environmentally, we undertook an economic evaluation of them as well. That economic analysis revealed the fact that these Canadian alternatives are very likely to be far superior from the standpoint of net benefits (B/C ratios), tax revenue for Alaska and oil producers' profits. The question that must, therefore, be asked is: Why was the TAP alternative chosen over the TCP alterna, tive? I will now attempt to address that question in the final section by analyzing the various U.S. and world markets for petroleum.

TABLE 5.-NET BENEFIT ESTIMATES FOR THE THREE PRINCIPAL PIPELINE ALTERNATIVES USING A 10 PERCENT DISCOUNT RATE AND AVERAGE CAPITAL COSTS

IV. SUPPLY AND DEMAND IMBALANCES: SOME INSTITUTIONAL AND ECONOMIC

CONSIDERATIONS

One assumption maintained up to this point was that the quantity of oil supplied to any of the U.S. markets would be matched by the demand at the present price level. An important part of this analysis will be the determination of the benefits and costs, profitability and tax generating effect of several plans that have been discussed to deal with any supply and demand imbalances. Finally, throughout this section the analysis will be directed at the question raised above concerning the decision on the part of the oil companies and State of Alaska to build an inferior transportation route from the standpoint of profits and tax revenues.

For the quantity of oil demanded and supplied to be in equilibrium at the present prices in each domestic market, changes in demand and supply must be offsetting. Accordingly, implicit in the discussion thus far has been a assumption that the increased supply of North Slope oil to District V would be just offset by some combination of factors such as (1) growth in demand. (2) decline in domestic production in District V, and (3) changing institutional arrangements for foreign imports.

The results of the Trans Alaska Pipeline analysis are particularly sensitive to such assumptions, since District V is given separate treatment under the present Mandatory Oil Import Quota Program. Additionally, the growth in demand in District V has been below the national average in recent years, although depressed economic conditions on the West Coast may be the cause. Furthermore, West Coast oil consumption is much lower than east of the Rockies. Therefore, any excess in the quantity of oil supplied is likely to have an important effect on profits, tax revenues, and economic efficiency.

Footnotes at end of article.

In recent years the growth in demand for oil in Districts I to IV has been about five (5) percent per year. If such a rate of growth in demand continues, by 1975 the increase in demand would be 3.4 million barrels per day (MMb/d), which is far in excess of even the greatest production schedule (2.0 MMb/d). now contemplated for Arctic oil. Even if domestic production east of the Rockies were to grow by as much as 2% per year, then by 1975 (at present prices) excess demand would be 2 million barrels per day. This increased demand east of the Rockies could be met by North Slope oil, if the accelerated throughput, no delay Trans Canadian pipeline were to be constructed immediately. Therefore, it does not appear likely that an excess supply problem in the case of Trans Canadian alternatives would occur. Indeed, the Midwest and East Coast of the U.S. are likely to face severe shortages and, therefore, an increasing pressure on price is likely.

Several important conclusions can be drawn from these facts. Using recent rates of growth in demand (2.5%) and supply (1.3%) in District V, if the entire throughput of TAP were brought to the West Coast of the United States, it is likely that there will be an excess quantity of oil supplied into the 1990s. On the other hand, the oil deficit Midwest and East Coast would be confronted with an immediate shortage of oil by 1975. Since this is the earliest possible time that the full throughput could conceivably be made available to the markets east of the Rockies, this relative importance of a Trans Canadian Pipeline is significant.

First, consider the effect of oversupply for the West Coast on the benefit estimates, which were described above using a static economic analysis. Since District V may be oversupplied with oil for perhaps 15 or more years, the corresponding estimates of benefits, taxes and profits, which were based upon an ssumption of no excess supply, have been consistently overstated. The appropriate adjustment for these calculations depends upon: (1) the rates of growth in demand and supply of oil on the West Coast, and (2) the type of restrictions that might be placed on foreign oil in the future. The present value of benefit estimates, which were based upon demand being sufficient to absorb the full TAP throughput, might be overestimated by as much as 75%.29. Accordingly, when dynamic conditions are taken into account the estimate of the social value of a barrel of North Slope oil would increase significantly for the Canadian alternatives relative to the TAP alternative. This adjustment further minimizes the margin of error that might exist in the benefit-cost calculations made above.

Additionally the net profit and tax revenue estimates, which were discussed above for TAPS are very significantly overstated. Furthermore, since the estimates of comparable parameters for the Canadian alternatives are not likely to be sensitive to dynamic supply and demand conditions (at least not in the downward direction), the conclusions reached previously concerning the superiority of the Canadian alternatives relative to TAP from the standpoint of profits and tax revenues are greatly reinforced.

Nonprice Methods for Dealing with Excess Supply

In the preceding section the likelihood of sizable amounts of excess supply of oil in District V was discussed. We will now analyze two proposals which deal with this excess supply by transporting the oil to markets other than the West Coast of the United States. Such decision parameters as oil company profits, state tax receipts, and economic efficiency will be examined. It should be emphasized that there isn't any need to develop such secondary markets for North Slope oil, if a TCP alternative is selected, since the Midwest and East Coast will need all the additional oil by 1975.

The President of Alyeska has estimated that oversupply in the 500,000 barrel per day range is likely into 1980. He called this oversupply "Panama" oil, and suggested that either it might be shipped eastward through Central America or westward for sale to Japan.30 In this section both alternatives will be considered. Special emphasis will be given to (1) an Import for Export proposal, (2) the implications of the Jones Act, and (3) the special treatment afforded the Virgin Islands as a refining center.

Prior to considering these alternatives, it must be pointed out that at the present time, all oil transported between two U.S. ports must be carried in U.S. flagships. Furthermore, an explicit prohibition against a foreign port servFootnotes at end of article.

ing as a break in the chain exists.31 In selecting alternative marine transportation systems for dealing with the excess supply of oil on the West Coast, these restrictions of the so-called "Jones Act" are a major consideration.

The Sale of North Slope Oil to Japan

The sale of North Slope oil to Japan has been discussed by several oil company executives. Each has suggested a different basis for such an arrangement. Rollin Eckis 32 has suggested that Japan may be willing to pay a premium for a relatively secure non-Middle East alternative, since he points out that Japan has a very rapidly growing demand for oil and at the same time more than 80% of its supply comes from the Middle East. A very different proposal for marketing North Slope oil in Japan came from John M. Houchin, President of Phillips Petroleum, who proposed a two-tier pricing system. 33 This alternative was labeled an "Import for Export" program, since it urged the approval of a plan by the President in which every barrel of oil that was exported should be replaced by an additional right to import oil by the exporting company. Since the U.S. would be producing an amount of oil equivalent to the increase in imports it was averred that national security and balance of payment effects would be mutually offsetting and therefore negligible. Another oil company executive who discussed the Japanese market for North Slope oil was Mr. E.L. Patton, President of Alyeska, who indicated that as much as 100,000 barrels per day may be sold to Japan in 1980.34 If Cook Inlet production, which is both closer and presently being used to supply natural gas to Tokyo, is displaced (backed out) in District V markets by North Slope oil, the total Alaskan oil going to Japan in 1980 may well exceed 300,000 barrels per day.

Estimates of the tanker costs for a Valdez to Japan marine transportation system in non-U.S. flagships are shown to be approximately $.20 to $.34 per barrel. In 1970 the average price of crude oil in Japan was about $1.83 per barrel. This price might be expected to increase to slightly more than $2.00 by 1975.35 Therefore, North Slope oil transported via a Trans Alaska Pipeline to Japan is worth approximately $1.15 per barrel less at the wellhead than if it were sold in Los Angeles in 1975 at the current domestic price of $3.17 per barrel.

Marketing oil in Japan would yield a before-tax profit of approximately $.95 per barrel.36 If the same barrel of oil were sold in Los Angeles, the profit before taxes is approximately $2.00 per barrel, if oversupply does not cause prices to fall. However, a combination of: (1) falling West Coast prices, (2) appreciating world prices, and (3) possible Japanese willingness to pay a national security premium, might make up these differences.

From a United States social benefit standpoint, this alternative would be inferior to both the MVP and AHP. Furthermore, if the environmental damages in the Arctic and the real costs in the oil deficit Midwest and East Coast areas from an increased foreign dependence are taken into account, the size of the net social costs of this Japanese alternative increases significantly.

These conclusions apply more or less equally to society, the treasury of the State of Alaska and the oil companies, when oil is sold to Japan, without any offsetting compensation. However, such a conclusion would not hold for all parties concerned about the optimal pipeline route selection, if an "import for export" plan as described above was approved. Under such a plan foreign oil would be imported to the East Coast outside the Mandatory Oil Import Quota Program to compensate the company which exported the Alaskan oil. This would mean a windfall profit of approximately $1.75 per barrel (using a price of oil of approximately $4.06 per barrel (26 to 26.9° API) and the cost of an imported barrel of about $2.30 per barrel).

In Table 6 these results are used to estimate the effect on profitability. If the net proxits before taxes from selling North Slope oil in Japan (about $.95 per barrel), the savings in taxes paid to the State of Alaska (about $.23 per barrel, based upon 20% of the wellhead price difference between selling oil in Japan at $2.00 or Los Angeles at $3.17 per barrel), and the economic profit ($1.75) from using foreign oil on the East Coast are summed, the net revenue or value to the oil companies amounts to nearly $3.00 per barrel ($2.93 = .95 +23+ $1.75) for each barrel of North Slope oil, which is marketed in this manner. Accordingly, while the oil companies would find these profits approximately $1 per barrel higher under this arrangement, the State of Alaska

Footnotes at end of article.

would receive less than one-half as much per barrel in royalty and severance taxes. Furthermore, the social costs of producing a single barrel of oil for U.S. consumers would equal the sum of: (1) the cost of imported foreign oil (approximately $2.30), and (2) the cost of supplying Japan (approximately $1.05). While national security and benefits from trade may also be present, this estimate of the costs of a barrel of oil exceeds all previous North Slope estimates by approximately $2.00 per barrel.37

TABLE 6.-NET REVENUE EFFECTS OF AN IMPORT FOR EXPORT PROGRAM

Excess of domestic price over foreign costs on the East coast of the United States.
Savings in taxes to the State of Alaska from a wellhead price difference of $1.17 per barrel..
Per barrel equivalent net revenue..

1.97

95

Difference...

.96

The importance of this "import for export" program in the analysis is due to the fact that this is the first case that was considered in which all three measures of value: social benefits, tax revenues, and oil company profits did not result in the same ranking of alternatives. I will return to this point below, but first the other part of the "Panama" oil case will be analyzed. Sale of North Slope Oil on the East Coast of the United States

While the movement of Alaskan oil to Japan would presently be permitted in non-U.S. flagships, oil transported to the U.S. East Coast from Alaska is not permitted in foreign tankers. There are two methods that might circumvent this restriction. First, oil shipped to Central America, piped across to a Caribbean port, and shipped to the eastern part of the United States, may fall outside the restrictions of the Jones Act, since two foreign ports and a foreign pipeline would be involved.

A second exception to the Jones Act is more likely. It would occur if North Slope oil was transported via a Central American pipeline or around Cape Horn to the Virgin Islands. It could then be refined and went to markets in the eastern part of the United States. Lending additional credence to this alternative is the fact that Amerada Hess Corporation is reported to have expanded its refinery complex in the Virgin Islands to 450,000 barrels per day in order to process an expected large quantity of North Slope oil for marketing in the U.S.38

The Virgin Islands represent something of an anomaly in the manner in which oil restrictions are applied. First, the Virgin Islands are exempt from the restrictions of the Jones Act. Second, foreign oil may be imported into the Virgin Islands for refining. However, the amount of oil that is permitted into the U.S. is restricted under the present Mandatory Oil Import Quota Program. Presently, no appreciable amount of domestic oil has been sent to the Virgin Islands to be refined and then sent back to the U.S. mainland for consumption. Therefore, there are no precedents for an alternative which would ship Alaskan oil to the Virgin Islands and simultaneously circumvent the Jones Act and the Mandatory Oil Import Quota Program. However, unlike the "import for export" program which was discussed above, the proponents of this alternative would probably have to be enjoined to stop their plans, rather than to have to seek executive approval as in the case of the former alternative.

From both an economic and a financial standpoint, several calculations can be made to analyze these "Virgin Island-Panama" alternatives. These calculations are shown in Table 7. The following general conclusions can be made. First, a Central American pipeline would probably be a more efficient expenditure of resources, both social and private, than a similar Cape Horn alternative, which would cost about $.44 (foreign flag) to $.92 (U.S. flag) more per barrel. Second, abstracting from any benefits to the nation from having goods shipped in domestic bottoms, the cost differentials between foreign and domesFootnotes at end of article.

tic tankers indicate that foreign flagships are more efficient. However, a conclusion based solely on cost differences must be carefully interpreted, since the Congress of the United States as the elected representatives of society, has judged the encouragement of the domestic merchant marine to be very important as indicated by the enactment of the Jones Act.

Putting such questions aside, the average costs for North Slope oil shipped directly to New York in U.S. flagships are estimated to be approximately $1.95 (per barrel) and $2.62 (per barrel) for the Central American pipeline and Cape Horn alternatives, respectively. These cost estimates are well in excess of the range of total cost estimates for a direct Trans Canadian pipeline extended to New York of $1.32 to $1.71 per barrel as estimated above at a 10% discount rate.39 Therefore, these extra costs in transportation represent real losses of resources for the nation, if this roundabout method of supplying the East Coast of the U.S. is selected to deal with the excess supply of oil on the West Coast. Furthermore, the difference between the costs of supplying the Midwest through New York (an even more roundabout plan) and a direct TCP, are approximately $.94 to $1.61 per barrel, when the average cost of the 10% discount rate cost cases of a direct pipeline to the Midwest of $1.26 per barrel is used as a basis for comparison.

TABLE 7.-NORTH SLOPE OIL TO THE EAST COAST BY TANKER FROM VALDEZ

1 This estimate is the least likely transportation costs for this case given the most probable interpretation of the Jones Act.

2 Tanker costs are based upon a straight averaging of the range shown in table 8 for each case. An educated guestimate is used for an additiona! 10 cents for handling in the Virgin Island scenarios.

1 Terminal and pipeline costs must be added. Assume 25 cents for construction and operating costs; therefore, estimates of 57 and 78 cents will be used.

2 Assume U.S. Flags would cost twice as much per barrel for operating and construction costs.

3 Perhaps 10 cents per barrel should be added to these estimates, if the oil is first brought to the Virgin Islands.

SOURCE. Based upon rates utilized by the Cabinet Task Force and a simplified linear approximation, "The Oil Import Question."