FTC Says Gas Was Expensive Last Year Because Of Market Forces, Not Price Gouging

You can stop worrying about whether or not you got screwed by the gas industry. The Federal Trade Commission announced late last week that they’ve found no evidence of price gouging during 2006, when the average price of gas rose above $3 per gallon. Or as one oil industry spokesman puts it (tactlessly, for a spokesman), “It’s difficult for the average American to understand market forces, but that is what’s ultimately in play with this industry.”

The FTC said high gasoline prices in the spring and summer of 2006 were caused by

  1. regular seasonal effects from increased demand in the summer
  2. increases in the price of crude oil
  3. increases in the price of ethanol
  4. reduced production by refiners
  5. damage to refineries from Hurricanes Katrina and Rita in 2005
  6. increased demand for gas

The lone dissenting statement, from Democrat Jon Leibowitz, is brief enough to include in its entirety here (or you can download a pdf copy with footnotes from the FTC website):

The oil industry, which posted record profits in 2006, should not view this Report as in any way a vindication of its behavior. Commission staff identified some plausible justifications for the unexpected and dramatic price spikes that bedeviled consumers in the Spring and Summer of 2006, and that raised the average price of gasoline to more than $3.00 per gallon in August of that year. The fact remains, though, that most of what we did here was develop a theoretical model for why gasoline prices likely increased. This is not an unreasonable approach, given that just last year we completed an exhaustive investigation into gasoline pricing in the aftermath of hurricanes Katrina and Rita. That investigation found price gouging by refiners under the Congressionally mandated definition and, beyond that, disturbing conduct by even more petroleum companies. But the question you ask determines the answer you get: whatever theoretical justifications exist don’t exclude the real world threat that there was profiteering at the expense of consumers.

The story was widely reported via the Associated Press, but we want to link to the SmartMoney article because it includes this extra, paranoid-conspiracy-fodder gem: “The report published on the agency’s Web site had been expected to be released several months ago, but was delayed for unknown reasons.”

“FTC Finds No Evidence of Gas Gouging in ’06” [SmartMoney]

“FTC, Antitrust Division Send Report to President on Factors Explaining National Average Gasoline Price Increases During Spring and Summer of 2006″ [www.ftc.gov]

(Photo: Getty)

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  1. dbeahn says:

    In other news: Duh.

    It never ceases to amaze me how people can’t understand that while demand for gas has gone steadily up, we haven’t built a new refinery in this country for a long, long time. The environmentalists block every attempt to build a new plant. So when they have to take plants off-line for maintenance in the spring (yes, spring, because they produce heating oil in fall and winter, and high gas prices in the summer are a better choice than people freezing to death in the winter because heating oil costs are too high) there is a drop in the supply, and prices rise.

    The solution? Get the oil companies to build another couple refineries. Of course, that would require getting the tree-huggers to back off, so it won’t happen.

  2. ShadowFalls says:

    Amazing, not seen as price gouging, yet they still have “record profits” They complain they can’t keep up with demand, yet they don’t see to have any issues raising prices because of that. How about taking a billion from your profits and build some refineries? No? not in your interest? Government needs to step in and say too bad.

    You don’t see companies like AMD and Intel raising prices when demand increases, they just build new factories.

  3. theWolf says:

    You mean when I pay for a product, the company that produces that product makes a profit off of my purchase? Slow down, egghead!

  4. MENDOZA!!!!! says:

    market forces? like the percentage the govamint rolls on top of the actual price?

  5. axiomatic says:

    OK, let me first say that I own many oil and gas royalties. I would also like to add that my family owns two (small) oil and gas companies.

    Now with that out of the way, these guys are bullshitting you. No doubt about it.

    My families (small) companies had record profits this year as well. Yes the factors they list did really occur, but the punch line is that they were “gouging” on top of these other things as well and laughing all the way to the bank.

    In all honesty, my royalties made me more money this year than my salary as a software engineer at a large PC manufacturer. This is the first time this has ever happened… and I am not complaining. ;-)

    Don’t believe the hype.

  6. Sytteg says:

    It is a fact they we have not built a new refinery in near 30 years, what is not true but implied is that refining capacity has remained flat. Refineries are constantly expanding and reviewing their process to remove bottlenecks. They have also been expanding exploration increasing the number of offshore drilling rigs and test bores. Another mistake is to believe every refinery does matainence in the spring, most refineries are on a 5 year cycle for the 1-2 month spring refurbishment where every vessel is opened, catalysts replaced, and sacrificial emergency equipment such as flare tips are replaced.

  7. Falconfire says:

    @theWolf: Yes but when you have a high demand but low capacity, profit should go down not up. You cant meet demand if supply is low thus you raise your prices to at least meet your income to offset costs.

    The fact that they have made record profits two years running now is a major red flag, but its one the FTC is purposely and willfully ignoring.

  8. spinachdip says:

    @axiomatic: Holy shit, market forces and price gouging aren’t mutually exclusive?

  9. JMH says:

    “reduced production by refiners”?

    Isn’t that basically an artificially generated market force that the oil companies can use to “justify” increasing the prices?

  10. killavanilla says:

    @ShadowFalls:
    Oil companies have been begging the government to let them build new refineries for decades.
    The problem isn’t that they don’t want to build them, its that the government wont allow them.
    They also restrict new prospecting opportunities.
    Yes, they made record profit. However, it is important to note that they didn’t do this by raising margins. Their margins are flat, and relatively slim.
    If you want to know who is really price gouging, it is the federal, state, and county government who, in some areas, place taxes on gas that raises the price close to a dollar a gallon.
    I will try an explain this to those of you who seek to demonize the oil industry, in which I am in no way involved. Just like you, my oil company affiliation is limited to purchasing gas and oil for my car.
    Their margin is around 9%. That means for every dollar you spend on gas, they get 9 cents.
    That hasn’t changed in decades.
    They are selling more gas. They are forced by the government to add close to a buck in taxes to each gallon. The rest goes to pay for refining, drilling, importing, etc.
    If you sell a billion gallons at 9 cents profit per, you earn a net profit of 90 million dollars.
    If the next year, prices go up but profit margin remains the same and you sell 2 billion gallons, you clear 180 million dollars. The margin remains the same. One very solid indication of gouging would be if all of a sudden, the profit margin went up. Since it remains flat, no gouging.
    Turn your ire towards the government, who plans on considering another hike on gas taxes (which is in addition to sales tax on the purchase) to pay for various government programs.
    The truth is that if the US government really wanted to affect gas prices, they could start by reducing the taxes they levy on each gallon.

  11. killavanilla says:

    @Falconfire:
    Econ 101 contradicts your statement.
    High demand plus low supply should result in an increase in price and, therefore, and increase in profit.
    When demand is low and supply is high, THAT is when profit margin tanks, not the other way around.
    “A shortage results in the price being bid up. Producers will increase the price until it reaches equilibrium. Conversely, if the price for a good is above equilibrium, there is a surplus of the good. Producers are motivated to eliminate the surplus by lowering the price. The price falls until it reaches equilibrium.”

    [en.wikipedia.org]

  12. savvy9999 says:

    Main problem is, there is ZERO incentive for gas companies to do a single thing different, or build another refinery, or seek alternative fuels. Y/Y they are making record profits. Seriously, why would they incur extra cost to themselves to change?

    If you want proof that the status quo is perfect, take a peek at Exxon’s latest yearly report ([yahoo.brand.edgar-online.com]):

    “During 2006, Exxon Mobil Corporation purchased 451 million shares of its common stock for the treasury at a gross cost of $29.6 billion.”

    “Capital and exploration expenditures in 2006 were $19.9 billion, reflecting the Corporation’s continued active investment program.”

    So, that means Exxon alone spent 50% more buying back its own stock (to increase shareholder profit), than it did exploring new fields or building better or more efficient facilities.

  13. Wormfather says:

    @killavanilla: Great to here someone else tell it like it is. I dont know why more gas stations dont post a little pie chart telling you where all your gas money is going. The oil companies make that $0.09 a gallon, the government however makes something like 30% of your cost at the pump, with that said, who has the better insentive to keep prices going up.

  14. Wormfather says:

    @savvy9999: A company buying back its own stock is more than just a move to boost profits for the stockholders, it’s smart buisness.

    Put it this way, if you came into a large some of money, would pay back some of your debitors a little faster. A stockholder is an investor which is in many ways, like a debitor.

  15. forever_knight says:

    @dbeahn: oh please. even though oil companies can’t or won’t or don’t build new refineries, DOESN’T MEAN THEY DON’T EXPAND OR UPGRADE THE EXISTING REFINERIES. this false “refinery shortage” bullshit is just that, mostly bullshit put out by PR machines and picked up by the mass media echo chamber and then lodged in the brains of consumers. it’s up to consumers to reject this misinformation.

    gas taxes aren’t to blame for the record profits or record gas prices. it’s the oil companies. idiot.

  16. dbeahn says:

    @forever_knight: Nice to see that the art of debate is lost on you. Don’t mind the facts, and sure don’t bother with that “engineering” crap – YOU say refineries can be “expanded” just like that, and therefore it MUST be the case! And you add name calling on top of it.

    Of course, looking at your other comments in other threads, it becomes clear that you’re a bleeding heart, and a product of the public education system the liberals in this country have trashed. I’m sure Mis South Carolina made perfect sense to you with her famous answer – it was right on your level.

  17. killavanilla says:

    @Wormfather:
    This topic is so convoluted by the media and our elected representatives that the actual facts seem so unbelievable that the general public refuses to even look at it.
    Even a quick glance at the comments on this board reflects what some of us have known for a while:
    Most people:
    1) don’t understand how any business works, much less the over regulated and restricted oil companies
    2) don’t grasp basic concepts of economics, though the believe they do
    and
    3) hate big business in all its forms regardless of the common good these businesses are able to provide.
    That said, the numbers get even funnier when you take a step away from the emotional whining about the high price of gas and look at how it actually affects you.
    In 1997, the national average price per gallon of gas in August was $1.24
    In 2007, the national average gas price (august) this year is $2.89.
    My Honda Accord hold approximately 17 gallons of gas.
    Cost to fill my car at 1997 prices works out to $21.08
    Cost to fill my car at 2007 prices works out to $49.13
    Sounds like a lot, right?
    The price range for a 1997 accord was $15,100 to $25,100.
    The price range for a 2007 accord is $18,625 – $29,500
    The old car got EPA ratings of
    City: 19 MPG – 25 MPG
    Highway: 25 MPG – 32 MPG
    and the new model got epa of
    City: 20 MPG – 26 MPG
    Highway: 29 MPG – 34 MPG
    Prices went up. So did efficiency.
    The extra $28 a tank isn’t the end of the world. It’s even worse when it comes to insurance rates, which have basically doubled since 1997.
    Much ado about nothing.

  18. @dbeahn: So the problem is that we don’t have enough maps?

  19. LionelEHutz says:

    Hey folks, I have a nice bridge right over her that’s for sale…only slightly used too.

  20. forever_knight says:

    @dbeahn: oh yes, you can see into my being (by pouring over my consumerist posts, no less) and determine i’m a bleeding heart. and you? why you are a radical right-wing nut job, of the Larry Craig or Mark Foley type?

  21. timmus says:

    Uh, Ben, can we have another round of bans for bad behavior?

  22. Sudonum says:

    20 refineries closed in California since 1980.
    [www.energy.ca.gov]
    Environmental issues? Maybe. Excessive operating costs? Maybe.
    But wouldn’t it be easier to upgrade an existing refinery than to try to get permits to build a new one? And while this might not be possible for all 20, it certainly could have been an option for some of them. The Exxon/Mobile refinery in Torrance has been in operation since 1907. I imagine it’s been upgraded a few times since then.

    Just askin’.

  23. Buran says:

    Actually, there’s artificial raising of prices going on — stations keep prices high unfairly when the price of gas goes back down. And I have not heard of stations being prosecuted for it.

  24. DeeJayQueue says:

    You want to know why they charge so much for gas? Because they can. If gas were $8 a gallon we’d still pay it. We’d bitch and moan and complain all the way to the pump but we’d still buy the gas. Why? Because we need it. As cool as it is to own a Pri(tento)us or any other hybrid car, or as much as we’d like to live in the city to cut down on driving, most everyone that drives lives in the suburbs and the suburbs are more sprawled out than ever before. People out here drive 45-50 minutes each way to work like it’s no big deal. Try doing that same 20-30 mile ride on your fixie and see how great you smell when you get to work.

    It would be great to say “Oh well then get a job closer to home dummy!” but that’s not always an option. The job market isn’t great depending on your industry and sometimes you have to take what you can get in order to get by.

    So, what happens? We go and we pay the $3 a gallon because we don’t have a choice.

  25. killavanilla says:

    @Buran:
    Blatantly false statement, sorry to say.
    As a matter of fact, a while back the consumerist ran a story about a gas station owner who wanted to drop prices and was told by the parent company that he could not.
    Of all the groups possibly at fault here, the local gas station owner is the least realistic. They make between half a cent to 3 cents per gallon and rely on the sale of consumable goods (candy, soda, gum, etc.) to make a profit. That’s why so many gas stations have basic mechanics on site – it’s a profit center.
    Individual gas stations have very little say in terms of the price they can sell gas at.

  26. Trai_Dep says:

    The thing is, there WERE a lot more refineries before. Something like 12 refineries owned by roughly as many different companies. More competition, more efficiency, lower prices. Classic economics.

    Of course the big five oil companies couldn’t let THAT happen, so they ended up buying these independant companies, then closing the refineries, their PR flacks issuing soothing words about economies of scale and vertical integration and efficiencies.

    Now, refineries are the bottleneck regards gas prices. Sure the market has changed some (tired of breathing Beijing-thick smog clouds, some states audaciously demanded, “Stop poisoning us!”), but under the old scheme, it wouldn’t have been a problem.

    Now that the oil companies destroyed refinery capacity, they issue cloying statements suggesting that, if only evil localities allowed them to build refineries without any environmental impact reports, and if they got MASSIVE tax breaks, the problem would be solved. Probably gaffawing whenever they find that rubes are dumb enough to buy into this patently transparent poppycock.

    The clever part is that by structurally changing the refining business, they can rely on prices jumping without collusion. Even though every right-thinking person knows what’s going on.

    I love how the freepers leap into the breech parroting Big Oil’s pabulum, however. It amuses. In a head-shaking, pathetic way.

  27. killavanilla says:

    @Sudonum:
    Why did 20 refineries close in California? That’s the question to ask.
    My guess? Environmental restrictions, political pressure, and community pressure.
    It’s sort of like the oil rigs that oil companies wanted to put off shore Florida. The community didn’t want it because from the top floors of hotels, people could see it on the horizon.
    Environmentalists didn’t want it because it means more oil drilling.
    Politicians didn’t want it because their constituents didn’t want it.
    Good point. Refineries are constantly being updated as new technologies are updated.
    But some technologies require newer facilities (it can be more cost efficient to build a new facility than to retrofit an older one).

  28. Freedomboy says:

    So let’s say I sell processed grape juice OK? I buy the raw juice from Bob. I usually mark it up 55% to make my fair profit, so a single dollar of raw juice becomes $1.55 at my store, I own the juice stores too, ha ha, starting to get this?? So suddenly the raw juice price spikes to say 2 dollars a unit, like a gallon, my new price is 55% over that number to now be #3.10, I still make 55%.

    This is not what happened when oil “went up”, the amount of the INCREASE was way past the % amount that would be fair. After the raw price went up I still get a 55% benefit on the new price and should only raise my prices to reflect that change, not some new number way beyond.

    This can happen because the oil corporations work it out to make sure it happens this way and has been this way, in a lesser form, every summer holiday weekend since Kennedy, it was fraud then too. History will tell the tale when the collapse of this version of capitalism falls apart and no replacement is ready because we were all sucking an exhaust pipe and lovin’ it.

  29. Sudonum says:

    @killavanilla:
    I understand that it can be more cost effective to close a refinery rather than upgrade it. However, as I pointed out, since the Exxon/Mobil refinery in Torrance has been in operation since 1907 that obviously isn’t always the case. Obviously someone has done several cost-benefit analysis on that one and it has always come out a “winner”. Apparently environmental and other concerns took a back seat to expanding and upgrading it. And if you’ve ever been near that refinery it is right besides the 405 in a very heavily populated area of LA. I imagine that the city fathers of Torrance like the tax revenue it generates more than any concerns their constituents might bring up.

    I searched for it earlier but couldn’t find the news article where one of the major players closed a perfectly functioning, environmentally up to date refinery in central California in order to reduce refinery capacity to drive up prices. They even refused to sell the refinery to one of their rivals because they did not want to have that much refinery capacity available. IIRC this occurred earlier this decade.

    Personally I don’t care TOO much about gas prices as the area of the country I live in now depends on big oil for economic growth. No not Houston. But I find the oil company apologists just as funny as the conspiracy theorists.

  30. Sudonum says:

    @Sudonum:
    Oh, and everybody makes the same statement about a lack of refining capacity and the “fact” that it’s nearly impossible to get a refinery built in this country in this day and age. But does anyone have any statistics or reports they can link too that shows how many new refineries have been proposed but rejected for one reason or another? I’d be curious to see who was trying to build it why they were rejected.

  31. killavanilla says:

    @Freedomboy:
    Oh boy.
    That’s just nutty.
    Nothing you wrote made any sense past the whole intial phase.
    Let’s use juice.
    You buy grape juice from Dole. They charge you one dollar. You sell that juice for $1.55. If the juice Dole sells you jumps in price due to high demand and low supply and they now sell it to you for $2, you have a choice to make:
    1) continue to maintain your current markupof 55% and charge $3.10
    2) reduce your markup and earn less on your investment
    or 3) sell your product at a loss.
    Option 1 is what the oil companies did. Option 2 is a great way to destroy your business slowly. Option 3 is suicide.
    What the oil companies did was keep their low margin low even as demand and cost went up while supply was reduced.
    And the oil companies don’t time price increases in the summer, the GOVERNMENT forces oil companies to reformulate the gasoline based on region. The gas I get in Chicago is not the same formula you get in California during the summer months. This is due to government regulations based on environmental concerns. All this reformulation of gasoline costs money and soaks up refinery time, thusly restricting production.
    I get that you are having trouble understanding this, but stop making things up.
    Rather than speculate as to how much of an increase oil companies put in place in relation to cost, learn to read a P&L statement, of which every publicly held oil company has on their websites.

  32. killavanilla says:

    @Sudonum:
    First of all, who’s apologizing for oil companies? Certainly not me! But I don’t think it’s healthy to have people say oil companies are gouging when the investigations came up with nothing. It’s sort of like the conspiracy nuts who say Bush personally planned 9/11. Short on proof, long on guesswork.
    [www.csmonitor.com]
    “Partly because of environmental regulations, it was cheaper to expand existing refineries than to build new ones. In 1981, the US had 324 refineries with a total capacity of 18.6 million barrels per day, the Department of Energy reports. Today, there are just 132 oil refineries with a capacity of 16.8 million b.p.d.,”
    “But the furthest along is Arizona Clean Fuels Yuma, which aims to locate a high-tech oil refinery in the Arizona desert. The hurdles are high. The company is still lining up investors to pay the $2.5 billion price tag. It has to hire biologists to ensure the new plant will not hurt an endangered lizard. A local clean-air group is questioning the project. But if the plan is realized, it would be the first US refinery built since 1976.”
    [www.reuters.com]
    [www.slate.com]

  33. Sudonum says:

    @killavanilla:
    I apologize if I insinuated that you were “an oil company apologist”.
    Regarding the two articles you linked to.
    In the [www.reuters.com] article one quote pretty much says it all:
    “They also pointed out that oil companies have made record profits off high crude and gasoline prices, and did not need any government help to build refineries.”
    I am not generally in favor of welfare, be it corporate or individual.

    The [www.slate.com] article was pretty good and informative but I am disappointed that they didn’t comment on this any further:
    “This report from the California Energy Commission notes that even though 10 refineries representing 20 percent of the state’s refining capacity were closed between 1985 and 1995,…”

    Why did 20% of California’s refining capacity close in that time period when demand continued to rise? The issues we talked about previously? Or Big Oil conspiring to artificially reduce supply? You can see where some people might think that, right?

    I do think we need to find ways to make it less onerous to build and operate a refinery in this country. I know here in Louisiana we never met a refinery we didn’t like. But recent events have demonstrated the liabilities of building major infrastructure in coastal zones. However it’s ironic that the main thrust of the Slate article is that oil companies want to build in these coastal zones, but can’t because of the population density. So where would we put ‘em? Maybe each state ought to have refining capacity to meet their fuel consumption. Wouldn’t that be interesting?

  34. Sudonum says:

    @killavanilla:
    Sorry, I couldn’t link to the Christian Science Monitor article. The page wouldn’t load.

  35. PaulS says:

    Well, I don’t think it’s so much gouging, but the fact that these days, the market has a lot of “impatient capital”. So where 50 years ago, companies would be happy with a 10-figure initial investment somewhere, then making that back over 10 or 20 years when you build a refinery, now days companies and investors take an attitude of “if I can’t make 15-20% per year, forget it.”

    So there’s been essentially no new refineries built over the last 10 or 20 years, but of course demand increases.

    Now, that said, a couple of points:
    1) The price of gas in North America is still less than 1/2 that of Europe, Japan, or Hong Kong.

    2) the people I know that complain the loudest about gas prices are usually the people that could do the most to reduce their own consumption. Big cars, multiple cars per household, 20-mile commutes each way to work from the suburbs. It’s not like any of that is in the constitution or something.

    For example, my mother doesn’t want to give up her house outside the city, so she bought a vw golf diesel. It burns cleaner than gas, costs her 25-30 bucks to fill up, and she gets around 500-600 miles to a fill-up. She doesn’t complain at all about the price anymore.

  36. Buran says:

    @DeeJayQueue: Wow. Your “pri(tentio)us” comment shows a lot of just what’s wrong with our society today. People who try to make a difference get jeered at, not lauded for their efforts.

  37. Buran says:

    @PaulS: The higher price of gas in other countries is to fund things like health care and other programs that we pay for out of pocket. Same costs, different places.