How to Get a Breakthrough in Ukraine
The Case Against Incrementalism
In the next five to ten years, the industrial world's demand for oil from the Organization of Petroleum Exporting Countries is likely to catch up with the amounts that OPEC countries will be able or willing to make available for export. The leading oil exporter, with more than a fourth of the world total, is Saudi Arabia; the world's largest consumer of oil—and since the lifting of import quotas in the spring of 1973 its leading importer—has been the United States. At what exact point the ascending curves of global demand for oil imports and of available OPEC exports will intersect will therefore depend in large measure on policies adopted by the United States in the next year or two, and by Saudi Arabia in the next five to ten.
The third major variable will be the rate of the industrial world's recovery from its 1973-75 recession, itself partly dependent on American and Saudi policies from year to year. But whenever the demand and supply curves do intersect, or approach their point of intersection, there is serious danger of physical shortages of oil throughout the non-communist world, of a second price jump comparable in amount to that of 1973-74, and of a series of confrontations not only between the United States and Arab oil-exporting countries but also between the United States and its allies in Western Europe and Japan.
Forecasts of future oil supply and demand in industrial countries drawn up under the immediate impact of the 1973 crisis have since been recognized as far too optimistic. Consumers have done little to curtail their use of energy in response to high prices; governments have been laggard in enforcing conservation, and irresolute in promoting the development of alternatives to oil; coal and uranium have risen in price; and the Alaska pipeline, construction of nuclear power stations, and offshore drilling programs have all encountered numerous delays. Even the more cautious recent estimates, however, still concentrate chiefly on trends and policies within consuming countries. Typically, they predict overall economic growth rates, costs of alternative energy sources, and the likely impact of actual or potential government policies in the United States, Western Europe, and Japan; calculate the expected excess of energy demand over supply within the countries represented in the Organization for Economic Cooperation and Development (OECD); deduct minor amounts representing oil exports of China, Mexico, and other non-OPEC oil countries; and enter the residual amount for 1980, 1985, or 1990 under a rubric labeled "oil imports required from OPEC."
Such an approach implies a remarkable blindness to events since 1973, one lesson of which is surely that major OPEC countries, together or in various subcombinations, have emerged as independent actors on the world scene. This article, therefore, rather than treating OPEC exports as a residual item to be inferred from demand and supply in OECD countries, will examine in some detail the economic interests of individual OPEC members, and more particularly the past and likely future oil policies of Saudi Arabia, as OPEC's leading member. In short, it will reject the comforting assumption that imports from OPEC will somehow fill the gap between energy demand and supply in industrial countries. Rather, it will argue that the gap between aggregate future demand, on the one hand, and OECD internal supplies plus imports from OPEC, on the other, must be reduced and filled by vigorous new policies of conservation and energy development in all consumer countries, and particularly in the United States.
Relations between the two chief protagonists of the oil drama of the 1970s and 1980s—the United States and Saudi Arabia—have been based on a long-standing tradition of friendship. Saudi Arabia is the only major OPEC country with oil resources that have been developed wholly by American companies. While Britain and Iran in the early 1950s were deadlocked in a bitter dispute over nationalization of the Anglo-Iranian Oil Company, ARAMCO (The Arabian-American Oil Company) and Saudi Arabia introduced to the Middle East the principle of "50-50" profit-sharing between governments and companies. Two decades later, as Iraq, Algeria and Libya proceeded once again (and under more favorable circumstances) to unilateral nationalization, Saudi Arabia instead promoted the device of gradually increasing government "participation." More recently, since mid-1974, Saudi Arabia has repeatedly restrained OPEC's price hawks, keeping increases in the global price of oil roughly in step with world inflation; conversely, the United States has been willing to supply major consignments of the most modern weapons to the desert kingdom. But Saudi Arabia's initiative in wielding the Arab "oil weapon" against the United States in the fall of 1973, and Secretary Kissinger's hint a year later that the use of "force" against oil-producing countries could not be ruled out—in a future "grave emergency" "where there is some actual strangulation of the industrial world"—indicate the potential for serious conflict beneath the placid diplomatic surface.
Whether American-Saudi relations in the coming decade will turn toward cooperation or confrontation will depend in part on the further evolution of the Arab-Israeli conflict. More crucially, it will depend on the measures that the new Administration will be able to devise—and Congress and the American public will be willing to support—to reduce our ever-growing dependence on imported oil.
No one can predict with any assurance or precision the levels of energy use, oil consumption, and demand for oil imports for which non-communist countries are headed in the 1980s. The quintupling of oil prices in 1973-74 aggravated the world recession that had begun somewhat earlier, and it is hard to tell how much of the subsequent drop in demand has been due to price elasticity (that is, energy savings and substitution due to consumer resistance to soaring prices) and how much to the worldwide slackening of employment, investment and trade. World consumption of oil declined for the first time in a quarter century, from 47.8 mb/d (million barrels a day) in 1973 to 45.1 mb/d in 1975, and responsible economists attribute most of this decline not to price but to recession. (Correlating monthly figures for global oil trade with indexes for the business cycle does not resolve the issue, since factors such as the replenishing of oil storage tanks after the embargo or before expected OPEC price rises in October 1975 and January 1977 intervene.) Before 1973, the industrial world's energy consumption and its gross domestic product rose at the same rate. The consensus among experts now is that this ratio or "energy coefficient" in the future is likely to fall somewhat—from 1.0 to roughly 0.9 if conservation and substitution measures lag and to as low as 0.8 if they are pursued with vigor and success.
Three further caveats are in order. The first is that for the United States reduced energy consumption (the 1975 figure was about five percent below that for 1973) has not meant reduced dependence on OPEC imports. Our domestic production of oil and natural gas has declined since the early 1970s, coal production has remained unchanged, nuclear capacity has expanded somewhat, and oil imports from Canada have been phased out year by year. The net result has been that U.S. oil imports have risen from 4.7 mb/d in 1972 to 6.8 mb/d in the first half of 1976, with, incidentally, a marked shift within that total from non-Arab to Arab sources.
The second caveat is that seemingly minute variations in economic growth or in the rate of energy consumption will mount exponentially over the years: a growth rate of 5 percent with an energy coefficient of 1.0 means that consumption will rise by 63 percent in a decade; 4 percent growth and an 0.9 coefficient will mean a rise of 42 percent; and a 3 percent growth rate and an energy coefficient of 0.8 imply a rise of only 27 percent. On the basis of calculations such as these, the OECD's current projection is that member countries will need to import a total of 30.0 mb/d in 1980, as against 25.3 mb/d in 1974. By 1985 OECD's need for imports from OPEC may drop slightly to 24.4 mb/d, or go up as high as 38.8 mb/d, depending on energy policies pursued by major member countries and on the prevailing growth rate in industrial economies.
We shall return to these figures and the assumptions behind them in a later context. But one point should be emphasized which the OECD, and its affiliate, the International Energy Agency, as multilateral organizations representing a score of countries, tend to be cautious in spelling out: the major single factor making for this considerable spread—and hence the major factor that will either precipitate or avert a major crisis between OECD countries and OPEC in the 1980s—is the policies with regard to conservation, encouragement of oil production, and development of substitutes which the world's most voracious energy consumer, the United States, will or will not implement in the next decade.
The third caveat concerns a widespread misapprehension about the North Sea and Alaska. North Sea oil is likely to make Great Britain independent of OPEC imports by the early 1980s. It has already made Norway into an exporter of some significance, and will increase its exports to the level of one of the lesser members of OPEC in the next decade. Oil from Alaska, once it starts flowing, will temporarily make up for the decline in oil production elsewhere in the United States and, also temporarily, delay our need for increased imports. But the 2 mb/d or so that will flow from Alaska by 1980 are exactly equivalent to the rise of U.S. oil imports in the past four years.
For the OECD area as a whole, the North Sea and Alaska together will delay any given level of import dependence by perhaps three or four years; absent other factors, they will not stop the growth of that dependence. As far as the need for oil imports is concerned, we have to run very fast to be standing still. To keep to a steady, let alone to a declining, rate of imports, the oil companies would have to discover another North Sea and Alaska every two or three years—or rather, since development of such fields takes a decade or more, to have kept on discovering them at that rate ever since the mid-1960s. As things are, the North Sea and Alaska offer to the oil needs of the industrial world not a cure but a mere reprieve.
Forecasts of how much oil will be available from OPEC to meet the growing demand of industrial countries are rarer and even more tenuous than those of demand. Too many Western observers still are caught in a "bygone view of the capacity of leaders in less-developed countries," and thus fail to analyze seriously the national interest of OPEC's member-states or their individual and collective decision-making processes. Or else they tend to ask what is to be done before raising the prior question what is happening to us. By the Tehran and Tripoli agreements of 1971, the OPEC countries won the right to determine unilaterally the price they would ask for their exports and the rate at, and conditions under, which their subsoil resources would be exploited. Their move has gone unchallenged since that time and been accepted by the world at large. Taking advantage of a variety of circumstances, they have converted those abstract rights of sovereignty into concrete gains of about $100 billion a year. Therefore, it is not enough to calculate, as is often done, the amount of "imports required from OPEC" on the basis of projections of OECD consumption and domestic production of energy. Rather, it becomes imperative to examine what motives and considerations will determine the amounts of oil that countries such as Libya, Kuwait, Venezuela, Iran, Iraq, and above all Saudi Arabia will allow to be extracted from their subsoil and offered to the world market in the 1980s.
The classic cartel of the economics textbooks, formed usually by private firms, sets a ceiling to overall production, allocates each member's share within that total, and sits back to watch prices rise in response to this deliberate curtailment of supply. A variant is the "basing point" system, which in effect divides the market into geographic fragments within each of which one producer or group of producers becomes a monopolist. OPEC—a limited-purpose association not of firms but of newly sovereign governments—after a decade of experimentation, hit upon a further improvement of cartel technique. It has never set a ceiling on overall production or allocated production shares among members. Rather, it unilaterally began to set the cartel members' revenue per unit of production (82 cents per barrel in 1960, 95 cents in 1970, $2.27 in 1973, and $10.09 in 1975) - which, after all, is the very purpose of the cartel exercise. At first the market continued to expand rapidly despite rising unit income (production rose from 22.1 mb/d in 1970 to 30.8 mb/d in 1973). Then, after the five-fold price increase of 1973-74, production declined somewhat in 1975 and rose again slowly in 1976—but aggregate revenue for OPEC as a whole, and for most of its individual members, continued to increase year by year: $22.5 billion in 1973, $90.5 billion in 1974, $93.3 billion in 1975, and around $117 billion in 1976. All of this clearly indicates that OPEC has not yet reached its short-term maximum profit—that magic level where elasticity equals 1 and where every rise in price is offset by a more than equivalent drop in sales.
Although OPEC as such has never limited aggregate production or parceled out allowable shares, its Arab members, with the exception of Iraq, cut production by as much as 26 percent while wielding their "oil weapon" against the United States and certain other countries; and it was the anticipation of shortages and the resulting panic in the petroleum market that set the stage for the dramatic price rises instituted by all OPEC members subsequently. Before and after the Arab embargo, the limitation of production has been left to individual countries, and 6 of 13 OPEC members have exercised that option. Yet only in Venezuela, Kuwait, Abu Dhabi (the leading producer of the United Arab Emirates), and Qatar has the imposed legal limit actually curtailed the amounts that would otherwise have been produced. Elsewhere it is still the network of multinational oil companies (as production concessionaires until the early 1970s and since then, in effect, as contractors and guaranteed bulk purchasers of most of OPEC's oil) that have adjusted weekly and monthly production levels in the light of government-set revenues per barrel, production costs, differential qualities of crude, transportation costs, and world demand at given prices.
OPEC governments and oil companies have similarly cooperated in programs of exploration and development of new fields, although here it has been the governments that have made the crucial decisions. Nor is this surprising; for with most OPEC countries having a production to "proven reserves" ratio of 30 to 100 years, there is no commercial incentive to spend money so as to enlarge what Professor M. A. Adelman has called the "shelf inventory" of the industry. And the high government charges on OPEC oil have been a further disincentive, so that most exploration in recent years has concentrated on the offshore and Arctic areas of OECD countries or on Third World countries that are not yet members of OPEC.
At least five sets of data are directly relevant in forecasting the supplies of petroleum that will be available from OPEC to the rest of the world: past levels of production, legal limits on production, installed capacity, "proven reserves," and additional oil resources, the existence of which may be inferred from geological studies.
I have put "proven reserves" in quotation marks, because, of all these data, they are the least reliable. Available figures are based on published estimates by companies, or more recently by governments, which may have good reasons for estimating cautiously or generously. For instance, a company may wish to put its competitors off the scent of a promising new find or to ward off governments eager to tax or to nationalize; or a government may wish to enhance its stature within OPEC or in world oil councils. Above all, reserves are "proven" by systematic drilling, and here the same factors of caution or generosity apply. So does the cost factor: it rarely is worth the expenditure simply to prove that you have reserves amounting to, say, 50 rather than 25 years of current production. Although a production to reserves ratio can readily be calculated (e.g., 58 years for Saudi Arabia; 11 years for the United States) it should not thus be assumed—unless exploration has been exhaustive and drilling for "proving" complete—that the country after the given number of years will run dry. Finally, all reserve estimates refer to "recoverable" reserves, and what amounts are economically recoverable depends on prices and technology, two factors subject to future variation.
Three examples will illustrate the economic and political considerations that enter into the decision to prove reserves and to set amounts of production. When the Iranian oil industry was shut down in 1951-54 as a result of the nationalization dispute between BP (British Petroleum) and the Mossadeq government, exploration in other Persian Gulf countries was stepped up intensely by the companies, and in three years 25 times as much oil was added to "proven reserves" as had ever flowed from the fields in Iran. The increases were most dramatic in Saudi Arabia, where four of BP's competitors shared the concession, and in Kuwait where BP itself held a half share. It was this drilling program (and accompanying increases in production) that enabled the companies to frustrate Mossadeq's nationalization attempt.
The second example concerns Iraq, where exploration activity came to a virtual halt when the government was taken over in 1958 by radical and later distinctly pro-Soviet juntas. Iraq responded by expropriating vast concession areas where no drilling had in fact occurred—and in the following years, the claims of proven reserves increased substantially.
The third example is from Iran, where a dispute developed in the mid-1960s between the Shah's government, which wanted to increase revenues (and hence production for export), and the multinational oil consortium, the senior partners of which preferred to produce in Saudi Arabia or Kuwait (where they alone controlled the concessions) rather than in Iran, where a dozen or so smaller competitors were entitled to their share of consortium production.
The factors that have prompted OPEC governments since 1971 to make their own decisions on pace of exploration and rates of production relate to geology, economics and politics. Some governments, such as Iran and Algeria, have pushed exploration and have been eager to secure maximum revenues (and hence production) without breaking the common OPEC price structure. Both countries have relatively diversified economies whose growth they are eager to advance; hence they have been among OPEC's price hawks, and even in the recent slack market have produced at about 85 percent of their respective capacities. Iran, when its oil production declines in the future, expects to receive additional large revenues from its ample gas deposits. Libya, with a diminutive population, few opportunities for economic development outside of oil, and a large foreign exchange reserve, has limited production from some fields so as to prevent a drop in pressure that would reduce total ultimate rates of recovery. Kuwait, inheriting vast proven reserves from the concessionaire companies (82 years of current production), has successively limited output since 1972. Its small population already enjoys a high, welfare-state standard of living, and its imports (in 1975) amounted to just over a quarter of the value of its exports. Presumably, Kuwait therefore prefers keeping much of its oil underground rather than converting it into even larger (and possibly quickly depreciating) reserves of foreign exchange.
Venezuela boasts the highest literacy rate and the highest level of overall economic development of any OPEC country. Here, as in Libya, production has been limited for reasons of conservation to such amounts as can be lifted without having to flare off associated gases. Even at these reduced rates, Venezuela earns about twice as much from its exports as it spends on imports, and its exchange reserves amount to another 10 months of current imports. But Venezuela has been a sizable exporter for longer than most OPEC countries (production began in 1917), and at current rates the reserves to production ratio is 17 years. In addition, Venezuela has vast amounts of "heavy oil" in its Orinoco tar sands belt, estimated at more than 300 times the amount of production from the presently exploited oil region. Sometime in the next decade, Venezuela will have to decide when and how to develop these additional hydrocarbon resources in an inaccessible and virtually uninhabited area.
OPEC's key member, of course, has been Saudi Arabia. The Saudis, as we saw, became the world's leading exporter of oil as a result of policies adopted in the 1950s and 1960s by the four American companies that were the joint owners of the ARAMCO concession; it was this expansion of Saudi and other Middle Eastern supplies that fueled the dramatic postwar recovery and economic expansion in Western Europe and Japan. When the Saudis themselves began to take things in hand in the early 1970s, they undertook the first phase of a massive additional drilling program which enhanced their production capacity even further. (In the first half of 1976, Saudi production averaged 8.2 mb/d while installed capacity was estimated at 11.8 mb/d; this meant that their excess capacity was more than two-thirds of Iran's production and more than the total production of any one of OPEC's other 11 members.)
In 1973 and 1974 the Saudis took the lead—or in some instances at least willingly participated—in the dramatic price increases that raised the government revenue on each barrel of their "marker crude" from $1.77 in early October 1973 to $3.05 at the time of the Yom Kippur War, and $9.69 by mid-1974. For the Saudis the result was a rapid accumulation of foreign exchange reserves: from $662 million in 1972 to $24.6 billion in mid-1976—the latter figure being two-thirds that of West Germany and about one and a half times that of the United States or Japan.
High rates of oil production for export, a substantial excess capacity, and mounting foreign exchange surpluses thus have laid the solid foundation for Saudi Arabia's oil policy in recent years. That policy has its economic and its political aspects, and may be summed up under five headings.
1. Price Moderation. The Saudis since 1974 have spent less than one-third of their annual export earnings on imports, and the resulting accumulations of foreign reserves give them a tangible stake in preserving the health of the major industrial economies on which the continued value of their foreign assets depends. Hence, from about the middle of 1974, the Saudis have opposed any pressure from OPEC's price hawks for price increases in excess of the global rate of inflation. Their action at Qatar, in December 1976, raising their own price by only 5 percent, as against the 10 percent immediate rise agreed to by the OPEC majority, is in part a logical extension of that policy.
2. Preventing a Price Break. Their large excess capacity has guaranteed to the Saudis the all-important role of regulator of the OPEC cartel. All OPEC members share an interest in maintaining the cartel, the reward currently being in the neighborhood of $100 billion a year, and the financial penalty for a breakup a corresponding loss. But, like most group interests, this one is not necessarily self-enforcing, and we saw in the preceding section that the specific economic interests of individual members diverge widely. Kuwait has reasons for preferring oil in the ground to (possibly depreciating) foreign exchange reserves; Algeria, as OPEC's only member with a current trade deficit, on the contrary loses money on any oil that stays in the ground as long as the price does not rise at the combined rate of world inflation plus the average return on investments; and Iran, counting on its gas reserves once the oil runs out, also wants to obtain the maximum current return so as to develop its populous economy. Hence OPEC might well succumb to the common danger in all cartels, of one or another of the cartel members trying to get even larger returns by expanding its market share through hidden discounts. As Professor Adelman has succinctly put it: "Every cartel has in time been destroyed by one then some members chiselling and cheating."
In OPEC's case the ultimate guarantee against such collective financial suicide is precisely Saudi Arabia's spare capacity. Among the price hawks, as we saw, Iran and Algeria have already been producing close to their respective physical limits, their spare capacity being 18 percent for Iran and 16 percent for Algeria; for Indonesia it is as low as 14 percent. This means that if a growing pattern of "chiselling and cheating" were to lead to an all-out price war, and with it to maximum production, all these countries would begin losing money as the price dropped by as little as 14-18 percent, whereas the Saudis could hold out, increasing both production and revenue, until the price dropped by as much as 44 percent.
3. Preventing Excessive Price Rises. The Saudis' implied threat to raise production to their full capacity is just as effective in the opposite direction, that of preventing price increases by other OPEC members that would be substantially or for prolonged periods in excess of the Saudi level. The aftermath of the December 1976 OPEC meeting in Qatar illustrates the point. Eleven members agreed on a price increase of 10 percent as of January 1977 and of 15 percent as of July, whereas Saudi Arabia announced an increase of only 5 percent. (The Saudis were joined by the United Arab Emirates [U.A.E.] which also have a sizable and mounting financial surplus and in any case have been eager to maintain good relations with their powerful neighbor to the south.) If the Saudis and the U.A.E. had been able and willing to shift at once to their maximum reported capacity, this would have resulted in a drop in production in the other 11 OPEC members of about 24 percent, converting a 10 percent price increase into a net loss of 16 percent in their total revenues.
There were, however, several factors to cushion such a drastic effect. First, for technical reasons any substantial increase in production must be phased in over several weeks or even months, and there remained some doubt whether the oil terminal facilities at Saudi ports would be capable of handling the full capacity flow of their fields; indeed, since Saudi production had never before reached more than 9.4 mb/d, some doubt attached even to the widely reported capacity figure of 11.8 mb/d. Second, crude petroleums of various gravities and sulfur contents cannot, in refining and marketing operations, be substituted at will. Since the Saudi spare capacity is chiefly in the heavier grades of crude, it is most immediately competitive with production in Kuwait, Iran and Iraq. And, third, the major oil companies do not feel free to break valid contracts or even to upset established supply relations with a given country, especially since a renewed Arab embargo might make them desperate once again for oil from non-Saudi sources. Hence the major impact of the dual price structure would be felt in that share of the market represented by sales from a government-owned company to the smaller "independent" companies, e.g., the 20 percent or so of Iran's production sold directly by the National Iranian Oil Company. Finally, some doubt remained whether, despite the lifting of their 8.5 mb/d production ceiling, the Saudis meant to go to the maximum, or whether they intended to keep that possibility in reserve in a subtle diplomatic tactic vis-à-vis the United States.
All in all, Iran after the Qatar meeting anticipated a drop in sales of about 10 percent, so that its revenues would remain unchanged (instead of rising five percent as they would have done if all had accepted such a price rise). Indonesia on the other hand—presumably for fear of a loss of part of its Japanese market to Saudi Arabia and the U.A.E.—decided to implement the 10 percent price rise decision only to the extent of 6 percent. It thus still remains true that, notwithstanding the several factors of technical or contractual restraint, other OPEC members cannot sustain a substantial or prolonged price increase above the level approved by Saudi Arabia without incurring serious financial loss. The dual OPEC price structure of early 1977 thus is unlikely to endure. Perhaps the OPEC majority—saving face behind various technical obfuscations—will eventually come down to the Saudi level; perhaps the two sides by July will agree to compromise on a figure around 10 percent; or perhaps (for political reasons to be discussed later) the Saudis will come up to the level of the majority—registering the double claim of having shown, first, consideration for the economic difficulties of their Western customers and, second, respect for OPEC solidarity.
4. Arab Leadership. The Saudis' ability to offer or deny vast subsidies to countries such as Jordan, Egypt, Syria and the Sudan has by now made them into a potent and recognized political force in inter-Arab affairs. As a traditional monarchy, Saudi Arabia took alarm at the spread of "radical" military regimes in other Arab countries in the 1950s and their continuing drift toward the Soviet Union. In view of the long-standing practice by Arab countries of intense and sometimes violent interference in one another's politics, the Saudis rightly perceived this dual trend as a threat to the survival of their own regime. But the Saudi government itself has been even more hostile to Zionism than to communism: the late King Faisal, against all empirical evidence, professed to see no difference between the two.
Here then were several concurrent reasons, of prudence and ideology, for taking an active or even leading part in the common Arab fight against Israel. In 1972-73 the Saudis' quid pro quo for Egypt's disengagement from Moscow was Saudi support for the front-line states in the Yom Kippur War, including the use of the "oil weapon" against the United States. More recently, in the fall of 1976, the settlement of the Lebanese civil war was negotiated at an Arab summit meeting in Riyadh. It would appear that, in addition to approving Syria's takeover in Lebanon, the Riyadh meeting decided on an overall Syrian-Jordanian-Egyptian rapprochement, a new diplomatic initiative against Israel, and further Saudi oil pressure on the United States. The diplomatic initiative was unveiled in several statements by President Sadat by year's end in favor of reconvening the Geneva conference and of a Palestinian state on the West Bank and in Gaza somehow linked to Jordan. Pressure on the United States began with the hope expressed by Saudi oil minister Sheikh Ahmed Zaki al-Yamani after the December OPEC meeting that the United States would show its "appreciation" for Saudi Arabia's price restraint. And if inter-Arab negotiations of 1972-73 can serve as a clue, a further item of discussion may have been the possibility of military action against Israel in case of renewed failure of the Geneva conference.
5. Pressure on the United States. When Saudi Arabia was in the midst of its recent oil expansion program, Sheikh Yamani in the fall of 1972 visited Washington, where he proposed a new deal in relations between the two countries. Citing then-current estimates of American oil import needs for the 1980s and Saudi plans to expand production capacity to 20 mb/d by the end of the decade, he concluded that his country was the only one that would furnish the needed amounts. In return for doing so, he proposed a privileged status for Saudi investments in the United States and a basic modification of American policy toward Israel. The deal, needless to say, was not taken up by Washington.
From a Saudi perspective, there were solid reasons for making such a proposal. The Saudis had no economic self-interest in increasing their production and accumulating yet larger reserves unless they were offered unusual opportunities for investing the surplus. And if Saudi Arabia were willing, for political reasons, to enter into a special relationship with the United States, committing its whole economy well into the future to meet America's energy needs, why should it not ask the United States to show corresponding consideration for Saudi concern about Israel? Yet, from an American viewpoint, Yamani's offer of 1972 combined with the embargo of 1973 was bound to suggest an attempt first to offer the carrot and then to wield the stick.
Any Saudi assessment of the sequel of the embargo would have to pronounce that carrot-and-stick technique a singular success. Within days after the announcement of the Arab embargo and production cutbacks, the United States, by threatening the suspension of military deliveries, forced the Israelis to accept a cease-fire in place, just when their near-encirclement of Egyptian forces west of the Canal was putting victory in their grasp. In the next two years U.S. diplomacy, hitherto firm in its support of Israel, shifted to a demonstratively "even-handed" attitude in calling for a conference at Geneva and in bringing about successive disengagements on the Sinai and Golan fronts.
In sum, Saudi Arabia's dominant position in global oil trade and vast financial surpluses have given it unprecedented economic leverage over other OPEC members and in inter-Arab councils—as well as the hope (or, judging by the experience of 1973-75, even the reality) of corresponding political leverage on the United States and Israel. That the velvet glove of Saudi diplomatic pronouncements is apt to hide the iron fist of Realpolitik toward both OPEC and the West is evident from Yamani's unguarded remark to the Italian journalist Oriana Fallaci in the fall of 1975: "To ruin the other countries of the OPEC," he stated laconically, "all we have to do is to produce to our full capacity; to ruin the consumer countries, we only have to reduce our production."
The crucial turning point in OPEC relations with the consumer countries, and in particular in relations between Saudi Arabia and the United States, will come whenever the global demand for oil imports from OPEC begins to approach the level of oil exports that OPEC countries are able and willing to put on the world market. In practice, to estimate that point of time it is sufficient to compare forecasts of OECD net imports and of OPEC exports for the years ahead. The non-OECD, non-OPEC areas of the world (including non-OPEC exporters among the developing countries such as Mexico, Oman, Malaysia and Egypt; Russia, China and other communist countries; the oil-importing developing countries; and South Africa) in 1974 imported a net total of about 2.4 mb/d, or 8 percent of OPEC's total exports. But it happens that this figure is expected to diminish to 0.6 mb/d by 1980 and to as little as 0.1 mb/d by 1985—so that this highly diverse set of world regions can readily be ignored in estimating oil surpluses or shortages on the global market for a decade ahead.
OPEC exports equal aggregate production in its 13 member-states, minus the steadily growing internal consumption of those same countries and bunkers (that is, the amounts of fuel consumed by oil tankers in getting their cargoes to destination)—a combined quantity that I would estimate at 4.1 mb/d by 1985. In estimating OPEC production, it is convenient to start with the 38 mb/d of reported OPEC capacity as of mid-1976 and the legal production limits which reduced this total to 33.2 mb/d. If one assumes—as seems logical—that Kuwait, Venezuela and some others will continue to limit their production for geological or economic reasons, and that Iran, Nigeria, Iraq, Indonesia and others will continue to expand both their capacity and their production—then the aggregate production for OPEC countries outside of Saudi Arabia may be estimated at 27.6 mb/d, corresponding to an export capacity of roughly 24.1 mb/d. This is a relatively fixed estimate, since the future policies and capacities of these countries seem fairly clear.
The major variable is, then, Saudi production. For 1985, it might range from a low of 6.3 mb/d (the 1973 embargo level and a level that would still fully support Saudi domestic programs), through intermediate ranges of 8.5 mb/d (the 1974-76 production limit) and 11.8 mb/d (1976 capacity), to a possible maximum of 15 mb/d if capacity were substantially increased and fully utilized. The Saudi choice among these options would be crucial, causing the total OPEC export level to vary as shown in Table I.
ESTIMATED 1985 EXPORT LEVELS
(in million barrels a day)
Saudi Arabia Total OPEC
Policy Production Exports Production Exports
Low 6.3 5.5 34.0 29.9
Medium-Low 8.5 7.7 36.2 32.1
Medium-High 11.8 11.0 39.6 35.5
High 15.0 14.1 42.7 38.6
SOURCE: Author's estimates.
On the other side of the balance, the import needs of the OECD countries have recently been estimated, for 1985, in that organization's publication, World Energy Outlook. The range reflects three possible assumptions for rates of growth—a high of 4.8 percent through 1980 and 4.6 percent thereafter (compared to an actual average growth rate of 5 percent in 1960-73), a medium rate of 4.34.1 percent and a low of 3.8-3.6 percent—all assuming modest improvements in conservation and development of alternative energy sources. Finally, OECD projects an "Accelerated Policy" case that assumes a concerted and far-reaching effort at conservation, development of domestic oil (mostly offshore), and expansion of energy alternatives. The differences in the four figures, and especially in the estimated U.S. import need, are striking, as shown in Table II.
ESTIMATED 1985 IMPORT NEEDS
(in million barrels a day)
Assumption United States Total OECD Countries
High Growth 11.9 38.8
Medium Growth 9.7 35.0
Low Growth 8.2 31.9
Accelerated Policy 4.3 24.3
Apart from underlining the central roles of Saudi Arabia and the United States respectively, Tables I and II show that the United States and the OECD countries generally would be in a relatively safe position only in the "Accelerated Policy" case. If the OECD countries enjoy only low economic growth, the situation might grow serious by 1985 at the latest. And if economic growth were moderate or high—and in the absence of "accelerated" energy policies—by the early 1980s the balancing of oil supply and demand, or conversely a drift toward a global shortage, will depend entirely on the price and production decisions taken by Saudi Arabia. In short, the tables—calculated on a conservative basis—portend in the clearest terms a major world oil crisis in the early or mid-1980s.
One final point does not emerge from the tables, and relates to the specific situation of the United States. On present trends and patterns of oil flow, the United States—assuming no renewed recession and in the absence of vigorous energy policies—will confront two danger points when needed additional imports would be available only from high levels of Saudi Arabian production: one in 1978 or 1979 before oil starts flowing fully from Alaska, and a later one, sometime in the early or mid-1980s, when growing domestic demand will have surpassed the Alaska supplies.
The likely OPEC and Saudi responses to an approaching shortage situation of this sort must be considered from an economic and a political perspective.
In purely economic terms, an approaching shortage would almost certainly cause OPEC to reconsider the Saudi-inspired pricing policy which since mid-1974 has kept increases in line with, or somewhat behind, global rates of inflation. The Saudis themselves would be faced with what might be termed King Midas' dilemma. Either they could increase production indefinitely in response to escalating world demand while keeping the price at about $12 in 1977 dollars, the result being an accumulation of foreign exchange far beyond their interests or desires. (A 15 mb/d export level at present prices would yield them around $80 billion, or ten times the value of their 1975 imports.) Or they could reintroduce a production limit, allowing the price of oil to find its level in response to the forces of demand and supply. In that case, too, their foreign exchange balances would rise beyond reason or desire—somewhat faster or slower depending on the exact price that oil would establish for itself on the world market. (For instance, their present capacity at a price of $15 would yield an income of $89 billion annually.)
The petroleum bill of the importing countries would rise substantially either way, whether because of growing volume or higher prices. For Saudi relations with other OPEC countries, the second option would have the twofold advantage that OPEC would henceforth escape the necessity, and hence the odium, of setting world oil prices, and that all OPEC members would share in the additional revenues, including those that are very eager for them. Hence it would seem that, on economic and intra-OPEC grounds, this second option might recommend itself to the Saudis. It is impossible to calculate what the price rise would be on that alternative, but since prices at a time of acute shortage are set at the margin, a jump of 25 or even 50 percent (that is, to $15 or $18 in terms of 1977 dollars) would not seem to be an unreasonable guess; some rather sharp fluctuation around such figures also would be likely.
Politically, Sheikh Yamani's statements in December 1976 have already emphasized the direct link that in Saudi minds exists between the future price of oil and progress toward an Arab-Israeli settlement. Whatever the leverage that the Saudis see themselves as having on the United States (and hence on Israel), their temptation to apply it (at little risk to themselves) would obviously be greatest in any future situation where their decision alone could create or avert a disastrous oil shortage for the United States and the industrial world as a whole.
It is just possible, of course, that before the global oil situation enters its critical phase in the 1980s, the Arab-Israeli conflict will have made substantial progress toward settlement - to the satisfaction of the Saudis and their moderate allies in Egypt and Syria, if not to that of the more radical elements in Iraq, Libya or among the Palestinians. Recent statements from Cairo and Jerusalem are as far apart as ever, but at least there has been a public dialogue. The newly formed Egyptian-Syrian-Jordanian alignment also means that any major concessions from the Arab side are less likely to be denounced, as in the past, by one or another front-line state. Still, it is hard to imagine how the largest stumbling blocks to agreement—Palestinian rights, Israeli security on the West Bank, and control of East Jerusalem—could be removed.
It can also be argued—and with much cogency—that regardless of the pressure that the Saudis may presume to put on the United States, Israel itself is fairly immune to renewed American pressure. Israel's vulnerability was at its greatest in the 1973 war: "I'm not sure the soldiers know it," Defense Minister Dayan told a stunned Israeli public at the time of the Suez cease-fire, "but the shells they are firing today were not in their possession a week ago." The United States in 1973 was able to stop Israel from pursuing its military advantage and to bring it to the conference table. It does not follow that, once at the conference table, we can make Israel surrender interests it deems vital. Even in the event of a renewed war U.S. leverage probably would be far less, for the weapons deliveries of the last few years would enable Israel to fight on much longer without resupply.
The prospect of a Fifth Arab-Israeli war within, say, the next five years is thus not remote. It has presumably been heightened by the recent Riyadh-Cairo-Damascus entente, and if it should break out it is likely to be accompanied by another embargo and new production cutbacks under Saudi leadership, both perhaps more stringent than last time.
The shift of U.S. Middle Eastern policy in October 1973 may not have been as directly related to the embargo as day-to-day events made it appear: the full effect of the oil cutbacks were not felt until the early winter of 1974 and turned out to be rather more severe in Western Europe and Japan than in the United States; also, the Nixon Administration may have considered a shift in its Middle Eastern policy much earlier (the phrase "even-handed" as applied to Arabs and Israelis was coined as early as 1968 by Governor William Scranton as Nixon's pre-inauguration emissary to the Middle East). Yet even the appearance of the world's most powerful nation bowing to economic pressures remains a major blot on our record and a burden on our future policy.
The implications for the American and OECD economies, and for relations between the United States and its allies, are only a shade less calamitous. The world economy did manage to absorb the oil price rises of 1973-74, but only at the cost of a major aggravation of the global recession, serious hardship in the weaker industrial economies such as Britain and Italy, and acute suffering in many of the developing countries. The effects of a long-range shortage in the 1980s, with the demand for oil imports exceeding the amounts available from OPEC, and of accompanying price rises, would presumably be that much more serious. The formation of the International Energy Agency, with its ambitious program of oil sharing in an emergency, and of concerted conservation and energy development, is one of the few positive achievements of 1974; yet its accomplishments remain questionable, particularly under the second and third headings of the agenda.
It also should be reemphasized that the United States since 1973 has become more rather than less vulnerable to any renewed Arab embargo. Our imports from Arab OPEC sources have risen from 1.4 mb/d in 1973 to 2.6 mb/d in the first half of 1976, or from 22 percent to 38 percent of the import total; if this trend continues, they may represent as much as 60-70 percent of our oil imports by the mid-1980s. By 1985, moreover, our oil imports under the OECD's medium-growth scenario would be equivalent to virtually all of the exports available from non-Arab OPEC members, a situation that would almost certainly overtax the IEA's oil sharing arrangement. Quite aside from the staggering technical problems this would pose, there is doubt that our West European and Japanese partners in the IEA would continue to support an arrangement that, in effect, asks them to underwrite both our Middle Eastern policy and our profligacy in the consumption of energy.
There is little point in dwelling further on these perspectives of a global oil shortage, a staggering payments burden on the industrial world, a renewed and more severe embargo, and consequent serious strains in the Western alliances—except to emphasize the reality of these possibilities, and to remind ourselves that the means to avert them is a resolute energy policy on the part of the industrial countries, and foremost the United States.
U.S. policy toward Saudi Arabia since 1973 has been highly ambivalent. No countermeasures were taken to the embargo, American arms deliveries to Saudi Arabia were stepped up vastly, and at various points in 1974 high U.S. officials expressed their confidence that the Saudis, out of regard for their American friends, would bring down the price of oil. Yet by year's end Secretary Kissinger hinted at possible military action in the event of another embargo. The Nixon-Ford Administration's energy policy proved equally vacillating and ineffectual. Secretary Kissinger's reaction to the $7 a barrel oil price of early 1974 was to dwell on the prospect of "a vicious cycle of competition, autarchy, rivalry, and depression such as led to the collapse of world order in the thirties." Yet in the spring and summer of 1975 the State Department was busy trying to obtain agreement on an oil "floor price" at just that $7 level. Similarly "Project Independence" was first announced with much fanfare, but its recommendations were either shelved or bogged down in the perennial deadlock between President Ford and the Congress.
A rational U.S. response to Saudi oil policies must refrain both from massive arms deliveries and from ill-considered military threats. The oil cartel's current ascendancy, and the Saudi key position within it, rest on solid economic foundations and, "If OPEC will not be charmed out of its billions, neither is it likely to be bullied." Rather, the rational response is to reduce our excessive dependence on Arab and other oil imports by reducing our extravagant energy consumption and by developing our vast but dormant national energy resources.
Our energy consumption per capita is 2.3 times that of the European Economic Community and 2.6 times that of Japan. This implies very major possibilities of energy conservation without impairment of our standard of living. The United States also is fortunate in having very extensive resources of petroleum, coal, uranium and other fuels. Our oil production (including natural gas liquids), despite its recent and continuing decline, still is higher than that of the Soviet Union or of Saudi Arabia. Our coal reserves, at present rates of extraction, are sufficient for 300 years, and much of these are low-sulfur deposits accessible to strip mining on federal lands in the West. All this implies equally dramatic opportunities for increasing our domestic energy supplies. Japan and nearly all the European countries will remain dependent on imports for most of their energy into the foreseeable future. For the United States alone, a step-by-step reduction of our energy dependence is a feasible (and hence most necessary and desirable) goal.
Measures of energy conservation readily within our reach include the raising of domestic oil prices to world levels (whether through decontrol of prices or an additional federal tax), the raising of automobile efficiency standards to a level of 27.5 miles per gallon, and a host of other specific steps (better insulation of homes and factories, the forming of commuters' transport pools, regulations increasing airplane load factors, increased efficiency of home appliances and mandatory labeling of their energy use, etc.). Note that among these, a raising of automobile efficiency alone would save around 1.2 mb/d of petroleum, or as much as the increase in our imports from Arab sources since 1973.
Measures to increase our domestic energy supplies would include accelerated leasing and development of offshore oil deposits, expansion of nuclear generating capacity, and, above all, development of our abundant coal reserves, perhaps in connection with large-scale gasification. All such measures would have to be combined with stringent environmental safeguards, which are sure to add to the cost but should not be taken as an excuse for delay. Considering technological lead times, these development measures would not begin to make their impact felt until the early or mid-1980s, but that impact could be on a very sizable scale: for example, accelerated domestic oil development alone might by 1985 add 2.3 mb/d to our domestic oil supplies, or nearly as much as our current imports from all Arab sources. For the even longer range, one of the most promising measures would be a wholesale revitalization of our railroad system both for freight and for passenger traffic.
This is not the context in which to enter into the details of the debate on the comparative costs and benefits and the lead times and relative priorities among the measures just listed. Happily there is no inherent conflict among any of them, and the obvious solution is to move ahead speedily on all feasible fronts. It will be the task of the new Federal Department of Energy to bring our long-lingering debate to a firm set of conclusions and to proceed from debate to concerted action and vigorous implementation.
The fact that the new Administration has made energy policy one of its chief priorities is in itself a most hopeful sign, and so were the references in President Carter's election campaign to the need for a less compliant attitude to Arab pressures and to the need to develop our massive coal reserves. With congressional majorities of the President's party, there also is hope of backing on Capitol Hill for any firm initiatives from the Executive. Only with such a determined effort in the energy field and a systematic reduction of our dependence on oil imports will the United States be able to reassert its leadership within the Western alliance system and the freedom of action of its foreign policy in the Middle East and elsewhere. But even the first solid steps of progress in that direction can be expected to increase dramatically the willingness of Western Europe and Japan to cooperate with us in international energy policy and other matters; and they will equally dramatically enhance our respect in the eyes of Arab leaders.
 For example, the OECD in December 1974 published its Energy Prospect to 1985, and in January 1977 a new study entitled World Energy Outlook. The earlier study distinguished three possible price levels, of which the third ($9 per barrel in 1972 dollars) corresponded roughly to prices in effect at the time of publication. A comparison of this "$9 case" of the 1974 study with the "reference case" of the 1977 study indicates that expectations of overall consumption of energy in OECD countries have gone down by 7 percent (mainly due to the expectation of slower economic growth), but that expectations of oil production went down by 32 percent and expectations of oil imports rose by as much as 72 percent. Similarly, the task force reports of the Nixon-Ford Administration's "Project Independence," which envisaged U.S. freedom from oil imports by 1985 (but then only for "a few years") were quickly recognized as overly optimistic—and, of course, never fully acted upon.
 Kissinger's interview appeared in Business Week, January 13, 1975, but was widely reported in the daily press by late December 1974.
 The 19 countries included in the International Energy Agency are the United States, Canada, Japan, New Zealand, 8 countries of the European Community (all except France), Austria, Greece, Norway, Spain, Sweden, Switzerland and Turkey. The Organization for Economic Cooperation and Development (OECD) also includes Australia, Finland, France, Iceland and Portugal.
 The quoted phrase is from James E. Akins, "The Oil Crisis: This Time the Wolf Is Here," Foreign Affairs, April 1973, p. 473n. On the proper priority between the two questions with regard to the world oil scene, see Dankwart A. Rustow and John F. Mugno, OPEC: Success and Prospects, New York: New York University Press for the Council on Foreign Relations, 1976, pp. v-vi.
 For per barrel revenues and production, 1970-73, see ibid., pp. 192 ff.; other figures are from The Petroleum Economist, September and October 1976. The 1976 aggregate revenue figure is my estimate.
 Other considerations have also entered the companies' calculation of commercial self-interest. For example (as mentioned in the text), production has risen steeply before every OPEC meeting at which price increases were expected, as in October 1975 and January 1977, thus ensuring sizable inventory profits for the companies if the price did rise, with no risk of loss if it did not.
 Documents related to this dispute with the Shah and among consortium members were published in the Church Committee Hearings; see Multinational Corporations and United States Foreign Policy, Hearings before the Subcommittee on Multinational Corporations, Committee on Foreign Relations, U.S. Senate, Washington: GPO, 1974, especially part 7.
 M. A. Adelman, "Is the Oil Shortage Real?" Foreign Policy, Winter 1972-73, p. 87.
 For an arithmetical demonstration for OPEC as a whole, see Rustow and Mugno, op. cit., pp. 100-102.
 See Yamani's address to the Middle East Institute, Washington, September 30, 1972.
 All this, of course, is only one aspect of Secretary Kissinger's Middle East diplomacy: there also were the nuclear alert and confrontation with the Soviet Union (still obscure in its details) in late October 1973, and the very substantial American arms deliveries to Israel during the period of the various disengagements. But the above aspect is the one that would be most directly relevant to the Saudis' assessment of the effect of their policy.
 "A Sheik Who Hates to Gamble," The New York Times Magazine, September 14, 1975, p. 19.
 According to the OECD (World Energy Outlook, 1977, p. 9), communist countries in 1974 showed net exports of 0.9 mb/d, which are expected to increase to 1.0 mb/d in 1980 and decline to 0.8 mb/d in 1985 (with declining Soviet exports compensated for by those from China). Net imports by the non-oil developing countries and South Africa are expected to rise slightly (from 4.0 to 4.2 mb/d); and non-OPEC exporting countries are expected to increase their exports substantially (from 0.9 to 3.0 to 3.8 mb/d). There also is a "residual" factor, of "change in stocks at sea and statistical difference," which increases global exports for 1974 by 1.4 mb/d, and reduces them by 0.5 mb/d for 1980 and 1985. As can be seen, the difference between OECD imports and OPEC exports for the latter two years is less than this residual discrepancy. The possibility that other Third World oil-exporting countries might join OPEC in the future obviously does not affect estimates of their volume of exports.
 According to the U.S. Bureau of Mines (International Petroleum Annual 1974) domestic consumption in the 13 OPEC countries in 1974, including oil consumed both as energy and as petrochemical feedstocks, totaled 1.4 mb/d. (This agrees with OECD's estimate; the UN and OPEC's Statistical Office give figures of 1.2 mb/d and 1.1 mb/d respectively.) Considering that oil consumption in the Middle East rose by 7.2 percent per annum in 1965-75 (according to BP Statistical Review of the World Oil Industry 1975)—that is, in a period mostly unaffected by the large accumulation of oil revenues and the ambitious development plans of the last few years—an increase of 9 percent per annum through 1985 would seem a fairly conservative estimate. But this implies a more than two and a half fold increase, from 1.4 mb/d in 1974 to 3.6 mb/d in 1985. The rate of consumption for marine bunkers might decline in the future as larger or more efficient vessels are used; still it seems safest to calculate bunkers at their present rate of 1.7 percent of the amount of oil exported by tanker, or about 0.5 mb/d for all of OPEC. All this means that OPEC exports in 1985 may be expected to be 4.1 mb/d below the level of production.
 The 27.6 figure is my own estimate, composed as follows: Iran 7.2; Iraq 4.0; Nigeria 3.0; Libya 2.5; Kuwait 2.2; U.A.E. 2.2; Venezuela 2.0; Indonesia 2.0; Algeria 1.0; Qatar 0.7; Ecuador 0.5; Gabon 0.3.
 Federal Energy Administration, Monthly Energy Review, September 1976, p. 3. These figures include crude and product imports, including products refined abroad, mostly in the Caribbean. Additional amounts were imported from non-OPEC Arab countries, notably Oman, Tunisia and Egypt, of which the last, at least, was likely to join in any future embargo.
 Rustow and Mugno, op. cit., p. 92.