It seems like an easy question. You might ask if I mean premium or regular, and where in the country I’m buying. Beyond that, though, the price is displayed in giant numbers on most thoroughfares. It’s such common knowledge that we ask politicians to rattle it off to show that they retain some awareness of the world they claim to represent. But as the sludge choking the Gulf of Mexico shows, nothing is easy when it comes to oil — especially the price.
Most of us would call the BP spill a tragedy. Ask an economist what it is, however, and you’ll hear a different word: “externality.” An externality is a cost that’s not paid by the people using the good that creates the cost. The spill is going to cost fishermen, it’s going to cost the ecosystem, and it’s going to cost the area’s tourism industry. But that cost won’t be paid by the people who wanted that oil for their cars. It’ll fall on taxpayers, on Gulf Coast residents who need a new job, on the poisoned wildlife.
That means that the gasoline you’re buying at the pump is — stick with me here — too cheap. The price you pay is less than the product’s true cost. And it’s not just catastrophic spills and dramatic disruptions in the Middle East that add to the price. Gasoline has so many hidden costs that there’s a cottage industry devoted to tallying them up. At least the ones that can be tallied up.
Topping that list is air pollution, which we breathe whether or not we drive. Then there’s climate change, which is difficult to give a price tag because it involves calculations like how much your great-grandchild’s climate is worth; traffic congestion and accidents, which harm drivers and nondrivers alike; and the cost of basing our transportation economy atop a resource that undergoes wild price swings.
Some of the best work on this subject has been done by Ian Parry, a senior fellow at Resources for the Future. His calculations suggest that adding all the quantifiable costs into the price of oil would increase the cost of each gallon by about $1.23. If you’re very worried about global warming, kick that up to $1.88. According to the U.S. Energy Information Administration, the average price of a gallon of gas is $2.72 right now. If Parry is right, it should be as high as $4.60.
That’s almost certainly an underestimation. There are plenty of costs we don’t know how to price. How much of our military policy is dictated by our need for secure oil resources? How much instability is created by our need to treat oil-producing monarchies with kid gloves? How much is the environment worth in a poor country that prefers oil investment to air quality?
Or take the gulf spill. What’s the economic value of a pelican? The nation is horrified by the photos of oil-soaked wildlife, but how much is not being horrified worth? And what’s it worth to not have to see the problem at all? One of the reasons we drill wells far offshore and in countries with poor safety and environmental records is that we don’t want oil companies mucking about in shallow waters near us. But as Maureen Cropper, an environmental economist at the University of Maryland notes, importing oil means exporting the damages associated with drilling for oil. When trying to put a price on those damages, do they vary country by country?
For all the complexity of calculating the true cost of oil, however, it’s unclear that it matters as much as some might think. I assumed that a world in which gasoline’s total costs were present at the pump would be a world in which our consumption was radically different. But almost all of the experts I spoke to said that wasn’t true. If an energy source as dirty as coal had to pay its true cost, we’d likely stop using it. But, disasters aside, that’s not the case with oil.
Years of regulation and innovation have made us better at finding, extracting, refining, and using oil. Oil might be cheap compared to its true costs, but adding those costs in wouldn’t make it unaffordable. That gets to the bigger issue, which is that energy sources are only cheap or expensive relative to one another. And the anchor beneath our reliance on oil is that, at this point, there’s nothing to replace it. “We’re pretty much stuck with our dependency on oil,” says Parry. “People need to drive and get to work.”
Increasing the cost of oil could make other energy sources cheaper by comparison and, if the mechanism was a tax, fund development of alternatives. But it is the speed with which we can discover and refine those alternatives — more than the price of oil — that will decide our energy future. The question, in other words, isn’t just what a gallon of gas costs. It’s what a gallon of anything that replaces gas costs. Maybe that’s what we should start asking politicians.
(c) 2010, Newsweek Inc. All rights reserved.
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