U.S. House meeting on terrorist threats to energy security

[ Even though this hearing was over a decade ago, the issues are still the same.  Nothing has changed.

Alice Friedemann   www.energyskeptic.com  author of “When Trucks Stop Running: Energy and the Future of Transportation, 2015, Springer]

House 109-70. July 27, 2005. Terrorist threats to energy security. U.S. House of Representatives, 41 pages

EDWARD R. ROYCE, CALIFORNIA.   The possibility of energy terrorism—attacks on the world’s energy infrastructure—doesn’t generate the same attention as potential chemical or biological or nuclear terrorism. But the economic implications of such attacks are potentially enormous. Many believe that the reason we are looking at oil at $60 a barrel is the fact that we have a ‘‘terror premium’’ factored into the price of a barrel of oil.

Some suggest that oil terrorism is emerging as a major threat to the global economy. Combating this threat should be a part of our complex goal of improving our Nation’s energy security. Because of U.S. energy demands and the global nature of energy markets, terrorists can strike at us almost anywhere in the world… There is strong evidence that a relatively small disruption to oil production throughout the world could spike world energy prices, severely harming the American economy. We have taken steps to improve the security of the energy infrastructure of this country since 9/11. But, unfortunately, terrorist attacks abroad could hurt us as if they were committed here at home.

Al-Qaeda and others seem to be thinking this way. Al-Qaeda documents call for, in their words, ‘‘hitting wells and pipelines that will scare foreign companies from working there and stealing Muslim treasures.’’ Last February a message posted on an al-Qaeda-affiliated Web site entitled ‘‘Map of Future al-Qaeda Operations’’ stated that terrorists would make it a priority to attack Middle East oil facilities.

The vulnerability of Saudi Arabia to energy terrorism is a particular concern. By far, Saudi Arabia is the world’s most important oil-producing country, being the largest exporter and the only country with significant excess production capacity.

Saudi intelligence reportedly disrupted an attack against the Ras Tanura refinery– the largest in the world in 2002. Over the last few years there have been several deadly attacks on Western oil workers, including Americans. These attacks have disrupted oil markets and drove up insurance premiums. It is worth noting that some Saudis support these terrorist attacks by their financial support for Wahhabism abroad.

[ Note: an attack was made on Saudi Arabia’s largest oil complex at Abqaiq in February 2006 that was foiled, two pieces on this are here and here) ]

Pipelines, which carry one-half the world’s oil and most of its natural gas, are generally built above ground, making them common targets for terrorists and insurgents. Pipelines have been attacked in Chechnya, Turkey, Nigeria, Colombia, and elsewhere, costing local governments billions of dollars. In Iraq, pipeline attacks have been pervasive. It is estimated that pipeline sabotage has cost Iraq more than $10 billion in oil revenues, despite the high priority coalition forces have put on pipeline protection. There is concern that the insurgents who have been attacking Iraqi pipelines have gained a measure of expertise, which will be transferred elsewhere.

Global shipping choke points are vulnerabilities in the world’s energy system. The Strait of Malacca is one of the world’s busiest sea lanes, through which half the world’s oil supplies and two-thirds of its liquefied natural gas transit to energy-dependent northeast Asia. The narrow and shallow straits have a long history of piracy, and today well-established terrorist groups operate in the region, including Jemaah Islamiya. Some believe several troubling scenarios are possible, including a terrorist hijacking of an oil or LNG tanker, to be turned into a floating bomb to be detonated in a busy seaport.

These issues are just one part of the complex issue of energy security. An important task in setting policy is gauging the likelihood of a potential terrorist threat and assessing the likely impact. Only with that information on the table can priorities be established. It is my hope that today we can answer some of these questions in this regard and begin to look at the adequacy of policies designed to address terrorist threats abroad to our energy security.

ROBBIE DIAMOND, PRESIDENT, SECURING AMERICA’S FUTURE ENERGY (SAFE). Thank you for holding this hearing to advance our understanding of America’s dependence on oil and the serious national security vulnerabilities of this dependence which, if exploited, could result in widespread economic dislocation and increased global instability. I speak to you today on behalf of Securing America’s Future Energy (SAFE), a nonpartisan group that is committed to reducing America’s dependence on oil in order to improve our national security and strengthen the economy. SAFE is working to transform oil dependence from a rhetorical turn of phrase and an insider’s game to a tangible economic and national security issue that compels political leaders, business executives and the public to act now.

2005 Oil ShockWave   [another one was held in 2007]

On June 23, 2005, SAFE, in partnership with the National Commission on Energy Policy, conducted a high profile Cabinet Level Oil Crisis Simulation called Oil ShockWave, which explored the extent and acuteness of the economic and national security threat and the possible consequences of American oil dependence. In this half-day exercise, top former government officials took part in a series of Principals meetings of the Cabinet or of a Special Working Group over a seven month period in order to advise the President on how to respond to a series of events that affect world oil supplies. The scenarios were designed to simulate a decline in world oil production due to regional instability and to terrorism. The simulation events began in December 2005 to provide some distance from current events.

Situations were presented primarily through pre-produced newscasts shown on video screens as well as ‘‘injects’’ or notes given to Cabinet members throughout the simulation. The participants were informed of their roles ahead of time, but they were not informed about the events and situations they would encounter.

Participants. The Oil ShockWave Cabinet was comprised of the following bi-partisan group of former Cabinet members and senior government and national security officials:

  1. Robert M. Gates, former Director of Central Intelligence and current President of Texas A&M;
  2. James Woolsey, former Director of Central Intelligence.
  3. Carol Browner, former Administrator of the Environmental Protection Agency;
  4. Richard N. Haass, former Director of Policy Planning at the Department of State and current President of the Council on Foreign Relations;
  5. General P.X. Kelley, USMC (Ret.), former Commandant of the Marine Corps and member of the Joint Chiefs of Staff;
  6. Frank Kramer, former Assistant Secretary of Defense for International Security Affairs;
  7. Don Nickles, former US Senator (R–OK);
  8. Gene B. Sperling, former National Economic Advisor and head of the National Economic Council;
  9. Linda Stuntz, former Deputy Secretary of Energy;

Why We Developed ‘‘Oil ShockWave’’

We believed that developing and conducting a simulation would be an engaging format to generate attention for this issue, but more importantly to foster an understanding of our energy insecurity. The simulation was designed to make this issue real and tangible for the public as well as lawmakers and policymakers. The oil markets are so vast and complex and the threats are so varied that sometimes it is difficult to comprehend the issue of oil use, oil dependence, and oil security threats and risks.  The facts themselves are incredibly compelling and persuasive. For instance:

  • 97% of transportation in the United States is fueled by oil
  • The transportation sector alone consumes 68% of all US oil
  • Total US oil consumption is forecasted to increase by 40% from 2003 to 2025
  • 125% increase in the demand for oil in India and China 2003 to 2025
  • $7.4 billion increase in the US oil bill per year for each one-dollar increase in the price of oil.

It was important for us to get beyond some of the general statements of oil dependence and look into the specific issues, threats, consequences, and responses. There is nothing like watching, listening, and learning as a group of former Cabinet members and senior government officials sit in a ‘‘mock’’ situation room responding in real time to a series of plausible and credible events.

II) How We Developed ‘‘Oil ShockWave’’?

From the first day we started planning the simulation, we believed that being profoundly realistic and having unimpeachable credibility was imperative. Therefore, we recruited and worked with a group of experts in the fields of national security, world oil production and distribution, trading, and macroeconomics to develop and verify the authenticity and plausibility of all aspects of the scenario from the oil market disturbances to the impact on oil prices and the economy. These included former members of the oil industry, oil analysts and traders, former and current military officials, intelligence and national security experts, and other specialists.   We worked diligently to stay away from the sensational. As Robert Gates told the Washington Post after Oil ShockWave, ‘‘the scenarios portrayed were absolutely not alarmist; they’re realistic.’’ Jim Woolsey, another former Director of Central Intelligence, who played the Secretary of Homeland Security called the attacks during a post-simulation interview ‘‘relatively mild compared to what is possible.’’

Beyond the terrorist threat to a vast and vulnerable oil infrastructure and system, it was the danger of political instability in countries/regimes that are major oil producers that presented the greatest risk to the US and our oil dependence. Freedom House considers only 9% of world oil reserves to be in countries that are considered ‘‘free’’ and Transparency International has shown that oil riches are highly correlated to their corruption rating. In many respects, it is the political instability and possible violence that force international oil expertise to leave the country and scares away foreign investment that is a more serious threat to the long-term stability of oil markets and the ability to meet world demand. For instance, some of the slowdown in Russian production that is an important element of world oil supply and demand forecasts is simply attributable to a tougher regulatory and less secure investment environments based on recent actions by the Russian government against Yukos and other oil interests.

The Scenario

With political violence and unrest in Nigeria, the fifth largest supplier of oil to the US, forcing foreign companies to ‘‘shut in’’ or close 600,000 barrels of oil per day in the Niger Delta for the foreseeable future. The situation is exacerbated by a very cold winter in the northern Hemisphere that increases demand by 700,000 barrels of oil per day. Based on the current projections of demand and supply at the time, these events result in a gap of more than 2 million barrels per day between supply and demand. We predicted this shortfall would drive a barrel of oil from $58 at the start of the simulation to $82 per barrel at the end of Segment 1. The price of gasoline rose from $2.21 to $3.31 respectively.

This turned out to be more realistic and plausible than we could have expected. Several days before we conducted Oil ShockWave, crude oil prices broke $60 on news of possible unrest and al Qaeda activity in Nigeria. We had initially been debating if a starting price for oil at $58 was too high. In fact, we were a bit low!

The second part, involved coordinated terrorist attacks in the US and Saudi Arabia. The first attack is on the Haradh natural gas processing plant in Saudi Arabia, about 280 km southeast of Dharan, taking 250,000 barrels of oil off the market that now needs to be diverted for domestic use. There is also a failed attempt to ram a hijacked super tanker into another tanker at a loading jetty at Ras Tanura, the world’s largest oil port. Finally, the Secretary of Homeland Security informs the Cabinet that a super tanker has rammed into another tanker at the port of Valdez in Alaska and there has been a ground attack on the holding tanks that are now on fire. The attack on the port of Valdez takes another 1 million barrels of oil off the market per day. This means that the world oil shortfall is about 3.4 million barrels per day. We predicted this shortfall would drive a barrel of oil to $123 and the cost of gasoline to $4.74 per gallon. This type of coordinated attack bears the classic signature of al Qaeda.

The last part takes place 6 months after the initial event. A new campaign of terror against foreign nationals in Saudi Arabia has forced them to be evacuated. In the prior 48 hours, 120 Americans have been killed and another 100 wounded; altogether more than 200 foreign nationals have been killed and 250 have been wounded. It is the highly aggressive crackdown on dissidents and al Qaeda sympathizers after the attacks in January on the Haradh natural gas processing plant and Ras Tanura that appears to be resulting in this popular backlash and terror campaign. The loss of international oil expertise means that Saudi Arabia will not be able to meet future demand growth and to build, hold, and use spare capacity. This scenario drove the price of oil to $161 per barrel and the price of gas to $5.74 per gallon. It is critical to note that no additional oil was taken off the market. The mere inability to have Saudi Arabia as the producer of last resort is enough to create unimaginable consequences.

The final economic analysis we conducted regarded the economic effects of oil at $120 per barrel. This is roughly the price of a barrel of oil at the end of part 2. Some of the key findings were as follows:

  • a recession following two quarters of declining GDP and a decline in 2006 GDP compared to 2005 GDP; approximately 800,000 jobs were expected to be lost during 2006, and over 2 million were expected to be lost in 2007, relative to baseline forecasts;
  • a $2,680 increase in annual gasoline costs to the average US household, driving average annual household gasoline costs to a total of $5,214;
  • a historically significant decline in the S&P 500;
  • a dramatic increase of the current accounts deficit—to $1.087 trillion in 2006 and to $1.052 trillion in 2007—as a result of the increased cost to purchase ‘‘foreign’’ oil.
  • consumers spending more on gasoline and thus cutting other spending;
  • certain energy intense capital is idled or its utilization rate falls;
  • automobile purchases decline sharply due to the uncertainty of oil prices; •
  • air travel falls as airfares rise due to higher fuel prices;
  • lower consumer spending due to lower consumer confidence.

The potential economic effects of oil in the last part were not estimated because crude oil at $161 is so far outside the range of experience that there were no models on which to base estimates.

III) What We Learned From ‘‘Oil ShockWave’’?

There is really no such thing as ‘‘foreign oil.’’ Oil is a fungible global commodity. A change in supply or demand anywhere will affect prices everywhere. Second, we discovered that taking such a small amount of oil off the market could have significant impact on crude oil prices and gasoline. Oil markets are currently precariously balanced. Small supply/demand imbalances can have dramatic effects. We essentially took only 3.5 million barrels off a roughly 84 million barrel global daily market. This means that a supply shortfall of approximately 4% could cause prices to rise to $161 per barrel of oil or to $5.74 per gallon of gasoline. This would create tremendous national security and economic problems for the country.

Prices of crude oil rose quickly. It would not necessarily take much to go from $60 to $123 or even $161.

Once oil supply disruptions occur, little can be done in the short term to protect the US economy from its impacts. There are few good short-term solutions.

There are a number of supply-side and demand-side policy options available that would significantly improve US oil security. Benefits from these measures will take a decade or more to mature, and thus should be enacted as soon as possible. This is the reason we must act now to end this national and economic security vulnerability.

US foreign and military policy is influenced by—and often constrained by— U.S. oil dependence. For example, during Oil ShockWave, the Saudi Arabian and the Chinese governments attempt to extract concessions out of the US in order for them to accede to US requests to help alleviate the crisis. The  Saudi Arabian government demands among other things that the US stop pressuring them to democratize and to stop discussing and investigating money laundering allegations and donations to al Qaeda in order to increase production capacity.  And the Chinese government demands the US stops discussing Chinese human rights violations and stops selling weapons to Taiwan in order to accede to a request to reduce demand voluntarily. It should be noted that in both cases the Oil ShockWave Cabinet refused to accede to these demands.

The Strategic Petroleum Reserve (SPR) or the emergency supply of federally owned crude oil (approximately 640 million barrels of oil) in underground salt caverns, offers at best limited protection against a major supply disruption. More importantly, determining when to use the SPR was more of an art than a science. There never seemed to be an appropriate opportunity and the Cabinet spent much time arguing when and how to release oil from the SPR. For instance, military and security were always concerned that releasing oil from the SPR could leave the US without any options if matters deteriorated further. There were also concerns that any announcement of a release of oil from the SPR could be overtaken or overshadowed by world events and thus prove meaningless as a psychological weapon.

Furthermore, it was noted that releasing oil from the SPR could have the opposite effect and actually contribute to an increase in prices, as any release would be seen as confirmation about the acuteness of the crisis. Finally, the SPR is virtually meaningless in Segment 3 if Saudi Arabia is truly unable to increase production for a sustained period of time.

The oil system is vulnerable to attacks on key energy infrastructure both overseas and at home.  Because that infrastructure is simply too vast to protect, we must seek other ways to reduce this vulnerability such as reducing demand and finding alternatives to diversify fuel sources. It should be noted that during Oil ShockWave Saudi Arabian security forces were able to foil terrorist attacks on Ras Tanura, a major oil facility. We thought it would be useful and telling to have a crisis despite the fact that Saudi Arabia was generally successful in protecting their major oil facilities. Most ominously, al Qaeda and Bin Laden have explicitly called for attacks and even attempted attacks on the oil infrastructure and by extension the Western economic system.

The stability of the entire oil-based global economy is currently dependent on Saudi Arabia’s ability to increase production dramatically and over a short timeframe. Given existing terrorist threats and political tensions in Saudi Arabia, this situation is fraught with enormous liabilities. This does not account for the argument made by many that oil revenues have likely funded terrorism and fueled hatred against America.

In the event of a crisis, the US has a few short-term options—such as tapping the Strategic Petroleum Reserve and implementing emergency demand measures, like carpooling, reducing speed limits, alternative drive days. The short-term options, however, are generally good for less than a year.

Conclusion

With 97% of transportation in the US fueled by oil, oil is the lifeblood of the US economy.

Oil ShockWave demonstrated that the nation must move rapidly to protect the nation from an oil supply crisis that could have dramatic economic and national security implications. Any meaningful interruption of global oil supplies would seriously strain the ability of the US to fund an aggressive and comprehensive war on terrorism. Key oil facilities have been attacked before, and it is virtually certain there will be more attacks. Most interestingly, it is instability, sometimes as the result of terrorism, in oil producing countries that poses such as serious threat to US oil security. (Of note, the stability of Saudi Arabia and its ability to meet short-term and long-term demand requirements are critical to the entire oil-based economy.)

There are also serious questions about the use of oil revenues to fund terrorism and hatred against America. It took a series of unsurprising events to drive the price of crude oil to $161 per barrel and the price of gasoline to $5.74 per gallon. More importantly, it only took a supply shortfall of approximately 4% or 3.5 million barrels out of a daily global market of roughly 84 million barrels to reach these prices in Oil ShockWave.

Unfortunately, once an oil supply disruption happens, there are no good short term answers. It is thus essential that the President and Congress immediately implement a long-term strategy for reducing America’s oil dependence. We need a concerted effort in the halls of Washington and boardrooms across the country. This is a grave national and economic security issue demanding the attention of our political and business leaders.

When we were attacked on 9 /11, many people were surprised at the terrorist threat and the US vulnerability. Our response to 9/11 must be to make sure that we are not surprised again. We must anticipate and prepare for the next attack by acknowledging the vulnerabilities and addressing them. Few weaknesses demand greater attention than oil security.

JOHN P. DOWD, SENIOR RESEARCH ANALYST, SANFORD C. BERNSTEIN & COMPANY, INC.

The risk of a supply disruption in the oil markets appears to be at one of the highest levels in history, primarily because of the thin cushion of spare capacity. With limited spare oil producing capacity, even a relatively small disruption in supply would cause shortages. This has caused oil to trade at a premium to expectations based on inventory levels, a premium described as either a ‘‘terror premium’’ or a ‘‘risk premium’’ by participants in the markets.

This premium appears to be directly proportional to the amount of spare productive capacity held in reserve. If there were 6 million barrels per day of idle capacity, no single terrorist act would be sufficient to cause a shortage. However, with only 2.2 million barrels per day of spare capacity, which is enough capacity to meet a little more than one year of demand growth, the oil markets are the mercy of political stability in Venezuela, Nigeria, and Iraq, as well as terrorist acts.

In theory, the solution is simple. If we increase the amount of spare capacity, we will reduce the risks that terrorist actions pose to the crude markets, and crude oil prices will ebb as a result. In practice, there are several complicating factors that will likely inhibit an effective supply-side or demand-side solution. On the supply-side, the primary concern stems from the inability of non-OPEC producers to materially increase production. The supply response to higher oil prices has been anemic. Over the past two decades, the working assumption has been that oil prices could not permanently move above $25 because doing so would invite a non-OPEC production response. However, despite record investment, we have yet to see any significant production response. To the contrary, production growth from countries outside of OPEC and the Former Soviet Union has declined each decade over the past five. In the 1970’s, these countries grew production 3.1% annually. Over the past decade, they grew production only 1.1% annually, even though investment was considerably higher.

Spare oil capacity will likely dwindle further as a consequence of Chinese demand. While all of the growth in Chinese oil demand over the past decade has been offset by increased exports from the Former Soviet Union, this does not appear likely going forward. Russian production growth stopped last September. This is potentially a game changing event that will only accentuate the sensitivity of the oil markets to terrorist attacks.

Finally, the risk of disruptions will likely grow as the global oil supply is increasingly sourced from unstable regions. Throughout history, oil companies have taken a very rational approach to investment, in which they have weighed political risk against geologic risk when deciding where to develop oil. One consequence is that the industry increasingly has demonstrated a propensity to invest in politically risky areas, because the world’s oil basins have matured and the geologic risks have increased. As highlighted by the Oil ShockWave simulation, the price of oil in the US is highly dependent on developments far outside of our borders.

If oil demand continues to grow faster than supply, the amount of spare capacity will shrink further and the oil markets will likely become even more sensitive to potential disturbances. For instance, if global oil consumption grows at a pace of 3.1% next year rather than current expectations of 2.1%, the amount of surplus capacity will be 830,000 barrels per day less than the current forecast. This is larger than the impact of the Nigerian disruptions sited in the first Oil ShockWave scenario.

It is relatively easy to narrow down where our oil dependency lies in the US: transportation.

Meaningfully reducing demand for transportation fuels is the only realistic way of gaining greater energy independence in the US. The challenge is that the obvious solution, encouraging the use of diesel fuels and the use of more fuel efficient vehicles, is also politically the most difficult. However, the potential is huge. Improving the average fuel efficiency of the US vehicle fleet by just 2 mpg would reduce US gasoline demand by roughly 1 million barrels per day. This is equivalent to all of the growth in US gasoline consumption over the past 8 years.

GAL LUFT, PH.D., CO-DIRECTOR, INSTITUTE FOR THE ANALYSIS OF GLOBAL SECURITY (IAGS)

IAGS is an energy security think tank which follows and analyzes the relations between energy and our national and international security.

Since 9/11 it has become increasingly apparent that terrorist groups have identified the world energy system as the Achilles heel of the West. Throughout the world jihadist terrorists attack oil and gas installations almost on a daily basis with significant impact on the oil market.

What makes oil interesting for terrorists are the unique conditions that have been created in the oil market. Until recently, the oil market had sufficient wiggle room to deal with occasional supply disruptions. Such disruptions could be offset by the spare production capacity owned by some OPEC producers, chiefly Saudi Arabia. This spare capacity has been the oil market’s main source of liquidity. But due to the sudden growth in demand in developing Asia this liquidity mechanism has eroded from 7 mbd in 2002 which constituted 9% of the market to about 1.5 mbd today, less than 2%. As a result, the oil market today resembles a car without shock absorbers: the tiniest bump on the road can send a passenger to the ceiling. Without liquidity, the only one mechanism left to bring the market to equilibrium is rapid and uncontrolled price increases.

This reality plays into the hands of terrorists who want to hurt the Western economy. The war on radical Islam is often described as an ideological or even religious war. But for the jihadists it is also an economic war. Osama bin Laden’s strategy is based on the conviction that the way to bring down a superpower is to weaken its economy through protracted guerilla warfare. We ‘‘bled Russia for 10 years until it went bankrupt and was forced to withdraw [from Afghanistan] in defeat. [. . .] We are continuing in the same policy to make America bleed profusely to the point of bankruptcy,’’ bin Laden boasted in his October 2004 videotape.

His logic is simple: To bring the U.S. to suffer a fate similar to that of the Soviet Union, the terrorists need to drain America’s resources and bring it to the point it can no longer afford to preserve its military and economic dominance. As the U.S. loses standing in the Middle East, the jihadists can gain ground and remove from power regimes they view as corrupt and illegitimate while defeating other infidels who inhabit the land of Islam. One of the Islamists’ methods to achieve this goal is to attack oil, which jihadists call ‘‘the provision line and the feeding to the artery of the life of the crusader’s nation.’’

Striking pipelines, tankers, refineries and oil fields is easy and effective. Terrorists no longer need to come to the U.S. and wreak havoc in our cities. They can cause enormous economic damage by hitting our energy supply at the generating points, where they enjoy strong support on the ground. These attacks have already imposed a ‘‘fear premium’’ in the oil market of $10–$15. For the U.S., an importer of more than 11 million barrels a day, this fear premium alone costs $40–$60 billion a year. The cause and effect are not lost on terrorists. ‘‘We call our brothers in the battlefields to direct some of their great efforts towards the oil wells and pipelines,’’ reads a jihadist website. ‘‘The killing of 10 American soldiers is nothing compared to the impact of the rise in oil prices on America and the disruption that it causes in the international economy.’’

Higher oil prices also mean a transfer of wealth of historical proportions from oil-consuming countries—primarily the U.S.—to the Muslim world, where three quarters of global oil reserves are concentrated. The windfall benefits jihadists as petrodollars trickle their way through charities and government handouts to madrassas and mosques.

The most popular targets are pipelines, through which about 40% of world’s oil flows. They run over thousands of miles and across some of the most volatile areas in the world. Pipelines are very easily sabotaged. A simple explosive device can put a critical section of pipeline out of operation for weeks. This is why pipeline sabotage has become the weapon of choice of the insurgents in Iraq.  Attacks on pipelines in Iraq have strategic impact on U.S. efforts there. They undermined the prospects of Iraqi construction by denying the Iraqi economy much needed oil revenues. They also have a corrosive influence on the morale of the Iraqis and their attitude toward the presence of U.S. forces in their country. Iraqis are growing increasingly vexed by the slow progress in the reconstruction effort and the inability of the government to guarantee a reliable supply of electricity, which is primarily derived from oil. Worse, the sabotage campaign has created an inhospitable investment climate in Iraq and scared away oil companies that were supposed to develop its oil and gas industry.

Emulating the success of the saboteurs in Iraq, terrorists in many oil-producing countries have set their sights on and attacked pipelines and other oil installations in Sudan, Chechnya, India, Saudi Arabia, Pakistan, Turkey, Colombia, Nigeria, Azerbaijan, Indonesia and the Philippines.

Terror at sea (also see Luft, G, et. al. 2004 Terrorism Goes to Sea,  Foreign Affairs)

There is growing evidence that terrorists find the unpoliced sea to be their preferred domain of operation. Terrorist groups such as al Qaeda, Hezbollah, Jemaah Islamiyah, the Popular Front for the Liberation of Palestine-General Command, and Sri Lanka’s Tamil Tigers have long sought to develop a maritime capability. Today, over 60% of the world’s oil and almost all of its liquefied natural gas is shipped on 3,500 tankers through a small number of ‘chokepoints’—straits and channels narrow enough to be blocked, and vulnerable to piracy and terrorism. The most important chokepoints are the Strait of Hormuz, through which 13 million barrels of oil are moved daily, Bab el-Mandab, which connects the Red Sea to the Gulf of Aden and the Arabian Sea, and the Strait of Malacca, between Indonesia and Malaysia. Thirty percent of the world’s trade and 80% of Japan’s crude oil passes through the latter, including half of all sea shipments of oil bound for East Asia and two-thirds of global liquefied natural gas shipments. The Bosporus, linking the Black Sea to the Mediterranean, is less than a mile wide in some areas and is one of the most threatened chokepoints. Ten percent of the 50,000 ships that pass through it each year are tankers carrying Russian and Caspian oil.

Most of the critical chokepoints are located in areas where Islamic fundamentalism is prevalent. The Strait of Hormuz is controlled by Iran; Bab el-Mandab is controlled by Yemen, the ancestral home of bin Laden. Part of the 500-mile long Strait of Malacca courses through Indonesia’s oil rich province Aceh, inhabited by one of the world’s most radical Muslim populations.

Many terror experts have expressed concern that al Qaeda might seize a ship or a boat or even a one-man submarine and crash it into a supertanker in one of the chokepoints. Were terrorists to attack such a vessel the resulting explosion and spreading stain of burning oil could shut down the channel with a profound impact on the oil market. Tankers are too slow and cumbersome to maneuver away from attackers; they have no protection and they have nowhere to hide. al Qaeda terrorists have demonstrated repeatedly their intent and ability to strike them. In January 2000 al Qaeda attempted to ram a boat loaded with explosives into the USS The Sullivans in Yemen. The attack was aborted when the boat sank under the weight of the explosives. Later, in October, al Qaeda suicide bomber in high-powered speedboat packed with explosives blew a hole in the USS Cole, killing 17 sailors. In June 2002, a group of al Qaeda operatives suspected of plotting raids on British and American tankers passing through the Strait of Gibraltar was arrested by the Moroccan government; and in October that year, the organization badly holed a French supertanker off the coast of Yemen. According to FBI Director Robert Mueller ‘‘any number of [terror] attacks on ships . . . have been thwarted.’’

To make things worse, there are increasing signs of collaboration between terrorists and pirates. According to International Maritime Bureau (IMB), pirate attacks on ships have tripled in the last decade. Each year 350–400 piracy attacks take place worldwide in which hundreds of seafarers are being killed, assaulted, or kidnapped. The majority of the attacks take place in the Philippines, Indonesia, Bangladesh and Nigeria. Most of the ships attacked are oil and chemical tankers. Maritime security experts have repeatedly warned about the collusion between piracy and terror, voicing concerns that Islamist groups operating in these regions could capitalize on the disorder and target strategic chokepoints by placing a bomb on a supertanker or ramming a ship into one.

One scenario our economy cannot withstand is a major attack on one of Saudi Arabia’s oil facilities. In addition to being holder of a quarter of the world’s oil reserves holder of most of the world’s spare production capacity Saudi Arabia is the only country in the world that has facilities that process more than 3 mbd. Over half of Saudi Arabia’s oil reserves are contained in just eight fields and about two-thirds of Saudi Arabia’s crude oil is processed in a single enormous facility called Abqaiq, 25 miles inland from the Gulf of Bahrain. On the Persian Gulf, Saudi Arabia has just two primary oil export terminals: Ras Tanura—the world’s largest offshore oil loading facility, through which a tenth of global oil supply flows daily—and Ras alJu’aymah. On the Red Sea, a terminal called Yanbu is connected to Abqaiq via the 750-mile East-West pipeline. The Saudi oil system is target rich and extremely vulnerable to terrorist acts. This is not only due to al Qaeda’s strong presence in the kingdom and its ability to carry out coordinated attacks but also because of the number of strategic targets. A terrorist attack on each one of the hubs of the Saudi oil complex or a simultaneous attack on a few of them is not a fictional scenario. In summer 2002, a group of Saudis was arrested for involvement in a plot to sabotage Ras Tanura and pipelines connected to it. A single terrorist cell hijacking an airplane in Kuwait or Dubai and crashing it into Abqaiq or Ras Tanura, could turn the complex into an inferno. This could take up to 50% of Saudi oil off the market for at least six months and with it most of the world’s spare capacity. Such an attack could be more economically damaging than a dirty nuclear bomb set off in New York City.

Since September 11 it has become apparent that there is no shortage of suicide terrorists who are willing to sacrifice their lives for the sake of killing the infidel but recent events in Iraq and Saudi Arabia show that there are those who are also willing to give away their lives for the sake of denying us oil.  If we stay on the present course, America will bleed more dollars each year as its enemies gather strength and the world economy will be at the mercy of oil kamikazes determined to go for its jugular. A smart combination of military and energy policies is our best hope for breaking the economic backbone of the jihadists before they do so to us.

BETTY MCCOLLUM, MINNESOTA. We know we are vulnerable and so I have two questions. One is: Why do you think we, as a country—and I don’t want to get into party identifying, or whose President when, or whatever—why haven’t we, as a country, in your opinion, done what we need, or started to do what we need to do, in terms of conservation, fuel efficiency and investing in renewables? Norway, which has a huge oil field of its own, went through and did a lot of those things on their own to make their oil profits last longer. They were thinking out into the future, and they have oil.  Secondly, what do you think the international community should do, because we are talking about other sovereign nations where we are receiving our oil from. Should the U.N. be looking at this? Should there be alliances put forward? Should the private sector, which is also very international now in these markets, should they be moving forward? Is there any creative thinking about what to do out there? Because America, as you pointed out, cannot police all these oil pipelines nor do I believe we should.

Mr. LUFT. As for the first question, why haven’t we done the right things, that would be like asking, why haven’t we done the right things prior to 9/11?

Unfortunately, the American public and its representatives tend to respond to crisis. We may need a crisis to wake us all up and do the right things.

Even though people tend to complain about high gas prices, our gas prices are still the lowest in the industrialized world. If you go to Japan or Europe, you see, you buy gas for way over $5 a gallon. So I think that we are not there in terms of public awareness and public understanding of how fragile the system is. But we will get there with the aid of the likes of bin Laden and others that will show us the light, and then we will respond in kind. I think that this is very unfortunate, but this is where Congress should step up to the plate and make us more secure.

Mr. DOWD. I wanted to respond to Ms. McCollum’s question. There are  clearly political reasons why we are in this problem today. We look at the energy bill today and conservation was not in it before.

In the 1970s we had similar problems, and we responded by doubling or tripling investment in the oil industry and by essentially doubling the fuel efficiency of the U.S. auto fleet. It took both steps in order to solve the problem and it took a very, very long time. Now, that is a very political issue. I don’t want to really delve into that. That is not my area of expertise.

But another reason why we are in this situation today is that the expected supply response has not materialized, and this has caught virtually everybody in the energy industry off guard. If we could grow non-OPEC oil production, 3, 4, 5 percent a year, we would have a spare source of supply. We would have something in reserve in order to meet unforeseen developments. If we step back to 10 years ago, the expectation had been that the investment in the deep water in the Gulf of Mexico, West Africa, offshore Brazil, North Sea, would lead to an acceleration of nonOPEC production. And the surprise is it hasn’t happened. The surprise is, outside of OPEC and the former Soviet Union, reserve replacement has been less than one, 4 years in a row. That is, the amount of oil we find every year versus what we produce has actually been less than outside of those countries. We have run into this surprise before. We have run into a situation, if we look at U.S. natural gas production since 1996, everybody was expecting a production response. We haven’t seen it. We have literally doubled the number of rigs looking for natural gas in the U.S. since 1996, and U.S. natural gas production is down slightly. These are new challenges that really have surprised everybody. I don’t think I am overstating that.  I am not trying to say that there are no regions in the world that are capable of growing production. It is fair to say that something like 60% of the countries that produce oil are seeing their production decline. So it is fair to say that there are success stories. The production growth that we are seeing in the deep water in the west African region, in the Canadian oil sands, and in certain parts of the world, is actually being offset by production declines in other basins.

STRATEGIC PETROLEUM RESERVE

Mr. DIAMOND. What surprised me most in Oil ShockWave were the responses to the use of the Strategic Petroleum Reserve. It really proved an elusive challenge to these people to decide—I mean, here we have this tremendous group of national security and energy experts, and they could not come to any unanimous conclusion to actually release the reserve. You had a breakdown of the national security folks saying, ‘‘Let’s not use it; you know, things could get worse. We could need it to go to war.’’ You had market people saying that we shouldn’t use it because when was the price high enough to use it. If we use it, we might just confirm speculation that things are worse than they are, and the price would just go up and have a contrary effect.

[NOTE: the same thing happens in the 2007 Oil Shockwave – some participants think that the SPR belongs to the Navy, and even if it doesn’t, we should save the SPR for the military in case things get far worse – presumably for war to keep oil supplies flowing]

And then ultimately, you know, they got to a point where in the last segment in Saudi Arabia itself—it wasn’t terrorist attacks but, rather, terrorism against foreign nationals and international oil expertise, which meant that we didn’t take any more oil off the market from Saudi Arabia. Rather, they just could not increase their production from where they were today and actually even deal with some of their natural depletion. And at that point the SPR, the Strategic Petroleum Reserve, in their minds was sort of a useless entity in that this was a much longer-term problem. The prices were so high that it would be just natural demand reduction. And in the end, they just could not come to a unanimous conclusion of when to use it or not. So it is more of an art than a science. And it is not a long-term solution to any of our issues.

Mr. LUFT. No country will invest billions of dollars in producing spare capacity. So we need to assume that spare capacity is history in the hands of the consumers. We need to invest in producing spare capacity in the hands of the consumers. That is through developing a more robust internationally managed Strategic Petroleum Reserve, and we recommend a 3-billion-barrel global reserve. We need to also realize that we have a responsibility toward other countries that don’t have this, particularly our neighbors in the Western Hemisphere. We have responsibility for their future, because we don’t want every country to begin to—so, you know, we have 700 million today, which we can use for our own market. But the reason we need more is because we need to be able to export oil in time of emergency to those countries that don’t have those reserves at hand.

Mr. ROYCE. Have you assured yourself that what we pour into the ground as part of this reserve that we get 100 percent of that back? I have always wondered about the porousness of that. I have always wondered about that strategy, and if there isn’t quite a bit of lost oil, crude, as a result of that.

Mr. LUFT. The domes have no known leakage or loss

Mr. DIAMOND. I have a bit of a different opinion. I would say we have to keep asking our questions about the SPR, and most of the people shrugged and said, I am not sure it will actually work. You know we are talking about can only get 4 million a day out of it. That is the rate of flow. We have never done more than 1 million barrels. We have never done it for a very long time. I would say there is a lot of debate. The oil is there. They are not sure they can get it out the same way. Also there were issues on the West Coast, meaning if you took it out of the SPR one of the problems we had is because Alaska oil is so important in California there may be extra shortage in California and the SPR wouldn’t necessarily be helpful to that area. And with the SPR, there are only two publicly held reserves in Germany and Japan. The rest is held by private companies, including in the United States. There are apparently billions and billions of barrels held by private companies. The other opinion we received by many people is because of just-in-time inventories in the oil business today, that is nothing too much to rely on either. So, you know, there was a lot of debate saying we let the SPR work during the simulation because we didn’t want to get into that argument. But even if you assumed it would work, it was very difficult to figure out when to use.

BETTY MCCOLLUM, MINNESOTA . I have a question. I didn’t know whether or not to ask it, but then you brought up the developing world. You look at the world over there, and the oil consumers are in the north, and we are the industrialized and developed countries. All the exploration that people are pretty much looking forward to in the future is in the Southern Hemisphere, the countries that are developing. What—as we talk about the millennium development goals for Africa, and as Africa moves forward—because that is the goal that I think we all share in becoming more sustainable and more secure—Africa is going to want to start to consume some of its own product, just as Latin America will. Has anybody looked at how that moves forward? Or do we, without realizing it, suppress their development, by our consumption of their natural resource, of what they will be able to do in the future?

Mr. LUFT. Africa. One of the things we need to worry about—and I agree that there is a lot of exploration in the Southern Hemisphere. But there is also a lot of exploration, particularly in Central Asia, very important energy domain for oil and gas. And I think there are two similarities between Africa and Central Asia. We are talking about emerging countries that don’t have a good mechanism of democracy and institutions. We want to make sure that in our search for non-OPEC, non-Middle East oil, we don’t replicate the problems that we see today in the Middle East. We don’t want to replicate the Middle East in Western Africa and Central Asia. We are dealing with tribal societies, very corrupt, very dictatorial. They don’t have a good record of handling oil revenues. We need to make sure that in our pursuit of running outside of the Middle East—because the dependency is bothering us from a national security point of view—we don’t create a Middle East in Western Africa and in Central Asia, because that will be more of the same. They have a problem in absorbing the revenues. They also have a problem—if you look at Nigeria, in Nigeria you see gas lines today. People are waiting in line to get gasoline. They have so much oil, yet they don’t have a good handle of the supply chain, refining capacity. These issues—and bear in mind the second most corrupt country in the world, according to Transparency International, and a third of Nigeria is controlled by Sharia Law, because those who have the oil are not necessarily those who run the country and so on.

There are many, many issues. And add to the fact that it is clear, both by Exxon Corporation as well as PFC Energy Report and others, that the reserves in the non-OPEC world are running out much faster than the reserves in OPEC. So if we increase production in those countries, we need to make sure that we have alternatives down the line, because we are heading toward a situation that once those reserves are being depleted, our dependency on the Middle East, on OPEC, will be stronger than it is today.

Mr. DIAMOND. Another interesting point brought up in Oil ShockWave was that they had trouble dealing with  a short-term spike — there are few short-term solutions. You can ask the American people to do some of these things, they can last for a year or so, and there are different amounts of draconian nature in some of these things.  But they really had a hard time. How do you ask the American people to wait for 5 or 10 years, to wait for other other solutions if a prolonged crisis happens in Saudi Arabia and we needed to dramatically reduce our demand?  That was really the crunch. The oil experts didn’t know how to deal with that

Mr. LUFT. Mr. Chairman, I want to comment on the model of Chad. One of the things we are seeing today in the developing world is that a new type of relationship is going on between developing countries and China. The Chinese don’t impose any limitations on distribution of wealth or human rights or any of this stuff that we are talking about. What they do, in exchange, is they provide the developing money. They come with cash, they build ports, railways, telecommunications system, et cetera.

Mr. ROYCE. This Subcommittee has looked at many of the different terrorist threats facing this country, including the threats of terrorists getting their hands on WMD, and you have presented a case here that this is one of the foremost threats facing the country, as panelists. So the question, I think, for us is: What should the priorities be, where should our focus be? Because we can’t do everything. So let us just have a quick response in terms of your answers to that.

Mr. DOWD. I think the focus should be what you control. We can hope for an acceleration in oil production, but here in the U.S., from a political point of view, we can’t control it. It will be difficult to protect facilities globally. Should we try? Yes, but that really is not under our control. What we control is what we consume here. I think the focus has to be on the CAFE standards.

Mr. DIAMOND. There are three solutions to this, which is an increasing supply, decreasing demand dramatically and finding alternatives. And I think it is important to say that increasing supply is a critical component because, you know, it is such a tight market and any extra supply can help. If that is the only solution, that this country thinks we can drill our way out of this problem, we are in for a shock.

Mr. LUFT. When we monitor the attacks and we look at the trends, we only look at politically-motivated attacks. We have to remember that, particularly in the developing world, there is a lot of looting going on. People just puncture a pipeline to get the oil, and will sell it on the black market. This is not politically motivated, but it also adds a lot of pressure and a lot of loss.

Mr. ROYCE. I have seen it in Nigeria, yes, firsthand.

BRAD SHERMAN, CALIFORNIA. We should remember that there is one world price for oil, and that American consumers will be forced to pay that price. Even if United States oil companies have secure sources of oil from Africa or Latin America, they will charge us that price. The best insurance to prevent terrorist activities from causing a spike, or an extreme spike in the price of oil, is the Strategic Petroleum Reserve, and this should, again, not be just a U.S. concern. There is one world price; thus if there was an interruption of 10 or 20 percent of the world’s oil production and the U.S. were to open its Strategic Petroleum Reserve, that would be in effect feeding a world supply. What is fair is that all energy-consuming nations should have a Strategic Petroleum Reserve, whether within their borders or elsewhere, so that we can act in concert to keep the price of oil at what we have now adjusted to, and that is this extreme $60 a barrel, or hopefully less.

India and China and other developing Asian countries are thirsty for oil. This will drive up world prices solely, or, God forbid, quickly, if we have any interruption or even the threat of an interruption. China is, of course, reaching out to some unsavory regimes for oil such as Iran and Sudan. And Hugo Chavez, who may style himself as the new Castro, dreams of the day when he can sell his 1.2 million barrels a day to China instead of the United States. I look forward to learning what we can do to assure a supply of oil at a price that does not reflect further shocks; what we can do to make our economy  immune to the possible oil shocks to come. Obviously, the thing we could do is to move toward a time when we are not so oil dependent.

The days when 94% of our transportation needs are met by oil need to end.

Mr. DOWD. What do we think is the primary concern of executives in the oil industry? I know that the executives I talked to are primarily focused on their own companies and achieving their business plans. As a result, they are concerned with access to oil service equipment. They are concerned with costs. It should be known that the cost of making oil, the cost of finding oil, are moving up very, very rapidly. For instance, when we look at the return of capital on the public EMP companies in the U.S., it is actually flat between 2001 and 2005, which is actually a stunning statement. Oil prices have almost doubled, but the returns that people are making in exploration and development have actually stayed flat.

Mr. ROYCE. Yes. In deep-water drilling we get excited about the potential. We forget about the potential costs.

Mr. DOWD. That is right. But the point being that this cost escalation that we are seeing in the industry doesn’t look cyclical. Between 1992 and 2002, according to the American Petroleum Institute, the average cost of a well in the U.S. increased at a rate of 9 percent per year. Reserves added per well in the U.S. didn’t go up. We are seeing structural inflation that is really very geologically driven in the high-cost area.

[ In other words, “Drill Baby Drill” has stopped working.  Economists have always promised, and still do, that all you need to do is throw money at shortages and whatever it is you need will appear quicker than Aladdin after rubbing the magic lamp. But it isn’t true – more money was spent, 9% a year, and oil reserves didn’t go up. ]

 

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