Thursday, June 09, 2011

Don't Blame Big Oil for High Gas Prices

From my editorial in today's Sacramento Bee:

The administration's moratorium on exploratory drilling in new offshore areas has locked away billions of barrels of oil. Oil production in Alaska, which has been in decline for decades, could be doubled by opening up the Arctic National Wildlife Refuge and Arctic waters that are currently closed to drilling.

Combine these restrictions on drilling with instability in the Middle East and it's no wonder consumers are gritting their teeth at the price of gasoline. But we shouldn't blame oil companies for soaring prices, when they have nothing to do with the restrictions on domestic energy sources or the geopolitical events elsewhere that are the real culprits for higher gas prices.

38 Comments:

At 6/09/2011 10:30 AM, Blogger Eric H said...

Just so I understand, it's still George Bush's fault right?

 
At 6/09/2011 10:45 AM, Blogger Buddy R Pacifico said...

"
Oil imports now cost Americans $1 million a minute.


Or:

Americans pay $1 million dollars a minute, to many people that they may not want their hard earned money to go to.

 
At 6/09/2011 10:50 AM, Blogger niknaknoo said...

OPEC could increase production but they know people will pay whatever the price!! It's a cartel.

 
At 6/09/2011 11:30 AM, Blogger Michael Hoff said...

This country is so prosperous it has to manufacture its own misery. What sane people ever put its own natural resources off limits? And we're doing it based on the dual hoax of global warming and renewable energy.

 
At 6/09/2011 12:12 PM, Blogger Paul said...

"Somehow we have to figure out how to boost the price of gasoline to the levels in Europe."

~Obama Energy Secretary Steven Chu

 
At 6/09/2011 12:42 PM, Blogger Methinks said...

OPEC could increase production but they know people will pay whatever the price!! It's a cartel.

That is not a hard and fast rule - even assuming the cartel's collusion is always successful (it isn't).

In the 1970's, they tried that and found that demand permanently fell as more fuel efficient products were developed and substitutions were made. Unfortunately for Saudi Arabia and other producers in the cartel, most or all of their national budgets depend on the sale of the commodity.

The cartel was also not able to cut production enough to drive up the oil price from $10/bbl in the late 1990's (a larger cut would have severely impacted their national budgets).

So, even cartels are limited by reality.

 
At 6/09/2011 3:13 PM, Blogger Whiskey Jim said...

Simple question:

Given the vast reserves of American energy, what would be the cost of oil tomorrow if the federal government redacted all laws obstructing exploration and production?

Half?

 
At 6/09/2011 4:03 PM, Blogger Methinks said...

Whiskey Jim,

Simple question, super complicated answer.

Given the cost of lifting is very high in the U.S., maybe not half. What makes oil economic to lift is that price is higher than the cost of lifting and is expected to stay that way. At the same time, technology has reduced the cost of production. So, lifting costs vary from field to field (the less permeable and porous, the more expensive and the further they have to drill the more expensive). The other things is that the growth in production or at, at least proved reserves has to outpace demand growth to reduce price. I wonder if anyone has done a study on this....

 
At 6/09/2011 5:46 PM, Blogger morganovich said...

in addition to methinks's comments, i'd add that there is a significant time lag as well.

it takes years to drill enough and put in enough infrastructure to life a meaningful amount of oil.

this is precisely what makes the policies so unattractive to politicians: the payback comes much later under someone else's administration and they will get the benefits (and possibly the credit).

 
At 6/09/2011 6:09 PM, Blogger Craig said...

this is precisely what makes the policies so unattractive to politicians: the payback comes much later under someone else's administration and they will get the benefits (and possibly the credit).

I agree with you that the politicians (at least, the ones opposed to drilling) think that, but they're wrong. Today's oil prices are a combination of current supply, and expected (or feared) future supply. Just the policy change to one of willingness to exploit American oil would have a noticable and quick effect on prices.

 
At 6/09/2011 8:27 PM, Blogger Richard said...

Mark,

Sorry to say but gas prices are not high in the US. They are actually pretty low.

Posts like this suggest that there is a 'natural' price for gas. That somehow americans are entitled to (ridiculously) cheap gas. That $4 a gallon is expensive. It's not. Having a car that does 10 mpg is expensive.



Opening land /sea etc for drilling is all very nice but it won't change the price of oil for many years if not a decade or more.

Adding a dollar or two in tax will immediately lower the price of oil. And by doing so, the Saudi';s will implicitely be paying that tax.

You could even offset this tax with some sort of tax credit.

 
At 6/09/2011 9:47 PM, Blogger Ron H. said...

"Adding a dollar or two in tax will immediately lower the price of oil. And by doing so, the Saudi';s will implicitely be paying that tax.

You could even offset this tax with some sort of tax credit.
"

Even though none this makes any sense, What is your point?

 
At 6/09/2011 11:52 PM, Blogger Hydra said...

Oil producers have A lot of money invested in the us. High prices are not their only goal.

 
At 6/09/2011 11:53 PM, Blogger Hydra said...

Oil producers have A lot of money invested in the us. High prices are not their only goal.

 
At 6/10/2011 12:34 AM, Blogger Richard said...

Ron H,

Which part doesn't make sense?

 
At 6/10/2011 12:45 AM, Blogger Ron H. said...

"Which part doesn't make sense?"

The part I quoted. Perhaps you could word that differently or explain what you mean, and what point you are trying to make.

As it is written I have to guess at your meaning, and I don't want to do that. Be a little more explicit.

 
At 6/10/2011 5:30 AM, Blogger Richard said...

Ron H,

If you add a significant tax, then Americans will use less gas. That means the price of oil will fall, especially since Americans use 25% of all oil, they are the biggest player in the market. So the price of gas will not rise as much as the extra tax.

Result: Government will get the tax, oil producers will get less and the consumer will pay a bit more but not all.

If you offset it with a tax credit the result is that de facto the Saudis pay your tax.

Wouldn't that be nice?

 
At 6/10/2011 10:22 AM, Blogger Jet Beagle said...

Richard: "That means the price of oil will fall, especially since Americans use 25% of all oil"

I think your numbers may be a little out-of-date. The U.S. Dept of Energy reports that the u.S. is now consuming about 22% of global crude oil. Furthermore, they are projecting the U.S. share to continue declining.

How do you know how much global oil prices will decline if U.S. taxes on gasoline are increased by a dollar or two? Do you have any real data on the U.S. elasticity of demand for crude oil? Do you have any real data on the non-U.S. elasticity of demand for crude oil?

 
At 6/10/2011 11:12 AM, Blogger VangelV said...

Oil imports now cost Americans $1 million a minute.

Or:

Americans pay $1 million dollars a minute, to many people that they may not want their hard earned money to go to.


I think that you need to learn about how exchange works. Americans do not give money to the oil producers. They exchange money for something that they need and want; the oil. If it was not advantageous to exchange money for oil it would be done.

 
At 6/10/2011 12:11 PM, OpenID spartanfan2211 said...

First we do have an energy policy, its called "drill more use more", and big oil does shape that policy with their campaign contributions (less they make them out of generosity). If we make a "moon shot" policy of demanding and truly funding research into high efficiency cars then the demand for crude as well as reform B will shift, not just slide along the same curve. A fundamental shift in demand is a long term solution to fuel prices.

 
At 6/10/2011 1:06 PM, Blogger Ron H. said...

"If you add a significant tax, then Americans will use less gas. That means the price of oil will fall, especially since Americans use 25% of all oil, they are the biggest player in the market. So the price of gas will not rise as much as the extra tax."

Thanks Richard, I thought that's what you meant, but I couldn't be sure.

While the concept is accurate, I think you overestimate the size of any change in demand due to a tax increase. as JetBeagle points out, demand isn't very elastic with respect to price. In other words, if prices rise, we may use a little bit less, but mostly we pay the higher price.

As worldwide demand for oil is increasing, we could reasonably expect that a a lower demand in the US would be offset by the ever increasing demand in other countries like China and India, thus not really punishing oil producers at all.

If your intent is to punish Saudi Arabia, keep in mind that only 5% of US oil imports come from there, while 25% comes from Canada.

More oil is also imported from Mexico, Nigeria, and Venesuela, than from Saudi arabia. Any punishment would fall more heavily on those countries than on Saudi Arabia.

I think you will find that the largest part of any increase in taxes on gasoline would fall on US consumers.

 
At 6/10/2011 9:06 PM, Blogger VangelV said...

First we do have an energy policy, its called "drill more use more", and big oil does shape that policy with their campaign contributions (less they make them out of generosity).

Don't you wonder why there is a need for policy? Oil companies should be free to drill for oil just as manufacturers of automobiles should be free to make cars. What kind of free society requires a policy to approve economic activity?

If we make a "moon shot" policy of demanding and truly funding research into high efficiency cars then the demand for crude as well as reform B will shift, not just slide along the same curve.

Why not demand research on how to make pigs fly? Or change the gravitational constant so that fat people don't have to feel bad about how much they weigh? Imagine if we demand that water boil at 80C instead of 100C? Think of all the energy that we could save. Get the point?

A fundamental shift in demand is a long term solution to fuel prices.

You have no idea what a long term solution demands. If you did you would be a much clearer thinker.

 
At 6/10/2011 9:52 PM, Blogger Ron H. said...

"Why not demand research on how to make pigs fly? "

I think this is an excellent idea, and I stand to benefit a great deal. I've been promised a lot of really nice things when this occurs, so I'm all for it.

 
At 6/10/2011 11:09 PM, Blogger Richard said...

Ron H, Jet Beagle,

Elasticity wrt oil price is usually broken up according the time period you are looking at. Short term (less than a year or so) if very inelastic: The cars people have are the cars they have and the places they live are the places they live. It won't change much overnight. Basically the only change you get is the ones that can be done within the current settings: Carpool, work an extra day from home, combine grocery trips and use the small car for the longest trip. Stuff like that.

But looking at a longer time frame -say 5 years plus- the elasticity is much better. Exactly what happened in Europe and Japan after the oil shocks (Jet B: I think that's the proof you were looking for) People drive smaller cars (cars last for max 15 years so after 5 years a third of the cars are replaced) and live closer to work.

Use bicycles if possible and build neighborhoods that are 'walkable'. I don't know how much time you have spend outside the US (I assume you are Americans) but in most communities people walk. In the US that is much less so.

Another point: The fact that the US imports most of it's oil from Canada and not the Saudis is irrelevant. If the US demand for oil from Canada would drop and only the Canadian price would lower, other countries would immediately switch to Canadian oil. In the end, all oil will drop in price. And since the Saudis and the Russians are the largest exporters, they would feel it the most.

Last but not least: The fact that we (=the west) spend so much on oil and thus support regimes that are basically thugs is something not to be proud of. If not for economic reasons, we should do it for moral reasons. And that is maybe an even bigger argument.

 
At 6/11/2011 3:27 AM, Blogger Ron H. said...

"Another point: The fact that the US imports most of it's oil from Canada and not the Saudis is irrelevant. If the US demand for oil from Canada would drop and only the Canadian price would lower, other countries would immediately switch to Canadian oil. In the end, all oil will drop in price. And since the Saudis and the Russians are the largest exporters, they would feel it the most."

It seems you have a poor understanding of how the global oil market works, so it's possible that I can't explain to you why you are wrong.

Oil is a global commodity, with most countries in the world both exporting and importing oil. Some are net exporters, and some are net importers. The US is a net importer, using more oil than it produces.

Any change in supply or demand has a worldwide effect, and subsequently a world wide effect on prices.

Gasoline is also bought and sold worldwide on exchanges.

There is no selective effect on a particular country due to an action in the US. A large tax increase on gas sold in the US would have very little immediate effect on demand, and very little effect on world prices.

It's not clear what you hope to accomplish with this cruel tax you are suggesting. Is it social engineering of some type?

If it's punishing Russia or the Saudis you want, I can tell you that it won't do that.

 
At 6/11/2011 4:43 AM, Blogger Jet Beagle said...

Richard: "Jet B: I think that's the proof you were looking for"

Nope. You have only offerred assertions and opinions. I see nothing your reply which constitutes evidence of either U.S. or global elasticity of demand for gasoline.

Here's some real data on U.S. gasoline prices and gasoline usage:

Real gasoline prices (2011 dollars)

1990 - $1.94
1995 - $1.64
2000 - $1.95
2005 - $2.62
2010 - $2.87

Gasoline usage (000s bbls per day)

1990 - 7235
1995 - 7789
2000 - 8472
2005 - 9159
2010 - 9034

Source: U.S. Dept of Energy

As you can see, real gasoline prices in the past decade were $1.00 a gallon higher than in the 1990s. Yet gasoline consumption increased. That's exactly the opposite of the long term effect you asserted.

 
At 6/11/2011 7:20 AM, Blogger Richard said...

Jet Beagle,

The fact that gas prices rise and fall does not mean that people do no longer respond to price changes.

If you would like proof, I can just step outside and take a picture of a small car.

Would that convince you? Gas is about $9 a gallon here.

 
At 6/11/2011 9:06 AM, Blogger VangelV said...

But looking at a longer time frame -say 5 years plus- the elasticity is much better. Exactly what happened in Europe and Japan after the oil shocks (Jet B: I think that's the proof you were looking for) People drive smaller cars (cars last for max 15 years so after 5 years a third of the cars are replaced) and live closer to work.

Think of a bankrupt nation that can no longer exchange its newly printed currency for oil and you will see that a serious adjustment will have to be made. The simple fact, which Mark keeps ignoring, is that while the US is still a great manufacturing power its productive class supports a massive parasitic group of government employees, a huge military industrial complex, and an out of control welfare state. The continuation of things as they are depends on the willingness of the productive class to go along and carry the burden. But in a world where capital and skill sets are mobile the productive class can always choose to step aside and let others try to make all of the sacrifices that are demanded of them.

I am sorry but I do not see an easy way out. With debt plus unfunded liabilities standing at well over $100 trillion there is no way to keep all the balls up in the air with a $15 trillion economy. We will have to see a massive devaluation that will cause prices of food and oil to explode or an outright default that will cause asset prices to collapse.

In either case there will have to be an adjustment that has to take place rapidly. Now it is possible that there will be some breakthrough that will help us go thorough the transition less painfully but such a breakthrough is unlikely unless idiot politicians get out of the way and let innovators do their thing. Sorry for being a cynic but I do not see that happening unless there is a revolution at the ballot box and sensible people who would cut government drastically are elected to office. The odds of that happening prior to a collapse are extremely low.

 
At 6/11/2011 9:08 AM, Blogger VangelV said...

Last but not least: The fact that we (=the west) spend so much on oil and thus support regimes that are basically thugs is something not to be proud of. If not for economic reasons, we should do it for moral reasons. And that is maybe an even bigger argument.

The moral argument is to stay away from political entanglements and to only deal with them commercially.

 
At 6/11/2011 7:09 PM, Blogger Jet Beagle said...

Richard,

My question to you was: Do you have any evidence about the U.S. price elasticity of demand for gasoline?

I provided evidence showing that a real, inflation-adjusted price increase in U.S. gasoline has not reduced gasline consumption. You have provided no evidence. I can only assume that you have none, and that your assertion about U.S. response to gasoline prices is merely your opinion - an opinion not supported by evidence from the real market.

 
At 6/11/2011 9:03 PM, Blogger Richard said...

Jet,

I don't understand.

I can step outside and see, touch and feel the car. It has a 3-cylinder, 1 liter engine and it runs 50 mpg. It's not a hybrid, but an ordinary combustion engine.

It's real. You can sit in it. There are thousands -if not millions- of them.

If you ask people why did you buy this small car and not the Ford F250 they will think you're crazy. Gas is $9.49 per gallon here.

The argument that you are trying to make -people do not respond to rising gas prices- doesn't fit reality.

 
At 6/12/2011 12:28 AM, Blogger Jet Beagle said...

Richard: "The argument that you are trying to make -people do not respond to rising gas prices- doesn't fit reality."

I did not make that argument, Richard.

I did provide evidence that a $1.00 increase in gasoline prices - a real, inflation-adjusted increase - does not reduce gasoline consumption in the U.S>


Yes, some Americans have purchased more fuel-efficient vehicles. But some have purchased less fuel-efficient vehicles. And the most important change since the 1970s is that households are driving more miles.

I don't know how old you are, Richard, so I do not know what you know about the 1960s and the 1970s. Back then, American drivers such as me were buying both small vehicles and large ones, just as we are doing today. We bought Volkswagen Beetles, Chevrolet Corvairs, and, later, Vegas and Pintos. Small cars are nothing new. Large SUVs also existed back then, but nowhere near the numbers as do now.

Small cars on the road today do not tell one anything about the price elasticity of gasoline in the U.S. The facts I provided earlier - facts about gasoline prices and gasoline consumption - do give a very good indication about such price elasticity.

 
At 6/12/2011 2:22 AM, Blogger Richard said...

Jet Beagle,

> I did provide evidence that a $1.00 increase in gasoline prices - a real, inflation-adjusted increase - does not reduce gasoline consumption in the U.S

I'm not so sure. I see your numbers and from that I would conclude the same as you do. However, that's not the complete story.

Lets have a look at the numbers.

The consumption of oil has increased from 7235 kbpd to 9034 kbpd. That's a 24% increase.

However, the US population has increased from 249 million to 309 million. That's also a 24% increase. So on average, americans use the same amount of oil per capita. No change.

However, the US GDP (2005 dollars) has increased from 8,033 billion to 13,248 billion, per capita 32k to 43k, an 33% increase.

Data is here: http://www.bea.gov/national/xls/gdplev.xls

At the same time, price of gas has increased from 1.94 to 2.87. As a % of income, oil has increased only 12% (make a spreadsheet and put all the numbers in)

The question is now: Did americans respond to the (relative) 12% price increase?

I think they did. GM/Chrystler is bankrupt, Toyota is (apart from the earthquake) the largest car manufacturer.

However, even if the numbers do not convince you: How can I explain to you that I bought my 50 mpg car because gas prices are so high? I even don't know anybody who drives a pickup.

Last but not least, I'm 44 years old and I have -surprise!- a PhD in applied Math. ;-)Long time ago.

 
At 6/12/2011 3:51 AM, Blogger Richard said...

Jet Beagle,

Small addendum:

Since 1190, the VMT (Vehicle Miles Traveled) on the highway has increased with app 40%.If you correct that for pop growth, it's about 12%. Assuming that non-highway miles also increased likewise, americans just drive 12% more.

Conclusion:
- Cost of gas as % of income has increased with 12%
- Americans drive 12% more.

Overall it didn't change. Apart from the fact that americans now drive 12% per gallon further => Americans are responding to gas prices.

Is this the proove you are looking for?

 
At 6/13/2011 4:37 AM, Blogger Ron H. said...

"Last but not least, I'm 44 years old and I have -surprise!- a PhD in applied Math. ;-)Long time ago."

Wow! That IS a surprise. You had me completely fooled.

"Conclusion:
- Cost of gas as % of income has increased with 12%
- Americans drive 12% more.

Overall it didn't change. Apart from the fact that americans now drive 12% per gallon further => Americans are responding to gas prices.
"

When you were studying for your math degree, did you miss the lecture on positive and negative numbers? You should be aware that sign matters.

 
At 6/13/2011 8:04 AM, Blogger Jet Beagle said...

Richard: "How can I explain to you that I bought my 50 mpg car because gas prices are so high?"

How can I explain to you that the U.S. price elasticity of demand for gasoline depends on how 300 million consumers repsond - not on how you individually respond.

Richard: "I even don't know anybody who drives a pickup."

How can I explain to you that what is driven by the people you know is irrelevant to the question of what 300 million Americans drive?

The top selling vehicle in America - for every one of the past 29 years - has been the Ford F-150 pickup. For 2010, the Chevy Silverado pickup was number two.

 
At 6/13/2011 8:09 AM, Blogger Jet Beagle said...

Richard: "The question is now: Did americans respond to the (relative) 12% price increase?"

No, Richard. My question was always: What is the price elasticity of demand for gasoline in the U.S.?

You are the one who continues to argue that the U.S. will consume much less gasoline if gasoline taxes are raised by a dollar or two. There is no evidence to support your assertion.

Your own post provides statistics that show that, despite a $1.00 per gallon real increase in gasoline prices, gasoline consumption per capita remained unchanged.

 
At 6/13/2011 8:40 AM, Blogger Jet Beagle said...

Richard: "the US GDP (2005 dollars) has increased from 8,033 billion to 13,248 billion, per capita 32k to 43k, an 33% increase. "

Now, this is relevant data, Richard. Whether you realize it or not, you've hit on what is probably the main reason that gasoline demand is so price inelastic: why a one dollar or two dollar increase in gasoline prices will not change long term consumption.

So here's the explanation:

1. U.S. personal income continues to rise;

2. gasoline expenditures already represent a minor outlay for most households;

3. gasoline consumption is, for at least two or three more decades, essential for the lifestyles which Americans have chosen - lifestyles which are evident in the location of homes and job sites;

4. Americans can easily absorb the impact of such a minor change in the price of a good which is essential to their chosen lifestyles.

And that's it, Richard.

Had you argued that a five or ten dollar per gallon tax on gasoline would change gasoline consumption, I would have agreed with you. Of course, no politiican representing suburban America is going to vote for a five or ten dollar gasoline tax.

 

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