1973 Arab oil embargo

Pivot point in the world economy — before 1973, steel controlled the world economy; after, oil did. Tom said "'72" on tape; silently corrected to '73 (see editorial register).

Steel is a fundamental material to all the infrastructure. Before the Arab oil embargo in '73, steel was the material that controlled the world's economy. Oil became the thing after that. Oil is really just the surrogate for energy, whether it's wind energy or hydro power or nuclear energy. Oil is a replacement for those. As the price of oil goes up, the value of a nuclear plant goes up. They're all tied together, because we have ways to exchange energy. It's fungible, in general, from one material to another.

The pivot point at which oil supplanted steel as the world's economy-controlling commodity.

Bethlehem was the second-largest steel company in the world at the time, after U.S. Steel. And how did U.S. Steel and Bethlehem get to be the first and second largest, with so much market clout that in 1962, when U.S. Steel wanted to raise the price of steel, President Kennedy stood them down and made them roll back the prices? The steel guys say that's when we lost our profitability. But the reason: steel was like oil is today. The world's economy depended on the price of steel. Before the 1973 oil embargo, steel was the commodity that controlled the world's economy. U.S. Steel and Bethlehem controlled 75 percent of the world steel production in 1945. Why? Because we had bombed out all the rest of the capacity. What a great thing — you have a war, you bomb out your competition.

Two-dollar-a-barrel oil, embargo, screeching halt, four-or-five-hour gas lines. Industry responded by 1978 with fuel-switching capability, so the 1978 and 1982 embargo attempts failed. Frames political externalities and infrastructure response.

Same thing happened in 1973 with the Arab oil embargo. We were all buying two-dollar-a-barrel gasoline — crude oil was being pumped out of Saudi Arabia for two dollars a barrel in 1972, and all of a sudden the Arabs got together and said we're not going to ship you any more crude oil. The world economy came to a screeching halt in many areas. The price of energy shot up — we called it the oil crisis. My wife and I, and everybody else, would sit in line for four or five hours waiting to fill up our gas tank. All these cars running their engines sitting in lines a hundred yards long. Wonderful.

Used as the paradigm case for the "don't put all your eggs in one basket" principle of energy diversification. Tom argues 1973 was severe because US industry had no fuel-switching capacity; the late-1970s crisis was less severe because industry had since diversified.

The problem with energy crises is the same story investors have had for centuries: you don't put all your eggs in one basket. The reason we had an energy crisis in 1973 is that we were almost totally dependent on oil. We had no capacity to immediately switch from oil to natural gas to coal in most of our big energy-consuming industries. When the oil supply got disrupted, all of a sudden we had a crisis — there wasn't enough energy available, because the only energy we could use was oil.

Marker for the 1960s–1975 transition during which energy replaced steel as the world economy's denominating commodity.

When the US controlled 75% of the world's steel economy — 50% by 1960 — and US Steel wanted to raise the price of steel 10%, President Kennedy said no, because it would have been worldwide inflation. He stared them down and forced US Steel not to raise prices in the early 60s. US Steel will blame that decision of the president with their demise. But by the 70s, Saudi Arabia and others learned, hey, we've got something the world wants, and we're going to put an embargo on oil. Somewhere between '60 and '75, energy became the new commodity that controls the world economy. What is energy sold in? What do they price a barrel of oil in? Dollars. Because we are the country that controls the currency that energy is sold in. We're the gold standard, we are the dollar standard. So people can loan us money when we need it, and they end up with too many dollars, and we pay them back at cents on the dollar. It's a great place to be — except unfortunately in the last ten years some of the Europeans have been looking at this and saying, we wish we controlled things. Some people are trying to change the sale of energy to some other currency. If you look at constant-value studies, the price of a barrel of oil has been fairly constant. A hundred and fifty years ago it was a gold standard. I've digressed quite a bit.

"First oil crisis in '72" — Tom uses this date for the pivot from steel-as-monetary-material to oil-as-monetary-material. Saudi oil at $2/barrel pre-crisis; gasoline 24¢/gallon in 1950s–60s.

Starting in the early '70s after the first oil crisis in '72, all of a sudden oil became the commodity. Before that the Saudis could pump oil for $2 a barrel. I remember going with my parents in the '50s and '60s and gasoline was 24 cents a gallon at the pump. Even ten or fifteen years ago in Saudi Arabia, I'm told you just pay a fixed price when you come fill up your car — you might pay a buck fifty to fill up your tank. They've got more oil than they've got water. In fact, water is more expensive than oil even in the United States today.

Compared to the China rare earth embargo as the previous-generation reference case. In §4.p5, framed as "not the first energy crisis" — the seventeenth-century English wood crisis preceded it.

We talked about rare earth metals, and how China basically decided to hold Japan hostage, and by extension the rest of the world in electronics, by withholding the rare earth metals. Not because they had a monopoly on the availability of the rare earth metal ores, but because they had been willing to accept the pollution and to pay their workers very low wages, because that's the going rate in China. They had a de facto monopoly with a hurdle of probably five years before someone else could enter the market. You can't just stop all the production of electronics in Japan for five years — you're going to have to pay the price somewhere. Same type of thing as the oil embargo of '73.

Historical pivot point in consumer expectations of car longevity. Used to set up why automotive industry began addressing rust, leading to galvanized steel adoption and then to adhesive bonding.

It started in the oil embargo of 1973. Before 1973, people would buy cars and expect them to start rusting after about three years. Cars were not exactly disposable, but people didn't keep cars more than ten years. If you wanted a nice-looking car you basically traded it in after the three-year warranty. That might seem foreign, but it was really after the oil embargo that all of a sudden — and I never quite figured out the psychology on this — people started saying we want longer-lasting cars. There's probably a significant increase in other features in cars, whether it be electronics or other things, and the prices started climbing. Remember, Henry Ford made his money by making cars that were cheap enough that even his factory workers could afford to buy one. Cars were not exactly disposable, but they were limited-time use.

Structural parallel to the rare earth embargo. Tom cites the case to demonstrate that within five years of the embargo, U.S. utilities had retooled boilers for fuel-switching between coal, gas, and oil — his recurring thesis that monopoly power is self-limiting on a five-to-ten-year horizon. Tom dates the embargo to 1972 in the lecture; the historical canon dates it October 1973. Preserved per the no-correction-of-misstatement convention.

They had developed a monopoly position because they were willing to eat the world's pollution on production of rare earths, of which they had a very high natural resource. The United States had production facilities before China was opened up by Richard Nixon in the 70s. But the Chinese undersold us, and all the American production facilities were closed. We had mines in California. We have reserves — they're not that rare — but we couldn't compete economically with Chinese prices. So when the Chinese had a monopoly, it's just like the oil embargo of 1972 all over again.

Used to illustrate the five-to-ten-year industrial adaptation timescale. Utilities couldn't switch off oil at first; by the next embargo cycles, they could.

What does that mean? In the long run, if I can cut the cost by a factor of two, I'll increase the market size by a factor of four, which means a doubling of the dollar volume of the market. So in the long run, it's better to be productive and reduce the cost of materials. Maybe not the short run — there might be a lot of temporary things in the short run — but in the long run, over five or ten years. And why do I say the long run is five or ten years? It takes industry or society about five or ten years to make adjustments. After the 1973 Arab oil embargo, one of the problems was none of the utilities could operate without oil. They couldn't switch to natural gas or coal. But once the Arabs stuck the gun to their head economically and said we're not going to sell you oil, and they were essentially out of business, they invested in the ability to, just at the flick of a switch, change oil to gas or to put in coal-burning facilities to substitute for oil. So the next time the Arabs tried it, five years later, they were a lot less successful, and when they tried it five years after that it was a flop. Industry had adapted over five or ten years. So the time scale is five or ten years in my opinion.

Used to date the automotive industry's shift to rust warranties and galvanized steel. Not developed as a case; cited as the economic prime mover.

Student: [Suggests cooling happens between welds rather than during.]

Yes, you've got the cycle between welds, and you definitely will cool — there's like two or three seconds between welds. To give you a real-world example, and one of the ways I've used this. About 1985, they were welding galvanized steel in the automotive industry. Terrible problems. They used to weld non-zinc-coated steels, because they didn't care if your car rusted out in three years — you'd have to buy a new one. But after the 1972 oil embargo, the goal was to have cars with no rust for seven years. They started giving warranties to that effect and were losing their shirts. So they started galvanizing the steel, putting a zinc coating on as a sacrificial anode.