Another Intelligence Fiasco
Energy Information Administration Gets Oil Prices All Wrong
SOURCE: AP
The President and Congress can’t craft sound energy policy when the EIA mis-predicts oil prices by a factor of two.
One of the most critical numbers in the economy is the international price of oil. Soaring oil prices and $4-per-gallon gasoline are now roiling the U.S. economy, upending already fragile U.S. automakers, forcing consumer lifestyle changes, and driving the costs of military operations sky high in Iraq and Afghanistan. With all this, you’d think it would be worth a serious effort to accurately predict oil prices so that policy changes and other preparations could be made in advance of a crisis instead of in the middle of one.
But the forecasters were not only wrong but stupendously, inexplicably wrong. The official US forecast of future oil prices, released by the Department of Energy’s Energy Information Administration in June of this year predicted oil prices for 2008 that are off by a factor of two. In fact, the June EIA forecast estimates that even in the highest price scenario, oil prices wouldn’t reach $100 a barrel by 2030. The EIA’s “reference case,” their best guess, shows oil at $60 a barrel in 2030. Energy plans around these estimates are bound to be just as reliable.
Estimating future oil prices is a thankless business since so many unpredictable events can shape them. Better intelligence would have helped, but we know from past experience that it is tough to predict a war in Sinai (1973), or the fall of the Shah of Iran (1978), events that sent oil prices soaring. Yet this time, the sharp increase in oil prices in 2008 did not result from any such shock. Prices were largely driven by the sheer pressure of growing international demand, including the exploding economies of China, India, and Brazil. Instead of a careful review of these enormous market forces, EIA analysis was obsessed by reviewing the impact of drilling in Alaska—issues that have almost no impact on the price of oil in the United States, or anywhere else for that matter.
As intelligence failures go, failure to anticipate the doubling of the price of a commodity central to the U.S. economy is a doozy. Blindsided by the sudden price increase we have no practical options to prevent the painful adjustments that have been forced on households and businesses around the country.
The lack of practical options, of course, doesn’t protect us from terrible ideas sold in the name of instant cures—such as offshore drilling or cutting federal gasoline taxes. Our ignorance also has long term effects by making it difficult to construct the kinds of energy policies we need.
Last year, for example, there was a wrenching debate over increasing fuel economy standards with lots of warring analysis—much of it based on EIA-derived oil price predictions that turned out to be absurdly low. If the Congress in 2007 knew that prices would reach $4 a gallon in 2008, it is likely that the standards chosen would have been much higher.
In fairness, the Department of Energy was not alone in missing the obvious. In a classic case of herd thinking, private energy forecasters were also badly wrong about oil. Global Insights Inc. estimated that crude oil prices would be $46 per in 2030. While closer to the mark, even the usually reliable Deutsche Bank was caught off guard, estimating $80 per barrel by 2030
So what should be done? First, we should take a careful look at why the forecasting was so colossally wrong. Second, we should find a way to build new teams to undertake forecasting—teams that combine specialized energy expertise with analysts able to recognize that the basic terms of international supply and demand have been upended by massive economic growth in China and elsewhere.
The rules will keep changing. Major decisions about how to manage climate change will drive fundamental changes in how energy is produced and used. We badly need analytical teams able to keep pace with these developments, evaluate alternatives, and provide us early warning of problems and opportunities. This will require combining the talents of several agencies, including the State Department and the intelligence community.
And perhaps most importantly, we need to give the Energy Information Agency the resources it needs to do its critical job. The agency’s statistical departments and analytical departments have both been cut back and starved for years. It’s tough to complain about a group that is expected to do so much with so little. The price we’re paying for saving nickels and dimes in analysis is very high. We’ll never get energy intelligence completely right, but we can’t again afford to be so wrong about something so important.
Henry Kelly is the President of the Federation of American Scientists, cofounder and Chair of the Board for Scientists and Engineers for America.
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