Andrew P. Morriss and Donald J. Boudreaux have an excellent piece in today's Wall Street Journal, which, by the way, has several excellent pieces. (More on that in posts later today.) It's titled "A Coca-Cola Solution to High Gas Prices." Their basic argument is that the Environmental Protection Agency has balkanized gasoline markets, making gas prices in local markets more volatile than otherwise because gasoline companies can't legally arbitrage. An excerpt:
The role of regulators in fuel formulation has become increasingly complex. The American Petroleum Institute today counts 17 different kinds of gasoline mandated across the country. This mandated fragmentation means that if a pipeline break cuts supplies in Phoenix, fuel from Tucson cannot be used to relieve the supply disruption because the two adjacent cities must use different blends under EPA rules.
To shift fuel supplies between these neighboring cities requires the EPA to waive all the obstructing regulatory requirements. Gaining permission takes precious time and money. Not surprisingly, one result is increased price volatility.
I wrote about this in 1999 in "Perspectives on Gas Prices / State to Blame for Gas Price Rise / California isolated by its regulations on air quality," San Francisco Chronicle, July 23, 1999. Here's an excerpt:
According to the American Petroleum Institute in Washington, gasoline production [in California] was down from 953,000 barrels a day in March 1998 to 880,000 barrels a day in March 1999, a reduction of 7 percent. The main reason for this reduction is the recent fires at two California refineries, one at the Tosco refinery in Avon on February 23 and the other at Chevron's Richmond refinery on March 25. How could a 7 percent reduction lead to about a 25 percent increase in price? The answer is what economists call "inelastic demand." Translation: When the supply falls a little, the price has to rise to cause us to cut the amount we buy down to what's available.
Still, there's a puzzle left to explain. Ordinarily, when the price of a commodity rises in one region and that commodity is easy to ship from another region, people called arbitrageurs make money by buying where it's low and selling where its high. The arbitrageurs' increased shipments drive down the price in the high-price region. But that hasn't happened in California.
The reason is that because of regulation by the California Air Quality Board, gas sold here must meet stricter standards than gas sold in Nevada or Oregon, even though air quality outside of the Los Angeles basin is comparable to air quality in other states.
In short, arbitrageurs can't sell readily available gasoline from nearby states to California because such gasoline can't be legally sold here. Retooling costs for refiners in other states to produce California-legal gasoline are too high to make it worthwhile for the short time that we Californians must live with the price increase.
When I researched this op/ed, I interviewed an economist at the American Petroleum Institute who had a great line. He referred to the U.S. gasoline market as a "boutique market." Morriss and Boudreaux quote another great line from a refinery executive. It makes the same point: "Gasoline is not gasoline anymore. It is a specialty chemical."
Worse, some of the content requirements are irrelevant for new cars due to modern pollution control equipment. Federally imposed boutique fuel requirements have outlived whatever usefulness they ever had.