Thursday, May 24, 2007

Price Gouging?

Gasoline prices continue to rise. The MSM, bloggers, folks on the street are crying that its price gouging. Maybe to some degree it is.

But perhaps its also, good ole' capitalism. Maybe we're being charged what the market will bear? Maybe as Colbert argues, this is the path to Democracy?

Actually, like every other price increase we've seen, I believe its a convergence of factors.

I've talked before about demand destruction when supply and demand come into sync. I've been prattling on about it since 1999.

But just to refresh...

When demand is less than supply, prices remain stable or drop. Low prices encourage consumption and increase demand. When demand approaches supply, prices increase. When prices are high enough, those sectors of demand that are must vulnerable to high prices, ie: businesses, begin to cut back. They fire people. They declare bankruptcy. They disappear. Then when demand is below supply again, then prices drop.

Now economics teaches us that energy is a commodity, like sand. If you put twenty dollars worth of sand in your gasoline tank, then it will work like like twenty dollars worth of gasoline. Hrmmm, not exactly. The difference here is that energy is the lifeblood of industry. The quantity of energy available, determines how much industry you can have. It isn't really a commodity, it isn't 'substitutable'. So it can't be used in economic theory to replace sand. Well in theory, if you like garbage in and garbage out, sure, but when applied to the real world, it lacks predictive value.

Matt Simmons tells us that world oil production probably peaked about a year ago. He tells us that Gwahar is in decline, and going downhill fast.

So as the world tries to increase consumption, the price of oil and refined products keeps getting bid upwards. If you bid $3.00 and someone in China bids $3.50, is the resulting price gouging or the market working as designed?

For the US, its worse. The US Gov including the US Military consumes half of the fuel supplied to the USA. The US Gov can borrow infinite quantities of money to buy the fuel with. They decide how much they want to burn and bid the price up until they get it. Congress is spending now $456 billion in Iraq now. That buys a lot of fuel.

Now in a nation with a fixed or declining fuel supply, and the Gov increasing its consumption no matter the cost, what is the logical outcome? Well its a bidding war with private industry. And private industry doesn't have infinite quantities of money to out bid the government with, so it must do with less.

Can you pay $50 for a gallon of gasoline? The US Government can. They'll borrow all the money they need to buy it, then bill us for it.

The public think price gouging is the culprit. I expect soon we'll hear that Iran is at fault too. Soon the war drums will beat to attack Iran. The US Government will then need not 50% of our fuel, but 75%. Gasoline at $10/gal will be close behind.

This is the sacrifice we make in times of war.

Once demand drops, gasoline prices will drop too, but will settle to higher level than the last low. This is because there are more dollars in the world.

At the pump, we're bidding against entities with infinitely deep pockets. We can't win.


At 7:01 PM, Blogger Mort said...

I don't mind higher prices. The problem is that they fluctuate down whenever people try to use alternatives, driving the alternatives OOB. People who want to drive 100 miles per day should be prepared to pay higher prices. At least that way they won't spend it on useless crap from China.


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