At campaign rallies, Republican Presidential Nominee Donald Trump promises to lower energy costs for American families and secure the nation’s “energy superpower” status through a combination of a deregulation agenda for domestic oil and gas industry and protectionist trade policies.
“My goal will be to cut your energy costs in half within 12 months after taking office,” Trump said at a Michigan rally in August. “We can do that!”
But some in the industry are skeptical. U.S. presidents can certainly encourage domestic oil and gas production through a variety of policy tools, such as regulations and executive orders, but rarely can they sway market balances to such a degree that would meaningfully move prices one way or the other. U.S. oil production currently stands at an all-time high with fuel exports continuing to set new records – so even if environmental regulations are eased or leases for oil drilling expediated, it probably won’t change much for Americans at the gas pump.
However, Trump’s proposal to overhaul a long-standing U.S. trade policy by indiscriminately hiking import tariffs to protect manufacturing jobs in America poses a very real risk of entrapping millions of barrels of oil the country trades every day, invariably raising energy costs for all Americans and the industry. The long-term imposition of tariffs on critical fuels for the U.S. economy could undermine national security, weaken business dynamism, and reduce the number of markets U.S. companies can compete in and profit. While Trump continues to formulate his vision for the economy and the nation, it’s worth taking another look at the potential implications of “MAGAnomics” for U.S. energy security, resiliency, and affordability.
Trade wars never bode well for energy markets. Oil is a global commodity that depends on the flexibility of international markets to ensure efficient supply allocation and transparent prices. The United States, having surpassed Saudi Arabia and Russia as the world’s top oil producer in 2018, has been reaping the benefits of free trade by becoming a net exporter of oil and petroleum products, with a daily oil output of over 13 million barrels. This has simultaneously reinforced the nation’s energy security, improved the trade deficit, and boosted economic growth. U.S. petroleum exports have helped to lessen the blow from global supply dislocations that resulted from Russia’s invasion of Ukraine while providing allies with sufficient supplies to withstand further incursions and pressures from Vladimir Putin. Yet, despite a much-improved energy outlook, the United States still imports roughly 6.5 million barrels of oil from the global market each day – a curious paradox that stirs confusion among those unfamiliar with the complexities of the U.S. energy market. To start, major gasoline consuming states – like Florida or the New England states– lack refining and pipeline infrastructure connecting them with the rest of the country, which means that they must rely on fuel imports to meet their demand requirements. Meanwhile, refineries in the Gulf Coast region are geared towards processing heavy sour crude grades that are commonly found in places like Canada, Saudi Arabia, and Mexico compared to a light, sweet oil produced domestically. Hydraulic fracturing unlocked production capacity of U.S. shale, but ironically, it is the wrong type of oil for our refineries. Much of the new oil we produce must be exported because keeping it for domestic consumption is neither economical nor logical due to these compatibility issues.
Though much about Trump’s policy agenda is still ambiguous, in one area he is perfectly clear: he wants to raise tariffs – a lot. After initially saying that tariffs on all imports would go up to 10%, he recently suggested they could be lifted to 20% and 60% on all goods manufactured in China. If implemented, the new radical measure would supercharge tariffs to the levels last seen during the 1930s when global trade shrank under pressure from protectionist policies enacted in the United States and the retaliatory tariff response by Europeans. The repeat of such a scenario today would inflict grievous harm on the U.S. oil and gas industry. Tariffs of this magnitude are poised to cover a large chunk, if not all, of the oil imported by U.S. refineries from the global market. Refineries that rely on imported oil would have to either pay a new import tax or invest millions of dollars to upgrade the infrastructure so they can efficiently process the types of crude produced domestically. Either way, additional costs will be passed along to the consumer in the form of higher gasoline and diesel prices.
What’s more, higher tariffs on imported oil will likely raise prices for domestically produced crude because domestic oil tends to increase in price to the same extent as imports. In terms of price, it is not the proportion of imports that matters, but the total demand for oil. U.S. oil producers will have very little incentive to decrease their production cost if they compete against higher-priced imported crude. The longer tariffs stay in place, the greater the probability that these costs are embedded permanently. Some in the industry argue that Trump’s Administration could lessen the blow to American consumers by exempting petroleum trade from import tariffs altogether and negotiate bilateral agreements instead. However, the risk of a chaotic breakdown in trade negotiations would continue to weigh on the global oil market which would likely encourage shadow transactions and lead to price volatility.
Should other countries retaliate by imposing their own trade barriers, as they did during Trump’s first term, it would essentially amount to a global tax on trade which would instantaneously render U.S. oil exports less appealing to overseas buyers. Hypothetically, a retaliatory 60% tariff on American oil exports to China would essentially end oil trade between the world’s two largest petroleum-consuming nations. Then, there are miscellaneous costs associated with higher import tariffs like elevated levels of overall inflation and higher prices for manufactured equipment used for oil drilling, pipelines, and transportation. We saw an example of this in 2018 when the White House slapped a 25% tariff on imported steel and aluminum with U.S. producers immediately passing associated costs to consumers. Gasoline prices that summer driving season spiked to a four-year high.
While U.S. oil producers might welcome Trump’s deregulation agenda, alone it will be insufficient to deliver on the promise of lower energy costs on a sustainable basis. Deregulation and permitting reforms, which might include a more active leasing program or easing of emissions rules, will help the industry squeeze out extra production, but the downstream price impact will be at the margin. The focus of the debate should instead be on the radical extension of Trump’s protectionist trade policies currently discussed for his second term. Oil tariffs are a bad policy. The tariff would impose substantial costs on American consumers, businesses, and the overall economy. The losses are far from small, and yet the actual cost of any petroleum tariff will likely be greater than estimated in this column. Without reliable energy supply at affordable prices, no modern nation can achieve sustainable economic growth. What’s more, we will compromise our collective national security and that of our allies. But judging by the hyped-up rhetoric, it doesn’t seem that Donald Trump is about to change his mind about tariffs anytime soon.
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