287. Memorandum From Secretary of Energy Duncan and Secretary of State Muskie to President Carter 1
SUBJECT
- IEA Measures for Dealing with the Continuing Oil Supply Crisis
Summary
The increasing possibility of a longer Iran–Iraq war and a longer repair period for damaged oil facilities once the war ceases lead to the conclusion that stronger measures by consuming countries will be needed if we are to avoid a sharp increase in oil prices such as occurred during the 1979 Iran crisis. We seek your approval of a two stage strategy, involving a U.S. lead effort to secure informal oil allocations by relatively crude-rich multi-national oil companies for those IEA countries most immediately hurt by the supply disruption, and rapid negotiation within the IEA of realistic national oil import ceilings for 1981.
Background
The continuation of hostilities, as well as increasing damage in recent weeks to Iraqi oil facilities, leads to the conclusion that a normal oil market is unlikely for the next several months. Both sides seem capable of several more months of war and while the intensity of the fighting should decline due to the advent of winter, our judgment is that hostilities are unlikely to end soon. At present, we estimate a 3- to 6-month period will be needed to repair facilities before Iraq can begin to export more than 1 million barrels per day (MMB/D) (prewar exports were 3.1 MMB/D). Even with the increased production from other OPEC countries, we expect that the shortage in the first quarter of 1981 will be some 2.5 MMB/D. Cumulative losses to the world oil market are, therefore, expected to reach at least 300 MMB, and could exceed 500 MMB or 750 MMB. This can be compared to the 200 MMB shortfall experienced during the Iran crisis of 1979, which resulted in a doubling of world oil prices. We are indeed fortunate that inventories are substantially higher today, but the potential for price increases is real.
While the United States imported no oil from Iran and very little from Iraq (35,000 B/D from Iraq), IEA countries such as Turkey and Portugal lost 70 percent and 50 percent of their consumption needs re[Page 907]spectively, while Spain, Italy, and Japan also lost large volumes. Allowing for production increases and stock drawdowns, these IEA countries will be left with an aggregate shortage in the range of 500 MB/D, moving into the first quarter of 1981. Several non-IEA countries, such as France, Brazil, and India were also hurt.
Spot market prices began increasing in October as an initial response to the fighting. They have been rising slowly but steadily since then, and are now about 30 percent above pre-war levels though volume has been thin thus far. In the coming months one can expect further and perhaps accelerated increases to levels well above $40, and perhaps approaching $50 if a way other than the spot market is not found to meet the shortfall of the most affected countries. As happened in 1979, this could give OPEC Oil Ministers a rationale to increase official prices substantially, and press reports indicate this possibility.
The first IEA response to the crisis was appropriate; on October 1, the IEA members agreed to encourage companies to avoid abnormal spot purchases and to draw stocks in the fourth quarter to meet shortfalls.2 However, with the worsening situation of the West European and Mediterranean countries and the date for resumption of full production receding, these measures will have to be augmented if we are to avoid the potential of significant price pressures in early 1981.
Approach
As the first step in our preferred strategy, the United States and other principal IEA members would launch a vigorous, informal effort to have multinational companies (predominantly the ARAMCO partners) redistribute supplies to those IEA countries most in need. Initially this means Turkey and Portugal, perhaps to be followed by others as we move into the first quarter of 1981.
Simultaneously, we would push for the negotiation and adoption of realistic national oil import ceilings, to be set for 1981 and reviewed quarterly, by the IEA countries and France. Earlier this year the IEA agreed to adopt such a system for converting national oil import yardsticks into binding ceilings if market conditions warranted. Our objective at the December Ministerial would be to adopt the ceilings for 1981; if this proves too difficult, we would at least aim to have completed the difficult ceiling negotiation and put in place a system for immediate adoption by the IEA Secretariat and/or Ministers of binding ceilings if they believe rising spot prices early next year so require.
[Page 908]The United States is in a strong position to initiate this action. The supply shortfall to us is minimal, while our stocks are at historic levels and our consumption is declining. In the IEA negotiations, we would make it clear that we are prepared to urge our companies, particularly the ARAMCO partners, to redistribute supplies to the five troubled IEA countries, in exchange for assurances that all members were prepared to abide by the ceiling levels once established. We have already contacted the four ARAMCO partners (Texaco, Exxon, Mobil, Socal); they have indicated a willingness to discuss an effort to avoid the formal triggering of the IEA allocation system.
Implementation
If you concur in the proposed action, we will need to move quickly with our IEA partners to begin the yardstick/ceilings negotiations with other consuming nations. The IEA Governing Board meets November 20–21, and IEA Ministers meet December 8–9. The Europeans and Japanese are reviewing options and the time to propose a U.S. initiative is now. High-level EC meetings, at which the Europeans will firm up their positions, are scheduled for November 27 with Energy Ministers, and December 1–2, at the Heads of Government level. Our initial soundings with EC officials indicate that if we are able to assist the most severely affected countries in their short run allocation problems via the ARAMCO partners, then the EC may be forthcoming on the ceiling negotiations.
The character of the U.S. domestic response will be a crucial tool in persuading our partners to follow our lead. A separate memorandum concerning recommended domestic initiatives is being prepared for you.3
Recommendation
That you authorize us to seek in the IEA an informal allocation agreement to distribute supplies to those IEA countries most seriously affected and to undertake the process of establishing national oil import ceilings. This approach is also supported by Bill Miller, Charlie Schultze, Stu Eizenstat and Henry Owen.4
- Source: Carter Library, National Security Affairs, Staff Material, International Economics File, Box 49, Rutherford Poats File, Chron, 11/12–30/80. Secret. Carter initialed the memorandum.↩
- The IEA members, noting lowered oil consumption, high levels of oil stocks, and spare production capacity, were convinced that “overall supply of IEA Countries and other countries can be managed so as to meet demand over the next few months.” (Scott, The History of the International Energy Agency, vol. III, pp. 121–123)↩
- Not found.↩
- Carter checked the Approve option and initialed.↩