No, Mandates Are Still Not Pro-Market

by Brian McGraw on March 2, 2012

in Blog

The title of an op-ed published in The Wall Street Journal claims: “A Flex-Fuel Mandate Is Pro-Market.” The ethanol industry has made this argument time and time again, that somehow forcing private corporations to adjust their products in a way that will pad the wallets of certain energy sectors is somehow pro-market. Unsurprisingly, his argument relies on the notion that OPEC controls significant portions of oil output, so thus, the U.S. government ought to intervene to level the playing field:

The price of oil is set by a foreign cartel. The Organization of Petroleum Exporting Countries (OPEC) owns almost 80% of global oil reserves yet produces only 36% of daily global supply. This dominant position enables OPEC to raise or lower their production to maintain the global supply-demand relationship that suits their interest. If U.S. oil companies produce more, OPEC will produce less.

Let’s open our market to good old American competition. Friedrich Hayek and Milton Friedman stressed that the foremost economic duty of government is to eliminate cartel pricing. Bills are now pending in both houses of the Congress (HR 1687 and S1603) that seek to do exactly that by requiring car makers to enable fuel competition in their own product lines—adding flex-fuel, all electric, hybrid electric, or any other way auto makers choose to implement the law.

Again, cartel pricing implies that consumers are getting hosed because the cartel has an absolute monopoly over the provision of a good where there are no substitutes. This is a clear example of where this logic does not apply, because as the op-ed notes, there are plenty of alternatives to oil that vehicles can run on but they are not cost competitive.

Furthermore, a monopoly tends to imply that the price is set higher than it would be in a competitive marketplace. A higher price of oil makes the alternative fuels more competitive, so it can’t really be used as an argument to imply cost savings (or silly fears of sending money overseas) from new fuel sources, as they’re almost certainly still more expensive.

 

 

Howard Holme March 8, 2012 at 5:51 pm

Monopoly pricing power exists far before the OPEC “cartel has an absolute monopoly over the provision of a good where there are no substitutes.” The Oak Ridge National Laboratory study, “Costs of U.S. Oil Dependence: 2005 Update,” following up studies back at least to 1991, found “Reckoned in terms of present value using a discount rate of 4.5%, the costs of U.S. oil dependence since 1970 are $8 trillion, with a reasonable range of uncertainty of $5 to $13 trillion.” http://cta.ornl.gov/cta/Publications/Reports/CostsofUSOilDependence.pdf

The 2010 update found “The most recent study using this model shows that the U.S. economy suffered the greatest losses in 2008 when wealth transfer and GDP losses (combined) amounted to approximately half a trillion dollars.” http://www1.eere.energy.gov/vehiclesandfuels/facts/m/2010_fotw632.html

You say, “there are plenty of alternatives to oil that vehicles can run on but they are not cost competitive.” However, contrary to your additional statement, oil does have a “monopoly over the provision of a good where there are no substitutes.” MIT’s comprehensive report on The Future of Natural Gas, at P., 99, shows that 93.9% of transportation is fueled by petroleum, and only 2.9% by natural gas. http://web.mit.edu/mitei/research/studies/documents/natural-gas-2011/NaturalGas_Chapter5_Demand.pdf

Also, as the MIT study finds at P. 126:
“With deployment of plants using current technology, on an energy-equivalent basis, methanol could be produced from U.S. natural gas at a lower cost than gasoline at current oil prices.”

Brian McGraw March 13, 2012 at 9:03 am

Howard,

I should have used the phrase “natural monopoly,” as I do not believe there are any structural or permanence to oil’s dominance of the transportation fuels market. As you note, its possible to produce ethanol/methanol/electric vehicles/etc., but they aren’t cost competitive.

Again, if there were a monopoly in oil production, this would imply higher than average prices, which would benefit fuels like methanol which compete with oil.

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