Burning Money: The Oil Crisis and How Big Government Makes it Worse

The current nationwide average price for gasoline at the pump is $3.556 per gallon, a 14 cent increase from the previous week. At the same time, crude oil prices have been at record numbers, marching toward the inevitable $120 per barrel.

In 2005, however, the average price of crude oil was less than half the current price at $50.23 per barrel while the price at the pump was an average of $2.27 per gallon.

To put that number into better perspective, in January of 2005 the retail price of gasoline was $1.78, rising to $3.07 per gallon after Hurricane Katrina caused damage to major refineries. This tragic disaster undoubtedly wrought an increase in prices while also increasing the years average.

Gas prices in the United States are clearly on the rise and both short-term and long-term solutions need to be figured out. Cutting state and federal taxes, and calming tensions in the Middle East would help immediately lower the price of gasoline. At the same time, removing government subsidies on energy solutions will help bring about a permanent replacement to gasoline.

It is absolutely necessary for all state and federal taxes to be cut at the pump. The average American pays 42 cents in taxes per gallon of gasoline that they purchase. 18.4 of those cents go directly to the federal government. Some people will say that gas prices are so high because of “greedy” oil companies, but, to put it into perspective, those companies only make about 10 cents in profit per gallon. It seems as though the state and federal governments are the ones being greedy at the expense of the average citizen.

It is not possible, of course, to cut taxes without cutting spending and the easiest place to do so is in the arena of foreign policy and making these changes would also help solve the energy crisis. Before the war in Iraq, crude oil cost about $28 per barrel. Now, as was mentioned earlier, crude oil has has been approaching $120 per barrel.

Iraq was, previous to the war, a major producer of worldwide oil, but since 2002 their production has dropped by 50%. By interfering in the national affairs of Iraq, the United States has created an unstable environment in the country. This has led to pipeline sabotage and oil fires that have damaged or eradicated supplies. If the Iraq War were never fought the overall supply of oil would be higher because these events would not have occurred. The United States government needs to stop intervening in the affairs of countries that are not a threat to this country’s national security. Only then will Middle East tensions drop leading to a decline in oil prices.

The long-term solution to the energy crisis is switching to an alternate fuel. It is very important, however, that the marketplace select this alternate fuel and not the government. The marketplace responds to simple principles of economics such as supply and demand, but when the government gets involved and artificially lowers the price of a product through subsidies, demand for that product also artificially rises, causing more people to be attracted to that product then would be if those subsidies did not exist. This might seem like a good thing when it comes to alternate fuels (increased demand for an alternate fuel should mean less people are using gasoline), but if the government chooses the wrong product, as they did in the case of ethanol, then there could be disastrous consequences.

It is important to realize that the only reason ethanol can reach the pump at a competitive price is because of government involvement and subsidies. Conservative estimates by the nonpartisan International Institute for Sustainable Development puts ethanol subsidies in 2006 at somewhere between $5.1 billion and $6.8 billion. They also predict that these subsidies will increase to $8.7 billion annually within the next few years. Oil subsidies, on the other hand, are only about $1 billion per year.

Ethanol costs, on average, $2.53 per gallon just to produce. Yet, in 2006, the average price for ethanol at the pump was between $1.05 and $1.38. This means that ethanol was selling at 42% to 55% of the actual production cost . Without these federal subsidies the price of ethanol would have needed to be increased to twice that price for the producers to even turn a small profit.

This type of taxpayer-funded price reduction might seem justified if ethanol was actually a good long-term solution. It is, however, impossible for ethanol to completely replace gasoline usage in the United States. If all of the corn that was produced in America was used to produce ethanol, and that seems like an absurdly unlikely event to occur, then demand for gasoline would only be decreased by 12%.

According to the United States Department of Energy, all cropland in the United States, plus 20% more land, would need to be allocated for corn production to allow ethanol to completely replace gasoline. This, of course, is an utter impossibility that illustrates the government’s incompetency when choosing what alternative energy source to subsidize.

The consequence of these subsidies is an artificial increase in the demand for ethanol. This increase in demand has caused people to overlook other forms of alternative fuel and focus research and development on creating ethanol-powered automobiles. If the price were allowed to rise to market levels, which would likely be more than the price of gasoline for a fuel with less energy content, then the realization would have been met that ethanol is not the savior of the energy crisis. Researchers would then begin looking into other forms of alternate fuel.

The solution is to get the government out of the business of subsidizing fuels. That includes ethanol, gasoline, natural gas, and any other energy source that the government is shoveling money into. When this is done the marketplace, through consumers and businesses, can decide which fuel is the best alternative.

Honda, for instance, has created a hydrogen-powered sedan that should be released sometime in 2008. This comes in spite of the false market demand that has been created by the government for ethanol-powered vehicles. If ethanol were not subsidized so heavily it might turn out that more companies would focus on hydrogen power which is arguably cleaner, cheaper and an overall better long-term solution than ethanol. False market demand through subsidies, however, has made ethanol appear to be the better choice.

So, it seems fair to say that the government -- through high taxes, foreign intervention, and ethanol subsidies -- has been a major player in causing the current energy crisis and high price of gasoline. The only way to solve the problem is by doing exactly the opposite. The government needs to remove gasoline taxes, end its policy of foreign interventionism, and stop subsidizing Big Oil and Big Ethanol. The government will not decide to do this on its own, however, so it is up to the people to elect officials that are in favor of the libertarian ideals of small government. Only then will we be able to solve the looming energy crisis.