Gasoline costs too much in almost everyone’s opinion. President
George W. Bush is urging Americans to drive less. Other politicians
want government to push prices down.
Sen. Maria Cantwell (D-WA) suggests giving the President the
power to set retail gas prices. Sen. Byron Dorgan (D-ND) complains
that companies are “profiting in an extraordinary way at the
expense of the American consumer” and has proposed a windfall
profits tax.
Eight governors have requested a federal probe of gasoline
pricing. Illinois Gov. Rod Blagojevich (D) is threatening to
prosecute companies over price hikes after the recent hurricanes.
So is Republican Kentucky Gov. Ernie Fletcher. Georgia’s Gov. Sonny
Perdue, another Republican, signed an executive order penalizing
gas price hikes. GOP Gov. Matt Blunt of Missouri denounced “price
gouging” as “unconscionable and illegal.”
They are all moderates compared to some critics. “It’s very
clear to us that gas prices need to be regulated. We really need to
step back and recognize that like electricity, gasoline is too
vital to the economy to be left in the hands of these corporations
that have been gouging us,” argues Doug Heller of the misnamed
Foundation for Taxpayer and Consumer Rights in Los Angeles.
Hawaii has imposed controls on wholesale gasoline prices.
Several other states may follow suit.
Price controls have been around as long as prices. And price
controls have had disastrous effects for just as long. They
discourage production and encourage waste, creating shortages. They
also penalize emergency preparedness — stockpiling, for instance.
But counterproductive effects have never deterred demagogic
politicians seeking votes.
Advocates of price controls apparently believe that the oil
companies are artificially jacking up prices. It’s a convenient
theory, but it makes no sense. After all, if ExxonMobil and Royal
Dutch Shell could simply conspire to push up prices, they would
have done so last year. And the year before. And the year before
that.
In fact, Americans have been spoiled over the last two decades.
Adjusted for inflation, gas prices have been historically low. Even
today prices remain lower than in Europe.
GASOLINE PRICES HAVE INCREASED for a number of reasons. One is
growing demand. The emergence of China and secondarily India as
industrial powers is transforming the global market. In particular,
the former has turned from net energy producer into a potentially
large consumer.
Over the long-term the supply of energy, and maybe even of
petroleum, will increase. If nothing else, rising prices increase
the incentive for investment and production. The extra 46 cents a
gallon now going to crude oil producers is painful for consumers
but will encourage additional exploration and production.
Another reason prices are high — and have spiked in response to
the damage inflicted by Hurricanes Katrina and Rita — is pervasive
regulation. Most important, it has become extraordinarily difficult
to build oil refineries.
Both the number of refineries and their total capacity is lower
today than in 1980. The last refinery opened in 1976, even though
gasoline consumption has jumped a quarter since then. Today the
U.S. must import ten percent of its gasoline as well as 57 percent
of its oil.
Thus, the temporary closure of nine refineries (and reduction in
operations at three others) caused by Katrina cut total refining
capacity by 12 percent, sharply inflating pump prices. Hurricane
Rita had an even bigger impact, shutting 27 percent of America’s
refining capacity.
Companies are seeking to build more refineries, but
environmental regulations, backed by activists who mix
demonstrations and lawsuits, create delays and inflate costs. One
Arizona project begun a decade ago is still at least five years
away from completion.
Over the last ten years the industry has invested $47 billion to
comply with new environmental controls rather than construct new
capacity, according to the American Petroleum Institute. Compliance
with sulfur standards alone cost about $20 billion over four years.
Rules involving the additive MTBE, including potential liability
for water contamination, raise costs. Although the recent energy
bill included provisions intended to spur refinery construction, it
added a new ethanol mandate — a political pay-off to agricultural
interests — which will force expensive technical adaptations at
refineries.
Another problem is air pollution rules which mandate use of
“cleaner” gasoline in “nonattainment” areas, even though they
comply with stringent air quality standards most of the time. The
result is more than a dozen gasoline formulations, which reduce
economies of scale. Moreover, a disruption at even one refinery can
have a disproportionate regional price impact.
Such costs wouldn’t matter as much if refining was wildly
profitable. But it isn’t. Since 1990 refiners have averaged just
five cents on the dollar. While consumers target gas stations with
their ire, the bulk of recent price hikes have been retained by
refiners, which have been collecting three times as much money as
only a year ago. In contrast, distributors, marketers, and
retailers receive just a penny more than in 2004. And the latter
lose part of their small gain in higher credit card fees.
Even today, prices at the pump are constrained by local
competition. If gas stations could charge as much as they desired,
they would have done so before.
Government also pushes up prices through taxes, which average 42
cents a gallon nationally. In Hawaii, where the state government
has imposed price controls, California, and Nevada, the combined
state and federal tax is more than 50 cents. This is ten times the
average oil company profit per gallon.
Unlike prices, taxes seem to go up and never come down. Since
1980 the federal levy has gone from four to 18.4 cents a gallon, a
more than four-fold increase.
HIGH PRICES MAY BE PAINFUL, but they are the most efficient way to
distribute goods in high demand. Indeed, the gasoline industry
attempts to spread the supply as widely as possible. Wholesalers
charge “over-allocation” fees to discourage any distributor from
accumulating a disproportionate share of limited resources.
The basic point is simple: prices rise when supplies fall. That
signals consumers to use less and sellers to supply more. Price
controls short-circuit the adjustment process and intensify
shortages. Then the only way to get the item is by queuing.
That was the experience during the mid-1970s gas “crisis.”
Citizens in the wealthiest country on earth sat in gas lines
because the federal government allocated supplies and restricted
prices.
Only when newly inaugurated President Ronald Reagan lifted price
controls did supplies jump and prices fall. Federal energy
regulation was an extraordinary policy disaster that should never
be repeated.
The U.S. also imposed a windfall profits tax between 1980 and
1987. Of course, while politicians are ever ready to penalize
gains, they won’t protect against losses — as when the average
price of a barrel of oil fell below $10 back in 1999.
Alas, the windfall profits tax discouraged companies from making
potentially risky investments. In 1990 the Congressional Research
Service concluded: “The WPT reduced domestic oil production between
3 and 6 percent, and increased oil imports from between 8 and 16
percent.” Replaying the old WPT would replay its effect, cutting
production and increasing imports. That would help foreign
producers and hurt domestic consumers. But if Sen. Dorgan really
believes it to be such a good idea, he should propose imposing one
first on farmers, since crop prices also vary greatly over
time.
Economics isn’t the easiest subject to understand, but
politicians should at least try. Sen. Cantwell has charged the oil
companies with manipulating the market while allowing that “I just
don’t have the documents to prove it.” As for the right price for
gasoline, she admitted: “I don’t know what the level should be.” No
politician or bureaucrat knows the right level.
As Hurricanes Katrina and Rita demonstrated, natural disasters
often create economic dislocations and hardship. Adjustments almost
always are difficult. But government intervention always
exacerbates the pain. If gasoline seems expensive today, just try
turning the energy market over to government.
