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Gas Prices, Gas Bags, & The Gas Chamber

May 19th, 2008 | by Daniel DiRito |

No doubt the current energy crunch is a complex equation. A number of factors likely contribute to the rising price of gasoline in the United States. As I understand it, they include the rapidly expanding consumer demand (including China and India), the fact that the U.S. hasn’t built a new refinery in three decades and couldn’t process more oil even if it were made available, regulation on emissions and an awareness of environmental concerns that have made it more difficult to maintain existing refineries (let alone construct new ones), and the prohibition on exploration in oil rich areas in the interest of preserving pristine national treasures.

While these and other factors contribute to the rising prices at the pump and expand our dependency upon foreign oil, understanding the more obscure factors and motivations may be an equally essential component in achieving a comprehensive awareness of where we’re at and what we can do to move closer to energy independence.

I want to focus on the motivations and manipulations that contribute to the crisis. Capitalism is premised upon the willingness of free market participants to exhibit ingenuity in the hopes that it will result in prosperity (profits). Hence the risk reward construct is a fundamental aspect of our economic system. At the same time, supply and demand can impact the price one is able to charge for a product as well as the profit margin one can make on the sale of that product. As such, businesses can be motivated to limit production if it enhances demand and therefore improves profitability. The less competition that exists, the more likely a company is able to manipulate supply and demand without concerns for a loss of market shares.

So how does this apply to the oil industry in the United States? Let me count the ways. First, it is far easier to manipulate supply and demand of a limited resource than the provision of a service. There is no doubt that oil is a limited resource that cannot keep apace with the demand and that means it is a finite product. Those who trade in oil realize that profitability can be manipulated by controlling the supply. Granted, there are provisions that penalize or criminalize some of the manipulations that could take place. At the same time, there are environmental restrictions that afford the cover needed to effect the manipulation of supply.

So how is this achieved? One obvious excuse is OPEC and the willingness of those nations with the lion’s share of oil production to keep supply low enough to insure sufficient demand and therefore maximum profit. Since the United States is limited in the action it can take against OPEC, U.S. oil producers can cruise along in OPEC’s cash rich wake without reproach.

Another method involves the high costs of exploration and extraction as well as the subsequent cost of refinement. Hence, the oil companies can cite the billions of dollars they sink into finding and removing more oil and it would be very difficult for the government to quantify the levels that would equate with intentional and measurable manipulation. The fact that all of the elements associated with the industry trigger environmental oversight provides additional cover for companies to limit supply.

That brings us to the limited refining capacity. Time and again we hear that the complications and the costs of building and bringing a new refinery on board have been prohibitive…or at the very least…difficult to overcome and a clear disincentive to attempt. Therefore, the expansion of refining capacity has been primarily limited to the expansion of existing facilities.

Oil companies can cite the environmental restrictions, the resistance of communities to allow a refinery in their back yards, and the ever changing environmental requirements that require them to spend huge sums of money updating existing facilities as reasons for failing to expand refining capacities commensurate with demand. Clearly, this provides them with the argument to defend the reduced supply and the rising costs that accompany the growing demand.

Lastly, oil companies can also argue that without the ability to tap into known sources of additional oil as a result of limitations on exploration, it doesn’t make economic sense for them to sink billions into refining capacity. They simply have to assert that expanding refining capacity to eclipse exploration potential is a self-defeating endeavor. In so arguing, they hamstring the government’s ability to prod them into further refining capacity or to assert malicious manipulation.

Where does this leave us? Well, to a large degree it leaves the consumer between a rock and a hard place. To a lesser degree, it leaves the government with little recourse, under the existing laws, to force oil companies to expand supply. Lastly, it leaves the oil companies in the enviable position of watching OPEC limit supply and therefore elevate the price of oil and the profit that can be made on each barrel. It also enables them to limit their own refining capacities and to contend that it is not only harder and harder to find new sources of oil - they are often off limits.

Looking at the possible motivations and manipulations in chronological context, I think it is reasonable to speculate the following. The oil industry has sought the ability to retrieve huge quantities of oil from protected regions for decades. To date, they have been relatively unsuccessful in achieving that objective. Realizing as much, they elected the fallback position to limit their production capacity, wait until such time as world demand eclipsed supply, rake in the profits that result from the constrained supply in the meantime, and then watch as the American public is squeezed so badly that they will call for the government to ease environmental restrictions and allow oil companies to remove huge quantities of oil from previously restricted areas. I can’t prove it but I think it’s certainly a plausible explanation.

To a large extent, all of the above requires some level of government complicity. While where we’ve ended up may not have been strictly the result of informed consent, it is a testament to all that is wrong with naively supporting “free market” capitalism…especially when the players are actually engaged in nothing more than an attempt to corner the market so they can insure that they are free to hose the American consumer without recourse or recompense. Anyone seeking a better understand of the degree to which the political process may have allowed corporate interests to overtake the public’s welfare need look no further.

Then again, speaking of naivete, so much for believing that we’re moving beyond the use of the “gas chamber” in the United States. I could be wrong, but I’m sure that the subliminal suggestion we’re hearing from off in the distance is telling us, “Don’t forget folks…the next time you fill up…deep breaths, deep breaths.”

Cross-posted at Thought Theater

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  1. 4 Responses to “Gas Prices, Gas Bags, & The Gas Chamber”

  2. By rube cretin on May 19, 2008 | Reply

    Daniel,

    I agree oil is a finite product. But then you offer some very interesting thoughts.”remove huge quantities of oil from previously restricted areas.” just where do you think these huge quantities are? “ease environmental restrictions and allow oil companies to tap into known sources of additional oil as a result of limitations on exploration.” Do you really believe if a Saudia arabia size oil field was under ANWAR environmentalist could prevent it from being drilled?

    “Anyone seeking a better understand of the degree to which the political process may have allowed corporate interests to overtake the public’s welfare need look no further.” I looked and do believe there is another explanation.

    PEAK OIL! PEAK OIL! PEAK OIL! PEAK OIL!

    One day soon folks are going to begin to hear this phrase more and more. Beat the rush. google the term and spend a few hours. Learn why delusional old men think most of what you have offered is just noise.

  3. By Craig R. Harmon on May 20, 2008 | Reply

    I guess I’m not yet a delusional old man because I think that you’ve done a really good analysis here. Most everything you’ve said makes sense. A really valiant attempt at enumerating the very real obstacles to cheap and abundant fuel.

    I think you’ve gone a little lightly on the validity of the stated difficulties faced in increasing refinery capacity. All of the factors which you say allow the oil companies to claim cover (as though it were a bogus claim) for not increasing capacity, in my opinion, really do make it very difficult to justify and accomplish an increase in refinery capacity and therefore really do make it very difficult to increase production of fuel grade products.

    The biggest influence, larger by far than increasing demand and diminishing supply (the peak oil problem), though, I think is the cartelization engaged in by oil producing nations, as you point out. In America, of course, such would be outlawed as price fixing, i. e., de facto monopolization but where is international law when the world really needs it? We can condemn treatment of terror suspects that is demeaning but we can’t stop oil producers from gouging the rest of the world? Of what possible use is international law, anyway?

    The solution, of course, is to reduce the number and restrictive aspects of those factors, i. e., lighten up on the regulations. I guess, from a liberal’s standpoint, therein lay the problem. Liberals think you can’t regulate the oil industry enough. If the current onerous regulations aren’t producing more refined gas at lower prices, well, then, place a windfall profit tax on the companies and see if that lowers the price of product. If not, hit it with another round of regulations and restrictions on what, where, when and how it can expand output. Repeat torture (performed on the logic of the above) until the oil companies yell “Uncle” and go out of business or until no one left in America can afford to put gas in their cars, afford food or any other commodity that must be transported using gasoline products in internal combustion engines and declare victory in the war on big oil companies.

    Or, you know, we could lighten up on the restrictions on oil companies. Just a thought.

    Rube,

    Sometimes I think that Democrats would oppose drilling in ANWR if there were found to be enough oil to meet an ever-expanding global demand for the next bazillion years, every drop of which would go to paying for universal health care for the world’s population and to wipe out global poverty, if the oil were a mere hundred feet underground, at it’s deepest point and could be brought to the surface the way Jed Clampett found Texas Tea: by shooting at some food.

    First, Democrats would arrest, try and convict Jed for shooting at food in ANWR in the first place, then they would declare that pumping the oil was worse than Watergate and impeach any Republican President to favored such an action. Caribou, toads and certain endangered molds, who all would undoubtedly vote Democrat if given the vote, trump human beings every time. ;-)

  4. By rube cretin on May 20, 2008 | Reply

    Craig,
    Since you brought it up how many barrels of recoverable oil have been estimated to be located in ANWR according to the USGS? How many days of supply for the USA would it provide? How long before it would be available for use if drilling began today? How much would this supply drive down the price of gasoline/gal? Check back with me when you get the data and we will discuss further.

    As for your statement about Daniel’s post. “A really valiant attempt at enumerating the very real obstacles to cheap and abundant fuel.” I agree it was a valiant attempt, but none the less it fails to mention the the most important fact and that is that the world demand is now 87 million barrels/day and the supply is only 85 million barrels. I my opinion this is a garden variety supply and demand problem, and it is unlikely to get better until demand destruction occurs. As long as we use the market to distribute available supplies prices are going to continue to go up. Prices will probably go down when the world goes into a worldwide recession or depression. Which is entirely possible IMHO. By the way the terms Recession and Depression imply a term of economic disruption followed by a recovery. Not sure recovery is in the cards this time, so I’m not sure what we ought to call the future before us. I agree Caribou, toads and certain endangered molds would probably vote to preserve life of all species. (Damn, can’t remember if i took my medication this morning.)

    Cheers

  5. By rube cretin on May 20, 2008 | Reply

    Craig and Daniel,
    watch this from this morning. To views of a really big problem. who do you believe?
    \http://www.cnbc.com/id/15840232?video=747947551

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