No Hobgoblins Here

Bush announces steps on gasoline prices; from the Times:

President Bush announced a series of short-term steps on Tuesday intended to ease the rise in energy prices, including a suspension of government purchases to refill the Strategic Petroleum Reserve, a relaxation of environmental rules for the formulation of gasoline and investigations into possible price gouging and price fixing.

In addressing energy prices in a speech here, Mr. Bush joined a chorus of lawmakers who have been advocating populist-sounding initiatives to respond to surges in gasoline and crude oil prices and the threat they pose to Republicans in this fall's Congressional elections.

Well, if Carter or Clinton had done this I imagine I would have mocked it as poll-driven posturing.  But a foolish consistency is the hobgoblin of little minds, so I have no doubt this Bold Presidential Vision will guide us to a brighter and more fuel-efficient tomorrow, energy-wise.

The Baseball Crank posts his thoughts on energy policy.  This sends me into the mental file cabinet for the old econ notes on taxes, prices, supply, and demand because his Point 1 on What To Do is "Cut Taxes at the Pump".

My question is this - let's grant that the current market for gasoline is clearing at a price of $3 per gallon, of which (let's say) $0.50 is taxes.

Suppose we eliminate those taxes altogether.  Yes, the gas station owner could now afford to sell gas at a price of $2.50 while preserving his modest profit margin. 

But previously I was happy willing to pay $3.00, and frankly, it was of no great import to me as to how that was split amongst the recipients.  Consequently, if station owners all try to pass along the tax cut by lowering their price, I expect that I, and others like me, will respond by buying more.

But a tax cut, in itself, does not bring forth new supply.  So, either we will have shortages, as stations run out of gas, or prices will quickly rise back to their old equilibrium of $3.00.

My strong impression is that, absent some other mechanisms to reduce or regulate demand - rationing coupons were not attempted by Nixon, but (IIRC) odd/even days fill-up days and forced closures of gas stations on Sundays were - a cut in the  tax at the pump will simply reallocate the $3.00 per gallon We the People are paying into a different set of pockets.

Since the Dems are also pandering with a call for a cut in the gas tax, it would be worth having an answer to this.

Comments

[clarice]

Hand out stickers with each fill up saying I voted against domestic production and the construction of refineries in the US because I love to pay more for gas.

[Al]

"Consequently, if station owners all try to pass along the tax cut by lowering their price, I expect that I, and others like me, will respond by buying more."

But is this correct? I don't think so. If it were, you'd think the converse would also be true: that as station owners raise the price, you would, and other like you would, respond by buying less. But that hasn't happened, now, has it?

[sad]

Forbes has an article stating that in 1980 energy consumed 10out of every ten dollars. Today energy accounts for one our of every 16 dollars. read the whole thing

http://www.forbes.com/home/columnists/2006/04/20/energy-costs-gasoline_cx_ns_0420schulz.html

[Al]

I'll add that Tom might want to check the mental file cabinet for the old econ notes to see if they say anything about elasticity.

[Sue]

Byron York reporting that Rove is scheduled to testify this afternoon on matters that have come up since his last appearance.

[sad]

oops

one out of every ten

[boris]

The hobgoblins of small minds, the trolls and the moonbats will soon be joining the flying monkeys infesting the fever swamps of LaLa Land. There they will be sucked down into the mucky ooze and become over geologic time fossile fuel and help bring down oil prices in their first actual contribution to humanity. Provided Ted Kennedy doesn't succeed in preventing drilling in LaLa Land.

[maddad]

If you're going to cut gas taxes, I'd rather see the $.36 per gallon (here in Indiana) state tax cut than the $.18 per gallon federal tax. At least you have some assurance that you know where the federal tax is going.

[Crank]

My sense (dammit Jim, I'm a lawyer not an economist!) is that the main variable is supply - demand is not terribly elastic. And competition is intense; gas stations have a particular incentive to keep costs down on gas because their real profit margin is selling beef jerky and donuts and the rest of the stuff in the mini-mart. I'd be interested to see a study but I would strongly suspect that most (not all) of the tax cut would be reflected in lower prices.

[dorf]

OK, Clarice where are you? Why is Rove back up there????????

[Rick Ballard]

I'll go with AI on the eleasticity issue. Cutting taxes is a nice political pander move but will do zero for supply and very little to demand. There has been some media babble on high gas prices cutting into tourism this summer but it's just that - babble. The cost of a 2K mile round trip in a 20MPG vehicle is affected by the sum total of $50 by a 50 cent deduction or increase in the cost of gas. Fifty bucks isn't going to be a deal breaker on summer vacation plans.

[sad]

dorf

On another thread Clarice has stated it is related to V. Novak.

[Miller]

The price at the pump includes tax. The oil companies now know that drivers will pay over $3.00 a gallon. So the companies will charge the most that the driver will pay, whatever the tax component of the price per gallon.

Any lost gas tax revenue would need to be replaced by another source of tax revenue, unless we want to borrow more from China.

[PeterUK]

The US has enjoyed historically low fuel prices compared to the rest of the world,excluding those countries floating on oil,prices are still low now.

If you want a rallying cry,"Do you want Global Warming or lower gas prices",that should put the left in a cleft stick.

[noah]

Bush should re-open petroleum reserve...simple economics...increased supply vs demand. Unless of course the supply bottle-neck is refinery capacity. Decreasing Fed taxes will do nothing...indeed will just piss people off when they see reality unfold.

[larwyn]

sad,
In the 1980's few were paying 50-70 dollars for cable TV, who was paying for internet connections, Americans were only paying for their land line phone - not for 2-3 per household. Add premium cable, broadband connection and even NetFlix and you see that the list of essentials paid every month has grown.
In my household it is $185.00+ a month. At $3.00 gallon with 22MPG
that would get an American 1,356 miles. Only 678 if you're driving a 11MPG vehicle.

CNN & MSNBC keep interviewing people "pawning treasures" to pay for gas, call-ins giving up "food, medicine, clothing" and one lady "my social security" - not one
willing to give up cable tv or cell phone!

Americans just do not realize how rich they are!

[barry]

It is my belief that competition would hold the price to $2.50. Supply and demand will effect price, so will competition. Since supply, for now, is equal to or greater than demand, the lowest price should prevail.

[rez]

"The oil companies now know that drivers will pay over $3.00 a gallon." -- My understanding is oil traders set the price of oil, rather than oil companies.

Any politician who wants to hang out in the North Sea in the middle of winter and get their own damn oil is welcome to try.

[Epphan]

Giving up food, medicine and clothing to pay for gasoline...liar, liar, liar. That is not happening and to report it as such is ludicrous. As larwyn introduces, the math does not add up. Even with the biggest, most fuel-efficient vehicle...the difference between $1.80 and $3 a gallon will not force a person to sell the family silver.

And that doesn't mean that there aren't macroeconomic problems associated with rising fuel prices.

And it doesn't mean that it doesn't (or shouldn't) annoy the hell out of people...which is a real political situation.

[noah]

barry, you are certainly welcome to any belief you care to espouse...but economic "theory" says you are wrong...and economics is nothing but after the fact correlations all prettied up into a compact guide for the macreconomic effects of policy prescriptions.

[sad]

Larwyn

You nailed it. The "necessities" of life today are not the same as the "necessities" of life of thirty years ago.

[Other Tom]

The Republicans are behaving disgracefully on this issue, particularly Bush and Specter. Incidentallly, it is not true that the demand for gasoline is inelastic--demand does indeed decrease as prices rise, although the elasticity is much less than for most commodities. As to what the companies charge, they are in competition with one another and if one goes to $3.00 because it thinks consumers will pay that, at least one other will sell at $2.50--if it can do so profitably--because it would increase market share hugely at the expense of the $3.00 gas. If they all agree to charge $3.00, they are fixing prices in violation of Section 1 of the Sherman Act, a felony--and there is absolutely no evidence that this is occurring. But this is a huge oversimplification--the price mechanism in the gasoline market is enormously complex. In any event, those who see corporate wrongdoing behind every price spike are either demagogues or nuts, or both.

[Barney Frank]

Of course people use more of something when it is cheaper and less of it when it costs more. That is perhaps the most basic law of economics. It is a short description of a market.
And people have most assuredly bought less than they would have were the price still low. Total consumption may be higher now than it was six months ago but it is almost without doubt lower than it would have been were the price still $2 a gallon.
Even AB or Cement could grasp that idea.

[Tom Maguire]

From Al:

...if station owners all try to pass along the tax cut by lowering their price, I expect that I, and others like me, will respond by buying more."

But is this correct? I don't think so. If it were, you'd think the converse would also be true: that as station owners raise the price, you would, and other like you would, respond by buying less. But that hasn't happened, now, has it?

To which Barney Frank responds:

And people have most assuredly bought less than they would have were the price still low. Total consumption may be higher now than it was six months ago but it is almost without doubt lower than it would have been were the price still $2 a gallon.

Well, my question for Al is, as we puzzle over the impact of price on consumption, has everything else been held constant as the price has gone up? The summer driving season is approaching, maybe the economy is better, more folks are working, etc.

It may be that neither supply nor demand is elastic over a short time period. For example, I can not respond immediately to higher prices by trading in my SUV for a Honda and moving twenty miles closer to my job. But I can cut out the weekend trip to see friends.

I would not be shocked if short-run supply was inelastic; I would be surprised if demand was not.

[Cecil Turner]

Unless I'm missing something significant, the continuing increase in demand will continue to drive prices up. Taxes and the SPR (and gasohol and alternatives) is just fiddling on the margin, as is expanding domestic production, though every little bit helps. I'd guess about ten years after we decide to implement the nuclear power and related hydrogen fuel initiatives that were stripped out of the recent energy bill, we'll start to see a significant alternative supply source. Until then . . .

[flenser]

The mistake here seems to be thinking that "demand" has any relationship to what consumers do.

Oil is traded on the futures markets, which sets the price based on a number of factors, of which supply and demand are but two, and not the most significant.

From a supply perspective there is practically a glut in the market, as reflected in high oil inventories held around the world.

The futures markets are betting that there will be disruptions in the oil supply in the future, and that is driving up prices in the present.

[larwyn]

sad,
It is worse than that - just look in peoples' closets.
In the 1980's I maintained the following in shoe wardrobe:
Pumps for work:
Black, cordavan and taupe
boots to match winter coat.
Pumps for dress (higher heel):
Black & taupe & red
Casual:
"sneakers" 1 clean 1 yardwork,
"weegans" boots
Formal:
Years old strappy sandals that
matched my years old cocktail/formalwear.

I polished my shoes on regular basis and knew my "shoemaker's" name and family history.

That was it. Compared to my daughters now, I was definitely shoe/clothing deprived/disabled/poor. And I was always well dressed and appropriate.

Go look in your/your girlfriends/wife's closet now. And with that "metro male" promo - bet the men's closets are overflowing too!

Really think that most Americans could go a month before they actually had to do any laundry - just used all the clothes and linens they have stashed.

[noah]

Actually upon further review i have changed my mind...cutting add on taxes would reduce the price at the pump! But it would also marginally increase the demand which is the last thing we want to do!

[Lew Clark]

In a capitalistic society the market sets the price of gasoline, in a socialist society the government sets the price of gasoline. Look at the world, look at history. Do you really want the government to set the price of gasoline, comrade?

[Gary Maxwell]

From a supply perspective there is practically a glut in the market, as reflected in high oil inventories held around the world.

Do you have any autohoritative source for this. You are probably right, but its not something I have seen anywhere in the media. Not surprising that they dont understand and therefore cant report but if you can show me I would appreciate it.

[cathyf]

Over the short term, gasoline demand is very inelastic, and even over the long term it's not real elastic. (That this proves that there is not a monopoly in gasoline is left as an exercise to the reader.) Or, translation, small changes in demand or supply require large changes in prices to bring the quantity demanded back into balance with the quantity available. Large changes is price in EITHER direction.

Supply is probably more elastic (I'm not familiar with those actual numbers), but less elastic over the short run. If they cut the 50-cent/gallon tax, then the profit margin will instantly go up by 50 cents per gallon, but that will put tremendous pressure on supply. Because for every gallon that they don't come up with, they just missed out on a relatively huge profit. That supply pressure will get responded to, and that will bring prices down -- and, because the demand elasticity works both ways, prices will move down a lot from a small boost in supply.

After Katrina, the oil refiners went into emergency mode and delayed periodic maintenance in order to run flat out and replace the damaged refinery capacity. What we are seeing now is that the refiners have got to get some shutdown in or risk damage to refineries, and we're just going to have to suck it up until they get caught up with maintenance and remaining hurricaine repairs.

cathy :-)

[larwyn]

The truest pattern in all of this is:

The Dems scream the loudest when they are most culpable.

Republicans need to be quick off the mark and as soon as oil goes up all the spokespersons should be out their pointing to DEM voting record over 30 years and there embrace of the radical Enviros.

Using gas/oil to produce electricity in this country is so wasteful - when we have so much coal.

Not to mention the hypocracy of that "union supporting" party - plenty of good "union" jobs still in coal industry and transportation industy that gets the coal to the utility plants.

See the Susan Estridge (sic) column at Fox.com - the Dems can't verbalize THEIR POLICIES because they conflict with each other.

I thank new media for this exposure. Before they could send out letters and hold meeting with each individual constituency - now we know what they are saying and writing. Hence they are afraid to actually say anything other than BUSH BAD - WE "BETTER'!

[Ted Barlow]

Regional differences in taxation are visible in state-by-state price comparisons. I don't see any reason to doubt that Houstonians would pay as much for gas as Bostonians, but it doesn't mean that gas stations are able to charge Boston prices. A station that tried to do so would be quickly underbid by another station willing to capture a greater market share with a smaller profit margin.

Gasoline is a commodity, and it's effectively impossible to capture much of a profit on a commodity in a normally-functioning market. If gas stations were getting an extra 50 cents per gallon, hell, I'd think about quitting my job and starting a gas station. It wouldn't last.

[maryrose]

larwyn:
My sister says it is the difference between WANT and NEED. I drive less live close by work and combine different errand trips. I usually but one or two new spring /'winter
outfits, re-use clothes and make do with the shoes I have. I don't have a cell-phone and have cut out I'M feature on my daughter's.cell. One family computer and my one luxury cableTv which I held off on for 8 years. You can economize and buy gas where it is the cheapest. We have a Get-Go station where we buy food which enables you to get discounted gas with every 50$ you spend. It's a challenge but not impossible.My retirement benefits are doing fine and I purchase plane tickets 6 months in advance to get the discounts.

[noah]

Once again Cathy nails it!

[Barney Frank]

If anybody wants to understand any of this the best primer is any book by Julian
Simon.
As flenser says most of this spike is due to political considerations which are relatively uncontrollable and relate more to fears of potential supply disruptions.
But for any natural supply and demand imbalances the market will as always eventually balance.
A short history in my field of expertise. In 1992 the courts effectively closed the National Forests to logging. The price of raw logs and consequently lumber essentially tripled in one year. Mills scrambled for supply, timber owners basked in their new found wealth which many said would last for the foreseeable future. Unfortunately for them that furture lasted about one year as prices peaked in 1993. At those prices private timber owners dumped on the market timber they had held in reserve at lower prices and new products and imports became economically more attractive. There is always an alternative, admittedly more readily available in some industries than others.
Canada and Venezuela together have somewhere between 500 billion and 1.5 trillion barrels of oil sands, a good portion of which is recoverable at 35-45 dollars per barrel. So the long term supply is extremely elastic. The short term supply of crude oil is also presently sufficient for current demands. The supply bottle neck we face is in refined products which are rather more domestically produced than crude oil. And new refineries are about as easy to get through as a new nuclear reactor.

[cathyf]

Incidentallly, it is not true that the demand for gasoline is inelastic--demand does indeed decrease as prices rise, although the elasticity is much less than for most commodities.

Technical note... Elasticity is defined as

% change in quantity / % change in price

or, for those calculus minded,

dQ/dP * P/Q

with a value greater than 1 defined as "elastic" and a value less than 1 defined as "inelastic".

According to this article, Price Elasticity of Demand, the short-term elasticity of demand for gasoline is 0.2, and the long-term is 0.7.

cathy :-)

[Barney Frank]

Gary,

I can't remember the source but I just heard yeaterday that worldwide crude inventories are at four year highs.

[Rick Ballard]

Gary,

If you sift a bit here you will find the supply figures to which Flenser refers. Crude stocks are up over last year as are general gasoline stocks. "Reformulated" stocks are down a bit but that is explained at the site.

[Cecil Turner]

From a supply perspective there is practically a glut in the market, as reflected in high oil inventories held around the world.

I admit being too lazy to read up on this, but ISTM the inventories we're discussing are a relatively small buffer on total consumption. Demand, viewed as a long-term phenomenon appears to be rising, largely due to industrialization in the far east (i.e., China). And, having recently visited, I can assure you there's a bunch of them folks and the place appears to be goin' great guns (note: this is the kind of master-of-the-obvious first-hand reporting only former Marines can provide . . . hence the relatively modest demand for our services).

[larwyn]

maryrose,
Proves you're not calling CNN to report you are "giving up" food to pay for gas.

Gary M,
Supply are oil has been reported on CNBC daily. Suppy is high for oil - LOW for GASOLINE.

Outlawing the additive that now must be sustituted with ethanol is big problem.

Pipelines not availiable for ethanol to refiners delivery - they are using trucks!

Tanks that contained the now "outlawed but prior required by
law additive" must be totally emptied and cleaned out. Gauges reset to for correct proportions of mix.

Local Gas stations have to have their tanks cleaned out too. Why some have run out of gas.

As the DEMS wouldn't allow the Fed's to guarantee the liabilites to the oil companies producing and using the additive, until it could be phased out - we are in this rush.

The use expires in May - almost looks like the DEMS have there own Rove. All of this was done in Energy bill last year. Devil always in the details and Republicans blind to what was going to happen in April/May 2006 -
Dems were just waiting to spring trap.

[cathyf]

Be a little cautious about "four year highs" and the like. There has been a huge increase in the wealth of the Indians and Chinese over a very short timeframe, and they together make up just under 40% of the planet's population. Going from bicycle-owning level of wealth to car-owning level of wealth is a huge betterment of these people's lives, but there are a LOT of these people, and that's a huge increase in demand.

(Just to make clear -- that is a direct and craven appeal to self-flaggellating liberal guilt. When you whine about having to pay an extra $50 for your vacation you should be ashamed that you are begrudging some desperately poor person the chance to get a better job which is accessible by scooter but not bicycle.)

cathy :-)

[flenser]

Cecil

Demand, viewed as a long-term phenomenon appears to be rising,..

I don't see any disagreement with what I said. The market costs of something are not based simply on such factors as supply and demand, but on what the markets think future supply and demand will be.

In this instance, the markets are betting that supply will be disrupted by war and/or terrorism. They may be right, and they may be wrong. There is ample recent precedent for the markets valuing things incorrectly.

But based on current supply and demand, prices look skewed.

[cathyf]

To really analyze that properly, you need to look at the shapes of the curves in the futures markets for crude oil, gasoline, natural gas, and also all of the option volatilities. And you need to look and see how things have shifted around in the recent past. There's plenty of very good-quality data, it just takes some analysis, and I haven't looked at those markets in years.

But anyway, there's the good-news, bad-news approach to the analysis. Worst case: the crazies go off the deep end requiring nuclear weapons. The cost of extracting oil from the giant nuclear wasteland forces the price up. Best case: everything is wonderful, everybody in the whole world becomes filthy rich, and so they all want to consume oil, forcing the price up.

Looks to me like either way the price goes up!

cathy :-)

[Barney Frank]

Cathy,

My point about a 'four year high' in inventories is that the price of crude has risen even while inventories have built, indicating the rise is more due to Iran, Nigeria etc than an actual supply crunch. The Saudis have been saying, correctly, for around a year that crude supplies were exceeding demands.

[Barney Frank]

I'll still make the Julian Simonish bet (albeit a small one) that crude oil prices, adjusted for inflation, are lower in ten years than they are now.

[ed]

Hmmmm.

Maybe I'm scum but if I were a gas station owner I'd keep the prices the same and tell everyone the price increases matched the reduced taxes.

*shrug*. Hey. I didn't say I was a nice person.

[cathyf]

Maybe I'm scum but if I were a gas station owner I'd keep the prices the same and tell everyone the price increases matched the reduced taxes.

And since I'm scum, if I owned the gas station across the street from you I would cut my prices by 5 cents per gallon. That way I get 45 cents multiplied by my sales plus (what would have been) your sales.

You can't make any profits by raising your prices if you don't actually sell anything after the price rise!

cathy :-)

[JohnH]

This page gives a lot more detail than most want to digest:

http://tonto.eia.doe.gov/oog/info/twip/twip.asp

The DOE attributes the rise in price to a "dramatic drop" in inventories. Since supply is almost completely inelastic in the short run, there will be little or no drop in price due to a reduction in taxes on gas. To check: draw a vertical supply curve (zero supply elasticity). Then the price is entirely determined by demand. Since we are running our refineries at full capacity, there isn't any more gasoline to be had. The relaxation of the EPA mandates on switching away from MTBE will provide a little more gas in some markets.

What I find interesting is that there are a lot of capacity expansion projects in the works that will significantly increase world production over the next five to ten years. So oil prices may decline a lot in the future.

[cathyf]

What I find interesting is that there are a lot of capacity expansion projects in the works that will significantly increase world production over the next five to ten years. So oil prices may decline a lot in the future.

Oil has always been a boom-and-bust business. There is surely lots and lots of money being left on the table today, and it is making some people quite giddy about all sorts of alternatives and conservation schemes. But in 5-10 years a lot of those people will have lost their shirts because the people who are successful first will drive the prices down and drive the other new entrants to ruin.

Do you think the politicos screeching about profits today will have any sympathy for the bankrupt energy companies then?

cathy :-)