updated 11/17/2008 5:03:05 PM ET 2008-11-17T22:03:05

The Bush administration gave energy companies steep discounts in the royalties they will be required to pay as it established the groundwork Monday for commercial oil shale development on federal land.

Interior Department officials said the 5 percent royalty rate during the first five years of production was needed to spur drilling while still giving taxpayers a fair return. But that rate is much lower than the 12.5 percent to 18.8 percent the government collects from companies harvesting conventional oil and gas on public lands.

"In the short run, the American economy will continue to rely on oil and that means we need to increase supplies particularly here at home," said Stephen Allred, Assistant Secretary of Land and Minerals Management, during a call with reporters. "Public lands have a significant role to play."

Monday's announcement sets parameters such as the royalty rate and lease sizes, but it will be up to the incoming Obama administration to decide whether to proceed with leasing. Officials on Monday said commercial leasing was five to 10 years away.

The announcement by the Interior Department comes months after Congress — pressured by the White House and Republicans to increase domestic energy — failed to renew a ban on issuing final oil shale regulations.

In September, the Bush administration opened up approximately 1.9 million acres of federal property in Wyoming, Colorado and Utah to potential oil shale development.

Lawmakers from those Western states, which will receive half of the royalties collected, have said it is too early to issue final rules on oil shale development since so little is known about its impacts on the environment and water resources.

"These regulations are premature and flawed," said Sen. Ken Salazar, D-Colo., in a statement. "The Bush administration is rushing ahead with rules for a development process that they know little about,"

But Allred said 'rules of the road' were needed now so companies could plan investments. Leasing would not occur, he said, without further environmental review.

Up to 800 billion barrels of oil — enough to displace oil imports for 100 years, according to the Interior Department — is locked within fine-grained rock known as oil shale. The bulk of the resources are within a 16,000-square-mile area known as the Green River formation in Colorado, Utah and Wyoming.

Energy companies are looking into various ways of extracting the oil economically. Unlike traditional sources of oil, oil shale is costly to produce. Energy is needed to bake the rock and pump the molten oil to the surface. Shale oil can cost about $37.75 to $65.21 a barrel to produce, compared with $19.50 per barrel for conventional crude, according to Interior Department figures.

A government program to subsidize oil shale development in the 1980s was shut down when cost figures came in at several times the then-market price for oil.

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