to 2 percent per year during the 1990s. 

EXHIBIT 12 displays the outlook for 

coal demand by seaor. Industrial steam coal 

consumption will rise a little more than 2 

percent per year, lagging behind growth in 

industrial produaion. Clean coal combustion technologies will permit cost-effeaive 

attainment of emission standards and give 

coal users greater flexibility in choosing 

supply sources. These technologies will 

help boost coal consumption, particularly 

when oil and gas prices rise during the 

1990s. Metallurgical coal demand will 

decline, however, due to lower raw steel 

output and more electric arc furnace steel 

produaion. 

US- coal exports will decline slightly 

from 1985-90. World coal demand will be 

constrained by lower oil prices, increasing 

nuclear capacity, and slow growth in steel 

produaion. In addition, coal produaion 

capacity outside the United States is expanding. During the 1990s, rising world coal 

demand will allow U.S. exports to increase. 

Steam coal exports will grow by 5 percent 

per year, while metallurgical coal exports 

gradually decline. 

U.S. Nuclear Power 

U.S. nuclear electricity generation will 

increase 9 percent per year from 1985-90 

before declining gradually during tbe 

1990s. 

Completion of plants still under construction will lead to rapid growth in nuclear 

generation during the second half of the 

1980s. However, high capital costs, long 

lead times, low oil prices, and environmental opposition will thwart further expansion 

of U.S. nuclear capacity. As existing plants 

age, capacity faaors are likely to decline, 

leading to lower generation during the 

1990s. 

U.S. OU Demand 

U.S. oil demand will grow by more than 1 

percent per year from 1985-2000, rising by 

over 3 MMBD. Consumption of all products will increase, with residual fuel oil 

experiencing tbe largest gain. 

EXHIBIT 11 

Shares of U.S. Electricity Supply 

1985 

Natural Gas 

Coal 

Nuclear 

2000 

I 1 Hydro and Other 

EXHIBIT 12 

Demand for U.S. Coal 

(Million Short Tons) 

1,250 

1,000 

750 

500 

250 

1985 

Electric Utility 

Industrial Steam 

1990 

Metallurgical 

Other Domestic 

2000 

| | Net Exports 
P.10 

EXHIBIT 13 

U.S. Oil Product Demand 

(Million Barrels Per Day) 

2?) 

15 

10 

1985 

I H Motor Gasoline 

I I Kerosene Jet 

EXHIBIT 14 

1990 2000 

Distillate I I Other 

Residual Fuel OU 

U.S. Petroleum Industry Upstream Capital Requirements 

(Billion Dollars) 

60 

40 

20 

0 1973 1979 

•- To Maintain Production 

1985 

Projected Spending 

1990 

US. oil demand will increase from 157 

MMBD in 1985 to 19.0 MMBD in 2000, as 

shown in EXHIBIT 13. Gasoline demand 

will rise as lower prices not only spur 

increased driving but also slow efficiency 

gains. Strong gains in the transportation sector, offsetting continued weakness in heating oil, will boost distillate fuel oil demand 

Lower oil prices will have the largest 

impaa on residual fuel oil demand, which 

will nearly double. By 2000, fuel oil will win 

back from natural gas much ofthe dualfueled industrial and utility boiler market 

that it lost after the second oil price run-up. 

Other products, including liquefied 

petroleum gases, petrochemical feedstocks, 

and asphalt, will grow about 1 percent per 

year. 

U.S. Oil Supply 

U.S. crude oil production will fall by 2V. 

percent per year from 1985-2000, resulting 

in a decline of 3 MMBD. Natural gas 

liquids output will also fall. Net oil 

imports will rise from just over 4 MMBD 

in 1985 to nearly 11 MMBD in 2000. 

The decline in U.S. exploration and development expenditures that has followed the 

collapse of oil prices will have a severe 

impaa on domestic oil output. Reduaions 

in lease acquisition and drilling costs will 

not be sufficient to restore incentives to 

drill. As a high-cost produaion area, the 

United States will suffer the brunt of any 

cutback in capital budgets. In Alaska, new 

field development will not be sufficient to 

offset declines in the giant Prudhoe Bay 

Field that are likely to begin in the late 

1980s. Lower-48 output will decline as drilling is insufficient to replace reserves. Furthermore, many thousands of high cost 

wells have already been shut down because 

ofthe price decline. Few new EOR projects 

are likely to be economic, and the synthetic 

fuels program has ground to a halt. Over the 

long term, significant contributions to 

domestic supply will require exploration of 

frontier areas and the development of new 

produaion technology. However, both activities will be scaled back as a result ofthe 

price collapse. 

As oil demand rises, U.S. requirements 

will have to be met with higher imports. 

Crude oil and produa imports will increase 

from 26 percent of demand in 1985 to 41 

percent in 1990 and 56 percent in 2000. 

Furthermore, the bulk ofthe increase in 

imports is likely to come from regions 

vulnerable to supply disruptions. From the 

standpoint of energy security, this trend 

represents a significant backward step to the 

conditions ofthe early and mid- 1970s. 

Capital Requirements 

U.S. investment in oil and gas exploration, 

development, and production will be well 

below tbe S200 billion needed to stabilize 

production through 1990. 

The investment required to maintain U.S. oil 

and gas production has declined due to 

lower drilling and land costs. However, as a 

result of lower prices, the funds available for 

investment have fallen even faster. Sharply 

reduced expectations for the profitability of 

new projects also are depressing spending. 

EXHIBIT 14 indicates that approximately 

$200 billion would have to be invested in 
P.11 

U.S. oil and gas exploration and produaion 

(the "upstream" seaor) through 1990 to 

keep output at 1985 levels. The dotted line 

on the graph shows anticipated investment 

through 1988, according to a recent survey. 

Given lower revenues, reduced price expectations, and increased capital demands 

from refining and transportation due to 

higher oil consumption, upstream spending 

will fall far short of recent levels. The large 

and widening gap between the two lines 

implies that U.S. oil and gas produaion will 

decline steadily. 

Alternative Scenarios 

As indicated earlier, uncertainty about tbe 

future course of oil prices complicates 

government policy formation as well as 

investor decision making. One way to deal 

with tbe uncertainty is to consider alternative futures that bracket tbe likely 

outcome. 

Low- and high-price alternatives to the midrange price path appear in EXHIBIT 1 on 

page 2. These alternatives are intended to 

provide reasonable lower and upper 

bounds, rather than to cover every possible 

price outcome. 

Comparisons ofthe prospects for world 

reliance on OPEC and U.S. import dependence under the alternative price scenarios 

appear in EXHIBIT 15. These indicators 

were seleaed because they provide measures of energy security. However, they also 

indicate the considerable impaa price 

changes eventually have on supply and 

demand 

In the low-price scenario, prices fall to 

the $10-112 per barrel range for several years 

as exporters fail to manage surplus capacity. 

Growth in oil demand and declines in nonOPEC supply accelerate, leading to greatly 

increased reliance on OPEC and upward 

price pressure. If OPEC either cannot or will 

not expand capacity to supply the huge 

volumes required by 2000, prices will have 

to increase much raster (as indicated by the 

arrow in EXHIBIT 1), leading to yet another 

destabilizing oil-market cycle. If OPEC does 

expand capacity to meet demand at lower 

prices, it will control three-fourths of world 

oil supply by 2000, and U.S. oil imports will 

reach 15 MMBD. 

In the high-price case, mutual recognition by OPEC members ofthe need for 

cooperation causes renewed produaion 

restraint, and prices quickly rebound above 

$20 per barrel. Following several years of 

increase with inflation, prices rise steadily in 

real terms through 2000. World and U.S. oil 

demands are lower as a result ofthe higher 

price level. Non-OPEC supplies are higher 

than in the mid-range case, but still decline 

EXHIBIT 15 

Comparison of Alternative Scenarios 

OPEC Share of World Oil Supply a, U.S. OU Import Dependence 

8) 

1985 1990 

| | Low Range 

2000 1985 1990 

I Mid Range 

2000 

High Range 

from current levels. Required OPEC production expands to 27 MMBD, straining existing 

capacity. Even in the high-price case, world 

reliance on OPEC and U.S. reliance on oil 

imports both rise to over 50 percent of total 

supply. 

Clearly, energy security will once again 

become a front-burner issue during the 

1990s. Because ofthe long lead times typically required to bring new produaion 

onstream, steps aimed at preventing the 

next energy crisis must be taken now. 

Policy Implications 

Although lower oil prices may be beneficial 

to the U.S. economy, increased reliance on 

oil imports by the United States will reduce 

the nation's energy security. Much ofthe 

aaual vulnerability arises not from imports 

per se but because a large and growing portion ofthe world's oil supply is concentrated in a few countries where the risk of 

supply disruption is significant This trend 

cannot be entirely avoided, but certain 

governmental aaions can reduce U.S. 

energy vulnerability. 

In the past, direa government intervention in energy markets has led to economic 

distortions and inhibited attainment of a 

secure domestic energy supply. Therefore, 

initiatives such as the imposition of import 

fees on crude oil and petroleum products 

should be avoided In addition to reducing 

U.S. economic aaiviry and impairing the 

ability of energy-intensive domestic industries to compete in world markets, a policy 

limited to U.S. energy self-sufficiency 

ignores the realities of our economic and 

political relations with allied countries that 

are also dependent on energy imports. 

Clearly, the most direa method of 

improving the energy security of the United 

States and its allies is to develop surge 

capacity that can replace disrupted oil supplies. The U.S. Strategic Petroleum Reserve 

currently contains approximately 500 million barrels of crude oil. The targeted level 

of 750 million barrels should be achieved as 

quickly as is fiscally responsible. In addition. 

we should encourage our allies to develop 

similar petroleum inventory policies. In the 

event of a petroleum emergency, these 

supplies should be allocated by an auction 

system that relies on free market forces. 

However, additional U.S. government 

policies are needed to remove impediments 

to the efficient funaioning of energy 

markets. The nation's short- and long-term 

energy needs will be enhanced if the following policies are adopted: 

Assure a tax environment that does 

not discourage development of domestic energy reserves. 

The federal income tax system is undergoing a comprehensive overhaul. Proposed 

"tax reform" legislation would reduce the 

10 
P.12 

incentive to invest in new plant and equipment, including the equipment necessary to 

develop domestic energy reserves. Furthermore, uncertainty about future taxation will 

not end with enactment of a bill. There 

remains the possibility that the energy 

industry will be targeted as a source of 

revenue to reduce the federal budget deficit 

Moreover, many believe that petroleum 

refiners should bear a disproportionate 

share ofthe responsibility for supporting 

federal and state superfund programs. 

Adding to the industry's tax burden would 

be especially damaging given the current 

depressed state of energy markets. Investment in new reserves would be discouraged, 

and technological advances so vital to 

maintenance of a healthy domestic petroleum seaor would be impaired 

Federal and state tax policies should 

avoid discouraging investment by the U.S. 

energy industry by following these 

guidelines: 

• Avoid the enactment of new federal or 

state taxes on the energy industry. 

Additional revenue needs should be 

satisfied through broad-based taxes on 

consumption. 

• Provide adequate cost recovery for tangible capital and intangible drilling and 

development costs. The distortion of 

investment incentives can be minimized 

through a system diat allows the immediate expensing of all exploration, development, and production investment 

outlays. 

• Reduce state and local severance and ad 

valorem taxes on oil and gas produaion. 

• Repeal the Windfall Profit Tax (WPT). 

Now is a particularly good time for repeal, 

since the WPT currently collects no 

revenue, but still imposes a heavy 

accounting burden on the oil industry. 

Remove existing restrictions on energy 

markets. 

Historically, price controls and other 

government restriaions on the operation of 

energy markets have created hardships for 

consumers. When energy prices have not 

been allowed to attain market-clearing levels, overconsumption and reduced exploration aaivity have resulted In a period of 

price weakness, continuing market restraints 

will accelerate the rise in U.S. dependence 

on foreign energy sources. The long-term 

interest of the industry and the public 

would be best served by removing the 

remaining government market restraints. 

The following specific actions would result 

in more balanced energy markets: 

• Deregulate natural gas wellhead prices. 

The Federal Energy Regulatory Commission has adopted a rule that raises the 

price ceilings on some categories of "old" 

gas. This regulation may enable recovery 

of additional volumes of low-cost gas for 

consumers that would otherwise not be 

produced However; comprehensive legislation that would eliminate price controls, 

provide open access to natural gas transportation, and remove natural gas 

demand restraints is needed 

• Lift the prohibition on the export of Alaskan crude oil. Restrictions on the export 

of oil from Alaska's North Slope depress 

the value of Alaskan crude at the wellhead, reducing exploration and development of Alaskan reserves. Although 

exporting Alaskan oil might increase U.S. 

imports in the short run, it could reduce 

worldwide dependence on uncertain 

supplies from the Middle East. Furthermore, to the extent that new Alaskan 

reserves are developed more US. domestic supplies would be available in the 

event of an oil supply shortfall. 

Enhance opportunities for development of ILS. mineral lands. 

Policies that preclude the leasing of prospeaive oil and gas lands without regard to 

their petroleum potential are inappropriate, 

particularly considering the potential for 

future supply shortfalls. Large djscoveries 

are most likely to occur in frontier areas 

where development is difficult and requires 

long lead times. Immediate acreage access 

is needed to ensure that these reserves are 

available in the future when oil supplies are 

not so abundant The federal government 

already imposes leasing prohibitions on 

approximately 280 million aaes onshore 

and tens of millions of aaes offshore. Some 

ofthe acreage foreclosed to leasing has high 

potential. Access to such quality prospects 

can be preserved if the following policies 

are adopted: 

• Exempt lands that have outstanding petroleum potential from leasing prohibitions. 

Reasonable access is needed to ensure 

the maximum contribution to our longterm energy security. 

• Avoid unduly inhibiting the exploration 

stage of petroleum investments through 

new environmental planning mandates. 

• Recognize the marginal economics of 

vital (but high-cost) OCS frontier and 

deepwater exploration by reducing the 

minimum bid levels for OCS tracts in 

these categories. 

• Adjust lease terms to accommodate 

changing economic circumstances by 

reducing royalty rates, adopting profitsharing alternatives to conventional royalties, extending lease terms, or through 

other measures that can help sustain 

important exploration and development 

in the face of short-term cash constraints. 

Ensure that excessive environmental 

regulations do not needlessly inhibit 

Industry activity. 

Oil and gas produaion in the United States _ 

is governed by a set of state and federal regulations adopted to serve various safety and 

environmental policies. At lower oil prices, 

regulatory compliance costs can make 

development of some reserves uneconomic, 

heightening the probability that more 

cheaply produced foreign oil will supplant 

U.S. sources. 

Federal and state agencies need to balance existing environmental and safety goals 

with the nation's energy security requirements. A carefully considered program of 

regulatory relief for the U.S. energy industry 

should include, among other aaions, the 

following steps: 

• Explicitly confine state authority under 

the Coastal Zone Management Aa to OCS 

aaivities direary affeaing state lands and 

waters. Attempts to extend state authority 

have led to extensive delays and subjugated national interests to parochial 

state concerns. 

• Maintain existing discharge limitations for 

offshore oil exploration and production 

wastes, rather than requiring underground 

injeaion or other costly disposal 

methods. Current waste treatment prac 

tices adequately protea the offshore 

environment, and are at least as stringent 

as those followed by other producing 

nations. 

• Provide relief from regulations requiring 

prompt, permanent plugging of wells shut 

down in response to petroleum price 

fluauations. Once marginally productive 

wells are plugged, it is often uneconomic 

to restart them, meaning that valuable 

reserves may be permanently forfeited. 

Under current economic conditions, oil 

producers need the flexibility to be able 

to shut in wells for longer periods when 

lower prices dictate. 

It is especially critical in the current market 

environment that short-sighted government 

policies do not add to uncertainty or nullify 

incentives to invest in domestic oil and gas 

supplies. By following the policy prescription discussed above, the United States can 

avoid inefficient development of its energy 

resources and minimize the risk of excessive dependence on foreign oil. 

11 
P.13 

Prepared by: 

Coordinating and 

Planning Department 

Conoco Inc. 

For additional copies, write to: 

Public Relations Department 

Conoco Inc. 

1007 Market Street 

Wilmington, DF. 19898