FTC Releases Report on Gasoline Price Changes: the Dynamic of Supply, Demand, and Competition

The Federal Trade Commission today issued a report entitled “Gasoline Price Changes: The Dynamic of Supply, Demand, and Competition.” The Report analyzes the many factors that influence fluctuations in the prices that U.S. consumers pay for gasoline at their local gas station. It examines a wide range of gasoline price factors – including the cost of crude oil, increasing national and international demand, and federal, state, and local regulations – all of which influence the prices consumers pay at the pump. One of the Report’s conclusions is that over the past 20 years, changes in the price of crude oil have led to 85 percent of the changes in the retail price of gasoline in the U.S., while other important factors have included increasing demand, supply restrictions, and federal, state, and local regulations such as “clean fuel” requirements and taxes.

“U.S. consumers are frustrated by rising gasoline prices, and they deserve to know the facts. Further, only through a hard look at the facts can officials make what likely are tough decisions and devise meaningful responses to important consumer issues,” said Chairman Deborah Platt Majoras. “The Federal Trade Commission will continue to watch closely for signs of anticompetitive or fraudulent conduct in the petroleum industry, and will take swift action against any law violation.”

A Case Study Example

The Report begins with a case study that illustrates several important points regarding gasoline price spikes on the regional level. As a useful example, the FTC staff focused on retail gasoline prices in Phoenix, Arizona, during August 2003. Phoenix gasoline prices were $1.52 per gallon at the beginning of August 2003, but rose to $2.11 per gallon by the third week of the
month. A pipeline rupture that occurred on July 20, 2003, and the failure of temporary repairs led to reduced gasoline supplies in the Phoenix area. The reduced supplies caused the price increases. Once these disruptions were corrected, prices quickly returned to their original levels.

The Phoenix example provides three basic lessons regarding the supply of and demand for gasoline and the prices that consumers pay. First, in general, the price of gasoline reflects producers’ costs and consumers’ willingness to pay. Gasoline prices rise if it costs more to produce and supply gasoline, or if people wish to buy more gasoline at the current price. Gasoline prices fall if it costs less to produce and supply gasoline, or if people wish to buy less gasoline at the current price.

Second, how consumers respond to price changes will affect how high prices rise and how far they fall. Limited substitutes for gasoline restrict the options available to consumers to respond to price increases. Consumers can change their driving habits, walk, ride a bike, take the bus or the subway, or eventually buy more efficient vehicles, but these are difficult choices.

Third, how producers respond to price changes will affect how much prices rise or fall. In general, when there is not enough of a product to meet consumers’ demands at current prices, higher prices will signal a potential profit opportunity and may bring additional supply into the market. Phoenix is a good illustration of these principles – principles that also apply to the nation as a whole.

Main Commission Findings

The FTC’s Report furnishes detailed information about the factors that lead to gasoline price spikes and other price changes. It also provides general conclusions about the larger factors that result in such changes, including the following:

• Worldwide supply, demand, and competition for crude oil are the most important factors in the national average price of gasoline in the United States. Over the past 20 years, changes in crude oil prices have explained 85 percent of the changes in the prices of gasoline nationwide. Since 1973, according to the Report, production decisions by OPEC have been a significant factor in the prices that refiners pay for crude oil. The demand for crude oil has grown significantly over the past two decades, as well, leading to higher prices at the pump.
   
• Gasoline supply, demand, and competition produced relatively low and stable average real U.S. gasoline prices from 1984 until 2004, despite substantial increases in U.S. gasoline consumption. The Report indicates that U.S. consumer demand for gasoline has risen substantially, especially since 1990. Since 1984, increased gasoline supplies from U.S. refineries and imports helped meet increasing demand and kept gasoline prices relatively steady. For most of the past 20 years, real average retail gasoline prices in the United States, including taxes, have been at their lowest levels since 1919, with U.S. refiners adopting more efficient technologies and business strategies that have allowed them to produce more refined product for each barrel of crude they process. And despite a somewhat different trend in the last few years – with the average U.S. retail price for a gallon of gasoline increasing from $1.56 in 2003 to $2.04 in the first five months of 2005 – it is difficult, if not impossible, to predict whether this sharper rate of increase represents the beginning of a longer-term trend.
   
• Regional differences in access to gasoline supplies and environmental requirements for gasoline affect average retail prices and the variability of regional prices. Different regions of the country differ in their access to gasoline supplies, and these differences affect gasoline prices. Gasoline prices on the East Coast, in the Midwest, and in the Rocky Mountain states are significantly more variable than Gulf Coast gasoline prices, due to the availability of excess refining capacity along the Gulf Coast. In addition, regional environmental requirements for “boutique” fuels, such as CARB gasoline requirements in California, can limit substitute gasoline supplies and can thus lead to cost increases during supply shortages.

Other Findings

The Report also examines state and local factors that can affect retail gasoline prices. It notes that, all other things being equal, retail prices are likely to be lower when consumers can choose among a greater number of gas stations and switch purchases among these stations. The study also discusses how the format of retail gas stations has changed over the past 30 years from primarily service bays to convenience stores and high-volume gas stations. The growth of high-volume “hypermarkets,” the Commission says, has led to lower gasoline prices for consumers.

The Report discusses how state and local taxes can be significant factors in the retail price of gasoline. The average state sales tax in the U.S. is 22.5 cents per gallon, with New York State having the highest tax at 33.4 cents per gallon. Other state laws, such as bans on self-service stations and laws prohibiting below-cost sales or requiring minium mark-ups, also affect gasoline prices.

Background

Over the past 30 years, the FTC has investigated nearly all petroleum-related antitrust matters and has held public hearings, undertaken empirical economic studies, and prepared extensive reports on relevant issues. Since 2002, the staff of the FTC has monitored weekly average retail gasoline and diesel prices in 360 cities nationwide to search for pricing anomalies that might indicate anticompetitive conduct and to take action where appropriate. This is the only industry in which the FTC maintains such a price monitoring project. Moreover, in 2004, the FTC staff published a study reviewing the petroleum industry’s mergers and structural changes as well as the antitrust enforcement actions the agency has taken.

The vote to release the Report, which is available on the FTC’s Web site, was 5-0, with Commissioner Jon Leibowitz issuing a separate statement.

Copies of “Gasoline Price Changes: The Dynamic Of Supply, Demand, and Competition” are available from the FTC’s Web site at http://www.ftc.gov and also from the FTC’s Consumer Response Center, Room 130, 600 Pennsylvania Avenue, N.W., Washington, D.C. 20580.

(FTC File No. P052103)