WASHINGTON — In September 2014, oil prices stood at just over $97 a barrel. One year later, those prices have tumbled to about $46 per barrel.
The price drop has obvious benefits for motorists, but it drivers around the US. It also has benefited the Pentagon, which consumes around 2 percent of all oil used annually in on an annual basis inside the US.
But while there have been savings, quirks in the way oil is purchased and budgeted means that the Defense Department will see little benefit in the coming fiscal year, regardless of whether it is under a normal budgeting process or a continuing resolution (CR).
Still, in a fiscally constrained environment, every little bit can help, as Mike McCord, Pentagon comptroller, noted in a recent interview with Defense News.
"If the price of fuel comes down, it would help ameliorate being under a CR to some degree, because if you're able to buy fuel more cheaply [and] you can maybe squeeze in a little more training," McCord said.
Bob Hale, who preceded McCord as comptroller, believes it is "possible" that oil prices could be "a small part of the solution to this budget mess we're in again."
He believes that If a budget deal is reached in Congress, it will fall well short of the increase requested by the Pentagon, he said. In that case, he says, watch for Congress to take some of the savings from oil prices and plug them in elsewhere, he added.
To understand the role oil prices could play in the various budget situations, one must first understand how fuel is procured by the Pentagon — something both McCord and Hale readily described as being in the weeds.
The DoD buys about $14 billion for operations billion in fuel a year, or about 2 percent of the annual US market, according to McCord. Of that total, about 80 percent of that fuel is used for aviation assets.
Four times a year, the Defense Logistics Agency (DLA) buys large orders of fuel. It then serves as the supplier for the various services, providing the fuel at whatever cost it desires. Those price changes tend to come at the start of a month or quarter, and according to McCord, the goal is to avoid too much price movement in that price because it can upset long-term planning.
The Pentagon does not buy extra fuel when the price is cheap; "we don't have the capacity to buy two years worth of consumption and just store it, nor are we budgeted to buy two years worth of fuel," McCord said. This means that when the price on the open market rises or falls, the Pentagon needs to ride the wave and adjust accordingly.
The ability to move the price charged to the services is key, as those planning it out rarely get the figure spot on due to the lag between estimating for a budget and when that budget goes into effect.
For instance, the estimate for fiscal 2017 — which begins Oct. 1 of 2016 — will be finalized this November, nearly 11 months before the actual price of oil will be known and a full 23 months before the fiscal year ends.
For the president's budget in FY16, the Pentagon budgeted the price it sells the services fuel at $123.90 per barrel (that figure represents an average of several types of fuel the service buys for operations).
On the surface, the new price would appear to provide the services greater savings. But, as with everything in the budget, there is a Congress-sized speed bump to that plan.
Like the rest of the world, Congress has noticed that the price of oil is coming down. And they've adjusted by taking funding out of operations and maintenance (O&M) in anticipation of those fuel price savings.
"Knowing that our '16 price is higher than what the market currently is," McCord explained, "Congress has said 'we're taking that money.' So we adjusted the price to reflect that. … They basically cut the budget and said 'you will need to fill this hole with the cash savings I know you're going to generate because the price of fuel is lower than what you built your budget on.'"
Adds Hale, "this is an area that's not a partisan issue. It's in the weeds. It's DoD trying to mange its finances and Congress recognizing they're trying to do that."
McCord believes the hole will be about $1.8 billion, and in order to keep an O&M shortfall from hitting the services, the Pentagon instead decided on the price drop as a way to negate that hole.
"So I would just ask people not to think that if I got a windfall here," he said.
Because of the tie between fuel prices and O&M, McCord said he would consider dropping the price charged to the services again if the Pentagon is forced to operate under a year-long CR.
The Pentagon did, however, have an "unambiguous" benefit in fiscal year '15 from the drop in oil prices, McCord said.
For FY15, the Pentagon budgeted at $155.40 a barrel. The global drop in price allowed the Pentagon to cut the cost it charges the services down to $136.92 per barrel in February. All told, the DoD saved between $2 billion and $3 billion, due to the dipping prices, McCord said.
So what happens with that money? McCord said there are a number of options. In essence, the money is saved at a Pentagon-wide level, with DoD having a choice about whether it gives the funding to the services as cost savings in the O&M Operations and Management accounts or whether it spends it on larger bills.
In 2015, about a third of the savings was given directly back to the services, to help with O&M. Another large chunk was used to pay off a major pharmaceutical bill the Pentagon saw coming down the pipeline, the result of higher-than-expected medical costs; Congress allowed the building to reprogram its funding to handle the issue.
"We saw this pharmacy bill coming, we retained some of those savings as a corporate asset, and we paid the department's pharmacy bill," McCord explained. "I could have lowered the price to [the services] even further, and then said 'here is your bill for pharmacy costs, give the money back.' Instead we kept the money here, and they got to keep the savings we let them have by lowering the price."
McCord noted that the Pentagon considered lowering the price further, but decided against it in part because of the size of the pharmacy bill.
What money was left over was pushed back into the capital working fund. Both McCord and Hale stressed the need to maintain a positive balance in DLA's coffers, with McCord calling it "irresponsible for a department that has to react quickly, as we do at times, [to] have no cash margin."
"Generally, in working capital funds, DoD tries to keep seven7-10 days of cash," Hale said. "They want a certain amount of money in the bank, so if something goes wrong they can pay it."
"Fuel is so volatile that you probably err on the side of caution when you can," he added.
The other unknown danger is whether gas prices will rise over the next fiscal year. If prices suddenly spike, DoD may need to raise the price of oil on the services in order to protect that buffer, which in turn would hurt O&M funding.
The good news for the Pentagon: Experts are predicting oil stays relatively low for the near future.
A recent Wall Street Journal survey of 13 analysts predicted crude oil will stay at under $60 a barrel for the next year. Meanwhile, Ed Morse, head of global commodity research at Citigroup, told CNBC on Sept. 21 that prices are likely to remain low in the near-term.
Aaron Mehta was deputy editor and senior Pentagon correspondent for Defense News, covering policy, strategy and acquisition at the highest levels of the Defense Department and its international partners.