war on the rocks

The Shell Game: Fueling a Future War in the Pacific

On the morning of Dec. 7, 1941, Japanese naval and air forces surprised most of the U.S. Pacific Fleet at anchor in Pearl Harbor. Although the damage from the attack was substantial, it was not the knockout blow Japan had hoped for. Most of the 19 U.S. ships sunk or damaged were quickly returned to operational service. The United States was extraordinarily fortunate: Throughout the attack, the entire 4.5 million barrel fuel supply of the Pacific Fleet had sat untouched in visible, densely grouped above-ground storage tanks. The Japanese pilots had been ordered to prioritize the destruction of U.S. aircraft and warships — the fuel tanks were not targeted.

Japan’s failure to destroy the fuel was a strategic blunder. Destroying that oil would have immobilized almost the entire Pacific Fleet and given Japan time to consolidate its own newly seized oil sources in the Dutch East Indies. As Admiral Chester W. Nimitz put it: “Had the Japanese destroyed the oil, it would have prolonged the war another two years.”

It is striking how little U.S. logistics vulnerabilities have improved since then. Energy for military operations in the geographically vast Pacific region still primarily takes the form of military-grade fuels used by ships and aircraft. That fuel is still mostly stored in fuel terminals in known locations, many of which are in range of potential adversaries’ aircraft, submarines, and surface-to-surface missiles. The United States relies on an inadequate number of overtasked fleet tankers to support logistically fragile operational concepts (in contrast to southwest Asia and Europe, where it is often possible to move military fuel by other means, such as pipelines and ground transportation). Because of the enormous quantities of fuel required to support military operations in the Pacific and elsewhere, the military is increasingly aware of the tension between war plans and their underlying fuel logistics.

Recent efforts to innovate the fuel supply chain have sought to take advantage of efficiencies in regional and global markets. However, the resultant military fuel purchasing system is reactive and assumes that there will always be a well-functioning market. In the event of a military conflict involving China, the Defense Department may abruptly find nearby commercial fuels markets inaccessible.

Indeed, the military faces significant obstacles to accessing the right types and volumes of fuels, at the right times, at the right locations. So what if the Defense Department, in addition to locating fuel inventories at fixed locations with finite storage capacities, also participated in the active trading of in-transit fuels within the region?

Today, the U.S. military can ensure access to commercial fuels by using modern information technologies combined with novel operational planning methods. The military should create a dynamic fuels reserve system based on market portfolios of regional bulk fuel commodities, which would be bought and sold in real time as they made their way from refineries to customers. Such a system could be used to both anticipate conflict and guarantee control of appreciable amounts of regional fuel, even in the presence of market manipulation or physical attacks on U.S. fuel storage locations by China or others.

The Defense Department’s Fuel Vulnerabilities

Since 2004, the Defense Logistics Agency has had the responsibility “to execute Supply Chain Management for all Department of Defense bulk petroleum, with an emphasis on improving efficiency and minimizing duplication and redundancy within the supply chain.” It serves as a clearinghouse, negotiating contracts to purchase military fuels on the open market and reselling them to Defense Department customers at a global price that averages worldwide cost and includes an operating surcharge.

The existing military fuel supply chain is built around geographically distributed storage locations as well as key distribution points for refueling operations. Two key questions for storing military fuels are: (1) How much fuel to store? and (2) Where to store it? Prepositioning large amounts of fuel is problematic for several reasons: It’s expensive (simply due to inventory costs); it can create operational rigidity because the fuel might not be where it’s needed the most; and it can itself be a vulnerability because it might serve as an attractive target for an enemy.

It should be noted that the primary drivers of fuel storage and distribution during war are fundamentally different than during peacetime. During war, the supply chain often requires duplication and redundancy, whereas during peacetime, efficiency demands that duplication and redundancy be eliminated.

Recently, the Defense Department has adopted a “commercial-first” strategy in which it looks primarily to local commercial markets for fuel supply and then backfills any unmet requirements with military logistic capabilities. However, this commercial-first strategy has risks. First, it makes the military vulnerable to sudden price increases that prematurely exhaust fuel budgets and create unbudgeted fuel requirements. For example, between 2005 and 2011 the Pentagon imposed a net $27 billion department-wide unbudgeted requirement to respond to a series of sharp fuel price changes.

Another risk is procurement risk: Is the commercial market able and willing to steadily supply sufficient quantities of military-grade fuels to support wartime efforts? Currently, wartime planning relies heavily on commercially available fuel supplies (though some specialty fuel types aren’t produced in commercial volumes and must essentially be custom-ordered). Although the Asia-Pacific region is increasing its capacity to produce locally refined fuels, the total amount of “surplus” fuels remains small, and wartime requirements could demand significant portions of it. It is not clear that the Pentagon can procure a majority of this market at any point in time. In the event of conflict with China, the competition for uncommitted regional surplus will make this even harder. Moreover, China’s growing investment in key refining assets throughout the region (for instance, the Chinese are now 50 percent owners with Chevron of Singapore Refining Co Private Ltd, a key U.S. military supplier) creates the potential for economic interdiction, or firms choosing not to honor previously negotiated contracts.

The Concept

Refined fuel primarily moves around the Pacific via commercial tankers that transport the fuel in bulk from refinery to customer locations. However, these fuels are actively traded commodities that can change ownership multiple times before reaching their destination. As explained by Maersk Tankers, which operates one of the largest tanker fleets in the world:

Tankers are often compared to taxis, as tankers take on new assignments with new customers whenever they are available – unlike container ships, which are more like buses travelling on a fixed schedule. The nature of the tanker business is characterised by a trading mindset involving 3 parties: the charterer, the shipowner and the broker. The charterer of the vessel has cargo that needs to be shipped as safely, quickly and affordably as possible. The shipowner owns and operates the vessel and wants to maximise freight but with a reliable and solvent customers and at best possible contract terms. The broker bridges the gap between the charterer and the shipowner by using market knowledge to guide both parties.

It is not uncommon for a tanker to be diverted to a new destination or even be used for storage afloat because of a change in cargo ownership. As with many commodities, a trader might also buy, then sell, this moving bulk fuel without ever taking delivery of it.

Imagine a fuel trading entity that actively buys and sells refined fuels in transiting tankers through existing commercial brokers on behalf of the U.S. government – with the primary purpose of managing financial and procurement risk. For the most part, this entity would own fuel through financial instruments without taking delivery and only a small percentage of the portfolio would be for sale at any given time. However, if a need arose, the entity would have the ability to quickly divert the tankers transporting its fuel to appropriate terminals.

This portfolio of fuel commodities would be dynamic, in that the fuel inventories would constantly change with time and location. Thus, it would need to be actively managed. The basic structure should be that of a traditional private trading firm, with traders paid according to their performance. However, the trading entity would have a “double bottom line” that would include not only its profitability but also its ability to mitigate a specified risk portfolio for operational energy within the region.

In this way, the Defense Department could guarantee ownership of a significant portion of a regional fuel market before a conflict escalates and, on relatively short notice, divert significant portions of that market to its benefit. We imagine this system would complement the department’s existing fuel purchasing and storage system in several ways.

 Fixed fuel storage facilities at known locations are easily identified from satellite images and serve as potentially attractive targets to adversaries. However, a dynamic fuel reserve that is constantly moving and changing would be considerably more difficult to identify and target. Even if an adversary was aware that the United States owned the fuel, it would have less incentive to interdict the reserves if they were being transported by internationally flagged and multinationally crewed commercial tankers. Additionally, such a capability essentially circumvents the threat of economic interdiction posed by Chinese ownership in regional energy production.

At any moment in time, the manager of the dynamic reserve would own — and therefore control — whatever was in their portfolio. If the need for fuel became acute, the portfolio manager could stop the routine selling of inventory back to the market and instead redirect it to military fuel terminals or operating locations. Additionally, while the fuel storage capacity of any individual military fuel storage location is finite, a dynamic reserve has essentially unlimited capacity. This would increase resilience during humanitarian assistance and disaster relief operations as well as traditional military operations. In peacetime, the Defense Department could regularly take delivery and consume fuel from this dynamic portfolio to augment normal procurement operations, potentially providing more flexibility than traditional purchasing offers. This would enhance America’s consolidated logistics tanking capability, thereby possibly extending the reach of the Combat Logistics Force and Military Sealift Command. Commercial tools for global situational awareness of tankers already exist. The ongoing development of military-specific decision planning technology now makes it possible to do this type of dynamic planning for military purposes. 

It is possible that the actions of the trading entity, if known, could convey information to adversaries. While it is generally difficult to reverse-engineer a competitor’s asset portfolio, one does not need complete information to identify a vulnerability. At the same time, active participation in these markets could also yield valuable intelligence about activities within the region, particularly given that many of the players are state-owned or national oil companies. Strong activity on the part of an individual country could be an intelligence telltale that signals imminent operations.

There is growing interest within the Navy Department and other services in favor of “distributed operations” that disperse fighting entities geographically instead of concentrating them in a traditional strike group construct. These entities may have the potential for greater effectiveness, but they will also impose new challenges on the logistic supply chain that have not yet been fully addressed (although some of these challenges have been identified). For example, the need to periodically concentrate a distributed maritime fleet at known supply locations for fueling purposes could undermine some of the benefits of distribution. On the other hand, a dynamic fuel reserve operating in concert with other innovative initiatives might decrease the need to concentrate such a fleet, allowing the military to take fuller advantage of distributed operations. For example, the trading entity might help the Defense Department – one of the world’s largest fuel consumers – incentivize large commercial tanker companies to develop capabilities to directly transfer fuel between commercial tankers and Navy ships. These reforms should also include tanker-specific Maritime Security Stipends and fuel contracts that stipulate the capability. By combining fuel available at sea with ‎ships able to receive it and deliver it to the surface fleet (if only indirectly), it becomes possible to create a set of capabilities that augment bulk fuel operations during contingencies without being an excessive burden during peacetime.

Organizational Issues

In addition to the operational issues discussed above, there are also myriad organizational issues that are critical to the viability of this concept. For the trading entity to be economically competitive within the commodities marketplace, it would need the freedom to operate as a private firm. It is doubtful that the government has the expertise to staff such an entity, and those experienced and active traders qualified for such a role might not want to work for the government. Bureaucracy and regulations would render a government firm unfit to compete. Oversight for the trading entity could be provided by representation on the board of directors or an advisory board that remains engaged and maintains general situational awareness of the portfolio. This suggests the Defense Department itself probably shouldn’t be the organization tasked with doing the trading.

It’s possible that an independent quasi-government entity (consider, for instance, In-Q-Tel in the area of venture investing) could serve this purpose. Or perhaps it should simply be a private firm with a special contractual relationship with the government. There is precedent for the Defense Department establishing contractual relationships with private firms for service in the event of war mobilization (e.g., the Civil Reserve Air Fleet).

A more recent example is the Biomedical Advanced Research and Development Authority (BARDA). BARDA develops and procures drugs from commercial companies for use in public health emergencies and is the government’s primary interface with the biomedical industry. BARDA purchases traditional drugs for stockpile through government contracting processes, but some contracts also include less traditional options that allow the government to purchase large amounts of drugs during a medical emergency. In the same way, the Defense Department, in contracting with the proposed fuel trading entity, could stipulate options that could be rapidly exercised during a crisis but not otherwise.

We recognize that this proposed system is radically different from the existing one. Undoubtedly, there are many reasons this might never work: inability to execute, lack of expertise or precedent, conflict or competition with other government entities, and so forth. Still, we hope our proposal sparks a discussion about the vulnerabilities of the existing military fuel supply chain, especially in the case of conflict in the Indo-Pacific. In a competitive shell game for fuels, the advantage goes to the side that plays the best. And if China adopts this strategy, the Defense Department can’t afford not to play.

 

Lieutenant Commander Connor McLemore is an E-2C naval flight officer with numerous operational deployments during 18 years of service in the U.S. Navy. He is a graduate of the United States Navy Fighter Weapons School (Topgun) and an operations analyst with Master’s degrees from the Naval Postgraduate School in Monterey, California and the Naval War College in Newport, Rhode Island. In 2014, he returned to the Naval Postgraduate School as a Military Assistant Professor and the Operations Research Program Officer. He is currently with the Office of the Chief of Naval Operations Assessment Division (OPNAV N81) in Washington D.C.

Dr. David L. Alderson is an Associate Professor of Operations Research and Director of the Center for Infrastructure Defense at the Naval Postgraduate School in Monterey, California. Dr. Alderson’s research focuses on the function and operation of critical infrastructures, with particular emphasis on how to invest limited resources to ensure efficient and resilient performance in the face of accidents, failures, natural disasters, or deliberate attacks. He received his doctorate from Stanford University and his undergraduate degree from Princeton University.

 The views expressed here are theirs alone and do not reflect those of the U.S. Navy.

Image: U.S. Navy/Alana Langdon