Wednesday, August 17, 2005

Nobody can afford "high-priced" gasoline?

Capital Freedom isn't worried about high gas prices. Nor should you be. I agree with her "irrational fear" explanation of the recent price spikes, and the conclusion that crude prices will keep retreating from these record highs (which are not record highs when adjusted for inflation). There are too many speculators caught up in the hysteria.

During a WABC 770 hourly newsbreak on Tuesday afternoon, one item had a couple of audio soundbites about the new "record high" in gasoline prices. A trucker said he had to pay $500 (at $2.50 per gallon) for his last fillup, which seems like a lot until you hear that his rig has a 200-gallon fuel tank. Another complained, "Nobody can afford this."

Is that so? If nobody can afford gasoline at these prices, then how can gas stations charge as much as they are? That's because people can still afford it. Not as easily, of course, and some people are cutting back on their gasoline consumption. Still, they can afford gasoline at these prices. A successful sale requires that the buyer is willing to pay and is capable of paying what the seller asks. If the buyer is not both willing and capable, the seller must ask less.

Now, adjusting for inflation, gasoline prices would have to average over $3 per gallon to reach a true record high. Take a look at this entry in Don Luskin's blog, which has a nice little chart illustrating the inflation-adjusted price of gasoline. Granted the chart hasn't been updated for over a year, but its data remains valid, and gasoline is still not at a true record high.

The next day, Don released his then-latest Smartmoney.com column, explaining several misconceptions about higher oil prices. Again, it's over a year old, but every one of his points remains true. Chief among them is how prices really work: "When prices rise, buyers try to buy less. Sellers try to sell more. And what do you know -- as a result of both those things, pretty soon the price starts to fall. No, it's not magic. It's basic economics. It works every time."

I've before touched on Ludwig von Mises' explanation of what the price system really does: not only does it promote equilibrium when prices are high, it allocates resources to those who value them the most. Obviously the trucker filling up his rig felt that it was worth $500 (actually slightly more), otherwise he wouldn't have done it. Meanwhile, I might cut back on my leisure driving because of higher gasoline prices, and that's perfectly fine. It means that petroleum has become more scarce, and the trucker values it more than I do. He will use it for a more productive endeavor than I will, which seems logical, but how can we determine that? No person should ever have the power to decide which activities are worth more than others, so instead we have the price system. As Mises said, it is how we can make rational economic decisions.

I've dubbed the oil fearmongers, the ones who say we're running out of oil, "Malthus' philosophical descendants." Malthus predicted a calamity because of geometric population growth with linear agricultural growth (a grievious miscalculation on the level of Paul Krugman saying the Internet will have had no more economic effect than the fax machine). Similarly, Malthus' modern-day disciples fear the demand for oil will outstrip the supply. The nature of prices shows us this is untrue, and high prices encourage production for two reasons. Even China is investing in Albertan tar-sands operations, looking for cheaper sources of oil. At the same time, OPEC can't let prices get too high lest people begin switching to alternate energy sources, so it is investing heavily in discovering new reserves. Saudi Arabia and a few OPEC nations are already above their crude oil production quotas, so it's not as easy as asking them to increase production.

On the domestic front, starting to drill in ANWR will help. The purpose isn't to achieve energy independence, but to drive down the price of crude. Besides, "energy independence" is wholly undesirable if it will cost us more than using foreign oil. It's the same principle as any other type of trade. It's illogical for us to seek "textile independence," "sugar independence" and "electronics independence," because we'd spend more to produce those things ourselves, depressing our standard of living. Why should it be different with oil?

The price mechanism is a marvelous thing. Had we let it work, instead of keeping gasoline "affordable" and in limited quantities, we could have saved ourselves the disasters of World War II rationing and 1970s wage-price controls. Prices are a natural, eminently fair way of distributing resources around the economy, instead of a central-planning state that determines how much you "should need."

4 Comments:

Blogger TKC said...

Of course all the oil in the world won't matter if we don't increase our refining capacity. Ya know, like we haven't done in the past 20 years or so while demand has continued to rise.

Wednesday, August 17, 2005 6:39:00 PM  
Blogger Perry Eidelbus said...

Yes indeed. One thing that would help is reducing all the government regulations on refineries.

The oil companies would like nothing more than to build them and expand their base. "Big oil" wants high oil prices no more than OPEC, for the same reason that high prices encourage people to look for substitutes.

Wednesday, August 17, 2005 10:06:00 PM  
Blogger Quincy said...

In addition to increasing refinery capacity, we need to go back to a nation-wide gas market. You combine limited capacity with the need to balance 20+ different blends of gasoline and it makes a big difference in gas prices, regardless of the price of oil. (California has been going through this for over a decade. Every time someone sneezes at a refinery the price of gas jumps 20 cents.)

Thursday, August 18, 2005 2:49:00 AM  
Anonymous Steve said...

has anyone done a $/mi calculation for the average sedan over time to see what we're actually paying to drive?

Thursday, August 18, 2005 6:47:00 PM  

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