Estimating U.S. Oil Security Premiums

World oil supply disruptions lead to U.S. economic losses. Because oil is fungible in an integrated world oil market, increased oil consumption, whether from domestic or imported sources, increases the economic losses associated with oil supply disruptions. Nevertheless, increased U.S. oil production expands stable supplies and dampens oil price shocks, whereas increased U.S. oil imports expands the share of world oil supply that comes from unstable suppliers and exacerbates oil price shocks. Some of the economic losses associated with oil supply disruptions are externalities that can be quantified as oil security premiums. To estimate such premiums for domestic and imported oil, we employ a welfare-analytic approach—taking into account projected world oil market conditions, probable oil supply disruptions, the market response to oil supply disruptions, and the U.S. economic losses resulting from disruptions to the extent they that should be considered externalities. Our estimates quantify the security externalities associated with increased oil use, which derive from the expected economic losses associated with potential disruptions in world oil supply. This background paper is one in a series developed as part of the Resources for the Future and National Energy Policy Institute project entitled “Toward a New National Energy Policy: Assessing the Options.” This project was made possible through the support of the George Kaiser Family Foundation.