Monday, August 14, 2006

Congress thinks British Petroleum is stupid (or possibly that you are)

While MDF is on vacation, or at least out of town, I’m picking up the slack. Today’s extended rant topic: Congress, oil companies, and price-fixing schemes. Congress has announced an investigation (sr) into BP’s corroded Alaskan pipeline, suggesting that the shutdown might be part of a plan by BP to influence the market and drive up prices.

Obviously, I don’t want to argue that corporations don’t do ethically questionable things (I definitely don’t want to say that on this site). I just want to ask, why on earth would BP want to do this ethically questionable thing. We can all imagine why a monopoly would want to cut production — to increase prices. Doing that sort of thing is the whole point of having a monopoly (or a cartel, or a guild, or a union …). But why would a particular company want to do so unilaterally? I could see why, say, Exxon or Shell would be thrilled by BP cutting production — they would get to see just as much as before but at a higher price. But it sounds like BP would get screwed: they would take all the losses and reap few of the benefits. If oil companies are acting as a cartel, BP really needs to renegotiate.

And let’s imagine that oil companies did decide to cartelize and decrease production: when would they do it? Let’s talk basic price theory. Prices can be high for one of two reasons: demand is high or costs are high. If gas prices are high because oil demand is high, then a cartel is likely to be very unstable, as the incentive to cheat is very high (if demand is low, cheating doesn’t get you much extra revenue anyway, so you might as well adhere to the cartel’s agreement). So if worldwide demand for oil has driven up prices, then you’d think this would be the last time that oil companies would be cutting production, even if they wanted to cartelize.

On the other hand, if prices are very high because costs have gone up, then firms won’t make all that much extra from selling above the competitive price anyway. This makes intuitive sense: if costs have gone up, you’ll sell less; if you’re already selling less, you don’t have much production to cut back. Granted, you aren’t going to be making much money either way, so you’d make a proportionate amount of extra profit from cutting back production. However, if the expected cost of getting caught and brought up on price-fixing charges is constant, you’d be taking an equally big risk for a much smaller amount of profit.

In fact, the expected cost of getting caught is almost certainly not constant. When prices are high, it’s much harder to avoid public attention and federal oversight — so you’d be taking a much bigger risk for much smaller potential reward. So this would be the absolute worst time to try a harebrained** price-fixing scheme. They should have formed a cartel in 1999, when I was getting gas for 75 cents a gallon — no one would have noticed. Maybe they did — I surely wouldn’t know. But we can be certain they aren’t now; it just doesn't make much sense.

Which goes to yet another perverse Congressional incentive — why is Joe Barton leading the attack on BP? Texas congressmen don’t normally make a habit of criticizing oil companies. But gas prices are high and the public wants a scapegoat, so someone from Texas attacking an oil company makes sense, in a Nixon-goes-to-China way. Except more evil: putting effort into looking for price-fixing schemes only when oil supply is low and demand high is just plain perverse. As is adding to the public delusion that gas prices go up when oil companies are greedy, and that more responsible energy policies are unneeded.

Congressional incentives: they’re really the evilest.

** What would you call a price-fixing scheme that would depend on publicly announcing the manner of your output reduction in such a way as to garner bad publicity among your greatest detractors (environmental disaster) and supporters (investors who suddenly realize you’re incompetent) while making Congress less likely to give you a handout (ANWR) and more likely to investigate you?


William M. Razavi said...

Congress does think we're stupid and they have all the evidence they need to prove this. We elected these idiots. They know how stupid they are, and having been elected to positions of authority, they begin to assume that we must be bigger idiots to have put them in that position.

lizzy larceny said...

i thought wolfram & hart was the evilest

SmoothB said...

Wolfram & Hart is really, really evil, but come on. Mojo Jojo fights the Powerpuff Girls, and they could beat up David Borneanaz any day.

I suppose it's not actually true that voters are stupid -- merely rationally ignorant. From the perspective of a rational voter can't possibly know everything (as opposed to me -- I know everything) there's probably not a whole lot of upside to thinking about ... well, any of the above post.

lizzylarceny said...

but do the powerpuff girls have an evil hand? evil!