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Government Inflation and Environmentalist Restrictions A Lesson From the 1970s by George Reisman Over the last year, the price of oil has once again been surging. The most prominent immediate cause has been cutbacks in the production of oil on the part of the member countries of OPEC, such as Saudi Arabia and Kuwait. But there are other and deeper causes at work, just as there were in the 1970s, when the price of oil dramatically increased. The following pages from George Reisman's Capitalism: A Treatise on Economics explains these causes. The pages are from the discussion titled "How the U.S. Government, Not the Oil Companies, Caused the Oil Shortage" which appears in Chapter 7, on pp. 234--236. All governments, that of the United States included, were and are bent on reckless expansions of the money supply that act to raise the demand for everything and the price of everything. And it was governments that were responsible for the restriction in the supply of oil -- not only the governments that are members of the international oil cartel or that participated in the Arab embargo, but also the U.S. government. The U.S. government, acting largely under the influence of the ecology movement, restricted the supply of oil in the following ways: (1) It prevented exploration for and development of oil reserves in vast areas of territory arbitrarily set aside as "wildlife preserves" or "wilderness areas." It even delayed the development of the vital North Slope Alaskan oil fields for many years, on the grounds of alleged concerns over the "environmental" effects of the pipeline required to transport the oil to Alaska's south coast. (2) It prevented the development of offshore wells on the continental shelf. (3) It prevented the construction of other oil and gas pipelines, of new refineries, oil storage facilities, and facilities for handling supertankers. Where it did not totally prohibit these activities, it greatly increased their cost by creating enormous delays -- a policy that was enthusiastically joined by the other levels of government. (For example, the plan for an oil pipeline from Southern California to Texas was abandoned, with a loss of over fifty million dollars, because the necessary permissions could not be obtained from the more than seven hundred and fifty federal, state, and local government agencies involved.) (4) The U.S. government imposed price controls on oil. (5) It acted further to restrict oil company profits, and thus oil industry investment, by punitively increasing their rate of taxation through first reducing and then totally abolishing the customary depletion allowance on crude oil. (6) It deterred investment in the oil industry through threats of antitrust actions forcing the breakup of existing companies, and through threats of nationalization. In addition, the U.S. government was responsible for an enormous artificial increase in the demand for oil, over and above the increase caused by its policy of inflation. It caused this artificial increase in demand in the following ways: (1) Since the mid-1960s, it controlled the price of natural gas, thereby undermining the growth of that industry. The demand for fuel that normally would have been supplied by natural gas therefore overflowed largely into an expanded demand for petroleum, which is its closest substitute for most purposes. (2) Under the influence of the ecology movement, the government prevented the construction of atomic power plants and restricted the mining of coal, policies which it continues to pursue. In these ways too, it forced, and continues to force, the demand for fuel to rely more heavily than necessary on oil supplies. (3) Again under the influence of the ecology movement, the government forced electric utilities to shift from the burning of coal to the burning of oil and it forced automobile manufacturers to produce engines requiring far higher gasoline consumption per ton-mile. [Reported improvements in fuel economy are largely the result of compelling manufacturers to produce smaller, lighter-weight cars.] In sum, the government and the ecology movement have done everything in their power to raise the demand for and restrict the supply of oil. It should be realized that it was only these actions of the U.S. government that made possible the dramatic rise in the price of oil. The U.S. government bears a far greater responsibility than the Arab cartel. It is the party that made it possible for the cartel to succeed. All that the cartel did was to take advantage of the artificial increase in demand and restriction of supply brought about by the U.S. government. Had the U.S. government not restricted the expansion of the domestic petroleum industry and forced up the demand for oil, the supply reductions carried out by the cartel would not have had such a significant effect on the price. Because in that case, such supply reductions would have been at the expense of far less important wants than actually turned out to be the case. With the larger domestic supply of oil and competing fuels that a free market would have produced, the marginal utility of any given amount of oil would have been far less. The loss of any given amount of oil by virtue of the supply reductions carried out by the cartel would therefore have been much less serious. As a result, the cartel would not have been able to raise the price nearly as much by virtue of any given amount of supply reduction. In such circumstances the cartel members would probably not have found it worthwhile to reduce the supply at all. In order to achieve a rise in the price of crude oil of the magnitude that actually occurred, the cartel members would have had to reduce their own production over and above the amount by which they actually did reduce it, by a further amount equal to the sum of the reduced supply and increased demand for oil caused by the policies of the U.S. government. Furthermore, in the absence of our price controls, any rise in the price of oil achieved by the cartel would have worked to the advantage of the American oil industry at the expense of the oil industry in the countries belonging to the cartel. This alone would have been enough to frustrate the plans of the cartel. For in this case, the effect of the cartel's restriction of supply would have been to hand the American oil industry the profits and the capital required for an expansion of supply. The cartel would then either have had to allow the price of oil to fall or else it would have had to restrict its own production still further, which would have meant that the American oil companies would have earned the high price of oil on a larger volume of production and have had still greater profits available for expansion, thereby creating still worse problems for the cartel in the future. It should be obvious that it is impossible for any cartel to succeed that is confronted with a major competitor able to profit from its policies and expand his production. The Arab cartel was able to succeed only because the U.S. government did its utmost to prevent the cartel's competition -- the U.S. oil industry -- from earning high profits and expanding. Although it was certainly not their intent, in imposing and then perpetuating price controls on oil and oil products, a majority of the highest elected officials in the United States -- three presidents (from Nixon to Carter) and a majority of the members of the U.S. House and Senate during those three administrations -- behaved as though they owed their election to voters in the member countries of the Arab cartel -- as though they were elected in places like Saudi Arabia and Iran rather than in states and districts within the United States. For it was certainly not an American constituency that their actions served, but the interests of the Arab cartel. In the absence of the U.S. government's destructionist policies, the Arab cartel would probably never even have been formed in the first place, because the conditions required for its success would have been totally lacking. It is not accidental that following the repeal of our price controls on oil in 1981 and the easing of price controls on natural gas and the "ecological" restrictions on the development of oil reserves, the price of oil dramatically declined, despite all efforts to prevent it on the part of the OPEC cartel. If the United States were to abolish all the remaining controls on the production of energy, the OPEC cartel would be completely broken, and the real price of energy would resume the descent it enjoyed from the start of the Industrial Revolution until the enactment of price controls in 1971. Such a policy, of course, would entail removing the prohibitions on the construction of atomic power plants and the restrictions on the strip mining of coal. It would also entail the privatization of the vast landholdings of the federal and state governments in Alaska and the other Western states and of the continental shelf, so that oil and gas reserves could be freely developed.
George Reisman is Professor of Economics at Pepperdine University's Graziadio School of Business and Management and is the author of Capitalism: A Treatise on Economics (Ottawa, Illinois: Jameson Books, 1996). This essay copyright by George Reisman. Reprinted with permission -- The Jefferson School of Philosophy, Economics, and Psychology. Enrich Your Life With A Book About Politics & Current Events 
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