There has been a lot of misinformation about gasoline prices in the lower mainland but few recent pieces have got the story quite as wrong as the Canadian Centre for Policy Alternatives‘ (CCPA) take by their economist Marc Lee. In the last week I have seen him in the Sun; all over Twitter; and even on the night-time news discussing his analysis. I have taken him to task on Twitter (which he has studiously ignored) but there is only so much you can say on Twitter so I wanted to put a bit more detail into a reply here at my blog.
To boil it down Mr. Lee argues that elevated gasoline prices in the Vancouver region are the result of “price gouging” by oil companies and that the solution to this problem is regulation. As I will show in this blog he is completely wrong on both points.
Let’s start with what we know about the BC refined fuel market from an article in Business in Vancouver
Provincially, B.C. lacks refining capacity. B.C.’s two refineries produce only 67,000 barrels per day (bpd) of gasoline and diesel, whereas B.C. consumed 192,000 bpd in 2015, according to the CFA [Canadian Fuels Association]. The Parkland Fuel Corp. refinery in Burnaby produces 55,000 bpd and supplies about 25% to 30% of Vancouver International Airport’s jet fuel supply. Alberta’s refineries supply about 100,000 bpd to B.C., and about 30,000 bpd is imported from Washington state refineries, according to the CFA.
The United States has broken their petroleum market up into five Petroleum Administration of Defense Districts (PADDs). The West Coast of the US, including California, Oregon and Washington, make up PADD 5. Geography defines PADD 5 as it is mostly bordered on the east by mountains. In fact the only (non-rail) major east-west connection on the west coast is the Trans Mountain pipeline. As the US Energy Information Administration (EIA) puts it:
Because PADD 5 is isolated, in-region refineries are the primary source of transportation fuels for PADD 5. In 2013, PADD 5 refinery production was sufficient to cover about 91% of in-region motor gasoline demand, 96% of jet demand, and 113% of distillate demand. Heavy reliance on in-region production further complicates the supply chain when disruptions occur. When disruptions occur, all of these factors noted above combine to limit short-term supply options, lengthen the duration of supply disruptions, and cause prices to increase and remain higher for a longer period than would be typical in markets outside PADD 5.
So we have a problem. BC is short 30,000 bpd in refined fuel supply and it relies on Washington State refineries which sell into a PADD 5 market that is also significantly short on supply. Even more problematically, most of the big refineries are owned by oil companies that have long-term contracts for most of their production. We can only buy our 30,000 bpd out of the left-overs and we are competing with Oregon and California (that are also under-supplied) for whatever the Washington refineries have to sell.
This represents a classic supply/demand problem. We have a limited supply and numerous, competing parties all providing demand. This is a formula for an increase in price. So no, our increased fuel prices are not the result of gouging, they are an example of a market working exactly the way it is described in the textbooks. In response to this type of signal the two choices to reduce price are to reduce demand or increase supply. The current Trans Mountain pipeline expansion project is intended to address the supply side of that ledger.
Now Mr. Lee’s argument is that the only way to address the “price gouging” is through regulation. The problem with his suggestion is that regulation only works when the government has control of at least one end of the supply/demand equation. The BC government controls neither.
This leaves Mr. Lee’s argument in a pickle. The BC government would have to set a regulated gasoline price. If it set the price too low the Washington refineries would simply sell their limited excess supply elsewhere. This would leave us dry. The government’s only choice, to ensure supply, would be to set the price at a level where we can compete with California and Oregon for the limited supply out there.
This leads to the major problem with a regulated gasoline price. Regulated markets don’t react quickly to price fluctuations. In this case the market would be locked in at a high price and the regulated market would not have the ability to fluctuate downwards to quickly address market drops. Thus regulation would guarantee that prices will remain high and we could not take advantage of short-term supply options to lower gas prices.
As presented, the CCPA’s arguments are simply hollow. The analysis presented by Mr. Lee, an economist, strangely ignores the supply and demand characteristics of the regional market and instead goes with “price-gouging”. An examination of that market demonstrates that a supply and demand analysis does a far better job of explaining our gas prices. Moreover, Mr. Lee’s suggestion to solve the problem (regulation) represents exactly the wrong approach to addressing our elevated gasoline prices as it would lock in high prices and not provide a means (or incentive) to lower those prices.
Before I finish I have two quick notes. During the 11 o’clock news Mr. Lee made the point to argue that the way we can tell supply is not an issue is that we have not seen empty gas stations. This comment actually made me laugh out loud. Apparently Mr. Lee completely forgets the dry stations in the interior in 2016. But that isn’t what made me laugh. What I found ridiculous was that in a story where Mr. Lee is complaining that we have been consistently massively overpaying for gasoline he simultaneously argues that we should be seeing empty gas stations. Those are two mutually exclusive statements. As an economist he must know that the only reason we would see dry pumps would be that we choose not to pay high prices. It is like Mr. Lee completely forgot that he was an economist. His argument runs counter to everything they teach in school.
My final quibble with Mr. Lee’s article is his pointing out that one proof of the gouging is that Parkland had “record profits”. Those record profits are simply a result of Parkland having grown significantly bigger. The quarter Mr. Lee cites (and is repeated on Global at 11) is the first one after Parkland essentially doubled in size. When you are twice as big it is likely that your total profit will be higher. This is not due to gouging but rather to simple mathematics.
“….the only reason we would see dry pumps would be that we choose not to pay high prices…” I don’t think you should try to best an economist on this concept, although I find Mr Lee’s logic faulty as well. There is a supply “equation” and a demand “equation”, both of which have a low price and a high price at opposite ends, and theoretically where they cross is the “market” price and production level. This is in the simplified world of an economics 201 class. In the real world, expectations, history, cost of production, greed, and fear play real parts for both the buyer and seller. So stations can be full of gas and the price low because of oversupply, or they can be full and the prices high in anticipation of a demand spike for the next long weekend. Or stations can be empty and the prices high because of expectation of inability to meet the demand in the near term, or empty and the price low because it’s not profitable enough for the station to refill their inventory due to low demand. Supply/demand curves only gently nudge shorter term factors in the right direction.
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