Foreign Relations of the United States, 1969–1976, Volume XXXVII, Energy Crisis, 1974–1980

99. Memorandum From Robert Hormats of the National Security Council Staff to the President’s Assistant for National Security Affairs (Scowcroft)¹

Washington, July 14, 1976.

SUBJECT

• NSSM 237: International Energy Strategy Meeting with Zarb et al, July 14, 1976, at 6 p.m., Roosevelt Room

Bureaucratic Setting

NSSM 237 (Tab B)² requested a study of options available to the United States on international energy policy. A lengthy series of intense working group discussions has now resulted in a draft response (summary at Tab C).³ The work was done initially by State (chairman), FEA, Treasury and Defense, under NSC and CIEP guidance; OMB and a personal representative of Secretary Richardson, head of the Energy Resources Council (ERC), were brought in for the final stages.

We have now scheduled a meeting of the Undersecretaries Committee, the next stage in the NSSM process; this will be held on July 22 and be chaired by Undersecretary Rogers. In the meantime, however, Zarb has decided to put a more visible ERC imprint on the study by holding his own meeting;⁴ it is not clear what his substantive purpose is, since FEA was one of the principal drafters of the NSSM response and concurs fully.

Your objective in this meeting is to accommodate Zarb’s desire to assert ERC involvement without allowing the ongoing NSSM process to be sidetracked. Talking points are at Tab A.⁵

Findings of the Study

The NSSM response provides some very useful insights, but has emerged more as a brief for the current direction of energy policy and a vehicle for securing its high-level approval, than as an examination of options or new alternatives. While it may well be that we in fact have few realistic options, the NSSM response is, in this sense at least, incomplete.

The study itself is broken down into several lengthy sub-studies. You need address only the overview paper (Tab C).

The key conclusions of the study are:

—US supply and price vulnerability will remain linked to the vulnerability of the other industrialized countries.

—The objective of our international energy policy should be to reduce both supply and price vulnerability.

—US import requirements will rise to 7.4–10 million barrels per day (MBD) by 1980 from the 5.9 MBD of 1975.

—The collective vulnerability of other industrialized countries will increase slightly by 1980 and significantly by 1985.

—OPEC will remain an effective cartel over the next five years and probably for some time thereafter.

—Our continued heavy dependence on imported oil requires close attention to our relations with key producers.

—The US should continue to implement its policies through the existing oil company supply system.

Options

As noted above, the options section is in fact a series of recommendations. These are as follows:

1. To reduce supply vulnerability, the US should:

—Intensify efforts, domestically and within the IEA framework, to reduce dependence, going beyond laws and programs already in place.

—Strengthen emergency anti-embargo measures by accelerating creation of strategic petroleum reserves and pressing the IEA to strengthen its emergency stockpile program.

—Consider diversifying sources of oil through bilateral deals, looking closely at Mexico and Saudi Arabia and, less immediately, at Iran and China.

—Not attempt to negotiate a supply commitment with OPEC in the CIEC context.

2. To reduce the probability of future price increases, the US should:

—Intensify efforts to reduce dependency, domestically and in the IEA, to constrain OPEC price-setting ability.

—Seek to obtain a price discount, directly or indirectly, in any bilateral agreements.

—Not seek a general price agreement with OPEC in CIEC or elsewhere.

—Continue to “jawbone” bilaterally and multilaterally, particularly in the CIEC.

—Not subordinate our overall relations with key producers to the oil price issue.

Comments

1. The dependency figures contained in the NSSM are at the low end of the range of probability, even though FEA agreed to raise their initial figures, which assumed a fully successful Project Independence. Most outside projections, and most non-FEA government opinion, suggests that the 7.4–10 MBD range is very optimistic, even assuming North Slope oil is available. Projections for 1985 are analytically much more difficult, but the 5.9–9.4 MBD used in the study is probably even more optimistic still than the 1980 estimates. By minimizing import dependence, the study exaggerates the possibility of achieving our stated objective of energy independence.

2. The study underscores that the vulnerability of Western Europe and Japan is in effect our vulnerability as well, given the political imperative of maintaining our ties with other industrialized nations. The study does not draw, however, what appears to be the logical conclusion of this observation—that energy independence is in some ways a hollow goal for the US. It will help by reducing demand for OPEC oil, and thus reducing OPEC’s ability to raise prices, but since other industrialized nations cannot achieve independence, our vulnerability—indirect but no less significant—will continue.

3. The study effectively points out the enormous cost of the 1973 embargo and subsequent price increases. The embargo itself cost the US some $20 million⁶ in lost GNP, increased unemployment by 500,000, and deepened and lengthened the recession. Higher prices immediately involve the direct transfer of wealth, and with it, welfare. They also involve, however, the enormous capital costs of restructuring industry to accommodate changes in the price of energy relative to other factors of production, and the continuing drain of using relatively less efficient means of production. (One model indicates that a $1 barrel price increase costs the US $60 billion, in 1972 dollars, over a six-year period. Extrapolation is analytically questionable, but illustratively indicates that the $8 increase since 1973 will eventually cost the US $500 billion in lost domestic production.) Higher prices have also seriously affected the growth prospects of non-producing LDCs, and added to our assistance burden. The political cost of the constraints on our Middle East policy, and of the strains on our relationships with other industrialized and developing countries, is not quantifiable.

4. There is a substantial risk, even a probability, of additional increases in oil prices in coming years. The cartel is likely to remain viable, and demand estimates indicate that by 1980 total OPEC revenues would be higher at $16 per barrel than at current prices. Of course this analysis is based on economic rather than political factors, and it was political factors which provided the catalyst to make OPEC an effective cartel in the first place.

5. The study abandons CIEC as a means of reaching price of supply agreement with the producing countries. This leaves us in effect fighting defensive battles in the three other Commissions with no energy quid to be extracted for progress on quos in other areas. An agreement in CIEC could probably be obtained only by accepting conditions such as the indexation of oil prices to the prices of exports of the industrialized countries. Agreement on price could also reduce pressure to improve the supply situation.

6. This generally pessimistic picture on continued dependence has understandably pushed the working group toward a policy of accommodation with the oil producers, encouraging consumer adjustment to higher prices and the development of cooperative links to insure supply. State clearly sees confrontation as contrary to the national interest, and bilateral oil arrangements essentially at current prices as a means of assuring supply and a useful source of diplomatic leverage. Higher prices also make FEA’s Project Independence at least a theoretical goal. Herein lies a major fault of the paper: although in fact there may be little to support options aimed at breaking up the cartel, whether by attempting to seduce or bludgeon Saudi Arabia, or through “economic warfare” on OPEC generally, an options paper should discuss the pros and cons of more forceful courses of action, if only to eliminate them as realistic options. (I have long argued for a closer examination of US relations with Saudi Arabia, in the oil context as well as in broader terms. This might be a good occasion to do it.)

7. Another important next step would be a systematic examination, on a country-by-country basis, of the feasibility and advisability of bilateral oil arrangements. Since bilateral deals would be aimed primarily at reducing supply vulnerability rather than lowering prices, we should probably be prepared to pay the going price. This is not noted under the paper’s supply “options”; to the contrary, an optimistic recommendation that we should push for price breaks in these arrangements is noted under the price “options”. Bilaterals are now being pursued on an uncoordinated—one might even say haphazard—basis, with little or no attention to the broad conditions under which we should enter such agreements or to the relative attractiveness of various partners. First, however, we must have a clear decision made on whether or not we intend to seek price advantages in these agreements. This, in turn, depends on whether we are focusing on price or supply assurance.

1. Source: Ford Library, National Security Council, Institutional Files, Box 41, NSSM 237—U.S. International Energy Policy (1). Secret. Sent for information.
2. Attached; printed as Document 93.
3. Attached but not printed. The draft NSSM study is in Ford Library, National Security Council, Institutional Files, Box 41, NSSM 237—U.S. International Energy Policy (1).
4. No record of either Zarb’s meeting or the Under Secretaries Committee meeting has been found.
5. Attached but not printed.
6. “? billion” is handwritten in the margin.