It’s Economics 101 Stupid
An Energy Statement To Congress and Other Whiners
June 5, 2001
The twists and turns of the legislative process are often times more amusing rather than fascinating. Consequently, this paper is dedicated to senators Dorgan (D-ND), Daschle (D-SD), Reid (D-NV), Durbin (D-IL), Feinstein (D-CA), Boxer (D-CA), Murray (D-WA), Schumer (D-NY), Harkin (D-IA), and Clinton (D-NY) for the amusement that they provided in their Senate Resolution 87.
Senate Resolution 87 ranks right up there with other great questions of the 20th century such as “Is the moon made out of green cheese”.
“SENATE RESOLUTION 87--EXPRESSING THE SENSE OF THE SENATE THAT THERE SHOULD BE ESTABLISHED A JOINT COMMITTEE OF THE SENATE AND HOUSE OF REPRESENTATIVES TO INVESTIGATE THE RAPIDLY INCREASING ENERGY PRICES ACROSS THE COUNTRY AND TO DETERMINE WHAT IS CAUSING THE INCREASES.”
Having noticed that the prices of energy products (called petroleum) fluctuate with market conditions and that “the price of energy has skyrocketed in recent months,” these intrepid senators have developed a plan of action:
It is the sense of the Senate that there should be established a joint committee of the Senate and House of Representatives to--
study the dramatic increases in energy prices (including increases in the prices of gasoline, natural gas, electricity, and home heating oil);
investigate the cause of the increases;
make findings of fact; and
make such recommendations, including recommendations for legislation and any administrative or other actions, as the joint committee determines to be appropriate.
Woe betide the individual with common sense enough to observe that “study”, “investigate” and “make findings of fact” are redundant doubletalk exercises. Woe further betide the individual who might cut to the quick and suggest the obvious:
It’s Economics 101 Stupid!
However, if the Senate ever stopped studying issues to death and using non-issues to divert attention from the governmental failings in the U.S. (i.e. Social Security, government waste, over taxation, etc.) what would occupy their time?
If study, investigation and findings of fact are de rigueur, why be a party-pooper? Every good American should pitch-in and help these senators with the awesome task of executing Senate Resolution 87.
Why are energy prices high?
Although it may sound implausible, energy prices are not very high relative to historical costs. They might seem high because the price of crude oil dipped to historical lows in the mid 1990’s and then rapidly escalated to a range representative of today’s pricing.
Since a picture is worth a thousand words, the graph below is an inflation-adjusted representation of crude oil prices from 1901 to the present.
In 1996 dollars, a barrel of oil in 1865 was $66.03. In 1901, the same
barrel was $18.05. Today, a barrel of oil is about $28.00. The
price increase in the 100 years from 1901 to 2001 represents about a 55%
increase. This is still 53% less than the $60/barrel oil of 1982.
A quick glance will confirm that the crude oil price curve has been fairly flat for 100 years with the exceptions of some spikes and fluctuations due to market conditions and international conflicts.
Oil, in the long-term, is like any other private sector product. It’s pricing is a slave to the laws of supply and demand. This even holds true in the face of a cartel like the Organization of Petroleum Exporting Countries (OPEC).
If 100 people want a product when there is only one unit of the product available, the price increases. If there are 100 units of the product available and only one person in the market, the price decreases. Dependent upon market conditions, high supply is either chasing low demand (lower pricing) or high demand is chasing limited supply (higher pricing). When supply roughly matches demand, equilibrium pricing is achieved.
Enter a cartel (monopoly) like OPEC. The natural inclination is to assume that OPEC can perfectly manipulate supply to achieve a target price. In the short-term this may be true, but the scheme unravels under the long-term influences of supply and demand constraints.
OPEC is not a single entity. It is an association of 11 separate nations. The current members are Algeria, Indonesia, Iran, Iraq, Kuwait, Libya, Nigeria, Qatar, Saudi Arabia, the United Arab Emirates and Venezuela.
Like any diverse organization, OPEC members are primarily loyal to each of their 11 separate national agendas. Loyalty to OPEC is secondary.
In reality, OPEC can only raise their price as high as market forces allow and no higher. This holds true for domestic American oil companies and almost every company with any product or service for sale. To increase pricing above what demand can sustain can (and has been) ruinous for OPEC.
America consumes over 20 million barrels of crude oil per day. If OPEC attempted to double its price, the following would occur:
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OPEC decreases production by 20% to create a shortage (demand becomes greater than supply) and double the price
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A temporary shortage is created and the price increases substantially
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Individual OPEC members start to cheat on the cartel by pumping quantities of oil above their quotas in order to reap windfall profits
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American and world demand for oil decrease as a result of the increased price (the more something costs, the less it is used and substitute products come on-line, i.e. conservation, solar, car-pooling, mass transit, etc.)
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World economies go into recession and oil demand radically drops
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OPEC members start to systemically cheat on the cartel quotas in order to stabilize individual member’s national revenues by increasing quantities as prices start to decline and
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OPEC pricing unravels and radically decreases as member nations cheat on their quotas and compete with each other for revenue.
Aside from federal, state, and local government taxation and regulation there is one simple reason that Americans are paying $2.00 a gallon for gasoline and that reason is demand.
Every time an individual “upgrades” from a 35 mile per gallon compact to a 13 mile per gallon SUV demand for petroleum increases. Every time a person in a developing country trades a bicycle for a motorcycle demand for petroleum increases. And, every time the Federal Reserve attempts to supplement a slowing economy by creating “easy” money (interest rate decreases) demand for petroleum is sustained (please refer to “Economic Suicide”).
This is nothing more or less than the rational economic law of supply and demand.
Yet, in the entitlement driven passion of the U.S. congressional frenzy, somebody other than the consumers of the product has to be at fault. There has to be a conspiracy-laden bogeyman to blame. How could the good senators find the moral fiber to just explain that less than 3% unemployment, 5% Gross National Product growth, 2% inflation, 40% annual stock market gains and 99 cent per gallon gasoline just can’t go on forever.
Our intrepid legislators might try being honest and treating the electorate like the intelligent humans they are capable of being.
The good news for the Senate is that while Americans fixate on the cost of energy and rile against “Big Oil” the voters might not be looking at the usurious rate of federal taxation. It’s always “a good thing” to divert attention from the real problems and create phantom bogeymen.
The best “get rich quick” scheme ever invented has to be government.
While oil producers have managed to raise their prices by 55% in 100 years,
the U.S. government has managed to rape its taxpayers by a whopping 363,326%
tax revenue increase in the same 100 years (1901-2001). Just look at
the inflation-adjusted graph below.
If the good senators want to “study”, “investigate” and “make findings of fact” concerning the immoral profits of the government’s tax cartel they might “make such recommendations, including recommendations for legislation and any administrative or other actions, as the joint committee determines to be appropriate.” The first of these appropriate actions could be a permanent recess for Congress.
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