equity and macroeconomic grounds may simply be administratively infeasible.

Within the broad mandate of deciding how to use the fiscal system to alleviate some of the economic problems of oil supply disruptions, we must emphasize a combination of three goals. The first is improving economic efficiency; the second is pursuing macroeconomic stabilization; and the third, presenting regressive shifts in the existing income distribution.

The bulk of analysis to date has focused on the first of these goals. For example, in comparing tax rebate and coupon rationing systems. Only recently have we begun to analyze the macroeconomic connection, which is the subject of research by my colleagues, Glenn Hubbard and Robert Fry, and also has been addressed in other studies that Jim Plummer will be reporting on later today. My concern this morning is to advance the debate on the income distribution issues by outlining the channels for distributing quickly large amounts of money in an effort to redress the effect of an oil supply interruption. The first step is to design a specific recycling plan that can be subject to scrutiny and compared to other specific plans to see if such systems are feasible.

To this end, I have submitted for your consideration one detailed proposal developed by Jonathan Berman of our group under the title "Rebate Strategies for an Oil Emergency." This is a rather lengthy paper that I provided in advance for the record. And I draw your attention to it.

[The information follows:]

REBATE STRATEGIES FOR AN OIL EMERGENCY

CHAPTER I: BACKGROUND

In recent years the United States has faced an energy problem that in reality comprises two distinct problems. The first of these problems involves the transition from cheap and seemingly unlimited availability of fossil fuels to a situation of dwindling supplies and escalating costs of these fuels. The second problem is the possibility of disruption during this transition because of a marked dependency on unstable sources of supply. These problems require different solution approaches. Nothing can be done to reverse the depletion of fossil fuel reserves. Higher prices reflect more expensive recovery of remaining reserves and act as a cost signal against which alternative sources of energy must compete. This need to reflect the true cost of energy was the major justification behind the decontrol of energy prices.

A supply disruption, however, is by definition a temporary reduction in supply caused by some exogenous factor. Prices during this period do not

represent a long-run equilibrium, but reflect temporary, short-run constraints which act to push prices above the long-run equilibrium level. This new price serves to clear the market, but does not reflect the true cost which will ensue once the disruption ends.

In the case of a short-run interruption, the critical issue is the timing and responsiveness of solution mechanisms. The onset of any disruption immediately creates a new environment to which the economy must adjust; the best that any emergency program can accomplish is to minimize the costs of

adjustments.

In the past, the policy response during oil supply interruptions has been to ration the reduced supply and to allocate the remaining product at pre-distruption equilibrium prices. Unfortunately, rationing has not fared well in addressing the critical issues of timing and responsiveness. 1 Formal rationing (even if it incorporates proposals to give a market price at the point

of consumption) requires a central authority to decide the level of consumption allowed and the distribution of consumption across different groups. The time involved in making this decision, the speed of implementing the decision, and the accuracy of the decision determine the final cost of rationing as a method of dealing with supply interruptions.

An alternative to rationing is a market-oriented "tax rebate program"

for a supply emergency.

with the problems of oil supply interruptions.

This study explores a tax rebate mechanism for dealing
We begin by determining the size

of the revenues that the government may want to recycle.

OIL SUPPLY DISRUPTIONS AND WEALTH TRANSFERS

:

From Figure 1, we can see that the wealth transfer resulting from an oil supply interruption can be broken up into four concepts. In this case Q equals total demand before a disruption, Q'equals total demand after a dsruption, and Qp equals total domestic production. Triangle ABC represents the unrecoverable welfare loss. Rectangle EBCD represents higher prices on imported crude. Rectangle CAQQ' represents the money saved by not buying what has now been cut off. Finally, rectangle P'EDP represents a transfer from domestic consumers to domestic suppliers of petroleum.

W

We now consider just how large this transfer can become. The transfer is defined as:

T = QD (PW' - Pw)

Assuming that Qp is fixed, the problem becomes one of defining how a

shortage affects price. This relationship between price and quantity assuming a constant elasticity of demand is defined as follows:

(Here, for later convenience, we have treated a disruption loss dQ as a positive

Pw) = dP, we can substitute into the first equation to

Given appropriate data, it is possible to approximate the size of

transfers during a supply interruption.

The two exogenous variables

representing domestic production (QD) and the world price for petroleum (P) are defined from (Q4/79) through (Q3/80) data. For the year, domestic production averaged 10.17 MMBD. The world price during this year averaged approximately 26.41 dollars per barrel per year.2 Total U.S. supply equalled 17.27 MMBD.3 For now, the elasticity of demand will be allowed to range throughout the inelastic portion from -0.1 to -0.9.

All that remains to be specified in order to determine the level of transfers is the size of the shortage. In order to specify realistic levels, some idea of the world market in which the shortage would occur is necessary. In 1978, total inter-country transfers of petroleum equalled 35.5 MMBD. of these shipments, the largest single exporter was Saudi Arabia with exports totalling 7.7 MMBD. The Middle East exported the largest amount of oil of any