353. Memorandum From the President’s Deputy Assistant for International Economic Affairs (Cooper) and Harold H. Saunders of the National Security Council Staff to Secretary of State Kissinger1

  • SUBJECT
    • Oil Discussions with the Saudis

Introduction

The economic and political problems caused by present high prices for oil in world markets are very serious. Saudi oil policy can almost certainly bring such prices down. We recognize your desire not to hammer on oil issues during Prince Fahd’s visit,2 but the issue is of such [Page 999]importance that we believe you should find a low-key way of raising it both here and during the President’s trip.3 We believe that not mentioning oil will have an adverse effect since these talks are billed as a frank exchange on all matters on either side’s mind. This memorandum sets forth why such an approach is desirable and how it might be accomplished.

Background

1.
Cheaper oil is needed. Present oil prices are creating serious economic problems worldwide. They are a major source of serious inflationary pressures, and are creating difficult balance of payments problems. A general slowdown in world economic growth is occurring, and high oil prices are one of the underlying causes. While our own economic strength is relatively invulnerable, the open world trading and monetary system are less secure. Within the Administration there are varying views as to how serious the world’s economic problems are likely to get during the next year, but there is no disagreement that a significant reduction in oil prices would be extremely beneficial.
Economic performance is not all that is at stake. Highly uncertain economic conditions which threaten to deteriorate provide an added cause for political conflict. We are already seeing a conflict between the so-called developing nations and the community of advanced industrial countries. Perhaps even more serious are the growing signs of political and social conflicts within countries. Present economic conditions—high rates of inflation, balance of payments difficulties, major structural adjustments, relatively sluggish growth—are a major source of the domestic political and social discontent evident in most developed countries, as well as in many developing nations. In many friendly countries, increased oil prices are wiping out the benefits of U.S. aid, and we are being asked to help meet deficits far beyond our aid appropriations. If we cannot respond, this will have a negative effect on our relationships.
2.
Saudi Arabia is the key to world oil prices. Saudi oil production now is restricted to roughly 8.9 million barrels a day, some 1.7 million barrels a day below present capacity, which is growing. If the Saudis remove this political restriction, press forward with planned increases in capacity and production, and insist that all available Saudi oil is put on the market, oil prices will drop, probably falling substantially over the next 24 months. If, however, the Saudis were to decide to cooperate with other OPEC members to maintain or raise the price of oil, they could curtail their own production enough to successfully support high oil prices for the next three or four years. Market conditions are basically favorable to lower oil prices, but the Saudis are the swing factor; they can either permit market forces to bring down prices for several years or they can offset market forces and keep prices high.
3.
Long-run coincidence of economic interests. In the short-run, Saudi economic interests can be equally well served by high prices and low output, or increased output at lower prices. Over time, however, the Saudis stand to lose if prices are kept too high. The Saudis must consider how much oil in the ground will be worth in coming decades, and it won’t be worth very much if high short-run prices lead to production and consumption adjustments in the U.S. and other industrial countries which greatly diminish the future market for Saudi oil. Because of their vast oil reserves, they are more vulnerable to a loss of their market in the 1980’s and 1990’s than to overly rapid dissipation of their reserves. [2 lines not declassified]
From the U.S. point of view, reliable Saudi supplies of oil would make it possible to develop higher cost sources of energy more gradually. We don’t want to produce expensive energy if cheaper and reliable oil imports are available. The pace and substance of Project Independence4 is, in this sense, negotiable. A similar situation prevails in other countries. It’s in no one’s interest to let a worst-case world develop in the 1980’s in which cheap Middle East oil stays in the ground losing value while expensive energy substitutes are being produced at high costs elsewhere in the world.
4.
Immediate oil price issues. Due to reduced demand in oil consuming countries, market forces are creating a situation of potential oil surplus in 1974, a situation that would ordinarily lead to moderate price reductions. However, the size of this potential surplus (1.5 to 2.7 million barrels per day) is sufficiently moderate to be offset by incremental production cutbacks established by government fiat or by company practices. Such offsets would prevent oil prices from falling. Moreover, at the OPEC Conference in Quito on June 12 there will be [Page 1001]an attempt to reach agreement on adding an inflation adjustment to present agreed price levels, and to create tax methods that would permit OPEC members to tax away present high company profits. Either of these actions would serve to raise oil prices, but would eventually have to be supported by more pronounced production cutbacks.
Yamani has privately floated a new Saudi proposal which would involve auctioning two million barrels a day of Saudi oil. If this proposal is implemented so as to increase Saudi production significantly, it could put real downward pressure on prices, and be a major step in resolving the short-run oil price problem in the world. Even if other OPEC countries were to attempt to extract higher revenues through tax and inflation adjustments, Saudi production increases would keep market prices near, and probably below, present levels. Though Yamani’s proposal may be opposed by some members of the Saudi Government who favor conservation, the non-confrontational character of an auction should ameliorate some of the intra-OPEC criticism that other Saudi measures might entail.
5.
Potential foreign policy benefit to the U.S. If Saudi oil and investment policies were to be carried out with evident concern for their effects on the world economy, and this responsible behavior were seen to flow in major part from the establishment of a close political relationship between the U.S. and Saudi Arabia, the U.S. role in the world would be greatly enhanced. Other nations are obsessed with their relative vulnerability to oil market developments and the possibility that when all is said and done the U.S. will go it alone. Anything we can do to show that as a result of our influence the economic threat to other countries has been diminished would restore confidence that in economic affairs, as in security affairs, partnership with the U.S. was the only productive course. Our ability to develop a productive special relationship with Saudi Arabia would have spill-over benefits extending far beyond the bilateral interests of our two countries.

The Approach to the Saudis

This is the right time to encourage the Saudis to act to bring down short-run prices and to get assurances about Saudi supplies in the future. The political climate as a result of the Syrian front disengagement is favorable; Prince Fahd’s visit precedes the scheduled OPEC meeting a week later, and gives us a chance to influence the Saudi position there; and the President’s trip to the Middle East offers an opportunity for personal diplomacy with Faisal which could be very productive.

We want:

  • —Saudi actions to increase production now which in a soft market are likely to bring prices down;
  • —assurances about future Saudi production and supply policies based on our mutual political and economic interests.

[Page 1002]

Both during Fahd’s visit and the President’s trip we should emphasize our genuine political interest in a special relationship with the Saudis.

The issues on which we shall be dealing with them are at the heart of current worldwide economic problems—oil price and supply, investment and monetary policy. We can only have the close and confidential exchanges necessary on these subjects if we develop an atmosphere of trust among the most senior economic officials on each side (supported by a similar political structure). We must make it clear to the Saudis that we want an unusual and special relationship with them, that this is not a cosmetic bilateral arrangement with occasional attention from our cabinet-level officials.

Points to emphasize:

1.
The sincerity of our interest in a durable special relationship with the Saudis embracing all areas of mutual concern—political, security, and economic.
2.
Our appreciation of Saudi Arabia’s economic importance to the rest of the world—Saudi oil and investment policies in the next several years will be of critical importance to the performance of the world economy.
3.
Our desire to see lower oil prices—not just to benefit us, but to strengthen the political fabric of the Western community.
4.
Our belief that we and the Saudis have a common interest in assuring a long-term market for oil at a reasonable price, and that this common interest can be made sufficiently clear to be taken into account when the basic elements of Project Independence are set in place later this year.
5.
Our recognition that Saudi Arabia has become a major world monetary power, and our desire to achieve the same sort of close and confidential relationship with them in financial matters that we have with Germany, the UK, Japan, and other leading industrial nations.
6.
Our political, security, and commercial interests in assisting the industrialization and development of Saudi Arabia, and our willingness to do so in ways and at the tempo desired by the Saudis themselves.
7.
Our desire to cooperate with them in organizing productive consultations between oil producing countries and major oil consuming nations and to take their views and requirements into account in our own cooperative efforts in the Energy Coordinating Group.

Once the political framework is solidly established, Bill Simon can pick up the ball on implementation. It would be desirable during the Fahd visit to arrange a restricted meeting between the key Saudi officials and Simon, Enders, and Akins in order to have a frank and comprehensive discussion of economic issues. Such a meeting should be supra-technical and designed to identify not only the key technical issues [Page 1003]of concern to the Saudis, but also the potential for concrete results during the President’s visit. Subsequent to the Fahd visit, it would then be possible to move quickly to specific recommendations for Presidential initiatives.

  1. Source: National Archives, Nixon Presidential Materials, NSC Files, Box 631, Country Files, Middle East, Saudi Arabia, Vol. 6. Secret. Sent for information. A handwritten notation reads: “K has seen. BS.”
  2. Prince Fahd visited the United States June 6–7. According to telegram 121857 to Brussels, June 9, the “basic focus” of the meetings was to lay the basis for a long-term bilateral relationship. Additionally, “we were at particular pains to structure a dialogue on the medium and long-term evolution of demand and supply for oil, and expect to develop close exchanges in this area. Saudis are under no illusion as to the importance we attach to a movement toward lower oil prices. Equally, they are committed to maintaining OPEC.” (Ibid., RG 59, Central Foreign Policy Files) Documentation on Fahd’s visit is scheduled to be published in Foreign Relations, 1969–1976, volume E–9, Documents on Middle East Region; Arabian Peninsula; North Africa, 1973–1976. No specific oil proposals were discussed.
  3. Nixon was in Saudi Arabia June 14–15. According to the several memoranda of conversation from Nixon’s visit, oil and energy issues were not discussed. (National Archives, Nixon Presidential Materials, NSC Files, Box 1029, Presidential/HAK Memcons, Memcons, 1 June–8 Aug 74)
  4. See Document 237.